Second Quarter 2010

Eurasia Group Global Trends Quarterly

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Executive Summary
In collaboration with PricewaterhouseCoopers, Eurasia Group is monitoring and assessing major trends shaping the global business environment. This document summarizes the findings of three white papers. The extraordinary breadth and depth of the current worldwide economic turmoil and its gradual stabilization create new uncertainties in international and local political environments. Now, more than ever, it is crucial to understand emerging global trends.

Trade Brazil Energy

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Second Quarter 2010

Trade: Greater Risks in 2010

Key points
In 2009, the global economic crisis spurred fears of trade falling victim to rampant protectionism, but so far these fears have not been realized. Global trade contracted dramatically during 2009, but this was almost entirely due to declines in economic activity, not protectionist policies. While many governments instigated product- or country-specific trade investigations in 2009, these measures affected only a small percentage of world trade and most were valid actions within the WTO framework. Counterintuitively, the risk of protectionism is actually higher in 2010 than it was in 2009, even though global economic growth is expected to improve. The key factor that will determine the direction of global trade in 2010 will be how the demands of powerful stakeholders filter through the domestic politics of key countries. While most countries will remain fundamentally committed to trade openness, policymaking in several important countries will be influenced by the lingering effects of the crisis, including persistent unemployment, which may increase populist and labor pressure on governments for protectionism. Nationalist sentiments may prompt some countries, such as China, to maintain or impose import tariffs and export subsidies. Additionally, some governments may seek to promote their exports by depressing the value of their currency through direct intervention or by imposing capital controls.

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Business imperatives
States may favor domestic over foreign production: Even if individual governments avoid outright protectionism, there is a real chance that they implement policies that favor domestic production in order to provide assistance to domestic industries and labor. Such policies could include local content requirements for government procurement, direct assistance to struggling firms or industries, or tax incentives supporting domestic employment or production. Multinationals with production operations in several countries could boost their domestic credentials through public relations campaigns in order to benefit from such policies. Alternatively, countries may also face mounting pressure to withdraw support for ailing companies, such as automakers, from domestic or foreign competitors. Corporations receiving such aid should monitor public opinion in order to avoid any surprise changes in policy.

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Key trade policies

Trend Global Brazil China EU India Japan Static

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Major trade initiatives Risk of bilateral trade spats; mulitialteral agenda stalled; various bilateral and regional trade agreements will progress With multilateral agenda frozen, increasingly seeking strategic partnerships Economic Cooperation Framework Agreement (ECFA) with Taiwan; expand trade with Africa; push for use of RMB for trade settlement

Moderate liberalization Static Static

Slight liberalization Slight liberalization

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Climate change trade initiatives and standards; ratification of EU-Korea agreement; begin EU-ASEAN negotiation Pursuing bilateral deals (ASEAN, China, EU); deregulation in agricultural sector; some protection in manufacturing sector Bilateral and regional economic partnership agreements (EPAs) Limited trade policy agenda; vague commitment but no leadership on Transpacific Partnership and Doha round; little movement on FTAs; trade enforcement measures

US

Moderate protection

Source: Eurasia Group

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Second Quarter 2010

Brazil: Statism clouds positive outlook

Key points
Brazil will hold general elections in October 2010, but the countrys stability and growth outlook is not really at risk given the broad political consensus on responsible macroeconomic policies. Though the risk of a shift in macroeconomic policy is low, Brazils improved economic outlook will allow the government to take more risks on fiscal policy and pursue more activist industrial policy, particularly if the current governments preferred candidate wins. The presidential election is likely to be a tight contest between President Luiz Inacio Lula da Silvas chosen candidate, presidential chief of staff Dilma Rousseff, and the governor of Sao Paulo state, Jose Serra. Rousseff is favored to win due to the strong popular sentiment in favor of continuity. Rousseff would pursue industrial policies to promote local employment more aggressively in some strategic sectors, such as oil and gas, utilities, and telecommunications, than would Serra. She would also probably rely more heavily on state-owned companies to achieve policy goals. Given the positive outlook for the country, companies should position themselves for significant economic growth in coming years. They should, however, also prepare for more statist policies in some sectors, while also looking closely at differences in policy drivers for specific sectors, given that they could vary significantly.

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Business imperatives
Looking closely at policy drivers in each sector is critical: The drivers and levels of state intervention will vary significantly among sectors. In the oil and gas sector, for example, industrial policy is important and reflects the governments desire to ensure Petrobras has a dominant role in all new pre-salt projects. In telecommunications, the government seems to view a staterun network as a way to enhance competition among private companies and to expand services to less attractive areas. In infrastructure, the government will make significant overtures to attract private investment and remove bottlenecks for growth, no matter who wins.

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Developing good working relations with state-run companies: More state-centric policies bring some risks for private investors, but also opportunities. The best example is probably the promising oil and gas sector. Government policy could limit opportunities in oil exploration and production to partnering with Petrobras. Nevertheless, there is a large potential upside for equipment suppliers with facilities in Brazil, given the governments focus on local suppliers. Still, they would also effectively have to sell to Petrobras. As a result, developing good working relations with Petrobras could be effective.

Rousseffs growing popularity

40 35 30 25 Percent 20 15 10 5 0 Sep 09
Source: IBOPE

Jose Serra (PSDB) Dilma Rousseff (PT)

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Ciro Gomes (PSB) Marina Silva (PV) Nov 09 Feb 10 Mar 10

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glob Energy: Climate change and transportation fuels

Key points
The transportation sectoralong with the refining sector that provides it with fuelis uniquely exposed to crosscutting policy and market forces related to climate change and energy security trends. Both transport and refining are less flexible than other industries and as a consequence, policies focused on environmental and energy security such as those that boost biofuel production, increase energy efficiency, and implement carbon prices will create economic challenges. A comprehensive climate change policy cannot ignore the transportation sector, which accounts for about 30% of total US emissions. To that end, both cap-and-trade and a carbon tax will remain on the table for the refining sector. In the interim, fuel efficiency standards and alternative fuel policies will guide greenhouse gas emissions reduction policies for the transportation sector. Likewise, although some biofuels have come under scrutiny because of their uncertain environmental credentials and their impact on global food security, energy security considerations and farm sector backing will mean that biofuels mandates as they are currently laid out will probably remain intact. With the International Energy Agency (IEA) forecasting a glut of global natural gas supply through 2014, the prospect of using some of that natural gas as a transport fuel is gaining traction, and there is likely to be increased interest in infrastructure to help facilitate the adjustment to greater dependence on imported refined products.

Business imperatives
New infrastructure opportunities: One growth area in an otherwise gloomy landscape for US refining will be infrastructure to help the adjustment to greater dependence on imported refined products. This would include port, tanker, barge, and storage terminal capacity to facilitate the expected uptick in imports of refined products from Asia to the US west coast. Increased imports to the US gulf coast through the Panama Canal are also a possibility. Some refiners are already making such adjustments by converting uneconomic refining capacity to terminal storage capacity, not just in North America but also in other low growth markets such as Japan and western Europe. Unionized workers have already mobilized to protest recent refinery conversion plans in the US, Canada, and France. OECD refineries that are to be shut completely may also face complicated and costly environmental cleanups.

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US transport fuel consumption forecast: Gasoline vs diesel vs ethanol

10

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5 mmbpd 4 3 2 1 0

Gasoline Diesel Ethanol

20

07

20

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08 20 15 20 20 20 25 20 30

20

35

Source: EIA Annual Energy Outlook 2010

Photo credits: Reuters This material was produced by Eurasia Group in collaboration with PricewaterhouseCoopers.This is intended as general background research and is not intended to constitute advice on any particular commercial investment, trade matter, or issue and should not be relied upon for such purposes. It is not to be made available to any person other than the recipient. No part of this publication may be reproduced, stored in a retrieval system, or transmitted in any form or by any means, electronic or otherwise, without the prior consent of Eurasia Group. 2010 Eurasia Group
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