The Evolving Geopolitical World

What’s become obvious is that the world has moved from being unipolar, with one leading power following the collapse of the Berlin Wall, to being bipolar. The US and China, now comparable in economic size, are like two boxers in a heavyweight title fight. The fight will likely go the proverbial distance.

Both sides take issue with one another over seemingly irreconcilable differences, which include but are not limited to:

• Sovereignty over Taiwan;

• China’s provision of assistance to Russia in the Ukraine war;

• US restrictions and sanctions on cutting-edge semiconductor technology; and

• Capital flow restrictions between the countries.

What used to be a relatively peaceful world led by one hegemony is now filled with constant conflict. Even just last week, the US expanded its semiconductor restrictions. In response, China now requires exporters of natural graphite and highly-concentrated synthetic graphite used to make batteries to apply for an export permit.

The world is starting to bifurcate. The sides are becoming entrenched. Russia, China, Iran, North Korea, South Africa, Brazil and some Arab nations form one side, and the US, most of Europe, Ukraine and Israel form the other. The bifurcation of the world makes it more likely that more regional conflicts will occur.

In Ukraine, the sides are now fighting a stalemate. The Middle East has opened up a new front.

The tragic regional conflict unfolding in the Middle East is beginning to impact some macro financial markets, in particular oil and gold. Bonds and equities have likely been impacted to a lesser extent. In this section, we consider the history of the conflict and provide an update on how events are unfolding.

We start with some history. The genesis of today’s conflict stretches as far back as the book of Genesis. According to the Scripture, God promised to leave Abraham’s sons with the power to rule over the holy lands. However, Abraham’s wife, Sarah, was very old at the time and, despite God’s assurances, didn’t have faith she could have a child. Instead, she hatched a plan with Abraham for him to have a child with her Egyptian maid called Hagar. After Sarah become spiteful as a result of Hagar’s pregnancy, Hagar fled. On her journey, an angel visited Hagar and told her that she was required to return to Abraham and name her son Ishmael, and that “he shall be a wild man, his hand shall be against every man and every man’s hand against him.”

Later on, however, Sarah did end up conceiving a son named Isaac. Isaac means “he will laugh,” reflecting the disbelieving laughter of Abraham and Sarah when God told them they would have a child despite Sarah’s old age. After Isaac was born, Sarah urged Abraham to cast out Hagar and Ismael. After some initial hesitation, God told Abraham to follow his wife’s request.  

This event marked an important schism in religious history. Isaac become one of the patriarchs of the Israelites and Ishmael become one of the patriarchs of the Arabs. The sibling rivalry has continued ever since.

After World War I, the Palestinian territories fell under the mandate of Great Britain. The Balfour Declaration of 1917 created modern Israel by stating, “His Majesty’s Government view with favour the establishment in Palestine of a national home for the Jewish people.” Prior to this declaration, the Palestinians had called this land home for centuries.

Encouraged by the British government, hundreds of thousands of Jewish immigrants, mostly from Eastern Europe, flooded the Palestinian territories. Israel became a state in 1948, but the Palestinian territories at the time remained non-sovereign territories. Since then, many border redrawings and conflicts have ensued. Syria, Lebanon, Iraq, Jordan and Egypt have repeatedly tried and failed to drive the Israelis into the sea and transform its lands into a Palestinian state.

As explained in the Son of Hamas, which recounts the story of one of Hamas’ founding fathers’ sons, Hamas “Islamized the Palestinian problem (for Israel), making it a religious problem. And this problem could be resolved only with a religious solution, which meant that it could never be resolved because we believed that the land belonged to Allah. Period. End of discussion. Thus for Hamas, the ultimate problem was not Israel’s policies. It was Israel’s very existence.”

Needless to say, the conflict is sadly heating up. Both sides are preparing for the next phase of the war with a potential conflict breaking out with Lebanese Hezbollah and other militant groups such as the Yemeni Houthis.  

Israel has amassed military hardware and ground troops near the border with Lebanon. To try to disincentivise Hezbollah, a better resourced militant group, from getting involved, the US has moved 2 aircraft carriers into the region. The fighting on the border with Lebanon has increased in frequency and intensity in recent days, with Iran encouraging Hezbollah to distract Israel from its ground operations in Gaza. The US has now issued a notice to its citizens in Lebanon to get out of the country immediately. Fighting in the West Bank has also increased.

Iran is directing traffic on the Arab side. According to the Qu’ran, when an enemy invades any Muslim country, all Muslims are called as one to fight to defend their land. Hence, Iran’s threats of retaliation against Israel and the West of a ground operation in Gaza to destroy Hamas once and for all. While the US has supposedly assented to an Israeli ground invasion to “eliminate Hamas,” they are encouraging Israel to wait to better prepare for the possible retaliation and to try and secure the release of some more hostages. The war between Israel and Hamas has become a fight to the death, and it’s hard to see how Iran isn’t forced to intervene.

In Gaza, according to a United Nations report, around one-third of all buildings in the area have now been damaged in some way. Hospitals have been destroyed and Israel has begun bombing mosques and refugee camps where Hamas has bases for protection. Video footage has shown many military commanders telling the Israeli Defence Force to be prepared to soon occupy Gaza.

Israeli’s Prime Minister, Benjamin Netanyahu, will have a hard time backing down. According to a recent political survey, 80% of Israelis blame him for a failure to protect their country.

Media reports have suggested that Israel and the US, after the war, will seek to put in place a government run by the United Nations and Arab nations ex-Iran. Given that Iran felt the need to intervene to prevent the loss of regional power from a potential Israel-Saudi accord, such a Western plan would likely force Iran’s hand.

The conflict is spreading. Iraqi militants, backed by Iran, are attacking American air bases. In response, America is re-deploying THAAD and Patriot missile defense systems into the region. China has now moved 6 destroyers to the Middle East as well. Iran is moving weaponry and military commanders to the border of Syria and Israel. It seems as if the sides are buying time before the next phase.

While we think it’s unlikely that events will transpire into a broader global conflict, it’s notoriously difficult to predict the course of wars. It’s hard, however, to see how the events that have transpired will be good for the Israeli currency, the shekel. Around 5% of the population has now been called up to serve in the defence force. The government’s budget position will likely deteriorate significantly to fund the war effort. Many Israeli settlements have been damaged, and the constant rocket warnings would be disruptive for the economy to say the least. Inflation is likely to become rampant with the central bank being given a difficult decision of how much to support the war by keeping interest rates low versus raising rates to fight inflation. The war in Ukraine provides a blueprint of what tends to happen to inflation and a nation’s currency during a prolonged conflict.

Previous wars in the Middle East didn’t last long. Israel has a significant advantage from their superior weaponry, American backing and number of troops. But this war is different because it’s not happening in a unipolar world, but in a bipolar one. China has already publicly announced support for Hamas. Russia and Iran are funding militant organisations with money and weapons. The planning for the attack on Israel, requiring the smuggling of at least 6,500 rockets into Gaza, was reported to have taken years. None of these factors sound good for Israel’s currency.