Stratfor 2017: Fourth-Quarter Forecast

Published on EGF: 02.10.2017

An emerging nuclear crisis on the Korean Peninsula will rise to the top of the United States' agenda this quarter, reducing the priority of less pressing issues as Washington works furiously to avoid -- and prepare for -- the worst.

 

Overview

Homing in on North Korea: An emerging nuclear crisis on the Korean Peninsula will rise to the top of the United States' agenda this quarter, reducing the priority of less pressing issues as Washington works furiously to avoid — and prepare for — the worst. Thoroughly distracted, the United States will have little time and few resources to spend on other foreign policy matters, including its nuclear deal with Iran. Though Washington will try to counter Tehran's regional power grabs where it can, it will not risk triggering another diplomatic meltdown by abandoning the agreement. The White House will similarly shelve the most aggressive moves in its protectionist trade agenda until next year.

The Debate Over Europe's Future Begins: Europe, for its part, will turn its attention inward to wrestle with weighty questions about its future. But discussions of reform will be fraught with thorny issues that lay bare the fundamental differences among European Union members. As France lobbies to more closely knit together the Continent's core, Central and Eastern European countries will be torn between their desire for the security and financial perks that deeper integration could bring and their determination to keep institutions in Brussels at arm's length. All the while, the bloc's leader, Germany, will be preoccupied with the task of cobbling together a ruling coalition after September elections produced a divided parliament, forcing parties to enter into complex negotiations in hopes of forming a government.

Pragmatic Cooperation Masks Deeper Competition in the Middle East: As U.S. pressure gradually builds against Iran, the government in Tehran will try to relieve it somewhat by easing tension with its regional rivals, Turkey and Saudi Arabia. At least, that is, on the surface. Though Iran will find common ground with each country in places such as Iraq and Syria, its pragmatic cooperation will remain just that — pragmatism — as its long-standing feuds persist beneath the surface in proxy battles scattered across the Middle East. But Iran is not the only external power involved in these conflicts, and as common enemies like the Islamic State are beaten back, the risk of clashes breaking out between the partners of the United States and Russia will only increase, potentially pulling their larger patrons deeper into the fray.

In a Volatile Region, Japan and China Seek Stability at Home: Though North Korea will pose the greatest security threat to the Asia-Pacific this quarter, leaders in China and Japan will have other problems on their minds. The Chinese Communist Party is gearing up for a crucial congress in October, where President Xi Jinping will take the opportunity to further concentrate power among a circle of trusted allies. In much the same way, Japanese Prime Minister Shinzo Abe will work to shore up his support base during snap elections in October with an eye toward his party's leadership contest next year. 

India Finds the Enemies of Its Enemy: The tense standoff between India and China on the Doklam Plateau has ended, but it exposed the neighbors' age-old dispute over much of the mountainous border separating them. As India races to expand its infrastructure in the region in case tensions flare again, it will also reach out to Japan and the United States to deepen its defense relationships in hopes of countering the rising power looming on its doorstep.

 

Global Trends

In today's world, nations are becoming increasingly interconnected by air, land, sea and cyberspace. As globalization has knitted countries and continents closer together, the borders of the map and the barriers of geography have been rendered, in some ways, obsolete. Now events in one region can more easily have consequences in another, at times even rippling across the globe. We explore those with the greatest impact on international decision-making during the forecast period below.

The United States will head into the last quarter of the year facing one of the greatest direct nuclear threats to the American mainland since the Cuban missile crisis.

 

Section Highlights

North Korea's nuclear ambitions will occupy most of the United States' attention as Washington searches for ways to halt the progress of Pyongyang's weapons program, even as China and Russia continue to subtly prop up their belligerent neighbor.

Distracted by North Korea, the United States will not be willing to create another headache for itself by withdrawing from its nuclear deal with Iran. Russia, meanwhile, will deepen its involvement in several conflicts around the world to strengthen its own bargaining position in talks with the United States.

The White House will keep putting its trade policies into practice in the fourth quarter, but despite its tough talk in the opening phase of NAFTA negotiations, the United States will have a hard time persuading Mexico and Canada to meet its steep demands.

Across the Atlantic, Europe will turn to the difficult task of reforming institutions within the European Union and eurozone now that national elections in France and Germany have wrapped up.

Though the world's oil inventories have declined, they haven't fallen quickly enough to suit the organizers of a pact among oil producers to slash output, signaling the group's likely intent to extend the quota beyond March 2018.

 

The Start of a Dangerous Race

The United States will head into the last quarter of the year facing one of the greatest direct nuclear threats to the American mainland since the Cuban missile crisis. Over the past three months, North Korea has stepped up its nuclear and ballistic missile tests, leading U.S. intelligence officials to conclude that Pyongyang will obtain a reliable intercontinental ballistic missile (ICBM) capable of carrying a nuclear warhead before next year is out. 

Washington will race against the clock to find ways to stall North Korea's progress and bring it back to the negotiating table. The United States will likely try to court the support of Russia and China in this endeavor as it doubles down on employing diplomatic and financial pressure to dissuade further weapons tests by Pyongyang. But getting their help will not be easy. Even if the United States casts a wider sanctions net to include Russian and Chinese firms that trade with or provide financial services to North Korea, it will not weaken either country's determination to protect the stability of the government in Pyongyang while advocating a policy of engagement rather than isolation.

 

But therein lies the problem

Dialogue between North Korea and the United States presents somewhat of a Gordian knot. Pyongyang will agree to talk with Washington only as an equal, and it will not curb its weapons development to do so. Pyongyang is also willing to accept the risk of further sanctions, confident that its troop presence on the Korean Peninsula and its burgeoning nuclear capabilities would preclude any military action against it. Washington, on the other hand, has demanded that Pyongyang freeze its nuclear weapons tests before talks can begin. Washington also views coercion as the most effective method of blocking Pyongyang's continued weapons development. Because the two adversaries' positions are incompatible, their dispute will doubtless escalate in the coming quarter.

As North Korea continues to conduct weapons tests, the risk of U.S. military action against it will rise. Though the United States could launch a limited strike against North Korea with the assets it currently has near the peninsula, Washington is far more likely to gradually build up its military presence in the region throughout the quarter, giving diplomatic overtures and sanctions a chance to take effect. And though an accident or close call during a North Korean missile launch may force the United States or its allies to shoot down the device, they will not make the decision to initiate a more serious military intervention before the end of the year.

 

The Side Effects of U.S. Tunnel Vision 

A continent away, Russia is gaining ground in yet another regional conflict: the Syrian civil war. Loyalist forces, backed by Russia and Iran, broke the Islamic State's grueling siege against Deir el-Zour in September. Now those troops will be free to push toward the Iraqi border even faster. As they do, the United States will have to maintain contact with Russia to prevent the outbreak of clashes between their battlefield proxies.

Closer to home, Washington will have to come to grips with Moscow's presence in a third unstable environment. Venezuela is inching closer and closer to a financial default, and Russia (along with China) is one of the last allies the foundering country has left. Caracas has even asked Moscow to restructure Venezuelan debt as U.S. sanctions weigh heavily on its finances.

 

As Western Protectionism Surges, the World Adjusts

The return of protectionism will continue to manifest in trade, investment and technology relationships across the globe through the end of the year. As has been true for most of 2017, the United States will lead the charge, particularly with the renegotiation of NAFTA underway. In fact, Washington has already put forth plans outlining the ways in which bilateral trade deals should be implemented instead. It has also called for the introduction of a U.S. content requirement in certain sectors, stipulating that foreign goods must contain a given share of parts produced in the United States in order to qualify for reduced tariffs. Washington has even gone so far as to suggest an automatic sunset clause that would terminate NAFTA under certain circumstances. 

Both proposals have drawn criticism from Canada and Mexico, but they also have signaled Trump's determination to significantly revise the North American pact. Despite adopting an aggressive opening stance in the talks, however, the United States will not abandon NAFTA. Instead, the three partners will eventually reach an agreement, albeit beyond the fourth quarter's end.

Over the past few months, the United States has shifted more attention toward its trade complaints with China and South Korea. As a result, disputes between Washington and both Asian nations will become more heated in the months ahead. U.S. investigations into China's technology transfer requirements and other practices related to intellectual property could lay the groundwork for sweeping action against China, including broad tariffs. However, such moves likely won’t come until next year.

The United States may not wait that long to clarify its intention to pursue a case against China through the World Trade Organization (WTO). If U.S. investigators discover that Chinese tactics are inconsistent with the bloc's rules, Washington will be compelled by both its WTO obligations and U.S. law to bring the disagreement to the organization before unilaterally imposing other punitive trade measures. On the other hand, if China's activities are found to hurt American companies in ways that are not addressed by WTO regulation, the United States will be able to more swiftly respond as it sees fit. 

The United States is not the only party concerned about Beijing's strategy for acquiring Western technology, either. In September, the European Commission called for the Continent to establish more mechanisms for scrutinizing investment into strategic sectors from companies backed by states outside the European Union — a move clearly aimed at Chinese money. Italy, France and Germany have each supported this sentiment as well, fearing that the Chinese government may be using the resources of the state to encourage takeovers of European companies to "buy" the core technologies and know-how that underpin the world's modern economies. As usual, France will lead the protectionist charge within the European Union in the months ahead. But Paris' proposals will create controversy among market-oriented countries, such as Denmark, and Eastern European states, which will view with suspicion any undertaking that could rob them of Chinese investment opportunities or increase Brussels' control over their economies. 

These differences of opinion, along with many others, will be on full display this quarter as Europe tackles the task of reforming the union. Now that critical elections in France and Germany have concluded, the bloc will weigh proposals to create a European Monetary Fund, boost public investment across the Continent and introduce risk-sharing measures in the eurozone. Though Berlin is willing to find common ground with Paris, Germany will spend the remainder of the year building a governing coalition at home. Even so, the debate over Europe's future that will become a defining feature of 2018 will kick off within the next three months.

Amid the resurgence of economic nationalism in the United States and parts of Europe, the rest of the world will scramble to adjust its expectations and strategies. The 11 members left standing in the Trans-Pacific Partnership will continue to hash out a pact without the United States, but there is no guarantee that they will find compromise. The group's large, developed members — Japan, Australia and Canada — are certainly eager to sign a deal, but their less-developed counterparts may demand enough concessions to precipitate the negotiations' collapse. The incipient bloc's best chance for success, then, lies in its speed, suggesting that talks could progress quickly before the year's end.

With the WTO's biennial ministerial meeting set to take place in December, countries will likely spend the months leading up to it lobbying for their pet projects. The bloc will also hold an unprecedented "mini-ministerial" meeting in October to try to firm up an agenda for the full summit in Buenos Aires. But this year's convention may not be as fruitful as some states had hoped. In light of dissent from the United States, India and South Africa earlier this year, China and Germany's hopes of reaching a comprehensive agreement on the facilitation of investment have been dashed, as has any chance of a deal to restrict agricultural subsidies. Even so, some progress on issues such as e-commerce, public stock holdings and fisheries subsidies cannot be ruled out.

 

A Crude Awakening 

Meanwhile, the world's oil stockpiles are declining, but not quickly enough for global producers' liking. In the United States, one of the most closely watched markets in the industry, crude oil inventories totaled 471 million barrels (about 24 percent higher than the five-year average) as of Sept. 22. Such gluts will spur the strongest advocates of production cuts — Saudi Arabia, Russia and Venezuela — to redouble their efforts to extend the quotas among OPEC members and non-OPEC states beyond March 2018. At the same time, they will ratchet up pressure on exempted OPEC members Libya and Nigeria, which have increased their collective output by 622,000 barrels per day since the fourth quarter of 2016, to join the pact. However, these states are unlikely to sign on. And if the cuts are extended, it won't be long before compliance among existing signatories starts to weaken.

 

Oil Production Cuts Offset by Production Increases 

The United States, for its part, continues to see its output climb. But by the end of June, U.S. crude production reached a little under 9.1 million bpd — just 27,000 bpd higher than its February total. This suggests that the recent growth in U.S. output is not as resilient as industry experts initially expected. And though the country's production will keep rising slowly throughout the quarter, it will not be cause for debate and contention among the global producers trying to counter the persistent oversupply in the oil market.

 

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