OxfordAnalytica Prospects2012

Prospects 2012
A dramatic re-ordering of global affairs is underway, increasing the risks facing businesses and governments around the world in 2012.
Oxford Analytica 2011. All rights reserved
no duplication or transmission of this document is permitted without the written consent of oxford analytica. Contact us: www.oxan.com/about/contacts or call +44 1865 261 600 or in north america 1 800 965 766
Page 1 Prospects 2012
Table of Contents
International Economy 3 Middle East 16
The developing world will continue to grow, ensuring modest expansion in global GDP, but fiscal consolidation will undermine advanced-economy growth, pointing to more stable commodity prices.
Islamist parties will seek to govern in partnership, but find it difficult to build coalitions with the secular centre and left. The crisis over Iran will intensify amid growing economic uncertainties across the region.
United States
35
Europe
49
The course of the European crisis, and whether the housing market 'bottoms out', will be crucial signals of direction both for the economy and the political contest between President Barrack Obama and Republican Mitt Romney.
The euro-area financial crisis can no longer avoid a political solution, which will take the form of a change to the ECB's mandate and/or greater fiscal and political union. Recession is probable.
Asia Pacific
73
Africa
99
Chinese growth will slow, but remain the main contribution to global expansion. Engaging constructively with an assertive but not entirely confident China will prove difficult.
Global economic uncertainties will cloud the outlook for development but average growth will remain strong. Traditional and new security risks will intensify in the Horn, the DRC and Nigeria.
Russia/CIS
120
Latin America
135
In a year of elections, the ruling party's majority will shrink, but this will not dent Kremlin control of the policymaking process. The Putin-Medvedev job switch may spark renewed elite infighting.
The official forecast for Brazilian growth of 4-5% is not far-fetched, but many uncertainties remain about how the government will balance fiscal prudence with infrastructure investment imperatives.
Oxford Analytica 2011. All rights reserved no duplication or transmission of this document is permitted without the written consent of oxford analytica. Contact us: www.oxan.com/about/contacts or call +44 1865 261 600 or in north america 1 800 965 766
Introduction
Rarely has the task of producing Oxford Analyticas Prospects series of articles, our annual assessment of the macro risks facing businesses and governments in the year ahead, been such a challenge as it was this year. Acute volatility and uncertainty characterised 2011; next year promises more, probably much more, of the same. What is anathema for financial markets is no less troubling for government and business leaders. Yet that is the nature of our world. The old verities of geopolitics and the global economy have crumbled; a new order, if one is to emerge, does not even seem to be in sight. It is fashionable but still premature to write the obituaries of the United States and Europe, even though both will be mired in sovereign debt and prey to political dysfunction in the year ahead. Yet a dramatic reordering of global affairs is underway, and for businesses and governments alike this places a premium on a proper assessment of risk in a world at once less familiar and more volatile. The Arab Uprisings are a case in point. One year ago, the idea of sudden, radical changes of government in Tunisia, Egypt and Libya was regarded as a mirage. Today, a sense of the enormity of what is happening in the Middle East is tempered by recognition that the consequences will be profound and take years to unfold. In this respect and others, we might characterise our era as the Long Transition, a period of complexity, particularity and heightened macro risk as global economic and political power dissolves and re-forms around new nodes, axes, and countries. The articles that follow, drawn from the Oxford Analytica Daily Brief, seek to dissect this transition and shed light on how the various forces at play will shape outcomes in every major region of the world during the next 12 months. The work of our global contributor network and in-house analysts, they seek to help you calibrate risk and reward appropriately -- and secure your objectives in these tempestuous times. Graham Hutchings Director of Analysis December 2011
Prospects 2012: International

The developing world will continue to grow, ensuring modest expansion in global GDP, but fiscal consolidation will undermine advanced-economy growth, pointing to more stable commodity prices.
Global economy

The developing world should be able to regain momentum during 2012, but a strong recovery looks unlikely. Fiscal consolidation will undermine advanced-economy growth. Commodity prices will probably be more stable.
World trade

Global economic slowdown or a possible recession will restrain trade growth. Protectionist pressures are increasing, but open disregard for WTO rules is unlikely. With progress in the Doha Round unlikely, bilateral FTAs will continue to proliferate.
Oil

13
MENA instability will remain a major source of uncertainty for the oil market. The WTI-Brent spread could erode over the course of 2012. Growing Asian demand will offset contraction in OECD demand.
Page 5 Prospects 2012: International
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International
Prospects for the global economy in 2012

Monday, October 31 2011 An Oxford Analytica Prospect The world economy faces a tough start to 2012 after a disappointing 2011. However, inflationary pressures are now easing and, at the end of October, the euro-area finally reached a significant agreement partially tackling its debt crisis.
An investor is seen in front of an electronic board showing stock information.(REUTERS)
What next The euro-area debt deal is far from a guarantee of plain sailing in the future, and concerns over the vulnerability of the US economy and more sluggish growth in developing countries persist. A possible turn in the economic cycle, notably in emerging markets, could encourage a pick up in growth through 2012. Nevertheless, this upturn will not be visible over the early months of the year, possibly creating further short-term turbulence in financial markets. Analysis Although weakness in the global economy and trade from mid-2011 has been on a much smaller scale than the events of 2008, comparisons with that year and fears that the euro-area crisis could spark a similar shock to the collapse of Lehman Brothers have weighed on sentiment and expectations. This has already influenced the growth outlook for late 2011 and early 2012:
q
Strategic summary
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The developing world should be able to regain momentum during 2012, but a strong recovery looks unlikely. Fiscal consolidation will undermine advancedeconomy growth. Commodity prices will probably be more stable.
Consumers are very cautious in the developed world, while governments seek to rein in deficit spending. Businesses have also been prudent in terms of investment, stock building and purchases of inputs, which seems to have damped world trade and spread the slowdown across emerging markets in late 2011.
There is still the risk of further, if temporary, setbacks -- and even in the best-case scenario it will take time to restore sustainable growth momentum. Performance The fragile global economy will see a very mixed performance during 2012, with a weak start possibly leading to a better performance by mid-year:
1. Developed economies Average growth will probably be in the 0.5-1.0% range, with the risk of recession at the start of the year, but likely gains in the second half.
q
The euro-area debt deal has taken the threat of a disorderly sovereign default or Lehman-type disaster off the agenda, but cannot guarantee swift economic recovery (see EURO-AREA: EU 'solution' buys time but solves little - October 27, 2011). Growth, including in the United Kingdom, will remain heavily dependent on the outlook for exports, particularly to emerging markets. GDP expansion is expected to hover around zero in early 2012 before picking up to 1.0-1.5% later in the year, with northern European economies continuing to do better than the south. Stronger exports alone cannot provide more than a modest stimulus to growth and jobs in the United States -- expansion depends overwhelmingly on the consumer. A policy-induced boost to jobs should help in 2012, but gains will be slow to appear and growth could remain below 2%. The Japanese recovery will be anaemic as it struggles against a backdrop of slow global demand growth, a high yen and the prospect of increasing taxes to meet reconstruction costs.
2. Emerging markets The inflationary pressure seen in 2011 (see INTERNATIONAL: Food inflation requires new policies - January 20, 2011) will ease in 2012, and monetary policy tightening is already reversing in a number of countries. However, the recent boom in consumer spending has cooled and demand will take time to pick up. This consumer cycle will make it difficult for governments to effectively stimulate a rapid rebound. However, emerging markets will continue to be the most dynamic part of the global economy. Once their growth begins to recover during the course of 2012, they will quicken the pace of world trade, especially across developing-country partners. Economic growth will probably average 5.5-6.0%:
q
China will likely loosen credit conditions and add some mild stimulus, especially aimed at advancing development of poorer regions. However, GDP growth still looks set to ease, although probably to not much less than 8.5-9.0%. India remains hamstrung by high inflation and interest rates, which will not encourage the scale of investment that the economy needs to sustain fast growth. Brazil has seen growth drop to rates of 3-4% after the massive but temporary gains seen in 2010 and early 2011. Growth is set to stay in this more typical range next year.
Steadier commodities Key commodity prices have fallen from early 2011 peaks and look likely to stabilise around current levels in 2012:
q
Although renewed market turbulence cannot be ruled out given the lack of spare capacity, price spikes are less likely in early 2012 given the improvements in the supply outlook seen in 2011. Harvests in 2012 will not become a major factor for food prices until later in the year. Yet any signs of emerging shortfalls in key crops could then cause a new surge in prices -- the Thai floods are a special concern. As long as supply improvements are not forthcoming, the capacity situation will leave markets vulnerable to price swings (see INTERNATIONAL: Food prices will stay firm - August 26, 2011). Fears over oil supply that surfaced in early 2011 have already eased and expectations are for stability of current production and ultimately a gradual recovery of lost output from Libya. However, tight markets are keeping prices elevated (see INTERNATIONAL: Oil prices resist major correction - October 12, 2011). Metals price turbulence is not a major component of consumer inflation, but it may have impacts on the economies of the key producers, probably dampening revenues in 2012.
Commodities are set stabilise near current levels, at least in early 2012
Risks
Key threats faced in 2011 have faded. Crucially, a fully-fledged debt and banking crisis no longer seems to be a risk for 2012. However, other risks are becoming more prominent: 1. Emerging-market instability Since emerging markets are now the most important drivers of global growth, any cycles or policy mistakes in these countries -- especially China -- could kick off cycles in the rest of the world. Concerns over the repercussions of recent strong growth on the consumer cycle (particularly demand for high ticket durables), on banks' bad debts and on investment potential suggest the possibility of internal economic turbulence, which could provoke a sharp downturn in imports and damage to global trade. 2. Inflation and deflation With flat or easier commodity prices, and weaker growth containing wages, inflationary pressures should subside in 2012. The remaining risks are due to either specific local events, such as floods in Thailand, or persistent internal inflation, as in India. However, with growth remaining very low in developed countries, the threat of deflation could resurface. 3. Fiscal austerity balancing act If badly handled, fiscal austerity will destabilise advanced economies: too little will prolong concerns about debt, while too much could tip economies into recession. 4. Protectionism Overt trade wars are unlikely, but protectionist policies that do not breach WTO rules will continue to gain momentum (see INTERNATIONAL: WTO-compliant protectionism set to rise - September 21, 2011). The global economy will become more exposed to cycles in emerging markets.
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International
Prospects for world trade in 2012

Thursday, November 10 2011 An Oxford Analytica Prospect Trade growth has slackened in recent months, and is unlikely to support the lukewarm global economic expansion much in 2012. Deadlock in Doha Round talks has raised doubts about the WTO's ability to adapt to changing trade realities. What next Trade growth will be slow at best, although it should be somewhat faster than that of world output. Protectionist pressures remain high, and restrictive measures are accumulating. However, blatant disregard of the trade rules remains unlikely. The WTO's Doha trade negotiations will remain paralysed, but new trade opportunities should open up through Russia's entry to the WTO and the continuing proliferation of regional and other limited-membership free-trade agreements (FTAs). Analysis The growth rate of world trade has decelerated steadily since mid-2010. In recent months, trade has hardly grown at all. For 2011 as a whole, the WTO expects merchandise trade to be 5.8% higher than last year. For 2012, IMF trade projections still suggest nearly 6% growth -- the more robust services trade will be key for this to be achieved:
Workers load a container onto a cargo ship. (REUTERS/Issei Kato)
Strategic summary
q
Global economic slowdown or a possible recession will restrain trade growth. Protectionist pressures are increasing, but open disregard for WTO rules is unlikely. With progress in the Doha Round unlikely, bilateral FTAs will continue to proliferate.
Trade of developing countries, and especially China, should continue to grow strongly. IMF projections show developing-country imports rising by over 8%, double the growth of imports by developed countries (see INTERNATIONAL: Non-OECD imports are key for growth - August 23, 2011). Yet downside risks are significant, and current fears of a double-dip recession (see PROSPECTS 2012: Global economy - October 31, 2011) and high protectionist pressures suggest that the IMF's projections may be too optimistic.
Protectionism G20 countries, which account for the great majority of world trade, have just extended until end-2013 their commitments to a standstill and rollback of protectionist measures. Indeed, they have generally refrained from clear breaches of the WTO rules, and make fairly limited use of legitimate 'trade remedy' actions -- anti-dumping and countervailing duties, as well as safeguard measures. However, protectionist policies are on the rise:
q
G20 members have introduced 674 trade measures since October 2008 that the WTO regards as actually or potentially trade-restrictive (see INTERNATIONAL: WTO-compliant protectionism set to rise - September 21, 2011). Of these, 230 were introduced during the past twelve months. Most affect imports of machinery, iron and steel products, electrical equipment, organic chemicals, plastics and man-made fibres. A growing number restrict exports of food products and minerals -- these are a particular concern, since they not only ignore the G20 pledge, but are also likely to injure some of the poorest African countries. Less than one-fifth of protectionist measures introduced since the crisis struck in mid-2008 have since been withdrawn. The cumulative effect is that the share of world trade affected by these restrictions has now reached 2% (see INTERNATIONAL: Protectionism could become 'sticky' - January 26, 2011).
Less than one-fifth of protectionist measures introduced since mid-2008 have since been withdrawn
Economic and political pressures on governments will probably lead to further slippage in national trade policies next year. However, this is unlikely to go beyond the limited measures taken since 2008. There will be no repudiation of present WTO commitments. Governments recognise their shared interest in holding one another to the rules that underpin the multilateral trading system, and the risks they run of damaging retaliatory action if they disregard those rules. Negotiations
The WTO's Doha Round trade liberalisation negotiations made no progress in 2011. For now, prospects of opening up new trade opportunities depend on regional and sectoral initiatives. These largely take place outside the WTO itself, but are governed by its rules: 1. Doha The official objective of completing a package deal in the Doha Round by the end of this year was never realistic, and had to be abandoned in July. None of the key participants was prepared to make concessions crucial for their negotiating partners. A further effort to put together an interim package of relatively uncontroversial agreements, including measures to help least-developed countries, also failed. The G20 have now urged WTO's biennial Ministerial Conference, which will meet next month, to renew work on the interim package, and possibly on some other elements of the Doha mandate. Yet the present deadlock in Geneva, the unfavourable economic background and US elections mean significant progress is unlikely in 2012. The near-collapse of this ambitious and decade-long enterprise raises the broader question of whether the WTO's collective membership is capable of meeting future negotiating challenges (see INTERNATIONAL: Doha rules make talks more difficult May 31, 2011) 2. Procurement Results of long-running talks to enlarge coverage and membership of the 'plurilateral' agreement that opens purchases by government bodies to its signatories should be presented at the WTO's ministerial meeting in December. Its market-opening benefits should begin to be felt in 2012. Most of the present signatories are developed countries, but China is likely to join, although Brazil will not (see INTERNATIONAL: Deal near on government procurement - December 1, 2010). 3. Russian WTO accession With all outstanding issues apparently resolved, WTO ministers will approve Russia's accession at their December meeting. It should take effect by May 2012 at latest. Russia's long-delayed entry means that the multilateral trading system and its rules will henceforward cover all major trading countries Significant progress in the Doha round is unlikely in 2012
4. FTAs Amid lack of progress at the multilateral level, regional and bilateral free trade deals (FTAs) will continue to proliferate in 2012:
q
The United States and its associates (Australia, New Zealand, five South-east Asian countries, Chile and Peru) in the Trans-Pacific Partnership (TPP) hope to have an outline agreement soon. Given time and political will, Tokyo might also win over enough Japanese agricultural interests to take part in the TPP. Nevertheless, resistance from protected sections of other countries' agricultural sectors will delay the agreement until 2015-17 at best (see US/JAPAN: Trade talks will hinge on Japan's farmers - November 3, 2011). Agreements signed by South Korea with the EU (already in effect) and the United States (awaiting South Korean ratification) could have significant trade impact. They confront Japan with the dilemma of whether it should seek to restore its competitive position through a similar free-trade deal with the EU or by increasing its efforts to joint the TPP. The EU is still negotiating FTAs with its African, Caribbean and Pacific (ACP) associates, Canada and India. FTA agreements and negotiations will proliferate among developing economies, particularly in Asia.
Disputes WTO members will continue to call on the organisation's dispute settlement procedures to overcome difficulties in their trade relations. Most disputes will probably, as now, involve China, the United States or the EU as complainant or defendant. While the procedures work slowly, their record in securing settlement of disputes is good, and they provide a vital safety valve for the trading system in difficult times.
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International
Prospects for the oil market in 2012

Friday, November 4 2011 An Oxford Analytica Prospect Oil demand in 2012 appears likely to undershoot current expectations, and that possibility does not yet seem to have been fully factored into prices. However, expected demand and supply are well balanced and given the historic degree of forecasting error no clear direction predominates. What next Even if the price bias is downwards, unexpected supply outages, whether technical or political, could still prove key factors in next year's oil market. Saudi policy will probably be directed at maintaining strong prices. A reappraisal of the potential of shale oil could prove the technological wild card. Analysis Oil demand forecasts for 2012 have been scaled back as the global economy deteriorated in recent months (see PROSPECTS 2012: Global economy - October 31, 2011). Supply problems appear to be easing, with the resolution of production glitches in the North Sea and the likely resumption of a limited quantity of Libyan exports. OPEC spare capacity is forecast to rise in 2012. Expected demand growth set against increases in non-OPEC supply, and OPEC Natural Gas Liquids are balanced. Both the weakening demand trend and the increase in oil sector capacity over five years of high prices suggest a downward direction for prices in 2012.
A view of a new oil refinery in Baghdad, Iraq.(REUTERS\Mohammed Ameen)
Strategic summary
q
MENA instability will remain a major source of uncertainty for the oil market. The WTI-Brent spread could erode over the course of 2012. Growing Asian demand will offset contraction in OECD demand.
However, oil prices will, as ever, be determined by an eclectic mix of political, economic and financial factors (see INTERNATIONAL: Commodity 'financialisation' adds risk August 19, 2011). For the moment, the world is seeing elevated oil prices and consumption levels (see INTERNATIONAL: Oil prices resist major correction - October 12, 2011):
q
World oil consumption is expected to end the year at 88.4 million barrels a day (b/d), based on US Energy Information Administration (EIA) data, the highest level yet.
Physical Brent prices averaged 111.66 dollars a barrel (dollars/bbl) in 2011 to endOctober, in comparison with an average of 106.93 dollars/bbl in the same period of 2008, which saw prices spike above 140 dollars/bbl and fall towards the end of the year with the financial crisis. Despite recent forecast cuts, demand is still expected to grow by a further 1.20-1.44 million b/d next year.
MENA uncertainty The greatest material loss to oil markets resulting from instability in the Middle East and North Africa (MENA) region this year was of 1.3 million b/d of Libyan exports, the bulk destined for European refineries. This volume was replaced primarily by Saudi Arabia, but only slowly. Following the killing of former leader Muammar al-Qadhafi in October, Libyan production is expected to rise to about 700,000 b/d by the end of 2011. However, pre-conflict output of nearly 1.7 million b/d is not expected to recover fully until 2013-14. The key MENA region oil producers have pacified social unrest through a combination of repression and spending. Nevertheless, both Yemen and Syria are also facing political instability and there is no certainty that the new North African governments can fulfil the aspirations of the Arab Spring. The unrest has strained regional relations and upset the former balance of power in the Middle East. MENA instability will remain a major source of uncertainty for the oil market in 2012. Saudi OPEC role The Libyan crisis highlighted once again that Saudi Arabia determines OPEC policy by virtue of its domination of the organisation's spare capacity. This fell in 2011 to 3.02 million b/d from 3.99 million b/d in 2010. Yet it is expected to rise again to 3.46 million b/d in 2012. Between 2003 and 2010, Saudi Arabia's proportion of OPEC spare capacity ranged between 64% in 2003 and 85.4% in 2010, hitting a high of 97.4% in 2008. Although 2008 demonstrated that output can be a blunt tool for controlling a complex global market, Saudi policy remains a key determinant of prices:
q
700,000 barrels per day

Expected Libyan production by end-2012
Riyadh has made spending commitments that imply an average crude oil price closer to 100 dollars/bbl than the 70-80 dollars/bbl Saudi that Oil Minister Ali alNaimi formerly touted as ideal. Riyadh has acted in the past to increase output to avoid both risks of recession and demand destruction through substitution. However, it has tended to act in response to high prices rather than to pre-empt them. The kingdom appears to have reined in output at the first sign of a resolution to the Libyan crisis.
Brent-WTI
Oil prices have been high, but not uniformly so. The spread between inland US markets, represented by the physical benchmark West Texas Intermediate (WTI), and international markets, represented by Dated Brent, reached record levels in 2011. This reflected higher US domestic output and increased Canadian imports, combined with the logistical constraints around the Henry Hub pricing point and the inability to take crude by pipeline south from there to the Gulf coast (see INTERNATIONAL: Asian market needs new oil benchmark - May 11, 2011). Falling US stocks towards year-end appear to be the result of more refiners managing to grab some of the huge arbitrage between WTI-priced crude inland and Brent-priced oil products on the eastern seaboard. Crude is increasingly being moved around the United States by rail and lorry. This suggests that the current wide Brent-WTI spread is not a permanent feature and likely to erode over the course of 2012. Yet despite WTI being significantly cheaper than Brent, the demand outlook in the United States looks no better than in Europe, and much worse than in Asia:
q
US gasoline demand remains depressed. The US EIA sees the country's liquid fuels consumption down 230,000 b/d in 2011 from 2010, reviving by only 90,000 b/d in 2012. The speed of Chinese oil demand growth appears to have slowed in recent months. Apparent oil demand, which does not take into account changes in product inventories, dropped below 9 million b/d in both August and September. Product inventories are reportedly higher than last year. Euro-area woes and fiscal retrenchment will affect economic growth and oil demand in Europe.
Demand balance OECD oil demand may contract, but this will be compensated by continuing increase in Asian demand supported by urbanisation, population growth and wealth creation. Although it has some bottlenecks, most amply demonstrated by WTI, crude is priced internationally. Strong demand in Asian means high prices globally. From a financial perspective, energy commodity investment, and crude oil in particular, might be expected to outperform other forms of investment such as bonds or equities, for which performance is more regionally-based. However, after years of high oil prices, the oil industry has expanded its capacity significantly, as shown by the extended boom in offshore rig building and the steady increase in the operational rig count. The turnaround in US onshore oil production is emblematic of this investment, exploiting not simply new finds but a new resource base -- shale oil -- the scope of which has yet to be assessed worldwide. After years of high oil prices, the oil industry has expanded its capacity significantly
Prospects 2012: Middle East

Islamist parties will seek to govern in partnership, but find it difficult to build coalitions with the secular centre and left. The crisis over Iran will intensify amid growing economic uncertainties across the region.
Page 17 Prospects 2012: Middle East
Arab politics
18
Islamist parties will seek to govern in partnership, but will find it difficult to build coalitions with the secular centre and left. Saudi Arabia will remain insulated from political upheaval, but instability in neighbouring Yemen and Iran's nuclear programme will be major concerns. The Arab League may expel Syria and there will be calls for Turkey to set up secure areas close to the Syrian border.
Arab economics

23
A substantial drop in world oil prices would undermine the positive outlook for Gulf countries, increasing the risk of political instability. Conflict will see significant declines in the Syrian and Yemeni economies. The fallout of this year's uprisings will shape the economic outlook in the Arab world throughout 2012 and beyond.
Turkey

29
Kurdish militants will increase efforts to carry out attacks in the south east and major cities. Ties with the EU and United States will improve, while Turkey will avoid direct intervention in Syria. Financial markets will remain volatile, but the economy will continue to offer longer-term business opportunities. Job creation may fail to keep pace with population growth, keeping unemployment above 10%.
Iran

32
Parliamentary elections in March will dominate Iran's agenda, eclipsing progress on the nuclear issue and other strategic areas. Iran's revenues will grow in the short term, even as sanctions cut into its oil production levels. In the wake of the US troop withdrawal from Iraq, Tehran will seek to construct an economic and military bloc connecting Iran, Iraq and Syria.
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Middle East and Africa
Prospects for Arab politics in 2012

Wednesday, November 9 2011 An Oxford Analytica Prospect The outcome of the 2011 political upheavals should become clearer in 2012 following elections in Egypt, Tunisia and Libya. The Islamist-dominated governments that are set to emerge will take decisions that affect the region's long-term future, overseeing the drafting of new constitutions and tackling the economic and social issues that prompted the uprisings in the first place. However, the unresolved outcomes of two ongoing popular and armed struggles, and the potential for further instability, mean that the initial revolutionary 'contagion' of 2011 has yet to run its course. Conflict is set to continue in Syria and Yemen where popular opposition movements have failed to unseat the incumbent regimes. What next Libya's new political landscape will take shape as militias and emerging political factions organise themselves ahead of polls for a constituent assembly. The Muslim Brotherhood will do well in Egypt's parliamentary elections, while Tunisia's Islamist alNahda party will face the test of a coalition government. Yemen's president may finally depart, but this will not bring stability. Pressure on the Syrian regime will intensify as the uprising becomes increasingly militarised and the economy weakens. Tensions will rise in the Gulf as new evidence emerges of Iranian efforts to develop nuclear weapons. Iraq is unlikely to become an Iranian proxy after the US withdrawal, but political dysfunction will undermine effective government. Analysis As the country where the uprisings began, Tunisia's political progress will set a benchmark for the region. Al-Nahda, admired by voters for its long struggle against the regime of President Zine El Abidine Ben Ali, promotes moderation and inclusion, and is likely to take a pragmatic approach to government, particularly considering the country's strong secular tradition. The party does not have a majority and will face tough negotiations that could test its unity with secular liberal and socialist parties over policy priorities and the constitution. It was elected as part of a Constituent Assembly, which will appoint an interim president and cabinet, and produce a new constitution, leading to full parliamentary and presidential elections at the end of 2012 (see TUNISIA: Elections boost regional democracy - October 25, 2011). Tunisia's most urgent need is for a solution to the structural economic difficulties that have been exacerbated by the Arab uprisings and the financial turmoil in Europe. AlNahda and its rivals will want to increase their share of the vote in elections that follow constitutional reform. However, the government will face high expectations from an electorate that expects a more equitable future. Yet Tunisia faces the lowest hurdles to a successful post-revolutionary transition. Elsewhere in the region, the barriers to stable government and sound economic management are higher.
Protesters chant slogans against the government and military rulers at Tahrir Square after Friday prayers in Cairo.(REUTERS/Mohamed Abd El Ghany)
Strategic summary
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Islamist parties will seek to govern in partnership, but will find it difficult to build coalitions with the secular centre and left. Saudi Arabia will remain insulated from political upheaval, but instability in neighbouring Yemen and Iran's nuclear programme will be major concerns. The Arab League may expel Syria and there will be calls for Turkey to set up secure areas close to the Syrian border.
The realities of government will test the popularity of Islamist groups, particularly among their fundamentalist adherents
Libyan state-building The Transitional National Council (TNC) will face challenges exerting its authority as the urgent task of reconstruction begins. Well-armed militias from Misrata and the Jebel Nafusa region believe that they should be rewarded for their part in the struggle. Yet political leaders in Tripoli want to re-assert the capital's traditional influence, as will some of the major tribes. Islamists, who opposed the regime of former leader Muammar al-Qadhafi for many years and form the backbone of many of the militias, will have a major influence in the new political landscape, but are unlikely to adopt anti-Western or anti-business stances (see LIBYA: Islamists will play pragmatic role in power - November 4, 2011). Meanwhile, the TNC faces the challenge of building a wide consensus to persuade the militias to merge into a new national army or disarm. Any new regime is likely to face demands for rapid improvement in living standards and a greater share of the national oil wealth. On the positive side, Libya should benefit from rising oil and gas revenues as installations are repaired. (see LIBYA: Transition offers business risks and rewards October 19, 2011). Egyptian transition Egypt will not have a new parliament until February 2012, even though the prolonged election process starts on November 28. That parliament is charged with appointing a committee to draw up a new constitution, leading to presidential elections and a return to civilian rule in 2013. The Supreme Council of the Armed Forces (SCAF) is committed to stepping back from government, but it is also intent on retaining the military's independence from civilian oversight. Its attempt to impose conditions on the Constitutional Committee angered all political parties, forcing it to retreat for the moment (see EGYPT: Military interests shape transition outlook - November 1, 2011). Meanwhile, rising criminality is worrying the Egyptian public amid the SCAF's failure to re-organise and return the police to the streets. There is a sense of drift, and the economy is shrinking despite some recent signs of a recovery. This will affect the election campaign, which should see significant wins by the Muslim Brotherhoodaffiliated Freedom and Justice Party, and other Islamist parties. A lengthy electoral timetable combined with a series of missteps by the interim rulers is paving the way for a tense political transition. While the SCAF remains broadly popular, its support is ebbing away due to:
q
Egypt's political tensions are set to rise
its arrest of several iconic figures who inspired the revolution; procedural delays in the trial of former President Hosni Mubarak; and failure to accept that soldiers opened fire on Coptic demonstrators in October.
SCAF's handling of these issues has highlighted its lack of political communication skills and its refusal to cede decision-making powers to the cabinet that it appointed. Syrian instability
The Syrian uprising is likely to intensify and spread, adopting a more sectarian character -- and could become more violent as defecting soldiers organise. The external opposition has formed a more united front, but has not yet become a potential alternative to the regime. The regime, built around the family of President Bashar al-Assad and allied Allawi clans, retains formidable repressive power. It has lost the backing of some important Sunni business interests, but can still prevent serious disturbances in the major cities of Damascus and Aleppo (see SYRIA: Conflict stalemate leads to civil war - October 18, 2011). Damascus remains defiant in the face of UN resolutions and the West's calls for Assad to go. However, it faces increasing pressure from the Arab League and Turkey, which are calling for an end to repression and major political reforms. Syria will be worried by signs of a more strident stance from Ankara, which might establish havens for Syrian opposition groups close to the border. The regime's weak point is the economy, which is shrinking due to sanctions and ongoing instability. Oil exports are falling as the regime fails to find alternative markets. Economic decline will eventually undermine the regime. It will not fall soon, as there are no signs of any major fractures within the armed forces. However, its collapse could be bloody. Yemen's slow-motion collapse President Ali Abdallah Saleh and his family, who control the key elements in the security forces, face a stark choice. They must either accept or reject a deal -- backed by the UN Security Council and Washington -- under which Saleh hands over executive power to his vice-president and leaves office after presidential elections in early 2012. Although Saleh seems ready to sign, he has evaded previous deals and is under pressure from his family to stay. The two most likely scenarios are:
q
The Syrian regime will survive for now, but economic pressure will ultimately undermine it
Saleh fails to go, sparking a prolonged civil conflict with the forces of his former ally General Ali Mohsen and tribal militias. Saleh steps down and is replaced by a regime that is weak and divided. Al-Qaida militants will regroup in southern Yemen as the situation deteriorates
Yemen's future looks bleak. US drone strikes have had some success in degrading AlQaida in the Arabian Peninsula (AQAP), but the core leadership remains intact. A key security threat is the emergence in the south of 'Ansar al-Sharia', an insurgent group allied to AQAP. The security forces put aside their confrontation to push out the insurgents, but the group will return as the regime weakens. Bahrain sectarian troubles There will be continuing low-level violence in Shia villages and occasional larger protests in Manama. Following the boycott of parliamentary by-elections by the leading Shia party there is no credible Shia representation in parliament, which, like the regime, is dominated by the minority Sunni community. The situation will not change soon, as reformist tendencies within the ruling Al Khalifa family are checked by hard-liners -- with the strong backing of Saudi Arabia. Saudi stability
Saudi Arabia has bought time through its heavy spending on job creation, housing and salary increases, but is unlikely to use it for political reform, partly because there is not much demand. The exception is the Shia minority in the Eastern Province. The area has witnessed minor disturbances inspired by events in Bahrain. However, Shia leaders believe they have more to gain by co-operating with the regime than opposing it. The ruling family managed the succession smoothly after the death of Crown Prince Sultan, via the Allegiance Council set up five years ago by King Abdallah. The conservative Prince Nayef, who remains the interior minister, took his place. However, the family operates through consensus and Nayef's new status is unlikely to cause substantial policy changes. Serious regional challenges in Iran, Yemen, Bahrain and Syria will provide added incentive for the regime to remain united. Iranian stand-off Riyadh will seek to weaken Iran by exploiting the escalation in international pressure on Tehran surrounding the alleged attempt to assassinate the Saudi ambassador in Washington and the International Atomic Energy Agency's assessment that Tehran may be secretly developing nuclear weapons. Sectarian and political fissures in the region will be exacerbated, and Saudi-Iranian rivalry will make it harder for OPEC to influence oil prices. Saudi Arabia will endeavour to bolster its security partnership with the United States in the Gulf as international talks on Iran's own nuclear programme stall (see GULF STATES: Expanded US role will bolster defences - November 8, 2011) Reforming monarchies Morocco and Oman have avoided serious domestic opposition through wage and subsidy increases and mild political reform, but will need to do more soon. Upcoming parliamentary elections in Morocco should test the king's reform pledges. A possible strong showing by the main Islamist opposition party could challenge the monarchy's longstanding political hegemony. Jordan's political elite wants more power from the king, but does not want to share this with the people. Jordan accepted the offer of Gulf Cooperation Council membership and is negotiating terms and has received a substantial contribution to its budget deficit from Saudi Arabia. More is likely to follow as the Saudis seek to bolster friendly regimes in the region (see MIDDLE EAST: Jordan to benefit most from GCC ties August 8, 2011). Political stalemates US aid to Iraq will continue on a large scale after the withdrawal of its forces. The stalemate that has persisted among the country's politicians since the 2010 elections will continue, and Prime Minister Nuri al-Maliki should find ways of circumventing parliament to push through reforms. However, there will be no agreement on major outstanding issues, including over the future of Kirkuk, relations between central government and the regions (notably Kurdistan), and a new oil law. Popular pressure will increase on non-oil exporting monarchies
The Palestinian application for full statehood status at the UN will fail to kick-start meaningful negotiations with Israel. Popular Palestinian frustration will increase. Egypt and Jordan will stick with their peace treaties with Israel -- though Cairo will have to give greater weight to public opinion, which remains hostile to Israel.
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Prospects for Arab economies in 2012

Wednesday, November 23 2011 An Oxford Analytica Prospect Arab economies have followed widely different trajectories in 2011. Oil producing countries, with the exception of Libya, have registered strong expansion as a result of increases in oil prices and production, with a projected growth rate of 4.9% for 2011. Political instability and the overthrow of regimes has dented the performance of the Arab world's oil importing economies, causing a severe slowdown. The longer-term economic impact of the uprisings will become clearer in 2012 as new governments start to form policies to address the socio-economic problems that unseated their predecessors. What next Continuing political upheaval will combine with the global economic slowdown to make 2012 a difficult time for the MENA region. Tunisia, Egypt and Libya will suffer in particular as they go through a period of political and economic transition. New postuprising governments will be faced with urgent socio-economic crises, but will also have the opportunity to begin tackling longstanding systemic issues. Regional economies will benefit from strong expenditure by Gulf states. Despite the softening in public finances, these governments will maintain their unprecedented levels of spending in order to contain public unrest. Analysis The slowdown in the United States and Europe will dampen foreign investment and trade, affecting Lebanon, Jordan and North Africa in particular. Meagre growth in the West could also have a knock-on effect on oil demand and prices, affecting growth, external accounts and government budgets in the oil-producing economies -- although the more likely scenario is that emerging markets will sustain high global oil prices (see PROSPECTS 2012: Oil - November 4, 2011). High food prices will further undermine living standards. Projections from the OECD and the UN Food and Agriculture Organization (FAO) suggest food prices such as cereals will average 20% higher than in the previous decade. Increases in energy bills will hit non-energy producers. The combination of high food and energy prices will push up inflation across the region.
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Street vendor selling drinks in Cairo (REUTERS/Amr Abdallah Dalsh)
Strategic summary
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A substantial drop in world oil prices would undermine the positive outlook for Gulf countries, increasing the risk of political instability. Conflict will see significant declines in the Syrian and Yemeni economies. The fallout of this year's uprisings will shape the economic outlook in the Arab world throughout 2012 and beyond.
Inflationary pressures will lead to increased demands for higher wages, thereby risking a further deterioration in government budgets. Systemic problems Unemployment is set to rise, despite the substantial increases in public sector job provision seen in 2011. Employment opportunities have fallen due to technological progress in the key manufacturing and agriculture sectors, while the number of young people entering the job market is increasing. Efforts to diversify hydrocarbon-producing economies and expand the role of the private sector will continue to make slow progress for several reasons, including:
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lack of competitiveness in industry and technology; and the absence of high-quality, technology-based education systems. Governments will focus on short-term welfare fixes rather than systemic problems
High school students in MENA countries, including the United Arab Emirates (UAE), Jordan, Tunisia and Qatar, score below the OECD average in maths and science. Improvements in technological investment over the last decade, such as the establishment of technology centres in the Gulf, are yet to have a significant impact on industrial success. In some parts of North Africa the time between completing university education and finding employment is up to eight years, raising the risk of social unrest. The more politically vulnerable governments of Jordan, Morocco, Oman and Bahrain will be particularly mindful of the need to address social concerns. By increasing expenditure and targeted welfare measures, they will hope to avoid the political upheavals that have brought down governments elsewhere in the region. Financial assistance from wealthier states such as Saudi Arabia, the UAE and Qatar will help them achieve this without undermining their fiscal position (see MIDDLE EAST: Jordan to benefit most from GCC ties - August 8, 2011). Strong performers The Arab economies set to benefit most in 2012 are the hydrocarbon producers that remain politically stable and reap dividends from if oil prices and oil-indexed gas prices remain high:
1. Qatar. Unprecedented infrastructure spending, including the construction programme for the 2022 World Cup, will support strong consumer confidence. This will combine with healthy public finances to allow local banks to increase lending and income, thus outperforming other regional banks. Those banks with close ties to the government will outperform the rest of the sector. 2. Saudi Arabia. Continuing political stability is set to ensure strong economic performance in the medium-term. Real economic growth is expected to reach a sustainable rate of 5%, falling from its eight-year peak of over 6% in 2011. Consumer confidence will remain strong, with government expenditure on housing underpinning private sector growth in construction related industries. The banking sector will post increased profits as bad debts unwind and provisions fall (see SAUDI ARABIA: Growth is resilient but faces challenges - August 12, 2011). Post-uprising economies Countries in a post-uprising transition will need to navigate their economies over a number of hurdles before growth and stability can be achieved: 1. Libya. The country has the cushioning effect of estimated foreign assets of 150 billion dollars, and substantial oil and gas wealth. A swifter than expected recovery of hydrocarbon export levels will give Libya sufficient resources for reconstruction. However, the interim rulers face a series of urgent demands, ranging from the provision of basic services to reconstruction and building government institutions. Political and legal uncertainties, and the security vacuum will perpetuate an unsettled business climate. The old bureaucratic system will remain in place, while major investment decisions will be postponed until elections are held (see LIBYA: Transition offers business risks and rewards - October 19, 2011).
2. Egypt. The economy will face significant hurdles in 2012 as political turbulence continues. Growth will be meagre, undermined by the absence of an elected government and a clear economic policy. Egypt's most immediate problem will be accessing short-term financing to cover the budget deficit and shore up the currency. Six billion dollars worth of treasury bill holdings were sold by foreign investors in the first half of 2011, while the rising budget deficit caused a downgrade by credit rating agencies in October. This threatens to increase the cost of borrowing and has pushed the government to reconsider IMF assistance, despite rejecting such a loan in June after a public outcry. A new deal would reassure foreign investors and bring some stability to the market. It would also bring a gradual improvement in Egypt's external account. This will also be helped by a gradual increase in remittances in the latter part of 2012 as the 1.5 million expatriate workers who were employed in Libya return there or find employment in labour-intensive programmes in Gulf Cooperation Council (GCC) countries. Given the slow progress of the political transition, the direction of economic policy will remain uncertain for some time. The most likely outcome of forthcoming parliamentary elections is a governing coalition including the Islamist-dominated Freedom and Justice Party (FJP). While the FJP's economic policies have not yet been agreed, it can be expected to work hard to accommodate all disparate views without losing the country's competitiveness. The new government will also be extremely cautious regarding IMF-recommended public-private partnerships, which can be expensive and spark public opposition. Confidence will only slowly return when the military withdraws from politics and a new government is established. This will reassure activists that their social aims are being realised and that money is not being wasted servicing debt on unfavourable terms to foreign institutions. 3. Tunisia. Tunisia's new government, dominated by the moderate Islamic party al-Nahda, will continue to work hard to show its commitment to a pragmatic economic policy and is likely to open the economy still further by liberalising the investment code to increase foreign investment (see TUNISIA: Elections boost regional democracy October 25, 2011). This policy is unlikely to threaten social cohesion as the government is aware of the need to increase spending on social welfare programmes to stave off future unrest. Increased expenditure will be partly funded through the dismantling of the internal security service and tackling corruption. Fear of political uncertainties means growth will remain subdued for much of 2012, compounded by a low growth forecast for Tunisia's major trading partners, France and Italy in 2012. Growth will slowly pick up towards the third quarter backed by a marked recovery in tourism in response to price cuts in the sector and improved political stability across North Africa. There will also be a gradual return of foreign investment, encouraged by government reforms and the tackling of corruption which acts as an additional tax upon investors, and is associated with higher levels of regulation and red tape. Tunisia's new government will adopt pragmatic policies towards foreign investment Political instability is prolonging Egypt's economic turmoil
Conflict countries A negative economic outlook is expected in those countries that run the risk of civil war, as internal conflict stalls growth and investment: 1. Syria. The ongoing uprising will combine with tighter international sanctions to damage economic activity and investor confidence. Growth will shrink to less than 1% and Syria may enter recession by the end of 2012. Opposition activity will be boosted by youth unemployment, which is high even by regional standards (see SYRIA: Uprising takes heavy toll on economy - November 14, 2011). The Gulf states and Turkey have significant leverage over Damascus, both through their roles as major foreign investors, and the latter through its close trade links and control over the Euphrates river, water from which is crucial for Syria's agriculture output. The business community will be increasingly restive as the economy slows down or contracts, but with its interests historically closely allied with the government, it will be nervous of switching support to the opposition. 2. Yemen. Serious political turmoil will cause further deterioration in Yemen's fragile economy. The deterioration in security will cause a continuing decline in economic output and foreign investment, which is predominately in industry. This will be compounded by the possibility of a separatist conflict erupting in the south, where most of the oil production is based. Already the region's most water- and food-vulnerable country, continuing high food prices and water scarcity will make Yemen vulnerable to further political unrest.
Outlook Consumer confidence will be sustained in the Gulf states, especially the UAE, Qatar and Saudi Arabia, if high oil prices weather the global slowdown. Strong spending by their governments will have a positive spill-over effect on the rest of the MENA region, which will see rises in investment and remittances. Growth in labour-intensive sectors such as housing construction in Saudi Arabia will go some way towards maintaining remittances and so alleviating pressure on the external accounts of the non-oil producing economies.
However, a substantial drop in oil prices in the wake of a worsening of the global economic crisis would present serious problems for Gulf countries and the Arab economies that are linked to them. GCC governments are now locked into higher spending levels, leaving them much less room for driving growth and providing ad hoc patronage. These higher spending levels are making the Gulf regimes much more sensitive to oil price gyrations (see GULF STATES: Long-term fiscal sustainability in doubt - September 21, 2011). The longer-term economic impact of the uprisings will become clearer as Islamistdominated governments in Egypt, Libya and Tunisia take power and start to draw up policies to tackle the economic and social issues that motivated the uprisings in the first place.
The regional outlook is dependent on the impact of the global recession on world oil prices
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Turkey
Prospects for Turkish politics and economy in 2012

Friday, November 11 2011 An Oxford Analytica Prospect Prime Minister Recep Tayyip Erdogan and his conservative Justice and Development Party (AKP) face an escalating Kurdish nationalist insurgency. The economy continued to grow in 2011, but the challenge of a rising current account deficit remains. Capital inflows have become hesitant and the lira is weak. On the foreign policy front, Turkey looks set to moderate its efforts to project itself as a Muslim world leader. What next With no elections until 2014 and an absolute majority in parliament, Erdogan has a relatively free hand in dealing with the Kurdish issue. He will continue to simultaneously confront the militant and political wings of Kurdish nationalism. The economy can be expected to achieve relatively sluggish GDP growth of 2-4% amid intermittent exchange rate, interest rate and price volatility. However, much depends on international conditions. Trade will remain the foreign policy priority, ensuring little change in external relations. Analysis Erdogan has succeeded in taming the army, the judiciary and a large part of the media. With few effective blocks on its power, his government has increasingly abused the judicial process by indefinitely detaining its opponents, notably secularists and Kurdish nationalists. An all-party commission will discuss the text of a new and more liberal constitution designed to address Kurdish grievances. However, the lack of common ground between Kurdish nationalist and Turkish nationalist parliamentarians means an agreement is unlikely. The AKP would then produce its own draft, the discussion of which would dominate the political agenda (see TURKEY: Kurdish stalemate will escalate violence - October 24, 2011). The coming year will show whether President Abdullah Gul's seemingly more liberal and inclusive approach heralds the start of a disagreement with the prime minister. An ally and co-founder of the AKP, Gul could thwart Erdogan's ambitions to succeed him by stepping down in 2012 and running for a second term. Erdogan owes his popularity to the steady rise in living standards under his rule. Political threats to his premiership will develop if economic growth stalls. Traditional alliances Trade and the need to contain the Kurdish insurgency will determine foreign policy. Traditional links with the United States and EU will improve. France and Germany's offer of a privileged partnership will be acted upon in practice, while being rejected in theory. EU membership will be indefinitely postponed. Tension with Israel will ease as Erdogan scales back efforts to project Turkey as a leader of the Muslim world.
Turkey's President Abdullah Gul receives Prime Minister Tayyip Erdogan at the Presidential Palace of Cankaya in Ankara. (REUTERS)
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Kurdish militants will increase efforts to carry out attacks in the south east and major cities. Ties with the EU and United States will improve, while Turkey will avoid direct intervention in Syria. Financial markets will remain volatile, but the economy will continue to offer longer-term business opportunities. Job creation may fail to keep pace with population growth, keeping unemployment above 10%.
Ankara's functional cooperation with the EU will not be affected by Erdogan's refusal to contemplate any concessions to Greek Cypriots on reunification. Turkish efforts to become the main conduit for the westward shipment of Azerbaijani oil and gas will continue to preclude any improvement of relations with Armenia. The mutually profitable relationship with Russia will continue, in spite of Russia's tendency to side with the Greek Cypriots and the Armenians. Regional outreach Turkey has failed to benefit tangibly from its efforts to become a major power in the Middle East and the wider Muslim world (see TURKEY: Trade interests keep regional alliances safe - September 19, 2011). This policy, and the confrontation with Israel which it entailed, will not be abandoned openly, but Turkey will now play a more careful hand in regional politics. Closer relations with Iraq's Kurdish region will be cultivated in an attempt to contain the PKK insurgents based there. Turkey will continue to cooperate with the United States in keeping Iraq stable after the departure of US troops. Tension with Israel will gradually ease although Erdogan will continue to present himself as a champion of Palestinian rights. Turkey will continue to offer facilities to the Syrian opposition, but will avoid direct intervention. Ankara will try to avoid an open break with Tehran despite the latter's opposition to Turkey's stance on Syria, and to its hosting of the NATO anti-missile defensive shield. Economic slowdown Year-on-year GDP growth is likely to have slowed in the second half of 2011 from 11.6% in the first quarter and 8.8% in the second, and annual growth could work out at 7-8%. Global risk appetite has been hesitant since August, drawing attention to Turkey's large external financing needs, which stem from its large structural trade and current account deficits as well as significant private sector foreign debt. There have been interruptions to capital inflows, which have exacerbated the weakness of the lira, put pressure on prices and raised the possibility of higher interest rates and slower credit growth. Insufficient external finance, or the threat of it, look set to continue to constrain investment and consumption until and unless the global economy and European sovereign debt crisis show stronger signs of improvement. Global economic turbulence will affect the availability of external finance
Fiscal and monetary policy The government will avoid excessive spending and will have no deficit or debt problems. Unless there is a recession, the budget deficit is unlikely to rise above 2-3% of GDP, even assuming that tax revenues grow slowly and privatisation efforts are largely unsuccessful.
Legislation may be adopted to broaden the income tax net and address labour market issues. Attempts may also be made to use industrial policy to curb imports by boosting domestic production of key items (see TURKEY: Policy shift increases protectionism risk - October 10, 2011). The Central Bank will continue to adjust reserve ratios and overnight rates, and intervene in the markets in an effort to reconcile its multiple aims of supporting economic activity, maintaining financial stability, stabilising the lira and reducing inflation. It will be reluctant to raise its main policy rate -- the one-week repo lending rate, currently standing at 5.75% (see TURKEY: Growth is policy priority amid global turmoil - August 15, 2011). Currency weakness The lira briefly reached 1.90 to the US dollar in October before recovering to about 1.75. Given the large current account deficit and the likely reduction in capital inflows, the lira is likely to experience further volatility and weakness. Government bond yields rose recently to around 10% and are likely to be higher in 2012 than in 2011, together with interest rates. Consumer price inflation should decline from a disappointing 8-9% at the end of 2011, but is likely to remain above the year-end target of 5% due to the weak lira, the continuing impact of high commodity prices and the authorities' focus on maintaining growth. External balances Turkey is running one of the largest current account deficits in the world. For 2011, the deficit is likely to work out at over 75 billion dollars or about 10% of GDP. Lower domestic demand and slightly lower oil prices may temper the import bill, while revenues from exports and tourism should hold up, aided by a weaker lira. Assuming some use of official and/or privately-held foreign exchange reserves, it may be possible to finance a current account deficit of 6-8% of GDP.
The authorities will use monetary policy to support growth, but exchange rates and inflation will also require attention.
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Iran
Prospects for Iran's politics and economy in 2012

Wednesday, November 2 2011 An Oxford Analytica Prospect With parliamentary elections scheduled for March 2012, domestic politics will dominate Iran's agenda, making any flexibility on the nuclear issue unlikely. President Mahmoud Ahmadi-Nejad has survived a six-month power struggle with Supreme Leader Ayatollah Ali Khamenei, but a high-profile banking scandal could reverse his fortunes. Externally, Iran faces escalating pressure from the fall-out of the alleged Qods Force plot to assassinate the Saudi ambassador to Washington, while the imminent withdrawal of US forces from Iraq presents Tehran with a strategic opportunity. What next Preoccupation with the election will make a restart of nuclear negotiations unlikely until early summer, with little progress achievable until presidential elections in 2013. Tehran is more concerned with maintaining current policies in the face of factional infighting. A tightening of sanctions in the wake of the alleged plot against the Saudi ambassador will fail to bring about a change in Iran's nuclear policy. However, it could seriously affect its oil production output, which is already on a downward spiral. As US forces withdraw from Iraq and plan a naval build-up in the Gulf, Iran will seek to strengthen its own influence in the region. Analysis Parliamentary election in March -- the first poll since the disputed presidential vote of 2009 -- will be a key test of the government's legitimacy. The Guardian Council will vet candidates to ensure the opposition Green Movement remains sidelined. Candidates openly running on a reform platform will be marginalised, with a few acceptable reformist candidates allowed to run to give the impression of political diversity. Meanwhile, the government's conservative factions will vie to put their own candidates on the lists. The absence of real variety in their agendas raises the risk of low voter turnout. However, some candidates may informally support the reformist agenda and could prevent a sweeping victory for the conservatives by rallying voters in provinces that seek an alternative government (see PROSPECTS 2011 Q4: Iran - September 5, 2011). Presidential survival Ahmadi-Nejad will continue to avoid impeachment, but his powers will be severely limited. There will be further friction with his clerical opponents who will use parliamentary questioning, and the fallout from a 2.6 billion dollar bank fraud scandal to maintain pressure on his camp. The campaign against the president could escalate, particularly following Khamenei's threat to remove the post of elected president entirely. Ahmadi-Nejad and his equally controversial chief of staff, Rahim Mashaie, will attempt to gain the vote of the poor and the youth with their anti-clerical 'nationalist-apocalyptic' ideology. This has gained them the label of 'Deviants' from the main opposition camp which promotes a return to the revolutionary principals of the Islamic Republic's founder Ayatollah Ruhollah Khomeini (see IRAN: Conservative infighting set to continue - August 10, 2011).
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Parliamentary elections in March will dominate Iran's agenda, eclipsing progress on the nuclear issue and other strategic areas. Iran's revenues will grow in the short term, even as sanctions cut into its oil production levels. In the wake of the US troop withdrawal from Iraq, Tehran will seek to construct an economic and military bloc connecting Iran, Iraq and Syria.
The election may offer an opportunity for Khamenei to clamp down on Ahmadi-Nejad's costly adventurism while reducing the toxic political infighting. The real test will be his use of political capital in the 2013 presidential election to ensure Ahmadi-Nejad's successor is a more emollient politician both domestically and internationally. Subsidy reforms Indicators for economic growth in 2012 are mixed. Inflation is set to rise and oil production drop. However, annual oil income is projected to break all previous records in 2012, while the IMF expects real GDP growth to rise by 3.4%, up from 2.5% in 2011. The higher growth rate is partly the result of a successful subsidy reform programme that transferred 10-15 billion dollars to projects reducing energy consumption. The IMF's growth projection excludes the unremitting drop in oil production output and has been publicly disputed in the US media, where Iran's actual growth was predicted to be nearer 2.5%. Inflation is set to rise less steeply in 2012, dropping to 10% from a projected average of 20.5% for year-end 2011. The Central Bank of Iran has been able to contain inflation in the wake of the subsidy reform programme, which has helped cut domestic petrol consumption from 56 million litres per day to under 48 million litres. Structural issues The economy will face intensifying structural problems as demands for employment and housing increase. With only 25% of the 74 million population working, unemployment will remain around 14% despite government attempts to stimulate growth via cheap loans for housing construction. The government's move toward increased private bank ownership will continue, creating further rises in the equities market, and increasing the viability of the Tehran Stock Exchange (TSE). Hydrocarbons sector With sanctions drastically cutting into direct foreign investment, Iran's oil production output is falling at a rate of over 50,000 barrels a month to 3.5 million barrels per day (bpd) in October 2011 (down from 3.71 million bpd in 2010). This exceeds earlier projections anticipating lows of 3.1 million bpd by 2016. On the current trajectory, production will instead hit this level by the end of 2012. Without investment in modern recovery technology, Iran will continue to depend on gas re-injection to boost output from its aging fields, retaining its position as the largest Middle East user of natural gas for enhanced oil recovery. Oil revenues are nevertheless set to reach 100 billion dollars for 2011, a jump of 37% over the same period last year. They will top 26 billion dollars in the first quarter of 2012. However, sanctions will create increasing difficulties for the industry by:
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Khamenei will ensure Ahmadi-Nejad's successor is more pliant
The economy will fail to provide the jobs and housing the population needs
restricting fund transfers from buyers; deterring tanker companies from calling at Iranian ports; and preventing foreign companies taking part in projects to boost investment in hydrocarbons infrastructure.
Regional influence Iran will watch closely as Washington withdraws its forces from Iraq, and floats plans to boost its military presence in the Gulf. Increased Iranian influence inside Iraq is likely, with Foreign Minister Ali Akbar Salehi predicting Iran will be ready to train Iraqi military forces and exchange intelligence information. However, its influence will be limited due to a wary government and populace, and the stronger US military presence in the Gulf. Tehran will seek to counter the dramatic weakening of its regional influence in the wake of the Arab uprisings. Economic and military cooperation between Iran, Iraq and Syria will strengthen. Tensions with Saudi Arabia will escalate further as hardliners gain influence in both Tehran and Riyadh following the alleged assassination plot (see IRAN/SAUDI ARABIA: Iranian 'plot' stokes tensions - October 12, 2011). Saudi Arabia will seek to bolster its security partnership with the United States in the Gulf, and could also make moves to acquire its own nuclear weapons as international talks on Iran's own nuclear programme fail to advance (see IRAN: Tougher sanctions will not shift nuclear policy - October 31, 2011). Iran will seek to counter its decline in regional influence by stepping up cooperation with Iraq and Syria
Prospects 2012: United States

The course of the European crisis, and whether the housing market 'bottoms out', will be crucial signals of direction both for the economy and the political contest between President Barrack Obama and Republican Mitt Romney.
Page 36 Prospects 2012: United States
US politics

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Romney is likely to be the Republican presidential standard-bearer, but Perry could still upset party insiders' calculations. The euro crisis is a political wild card; it will hurt Obama if it leads to recession, but Romney might be undercut by another banking crisis. Foreign policy will remain an afterthought; to the limited extent that the public focuses on the military and security, it will benefit Obama politically. There could be further political posturing against China on trade, but there will be no policy change.
US economy

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Market sentiment on US prospects is so bleak that even slow growth next year could surprise on the upside. The course of the European crisis, and whether the housing market 'bottoms out', will be crucial signals of direction. The Fed will not consider raising interest rates until monthly job creation exceeds 250,000 for three consecutive months.
US Asia policy

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Relations between the United States and Japan could be rocky if opposition to the TPP brings down the Noda government. Obama's approach to free trade will become a more important campaign issue than renminbi valuation -- slowing negotiations on the TPP. If Burma continues moves toward reform, the Obama administration will respond positively but will not ease sanctions until 2013 (at the earliest). North Korea remains a concern, but the administration will continue to move slowly on a return to multilateral nuclear talks.
US Middle East policy

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Iran will suffer a heavier strategic blow than Washington due to the Arab uprisings. Washington will continue to be less dependent on the region as a source of oil. US concern about Islamist parties or governments will lessen.
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North America
United States
Prospects for US politics in 2012

Wednesday, November 2 2011 An Oxford Analytica Prospect Major domestic policy issues will be parked until after the presidential election in November 2012, undercutting market confidence and strengthening the media trope of government 'dysfunctionality' common in 2011. Yet federal authorities remain capable of responding with alacrity to any systemic risks emerging from the euro-area or elsewhere; the political system, while heavily polarised, remains far more resilient and effective in addressing genuine crises than commonly understood. Political debate during the election season will revolve around the best means to reduce joblessness and execute the near-universally acknowledged need for a medium-term fiscal consolidation plan -- indeed, the primary struggle between Republicans and Democrats will be on the balance between revenue increases and budget cuts. Increasing income and wealth inequality, highlighted by the 'Occupy Wall Street' movement in 2011, will play a role in this debate. What next There are two likely political scenarios in 2012, leading to similar policy outcomes. In the first, President Barack Obama is re-elected alongside a Republican House and a closely divided Senate -- opening the door for a deal on fiscal consolidation in 2013. In the second case, a new Republican president (almost certainly former Massachusetts Governor Mitt Romney) enters office with Republican majorities in both chambers of Congress. The result is again fiscal reform, but with larger cuts in current spending and entitlements, and smaller revenue increases. Analysis Politics, rather than policy, will be the watchword in 2012 -- but critical policy changes, particularly the pace and nature of fiscal consolidation and reform in 2013, depend on the outcome of the political clash.
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Republican presidential candidate Mitt Romney is seen at a town hall meeting campaign stop in Manchester, New Hampshire. (REUTERS\Brian Snyder)
Strategic summary
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Romney is likely to be the Republican presidential standard-bearer, but Perry could still upset party insiders' calculations. The euro crisis is a political wild card; it will hurt Obama if it leads to recession, but Romney might be undercut by another banking crisis. Foreign policy will remain an afterthought; to the limited extent that the public focuses on the military and security, it will benefit Obama politically. There could be further political posturing against China on trade, but there will be no policy change.
Obama's strategy The president will begin 2012 with public approval ratings of some 40-45% -- a weak but not critical condition. His chief vulnerability remains the economy in general and consistently high levels of unemployment in particular, which could cost him support in Mid-western 'swing states' in November:
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The best-case scenario for the White House would see the economy recover in 2012 to something close to trend (just under 3.0%) growth. In the worst-case scenario, unemployment rates would remain steady at around 9.0%, or even rise -- in which case Obama's re-election bid would fail.
The president's frustration is that he has relatively little influence over these matters: serious remedial fiscal policy measures will be blocked by Congress, monetary policy is under the command of the Federal Reserve, and the international outlook will be shaped mainly by the euro-area crisis.
In these circumstances, Obama seems determined to pursue two distinctive strategies simultaneously:
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'Above politics'. The first is the classic re-election model of presenting himself as above politics, appealing to centrist voters, and dismissing his opponents as inexperienced and divisive. To an extent, such a strategy requires the president to distance himself tacitly from his own party activists, as former President Bill Clinton did in 1996. Against 'vested interests'. By contrast, the second strand involves the president making a very partisan pitch in which he paints himself as fighting against vested interests -- notably the wealthy and institutions dominated by them -- in order to motivate his core supporters to vote.
Articulating both messages credibly will be challenging (see UNITED STATES: ObamaCarter comparisons are imperfect - September 14, 2011). Republican nomination battle The pre-election year contest for the Republican nomination has been colourful. Expected contenders declined to run, others have been courted but have declined, and one new entrant (Texas Governor Rick Perry) had a meteoric rise and fall. However, the Republican establishment appears to be closing ranks behind Romney, on the grounds that he would be the strongest candidate against Obama. Romney's advantages are considerable but frequently overstated. Having been overhyped on his entry to the race, Perry may have been buried too swiftly by the media. The money he has raised and his status as the sole 'southern candidate' still count in his favour. The crucial early part of the Republican caucus and primary calendar in 2012 is not especially favourable to Romney. He does not (for now) seem to think it worth forcefully fighting the Iowa caucus (dominated by ideologically committed Republican activists), and a 'tea party' contender seems likely to win there. Romney should take the New Hampshire primary comfortably and win the relatively insignificant Nevada caucus, but may struggle in the historically pivotal South Carolina primary. If Perry wins there, he may be able to capture enough support in other southern contests to keep the contest alive through March (see UNITED STATES: Conservatives key to Romney-Perry fight October 27, 2011). While Romney is likely to emerge as the victor once North-eastern and Pacific coast states come into play, the longer that Perry remains in the race, the more likely it is that Romney will make concessions to conservatives on key policy issues. Obama vs Romney In the general election, much depends on the extent to which the economy (especially unemployment) is perceived as the dominant issue -- and whether Romney can keep the Republican message focused on jobs rather than be distracted by issues of concern to party activists, such as dismantling federal government structures or championing social conservatism. If unemployment remains high, the Republican campaign is disciplined, and the Democrats fail to undermine Romney's record as a business executive, then the Obama campaign may find it impossible both to motivate disillusioned 2008 supporters and to secure enough of the centre ground to win.
Congressional elections Although they will be overshadowed by the presidential contest, elections for the whole of the House of Representatives and more than one-third of the Senate will be pivotal to policy reform in 2013. Congress's poll standing is at record lows, and the public seems contemptuous of both political parties. A dramatic shift in House seats is unlikely. Even if the president were re-elected comfortably, the Republican caucus in the House would be unlikely to shrink by more than 10-15 seats. On the other hand, even a sizeable Republican victory in the race for the White House is unlikely to see a net advance of more than a handful of seats. The most likely result is that Republicans will retain their majority in the House until at least 2015. The Senate is closely balanced, with the Democrats currently holding a 53-47 seat advantage. An accident of electoral timing means that Democratic incumbents presently hold two-thirds of the Senate seats facing election in 2012, and only two Republicans seem at any risk of defeat. Therefore, even if Obama wins, the Democrats would do well to hold the Senate with a 51-49 or 50-50 margin (depending for control on the vice-president's casting vote). If the Republicans take the White House, the party will also reclaim the Senate, although perhaps with a modest majority of 50 to 53 seats.
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Prospects for the US economy in 2012

Tuesday, November 8 2011 An Oxford Analytica Prospect Although it has been more than two years since the official end of the recession of 2008-09, economic recovery remains decidedly subpar. Conditions are likely to remain challenging in 2012, but the US economy should experience moderate growth led by business investment spending and a gradual revival of the real estate sector. As the largest economy in the world, the United States sets the tone for global economic growth. If it can post positive -- albeit unspectacular -- growth in 2012, the risks of a pervasive global slowdown will be reduced. If it succumbs to serious headwinds and experiences a 'double dip', the world economy is almost certain to experience its second major recession in four years. What next Consumer spending is likely to remain subpar in 2012, but investment spending is holding up well and should help set the stage for at least moderate growth of 2.502.75% for the year. If housing activity finally gets back on its feet after six years of recessionary conditions, the US economy could experience growth of 3% or more. However, the critical downside risk is that slower growth or financial turmoil in the euroarea could hurt exports and confidence -- and even lead to renewed recession. Analysis Normal revisions to US GDP data in July showed that the recession of 2008-09 was deeper than previously thought. Real GDP increased at an annual rate of just 0.4% in the first quarter of 2011 and 1.3% in the second quarter, before showing more acceptable 2.5% growth in the third quarter.
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A customer exits the Apple store with his new iPhone 4S in New York (REUTERS/Brendan McDermid)
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Market sentiment on US prospects is so bleak that even slow growth next year could surprise on the upside. The course of the European crisis, and whether the housing market 'bottoms out', will be crucial signals of direction. The Fed will not consider raising interest rates until monthly job creation exceeds 250,000 for three consecutive months.
This uneven growth reflects several cross currents. On the positive side, strong corporate cash positions have boosted investment spending and the record low dollar has enhanced the international competitiveness of US firms, lifting exports. On the negative side, a series of internal and external factors have buffeted the US economy:
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High oil prices. In the wake of the Arab uprisings and the loss of Libyan oil production last winter, oil prices surged by more than 50% to 115 dollars per barrel. As a result, real disposable income growth essentially vanished. In fact, as oil prices shot up from December 2010 through May 2011, real disposable income -- which previously had been posting healthy gains of about 3.5% year on year -- stagnated. Continued deleveraging. While households have made significant improvements to their balance sheets, and monthly debt servicing obligations are slowly returning to a manageable range, the deleveraging cycle continues to hamper consumer spending. Debt ceiling debate. The political fiasco during the US debt ceiling debate in late July, and the subsequent downgrade of US Treasury securities by Standard and Poor's sent a shockwave through the financial markets and badly depressed consumer confidence
As a result, US real GDP growth in 2011 is likely to about 1.75-2.00%, well below the 30-year average of 3.1% annual growth. 2012 economic outlook Continued downward pressure from multiple headwinds is likely to constrain economic expansion in 2012, but these should slowly dissipate over the course of the year: Consumption Consumer spending should continue to improve as long as oil prices do not rise further. There is significant pent up demand for automobiles, appliances and other goods that should support sustained increases in consumption in 2012. However, households still need to rebuild their savings, so consumption is not likely to be leading source of growth during the year. Business investment Investment spending is likely to remain a key engine of economic growth. Corporate balance sheets remain flush and US firms have always been among the most aggressive spenders in the industrial world on new technology, which they regard as critical to remaining competitive and efficient. There is also evidence of a turnaround in investment in non-residential structures (including office buildings, plants, and retail space) that should sustain growth. Headwinds to economic expansion are likely to dissipate
Construction Residential construction is likely to experience a modest rebound in 2012. Housing affordability is at an all-time high and the inventory overhang of unsold houses (including foreclosures) is being cleared out somewhat faster than many observers realise. The key to a rebound will be a growing perception that property prices have hit bottom, which they have in a growing number of cities. Public sector spending Government spending has been an important drain on economic activity in 2011 and is likely to remain weak in 2012. State and local government spending, in particular, is weak and is unlikely to turn around. Trade Exports are likely to show slower growth in 2012 as growth in Europe and Asia softens (see PROSPECTS 2012: Global economy - October 31, 2011). Nevertheless, the weak dollar should allow US firms to continue to gain international market share.
Jobs Employment should accelerate in 2012, as overall economic growth firms. Key sectors for job growth are likely to be construction, business and professional services, and healthcare. Prices Inflation was 3.9% in the past twelve months. Some moderation is likely in 2012 once the anniversary of the Arab uprisings is reached and year-on-year comparisons look more favourable. However, 'core inflation' (excluding food and energy costs) recently increased from historical lows to 2% year-on-year, and could drift up a few tenths of a point in 2012. Overall, US real GDP growth is likely to be under 3% in 2012. Growth in this range is consistent with unemployment remaining 8-9%. Contingent factors However, there are contingent factors that could influence this economic forecast. The deleveraging cycle is not over. However, with interest rates likely to remain low through 2012, deleveraging effects will gradually dissipate, bolstering consumer demand. Nevertheless, default or lingering uncertainty in Europe would shake global confidence, negatively impact some US banks, and hurt equity valuations. The US economy would not likely suffer a blow similar to the 2008 crisis from events in Europe, but would suffer significant damage. Political gridlock and the presidential election will have a significant impact (see PROSPECTS 2012: US politics - November 2, 2011). The White House and congressional Republicans appear to be at an impasse on two important issues: a significant further debt reduction package (beyond the 'debt ceiling' deal), and a comprehensive stimulus package that might boost employment in 2012. President Barack Obama's request to increase spending on infrastructure improvement projects and the hiring of teachers and fire fighters was recently voted down by the Senate. Given the current political climate in Washington, the odds of action are low. The latest flow of funds data show that corporate cash levels reached a new record of 2.1 trillion dollars in the second quarter of 2011, up from 1.9 trillion dollars in the first quarter. This cash hoarding is mostly due to low demand, but it also reflects business uncertainty. Corporations tend to stockpile cash more than usual in competitive election years, which could be a retardant for capital spending in 2012. Several contingent downside risks could affect this forecast
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Prospects for US Asia policy in 2012

Monday, November 21 2011 An Oxford Analytica Prospect President Barack Obama and Secretary of State Hillary Clinton in 2011 advanced the administration's effort to 'pivot' US foreign policy from a focus on the Middle East to a greater economic and strategic emphasis on Asia. Their policies project a vigorous US diplomatic push, but political dynamics -- in the United States, China, Taiwan and Japan -- could complicate, if not derail, the administration's timetable. In strategic terms, US Asia policy in 2012 will be high risk, but have the potential for significant gains. What next The administration will attempt to bring negotiations on US involvement in the TransPacific Partnership (TPP) -- potentially the world's largest trade bloc -- to a legal conclusion (though formal agreement remains far off). Meanwhile, it will take firmer positions on trade and security issues with China while avoiding a major bilateral clash; a balancing effort that is likely to succeed -- although a victory by the opposition in Taiwan would be a destabilising contingency. Analysis Critical to an expanded role for the United States in the Asia-Pacific region is US involvement in the region's economic and security architecture:
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US President Barack Obama speaks at the Asia Pacific Economic Cooperation meeting in Honolulu, Hawaii.(REUTERS\Larry Downing)
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Relations between the United States and Japan could be rocky if opposition to the TPP brings down the Noda government. Obama's approach to free trade will become a more important campaign issue than renminbi valuation -slowing negotiations on the TPP. If Burma continues moves toward reform, the Obama administration will respond positively but will not ease sanctions until 2013 (at the earliest). North Korea remains a concern, but the administration will continue to move slowly on a return to multilateral nuclear talks.
To that end, the Asia Pacific Economic Cooperation (APEC) meeting in Honolulu in November 2011 presented the framework for a nine-country TPP (including Japan and Canada) -- which could eventually become the world's largest free-trade bloc. On the security side, Obama's announcement in Australia that 2,500 US Marines would rotate through Darwin on a six-month basis was a tangible step toward the US Pacific Command's long-term hopes of building 'flexible basing' arrangements with Asian security partners.
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Lastly, strong language from Washington on the need for a China-ASEAN Code of Conduct on the South China Sea has tied the United States to an institutional solution to competing claims and China's increasing assertiveness.
Predictably, Beijing's reacted to these developments by accusing the United States of attempting to 'encircle' China. Managing these bilateral tensions in 2012, in the context of a US election year and China's leadership transition, will be critical to the success or failure of the administration's regional agenda. Political transition challenges In 2012, US-China tensions will play out in an uncertain political environment, marked by three political transitions. US election
The United States will take a firmer line on security and trade with China -- but avoid major clashes
Obama's re-election chances are in doubt; the state of the economy will be the overriding campaign issue. Although the president will resist pressure from Congress to sanction China for numerous economic complaints -- ranging from an allegedly undervalued renminbi to violation of US intellectual property -- he has criticised China for not "playing by the rules". The most plausible Republican presidential nominee, Mitt Romney, has promised that he would sanction China on the currency issue, a vow likely to be abandoned if he wins office. New Chinese leadership During China's 18th Party Congress in the autumn, President Hu Jintao and Premier Wen Jiabao will be replaced by Xi Jinping and Li Keqiang, respectively; Xi and Li will assume their new positions in March 2013 (see PROSPECTS 2012: China's politics November 7, 2011). Despite apparent policy continuity, China's top leadership has become increasingly collective, and thus somewhat less predictable. External developments can have a greater impact on Chinese domestic politics. For example, while Beijing's official position is to oppose the TPP, the prospect of Japan's entry has sparked quiet debate over whether China should also join. Taiwan elections Polls show President Ma Ying-jeou and Democratic Progressive Party (DPP) candidate Tsai Ing-wen in a dead heat. Given progress in cross-Straits relations since Ma was elected in 2008, his re-election would reassure Beijing. A DPP victory would risk returning cross-Strait relations to the fractious 2000-08 era. This would put Washington in a difficult position, not least because the House Foreign Affairs Committee has moved on two bills to strengthen US-Taiwan security relations. Japanese trade and security friction These political transitions will complicate Obama's attempts to strengthen US trade with Asia. Japanese Prime Minister Yoshihiko Noda's statement just prior to the APEC meeting indicating interest in entering the TPP was a vindication of Washington's regional trade strategy. However, since then, miscommunications between Washington and Tokyo have cast doubt on the prospects for early entry by Japan. US officials believe that Noda was definite about his intentions, while Tokyo insists that Noda's statement was provisional and dependent upon domestic support (see US/JAPAN: Trade talks will hinge on Japan's farmers - November 3, 2011). On the security side, the Pentagon has resumed its longstanding complaint that Japan has offered no solution to the Futenma base relocation issue, a perennial source of friction. In the wake of the US-Australia agreement, Washington fears that Japan could be left behind in future regional security configurations (see PROSPECTS 2012: Japan November 17, 2011). TPP talks slow as bilateral trade advances Yet Washington itself is likely to be most responsible for slowing TPP negotiations in 2012. To bring those talks to conclusion, Obama would antagonise key Democratic constituencies: a challenge he will avoid during an election year. Moreover, other TPP partners are unlikely to accede to US demands if they are not confident of the president's re-election. China's leaders operate increasingly on a collective basis -- and are thus less predictable
The prospects for increased trade with Asia are stronger on the bilateral side. President Lee Myung-bak's Grand National Party has the votes to ratify the US-South Korea free trade agreement by early 2012 (see SOUTH KOREA: FTA passage will spur further trade deals - November 15, 2011). In addition, trade deals signed in November 2011 between Washington and Jakarta will increase US exports to Indonesia by up to 39 billion dollars. US-ASEAN comity The thaw between the United States and Burma will strengthen US relations with the Association of Southeast Asian Nations (ASEAN) as a whole. Washington will not openly oppose ASEAN's decision to support Nyapyidaw's assumption of the group's chairmanship in 2014. In June 2012 Burma will also become the designated ASEAN liaison to the United States. Clinton's trip to Burma in December 2011 confirms the administration's willingness to reward the government for movement towards reform. At the same time, Obama has reaffirmed the longstanding US position of support for Aung Sang Suu Kyi and the National League for Democracy. In 2012, US policy toward Burma will be determined by Suu Kyi's preferred strategy. However, larger South-east Asian states fear that ASEAN's bargaining position vis-a-vis China will weaken over the next two years, due to the agendas of the states in the chair (Cambodia in 2012, Brunei in 2013, Burma in 2014). They believe that Phnom Penh will accede to Beijing's wishes on the South China Sea in 2012, undermining prospects for a multilateral Code of Conduct. Broader US relations with ASEAN could suffer as a result.
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Prospects for US Middle East policy in 2012

Monday, November 7 2011 An Oxford Analytica Prospect Next year marks the end of the decade following the September 11, 2001 attacks, ushering in a very different approach to US policy in the Middle East. Domestic politics, budgetary constraints and the upcoming US presidential election will shape policy; the 'Global War on Terrorism' and far-flung wars "to fight the terrorists there so we do not have to fight them here" are things of the past. Osama bin Laden's death, a distant goal for much of a decade, barely resonated more than a week in US politics -- reflecting the region's diminishing importance in US strategic and political terms. What next US Middle East policy in 2012 will be tactical and reactive in response to the 'Arab uprisings' and other contingencies; there will be no new strategic initiatives. Despite recent media coverage, a US or Israeli strike on Iran remains most unlikely, though Washington will work to constrain Tehran's regional influence in post-withdrawal Iraq. US-brokered Israeli-Palestinian talks will take place, but to no effect. Analysis A clear sign of the new US operating mode is the contrast between the way it battled Muammar al-Qadhafi in Libya, versus the way it fought Saddam Hussein in Iraq eight years ago. In Libya, there was a genuine coalition, no US ground troops, and no presumption that the Washington 'owns' the post-conflict environment. US Middle East policy in 2012 will be crafted in this altered environment, in which public attention to the region has waned, and dollars are in short supply. More attention will be paid to defining the minimum effort the United States is required to expend rather than the maximum Washington can achieve. Reactive responses The policy constraints are clear in the US response to political changes sweeping the Arab world. Events caught all by surprise, but the administration has been slow to move beyond declaring support for democratic protestors and urging more openness:
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U.S. President Barack Obama meets with King Abdullah of Saudi Arabia at the White House in Washington. (REUTERS\Larry Downing)
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Iran will suffer a heavier strategic blow than Washington due to the Arab uprisings. Washington will continue to be less dependent on the region as a source of oil. US concern about Islamist parties or governments will lessen.
In Egypt, a key ally, the Obama administration has promised to pursue 1 billion dollars in debt swaps, but Congress has not acted. In Tunisia, there has been even less substantive action. In Bahrain, where the US Fifth Fleet is headquartered, Washington has urged reconciliation between the ruling minority Sunni population and the Shia majority. However, Saudi support for the Sunnis has hamstrung US policy.
Much like the follow up to President Barack Obama's Cairo speech in June 2009, responses to the Arab uprisings have been tactical and reactive. Arguably, the United States has no choice, after overextension in Iraq and Afghanistan. Equally important is the widespread belief that the US future will not be determined in the Middle East. Resources and efforts expended there are being reduced accordingly. Iraq influence? Iraq is an example of reduced efforts. The withdrawal of US troops will leave the United States in 2012 with a huge embassy but limited influence, especially in an oil-rich state that needs no handouts. After huge expenditures -- not just on combat operations and reconstruction, but also the ongoing long-term care and pensions for hundreds of thousands of US soldiers who fought there -- Iraq is settling into its own equilibrium. A key question is whether the complete withdrawal of foreign troops will mean that violence diminishes, or induce neighbours to fight proxy wars on Iraqi soil (see US/IRAQ: Forced troop withdrawal risk rises - October 14, 2011). Iraq is unlikely to become a satellite of Iran. However, Iraq is not destined to be a model for the Arab world, as political dysfunction prevents basic governmental tasks from being accomplished. Containing Iran Consequently, Washington must seek to contain Iran without a strong base of support in the region. Iraq has little interest in buffering the region against Iranian depredations, and Gulf Cooperation Council (GCC) states are more distrustful of the United States. This distrust stems, in part, from its poor results in Iraq, but also what they see as US abandonment of allies during the Arab uprisings, equivocation on Iran, failure in Afghanistan, and ineffectiveness on Arab-Israeli peace efforts. Reassuring Riyadh Washington's relationship with Saudi Arabia is particularly fraught, with the Saudi leadership questioning US commitment and judgment. Should Crown Prince Nayef ascend to the throne, that problem is likely to become slightly, but not markedly, worse. Riyadh is likely to experience substantial political stability, and to continue reliably to produce oil, for the foreseeable future. The political challenge in Saudi Arabia, if it comes, is more likely to be a consequence of squabbling as leadership passes to the next generation, perhaps two kings from now. With troop drawdowns in Iraq and Afghanistan, Washington will need to decide in the coming year just how much force it needs in place in the Gulf to contain Iranian conventional forces. It is likely to choose a combination of an enhanced permanent presence and an ability to move forces to the area swiftly. Nuclear threat? A wholly separate question is how Washington can prevent Tehran from pursuing nuclear weapons capability -- which virtually all conclude the Iranians wish to maintain as an option. Effective diplomacy would probably need to await a shift in Iranian politics, if not a shift in Iranian leadership. Recent events suggest that the stumbling block is not Iran's high profile president, Mahmoud Ahmedi-Nejad, whose tenure is limited, but the more powerful and reclusive supreme leader, Ali Khamenei (see PROSPECTS 2012: Iran - November 2, 2011). The GCC states do not want US bases, but also do not want to live without them
Despite recent press reports, an Israeli strike against Iran remains unlikely. That is good for the United States, because few judge that such a strike would decisively end the Iranian programme (as Israel's 1982 strike ended the Iraqi programme). Iran would likely retaliate against soft US and allied targets, while redoubling efforts to build an actual nuclear device, which it does not currently possess. However, the lack of an Israeli strike puts a premium on the effectiveness of international diplomacy, which has shown limited efficacy in the last five years (see IRAN: Tougher sanctions will not shift nuclear policy - October 31, 2011). Arab-Israeli morass While preventing a nuclear Iran may be the most daunting prospect, the most frustrating may be the Arab-Israeli conflict. Prime Minister Binyamin Netanyahu and Palestinian Authority (PA) President Mahmoud Abbas have blocked the administration at every turn, defying Obama with impunity. Congressional Republicans seem determined to embarrass the president through full-throated support of Netanyahu, and sustaining US aid to the PA will prove an uphill battle. The quiet departure of Arab-Israeli peace negotiator George Mitchell, whom the president appointed with fanfare on his first day in office, is a sign not only that the president will not devote significant effort to the problem this year, but also that he has yet to figure out how he can successfully push the Israeli or Palestinian leaderships to move. Some sort of negotiations are likely to occur, if only because the administration judges that ineffectual talks are better than no talks -- but there is unlikely to be progress.
Prospects 2012: Europe

The euro-area financial crisis can no longer avoid a political solution, which will take the form of a change to the ECB's mandate and/or greater fiscal and political union. Recession is probable.
Page 50 Prospects 2012: Europe
EU politics

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Next year will be dominated by negotiations over EU treaty reform to move towards a closer political union, at least for the euro-area. Elections in Greece and France could change the dynamic of EU treaty and budget discussions. The 2014-20 budget round will pit member states against each other, and against the European Commission and Parliament. Croatia will join the EU in December, taking full membership to 28 countries.
Euro-area

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Euro-area growth will be between 0% and -2%. Italy and Spain risk losing access to capital markets. Without sufficient investment in the European Financial Stability Facility (EFSF), the euro-area will be unable to rescue Italy or Spain, if needed. Greece is economically relatively unimportant, but acts as the 'canary in the mine', having provoked euro-area leaders to mull expulsion for those violating club rules. Portugal's economic contraction may exceed that of Greece; it could require further rescue.
Germany

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Once global growth starts to revive, German expansion could quickly rebound to annual rates of 2.0-2.5%. Berlin's commitment to saving the euro is greater than its determination that the ECB refrain from acting as a 'lender of the last resort'. Germany has reduced its deficit to 1.1% of GDP this year; it is expected to fall to 0.7% in 2012 -- well below the Maastricht criteria.
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Weaker export growth will continue in 2012 and will worsen if the euro-area crisis is not resolved. Euro-area contagion could raise the cost of UK debt finance, since 25% of its debt is held abroad. Youth unemployment, now at 1 million, will rise and become a flashpoint of social unrest. Consumer spending will remain weak in 2012. A recession coupled with a weakening of the coalition government would almost certainly devalue the pound.
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If history is any indicator, whichever party wins the presidential election will also win the legislative elections. Hollande may struggle to hold together a left-wing coalition determined to reverse as many of Sarkozy's anti-crisis measures as possible. The economy is poised to stall in 2012 amid signs of a slowdown in the main industrialised countries.
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Growth in the CEE economies will slow significantly, after the stronger than expected growth of 2011. The slowdown's extent will be determined by developments in Western Europe, with CEE economies affected by real economic growth in Germany and other major economies, and the financial health of the Western banks that dominate the CEE banking sector. Economic slowdown will set back governments' attempts to bring down budget deficits, but it will also lead to lower inflation.
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While the EU's insistence on dialogue between Belgrade and Pristina may help, the stakes in Serb-inhabited north Kosovo are high and the risk of further violence significant. After five years of deepening political crisis and paralysis, and more than a year without a central government, resolving Bosnia's political and constitutional deadlock is as fraught with difficulty as ever. While prospects for EU integration appear good for Croatia and Montenegro, Greece's veto on Macedonia and political tensions in Albania will continue to undermine prospects for those two countries.
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Prospects for EU politics in 2012

Friday, November 25 2011 An Oxford Analytica Prospect Radical institutional changes are being prepared to meet the challenges of the euroarea crisis. German Chancellor Angela Merkel has identified the essential problems as political, requiring a political solution. In particular, the EU-17 member states will be asked to abandon fiscal sovereignty and submit to supervision of the national finances. Several are likely to seize the opportunity to push their own objectives as the price of accepting change. What next The continuing euro-area crisis will again take centre stage and little energy will be left for improving effectiveness in other areas, such as EU external policies. Treaty negotiations will cause further disruption, and could provide opportunities for Eurosceptic populists seeking to 'claw back' powers from Brussels. This will impinge on the start of negotiations on the budget framework for 2014-20, with member states less interested in European solidarity and more assertive of the national interest in a crisis. Analysis In addition to measures designed to improve euro-area economic governance (see PROSPECTS 2012: Euro-area - November 24, 2011), Merkel's Christian Democratic Union (CDU) has called for the creation of a separate chamber in the European Parliament (EP) for members from the euro-area countries (see PROSPECTS 2012: Germany - November 17, 2011). Thus, one of the key issues on the EU politics agenda in 2012 will be the relationship between those EU member states that are in the currency union and those that remain outside it, and the role the latter will be allowed to play in making decisions that shape the currency. Already UK Prime Minister David Cameron has argued that the ten countries outside the euro-area should be included when far-reaching decisions are taken. Resistance to treaty change Not all EU leaders agree with Merkel that EU treaty change is essential to 'solve' the euro-area debt crisis:
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German Chancellor Angela Merkel, French President Nicolas Sarkozy and Italian Prime Minister Mario Monti. (REUTERS/Michel Euler)
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Next year will be dominated by negotiations over EU treaty reform to move towards a closer political union, at least for the euro-area. Elections in Greece and France could change the dynamic of EU treaty and budget discussions. The 2014-20 budget round will pit member states against each other, and against the European Commission and Parliament Croatia will join the EU in December, taking full membership to 28 countries.
Not everyone agrees the answer is 'more Europe'
UK Prime Minster David Cameron has indicated that he is not in favour of treaty change; if negotiations were to start, the pressure from Conservative party backbenchers would be for rolling back EU powers (for instance, on the EU Working Time Directive) rather than increasing them, which would trigger demands for a UK referendum (see UNITED KINGDOM: EU vote weakens Conservatives - October 20, 2011). Dublin opposes a new treaty, but has suggested it might be easier for the Irish to vote for it in a referendum, if its euro partners agreed to reduce its debt.
In Germany, the CDU's sister party, the Christian Socialist Union (CSU), is reluctant to give the EU more power. Some of the opposition, such as that of Luxembourg Prime Minister Jean-Claude Junker (who also heads the euro-area finance ministers' Eurogroup), is based on objections to perceived Franco-German bullying.
Is treaty change necessary? Some initiatives that have been suggested -- such as more thorough peer-review of national budgets, more Eurostat monitoring or suspending the provision of EU funds -could be carried out without any revision to the treaty. Other proposals, such as extending the current system of fines, suspending the voting rights of profligate governments and creating a new institution to supervise budgets, probably would require treaty revision. EU budget Negotiations for the multiannual financial framework (MFF) for 2014-20 start in January and are expected to last at least until October. Given both the current economic context, and the bad feeling between richer northern and poorer southern states that has been one of its consequences, these negotiations will be more acerbic than usual: Contributor states Some member states, including the United Kingdom, Austria, Denmark, France, Germany, the Netherlands and Sweden, have already demanded very substantial reductions in spending on the salaries, pensions and benefits of EU staff as part of the next budget plan. When a 1.7% pay rise for EU civil servants was announced in November, this led to anger in those countries implementing austerity measures -- often at the European Commission's behest. Indeed, 15 member states wrote to the Commission warning that EU staff could not be immune from austerity elsewhere. Net recipients Poorer member states fear the cohesion funds will suffer. Although Commission proposals include a new 40 billion euro (53 billion dollar) 'connectivity' fund to build cross-border infrastructure projects, several diplomats from the newer member states suspect the fund will disproportionately benefit the older member states' high-speed rail and pipeline connections. There are signs of the emergence of an eastern bloc alongside the traditional Anglo-French divide that has characterised recent budget negotiations. Negotiation complications In addition to the difficult political and economic context, the negotiations for the next MFF are complicated by the inter-institutional implications stemming from the changes introduced in the Lisbon Treaty (see EUROPEAN UNION: Lisbon Treaty struggles to meet aims - December 1, 2010):
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Member states will conflict over structural aid budget
The Council of Ministers requires the EP's assent for the final decision. Although the assent procedure does not formally grant the EP power of amendment, it allows it to influence the debate by putting pressure on the Commission or even threatening the Council with a 'no' vote in order to obtain changes.
The 'no-agreement' option exacerbates the challenge of finding agreement, since the provision established that "where no Council regulation determining a new financial framework has been adopted by the end of the previous financial framework, the ceilings and other provisions corresponding to the last year of that framework shall be extended until such time as that act is adopted". There is a real possibility of this budget carry-over option being used, as member state governments might prefer it to having to defend what is perceived as a bad deal at home.
Contentious financial services legislation The Commission has proposed an extension of its Markets in Financial Instruments Directive (MiFID) to redress market abuse and volatile trades highlighted during the financial crisis. The new legislation intends to address 'dark pools' -- trades that are concealed from the public (see UNITED STATES: 'Dark pool' decline could ease scrutiny - October 6, 2011) -- and 'broker crossing' networks, which take business away from stock exchanges. Some observers have argued that the limited nature of the original MiFID directive was itself responsible for the emergence of these newer and less transparent forms of trading. The Commission hopes that the 'Tobin tax', which would tax financial transactions in the EU, will raise 57 billion euros annually in revenue (see INTERNATIONAL: 'Tobin tax' proposals face headwinds - October 5, 2011). Under the plan, all financial transactions in which at least one party is located in the EU would be liable for the tax. Both derivative contracts and trades in shares and bonds would be taxed at 0.1% from January 2014. Private citizens and non-financial institutions would be exempt form the regulation. The UK government opposes the tax, arguing that any financial tax must be imposed globally to avoid Europe being placed at a comparative disadvantage to other regions. UK opposition means the measure will almost certainly not go through. UK opposition will almost certainly sink 'Tobin tax'
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Political and economic prospects for euro-area in 2012

Thursday, November 24 2011 An Oxford Analytica Prospect With the euro-area heading into recession, several member states risk missing their fiscal consolidation targets in 2012 and beyond. Euro-area leaders are preparing to impose a regime of much tighter, centralised control over member states' public finances and fiscal policies, a trend that will be widely interpreted as Germany's price for underwriting bailouts and as a precursor of closer economic, monetary and even political union. What next The euro-area is approaching the moment when its financial crisis can no longer avoid a political solution, which may take the form of an official change to the ECB's mandate and/or greater fiscal and political union. The obstacles preclude any quick resolution but the pace will accelerate if Germany softens its stance. This would most likely arise were France to lose its AAA rating (thereby imperilling the AAA rating of the 'bailout fund') or if Germany's own economy suffers, with yesterday's disappointing bond auction a possible sign that investors are losing confidence in the country. Analysis The EU summit on December 9 is shaping up to be a battle of over the future governance of the euro-area. The key actors in these negotiations are:
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President Nicholas Sarkozy (REUTERS/Philippe Wojazer)
Strategic summary
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Euro-area growth will be between 0% and -2%. Italy and Spain risk losing access to capital markets. Without sufficient investment in the European Financial Stability Facility (EFSF), the euro-area will be unable to rescue Italy or Spain, if needed. Greece is economically relatively unimportant, but acts as the 'canary in the mine', having provoked euro-area leaders to mull expulsion for those violating club rules. Portugal's economic contraction may exceed that of Greece; it could require further rescue.
the German government and Bundesbank, which are more likely to budge on EU treaty change and eurobonds than they are on changing the ECB's mandate (see PROSPECTS 2012: Germany - November 17, 2011) and (see EURO-AREA: Politics will defy eurobond creation - September 1, 2011); the French government, whose desire to stay close to its German ally is under pressure from markets (see PROSPECTS 2012: France - November 21, 2011); and the European Commission, whose proposals yesterday on eurobonds and the erosion of member states' national sovereignty in favour of fiscal union risk a showdown.
Progress on advancing this agenda will depend on how deeply, and for how long, the euro-area economy sinks into recession. If investors take fright, crisis management -not strategic restructuring -- will continue to dominate. Yet even in a more benign scenario, the questions euro-area leaders must resolve next year are considerable:
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Union of 17 or 27? Increased levels of control and cooperation across the euro-area will further separate its 17 member states from the larger 27-member EU, leading to questions over the future organisation and relationships between those countries that are 'in' the monetary union and those that are 'out' -- either by choice or because they do not yet meet the membership criteria.
If investors take fright, crisis management -- not strategic restructuring -- will continue to dominate
EFSF. An operational problem remains despite the fact that it was supposedly 'solved' at the EU summit of October 26 (see EURO-AREA: EU 'solution' buys time but solves little - October 27, 2011). The EFSF has failed to attract sufficient investor interest for the proposed leveraging because of uncertainties over what kind of guarantees the fund can offer, and how sustainable over time these guarantees are if, for instance, France loses its AAA rating, on which the EFSF's AAA rating depends. Euro-area exit? Presently, the Lisbon treaty allows for a member state to withdraw from the EU but not the euro-area -- a loophole that some euro-area leaders, including Merkel, are keen to close. Ministries across the EU and euro-area are currently drawing up contingency plans, including the legal and political implications.
ECB under pressure With many euro-area governments and domestic banks finding borrowing in the market difficult and expensive, the risk of a credit crunch looms and the negative consequences for the real economy can already be observed across a number of member states. The ECB will thus face mounting institutional pressure and political demands. It will have to decide how to:
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A credit crunch looms -- the chronic European banking crisis could quickly turn acute
react to financial institutions selling holdings of European government debt; counterbalance difficulties in raising capital in the market for countries facing rising yields in bond auctions, given investors' withdrawal of support; and cope with the consequences of financial institutions, particularly those in the United States and Asia, holding back from rolling over short-term loans to European banks, creating liquidity shortages and exacerbating the risk of a credit crunch.
The practical policy responses to these challenges in the short-to-medium term will critically define the ECB's institutional credibility, legal foundation and political relationship with Germany. ECB President Mario Draghi is keen to mend fences between the Frankfurt-based institution and Berlin after two German members of the ECB's Governing Council resigned in 2011. Europe's Lehman moment? So far Europe has avoided a 'Lehman moment' -- the bankruptcy of a government, bank or possibly a very large corporation capable of triggering massive shocks to the rest of the financial and economic system and thus a global recession. However, this could still happen, even though many elements of the crisis are already well known and largely provisioned for. Recession The consensus view is that the contraction that will affect much of the euro-area at the onset of 2012 could start to improve halfway through the year, that it will be shallow-tomoderate and that the strongly divergent and divisive trends seen across member states' economies over the past two years will continue (see EURO-AREA: Divergent growth shows fundamental tensions - October 19, 2010).
However, although there is a slim chance of a slightly better result if the rest of the world proves more robust than expected (see PROSPECTS 2012: World trade November 10, 2011), the risks are heavily skewed to a much worse outcome. Prospects for southern Europe remain extremely negative and even Germany's economy has weakened sharply and will struggle to maintain a mildly positive expansion. Divergence could drop to about half the average of the last two years, but this will be driven by low growth in Germany. It will also augur poorly for the euro-area, since Germany is essential to its external export potential (the prime motor of growth). Weakness in Germany feeds into supply chains across key trade partner economies, particularly in Eastern Europe but also Italy. While Germany should be well placed to pick up when world trade cycles improve, other states could remain in recession for longer. This could lead to greater opposition to the euro regime, further discrediting the concept of a workable monetary union in the eyes of critics. Popular demands to exit the euro will intensify, boosting support for right-wing parties.
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Germany
Prospects for Germany's politics and economy in 2012

Thursday, November 17 2011 An Oxford Analytica Prospect With the euro-area in crisis and Germany at the heart of any solution, Chancellor Angela Merkel faces huge challenges. She has set her sights on EU treaty revision in order to "complete economic and monetary union and to build political union".
German Chancellor Merkel attends the session of the Bundestag lower house of parliament in Berlin. (REUTERS/Tobias Schwarz)
What next With her country set to avoid the recession that will scar much of the continent, Merkel will be emboldened to try and reshape the political, economic and institutional contours of Europe. However, she will meet firm resistance from the United Kingdom on an EUwide tax on financial transactions; strong objections from France on the issue of automatic sanctions for euro-area members who violate the Maastricht rules on deficit and debt limits; and reluctance from all EU leaders who remember the painful ten-year negotiations to agree the Lisbon Treaty. Analysis Merkel's coalition government, having lost general popular support as well as its majority in the Bundesrat (second chamber), depends on close cooperation with the opposition Social Democratic Party (SPD) to pass the most significant legislation, especially that which concerns the euro-area. Since both the SPD and the Greens broadly share Merkel's euro-area rescue strategies, the danger for the coalition will stem from disagreement with the Free Democratic Party (FDP), its junior coalition partner (see GERMANY: Euro-area crisis clouds outlook for coalition - August 9, 2011). Coalition outlook The FDP will hold a party referendum over the government's European policies, the result of which is expected in about a month's time. It has seen a sharp decline in public approval rates (down to 3-4% from 14% in 2009) and failed in several state elections in 2011. Despite having chosen a new leader, Philip Roessler, and having adopted a euro-sceptic position as a response to public disapproval of bailing out Greece, the FDP's image and approval rates remain low. A significant minority within the party contemplates leaving the coalition to regroup in opposition. This would leave Merkel with several options, namely to:
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Strategic summary
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Once global growth starts to revive, German expansion could quickly rebound to annual rates of 2.0-2.5%. Berlin's commitment to saving the euro is greater than its determination that the ECB refrain from acting as a 'lender of the last resort'. Germany has reduced its deficit to 1.1% of GDP this year; it is expected to fall to 0.7% in 2012 -- well below the Maastricht criteria.
form a grand coalition with the SPD; lead a CDU/Christian Social Union (CSU) minority government; or call early elections.
The odds are that the current coalition government will survive -- neither the CDU nor the Despite tensions, the coalition FDP stands to gain anything from a break-up. The most likely alternative would be a is likely to survive until the grand coalition with the SPD, especially since the CDU changed its position on a general election in 2013 national minimum wage at the party conference this week. By endorsing a popular policy previously advocated by the SPD, the CDU has opened the possibility of switching to a grand coalition if needed, and boosted its own appeal ahead of the general election in 2013. European policies As Merkel emphasised in her speech to this week's CDU party convention, the government will push for substantive changes to EU treaties in 2012 in order to "complete economic and monetary union and to build political union". From the German perspective, no substantive and lasting deepening of the European project can be achieved without a treaty change; otherwise it would be judged unconstitutional by the German Constitutional Court. Her vision of deeper European political union includes:
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Merkel will push for EU treaty change in December 2011 and make it her key priority for Europe in 2012
harmonised fiscal policies; legally enforceable discipline rule in the euro-area; automatic sanctions for countries that violate the Maastricht rules, which state that member states' deficits should not exceed 3% of GDP and public debt should be capped at 60% of GDP; and the creation of a European monetary fund.
While her government still hopes to save the euro-area in its current form, it is also preparing for an alternative smaller 'core' group in a multi-speed Europe. This week, the CDU passed a resolution calling for treaty changes to allow euro-area member states to leave the currency union while remaining in the EU. While the Lisbon Treaty allows a member state to withdraw voluntarily from the 27-member EU, there are no formal provisions for a member state to leave the 17-member euro-area. Merkel rejected calls from some of her party's members to make it possible to expel a member of the euroarea; any exit would be voluntary. Berlin will continue to insist that the ECB cannot act a lender of last resort by buying sovereign debt directly, but could soften its stance in 2012 under two conditions:
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Any concessions must be linked to progress on the substance of the treaty change. Such concessions must be portrayed as 'temporary crisis measures'.
Steady economic outlook Despite Europe's economic gloom, its largest economy remains solid, even though it is heading for a slowdown and a soft landing (see GERMANY: Despite global slowdown, GDP may grow in 2012 - November 3, 2011). The government has thus reduced its growth forecast for 2012, from 1.8% to 1.0%. With domestic consumer demand stable and cheap credit encouraging industry to invest, the key uncertainty will be exports to the euro-area. General export orders fell by 4.3% in the third quarter, and by 12.1% for the euro-area alone. However, industry is generally well equipped to respond quickly to export orders outside the euro-area if growth picks up globally.
Buoyant consumer confidence Labour market reforms undertaken by Gerhard Schroeder's government and progressed under Merkel continue to bear fruit. After years of wage sacrifices and improved competitiveness, unemployment has reached a 20-year low. It is at 7.1% (see GERMANY: Labour shortage hinders growth - October 22, 2010) and predicted to fall to 6.9% next year. This, along with cheap credit, low inflation (predicted to be between 1.8% and 2.0% in 2012) and a new interest in the real estate market in major urban areas, points to a solid year ahead. Moreover, wages are predicted to rise by another 3% from nearly 5% this year. This will help maintain consumer confidence since disposable income, adjusted for consumer inflation, is expected to rise by 1.0%. Private consumption is expected to grow by about 1.0%, industry investment by 3.1%, state spending by 0.9% and construction by 1.6%.
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United Kingdom
Prospects for the United Kingdom in 2012

Monday, November 14 2011 An Oxford Analytica Prospect The United Kingdom faces a severe recession, whatever the outcome of the euro-area crisis. This threatens to derail the coalition's plans to remove the structural deficit by 2014-15, and could bring the Conservatives and Liberal Democrats into conflict. The Labour opposition is ahead of the Conservatives in opinion polls, but not by enough to guarantee victory in the next general election, which may not occur until May 2015. In May 2012, Labour can be expected to do well in local elections, primarily at the expense of the Liberal Democrats, who will almost certainly suffer heavy losses. What next Labour leader Ed Miliband has yet to make much impact on the public, but the themes he has championed are finding greater resonance. They are that: the `squeezed middle' will be the social group most hurt by the austerity programme; there is a need for a 'socially responsible' capitalism; and, above all, a more radical programme is required to promote economic growth as opposed to the coalition's austerity programme. Grassroots-level political tensions, popular discontent with rising unemployment and cuts to public spending, and discord over the UK-EU relationship could split the coalition. Analysis
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The Bank of England against a blue sky in the City of London. (REUTERS/Suzanne Plunkett)
Strategic summary
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Weaker export growth will continue in 2012 and will worsen if the euro-area crisis is not resolved. Euro-area contagion could raise the cost of UK debt finance, since 25% of its debt is held abroad. Youth unemployment, now at 1 million, will rise and become a flashpoint of social unrest. Consumer spending will remain weak in 2012. A recession coupled with a weakening of the coalition government would almost certainly devalue the pound.
GDP growth for 2011 is expected to turn out at 0.9%, owing to weak domestic demand and the slowing of net trade, mainly due to the euro-area crisis. Since both are expected to continue, the 2012 growth forecast has been reduced from 1.5-2.0% to 1.0%. However, it could fall to as low as 0.5% if the euro-area crisis worsens. A doubledip recession, as outputs contract in the first two quarters of 2012, is possible. To forestall this, the government is considering schemes to improve access to finance for smaller companies. There is also pressure from industry for improvements in infrastructure, including roads, railways and airports -- investment that could be financed cheaply at low interest rates. It would add to the budget deficit, although not to the current deficit, which is the main cause for concern. It would be 'Plan B' by the back door, a fact that is recognised by referring to it as 'Plan A Plus'. Finally, the government is set to relax planning restrictions to encourage private investment in housing, which would both boost employment and reduce the growing housing shortage. Company sector The company sector is relatively flush with funds and does not suffer from the balance sheet problems due to excessive borrowing that affect both the household and the public sectors. However, weak demand prospects at home and internationally are discouraging investment by firms. Lower inflation, rising unemployment
If the economy worsens as expected, the coalition will face pressure to ease off its austerity programme and roll out 'Plan B'
Inflation, which now exceeds 5.0% per annum -- more than twice the Bank of England (BoE) target of 2.0% -- is likely to slow to 3.0%, even though utility charges will continue to rise. This is because several of the main inflationary pressures, such as the rise in value-added tax and upsurge in prices of commodities and oil, will drop out of the calculation of annual inflation. The slowdown in global growth will also act as a downward pressure. In 2011, the rising rate of inflation, combined with average wage increases of 1-2% per annum, resulted in a severe squeeze on real personal disposable income and checked the growth of consumer spending. This squeeze is likely to continue, since any improvement from falling inflation will be balanced by higher unemployment, which is expected to rise to 8.5% in 2012, as previously announced cuts in expenditure cause unemployment to rise (see UNITED KINGDOM: Coalition cuts and gambles on growth October 21, 2010). Deficit reduction According to the conventions of Keynesian demand management, this would be an appropriate time for increased public expenditure and/or tax cuts. However, such policies are precluded by the coalition's overriding priority to reduce the budget deficit and restrict the growth of public debt, now approaching 75% of GDP. The pace of public borrowing is declining as the budget deficit has fallen from a peak of 11% of GDP in 2009-10 to 9.5% this fiscal year and the prospect of 9.0% in 2012-13. However, since weak economic growth is checking the rise in tax receipts and increasing expenditure on unemployment benefits, deficit reduction will proceed slowly. Monetary policy The BoE's recently announced second round of bond purchases aims to raise the price of government bonds and so encourage investment, particularly by larger companies, which have ready access to capital markets. It does not provide much help to small and medium-sized enterprises, which depend on bank finance. Credit conditions are tightening as the euro-area crisis persists, weakening the balance sheets of banks and so discouraging bank lending. UK-EU relations The euro-area crisis has seen a rise in popular anti-European feeling among the UK public; opinion surveys show that a majority of the public believe that the EU is bad for the United Kingdom, and that there should either be renegotiation, involving repatriation of powers, or an exit from the EU. This resonates with many Conservative MPs. Although the government defeated on October 24 a motion calling for a referendum (see UNITED KINGDOM: EU vote weakens Conservatives - October 20, 2011), similar pressures will probably resurface. The next Conservative election manifesto may include the promise of a referendum. The government will try to take advantage of any new EU treaty that allows for greater economic governance of the euro-area. This could see the United Kingdom renegotiate its relationship with the EU. This poses two problems:
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Weak growth and rising unemployment mean that deficit reduction will proceed slowly
The United Kingdom will not be able both to secure special terms from the EU and also remain at the heart of Europe
The government could end up being excluded from EU decisions that affect the UK economy.
The United Kingdom will not be able both to secure special terms from the EU and also remain at the heart of Europe.
The United Kingdom's uneasy place within the EU has already shown its explosive potential, having split the Labour Party in the 1980s and wrecked former Prime Minister John Major's Conservative government in the 1990s. Prime Minister David Cameron will have this history foremost in mind as he seeks to balance the largely eurosceptic Conservatives against their pro-European junior coalition partners.
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France
Political and economic prospects for France in 2012

Monday, November 21 2011 An Oxford Analytica Prospect Moody's today warned that the rise in France's borrowing costs and deteriorating economic outlook could have a negative impact on the outlook for the country's triple-A credit rating. President Nicolas Sarkozy, who faces re-election the spring of 2012, has made safeguarding France's credit rating a personal crusade. His main rival, Socialist nominee Francois Hollande, will struggle to demonstrate a similar priority amid calls from his supporters to reverse Sarkozy's austerity measures. What next Sarkozy has long suffered from low popular approval ratings and his current prospects for re-election are not strong. However, he has cornered the fiscal policy agenda by cutting France's growth outlook to a more credible 1.0% for 2012 and passing two austerity packages. This will make for a difficult campaign for Hollande, who enjoys greater personal popularity but whose supporters demand policies that risk inflating France's debt. The electoral alliance between the Socialists and the Greens may boost both parties' prospects, but will also raise questions about future energy security and costs. The actions of credit rating agencies could prove decisive, as will any worsening or improvement in the euro-area crisis. Analysis The most recent IPSOS opinion poll shows Socialist presidential candidate Francois Hollande leading at the first round by 35% of voting intentions, against 24% for President Nicolas Sarkozy and 19% for far-right candidate Marine Le Pen. At the runoff, held between the two first-ballot leaders, Hollande might pick up most of the votes of supporters of left-wing and centrist candidates, and even one-third of Le Pen's voters, and so win by 62% to Sarkozy's 38%. This is an unprecedented poll lead for any candidate so far ahead of a presidential election, which takes place in April and May . Hollande is not expected to retain such a lead, and the momentum appears to be in Sarkozy's favour:
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France's President Nicolas Sarkozy and Socialist Party presidential candidate hopeful Francois Hollande visit a wood sawmill in centeral France. (REUTERS/Philippe Wojazer)
Strategic summary
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If history is any indicator, whichever party wins the presidential election will also win the legislative elections. Hollande may struggle to hold together a left-wing coalition determined to reverse as many of Sarkozy's anti-crisis measures as possible. The economy is poised to stall in 2012 amid signs of a slowdown in the main industrialised countries.
At the beginning of November, the president's positive opinion ratings rose sharply. The IPSOS sample also gives Sarkozy a marginal lead for credibility in dealing with France's debt problem.
Sarkozy's strategy Sarkozy will try to build on this shift in popular mood:
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He will try to make a virtue of the 19.0 billion euros (25.5 billion dollars) of austerity measures announced in August and November (see FRANCE: Government vows bank support amid lower growth - October 13, 2011). He will portray the left as fiscally irresponsible.
His platform will centre on measures necessary to restore French competitiveness and growth, and will be largely inspired by the German model. His party, the Union for a Popular Movement (UMP), is working on its programme with German Chancellor Angela Merkel's Christian Democratic Union (CDU) as well as one of her coalition partners, the Christian Socialist Union (CSU). The loss of France's AAA rating, or even a downgrade of its credit outlook, could undermine Sarkozy's reelection strategy
To succeed, this strategy will need to show that, by April, France's fiscal position is under control. The loss of France's AAA rating, or even a downgrade of its credit outlook, could undermine this. Hollande's hopes Hollande's fiscal instincts are hawkish for a French Socialist. However, he will face pressure both from the left of his own party and from other left-wing groups (especially the Communists), whose support he will need for the second round of the presidential election in May and the parliamentary elections in June. They will expect Hollande to reverse Sarkozy's austerity policies and lower the retirement age to 60 again while recruiting more public sector employees, especially in teaching. Hollande will also argue that Sarkozy is making the 'wrong' people (the middle classes and the poor) pay for the crisis and aggravating the deficit by tax 'gifts' to the rich, which the Socialists estimate to be worth 75 billion euros since 2007. Economic imperatives The government aims to reduce the public deficit to 4.5% in 2012, 3.0% in 2013 and 2.0% in 2014. Over 2011-12, the structural budget deficit adjusted for the impact of the business cycle will be reduced by at least 1.5 percentage points of GDP. In total, plans are to reduce the overall size of budget by at least 115 billion euros within the next five years and to eradicate the general government deficit by 2016. To meet these objectives, the government has announced austerity measures for 2012:
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In August, it strengthened the 2012 budget with a new package that will cut spending by 9 billion euros and raise tax revenues by 10 billion euros. In November, it unveiled a new set of budget savings amounting to a total of 7 billion euros in 2012, achieved by the earlier introduction of the pension reform, increased taxation and new spending cuts in the state budget as well as in social and medical services. Further austerity may be necessary
Still, if growth is lower than the government's forecast of 1%, a new mini-budget will be necessary during the course of 2012 to meet the deficit reduction target. The current fiscal measures will slow the increase in the public debt/GDP ratio, estimated to be around 85% at end-2011. This is unlikely to fall before end-2013, given the country's low growth and euro-area inflation. Growth outlook
Real GDP growth in 2012 is expected to settle at 0-1%. The European Commission forecasts growth of 0.6% in France, around the level expected for the euro-area and the EU. Economic fundamentals in France are sound but wait-and-see behaviours are expected to prevail both for households, which will maintain their high saving rate of around 15% of income, and companies, which will delay investment in machinery and equipment. Unemployment Job creation will slow but overall employment is to rise, with the result that unemployment will rise only slightly, at about 10%. In the absence of a new surge in world oil prices and given weak domestic demand, consumer price inflation is expected to ebb from a little above 2.0% in 2011 to around 1.5% in 2012. Reform pressures Whoever wins the elections will face pressure to reform France's complex and inefficient tax system and protected labour market, and even to accelerate the timetable for further pension reform (see FRANCE: Sarkozy's gamble is likely to pay off - October 25, 2010). These raise the risk of social unrest.
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Europe
Prospects for Central-Eastern Europe in 2012

Wednesday, November 2 2011 An Oxford Analytica Prospect The pace of economic growth will slow sharply, and problems in the euro-area will cause increasing political tensions in Central-Eastern Europe (CEE). While dramatic shifts in economic policy are unlikely, elections may lead to a further increase in support for nationalist and populist movements, which could turn out to be much more destabilising in the longer term. What next There will be an increasing split within the region between those countries that remain committed to early euro-area entry and those now more sceptical about its benefits. Even in the three CEE countries that have adopted the euro, political opposition to further bailouts will grow, potentially benefiting nationalist and populist parties. Analysis
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Employees leave the Skoda Auto factory after their shift in Mlada Boleslav, Czech Republic. (REUTERS/Petr Josek Snr)
Strategic summary
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Growth in the CEE economies will slow significantly, after the stronger than expected growth of 2011. The slowdown's extent will be determined by developments in Western Europe, with CEE economies affected by real economic growth in Germany and other major economies, and the financial health of the Western banks that dominate the CEE banking sector. Economic slowdown will set back governments' attempts to bring down budget deficits, but it will also lead to lower inflation.
Growth in the CEE economies will slow significantly in 2012, but the region should avoid recession. Developments in Western Europe will have a major impact on both the economic situation and the political climate. Political prospects A parliamentary election is due in Romania in late 2012 and, following the collapse of the coalition government (see SLOVAKIA: New government may emerge from euro crisis - October 31, 2011), Slovakia will hold early parliamentary elections in March. Next year's elections look set to mark a shift, with centre-right administrations losing ground to the centre-left.
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The measures adopted to deal with the euro-area's problems will have an important political impact on CEE, the continuing need to support its weaker members having a polarising effect. At the regional level, it will split those countries that are already part of the single currency area (Estonia, Slovakia, Slovenia) and those that are still strongly committed to adopting the euro as quickly as possible (Latvia and Lithuania) from the rest, which are now increasingly sceptical about both the economic and political consequences of joining an increasingly centralised euro-area. Within the three CEE euro-area members, bailouts will become increasingly sensitive, with incumbent governments in effect having to support whatever arrangements are agreed by the euro-area's major players. This will leave them politically exposed to opposition parties seeking to capitalise on popular hostility to measures seen as transferring resources from poorer CEE economies to richer but less fiscally prudent states. These tensions will increase further if Germany tries to force through changes to the EU treaties which institutionalise much greater central control over national budget policies. Growth prospects
Euro-area problems will have an increasingly polarising effect
Growth in several CEE countries was stronger than expected in 2011, but even if the EU manages to limit any further contagion from its weakest members to the rest of the single-currency area, expansion across the region will weaken significantly in 2012.
The economic outlook depends critically on growth in Western Europe and the success of EU efforts to stabilise the big European banks
The CEE economies will be hit directly by weaker demand from their main West European markets:
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The impact will be particularly strong in the Czech Republic, Slovakia, Slovenia and Hungary, which all have tight supply links with Germany and the other core members of the euro-area (see EU-10: Export-led growth offers good model -- for now - October 6, 2011). The main Nordic economies are less directly affected by the crisis in the euro-area, and this will help limit the impact on Estonia, Latvia and Lithuania. Poland's more closed economy should help to protect it from the worst effects of the expected slowdown in Western Europe. Romania and Bulgaria will be more affected by what happens in Italy where, unless there is a dramatic escalation of the debt crisis, stagnation rather than a sharp deterioration looks the most likely outcome.
The region as a whole looks to be in a better position to absorb this type of demand shock than it was in 2008, as its external imbalances are much lower and domestic inflationary pressures are weaker than they were then. Banking sector In 2008-09, the dominant position of financial institutions from Western Europe in CEE financial systems was generally a valuable source of stability, as the parent banks' promises to support their CEE subsidiaries and maintain their exposure to the region were generally seen as credible. With support from the IMF and the EU in the countries most affected by the crisis, this was enough to put to rest fears that foreign capital would 'race for the exits'. Now that the financial health of many parent institutions in the euro-area is being questioned, the dependence of CEE banks on their parents is more worrying. The vulnerability of CEE economies to EU banking sector problems varies significantly: Baltic states Tight financial links leave CEE vulnerable to any further weakening in the financial solidity of the main European banks
In sharp contrast to 2008, Estonia, Latvia and Lithuania appear the most secure: most of the problems of the domestic banking systems have already been acknowledged and dealt with, and their parent banks are in a strong financial position, with little exposure to the peripheral euro-area economies. Finally, governments in Sweden, Finland and Norway all have strong fiscal positions and so can credibly stand behind their banks if needed. Poland, Czech Republic and Slovakia Here, financial strains should also be limited. Growth in bank lending during the boom years was moderate, which should limit any home-grown financial problems. While the structure of bank ownership is less solid than in the Baltics, with parent institutions in France and Italy likely to require some recapitalisation under the arrangements agreed at the EU summits in October, this should not lead to any general loss of confidence in the stability of local banks. Hungary, Romania and Bulgaria These three appear the most exposed. The Hungarian government's bank levy and its moves to ease households' foreign-currency loan payments have imposed a significant burden on foreign-owned banks, while the uncertain future of the Greek banking system weighs heavily on Romania and Bulgaria. Economic policy There is little scope for relaxing fiscal policy -- only Estonia, which is most unlikely to do so, has the ability to ease policy significantly. In the other countries, domestic legal limits on public debt (in Poland) or external pressure from the EU and financial markets will force governments to keep fiscal policy fairly tight, though there is likely to be some slippage in previously announced plans for budget consolidation. A reduction in inflationary pressures may leave more room for relaxing monetary policy in those countries with floating currencies. However, here too, worries about financial stability will play an important role. The more worried the authorities are about the solidity of foreign support for the domestic banking system, the less likely they will be to allow domestic interest rates (and exchange rates) to fall. As in 2008-09, Poland's central bank is likely to have the most freedom of action but, even here, worries about the effect of a weaker zloty on the level of the government's foreign debt will limit its scope to cut interest rates significantly. Most CEE governments have limited room for manoeuvre in responding to next year's slowdown
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Prospects for the western Balkans in 2012

Tuesday, November 1 2011 An Oxford Analytica Prospect Conflicts continue to undermine stability and impede progress towards EU integration. While there may be hope for improvement in some countries in 2012, the risks are significant, and in some cases the disputes appear all but intractable.
KFOR vehicle passes by a partially removed roadblock near the village of Zupce,Serbia.(REUTERS)
What next While Montenegro, having earned EU praise for its progress, looks set to open accession talks, for Serbia that will depend on its willingness to make concessions on Kosovo. That incentive is likely to reopen Belgrade-Pristina talks, although they will be troubled and fitful. Progress in Bosnia, Macedonia and Albania will depend on international willingness to engage in solving problems. Analysis Considerable headway has been made in establishing peace in the western Balkans since the conflicts of the 1990s, and in promoting reforms on the path to EU integration. However, in some cases, the situation has deteriorated of late, raising doubts about the outlook for 2012.
Strategic summary
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While the EU's insistence on dialogue between Belgrade and Pristina may help, the stakes in Serb-inhabited north Kosovo are high and the risk of further violence significant. After five years of deepening political crisis and paralysis, and more than a year without a central government, resolving Bosnia's political and constitutional deadlock is as fraught with difficulty as ever. While prospects for EU integration appear good for Croatia and Montenegro, Greece's veto on Macedonia and political tensions in Albania will continue to undermine prospects for those two countries.
Kosovo and Serbia
EU pressure on Serbia to make concessions that, while stopping short of full recognition of Kosovo's independence, would enable more normal interaction on a range of practical issues is likely to continue. The key issue threatening progress will continue to be the volatile situation in north Kosovo, where renewed violence remains a serious risk. With elections in Serbia in 2012, getting EU accession negotiations under way is a priority for the Serbian government. It will try to balance meeting the EU requirement to continue dialogue with Pristina with not giving more ground than can be avoided in north Kosovo, for fear of inflaming nationalist opinion. Following recent violence in north Kosovo, efforts by President Boris Tadic in late October to persuade Serb leaders there to remove barricades and allow freedom of movement to NATO forces and the EU's rule of law mission, EULEX, indicate the limits of the Serbian government's willingness to stand by the Kosovo Serbs. Most major Serbian political players, including Tadic's Democratic Party and the opposition Serbian Progressive Party, which is leading the opinion polls, are wedded to the policy of EU integration. However, Serbian electoral politics may disrupt the talks with Pristina (see SERBIA: Social liberals go quiet ahead of elections - October 10, 2011). The Kosovo government also has to balance between pressure from Vetevendosje (SelfDetermination) nationalists for the north's more rapid integration, and international requests for restraint. The European Commission's recommendation that talks be commenced on visa liberalisation for Kosovo with the Schengen zone may provide some incentive for Pristina to avoid provocative moves (see EU/BALKANS: Commission renews commitment to aspirants - October 17, 2011). Nevertheless, the results achieved by raising the stakes since July, in establishing Kosovo customs officials on the northern border, may provide a countervailing incentive for Pristina to continue to press its advantage in the north. The investigation into alleged organ trafficking by the Kosovo Liberation Army during the 1998-99 conflict will continue to hang over Kosovo. In October, John Clint Williamson, the EULEX-appointed prosecutor leading the investigation into the Council of Europe's allegations, warned that it would take time to complete. The Council of Europe report implicated Prime Minister Hashim Thaci and other senior figures in alleged criminal activities. For the time being, Western governments stand behind Thaci, perceiving him as a guarantor of stability. Paralysis in Bosnia More than a year after elections, the failure to form a central government exemplifies how dysfunctional Bosnia has become. Compromise may eventually be reached, enabling a government to be formed. Yet that would still leave underlying problems unresolved. With Republika Srpska President Milorad Dodik continuing to cast doubt on the survival of the Bosnian state, and Bosnian Croats vocally calling for their own entity, the post-war constitutional settlement imposed and overseen by the international community is looking increasingly threadbare. The international Office of the High Representative (OHR) has stepped back from the previous robust exercise of its powers. Serbia's EU integration will proceed, balanced by the need to placate nationalist Serbs over Kosovo
Visa liberalisation provides the EU with a lever over Pristina
The international Peace Implementation Council that oversees the peace process has repeatedly delayed winding up the OHR owing to political deterioration in Bosnia and failure to meet key conditions. Yet the OHR's capacity for intervention has largely ebbed away, and Dodik has repeatedly challenged its authority. It seems likely that the OHR will before long be wound down or closed. Whether the EU special representative, whose office has recently been separated from the OHR, will have more success in bringing Bosnia back on track will depend on the level of commitment among member states to impose tough conditions and sanctions (see BOSNIA: EU representative starts 'mission impossible' - September 13, 2011). The experience of recent years suggests that, without such robust international engagement, internal divisions in Bosnia and the lack of any common vision for the country risk unravelling the state itself. In the longer term, the hope is that the prospect of EU integration, which has appeared to recede in recent years, will provide the glue that holds the country together. Before that, there will need to be solutions to the multilayered political crisis that has confounded effective government at the central state level, in the Federation entity -- which is deadlocked due to divisions between primarily Bosnian Muslim (Bosniak) and Croat parties -- and in cantons within the Federation with mixed Bosniak-Croat populations (see BOSNIA: Ethnic-based politics is proving unsustainable - October 13, 2011). Macedonian and Albanian frustrations The prospects for Macedonia to open accession negotiations with the EU appear as remote as ever. Far from approaching a resolution of the dispute over the country's name with Greece, which has vetoed Macedonia's membership of NATO as well as EU accession talks, Foreign Minister Nikola Poposki in October asserted that its current constitutional name, Republic of Macedonia, provided the basis for a settlement. Despite mounting EU irritation with Greece over that country's parlous financial state, so far there has been no inclination among EU members to press Greece to end its blockage of Macedonia. Skopje's relations with Brussels may become more strained, as Prime Minister Nikola Gruevski responds to EU criticisms of the government's record by criticising what he claims is a tactic to force the country into concessions to Greece. The impasse is unlikely to be broken without international engagement and pressure on both Skopje and Athens. In Albania, the political crisis over disputed elections shows little sign of abating (see ALBANIA: Local vote sparks further political strife - June 10, 2011). With parliamentary elections due in 2013, much political energy in 2012 is likely to be expended on efforts, with international help, to reform the electoral code. This may divert attention from other needed reforms which the crisis has already much slowed over the past year.
Responsibility falls on the EU to bring Bosnia back on track
Prospects 2012: Asia Pacific

Chinese growth will slow, but remain the main contribution to global expansion. Engaging constructively with an assertive but not entirely confident China will prove difficult.
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Chinas politics

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The next collective leadership will be less cohesive than the departing one, complicating consensus-building and policymaking. China's conservative and risk-averse leaders could find themselves overtaken by events and unable to frame credible responses. Engaging constructively with an assertive but not entirely confident China will prove difficult.
Chinas economy

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Pressures on the banking system will not preclude a fiscal stimulus, though may influence its size. The rate of inflation will fall, allowing monetary easing. Outward investment will slow amid an uncertain investment climate, but its growth will continue. The change in leadership in 2012 will not alter the direction of economic policy set by the 12th Five Year Plan. The renminbi will continue to appreciate, but at a slower pace.
Japan

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Economic growth will be around 2%. The export outlook depends on developments in North America and Europe. Currency intervention will have negligible long-term effect on the exchange rate. National elections or leadership changes in Seoul, Washington, Beijing, Taipei and possibly Pyongyang could complicate foreign relations.
India

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High interest rates, which have dampened growth, may have peaked but will not begin to fall unless inflation declines. The result of the Uttar Pradesh state election will have a strong bearing on the future leadership of both the national government and the main opposition party. Ties with Bangladesh, Burma and Nepal are likely to improve, but historical strains will set limits to Delhi's relations with Pakistan, while tensions may rise with China.
North and South Korea

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Lee's authority will wane as the economy weakens and attention shifts to the race to succeed him. Both parties will compete in pledges to boost welfare spending, boding ill for good governance and fiscal discipline. Any fresh overture from Pyongyang is likely to await Lee's successor, whom Kim anticipates being more amenable. Even if efforts to reconvene six-party nuclear talks succeed, progress will remain elusive.
South-east Asia

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Indonesia and Vietnam will be the best-performing regional economies in 2012. The impact of natural disasters on food prices, employment and business will be felt through 2012. The Indonesian government will struggle to boost popular support ahead of the 2014 presidential polls.
Pakistan

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Despite fears of a military coup, at present there seems to be greater support within the ruling elite for democratic politics. As elections draw near, the government will increase public spending and postpone much-needed structural reform. Small-scale insurgency in Baluchistan and ethnic violence in urban areas such as Peshawar is likely to continue, but without jeopardising overall national stability.
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Prospects for China's politics in 2012

Monday, November 7 2011 An Oxford Analytica Prospect The lead-up to the 18th National Congress of the Chinese Communist Party (CCP), expected in October, will set the political tone for most of 2012. China will be an issue in the run-up to elections in the United States and Taiwan. Further tension should be expected in the East China Sea and South China Sea. What next China's fourth generation leadership under President Hu Jintao will hand over political power to a fifth generation leadership almost certainly under Xi Jinping, but retain influence. A drive to promote 'socialist values' and 'cultural improvement' has begun, pointing to tighter censorship and more robust promotion of a CCP-defined political and cultural identity for China at home and abroad. Attitudes overseas towards China will remain ambivalent and key relationships strained as its global weight increases. Analysis
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A military delegate stands inside the Great Hall of the People in Beijing. (REUTERS/Jason Lee)
Strategic summary
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The next collective leadership will be less cohesive than the departing one, complicating consensusbuilding and policymaking. China's conservative and risk-averse leaders could find themselves overtaken by events and unable to frame credible responses. Engaging constructively with an assertive but not entirely confident China will prove difficult.
The hand over of political power to a fifth generation leadership is being managed behind the scenes so that it appears to pass off smoothly, and so that the new elite is configured to ensure the ruling structure holds together in coming years:
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This means trying to forge a consensus on key policy where perspectives diverge.
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It also means putting together a team of leaders that will function well as a collective, with no single figure or narrow alignment appearing to dominate, which would cost the CCP cohesion at the apex of power.
Xi is almost certain to succeed Hu at the head of the party and Li Keqiang to enjoy promotion by political ranking in the CCP ahead of replacing Wen Jiabao as premier in 2013. Other senior positions may have been decided, but there will be scope for jockeying right up to the point of formalisation of the new appointments late next year. High profile figures such as Chongqing party secretary Bo Xilai, Guangdong party secretary Wang Yang and Shanghai party secretary Yu Zhengsheng are in the running (see CHINA: Bo Xilai tests new style of leadership - August 15, 2011see CHINA: Wang waits in the leadership wings - September 4, 2009). One or two less prominent partypolitical figures, with proven executive expertise, should make it onto the Politburo Standing Committee, including Wang Qishan, currently vice-premier for financial and economic affairs. Conservatives in a changing environment Politics will remain highly conservative and reactive next year, the CCP seeking to avoid all unnecessary risks, and to concentrate on the leadership task at hand. Strains within the party can be contained, but those in society at large will continue to erupt. The authorities will respond robustly against all protests and unrest, real or threatened.
The October CCP Central Committee plenum decided to focus on 'socialist culture' as a policy priority, which suggests a tightening of control over internet and media content, and a continuing drive to shape the narrative of perceptions of China at home and abroad. Beijing will be at pains to characterise the overthrow of authoritarian regimes and promotion of democracy in the Middle East and North Africa -- and putative change nearer to home in Burma -- as irrelevancies for a China that under CCP rule is correctly managed in the best interests of its people. PLA politics The military may be more comfortable with Xi than it was with Hu when he took over in 2002, but Hu may want to stay in charge of the Central Military Commission (CMC) for the same reason his predecessor, Jiang Zemin, stayed in post on stepping down as party chief and president -- for continued political influence. Others may want a clean break, forcing Hu out from chairmanship of the CMC. Xi would then want to move to secure the unequivocal loyalty of the People's Liberation Army (PLA) to minimise interference from the military in key foreign policy and security areas. Foreign policy Beijing will act to maximise its advantages as a rising power, the more so with the United States and Europe looking weak. An embattled EU, with its sovereign debt difficulties, is the easier target. It wants Beijing to help it and will be limping through its crisis well into 2012. China would offer economic assistance only in return for meaningful concessions:
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The military will be a factor in political manoeuvring next year
Beijing will want to exploit the perceived weakness of the Western powers to the full
It will want greater access to Europe and on soft terms. It may insist on an end to the EU ban on arms sales.
Although weakened post-2008, the United States has more muscle and will be less inclined to give way to China. An Asia-Pacific power, its calculations are complicated by security relationships that run up against Beijing. The coinciding of the major leadership change in China and a presidential election in the United States will make for more fraught relations between the two next year. China will be an issue in US campaigning; Beijing will respond. Exchanges will be mostly rhetorical, but in some circumstances relations could sour badly. Other elections will play into political relations next year:
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Taiwan will hold legislative and presidential elections in January. Beijing will then still be dealing with an administration under President Ma Ying-jeou, which it would prefer, or one run by the Democratic Progressive Party's Tsai Ying-wen, which it would view with suspicion (see TAIWAN: DPP's Tsai could capture the presidency October 21, 2011). If Ma secures a second term, Beijing may start pressing a more political cross-Strait agenda. If Tsai wins, it could become more obstructive, but would also want to keep up its campaign for hearts and minds. Tsai may want to slow engagement with Beijing, but she will not want to antagonise it unduly. Elections for the Legislative Yuan will be read by Beijing as a signal of the balance of forces it considers pragmatic and with whom it can engage or those deemed 'antiChina'.
Political calculations towards North Korea could shift with changes of administrations in Seoul and Washington. Beijing will want to retain its primary role in the six-party talks process, and will continue to push for its resumption. Pyongyang will put its own interests first, potentially putting it at odds with Beijing as it plays politics during South Korean and US election seasons. There may be confrontations in the South China Sea
The probability of confrontation in the East China Sea and South China Sea has been increasing. Beijing will not want a flare-up in so sensitive a year, but on current form it risks one. Further afield, China will want to rebuild relations with the new governments of North Africa and improve how it responds to regional instability that has exposed Chinese vulnerabilities. Relations with Russia, Africa and South America have their difficulties; the inclination is to promote the positive, but there are underlying stresses. Burma poses a significant threat to Beijing's geopolitical calculations as Washington and Delhi begin exploring the change in political climate there (see BURMA: Naypyidaw sets new goals but within old limits - October 14, 2011).
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Prospects for China's economy in 2012

Monday, October 31 2011 An Oxford Analytica Prospect China may be the most important engine of world economic growth in 2012. Global economic prospects will depend heavily on Beijing's ability to manage its economy. Conversely, China's economy is exposed to demand shocks resulting from the slowdown in the United States and Europe, leaving domestic demand to take up the slack. Gradually slowing growth, moderating inflation and reports of businesses in financial distress are fuelling speculation that Beijing is poised to ease monetary policy. What next Growth will slow from 9%, as exports cease to be a significant engine due to nearstagnation or worse in the United States and Europe, but the economy will not fall into recession due to the strength of domestic demand. Beijing would respond to a sharp slowdown with another fiscal stimulus, and would not allow it to fall below 6%. The risk of financial contagion is minimal because Chinese banks are not significantly exposed to European sovereign debt. Analysis Domestic demand, particularly consumption and investment, are likely to expand. However, Beijing fears another fall in exports could trigger another episode of massive unemployment (an estimated 20 million workers lost their jobs in 2008), and with it potential social instability. Fiscal stimulus possible In 2008, the government instituted a 4 trillion renminbi (629.4 billion dollar) fiscal stimulus. Chinese media reports speculate that an even larger one -- some 5 trillion renminbi -- may be imminent. The government could afford this, despite concerns over debt levels, particularly in local governments. A source at the Ministry of Finance estimates that China's overall debt level (central plus local government) equals some 60% of GDP. Other estimates are similar. The decentralised fiscal system will once again place the bulk of spending at the local level. Despite loosening of restrictions on local government borrowing, state-owned banks will again be the main source (see CHINA: Beijing fails to quell fears over banks October 26, 2011). As in 2008, this could result in inefficient spending and bad loans, but China has need for more infrastructure (eg roads, railways) as economic development moves further inland. Scope for monetary easing With the slowdown in global growth, commodity prices have ceased increasing at their previous pace, and China's consumer price index (CPI) has begun to stabilise, falling from 6.5% year-on-year in July to 6.1% in September. It will fall further during 2012 to between 4.0-5.0%. Easing of inflationary pressures is also due to policies to increase the supply of pork -- a staple food that significantly affects the CPI basket, which is heavily weighted towards food.
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A man walks past an advertisement promoting China's renminbi or yuan related products and services in Hong Kong.(REUTERS/Bobby Yip)
Strategic summary
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Pressures on the banking system will not preclude a fiscal stimulus, though may influence its size. The rate of inflation will fall, allowing monetary easing. Outward investment will slow amid an uncertain investment climate, but its growth will continue. The change in leadership in 2012 will not alter the direction of economic policy set by the 12th Five Year Plan. The renminbi will continue to appreciate, but at a slower pace.
A sign of easing price pressure is the M2 monetary aggregate, which slowed to 13% in September -- the lowest since February 2002. With a fixed exchange rate and a closed capital account, M2 is a strong predictor of inflation and also reflects liquidity in the economy, which affects the exchange rate. New loan growth slowed to 470 billion renminbi for September -- the slowest pace since December 2009. The People's Bank of China (PBoC) will thus have scope to loosen policy. The reserve ratio requirement of 21.5% is likely to be cut, since it is at a record level and would be inconsistent with the state-owned commercial banks financing any potential fiscal stimulus. This is the likely first move. The PBoC will aim to use administrative measures to manage liquidity since money supply moves are the most effective with a fixed exchange rate. It will then cut interest rates. The cuts tend to be symmetrical with respect to the lending rate (currently 6.56%) and the deposit rate (currently 3.5%); the 306 basis-point margin is preserved to support the net interest margin of banks. Cutting rates would worsen the negative real interest rate. Slower renminbi appreciation The renminbi is at a 17-year high of 6.3 to the dollar. Mid-October saw the largest expansion of the daily trading band since the currency was de-pegged in July 2005. With inflation higher than in the United States and Europe -- China's main trading partners -- there will continue to be real appreciation pressure. As such, the appreciation of the nominal exchange rate will continue, as rising price pressures in China make it less profitable for Chinese exporters. Thus the renminbi should continue to appreciate, but at a slower pace as inflation eases and trade slows. The currency could end the year closer to 6.0 renminbi to the dollar, but is very unlikely to fall below that. Leadership change influence? The leadership change will have a very limited impact on the economy (see CHINA: Politics set to constrain economic policy - October 10, 2011). Xi Jinping and Li Keqiang are expected to become President and Premier in late 2012, but they have already been involved in the economic planning and will be tied by the 12th Five Year Plan (2011-15). There will be no surprise moves or deviations from this plan, which highlights:
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Any fiscal stimulus would once again be bank-funded and at the local level, probably resulting in inefficient spending and more bad loans
Pork prices, the largest driver of CPI inflation, will fall as production picks up
developing the service sector to increase it from 40% of GDP -- low by international standards; promoting urbanisation, to improve employment and raise the lagging income of rural residents; and increasing consumption, which is too low at around 40% of GDP.
These aims will not be achieved in 2012, but there will be significant progress, some due to external circumstances forcing greater reliance on domestic demand. The other main prong of the 12th Five Year Plan is technological upgrading to avoid the 'middle-income country trap'. China's GDP is likely to double by 2020, taking per capita income to 14,000 dollars on a purchasing power parity basis. At that point, it is likely to slow considerably, as has happened in other countries.
The government views multinational corporations as crucial, looking around at the small handful of East Asian countries that have managed to join the ranks of rich countries -South Korea (which has joined the OECD), Taiwan (whose per capita income exceeds that of France) and Singapore (whose per capita income exceeds that of the United Kingdom). Chinese firms 'going global' also has macroeconomic benefits (see CHINA: Companies 'go global' despite anxieties - June 29, 2011). Instead of buying government debt to balance the current account surplus, China can diversify its capital outflow by acquiring Western companies and other assets (eg Greek ports). In 2012, outward investment will slow due to uncertainty in the investment climate, but this underlying trend will continue.
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Prospects for Japan's politics and economy in 2012

Thursday, November 17 2011 An Oxford Analytica Prospect The aftermath of March 11 still dominates the agenda of the Democratic Party of Japan (DPJ) government under Prime Minister Yoshihiko Noda: funding reconstruction, assisting victims and a continued electricity shortage remain deeply divisive issues. Economic growth rebounded during July-September, growing an annualised 6%. Industry has largely recovered, but export markets remain weak and the yen is at historic highs. Noda has committed to bringing Japan into the TransPacific Partnership (TPP) free trade agreement, prompting mass protests and defections from his party. What next Reconstruction will remain the greatest task, and will accelerate. To fund it, tax hikes are inevitable, but their form and timing remain contentious. Noda will probably call a general election to seek popular endorsement of his proposals. Intra-party divisions over the TPP could still topple his government; membership negotiations will begin, but will take years. Electricity shortages could re-emerge to hamper growth, even if more nuclear reactors restart. Nevertheless, the economy will grow, though modestly, buoyed by government reconstruction spending and private sector investment. Analysis The government's largest task will remain reconstruction of the Tohoku disaster area. This will accelerate now that the lower house has approved a supplementary budget, which includes allocating 9.2 trillion yen (120 billion dollars -- around 2% of GDP) for reconstruction. Noda proposes temporary income and corporation tax hikes to pay for this. The broader issue of tax increases linked to pensions and social security reforms is also pressing. Former Prime Minister Naoto Kan's policy review recommended increases in sales tax over the next 3-5 years. Noda proposes a general election after these tax increases are approved -- probably in March -- to obtain popular endorsement. A lower house election is not required until 2013, but now Noda has put one on the agenda it is likely next year. Power shortages Kan committed Japan to a nuclear-free future, but this can only be a long-term aspiration because Japan has hitherto invested little in non-nuclear plant or research into alternatives. Noda has retreated from Kan's position and some nuclear plant has restarted. An anti-nuclear movement has developed. The government has announced plans for coping with electricity shortages during peak periods in winter 2011-12 and summer 2012, but these are interim measures; longerterm measures will be needed to ensure continued flow of electricity, which may not be possible without compromising plans for reducing CO2 emissions.
The crippled Fukushima Daiichi nuclear power plant's No.3 reactor building is seen from bus window in Fukushima.(REUTERS/KYODO Kyodo)
Strategic summary
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Economic growth will be around 2%. The export outlook depends on developments in North America and Europe. Currency intervention will have negligible long-term effect on the exchange rate. National elections or leadership changes in Seoul, Washington, Beijing, Taipei and possibly Pyongyang could complicate foreign relations.
9.2 trillion yen

The size of the disaster-area reconstruction package
Electricity constraints will continue to hamper the economy. As doubts about nuclear power raised safety concerns, those plants that shut for routine maintenance were not allowed to resume operations. In addition, substituting output from older generating stations and smaller gas turbines raised the cost of electricity and increased liquefied natural gas imports. The government lifted mandatory quotas in September, after the summer demand peak, but is urging continued conservation efforts. Demand may outrun supply this winter unless additional capacity is found. One nuclear plant has been authorised to restart and Noda has said that he intends to reactivate more, beginning next spring. Foreign policy challenges Noda has announced that he will enter negotiations to join the TPP:
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Those in favour argue that to maximise the benefit of membership, Japan's negotiators must be involved as early as possible. Those opposed respond that membership will benefit big business, but hurt small and medium-sized businesses and destroy Japanese agriculture, particularly rice production, reducing Japan's limited food self-sufficiency still further.
Both major parties are split over the TPP, but the division within the governing Democratic Party of Japan (DPJ), and whether Noda can contain it, will be decisive. This will test his leadership and defections are likely (see JAPAN: Noda gambles on FTA drive - October 27, 2011). A trade agreement with the EU could be presented as a supplement or alternative to the TPP and in either case edge Japan away from US dependence. Relations with Russia, China and South Korea have been stable over 2011, but no underlying sources of tension have been resolved. Noda will need to establish constructive relationships with new leaders in Beijing and Seoul in 2012 -- a task complicated by expectations that, like his predecessors, his time in office will be short. DPJ foreign policy began by being less compliant with US wishes than that of previous administrations, particularly over bases in Okinawa. Washington relaxed its pressure after March 11, but in recent weeks senior US officials have visited Tokyo, reminding the Japanese of the commitments made in 2009 before the DPJ took power. Meanwhile, local Okinawan politicians have declared their resolve to resist any revival of US demands. The 'base issue' caused former Prime Minister Yukio Hatoyama to resign in 2010; it will also be a key test for Noda. Manufacturing outlook Industrial production recovered from March 11 and related electricity shortages by August 2011, but then plateaued. Autos, which had taken the largest hit, surged as production caught up with underlying demand. Japanese carmakers are now working to make up for lost foreign market sales in the face of toughening competition, especially in North America where local companies are regaining market share. Businesses worry that procrastination on TPP negotiations will harm their international competitiveness. Deflation
Although the all-item consumer price index was flat in 2011, the index reflecting domestic conditions (excluding volatile food and energy prices) continued to fall in the face of weak aggregate demand. Monthly changes of seasonally adjusted prices suggest that deflation is decelerating from a -2.5% annual rate in 2010 to around -0.5% in the most recent data. The supply-demand gap may now fall because of the government's disaster reconstruction efforts. External economy The yen's nominal value has been hitting all-time highs, but when adjusted for Japan's falling prices and its trading partners' rising ones, the currency's trade-weighted, real value is at its long-term average. Nevertheless, when compared to the abnormally depreciated values from roughly 2005 through 2008, the 20% higher yen weighs on exports. Government interventions to depreciate the currency are mainly symbolic; they are meant to show that the government is taking an active role, but the effects are unlikely to last more than a few weeks (see JAPAN: Strong yen reflects economic fundamentals - September 20, 2011). Exports in 2011 partially recovered from the 2008 recession, flattened early in the year, and then were disrupted by the March 11 disasters. Those disruptions have been largely overcome, but foreign demand has not resumed its previous level. Exports next year depend especially on recovery in North America and Europe. Consumption and investment Employment at firms has risen slowly for more than a year. Consumer confidence has rebounded since March 11, especially on the employment outlook. The Cabinet Office's consumption proxy is near pre-recession highs. Total machinery orders, a predictor of investment, are projected to rise, especially for government orders related to reconstruction. Although indicators of both consumption and investment are not especially strong, they indicate a positive private sector underpinning for future growth. These trends, combined with government investment for disaster recovery, point to GDP growth in the region of 2% in 2012.
Disaster-related supply disruptions have been overcome, but foreign demand for Japanese goods is lower than before
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Prospects for India's economy and politics in 2012

Monday, November 14 2011 An Oxford Analytica Prospect On the economic front, the key issues next year will be rising inflation and slowing growth, presenting policy dilemmas. In politics, the government will attempt to recover credibility after a battering from anti-corruption protests, while the main opposition Bharatiya Janata Party (BJP) will seek to capitalise on the situation to lay a platform for the next general election. In foreign affairs, current improvements in relations with Pakistan will be maintained, provided no terrorist incident throws them off course, but relations with China could deteriorate. What next Increased agricultural output may begin to cool prices by mid-2012. Until it does, the central bank's high-interest regime will remain intact and economic growth stay tepid. There is a serious risk that global economic underperformance would damage currently high export ratios, and imperil the foreign payments situation. In politics, the upcoming Uttar Pradesh (UP) state election will be crucial as it could decide the future leadership of both the Congress and the BJP. Analysis The principal problem of the economy in 2011 has been a high inflation rate, which rose 9.73% year-on-year in October -- its eleventh consecutive month with an increase above 9% -- according to the Commerce ministry today. To combat it, the Reserve Bank of India (RBI) has used conventional policy tools, increasing the interest rate 13 times. This has had significant effects on the rest of the economy, especially manufacturing, in which a 7-9% growth rate across 2010 has now fallen to 3-5%. However, it has made little impact on inflation itself -- which is mostly driven by food (9-11%) and fuel (1215%) price rises (see INDIA: Ineffective policy fails to curb inflation - August 11, 2011). The RBI is now expected to hold rates over coming months and will make downward adjustments when and if prices fall. This may not happen for fuel unless international energy prices also fall. The government has achieved a breakthrough in partially deregulating domestic fuel prices and will not want to reverse course.
Strategic summary
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High interest rates, which have dampened growth, may have peaked but will not begin to fall unless inflation declines. The result of the Uttar Pradesh state election will have a strong bearing on the future leadership of both the national government and the main opposition party. Ties with Bangladesh, Burma and Nepal are likely to improve, but historical strains will set limits to Delhi's relations with Pakistan while tensions may rise with China.
However, high food inflation, together with a favourable monsoon, has begun to boost agricultural output. Food prices should begin to ease from March, followed by cuts in interest rates to re-stimulate growth. Yet if prices remain high, this process could be delayed. Estimates of GDP growth in 2011-12 have been revised downwards from 8.5% to around 7% over the last few months. If interest rates are reduced around March, then the outlook for 2012-13 will improve. However, factors besides food inflation may still limit the recovery. External account Developments in India's external account may prove troublesome. Although the import bill is high due to heavy dependence on foreign oil supplies, strong exports growth has somewhat offset this cost. Tepid global economic growth would reduce global demand, increasing the burden posed by the import bill. The issue is particularly serious because the rupee has weakened against the dollar and external debt has increased, especially due to external commercial borrowings of around 100 billion dollars. Also, foreign direct investment fell dramatically (27.8%) in 2010-11. However, there are signs of an FDI recovery, which may continue into 2012. Moreover, remittances, although also vulnerable to a sharp global slowdown, remain high. India is still a long way from an external account crisis -- but the figures may need to be watched more closely in 2012. Political shifts Political life in the second half of 2011 was marked by popular protests stirred by a series of corruption scandals (see INDIA: Corruption brings political process to a halt August 18, 2011). That broader challenge is now dissipating, but its reverberations will be felt across party politics in 2012. Congress dilemmas The first regional election of the year is scheduled in UP, the largest state, and could prove a turning point for both the national coalition and the BJP. The anti-corruption protests were mishandled by the government and exposed the lack of dynamic leadership within the Congress (see INDIA: Anti-graft drive embitters leadership contests - October 17, 2011). The 41 year-old Rahul Gandhi, general-secretary of the All India Congress Committee and son of Congress Party President Sonia Gandhi, is playing a leading role in the UP campaign -- where he has distanced himself from the failings of the government by emphasising pro-poor policies (see INDIA: Rahul's political ascent could prove divisive November 26, 2010). Many Congress Party workers see him as the natural successor to Prime Minister Manmohan Singh and a strong performance by the Congress in UP could project him onto the stage. Opposition challenges
Some of the nearoctogenarian Congress leaders may be replaced before the 2014 general election
The BJP has begun to adjust to the post-protest climate and hoping to put 'clean and efficient governance' at the top of the political agenda. In this light, the leadership claims of Gujarat Chief Minister Narendra Modi come to the fore since his state government is seemingly among the cleanest and most efficient, and also one of the most economically successful. However, Modi carries a heavy burden from his Hindu nationalist past, when he was heavily implicated in the 2002 Gujarat anti-Muslim massacres, and his candidacy is being contested by several party members, not least former Deputy Prime Minister Lal Krishna Advani. Not only the result, but also the nature of the BJP campaign in UP will be informative of Modi's chances of leading the national party in 2014. If the BJP polls strongly without recourse to inflammatory Hindu nationalist themes, the way could be opened for him to become the party's next prime ministerial candidate. Foreign relations India's foreign relations may be unusually calm in 2012. The last few months have seen a notable improvement in relations with Pakistan: Islamabad granted India 'most favoured nation' trade status, mandatory under WTO rules, and Delhi supported Pakistan's application for a temporary seat on the UN Security Council (see PAKISTAN: Temporary UNSC seat promises major rewards October 24, 2011). The improvement is at least in part attributable to heightened tensions between Washington and Islamabad in the wake of the Abbottabad operation on May 2. With Pakistan's hopes of using US influence to advance its interests in decline, Islamabad is increasingly courting regional allies. However, resurgence of terrorist activities against India could jeopardise this rapprochement. Relations have also begun to improve between India and several of its smaller neighbours, notably Bangladesh, Burma and Nepal. Here, Delhi has started to react to the threat posed by the strengthening of their relations with China in recent years. It is offering greater trade concessions and aid to reinstate its influence. However, ties with China continue to be tense. While Singh may still hope to draw Beijing into meaningful dialogue, naval disputes in surrounding seas, deepening trade rivalries and border disputes may well fuel tensions in 2012. India's rapprochement with Pakistan is likely to continue The lack of consensus over national leadership mars BJP's political outlook
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North Korea
Prospects for North and South Korea in 2012

Wednesday, November 16 2011 An Oxford Analytica Prospect Next year is politically crucial for both Koreas. For South Korea, it brings two scheduled elections: in April, the Grand National Party (GNP) looks set to lose control of the National Assembly; in December, voters will elect a new president to succeed Lee Myung-bak and serve until 2018. In Pyongyang, April also is a focal point, as the centenary of North Korea's founding leader Kim Il-sung. This could see Kim Jong-il's grandson Kim Jong-un further promoted as successor. What next The GNP's likely loss of its parliamentary majority will further weaken the president. Fierce rivalries within the GNP and centre-left opposition Democrats (DP) for their respective presidential nominations could lead one or both parties to split, rendering December's outcome highly unpredictable in a first-past-the-post voting system. A weakened Lee must also be on guard against North Korean provocations, such as a third nuclear test, though these would boost the right-wing GNP electorally. Before all this, Lee must strive to get the KorUS free trade agreement ratified. If necessary, the GNP will use its majority (while it still has it) to force the bill through the National Assembly. Analysis
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North Korean leader Kim Jong-il waves from his car.(REUTERS/RIA Novosti)
Strategic summary
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Lee's authority will wane as the economy weakens and attention shifts to the race to succeed him. Both parties will compete in pledges to boost welfare spending, boding ill for good governance and fiscal discipline. Any fresh overture from Pyongyang is likely to await Lee's successor, whom Kim anticipates being more amenable. Even if efforts to reconvene six-party nuclear talks succeed, progress will remain elusive.
Growing disillusion with Lee, seen in the GNP's loss of the Seoul mayoralty in October's by-election (see SOUTH KOREA: Seoul by-election augurs swing to left October 28, 2011), bodes ill for the GNP in parliamentary elections due on April 9. Although unlikely to retain the 150 seats it needs to control parliament, the GNP may remain the largest party and should be able to pass legislation with help from the Liberty Forward Party and Future Hope Alliance, which are also conservative. However, a major swing to the DP cannot be ruled out. If the DP were to become the largest party, the Assembly probably would be gridlocked for the rest of 2012. Next president? Separately, South Korea's next president is due to be elected next December. Several factors render the presidential race wide open at this stage:
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Personalities count as much as parties. The GNP is unpopular, yet its exchairwoman Park Geun-hye, who leads a minority faction, until recently was far ahead in opinion polls. Popularity does not guarantee Park the GNP presidential nomination. If her foes again deny her this, as in 2007, she may well run separately and split the conservative vote.
The potential for both the GNP and the opposition camp to split makes the outcome of the presidential election highly uncertain
The DP is faction-ridden and could split. It is also vulnerable to independent radicals, such as new Seoul mayor Park Won-soon, for whom it stood aside in October's byelection. It will not be so cooperative with Ahn Cheol-soo -- a non-party software mogul popular with the young, who now leads in polls, even though he has not said he will run for president.
Slowing economy A slowing economy will also hurt the GNP. Although it is among the OECD's best performers, South Korea's export-led growth will falter in current global conditions. GDP growth of 6.2% in 2009 will fall to 4.2% in 2011, and in 2012 may dip below 4.0%. This is unfavourable for the expansion of welfare provision that the public demands, to which both parties are pandering (see SOUTH KOREA: Electoral politics drives welfare push September 27, 2011). North Korea North Korea's policies will remain erratic in 2012. One certainty is that the regime is gearing up to celebrate April 15, 2012, the centenary of its founder Kim Il-sung's birth. This will mean the usual mass displays and military parades, and perhaps more:
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The regime has declared 2012 the year in which North Korea will become a "great and prosperous nation". Given the economy's dire straits -- Seoul calculates that it shrank in four of the last five years, from a low base -- this could push public incredulity to breaking point. Kim Jong-il's grandson, Kim Jong-un, who resembles his grandfather when young, may see his succession further cemented, conceivably at a full congress of the ruling Workers' Party of Korea (WPK) -- the first since 1980, when his father first emerged. A more negative possibility is a gesture of international defiance. This could either be a new provocation against South Korea, as occurred twice in 2010, or a third nuclear test. The former would be more dangerous, almost certainly prompting Seoul to retaliate militarily.
No nuclear breakthrough The six-party nuclear talks have ceased since 2008, despite last year's revelations of an unsuspected and seemingly advanced uranium enrichment programme, on top of known plutonium activities. Yet there is no guarantee that the talks will resume, much less make progress:
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A fresh nuclear test would hasten desultory efforts to reconvene the six-party nuclear talks
All six parties will be preoccupied domestically. Russia and China will gain new leaderships, as could the United States. Transitions are not propitious for diplomacy. On the nuclear front, attention will be focused on the more immediate danger from Iran. Seoul, and its US and Japanese allies, see no point in holding fresh talks without a guarantee that Pyongyang this time is serious about disarming. No such prospect exists.
The Libyan debacle makes Kim even less likely to emulate the late former leader, Muammar al-Qadhafi, as he was once urged to, in surrendering weapons of mass destruction.
North-South thaw? Broader inter-Korean relations may improve slightly:

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Yu Woo-ik, Seoul's new unification minister, is signalling flexibility. He has allowed more visits to North Korea, and on November 8 authorised medical aid worth 7 million dollars. The fate of a proposed oil pipeline from Siberia to South Korea via North Korea will be a barometer of broader progress. Mistrusting Lee for his earlier hostility, Kim may choose to wait for Lee's successor in 2013. Even a future GNP president would attempt engagement in some form, not least to counter growing Chinese political and economic influence in Pyongyang.
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South-east Asia
Prospects for South-east Asia in 2012

Thursday, November 3 2011 An Oxford Analytica Prospect A spate of natural disasters severely affected industrial production and farm output in September and October, adding to supply disruptions that began with the Japanese tsunami in March. External demand remains weak, with Indonesia and Vietnam the only major economies able to fall back on domestic consumption.
An aerial view shows a flooded Honda car factory in Ayutthaya province, Thailand. (REUTERS\KYODO)
What next Exports will continue to weaken in early 2012 due to spillover from the European debt crises and faltering US economic recovery, while risk aversion will dampen capital inflows. Flooding of crops, especially Thailand's rice harvest, will create food shortages and push up prices. Despite a rebound in the second half, regional growth will probably be slightly below 2011 levels. Analysis Generally healthy fiscal balances and strong banking sectors have given the region a buffer against debt woes in the euro-area and slow US growth. There is limited exposure to Western debt, while the boom in intra-regional trade has helped off-set declining demand elsewhere. However, the external environment now poses serious risks (see SOUTH-EAST ASIA: Region braces for Western contagion - August 17, 2011). Industrialised economies Supply-chain disruptions have been felt most acutely in electronics-export dependent Singapore, Thailand and the Philippines, which saw sharp drops in manufacturing output and lower exports in the third quarter. They are likely to see reduced growth of 5.0%, 2.6% and 4.1% respectively in 2011. Commodity exports, especially for oil-producing Indonesia and Malaysia, have also fallen. Indonesia's economy is expected to expand by 6.4% thanks to strong domestic demand, with Vietnam (5.5%) getting a similar push. Malaysia is likely to see slower-than-expected growth of 4.2%. Less-developed economies Flood damage will lower food stockpiles in Cambodia, Laos and Burma, but they should remain largely self-sufficient. Steadily rising incomes will continue supporting growth, though textile and garment exports will struggle. Cambodia can expect growth of 6.2%, Laos 7.4% and Burma -- now attracting investor attention -- 5.4%. Brunei remains dependent on uncertain oil demand; growth is unlikely to exceed 1.7% this year. Growth outlook for 2012
Strategic summary
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Indonesia and Vietnam will be the best-performing regional economies in 2012. The impact of natural disasters on food prices, employment and business will be felt through 2012. The Indonesian government will struggle to boost popular support ahead of the 2014 presidential polls.
GDP is expected to expand by 5.1% in 2012, up from a revised 4.8% this year, with a two-track economy still evident. Indonesia, the most resilient regional economy, will attract the bulk of the diminishing flow of foreign capital and is likely to see growth of around 6.3%. Vietnam (likely to expand by 6.3% in 2012), Laos (7.6%) and Cambodia (6.5%) will be the other resilient economies. Malaysia can expect 5.1% growth, Singapore and the Philippines 5.0% each, Thailand 3.5% and Brunei 1.8%. The lag from stalled production lines will be felt well into 2012, as will smaller food harvests. European and US growth is now unlikely to recover until the second half of 2012, while cooling demand from China and within the Association of South-east Asian Nations itself will diminish the intra-regional exports lifeline. Household expenditure will be sufficient to keep some manufacturers afloat in domestic markets, but there will be an inevitable impact on production. Government spending will offer a partial stimulus in Indonesia, Thailand and Malaysia. Challenges The regional economy still faces huge challenges. Natural disasters Floods will cut at least 1.5 percentage points off Thai GDP, since seven major industrial estates are inundated and 25% of the main rice crop is destroyed. The Philippines, Cambodia, Laos and Vietnam also suffered losses, mostly to agriculture (see SOUTHEAST ASIA: Natural disasters loom over economy - October 27, 2011). Price hikes While commodity prices have mostly fallen, looming food shortages from damage to rice harvests in Thailand, the world's largest exporter, will push up prices. Higher subsidies for Thai farmers have already affected retail prices. Job losses Unemployment will rise sharply in the more industrialised economies, reducing demand and fuelling social tensions. In Thailand, the flooding of about 10,000 factories has led to the loss of 600,000 assembly jobs; suppliers are also likely to be hit. Policy implications Unemployment in industrialised economies will rise sharply, creating serious policy challenges Export-dependent economies will suffer because of reduced Western demand
Accommodating the rebalancing of growth will require a broader policy agenda to maintain industrial capacity and support jobs:
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Monetary easing. Inflation is now largely under control, offering scope to lower borrowing costs for business and allow asset prices to rise. It is unlikely that higher food prices will feed into core inflation. The exceptions are Indonesia and Vietnam, where strong credit growth will leave less room for monetary easing. Currency leverage. Reduced reliance on exports will enable greater exchange flexibility, with gradual appreciation raising domestic purchasing power and helping contain inflation. Some currencies are still below their pre-crisis levels, contributing to an excessive build-up of foreign reserves. Financial reform. Banking systems are generally stable, with high capital reserves and debt provisions. However, market opening, product diversification and greater liberalisation of capital controls are needed to enable the region to compete for foreign capital.
Political climate The reformist swing that led to electoral snubs for autocratic leaderships and elites in Singapore, Thailand and the Philippines is likely to gather momentum in 2012, though this may not represent a lasting endorsement of democratic traditions. Several governments will face political tests. Indonesia President Susilo Bambang Yudhoyono's approval rating is now less than 50%, largely due to his failure to implement promised reforms and the fallout from a corruption scandal involving a cabinet minister. Yudhoyono is struggling to rebuild his image before the next presidential election, which must be called by 2014. A cabinet reshuffle aimed at bringing in fresh faces may buy him some time, but he faces an increasingly vocal reformist movement that has found a potential mouthpiece through the new Union of Independent People party established by Sri Mulyani Indrawati. A former finance minister, she lacks the electoral base to challenge Yudhoyono, but could become a focus for change. Malaysia
Prime Minister Najib Razak's coalition has repealed two unpopular security laws and lifted curbs on the media in response to public outcry over the policing of a July rally calling for electoral reforms (see MALAYSIA: PM pins political hopes on democratic reform - September 28, 2011). The Court of Appeal has ruled that a political ban on college students, who lead the most active opposition to Najib, is unconstitutional. A poll is not due until 2013, but Najib may act earlier to capitalise on the popularity of recently announced and seemingly liberal reforms. Burma The new civilian government's decision to open a dialogue with pro-democracy leader Aung San Suu Kyi and free hundreds of political prisoners has emboldened opposition parties, though they may not be allowed significant political space. Foreign governments are likely to step up engagement with Naypyidaw if it continues to take steps towards political reforms, but economic sanctions will remain until they are certain the changes are not cosmetic. Thailand Floods have tarnished the popularity of new Prime Minister Yingluck Shinawatra in her party's rural power base, with the government widely criticised for its slow and often ineffective response. While much of the blame was levelled at the emergency services for their overlapping responsibilities and poor coordination of relief efforts, Yingluck's image within the coalition has suffered, and she is likely to lose crucial popular support. Najib may well call early elections before 2013
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Prospects for Pakistan in 2012

Thursday, November 10 2011 An Oxford Analytica Prospect Parliamentary elections, although not due until February 2013, could be called in 2012, following the senate election in March next year. Based on the existing distribution of seats in the National Assembly, the Pakistan Peoples Party (PPP) is well positioned to win the latter, increasing its hold on the Senate. If national elections take place next year, this would mark the first time in Pakistan's history that one democratically elected government followed another. What next Domestic politics is poised to take centre-stage for much of 2012, unexpected events notwithstanding. The government, seeking and expecting re-election, is likely to increase public spending and further delay economic reform. In foreign relations, mutual dependence will preserve Islamabad's ties with Washington but strains are likely to remain. In contrast, ties with India are likely to improve, offering the hope of greater regional security. Analysis As the 2012 senate and the 2013 presidential and parliamentary elections draw closer, domestic politics will dominate Pakistani affairs. All three major political parties -- the governing PPP, its ally, the Karachi-based Muttahida Quami Movement (MQM) and the main opposition Pakistan Muslim LeagueNawaz (PML-N) -- have stepped up their political activities. While at times both the MQM and the PML-N have threatened to destabilise the democratic system, they now appear to be keen on preserving it. Imran Khan's Pakistan Tehreek-e-Insaf (PTI) has emerged as a new political player, claiming wide support among the youth and the middle class. It is acting as a spoiler in what has largely been a two-party political set-up with smaller coalition partners (see PAKISTAN: Imran's ascent alters political balance - November 2, 2011). Although the Army has reportedly considered ousting the government, which has been frequently criticised for inefficiency and corruption, civil-military relations are relatively stable and Chief of Army Staff Ashfaq Parvez Kayani does not at the moment wish to take political power. Economy After witnessing 6.8% average annual growth between 2002-07, the economy has slowed markedly. GDP growth between 2007-11 has fallen to 2.9% on average, mainly due to the global economic downturn and high commodity prices. Year-on-year inflation has remained in double digits almost every month since 2008 and domestic economic management continues to be poor.
U.S. Secretary of State Hillary Clinton and Pakistan's Foreign Minister Hina Rabbani Khar at a joint press availability in Islamabad. (REUTERS/Kevin Lamarque)
Strategic summary
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Despite fears of a military coup, at present there seems to be greater support within the ruling elite for democratic politics. As elections draw near, the government will increase public spending and postpone muchneeded structural reform. Small-scale insurgency in Baluchistan and ethnic violence in urban areas such as Peshawar is likely to continue, but without jeopardising overall national stability.
In less than four years, the government has had four finance ministers, three central bank governors, and four secretaries of finance, indicating an absence of stable economic policy. The three-year IMF stabilisation programme worth 11.3 billion dollars has been disbanded and cut down to 7.6 billion dollars, further exposing the lack of economic focus and political lethargy in addressing structural problems.
Reform outlook Two areas are the most indicative of the government's attitude: taxation and the power sector. Both are in desperate need of reform, but neither the current government nor its predecessor have made much progress. The next government offers little promise of improvement:
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The tax-to-GDP ratio has fallen over the last decade, from an already low 11.5% to around 8.6%. Power shortfalls have crippled key sectors and industries, affecting output and production. As a consumerist middle class has grown and demand for power has increased, the absence of long term planning has made the crisis worse. Quick-fix solutions, such as rental power projects, have been mired in corrupt practices and deals and have done little to alleviate the energy crisis (see PAKISTAN: No end in sight for deepening energy crisis - January 25, 2011).
Economic growth is likely to stagnate at less than
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in 2012
With elections on the agenda, the incumbent government is likely to borrow further, print and spend money to gain immediate popularity, add to debt, and postpone long-term reform.
Foreign policy Although the United States continues to be Pakistan's largest bilateral donor, and much of the aid goes to the Army, ties have come under tremendous strain since the Abbottabad operation.
Washington continues to accuse the government and the Army of not doing enough to support counter-insurgency operations in the Afghanistan-Pakistan border region. Recently, criticism has centred on allegations that the Army is supporting terrorist groups operating in Afghanistan (especially the Haqqani network), undermining US strategy and complicating its 2014 partial military withdrawal timetable. Washington has threatened to cut aid, but given the centrality of Pakistan in the US AfPak strategy, it will continue to make grants in some form. Although tense, mutual dependence will preserve ties (see US/PAKISTAN: Restoring trust is key to US Afghan goals - September 27, 2011). Nonetheless, as the 2014 deadline draws closer, Islamabad's ties with Washington will have a bearing on domestic politics, civil-military relations, and the region's security and politics more broadly. Islamabad will continue to seek a deeper role in Afghanistan once US combat troops withdraw. India Following the granting of 'Most Favoured Nation' status by Pakistan to India in accordance with WTO rules, the resumption of a broad dialogue, and Delhi's support for Pakistan's bid for a temporary seat on the UN Security Council, bilateral ties between the historical rivals have improved significantly (see PAKISTAN: Temporary UNSC seat promises major rewards - October 24, 2011). On the sidelines of the 17th South Asian Association for Regional Cooperation Summit, which began in the Maldives today, the two sides promised more "constructive" talks and to open a "new chapter" in relations. However, mutual distrust and entrenched differences will keep both sides cautious, though positive. Internal security risks The killing of al-Qaida leader Osama bin Laden in May seems to have dented, if not broken, the back of the internal insurgency raging in tribal regions since 2007. This year, there have been fewer suicide bomb attacks, and there are indications that the militant groups have come unhinged. This is also due to NATO drone strikes and counter-terrorism initiatives taken by the Army with US support. While the domestic war on terrorist activity has not been won, there are indications that militant activity may have been dampened down. Baluchistan However, in Baluchistan, a non-religious insurgency continues, with numerous groups and individuals challenging Islamabad's authority. While Islamabad has attempted to appease dissidents by announcing economic packages and incentives, the insurgents are at present unwilling to settle for anything less than substantial autonomy (see PAKISTAN: Autonomy holds key to ending Baluch conflict - September 29, 2011). Nonetheless, the insurgency does not present a major threat to the integrity of the state. Karachi By contrast, Karachi has been a perennial threat to stability and witnessed large-scale violence this year between different ethnic groups, political parties and criminal elements (see PAKISTAN: 2012 election run-up to fuel Karachi tension - July 11, 2011). The outlook for stability in the key industrial and trading city depends crucially on the MQM's ability to find adequate political representation or to forge an acceptable arrangement in 2012 and beyond.
Islamabad will seek greater involvement in Afghanistan as the 2014 US pullout deadline draws nearer
MQM's electoral performance will significantly influence the outlook for peace in Karachi
Other cities, such as Peshawar, have witnessed targeted sectarian killings for over three decades. Although this does not threaten overall national stability, intermittent violence is likely to continue.
Prospects 2012: Africa

Global economic uncertainties will cloud the outlook for development but average growth will remain strong. Traditional and new security risks will intensify in the Horn, the DRC and Nigeria.
Page 100 Prospects 2012: Africa
South Africa
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The Reserve Bank's leading economic indicator has been falling since July, and November's 0.3% month-on-month dip is likely to be replicated into early 2012. After the climate change conference in Durban, Pretoria's relative focus on the global or local carbon economy may fade. Unless he sees scope for boosting his presidential image, Zuma's focus on ANC politics will weaken Pretoria's influence on the Zimbabwean issue.
Southern Africa
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Urged on by big business, capitals (and multilateral funding bodies) will continue to focus on coordinated regional road and rail-to-port infrastructure renewal. Governments' current focus on mining or hydrocarbons opportunities risks them overlooking policy attention to the scope for greater agricultural productivity. Despite political deadlock and uncertainty in Zimbabwe, a range of (re)investment opportunities exist and country risk continues to be overstated.
East Africa and the Great Lakes

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Odinga remains the frontrunner in the Kenyan presidential race, given the legal challenges facing his main opponents. Museveni will see off opposition efforts to foster a protest movement in Uganda. Insecurity in eastern DRC will persist in 2012, exacerbated by electoral ethnic tensions. Burundi is at risk of sliding back into civil war, amid guerrilla violence and a government crackdown. Pressure on regional currencies and inflation should abate later in 2012.
Horn of Africa and Sahel

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The outcome of Mali's presidential election is open, as the country looks to consolidate its democratic base with another successful poll. Niger's Issoufou administration will struggle to placate its restive Tuareg constituents, leaving it little space to push other reforms. Interventions and civil war will mar Somalia security, while in Somaliland, parliamentary elections will take place involving new political parties. Governments in both Sudan and South Sudan will struggle to contain peripheral insurgencies, and support each other's opponents, while retaining power. Tensions between Ethiopia and Eritrea will continue to escalate as Asmara evades Addis Ababa's efforts to keep it isolated, raising the prospect of renewed war. Increased Western engagement with strong Islamist parties in Egypt, Tunisia and probably Libya, could set an important precedent for similar engagement in Somalia and Sudan.
West Africa
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The Jonathan administration in Nigeria will struggle to make progress on its signature electricity sector reform, while facing continued violence from Boko Haram. Ghana's Atta Mills administration will squeeze further revenues out of the mining sector, ahead of a tough re-election battle, and could lose control of parliament. Unprecedented criticism and protest against Senegal's President Abdoulaye Wade this year suggest a heated election period in early 2012.
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Prospects for South Africa in 2012

Tuesday, November 22 2011 An Oxford Analytica Prospect Growth in South Africa remained below potential in 2011, and the economic outlook is suffering as the euro-zone crisis compounds domestic woes. For much of 2011, the ANC leadership -- and so the government -- gave the impression of ambiguity and indecisiveness on major domestic issues. Recent moves against corruption and indiscipline in the ANC have now strengthened President Jacob Zuma's position as he seeks re-election as party leader. Yet policy and factional divisions persist within the ANC-led alliance, and they promise to dominate the outlook in 2012, the party's centennial year. What next Government policy will largely reflect ANC party and alliance politics, which will turn on two major conferences. The ANC's policy conference in June will shape its five-yearly elective conference in December -- and Zuma's party leadership re-election prospects. Given global uncertainty, the economy will struggle to reach the IMF's predicted 3.56% growth in 2012, ensuring that unemployment still dominates both policy-making and political rhetoric. Analysis
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A protester looks on outside the ruling African National Congress (ANC) headquarters, during a protest against the passing of new laws on state secrets in Johannesburg. (REUTERS/Siphiwe Sibeko)
Strategic summary
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The Reserve Bank's leading economic indicator has been falling since July, and today's 0.3% month-on-month dip is likely to be replicated into early 2012. After this month's climate change conference in Durban, Pretoria's relative focus on the global or local carbon economy may fade. Unless he sees scope for boosting his presidential image, Zuma's focus on ANC politics will weaken Pretoria's influence on the Zimbabwean issue.
A largely populist coalition helped Zuma win the ANC presidency at the last elective conference, and he has been pursuing an unofficial re-election campaign since at least mid-2009. A major cabinet reshuffle last year significantly reinforced his support base. Pro-Zuma elements now control many ANC branches, especially in significant voting provinces such as KwaZulu-Natal and Eastern Province.
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The Malema factor However, Zuma's ambitions have exacerbated long-standing ANC divisions:
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Unions. Trade unionists in the alliance helped secure Zuma's election and many have accused him of policy weakness, disappointed that in office he has not shifted economic and regulatory policy sufficiently to the left (see SOUTH AFRICA: Unions remain divided over Zuma, policy - November 10, 2011). Proxies. The most high-profile and sustained challenge came from the party's Youth League (ANCYL) through its leader Julius Malema, who openly campaigned against a second Zuma term. Malema was promoting his own future credentials but also acting as a stalking horse for more senior near-term Zuma challengers. Zuma's apparent reluctance to confront Malema was perceived as as a sign of political weakness.
Challengers. Malema's own challenge (if not his message) has probably now been neutralised, along with the prospects of potential presidential contenders seen as supporting him (see SOUTH AFRICA: Malema outcome tends to strengthen Zuma November 15, 2011). Malema openly preferred Zuma's deputy, Kgalema Motlanthe, but he is unlikely either to put himself forward robustly or to rule himself out of contention.
'Nationalisation' debate The most evident policy schism in 2011 was whether and how the ANC should embrace Malema's calls for mines nationalisation and land expropriation:
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The ANC will not adopt any policy of mines nationalisation in 2012
Such rhetoric will be less stridently pursued within the ANC in 2012, but the idea of accelerated economic empowerment still resonates strongly with the left and the right among the movement. An ANC-appointed panel is due to report this month on possibilities for a more direct state role in mining, but policy decisions will await the mid-year conference. There is space for the debate to continue and the government to shape its terms, including by reference to the existing Mining Charter. It is highly unlikely that the ANC will adopt any policy of uncompensated expropriations -- not least because such actions would be unconstitutional. Yet a range of other options for increased (but more modest) state involvement in the mining sector and the wider economy remain distinct possibilities.
Cabinet centrists and business will increase pressure on Zuma to address the policy ambiguity -- including on the nationalisation debate -- that harmed the investment climate in 2011. Concern will linger into 2012 over the extent of cabinet's appetite for competitive foreign investment, given that three government departments continue (with unions) to seek stringent conditions on the totemic Wal-Mart-Massmart merger (see SOUTH AFRICA: Wal-Mart case sends mixed signals - June 24, 2011). Economic outlook Prospects for the economy are mostly soft:
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6%
Reserve Bank's outer inflation target; it will hold its 5.5% repo rate steady into early 2012
Growth. Growth in major emerging markets and firm commodity prices will partially mitigate the effects of slower growth (or even recession) in many OECD countries. Even so, real GDP in 2012 will not increase by much more than the 3.1% now estimated for this year. Domestic conditions do not favour renewed growth. Household consumption -- the mainstay of spending -- will be constrained, despite further modest rises in real incomes (see SOUTH AFRICA: Structural constraints check growth rate - August 15, 2011). Inflation. Although demand pressures on inflation are currently restrained, the Reserve Bank foresees deteriorating supply-side factors generating a "more protracted" breach of the 6% inflation target in 2012 (see SOUTH AFRICA: Reserve bank policy tools appear limited - September 15, 2011). Rand. Continued financial-market uncertainties, shifting global risk perceptions, and movements in oil and food prices are likely to extend the recently increased volatility of the rand, with consequent disruptive fluctuations in domestic competitiveness and imported inflation.
Deficit. The budget deficit is projected to rise to 5.5% of GDP in the current fiscal year (from 4.6%), with significant downside risks in subsequent years as the 2014 general election approaches. Rising pressures for higher social spending were one reason ratings agency Moody's gave in this month downgrading its outlook for government debt from 'stable' to 'negative'. The fiscal base remains remarkably narrow. Bottlenecks. Rail and port capacity problems will continue to inhibit export potential, especially of coal. The focus will be on whether electricity supplier Eskom delivers another outage-free winter, amid rising tariffs and narrowing margins for smelters and other energy-intensive users (see SOUTH AFRICA: Infrastructure body faces hard legacy - September 30, 2011).
Policy direction Cabinet centrists will be looking to Zuma for political cover in 2012 on a number of issues, including:
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re-orienting spending towards infrastructure rather than the public wage bill (something mooted recently but yet to be tested on unions); balancing unions' 'better work' demands with relaxing regulatory burdens on smaller businesses; pursuing ANC intentions for more broadly-based black economic empowerment regulations; and providing greater clarity on matters subject to major policy reports this year -- land reform and the proposed national health insurance scheme.
Zuma's desire to sustain his political momentum and leadership credentials means that more scope for policy rationalisation exists than is often supposed. Yet his reliance on alliance members' support suggests that more decisive patterns of action may have to wait until 2013. Political opposition The Democratic Alliance will seek to consolidate gains made in this year's local elections, when it secured 24% of votes nationally. Its new (and first black) parliamentary leader, 31 year-old Lindiwe Mazibuko, aims to attract black voters and extend the party's power-base beyond the Western Cape. She can expect robust challenges from an ANC wary of losing further ground in the run-up to 2014 elections.
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Prospects for Southern Africa in 2012

Wednesday, November 23 2011 An Oxford Analytica Prospect Southern African countries largely maintained stronger growth in 2011 despite a modest post-crisis recovery in regional economic powerhouse South Africa. Good harvests mean the region has largely avoided the food security or price problems experienced in East Africa this year. Angola's oil sector underperformed, but confirmation of large hydrocarbons reserves off Namibia and Mozambique symbolised the relatively confident mood across the region. The democratic consolidation shown in Zambia's peaceful change of government complemented this. However, Zambian elections also illustrated the challenges most countries face in meeting job-creation, economic inclusion and social spending demands. The outcome also highlighted the continued lack of progress in neighbouring Zimbabwe. What next Exports from the region now increasingly flow to Asian and other emerging markets, but Europe's dampened growth outlook will tend to undermine the region's economic prospects. Western donor austerity will come at a bad time for some recipients, reducing the attention that countries in particular difficulty -- including Malawi and Swaziland -- can expect next year. Analysis
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Zimbabwe's President Mugabe and Prime Minister Tsvangirai (REUTERS/Philimon Bulawayo)
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Urged on by big business, capitals (and multilateral funding bodies) will continue to focus on coordinated regional road and rail-to-port infrastructure renewal. Governments' current focus on mining or hydrocarbons opportunities risks them overlooking policy attention to the scope for greater agricultural productivity. Despite political deadlock and uncertainty in Zimbabwe, a range of (re)investment opportunities exist and country risk continues to be overstated.
Pre-election Angola Oil sector continuity will be maintained despite increasing ruling party focus on President Jose Eduardo dos Santos's succession planning. Luanda street protests show no signs of escalating, but pre-election social spending will increase in 2012, aimed at ensuring protests do not gain mass. However, the narrow ruling circle still sees little incentive to spread oil wealth wider -- or diversify beyond oil (see ANGOLA: Succession debate pressure grows on dos Santos - November 9, 2011).
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Post-election Zambia President Michael Sata's new government has already flagged any further major policy moves to investors, and will tend to focus on tighter audits and regulatory enforcement. Amid concern about copper prices, cabinet's first budget suggests that it will continue largely being pragmatic about fulfilling popular expectations. With only 41% of parliamentary seats, agriculture policy in particular reflects Sata's need to appease the country's third largest party (see ZAMBIA: Major firms may weather mines royalty doubling - November 14, 2011). Beyond diamonds
Absent any global event again undermining demand, prospects are good for two major diamond-related economies (see SOUTHERN AFRICA: Diamond recovery boosts economies - December 8, 2010):
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Botswana. The 2011 landmark ten-year De Beers deal illustrated Gabarone's capacity for long-term policy planning and management. It retains an option to increase its stake in the firm. Key factors will be whether the ruling party resists further hardening and intolerance, and how it seeks to avoid future repetition of unprecedented strikes in the bloated public sector in 2011 -- including by renewing economic diversification efforts (see BOTSWANA: Strikes and opposition unity change politics - July 26, 2011). Namibia. Despite some internal divisions, the ruling party will manage any possible further deterioration in President Hifikepunye Pohamba's health. Its emerging challenge is to initiate development of an institutional capacity to manage eventual oil and gas revenues transparently, amid high unemployment. Continuity in existing mining operations will reflect 2011's resolution of revenue issues and greater clarity on state miner Epangelo's role in new projects (see NAMIBIA: Oil and gas funds will raise political stakes - October 5, 2011).
The place of mining revenue and regulation in Zambia's election will sustain political attention to the issue across the region
Mozambique trajectory Strong GDP growth will continue, particularly as coal investments and exports begin to benefit general infrastructure. Nevertheless, rail upgrade delays and under-utilisation of agricultural potential illustrate -- along with skills shortfalls -- the distance between promise and reality. Next year will be stable, but marks the beginning of a period likely to determine whether Maputo avoids Luanda's path by matching export-driven growth to political and economic inclusivity (see MOZAMBIQUE: Rail, ports, power shape growth prospects - July 6, 2011). Mauritius questions The island's longer-term status as a regional investment corridor remains partly hostage to external regulatory changes. However, its immediate economic concern is softening of EU import or tourism demand and the temptation for the revised coalition to engage in higher social spending (see MAURITIUS: Economy still vulnerable to external shocks October 31, 2011). Political blockages Political difficulties will mark four countries in particular:
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Mugabe's age upon his birthday in February
Zimbabwe. After years of over-stated expectations of change, 2012 may in fact be critical in whether the country reconciles and recovers -- if only because 87-year-old President Robert Mugabe's health is gradually faltering. He was the overall beneficiary of political events in 2011, especially the 'Wikileaks' scandal (see ZIMBABWE: Intra-ZANU-PF dynamics will set 2012 course - September 28, 2011). Fear, suspicion and dismay over Solomon Mujuru's death will linger into 2012, but Mugabe's leadership of ZANU-PF will likely survive the December 2011 party conference. Amid a recent upswing in violence and boosted by diamond revenues, some ZANU-PF figures publicly express optimism about winning an election. However, the party and military remain anxious and divided -- and open to compromise. The unity government will probably last the year -- and may not even decide a new constitution -- despite Mugabe's stated preference for March elections.
Madagascar. After stalemate in mid-2011, the recent formation of an interim government points to the regionally mediated transition timetable remaining on track in 2012 (see MADAGASCAR: Regional mediators face declining leverage - May 24, 2011). The effect will be greater normalisation despite remaining donor reservations. Resulting 'incumbency' advantages and effective co-option point to a coalition led by Andry Rajoelina's party forming government after May elections. Malawi. President Bingu wa Mutharika oversaw a 2011 backslide on political and economic governance. These issues are far from resolved, although civil society's initiatives have yet to be comprehensively taken up by opposition parties (see MALAWI: Further protests are likely in mid-August - August 1, 2011). Mutharika's sense of self-righteousness suggests political and policy volatility, although the government remains engaged with international partners. Along with further necessary and likely kwacha devaluation, donors' main concern is whether fertiliser subsidy disruptions will mean a poor 2012 harvest. Swaziland. The fiscal crisis is reaching new levels, with the royal household scrambling for assets to offer as surety for short-term loans. It remains caught between increasingly confident public sector unions and the budget cut demands of Pretoria and the IMF (see SOUTH AFRICA: Zuma struggles with Swazi bailout terms - July 25, 2011). So far, the lilangeni remains pegged to the rand. Despite growing social strain, the crisis is more likely to trigger slightly faster reforms under the 2006 constitution than any popular rejection of the monarchy.
Investor risk in these settings continues to be somewhat overstated. In particular, despite requiring extensive politicised negotiation and carrying potential corruption or reputational risks, Zimbabwe remains an under-rated destination. Nevertheless, unresolved political legitimacy issues and contests affect tenure security; officials' relatively short-term political or policy horizons portend rent-seeking, regulatory inconsistency and elevated risk of government interference in firms' financial arrangements. This will especially be so in Malawi and Swaziland, currently facing acute foreign currency shortages. South and Southern Africa Intra-ANC politics may distract President Jacob Zuma's attention from regional diplomacy -- unless he sees an opportunity to re-assert his presidential qualities and claims. Most economies in the region continue partly to depend on South Africa's growth prospects (see PROSPECTS 2012: South Africa - November 22, 2011).
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Burundi
Prospects for East Africa and the Great Lakes in 2012

Friday, November 11 2011 An Oxford Analytica Prospect Kenya's elections, after the violence that followed 2007's polls, dominate the political calendar in the region. Kenya's intervention in Somalia has raised political strains even further. Expectations are high that oil production will begin in Uganda by the end of 2012. The government in the Democratic Republic of Congo (DRC) looks to reconsolidate after what has proved to be a testing election process.
Kenya's Prime Minister Raila Odinga attends a news conference on the situation in the Horn of Africa, at the U.N. headquarters in New York. (REUTERS/Jessica Rinaldi)
What next The region in 2012 is broadly set for continued economic growth. However, political tensions will put economic gains at risk, especially in Kenya and Burundi. Analysis Regional economies are set for continued, fairly robust GDP growth.
Strategic summary
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Odinga remains the frontrunner in the Kenyan presidential race, given the legal challenges facing his main opponents. Museveni will see off opposition efforts to foster a protest movement in Uganda. Insecurity in eastern DRC will persist in 2012, exacerbated by electoral ethnic tensions. Burundi is at risk of sliding back into civil war, amid guerrilla violence and a government crackdown. Pressure on regional currencies and inflation should abate later in 2012.
Kenya, Rwanda and Tanzania The IMF estimates growth of about 6% in Kenya (6.1%), Rwanda (6.8%) and Tanzania (6.1%) in 2012. All three countries have benefitted from recovering crop yields -following the El Nino-induced droughts of early 2011 -- and from recent softening of global oil prices. Tourist growth remains brisk in Rwanda, with international tourist arrivals up by 28% this year. Kenyan tourism revenues are forecast to hit a record 1 billion dollars in 2011, although there has been some dampening for coastal resorts after kidnappings near the Somali border (see KENYA: Tourism adds voice to chorus of economic strain - October 7, 2011). However, the energy outlook is more mixed:
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Growth in production in Kenya, 10% in 2011, continues to lag behind demand growth. Energy rationing, which began in July, is likely to remain in place for some time. In September, US-based ContourGlobal announced funding for the 142 million dollar KivuWatt power project, a natural gas generation facility that will increase Rwanda's electricity capacity by 40%. Tanzania's chronic energy shortages are unresolved, and forced President Jakaya Kikwete to suspend a close ally, the Energy Ministry's Permanent Secretary David Jairo (see TANZANIA: Mines, energy and roads stymie government - July 29, 2011).
Uganda
In Uganda, GDP growth is forecast at 5.5% in 2012 (down from 6.4% in 2011). Although the major cash crops -- coffee, cotton, tea and tobacco -- continue to recover, inflation is the highest in the region (30.5% in October). However, investment in oil infrastructure is already bearing fruit (see UGANDA: Museveni is set to capitalise on oil boom September 29, 2011). Work is underway on a 4.6 billion dollar oil refinery in Hoima, western Uganda, with a potential capacity up to 150,000 barrels per day, with major implications for the regional fuel market (see AFRICA: Rising refining investment still lags demand - October 6, 2011). Burundi Burundi's GDP is forecast to grow by 4.7% in 2012. Several years of investment in agriculture and social sector infrastructure have begun to produce dividends. Tea exports are set to exceed 9,000 tonnes in 2011, and will continue to rise in 2012. Coffee exports are also growing. DRC Congolese GDP growth is forecast at 5.9% for 2012, driven largely by the mining sector and the continuing 6 billion dollar trade and infrastructure deal reached with China in 2007. Disputes with mining companies -- including the state's forced purchase of Katanga-based company CMSK -- remain a concern for investors (see CONGOKINSHASA: Mining sector governance falls short - July 18, 2011). Political risks A number of political difficulties put at risk the positive headline growth outlook. Kenya Under its new constitution, Kenya is due to hold both presidential and parliamentary elections in August 2012, but these are likely to be pushed to December. Incumbent President Mwai Kibaki will stand down, and Prime Minister Raila Odinga leads the pack of contenders to succeed him. Odinga's main rivals, Deputy Prime Minister Uhuru Kenyatta and former Higher Education Minister William Ruto, face prosecution at the International Criminal Court, which may scupper their candidacies. Voters mobilise largely on ethnic lines in Kenya, which will raise tensions. Kenya's intervention in Somalia risks a backlash among its sizeable ethnic Somali population, which will feed into electoral tensions (see KENYA: Repercussions of Somali intervention escalate November 3, 2011). Rwanda Kenya's intervention in Somalia risks a backlash among its sizeable ethnic Somali population
President Paul Kagame remains in an unassailable position. However, his government continues to crack down on opposition groups in Rwanda, and to be linked to assassination plots abroad (see RWANDA: Crackdown reflects regime investment goals - June 3, 2011). Consequently, a number of key donors are reviewing their aid policy towards Rwanda. Sporadic grenade attacks also continue in and around the capital, Kigali. However, none of these developments are likely to significantly weaken Kagame's position in 2012. Uganda With the opposition in disarray, President Yoweri Museveni will likely continue to consolidate his position in 2012. A number of 'young turks' within the ruling National Resistance Movement (NRM) continue to engage in 'point-scoring' against Museveni in parliament (see UGANDA: Opposition unlikely to gain from Museveni woes - September 7, 2011). This will be an increasing irritant for Museveni, but will not challenge his firm control -- including over the oil sector. Burundi With political violence escalating, tensions will grow in 2012. In September, gunmen massacred 39 people in Gatumba. The security forces blamed the opposition National Liberation Forces (FNL). FNL leader Agathon Rwasa, along with several hundred of his men, have been based in eastern DRC since the contested elections of mid-2010. Opponents of President Pierre Nkurunziza's government claim it is carrying out an increasing number of extra-judicial killings, and has stepped-up its harassment of opposition groups. With hard-liners apparently on the ascendency with the ruling party, Burundi may now be sliding back towards civil war (see BURUNDI: President consolidates while violence flares - May 27, 2011). Eastern DRC spillover Congolese elections are due on November 28, which should see President Joseph Kabila re-elected, probably with an increased majority in parliament. However, there has been a marked upsurge in political violence throughout the country since April. In eastern and southern regions, politicians have frequently campaigned on 'ethnic issues', escalating tensions further. These tensions are likely to continue after the election. Conflict and insecurity in eastern DRC affects the wider Great Lakes region (see CONGO-KINSHASA: Kabila struggles to secure the east - June 29, 2011). FDLR The Hutu extremist Democratic Forces for the Liberation of Rwanda (FDLR) are beginning to lose ground, with their numbers down to an estimated 2,500 fighters, according to UN estimates. Nevertheless, the group retains a significant capacity for violence. In addition, it continues to carry out punishment attacks against villages accused of 'disloyalty'. LRA
Further north, the Ugandan rebel Lord's Resistance Army (LRA) remains active, despite also coming under sustained pressure (see CENTRAL AFRICA: Region struggles to counter LRA threat - October 20, 2010). The US government has stepped up military support for regional operations against the group, including deployment of US troops to train regional militaries. Nevertheless, LRA attacks increased sharply in 2011, and the militia is now carrying out attacks against Congolese civilians on an almost daily basis. LRA leader Joseph Kony is believed to have returned to the DRC after a year in the Central African Republic and Sudan.
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Prospects for the Horn of Africa and Sahel in 2012

Tuesday, November 22 2011 An Oxford Analytica Prospect Sahelian states are struggling with varying levels of food insecurity, as well as fallout from the revolution in Libya. The Sudanese transition, following South Sudan's secession in July, remains fragile and fraught on both sides of the border. In the Horn, the civil war in Somalia has drawn more robust intervention from Kenya, with Ethiopia poised to scale up its involvement -- compounding a region-wide food security emergency, especially for those affected in Somalia itself. What next Most Sahelian states are likely to ride out the instability generated by the return from Libya of Tuareg fighters (and migrant workers) -- with Niger's government the most vulnerable. Amid continued frictions, Sudan and South Sudan will seek to maintain the flow of oil and the attendant revenues. Southern and central Somalia face the prospect of another failed security-led intervention by its neighbours, propping up an increasingly delegitimised transitional government in Mogadishu. Analysis Food security will be a challenge across much of the region into early 2012. In the Horn of Africa, efforts to combat the food emergency affecting parts of Eritrea, Ethiopia, Djibouti, Kenya and Somalia have been complicated by the civil war in southern and central Somalia, and the military intervention of Kenya (see AFRICA: Emergency response cannot fix chronic crisis - November 16, 2011). However, states in the Sahel - particularly Niger -- have acknowledged the impending strain on food reserves, and appealed for donor support. Sahel strains The fall of the Qadhafi regime will reverberate in Libya's southern and western neighbours (see LIBYA/AFRICA: Revolution triggers fallout across Sahel - September 22, 2011). Niger Niger has absorbed the bulk of returning fighters, and its economy is the worst placed in the region to suffer the loss of remittances from migrant workers in Libya, or absorb those who return. Moreover, President Mahamadou Issoufou is under pressure from the new Libyan authorities to return Saadi al-Qadhafi, who is in Niger (see NIGER: Libya crisis compounds stability strains - September 26, 2011). Having already suffered an alleged coup plot, Issoufou will be at risk of further attempts -- especially if socioeconomic conditions deteriorate. His government will receive additional support from donors, especially France, but remains fragile. Mali By contrast, President Amadou Toumani Toure is set to end his second term and step
A resident flees from his home in Afgoye region, an al Shabaab insurgent stronghold. (REUTERS/Feisal Omar)
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The outcome of Mali's presidential election is open, as the country looks to consolidate its democratic base with another successful poll. Niger's Issoufou administration will struggle to placate its restive Tuareg constituents, leaving it little space to push other reforms. Interventions and civil war will mar Somalia security, while in Somaliland, parliamentary elections will take place involving new political parties. Governments in both Sudan and South Sudan will struggle to contain peripheral insurgencies, and support each other's opponents, while retaining power. Tensions between Ethiopia and Eritrea will continue to escalate as Asmara evades Addis Ababa's efforts to keep it isolated, raising the prospect of renewed war.
down, having successfully managed the strains that returning Tuareg fighters have brought to Mali. Toure has pushed through a series of constitutional reforms, including creation of an independent electoral agency, which will be put to voters in a referendum at the same time as the presidential poll on April 29 (see MALI: Libya crisis complicates pre-election cycle - October 13, 2011). Mali -- along with Mauritania -- will continue stepped-up military action targeting al-Qaida in the Islamic Maghreb and other criminal networks (see MAURITANIA: Ould Abdel Aziz plans for long-term rule October 28, 2011). Chad Following a late start, President Idris Deby will work to build positive relations with Libya -- bolstered by his re-election, buoyant oil revenues and stable relations with Sudan (see CHAD: Deby is well placed to ride out Libya shocks - September 30, 2011).
Increased Western engagement with strong Islamist parties in Egypt, Tunisia and probably Libya, could set an important precedent for similar engagement in Somalia and Sudan.
Sudanese transition Further to the east, 2012 will be a difficult year in Juba and Khartoum. Sudan Hardliners in the National Congress Party (NCP) regime have taken the lead in Khartoum's response to instability caused by South Sudan's secession. Efforts to coopt any of the traditional political opposition have proved fruitless, while the regime's opponents in Darfur, South Kordofan and Blue Nile have formed an alliance seeking the NCP's overthrow. The government's position is fragile; its ability to continue to fend off its challengers hinges in large part on whether it can contain inflation, which is at the root of socioeconomic strain (see SUDAN: Khartoum maintains balancing act -- for now - October 27, 2011). South Sudan
The Sudan People's Liberation Movement (SPLM) also faces challenges to its authority. Khartoum and Juba sponsor each other's opponents, while complaining of interference from across the border. However, economic necessity demands that Juba seeks stable relations with Khartoum for the foreseeable future, given South Sudan's overwhelming fiscal dependence on oil revenues, and the lack of alternative export infrastructure to the pipeline via Port Sudan (see SOUTH SUDAN: Security is tied tightly to the economy July 19, 2011). Horn crisis Regional hegemon Ethiopia will face significant pressures in 2012 -- largely external, except for inflation (see ETHIOPIA: Government takes aggressive regional posture May 5, 2011). They arise from its attempts to adjust to the changing security environment in the Sudans and in Somalia, while struggling to maintain what had been a successful strategy of isolating the Eritrean regime. Sudan overspill Addis Ababa has deployed peacekeepers in Sudan's disputed Abyei region, along the north-south border. In the context of a long history of mutual intervention between factions in Sudan and in Ethiopia and Eritrea, developments in the Sudans will have direct security implications for their eastern neighbours. Ethiopia has already absorbed thousands of refugees from the fighting in Blue Nile state. Somalia -- more deterioration Kenya's mid-October military intervention in southern Somalia looks set to drag well into 2012. Kenya's action has shifted southern and central Somalia's trajectory:
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Somalia's crisis is being further securitised and internationalised
Rhetorical attention will continue to be paid to the end of the Transitional Federal Charter's mandate in August 2012, and there is likely to be some kind of negotiated move to a new governance framework, but momentum appears to be shifting towards a sustained regional military engagement cum occupation (see SOMALIA: Southern war changes 'roadmap' relevance - November 4, 2011). Ethiopia will continue to prefer intervention by proxy, mainly the Ahlu Sunna wal Jama'a umbrella militant grouping, but risks having its own troops drawn in. Even then, Addis Ababa will probably resist another sustained occupation, following its 2006-09 experience. Al-Shabaab forces could be displaced from significant swathes of southern Somalia, as its fighters turn over resources to clan militia. However, if Kenyan forces 're-hat' and remain in Somalia as part of the African Union peace-keeping mission (AMISOM), and especially if Ethiopian troops were to do so, resentment of foreign occupation could feed into a resurgence for the group, as per its 2006-09 rise. Under military pressure, al-Shabaab's use of asymmetrical tactics, including terrorist attacks, is likely to rise -- both inside Somalia and, less frequently, in neighbouring countries.
Al-Shabaab's fighters may move their centre of gravity north, in the near-to-medium term, creating additional security threats for Puntland and Somaliland (and any landbased counter-piracy initiatives); parliamentary elections are due next year in the latter. Eritrean isolation
Ethiopia will intensify its campaign for tighter UN sanctions on Eritrea. Kenya and Ethiopia have ramped up allegations that Eritrea is supporting al-Shabaab. However, Eritrea appears to be pushing ahead with its regional re-engagement strategy (see AFRICA: Eritrea faces renewed regional pressure - July 7, 2011). This tougher diplomatic competition, combined with continued sponsoring of proxies by both countries, points to rising inter-state tensions in 2012, perhaps to their highest levels since the end of the 1998-2000 war.
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West Africa
Prospects for West Africa in 2012

Friday, November 18 2011 An Oxford Analytica Prospect West Africa's coastal states face a range of outlooks next year. Ghana, Senegal and Sierra Leone confront contentious election processes. Liberia's government hopes to reconsolidate following the difficult elections late in 2011. Nigeria, the dominant regional economy, faces a difficult balancing act between economic reforms and security challenges. Ivory Coast and Guinea will hope to consolidate post-conflict transitions. What next Global commodity prices will be a key factor influencing inflation and the fiscal position of most states in the region. Elections will be fraught but largely peaceful in Ghana and Sierra Leone. Senegal's president risks his democratic legitimacy pushing for a third term, but faces a weak opposition. Violence will not prevent Nigeria from boosting its profile as an investment destination, especially vis-a-vis other African countries. Analysis The outlook varies widely across the region.
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Nigeria's President Goodluck Jonathan gives a speech. (REUTERS/Daniel Munoz)
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The Jonathan administration in Nigeria will struggle to make progress on its signature electricity sector reform, while facing continued violence from Boko Haram. Ghana's Atta Mills administration will squeeze further revenues out of the mining sector, ahead of a tough reelection battle, and could lose control of parliament. Unprecedented criticism and protest against Senegal's President Abdoulaye Wade this year suggest a heated election period in early 2012.
Nigerian trajectory President Goodluck Jonathan and his administration will continue in 2012 to champion their economic reform agenda, while struggling with the fractious federal political system, entrenched local and regional interests and pervasive corruption at all levels of government. Compounding these challenges are stubbornly high inflation and threats to security. Economic reforms Consolidation in the banking sector will continue, driven by Central Bank Governor Lamido Sanusi (see NIGERIA: Bank licence move will ease wider fears - August 8, 2011). However, expected continued monetary tightening will create tough conditions for expansion of credit to businesses, at least until late 2012. The highest profile reform is electricity sector privatisation, which has fallen behind schedule (see NIGERIA: Finance will be key to power privatisation - June 27, 2011). The administration's reputation rides on this programme: improving electricity supplies would be hugely popular, and address a key economic bottleneck. However, past privatisation efforts (beyond power) have stumbled, and the electricity sector's particular features make this project especially uncertain. Efforts to improve fiscal performance -- especially shifting the balance of spending in favour of capital expenditure (namely, infrastructure) -- can be expected to make modest progress. However, the creation of the sovereign wealth fund, an important step towards more transparent and productive management of oil revenues, is likely to remain mired in infighting with state and local governments. Meanwhile, the long-delayed oil sector reform bill could remain stalled through 2012.
The electricity privatisation effort will prove challenging in Nigeria
Insecurity The Boko Haram insurgency in north-eastern Nigeria will intensify (see NIGERIA: Boko Haram puts Jonathan under pressure - November 7, 2011). Jonathan's administration and the governments of Borno and (to a lesser extent) Yobe States will struggle to find an effective response. Boko Haram's increasingly bold attacks, and use of suicide bombers, mark a significant deviation from patterns of communal violence across the 'middle-belt' region that to date have claimed more lives (see NIGERIA: State struggles for response to Boko Haram - July 27, 2011). An amnesty, like that granted to militants in the Niger Delta -- Jonathan's home region -- is unlikely to be offered to Boko Haram, because of pressure on Jonathan from the Delta region, and because Boko Haram probably lacks incentives for dialogue with federal government (see NIGERIA: Abuja strives to maintain Niger Delta amnesty - November 9, 2011).
Election battles A number of countries face elections next year: 1. Senegal The unprecedented protests octogenarian President Abdoulaye Wade experienced this year -- over proposed constitutional changes and his bid for a further term -point to heated formal and street-level politics ahead of (and following) end-February polls. The Constitutional Council has yet to rule on Wade's eligibility, but is unlikely to block him. Wade opponents have not yet offered voters a viable challenger, but a clear Wade victory may depend on high rural and conservative voter turnout. Addressing chronic electricity problems and greater transparency over his eventual political exit will determine whether Wade can survive fresh opposition from restless Dakar youth (see SENEGAL: Constitutional ruling to raise tension - August 26, 2011). 2. Sierra Leone Incumbency advantages, iron ore exports, and his 'anti-corruption/consolidating recovery' message point to victory for President Ernest Koroma next November. The margin may narrow if the opposition People's Party (SLPP) remains united behind candidate Julius Maada Bio. An attack on Bio in September illustrated latent potential for poll-related violence leveraging southern or SLPP grievances (see SIERRA LEONE: Mining governance shapes election race - September 13, 2011).
3. Ghana President John Atta Mills and his National Democratic Party (NDC) will face a tough battle to retain power in December elections. Atta Mills won in 2008 with a narrow margin of 50.23%, and the NDC holds a slim 116-seat majority (of 230). Although Ghana has benefited modestly in fiscal terms from the start of oil production, and stabilised yawning budget and current account deficits that the NDC administration inherited on taking office in 2009, popular perceptions continue that not enough benefit has passed through from high global commodity prices. Popular expectations are somewhat unrealistic, but electoral logic has seen the NDC present an expansionary 2012 draft budget. A GDP rebase exercise in 2010, and oil revenues, have helped create space for additional spending. However, the budget is also supported by increased taxes on the mining sector. A 10% windfall mining tax may eventually be dropped, but the increase in the corporate tax rate for mining companies from 25-35% is likely to stay (see GHANA: Extractive players may lose preferential terms - October 21, 2011). Post-election outlooks In Liberia, no sustained violence has yet followed this month's presidential run-off boycott (see LIBERIA: President faces coalition governance hurdles - November 11, 2011). However, the process showed how fragile democratic consolidation remains despite international attention. Without a parliamentary majority and with many Liberians questioning her legitimacy, President Ellen Johnson Sirleaf will prioritise reconciliation and inclusive politics. Like its neighbours, Liberia faces considerable infrastructural challenges amid high local expectations of a livelihoods dividend from mining investment (see WEST AFRICA: Logistical issues will preoccupy miners - August 10, 2011). Meanwhile, President Yahya Jammeh's incumbency is not under threat following guaranteed victory in next week's Gambia election (see GAMBIA: President's re-election is a near certainty October 25, 2011). Post-conflict transitions Austerity and introspection in donor countries comes at a bad time for two post-conflict transitions. 1. Ivory Coast A source of 2012 (re)-investment opportunities, the country nevertheless faces considerable national reconciliation challenges (especially in the rural west) and balancing demands for post-violence justice with maintaining the current peace -while integrating opponents into a single army (see IVORY COAST: Long-term conflict drivers will remain - September 21, 2011). 2. Guinea President Alpha Conde's recent dialogue with opponents will push inaugural legislative elections into early 2012. It improves the chance of these being peaceful (although Conde's party will struggle for a majority). However, campaigning risks becoming more ethnicity-based -- and Conde's main task remains reassuring the military (see GUINEA: Conde attack shows up continuing reform risks - August 3, 2011). The policy focus will continue shifting from mining terms reviews to bringing on production. Governments in Guinea and Ivory Coast face continued, tough political transitions
Moreover, small states in the region remain vulnerable to criminal networks; 2012 will also be critical in addressing emerging piracy networks before these take further root (see WEST AFRICA: Regional piracy response will take time - October 19, 2011).
Prospects 2012: Russia/CIS

In a year of elections, the ruling party's majority will shrink, but this will not dent Kremlin control of the policy-making process. The Putin-Medvedev job switch may spark renewed elite infighting.
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Russian politics

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The ruling party's parliamentary majority will shrink, but this will not dent Kremlin control of the policy-making process. Medvedev's premiership is likely to lead to a significant government reshuffle, which will spark renewed elite infighting. Political and policy-making trends are likely to encourage fiscal profligacy unless there is a sharp and sustained fall in the oil price.
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The main downside risks come from an outright recession in the euro-area or a more general global slowdown that depresses the oil price -- or both. Spending appears over-optimistically high for the next few years because the budget still depends heavily on oil revenues. Net outflows of private capital are likely to continue, possibly reflecting the fact that Russian businesspeople see the future as one of modest growth at best, with little hope of change.
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Russia will try to lure the Central Asian states into its proposed 'Eurasian Economic Commission', but it needs to convince its interlocutors that the bloc would have tangible benefits. China is continuing to make inroads into regional energy sectors, and is likely to have the most success in Kazakhstan and Turkmenistan. The EU-backed Trans-Caspian Gas Pipeline will encounter further resistance from Kazakhstan. Russia-Tajikistan relations are on a rapid downward spiral, meaning that Tajikistan is likely to seek alternative strategic partners such as Iran.
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Georgia is entering an electoral cycle in which the ruling United National Movement (UNM) might unexpectedly find itself seriously challenged. Fearing the precedent of past 'colour revolutions' and this year's Arab uprisings, Azerbaijan's government will continue to repress youth activists. Next year, with Armenia's economy at risk from a possible global slowdown, the government will try to improve the business environment to encourage investment.
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Russia/CIS
Russia
Prospects for Russian politics in 2012

Thursday, November 3 2011 An Oxford Analytica Prospect The coming year will be defined by the composition of the next parliament, the presidential election in March 2012 and the formation of a new government under putative Prime Minister Dmitry Medvedev. Vladimir Putin is all but certain to win a solid victory and return to the Kremlin next year, though the trajectory of his economic and social policy agenda will be constrained by external pressures and sensitivity to popular demands. What next Large popular uprisings are exceptionally unlikely; elite infighting is by far the more realistic source of possible instability. If the ruling United Russia party loses its large constitutional majority, there could be repercussions for party managers and key regional leaders, including Moscow Mayor Sergei Sobyanin. Such a poor performance would also deal a personal blow to Medvedev, and could weaken his authority. However, Putin is unlikely to remove Medvedev from the premiership unless he mishandles a political or economic crisis of significant proportions. Analysis Next month's parliamentary elections will produce a majority for United Russia, enabling the Kremlin to continue dominating legislative politics in 2012. However, the party is likely to fall short of the healthy two-thirds super-majority it currently enjoys. Although this will make little difference to day-to-day policy-making, it is likely to have lasting political consequences:
Prime Minister Putin gestures as President Medvedev looks on during a meeting with with workersin the Stavropol region, Russia. (REUTERS/RIA Novosti)
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The ruling party's parliamentary majority will shrink, but this will not dent Kremlin control of the policy-making process. Medvedev's premiership is likely to lead to a significant government reshuffle, which will spark renewed elite infighting. Political and policymaking trends are likely to encourage fiscal profligacy unless there is a sharp and sustained fall in the oil price.
Flagging support. Despite Putin's efforts to change United Russia's image (see RUSSIA: Putin attempts to rebrand ruling party - May 20, 2011) -- which was so damagingly described by well-known blogger Aleksei Navalny as the "party of crooks and thieves" -- support remains relatively low in a number of key regions. According to the Public Opinion Foundation, United Russia is facing a particularly tough fight in Moscow and St Petersburg, where its support is as low as 30% of the electorate. While most polls indicate that the party's support will exceed 50% of the final ballot nation-wide, United Russia will struggle to hit its unofficial target of 65%.
Organisational challenges. The reshuffle of the party's de facto leadership, with Medvedev taking a central role in the campaign, has caused organisational problems and is sending mixed messages to Russia's voters. Medvedev's criticisms of the party in the past and his recent calls for its reconstruction have not helped internal morale or the party's appeal. Fraud accusations. Since 2007, the authorities have also been more sensitive to accusations of electoral fraud. This is partly a response to the parliamentary walkout by opposition parties in protest against the alleged manipulation of regional electoral results in 2009 (see RUSSIA: Election conduct sparks anti-regime backlash October 16, 2009). Although United Russia continues to benefit from the advantages of incumbency, such as the use of 'administrative resources' to bolster its political standing, systematic manipulation of election results will be more difficult than it has been in the past. This is especially true in Moscow and St Petersburg, where blatant falsification risks sparking unwelcome protests ahead of the presidential election.
Kremlin control of policy-making Putin's efforts to refresh the party's parliamentary cadre will further reinforce parliament's subordinate position. Analysis of the top 300 candidates in United Russia's party list -- excluding government ministers and regional governors who will not take up their seats in parliament -- reveals the composition and priorities of the next Duma (lower house of parliament) majority:
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Putin's attempt to refresh United Russia will further reinforce Kremlin dominance over parliament
Less experienced. Fewer deputies will return compared with 2007. Less business representation. Fewer will come from the business elite. More 'decorative'. There will be more newcomers from backgrounds in socially desirable professions, in particular doctors and teachers. More party-oriented. More deputies will have served in regional parliaments and party organs, in particular youth movements.
The most significant change in parliamentary policy-making will arise from the resignation of former Finance Minister Aleksei Kudrin, who transformed the budgetmaking process and curbed Duma lobbying (see RUSSIA: Kudrin resignation exacerbates vulnerabilities - September 30, 2011). His absence will provide an opportunity for a sizeable number of the remaining sectoral lobbyists to press for particularist benefits, which are likely to impede commercial competition and distort efforts to regularise policy-making. Putin's return The result of the March presidential election is beyond doubt: Putin will return for a third term as president, and no other candidate will be capable of providing significant competition. At United Russia's September convention, it also became clear that Medvedev would become Russia's next prime minister. While Putin's aim in returning to the Kremlin may have been to extend his control and authority over the political system, the mismanaged 'castling' of posts at the very top of the government has created uncertainties at lower levels of the elite and state bureaucracy (see RUSSIA: Putin's control of elections goes off-course - October 7, 2011). This anxiety is likely to affect the transition of political leadership for at least the first half of 2012.
New government As with Russia's last electoral cycle in 2007-08, the impasse caused by the impending reshuffle is providing an opportunity for elite-level tensions to rise to the surface. Once again, the confrontation is most marked among the security structures. The ongoing struggle between the Prosecutor-General's Office and the Investigative Committee, which led to tit-for-tat arrests in 2007, is threatening to re-emerge. The weakening of Medvedev's presidency following the announcement of Putin's return will be used by competing factions to attempt to discredit their opponents -- and Putin will not want this situation to get out of control before he returns to the presidency next spring. Furthermore, unlike previous prime ministers (with the notable exception of Putin), Medvedev will have a substantial coterie of his own supporters to place within the government. This is likely to upset the balance of power within the government, as previewed by Kudrin's unusually rancorous resignation. Medvedev's job security Unlike President Boris Yeltsin, Putin has been fairly reluctant to reshuffle his cabinets without clear cause. Nonetheless, Medvedev will bear responsibility for problems caused by a possible future recession or social unrest arising from significant welfare reform. Fiscal exigencies suggest that entitlements reform will become a major priority over the next five years, but it is unlikely that Medvedev will have to tackle these challenges in 2012. Likewise, Russia's economic prognosis for the coming year is relatively positive: growth will be moderate, inflation will be controlled and wages will continue rising slightly faster than prices. The main source of vulnerability is Russia's exposure to the ongoing euroarea crises, and the knock-on effects this might have for commodity prices (see PROSPECTS 2012: Russia's economy - November 1, 2011). This is the only realistic foreseeable threat to Medvedev's reputation as an economic manager -- and therefore to his job security.
Elite infighting is likely to be most pronounced among the security services
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Prospects for Russia's economy in 2012

Tuesday, November 1 2011 An Oxford Analytica Prospect Russia is less exposed to global turmoil now than it was in 2008 -- but it is far from invulnerable. Respected former Finance Minister Aleksei Kudrin, who resigned in September, has long been sounding the alarm about budgetary policy. Plans for Vladimir Putin to return as president have dampened hopes of systemic reform, and the continued net outflow of private capital reflects the prevailing sense of uncertainty. What next Growth is likely to reach about 4% in 2012, assuming that Europe avoids a double-dip recession. Ambitious reform plans exist but look unlikely to be implemented, at least under current circumstances. However, these external and domestic drivers are interrelated: if there is a clear worsening of the global economic situation in early 2012, the authorities could move to tighten fiscal policy and pursue fundamental reforms after the March presidential election. Analysis The sheer size of Russia's 1.5 trillion dollar economy makes it less vulnerable to the outside world in general (see PROSPECTS 2012: Global economy - October 31, 2011), and the euro-area crisis in particular, than a smaller but otherwise similar economy would be. Past fiscal prudence and the experience gained in 2008-09 help, as does the fact that sovereign external debt is only 3% of GDP. Since the Lehman crisis, Russian corporate debt to foreign lenders has risen only slightly and has been restructured, so that most of it is no longer short term. The end result is that vulnerability to a euro-area contingency is real but modest (see RUSSIA: US and EU weakness threaten to dent growth - September 16, 2011).
A trader gestures as he talks on the phone at the MICEX in Moscow. (REUTERS/Alexander Natruskin)
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The main downside risks come from an outright recession in the euro-area or a more general global slowdown that depresses the oil price -- or both. Spending appears overoptimistically high for the next few years because the budget still depends heavily on oil revenues. Net outflows of private capital are likely to continue, possibly reflecting the fact that Russian businesspeople see the future as one of modest growth at best, with little hope of change.
Nonetheless, Russia has in the recent past shown greater sensitivity to external shocks than might have been expected. GDP fell by 7.8% in 2009 -- the worst performance of any G20 economy -- whereas most other large emerging markets only slowed down. Other major oil-exporting states experienced either slower growth or at worst a small decline. Once again, a large and sustained fall in the oil price would damage Russian revenue streams, and its balance of payments in turn; it might also set other 'alarm bells' ringing as it did in 2008.
Budget risks The Duma (lower house of parliament) has approved the federal budget plan for 2012 and the outline for 2012-14. The average annual Urals oil prices assumed in the budget outline, on the order of 100 dollars in each of the three years through 2014, are plausible enough. However, they leave a large downside risk. At a 60-dollar oil price next year, the federal budget deficit would be 5.5% of GDP, according to Kudrin. A deficit of that order may be viable for a time in some economies -- but confidence in Russia is weak even without such a yawning deficit, suggesting that this scenario would be damaging both to investor attitudes and to broader macroeconomic prospects. The Ministry of Economic Development estimates that if the oil price fell this sharply in 2012, GDP would shrink by 0.5-1.4% in 2013. Kudrin has argued that the Russian state should give priority to rebuilding its Reserve Fund instead of doing what it is currently doing -- boosting public sector pay and pensions, re-equipping the military and spending on top-down industrial 'modernisation' all at once (see RUSSIA: Kudrin resignation exacerbates vulnerabilities - September 30, 2011). In Kudrin's view, the main policy objectives should be to:
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0.5-1.4%
Expected GDP contraction if the oil price falls to 60 dollars/barrel
design a federal budget that will balance at an oil price of 90 dollars/barrel in 2015; restrict spending if the oil price falls (by capping the non-oil-and-gas deficit); review (and by implication cut) planned defence spending; peg pensions to the rate of inflation, rather than increasing them in real terms; and lower the ratio of budgetary spending to GDP.
Doomed to slower growth? Policymakers and businesspeople would very much like to see a future trend rate of growth of 5% or more per year, but all current projections for the next few years are lower. There are a number of reasons why medium-term growth is expected to be (at best) well below pre-crisis rates:
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The labour force has begun to shrink. Falling numbers of young labour-force entrants mean less mobility and slower improvement in human capital (see RUSSIA: State struggles to overcome productivity gap - October 5, 2011). A return to the rapid pre-crisis growth of foreign lending is highly unlikely. There is little confidence that the oil price will return to sustained growth. In addition, Russia may have entered the middle-income trap, where an emerging economy runs out of easy gains from the reallocation of resources and import of technology.
Reform overhaul
The government strategy until 2020, originally developed in 2008, is currently undergoing major reconstruction. If large numbers help, the revision will be a success: 21 expert groups are working on the project, and their interim report, published in August, ran to 517 pages (see RUSSIA: Growth strategy runs counter to elite interest August 29, 2011). The language of the report is liberal. Its authors say that Russia's poor business environment is holding back economic performance, and that faster growth will come only if that environment is reformed. The key defects of Russia's economic institutions are defined as:
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The authorities are aware of the need for reform, but lack the will and incentive to implement change
unequal rights among market participants; barriers to market entry; distortions created by sectors dominated by the state and/or monopolies; excessive and ineffective regulation; corruption; and insufficient restructuring of many established companies that receive state support.
This amounts to rephrasing what many liberal critics, both foreign and domestic, have been saying for years: that Russia lacks an open, competition-driven economy subject to the rule of law and with reasonable protection of property rights. What the report lacks is any account of how, politically, the necessary economic reforms will be put in place. Corrupt links between politicians and business cronies are extensive, and the present political elite has few incentives to change the arrangements that sustain it. Policy options High budgetary spending and an absence of serious reform leave Russia more vulnerable in the coming year to a euro-area downturn than it might otherwise be. However, once the presidential election is over, a revamped Putin leadership might well be capable of trimming public spending. It is less likely to push through reforms that would make for a level economic playing field, but this more optimistic scenario cannot be ruled out entirely.
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Prospects for Central Asia in 2012

Tuesday, November 22 2011 An Oxford Analytica Prospect Social unrest has been rising over the past year, including in Kazakhstan, by far the region's most important and investor-friendly economy. Yet a Central Asian version of the 'Arab awakenings' looks unlikely in 2012. There will be little external pressure to democratise: global actors are currently more interested in securing a firm position in the energy sector (China and the EU) or in affirming their strategic influence (Russia and the United States). What next Central Asia will witness a new round of elections in early 2012, but a presidential poll in Turkmenistan and parliamentary elections in Kazakhstan should easily enhance the authority of the ruling regimes. Yet in Uzbekistan and Kazakhstan, incumbent presidents are ageing and may not be able to delay a transfer of power for too much longer. Diversification of energy export routes and a push for greater inward investment will drive foreign policy choices, with China set to remain the favoured partner. No longer the sole dominant power in the region, Russia's relations with most Central Asian states will continue to weaken; ties with Turkmenistan, Uzbekistan and Tajikistan look especially fragile. Analysis Despite decades of repression and weakened, jailed or exiled opposition movements, the Central Asian regimes are still mindful that superficially stable systems of governance -- such as those in North Africa -- have underlying weaknesses that may predispose them to collapse. Regional leaders (with the possible exception of Kyrgyzstan's President-elect Almazbek Atambayev) face no imminent threat to their authority, but decades of political ossification incurs costs. Electoral politics
Kazakhstan's President Nursultan Nazarbayev attends a parliament session in Astana. (REUTERS/Mukhtar Kholdorbekov)
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Russia will try to lure the Central Asian states into its proposed 'Eurasian Economic Commission', but it needs to convince its interlocutors that the bloc would have tangible benefits. China is continuing to make inroads into regional energy sectors, and is likely to have the most success in Kazakhstan and Turkmenistan. The EU-backed TransCaspian Gas Pipeline will encounter further resistance from Kazakhstan.
Electoral politics in Central Asia oscillates between actual opportunities for effecting real change (Kyrgyzstan) and shallow performances of regime self-legitimisation (elsewhere). The coming year will bring some of both:
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Kyrgyzstan. Atambayev's election will probably lead to a reshuffle in the ruling coalition (see KYRGYZSTAN: Election offers chance for reconciliation - November 4, 2011). Feliks Kulov's Ar-Namys party has signalled interest in joining the new coalition, and Respublika is awaiting rewards for contributing to Atambayev's victory. The fate of the nationalist Ata-Jurt party is uncertain; it may go into opposition, with potentially destabilising consequences. 'Opposition' elsewhere. New 'loyal opposition' parties are being allowed in both Turkmenistan and Kazakhstan -- the Farmers' Party and Ak Zhol respectively. Their function is to provide the ruling authorities with a semblance of pluralism. In Kazakhstan, Ak Zhol is likely to win token representation in parliament in the January elections. Similar to the 2011 presidential election in Kazakhstan -- which incumbent Nursultan Nazarbayev won with over 95% of the vote -- Turkmenistan's February election will see President Gurbanguly Berdymukhammedov win reelection in a landslide.
Russia-Tajikistan relations are on a rapid downward spiral, meaning that Tajikistan is likely to seek alternative strategic partners such as Iran.
Politics will oscillate between real opportunities for change and shallow demonstrations of regime legitimisation
Veneer of stability? Despite the authorities' efforts to convey the message that all is calm and stable, social unrest has been emerging across the region:
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Kazakh emerging insurgency. Long thought invulnerable to Islamist terrorism, Kazakhstan has experienced a surge in attacks, with no signs that the root causes of the militancy will be addressed in the coming year (see KAZAKHSTAN: Emerging jihadist movement rattles regime - November 18, 2011). Corruption, wealth disparity and the lack of formal channels for airing discontent and dissent have come to haunt even a country previously considered immune to Islamist terrorism owing to its energy-fuelled boom. Protest in Turkmenistan. A huge explosion at a weapons depot in Abadan (near the capital) caused over 1,000 casualties in July. Following a failure by the authorities to compensate the victims, a rare public protest took place in September. Kyrgyzstan's tenuous stability. Should Atambayev fail to include leading nationalist figures in his cabinet, or award them with other senior administrative positions, the new administration in Kyrgyzstan will face renewed challenges to its authority and legitimacy.
Energy and growth Central Asia's commodity Despite expectations of growth in 2012 (5-6% in Kazakhstan and 7% in Turkmenistan -dependence makes it but less in the more impoverished economies) Central Asia will remain highly vulnerable vulnerable to external shocks, to external shocks: the economies depend on relatively few export commodities, and despite relatively strong are therefore hostage to price fluctuations on global markets. A focus on short-term headline growth regime stability and maximisation of revenues and natural resource rents will not prompt the regimes to introduce much-needed structural reforms; this is partly because of the fear that genuine economic restructuring would further deepen social discontent.
Russia's frosty relations with some of its traditional Central Asian partners and the difficulty of securing financing for the EU-backed Nabucco project are positive for China, which will continue expanding its outward investment into the region's oil and gas sectors and building up associated export infrastructure. Of the region's energy majors, Turkmenistan has undertaken the most notable shift towards Beijing: gas exports to China increased from 3.5 billion cubic metres (bcm) in 2010 to an expected 13.0 bcm in 2011. This is a modest proportion of China's total gas demand, but both sides are committed to increasing this to 40 bcm per year by 2015, despite the fact that existing infrastructure cannot support such large export volumes (see TURKMENISTAN/CHINA: Gas plans raise capacity questions - May 24, 2011). Moscow's scramble for influence Partly in response to the Central Asian states' tilt towards China, Iran and other regional powers, Russian Prime Minister Vladimir Putin has stepped up his efforts to promote a 'Eurasian Union' or 'Eurasian Economic Commission' across the post-Soviet space (see RUSSIA: Putin will chart steady strategic course - October 13, 2011). Yet the uncomfortable reality for Russia is that it will continue to face an array of challenges to its influence in Central Asia. Ties with Turkmenistan still have not recovered in the wake of the 2009 gas disruption, and the authorities in Ashgabat have successfully found alternate export options. Relations with Tajikistan are again taking a turn for the worse following the stalling of negotiations on a bilateral security treaty and the jailing of two pilots (including one Russian citizen) accused of illegally entering Tajikistan's airspace. The only possible reprieve for Moscow has arisen in Kyrgyzstan, where Atambayev has promised that the US military's lease on the Manas Transit Centre will not be renewed when it expires in 2014. Yet even this is only a partial victory for Russian interests: according to the constitution, the president is not responsible for foreign policy-making. US security engagement With Russian influence waning and China having shown no interest in involving itself in the region's complex security environment, the United States and NATO may have an opportunity next year to reposition themselves and expand their influence: Russia will continue to face an array of challenges to its regional influence
Security ties between Uzbekistan and the United States are progressively improving, signalling a recovery from the relationship's near-collapse in the wake of the 2005 Andijan crisis. Direct US military assistance to Uzbekistan is all but certain to resume next year. Even constitutionally neutral Turkmenistan has reportedly granted overflight rights to the United States, which will need to use the airspace to support operations in Afghanistan.
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Prospects for Armenia, Azerbaijan and Georgia in 2012

Thursday, November 24 2011 An Oxford Analytica Prospect The potential remains for rekindled conflicts between Armenia and Azerbaijan in Nagorno-Karabakh that could bring in Russia, Turkey or Iran, and in the secessionist regions of Abkhazia and South Ossetia involving Georgia and Russia. The region is an energy producer and has strategic pipelines running through it that would become military targets. What next In Georgia, it should become clearer by early 2012 whether Bidzina Ivanishvili's new political force can build on initial public sympathies and present itself as a credible challenger to the Saakashvili government. In Armenia, efforts by the opposition to increase its currently tiny representation in parliament at May elections will rack up political tensions. The Azerbaijani regime is unlikely to reverse or even slow its targeting of opposition electronic media and youth activists, despite international criticism. Analysis The interconnected security and economic crises following the August 2008 RussoGeorgian war in South Ossetia were a severe set-back for Georgia. Although the economy has since stabilised, real GDP has yet to regain its 1989 level, relations with Russia are poor and the lost territories are entrenched in their opposition ever to being ruled from Tbilisi again. Incidents have continued along the cease-fire line in Karabakh, threatening to escalate into a serious crisis (see AZERBAIJAN: Frontline weakness raises Karabakh risks September 14, 2011). Azerbaijan is becoming more authoritarian every year. Yet the economy has roared ahead since the mid-2000s, powered by energy, and it was unaffected by the global 2008-09 financial crisis; however, it has slowed this year, oil production having reached a plateau. Armenia's political system presents a show of political competition but not the reality. Its real GDP has yet to recover to 2008 levels, although the economy has diversified since 2009.
People mark the anniversary of Georgia's 2008 conflict with Russia (REUTERS/David Mdzinarishvili)
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Georgia is entering an electoral cycle in which the ruling United National Movement (UNM) might unexpectedly find itself seriously challenged. Fearing the precedent of past 'colour revolutions' and this year's Arab uprisings, Azerbaijan's government will continue to repress youth activists. Next year, with Armenia's economy at risk from a possible global slowdown, the government will try to improve the business environment to encourage investment.
Georgia Parliamentary and presidential elections (in October 2012 and 2013 respectively) will test Tbilisi's commitment to democracy. Once the cycle is complete, the redistribution of power to the premiership will be fully in force. It is explicitly designed to limit cohabitation, so that if 2012 ushers in a relatively stable and legitimate parliament, 2013 will probably be a personality contest rather than a high-risk showdown. The UNM enters the electoral cycle seasoned and politically victorious. Until recently, it seemed the contest would mainly revolve around internal UNM jockeying to identify future leaders. However, in October, Ivanishvili -- a highly reclusive billionaire -announced his intention to form a political party to contest the parliamentary elections (see GEORGIA: Billionaire enters political scene - October 18, 2011). Opposition groups have rallied around the new leader, but the final shape of Ivanishvili's political force and his agenda still lack clarity, and he needs to organise a party structure and electoral machinery. So far, the ruling party has responded by setting up administrative obstacles to the challenger. Economic difficulties and social hardship play against the UNM. Growth, forecast by the government at 6% in 2011, has been largely jobless. Food and energy prices continue to rise. Radical liberal reforms and increasing inequality have strained the social fabric, but confidence in state institutions is above the transition region average (see EASTERN EUROPE/CIS: Citizens still prefer democracy - July 26, 2011). Georgia will remain highly vulnerable to threats from Russia, especially as the 2014 Sochi Winter Olympics approach. In South Ossetia, corruption will dog ruler-ruled relations (see GEORGIA: South Ossetia's vote fails to follow script - November 21, 2011), while Abkhazia will feel uncomfortable in Russia's ever-closer embrace. However, security threats are unlikely to emanate from there, unless the newly elected Abkhazian leader pushes his reform agenda too far, alienating powerful financial interests -- he has been the target of several assassination attempts (see GEORGIA: Abkhazia elects new leader - September 19, 2011). After a significant pause, European integration has re-emerged as a government priority. Georgia expects to start talks on a free-trade agreement by the year-end and to join the Schengen visa-free zone in the foreseeable future. Azerbaijan Sochi Olympics will keep Russo-Georgian relations tense
President Ilham Aliyev has shored up his position and squeezed out the moderate, democratic opposition. A brutal crackdown has met public protests that were inspired by the Arab example. The harassment and arrest of journalists intensified in 2011 and will continue, with those in jail often beaten and denied medical treatment. Such intimidation has led to self-censorship, leading to fewer libel cases. In January, Azerbaijan takes up a two-year UN Security Council seat. Its delegation has begun assembling a voting bloc of Islamic states to gain a UN decision favouring resolving the Karabakh conflict on Azerbaijan's terms. The 2012 budget projects economic growth of nearly 6%. It sets a deficit of 1.3% of GDP, with oil at 80 dollars/barrel, which seems appropriately cautious (see PROSPECTS 2012: Oil - November 4, 2011). Expenditure rising by 6.5% year-on-year could help keep inflation high (the IMF expects it to top 10%). Unemployment is currently estimated at 10% (15% among young people), with government efforts to diversify away from the hydrocarbon sector (which employs relatively few) making only slow progress. Armenia President Serzh Sarkisian has pledged to hold fully democratic elections in May, but the government's 'administrative resource' is expected to favour his Republican Party (see ARMENIA: Real democracy still seems far off - September 27, 2011). The opposition is urging measures to stop multiple voting and impersonation of those on the electoral roll who work abroad. The government aims to stimulate the economy by creating two free economic zones and encouraging those branches of production seen as having the most potential -brandy, pharmaceuticals and precision apparatus. It will continue efforts to improve agriculture and develop tourism and medicines. Moderate growth is to continue, the draft state budget for 2012 projecting 4.2% growth and inflation not exceeding 6.5%. However, GDP will still be smaller in real terms than it was in 2008. In order to maintain financial stability, the state debt (currently around 45% of GDP) is being reined in and the budget deficit at around 3.5% of GDP will be narrower than it was in 2011. The tax/GDP ratio is relatively low but is to increase from 16.7% to 17.3% in 2012. Tax collection is to rise, with a progressive tax rate of 25% under consideration for incomes exceeding 5,260 dollars/month compared with a standard rate of 20%. The government has also suggested introducing a luxury tax. The economy is becoming more diversified, with the share of construction in GDP falling to 14% from 27% before the crisis. Growth in 2011 was due to industry and agriculture, in particular the processing industry including diamond cutting. Officials blame the world economic crisis for holding back Armenia's economic growth. Large infrastructure projects, such as the north-south highway or the Iran-Armenia oil pipeline, may start next year. The economy is diversifying but emergence from the crisis is proving slow High unemployment and rising prices will test government grip on society
Prospects 2012: Latin America

The official forecast for Brazilian growth of 4-5% is not far-fetched, but many uncertainties remain about how the government will balance fiscal prudence with infrastructure investment imperatives.
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Brazil

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Economic prospects are far from optimal, but significant instability is unlikely. Manufacturing will continue to suffer from Chinese competition and domestic bottlenecks. Political prospects will be dominated by municipal elections, corruption issues and the dispute over oil royalties.
Mexico

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The July 2012 election will dominate politics, with the ruling PAN expected to lose to the PRI. The war against drug cartels may radically alter campaign and election dynamics, with political assassinations possible. The Calderon administration's final year will see no reform progress, though some agreements are possible after elections. Low inflation and stable external accounts should ensure a smooth economic transition, but growth will remain lacklustre.
Argentina

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The re-elected president will have little need or will to negotiate with a discredited opposition. The lack of a coherent package of economic measures will become more problematic if conditions deteriorate. Growth remains conditioned by unpredictable policies and a less propitious international environment.
Venezuela

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Chavez's health will remain a key political issue, given the lack of a clear successor. Foreign policy will take a back seat to domestic concerns. Government spending will rise, without becoming more efficient. Opposition fragmentation may continue to boost Chavez.
Chile

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GDP growth in 2012 is currently expected to reach 4.5% but forecasts are falling. With exports accounting for around a third of GDP, economic performance depends heavily on external conditions. Municipal elections, due to take place in October, will provide an early indication of the tone of the 2013 presidential election.
Central America

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Economic conditions will remain stable unless the United States enters into recession. Security will be top priority for all governments, though lack of progress against drug trafficking will limit improvements in other areas. New natural disasters could increase poverty and malnutrition and create social tensions, particularly in northern Central America.
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Prospects for Brazil's politics and economy in 2012

Friday, November 25 2011 An Oxford Analytica Prospect Developments in the global economy will dominate economic prospects in 2012, with the political agenda headed by issues related to President Dilma Rousseff's management of her multi-party coalition and response to societal demands for cleaner government. Her second year will challenge her administrative and political skills, as pressures mount to deliver on long-awaited and urgently needed infrastructure investments. What next The government's main short-term economic policy challenges will depend on the still unknown development of the European crisis, while longer-run challenges will depend on Rousseff's ability to retain public support for political actions related to disciplining her coalition and handling corruption allegations against senior officials. Given her political style, reforms are likely to occur piecemeal rather than via a 'big bang' approach. In that sense, 2012 will outwardly appear to be more of the same, but imperceptible steps may be taken towards longer-term change. Analysis When Rousseff took office in January 2011, expectations were that she would focus on completing necessary structural reforms, boosting infrastructure investments, finetuning regulatory frameworks, furthering social inclusion, and deepening industrialisation and technological development. However, events -- mainly external -have forced her to focus on macroeconomic management, including issues related to growth, inflation, interest rates, currency and foreign capital flows. Prospects for a significant shift towards the micro-economy are not bright, although dealing with the latter will become increasingly urgent. Despite external constraints, progress may be made on some long-standing political and economic issues in 2012. Economic outlook In 2012, economic prospects are less encouraging than the government would have liked, but in many ways the constraints are beyond its direct control. Specifically, much depends on how much the global economy will slow (especially China), and how the European crisis will impact on Brazil. The government knows that trade, investment, credit and employment may all be negatively affected, given that almost 75% of foreign assets in Brazil are owned by European firms. Nevertheless, it is reasonably certain that Brazil has sufficient policy instruments and appropriate macroeconomic conditions to avoid significant economic instability and/or disaster in 2012. Growth was a robust 7.5% in 2010, but will only be around 3.0% in 2011. For 2012, the Finance Ministry's projection of 4-5% is not far-fetched, but many uncertainties remain about how the government will balance fiscal prudence with infrastructure investment imperatives:
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Brazilian President Dilma Rousseff. (REUTERS/Ueslei Marcelino)
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Economic prospects are far from optimal, but significant instability is unlikely. Manufacturing will continue to suffer from Chinese competition and domestic bottlenecks. Political prospects will be dominated by municipal elections, corruption issues and the dispute over oil royalties.
4-5%
Likely 2012 growth rate
Whereas growth under President Luiz Inacio Lula da Silva (2003-10) focused on consumer demand and the rise of the new middle class, under the Rousseff government the onus will revert to government investment (mainly infrastructure and hydrocarbons). Hence 2012 growth will largely depend on how quickly the government can clear the path for procurement processes related to infrastructure investment, including legislation and budgetary allocations.
Economic policy measures In recent months, the Central Bank has been juggling inflation control with an understanding that the government would not like to slow growth too much. However, inflation pressures are easing already, partly due to slowing global food and fuel price increases, but also more restrained government spending. While 2011 inflation might squeeze into the upper limit of the Bank's target band (at about 6.48%), the forecast for 2012 is a more comfortable 5.5%. Combined with expectations of falling interest rates to around 10% in mid-2012, Brazil's real interest rate could reach an unprecedented low of 4-5%. Recently, there were hints that the Workers' Party (PT) might consider reviewing the Central Bank's mandate to include employment and growth targets in addition to inflation targets. This is unlikely in 2012, given Rousseff's firm dismissal of the idea. However, increased state intervention and more nationalist positions are likely in a variety of industrial policy, trade forums and regulatory regimes, including:
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increased local content requirements; further politicisation of National Development Bank (BNDES) lending criteria and investment in strategic companies; favouring domestic production in government procurement contracts; more state oversight of regulatory agencies; and limiting foreign ownership of agricultural land (see BRAZIL: Foreign land purchases face limitations - November 10, 2011).
The one area where prospects for quick recovery are poor is manufacturing. The sector will remain hard hit both by external competition, mainly from China, and domestic conditions, including tax and labour regimes, cost of capital and lack of qualified labour. Despite the government's stated concern with increasing industrial value-added and putting a brake on the threat of de-industrialisation, it does not seem inclined to meddle with the commodity-biased export profile of recent years (see BRAZIL: Trade performance faces policy challenges - September 15, 2011).
Political prospects Political prospects are less reassuring, but not alarming. Not only are there municipal elections in 2012, but civil society has become much more strident in criticising corruption, routine impunity for politicians, and the 'unrule' of law:
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Manufacturing will continue to suffer
The Brazilian Bar Association (OAB) and various non-governmental organisations have organised public demonstrations and marches on the anti-corruption theme. While these are long overdue, the timing could be awkward because this is the make-or-break moment for the readying of infrastructure related to the 2014 World Cup and 2016 Olympic Games (see BRAZIL: World Cup preparations test governance - November 1, 2011). Corruption-related dismissals of officials in relevant ministries (Transport and Sports) have already further delayed projects for these events. Civil society will also become increasingly vocal on environmental issues, with the Belo Monte dam project as the focus of protests (see BRAZIL: Electricity faces distribution difficulties - March 24, 2011).
The oil royalties debate may delay development of the presalt reserves
Political reform is again on the cards and 2012 might see small (but significant) changes in the electoral system as well as party campaign financing (see BRAZIL: Political reform will tend to consolidate PT - October 21, 2011). The political battle over the distribution of oil royalties will come to a head in 2012. Rousseff's ability to manage this issue will be a crucial test of her political strength and acumen. A protracted battle between oil-producing and non-producing states about the distribution of royalties will only serve to delay auctions of off-shore oil fields and increase investor uncertainty. Brazil cannot afford either. International relations Rousseff's speech at the opening of the UN General Assembly in September 2011 gave a clear picture of her position on Brazil's foreign policy priorities:
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First, the urgent need for collective coordination among governments to avoid worsening of the global economic crisis and the need to include large emerging economies in consultations related to reforming the international financial system; Second, Brazil's desire to push for further reduction in global poverty and inequalities, with special acknowledgement of the role women play in overcoming social inequalities and democratic development; and Third, how her personal history as a political prisoner tortured by an authoritarian regime informed her policy towards democratic values, justice, human rights and liberty. These concepts will play a more central role in Brazil's foreign policy and its attitudes and actions in international organisations in 2012.
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Mexico
Prospects for Mexico's economy and politics in 2012

Monday, November 14 2011 An Oxford Analytica Prospect Presidential and congressional elections will dominate 2012. The opposition centre-left Institutional Revolutionary Party (PRI) is expected to win the presidency, but there is a risk of serious challenges to the electoral process. The outgoing administration of President Felipe Calderon should be able to maintain a stable economy, but without substantive reform during its final year. What next Lacklustre economic growth and a war against drug cartels that seems unwinnable will be the toughest challenges for whoever is elected president for 2012-18. The long fivemonth interregnum between the election (on July 1) and government changeover (December 1) may provide an opportunity for agreement between political forces, but an ineffectual or even stormy transition is more likely. Analysis The election and change of administration will dominate politics throughout 2012 (Calderon legally is barred from seeking the presidency again), with five clear stages:
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Strategic summary
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The July 2012 election will dominate politics, with the ruling PAN expected to lose to the PRI. The war against drug cartels may radically alter campaign and election dynamics, with political assassinations possible. The Calderon administration's final year will see no reform progress, though some agreements are possible after elections. Low inflation and stable external accounts should ensure a smooth economic transition, but growth will remain lacklustre.
Official selection of candidates will take place during the first two months of the year. The campaign is from March until June, with May-June particularly intense. The Federal Electoral Tribunal (Trife) will adjudicate the immediate aftermath of the election, including any challenges to results, and officially designate the winner president elect. The new Chamber of Deputies and Senate, both fully renewed on July 1, will start sessions on September 1. Cabinet appointments should be announced during November. December will be crucial in signalling the new administration's workings and plans.
Strong PRI The PRI is strong favourite to regain the presidency lost in 2000. The frontrunner for its presidential nomination is former State of Mexico governor, Enrique Pena Nieto (see MEXICO: State elections strengthen Pena Nieto - July 4, 2011), though Senator Manlio Fabio Beltrones is challenging strongly. Opinion polls systematically give the PRI an enormous advantage over Calderon's centre-right National Action Party (PAN) and the centre-left Party of the Democratic Revolution (PRD).
The PAN candidate probably will be Josefina Vazquez Mota, a former cabinet minister and federal legislator (see MEXICO: Vazquez Mota gains momentum for PAN nomination - July 19, 2011). The novelty of a big political party nominating a woman may boost her vote somewhat, but Calderon administration unpopularity, and the perception that a change from PAN governments is needed, probably will be insurmountable obstacles, even if she manages a strong campaign. The PRD nominee probably will be Andres Manuel Lopez Obrador, the narrowly defeated 2006 presidential candidate. In recent years he has been a polarising figure that has lost appeal to centrist voters because of his confrontational approach. If the candidate is Marcelo Ebrard, governor of Mexico City, the PRD may get more votes, but not enough to win. Grave election conflict? The PRI may still be derailed. Its current leader, Humberto Moreira (who cannot seek the presidential nomination), has been tainted not only by massive debt accumulation while he was governor of the northern state of Coahuila, but also allegations that some of this debt was issued illegally. Lopez Obrador is an indefatigable campaigner with a strong populist touch. If Vazquez Mota also manages to attract a significant share of voters, a competitive three-way race is possible, as in 2006. If Lopez Obrador again is defeated narrowly, he may refuse to accept defeat and engineer strong protests. Calderon probably will maintain the increasingly unpopular and violent war against drug cartels (see MEXICO: Security strategy will stymie Calderon - September 5, 2011). Criminal groups have already assassinated municipal presidents and a PRI gubernatorial candidate. There is a risk that the presidential campaign will resemble that of Colombia in 1989-90 (which saw drug cartels kill three presidential candidates, including the frontrunner). Michoacan scenario? The election in the state of Michoacan on November 13 saw a scenario that may happen at federal level. The PRD has governed the state since 2000. The PRI started as strong favourite and was expected to win easily, but the PAN candidate (the president's sister and respected politician on her own right, Luisa Maria Calderon) ran a strong campaign. Drug cartel members in early November assassinated the PAN municipal president of an important city, La Piedad, apparently boosting voter sympathy for Calderon. The three-way race split evenly among the three candidates:
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The PRI may still be derailed
With 50.1% of votes counted, PRI candidate, Fausto Vallejo, had 34.8% of votes, with Calderon close behind with 33.0%. PRD nominee, Silvano Aureoles, received 29.3% (null votes were at 2.9%). All the three party leaderships declared victory after polls closed. Of 24 districts electing members for the local Congress, preliminary counts gave 13 to the PRI, seven to PAN and four to the PRD.
Several races (including the gubernatorial) will probably go before Trife judges for official adjudication.
Difficult final year The charged political environment probably will make Calderon's last year difficult, with no important legislation enacted in a fragmented Congress. Therefore, his ambitious structural reform agenda will remain derailed (see MEXICO: Government avoids economic controversy - September 14, 2011). Moreover, unexpected events may complicate governance. The death of Interior Minister Francisco Blake in a helicopter crash on November 11 deprived Calderon of a close ally. A similar accident in 2008 also killed the interior minister, and close Calderon friend. Although respected, Blake was not a political heavyweight (he had been in post for 16 months). His death should not severely disrupt government operations. Also in November, Education Minister Alonso Lujambio was diagnosed with bone marrow cancer. It is unclear whether he will need to resign. The new Congress may pass several ambitious reforms in the interregnum between the election and government changeover. In this scenario, Calderon would have strong incentives to push the PAN to cooperate (presumably with an incoming PRI government) and end his presidency strongly. However, cooperation between political parties is more likely to remain low. Stable economy but lacklustre growth During 2012 the economy is expected to grow about 3-4% (it should close this year around 3.7%), but may be lower given global economic uncertainty. However, inflation should be only slightly above the 3% Bank of Mexico target. A peso sudden plunge is possible should the US economy fall into a recession, but this would disrupt the inflation trajectory only temporarily (see MEXICO: Monetary easing will be cautious September 9, 2011). Moreover, public debt is low and external accounts show quite manageable deficits. The current account deficit during 2012 should be 1-2% of GDP. On the other hand, public finances remain dangerously reliant on oil revenues. Any plunge in international oil prices would spark fiscal crisis, though this seems implausible during 2012 (see PROSPECTS 2012: Oil - November 4, 2011). Cooperation between political parties is likely to remain low
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Argentina
Prospects for Argentina's economy and politics in 2012

Tuesday, November 15 2011 An Oxford Analytica Prospect Following a landslide re-election in October, President Cristina Fernandez de Kirchner enters 2012 with greatly increased political capital. However, international and domestic economic doubts make the adoption of a more coherent economic plan more pressing, albeit unlikely.
Security guards stand in front of a foreign exchange house in the financial district of Buenos Aires (REUTERS/Enrique Marcarian)
What next Despite some suggestions of a recession next year, a scenario of weaker growth and less favourable international conditions is more likely. The government probably has room for economic manoeuvre through 2012, though the lack of a coordinated economic policy, as opposed to piecemeal, unorthodox measures, will become more problematic as conditions deteriorate. A continuing worsening of expectations would rapidly erode the president's support and prospects for stability. Analysis Fernandez de Kirchner received the largest margin of electoral support since the return to democracy in 1983 (see ARGENTINA: Economic euphoria sees election landslide October 24, 2011), underscoring the lack of opposition alternatives and allowing her Victory Front alliance to regain its congressional majority. Indeed, that majority will likely increase in coming months as dissident Peronists and others switch allegiance to a dominant government. With this political impetus, the government aims to pass a number of bills before the end of the current Congress on November 30, including the 2012 budget, anti-money laundering measures and the extension of the financial transactions tax and economic emergency law (the latter move suggesting that the government will continue to use decrees despite having a favourable Congress next year). All indications are that the election result will lead to greater centralisation of power and decision-making than before. Economic turbulence Nevertheless, Fernandez de Kirchner's longer-term popularity rests on continued economic growth, increasingly doubtful in a context of rising international uncertainty and improvisational policy-making:
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Strategic summary
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The re-elected president will have little need or will to negotiate with a discredited opposition. The lack of a coherent package of economic measures will become more problematic if conditions deteriorate. Growth remains conditioned by unpredictable policies and a less propitious international environment.
Growth will slow next year, though recession is unlikely
Although GDP is still expected to expand by around 9.0% in 2011 (down from 9.2% in 2010), the draft 2012 budget estimates growth of 5.1% next year (see ARGENTINA: Political winds favour rapid budget passage - October 12, 2011), while many private estimates forecast a figure closer to 4.0%. While suggestions of recession appear unfounded, a more unfavourable international environment and the need to cut public spending suggests a growth rate of only around half that of recent years.
A recent survey of 21 sources published in La Nacion newspaper forecast a trade surplus of only 5.3 billion dollars next year (in contrast with an official forecast of 8.6 billion), and a fiscal deficit of 1.4% of GDP -- sharply below the government's forecast of a 2.22% surplus. This would put both the 'twin' surpluses on which the economic 'model' is based under threat. No real steps have been taken to reduce inflation, which private estimates consistently put at around 25% this year and next, more than double the government forecast of around 9% for both years. Fears of a post-election devaluation have pushed capital flight, estimated to more than double the 11.4 billion dollars recorded in 2010 this year, while measures to curb this, including new norms on the repatriation of profits by extractive sectors (see ARGENTINA: Extractive sectors lose exchange exemption - October 31, 2011) and stringent limitations on dollar purchases, have served largely to fuel fears and weaken the parallel exchange rate. Dollar sales, as well as the use of Central Bank reserves to pay debt, have seen reserves fall this year from 52.6 billion dollars in January to 46.6 billion in mid-November.
Economic policy options The government is clearly aware of the need to curb public spending, although measures thus far -- notably the elimination of utilities subsidies for commercial users -are too limited to have any real effect, with these subsidies representing only around 600 million pesos (140 million dollars) this year, out of total transport and energy subsidies of some 69 billion pesos. However, more sweeping cuts would force tariff rises that would boost inflation. The government will likely continue to take piecemeal measures to head off looming difficulties. These include:
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A serious deterioration would rapidly undermine the president's popularity
further curbs on profit repatriation in order to boost the domestic supply of dollars; greater intervention in corporate decision-making through the appointment of state representatives to the boards of companies in which the government holds shares, eg, by trying to stop dividend payments (see ARGENTINA: Decree raises corporate intervention fears - April 26, 2011); and a rumoured plan to divert funds from trade union-operated health care plans to state coffers if financing problems become more acute.
While the latter appears improbable, concerns over greater interference and the risk of exchange rate volatility will hinder both domestic and foreign investment, to the detriment of longer-term growth and productivity.
Provincial pressures Provincial finances also face increasing risks. Provincial governments will run an estimated total deficit of 9.3 billion pesos this year, a figure likely to rise in 2012 as a May 2010 moratorium on debt repayments to the central government ends this month. According to the consultancy Economia y Regiones, provincial governments will need funding of some 27 billion pesos next year, with only 15 billion budgeted from the nation. In part this relates to the increasing percentage of shared revenues retained by the central government, with only 26% of total tax collection set to go to the provinces next year (see ARGENTINA: Provinces face primary deficit this year - March 13, 2008). Provincial finances were a significant factor in Argentina's last fiscal crisis, while the need to cut spending would undermine popular support for provincial governors -- most of them allies of the president highly dependent on central government largesse to sustain their voter base, and from whose ranks her eventual successor will likely be chosen. Trade union tribulations The government is coming into increasing conflict with trade unions, notably General Confederation of Labour (CGT) leader Hugo Moyano. This relates in part to the president's more recalcitrant attitude -- former President Nestor Kirchner was more adept at co-opting unions in order to secure an institutional support base -- and to CGT resentment over its minimal representation in candidate lists this year (see ARGENTINA: Second-term political risks will rise - June 30, 2011). However, it also relates to government pressures to discourage double-digit wage demands (themselves driven by union scepticism over the government's discredited inflation claims). Strikes and demonstrations will likely increase in 2012, although Fernandez de Kirchner's strong election result, combined with Moyano's own weakening position within the CGT, will limit union influence. Nevertheless, greater social unrest and protests by other groups is likely if economic conditions deteriorate significantly. Foreign policy questions Although the president has again showed signs of seeking improved relations with Washington (and has lowered the profile of relations with Venezuelan President Hugo Chavez), foreign relations will remain focused on efforts to renegotiate defaulted debt with the Paris Club and on the South American Union (UNASUR). Attention to the Falklands/Malvinas sovereignty dispute will escalate if offshore drilling operations there continue (see FALKLAND ISLANDS: Oil roils sovereignty dispute - October 7, 2011). Argentina will continue to punch below its weight in international affairs.
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Venezuela
Prospects for Venezuela's economy and politics in 2012

Thursday, November 24 2011 An Oxford Analytica Prospect With opposition presidential primaries scheduled for February, followed by presidential and gubernatorial elections in October, political turbulence is to be expected in the year ahead. What next In the absence of a viable successor -- either as interim president or presidential candidate of the ruling United Socialist Party of Venezuela (PSUV), the health of President Hugo Chavez will remain a cause for concern. Analysis
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President Hugo Chavez (REUTERS/Carlos Garcia Rawlins)
Strategic summary
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Chavez's health will remain a key political issue, given the lack of a clear successor. Foreign policy will take a back seat to domestic concerns. Government spending will rise, without becoming more efficient. Opposition fragmentation may continue to boost Chavez.
The year 2012 will be decisive in Venezuelan politics. After twelve years in office, Chavez faces four significant challenges to his ambition of winning a fourth term:
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Personal health The details of Chavez's cancer diagnosis and prognosis remain secret. To date, his reelection campaign has sought to maximise periods of relative good health, using the period between chemotherapy sessions for campaign activities. This has allowed Chavez to reverse a trend of declining popularity, with the sympathy created by his cancer diagnosis boosting popular support (see VENEZUELA: Chavez rises as opposition struggle - October 19, 2011). The sustainability of this strategy over the next ten months is questionable given the rigours of campaigning and Chavez's evident frailty. There is also the possibility that the sympathy vote may be recast for a fit, healthy opposition candidate if there is little positive sign of improvement in Chavez's health over coming months. Internal PSUV factionalism and extreme centralisation around Chavez means that in the event he is forced to relinquish the presidency or the PSUV candidacy, the coherence and purpose of government and party will come under extreme stress. A viable opponent At end 2011 pollsters largely concurred that Chavez had at least a 10% advantage over the strongest opposition candidate, Henrique Capriles Radonski (see VENEZUELA: Opposition may not profit from weak Chavez - July 21, 2011). This owes much to disorganisation and partisan squabbles in the eclectic opposition Democratic Unity Movement (MUD). Having delayed selection of its presidential candidate until primaries in February, the MUD has no message or face for its presidential campaign.
The sympathy vote could dissipate if Chavez's health does not improve
Opposition unity remains a key challenge
Although there has been a winnowing down of contenders, outspoken 'rogue' candidates with little credible hope will continue to take the media spotlight from viable centrist propositions such as Capriles, Leopoldo Lopez and Pablo Perez in the early months of 2012. While Capriles appears to be the front-runner, internal MUD machinations may undermine the prospects of the right-of-centre candidate, and there is no guarantee a thwarted contender would not opt to run on a separate ticket. Full MUD unity behind the candidate selected in February would enable the opposition to make ground on Chavez, particularly if the president's health declines. Continued fragmentation would serve only to fortify Chavez. Policy delivery Chavez continues to be disassociated in the popular mind with the failings of his government:
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The bottlenecks, controls, distortions and corruption that characterise the economy and public policy make ambitious 2012 targets for housing construction, energy generation and improved supply of goods unviable. Nonetheless, Chavez continues to offset this with his government's record on social spending that has dramatically lowered inequality and social exclusion over the last twelve years.
As the campaign momentum builds, further state funded social initiatives are to be expected. To date, the opposition has not been positioned to critique government policy effectively, even in the National Assembly where it has been an ineffective presence. Chavez may become vulnerable if a united opposition candidate engages in a deep probing of his record and particularly if this comes from a centrist perspective that does not appear to threaten the progressive social improvements made. Partisan pressures The ruling PSUV goes into 2012 united behind Chavez and with no signs of dissent at his candidacy. Among possible contenders for succession are Energy Minister Rafael Ramirez, Vice-President Elias Jaua and Foreign Minister Nicolas Maduro. The latter has broader prospects for appeal across the amalgam of leftist and social democratic ideas and groups that Chavez holds together. Unity will prevail as long as Chavez is president and PSUV leader. However, internal tensions will continue to fester, opening up prospects for division in the event of Chavez's demise. As industrial relations worsen, the labour movement will remain the Achilles heel of the government. Amid divisions between supporters of full worker control of nationalised industries and those unions loyal to the government's preference for state management, the trend of intra-union violence and industrial unrest is expected to continue (see VENEZUELA: Union pressures risk revolutionary rifts - December 15, 2010). Further exacerbating tension in the sector are new powers to participate in industrial affairs afforded to community councils (see VENEZUELA: Community councils may undercut opposition - August 9, 2010). While the government has acceded to pressure for new labour legislation (replacing the 1997 law introduced by Chavez's predecessor), it remains far from union demands, making further strikes on pay, pensions and conditions likely. Economic outlook Labour relations may deteriorate
Despite market anxiety over Venezuela's debt (which at 30% of GDP remains low by European and US standards) and intentions to repay, the 2012 budget foresees an increase in spending from 47.4 billion dollars to 69.7 billion. This expansionary strategy is intended to "minimise and neutralise the ... impacts of the volatile international economic situation including the worsening debt crisis in the euro-area and a possible growth slowdown in the major international economic blocs". This is unlikely to be effective unless distortions in the domestic economy, including exchange and price controls, are addressed (see VENEZUELA: Government boosts spending, not efficiency - May 16, 2011):
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Key sectors that will benefit from increased public spending include agriculture, energy, transport and infrastructure. However, without improved public service delivery and industrial relations, additional expenditures are unlikely to have the intended effect of boosting domestic production and supply chains.
The 2012 budget projects GDP growth of 5%, with oil exports accounting for 22.8% of government revenues at a modest budget value of 50 dollars/barrel. The non-oil sector is expected to contribute an ambitious 55.4% of revenues, with taxes contributing 21.8%. The breakdown of contributions has been presented as evidence of government intentions to diversify away from oil export revenue dependence. Foreign policy Chavez's poor health has seen the foreign policy agenda reined in. This muting of international ambitions will be reinforced by the focus on domestic affairs and the pending presidential election. There is no prospect of improved relations with the United States. Neither country has ambassadorial representation in the other and efforts at diplomatic engagement have been frozen. The US presidential campaign will exacerbate strained ties, particularly if Republican candidates seek to capitalise on the perceived security threat posed by Chavez such as allegations of ties with Iran, Libya, Hizbollah and Hamas. Despite the strength of US and Venezuelan commercial ties, Venezuelan engagement will focus on China and Russia and on strengthening their investments in Venezuela. Improved relations between Venezuela and Colombia have reaped economic, security and political dividends for both countries and momentum towards consolidating amicable bilateral ties will continue in 2012.
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Chile
Prospects for Chile's economy and politics in 2012

Wednesday, November 16 2011 An Oxford Analytica Prospect After a strong performance this year, when GDP growth will be approaching 6.5%, both the economic and political outlook are -- by Chile's predictable standards -- unusually uncertain. This reflects the importance that international conditions have for its small, open economy and, politically, the pressure of social demands combined with the low popularity of both the government and the opposition. What next A combination of municipal elections in October, with the prospect of a presidential election in 2013, and the risk of a significant externally-induced economic downturn seem likely to hamper Chile's progress in 2012. This will be apparent in areas such as export diversification, which is important for its long-term growth, as well as the debate over issues that will affect its future social and political cohesion. Analysis Chile's high growth this year was concentrated in the first half when GDP expanded year-on-year by 8.4%, reflecting comparison with a weak performance in the first half of 2010 when a major earthquake interrupted the economy's incipient recovery from its 1.7% contraction in 2009 (see CHILE: Earthquake could boost medium-term growth March 1, 2010). Combined with the Central Bank's gradual tightening of monetary policy since mid-2010 and the absorption of spare capacity, this meant that growth slowed to an estimated 4.8% in the third quarter and a forecast 4.5% in the present quarter. For 2012, the Central Bank is currently forecasting growth of 4.25-5.25% while average private forecasts, as surveyed by the Central Bank, suggest an expansion of 4.5%.
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Chile's President Sebastian Pinera gestures during a speech at a meeting.(REUTERS/Pablo La Rosa)
Strategic summary
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GDP growth in 2012 is currently expected to reach 4.5% but forecasts are falling. With exports accounting for around a third of GDP, economic performance depends heavily on external conditions. Municipal elections, due to take place in October, will provide an early indication of the tone of the 2013 presidential election.
Investment. According to the Central Bank, the growth of investment will drop to 7.1%, down from 14.4% this year and 18.8% in 2010, and, according to private surveys, will be led by mining (reflecting the high price of copper, Chile's main export) and energy (reflecting a tight power supply and lagging transmission infrastructure). Consumption. In 2011, consumer spending has played a key role in driving growth but, according to the Central Bank, the expansion of consumption (including both households and the government) will drop to 4.9% next year, down from 8.2% this year. Exports. The Central Bank expects exports to reach 83 billion dollars in 2012, only slightly up on this year when, to October, they showed a 20.7% year-on-year increase.
Strong 2011 growth may fall off sharply next year
External conditions
An expansion of 4.5% in 2012 would be only slightly below the economy's estimated medium-term capacity for non-inflationary growth, but private forecasts are falling in response to fears of a sharp international slowdown, with some already below 4.0%. With exports accounting for around a third of GDP, Chile is very vulnerable to external conditions, particularly since its small domestic market (17 million inhabitants) provides little cushion against a downturn in export markets. Foreign direct investment, which reached 15 billion dollars (7.5% of GDP) in 2010, is also important in financing growth. However, Chile has policy tools on which to draw:
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Fiscal policy. The Finance Ministry has indicated that, if required by external conditions, it would implement a package of stimulus measures. Like the countercyclical measures taken by the previous government in 2009 (see PROSPECTS 2010: Chile - November 26, 2009), this would be probably financed using fiscal savings held in the Economic and Social Stabilisation Fund (FEES), an offshore sovereign wealth fund with assets worth some 13 billion dollars (just over 5% of GDP). Monetary policy. Headline inflation is currently running at a twelve-monthly rate of 3.7%, within the Central Bank's 2.0-4.0% medium-term target range, and is widely expected to drop to around 3.0% next year. The Central Bank, therefore, has space to reduce its monetary-policy interest rate of 5.25% in nominal terms (an approximately neutral rate). Average private forecasts currently suggest that this will happen early next year, with a reduction to 4.75% within the first four months.
Longer-term challenges The risk of a sharper-than-expected deceleration next year highlights two underlying challenges for Chile's medium-term performance:
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Fiscal space. Despite the FEES and Chile's position as a net international creditor, the increase in inertial fiscal commitments as a result of new spending programmes is gradually reducing the space that future governments will have to finance new initiatives within the terms of a policy in force since 2000 under which government spending is calculated with respect to "structural" -- or non-cyclical -- income, with the idea of running a "structural" surplus or, at least, a "structurally" balanced budget (see CHILE: Fiscal policy faces increasing challenges - October 26, 2011). Export diversification. The appreciation of the peso against the dollar over the past three years -- in line with trends in other emerging markets but, in Chile's case, accentuated by high copper prices -- has had a negative impact on the competitiveness of non-commodity exports in a phenomenon seen as undermining prospects for sustainable long-term growth. Although the peso has weakened slightly in recent weeks, it would be strengthened by the repatriation of savings from the FEES, particularly in a context in which copper prices are expected to remain relatively strong due to Chinese demand and an international supply deficit.
Political context Municipal elections, due to take place in October 2012, will be the first since the 2009 presidential and parliamentary elections and will, in turn, set the stage for the next presidential and parliamentary elections in 2013 in a context in which, for the first time since the restoration of democracy in 1990, it is impossible to predict the colour of the next government with any reasonable degree of certainty. In the run-up to the municipal elections, there is a significant risk that the two main coalitions -- the centre-right government Alianza por Chile, headed by President Sebastian Pinera, and the centreleft opposition Concertacion -- or candidates running without party backing could be tempted to make populist promises. This risk arises from two key factors:
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The unpopularity of both government and opposition raises political questions and reduces prospects for reform
Low approval ratings. As of October, approval of Pinera was running at 31%, an historically low level in Chile, according to Adimark Gfk, an opinion research company, while approval of the Alianza reached 29% and, for the Concertacion, just 14%. Social demands. As reflected in the student protests of the past six months (see CHILE: National strike backs demand for reform - August 25, 2011), impatience for improved public services -- principally education but also, for example, health care -and, ultimately, for a reduction in income inequality has increased sharply.
There is widespread consensus that this situation calls for debate about issues which include tax reform to finance measures to address income inequality and political reform to increase the representativeness of democracy. However, this would require agreements between the two coalitions, which will be difficult to achieve against a background of elections and the coalitions' respective unpopularity.
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Central America
Prospects for Central America in 2012

Friday, November 25 2011 An Oxford Analytica Prospect Central America's economic performance in the first half of 2011 was slightly better than expected, driven by domestic demand and gradual recovery in remittances. Yet deteriorating global conditions and the mid-term effects of tropical depression 12-E may exert downward pressure on economic and social development in 2012. Insecurity will remain the main political challenge, particularly for El Salvador, Honduras and Guatemala. What next Absence of presidential elections in the region could enhance political stability and contribute to economic reforms (eg new tax laws in Costa Rica and Guatemala). Regional collaboration in areas like security, drugs and integration also could advance somewhat, though tensions between Costa Rica and Nicaragua will be a significant obstacle. Analysis Domestic consumption, agricultural exports and recovery in remittances contributed to gradual acceleration in economic growth in the first half of 2011. Yet economic conditions deteriorated in the second half of the year and probably will remain sluggish in 2012:
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Strategic summary
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Economic conditions will remain stable unless the United States enters into recession. Security will be top priority for all governments, though lack of progress against drug trafficking will limit improvements in other areas. New natural disasters could increase poverty and malnutrition and create social tensions, particularly in northern Central America.
The European crisis will not have a significant effect in Central America, but recession in the United States would reduce economic growth almost immediately. Lower tourism and remittance income, and reduced agricultural exports, would decrease external demand, while foreign direct investment would be less affected. Costa Rica would perform better than the rest of the region because it is less dependent on the United States and has a stronger and more diversified economic structure. Between 2008-10, public debt as proportion of GDP increased in all countries, surpassing 50% in El Salvador. Governments could face financing difficulties if they tried to increase public deficits over current plans. Real interest rates already are quite low and monetary expansion would have limited effects on economic activity.
Economic conditions deteriorated in the second half of the year and probably will remain sluggish
Natural disaster reconstruction
Heavy rains in October 2011 also had a negative impact on the economies of Guatemala, Honduras, Nicaragua and, especially, El Salvador:
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Storms, which lasted over two weeks, resulted in over 90 deaths, with 800,000 people affected. At least 200,000 farming families have lost at least a third of basic staples production. Total maize and bean losses are 300-400 million dollars. In El Salvador, the government estimates losses of 840 million dollars and, as a result, reduced 2011 growth projections from 2.1% to 1.4%. Although the immediate human and economic effects have been smaller than in previous natural disasters, current global conditions make the situation particularly problematic. The global food price spike has affected Central America severely over the last three years. Rural malnutrition is acute in Guatemala and El Salvador. Hunger in rural areas in both countries will grow and political instability is likely to intensify Infrastructure reconstruction will be a primary 2012 goal. In El Salvador total reconstruction costs may be around 1.5 billion dollars and concentrate on transport, telecommunications, housing and sanitation. Central American governments have requested support from multilateral institutions and OECD countries, but aid disbursements will be low and funding shortages significant. Despite institutional improvements in recent years, the region remains unprepared to deal with hurricanes, tropical storms and other natural disasters. If new disasters occur in 2012, consequences would be particularly negative given global economic conditions and weak fiscal positions in almost all countries (see CENTRAL AMERICA: Disaster response faces limitations - June 27, 2011).
Social progress slowdown Social indicators improved significantly in Central America over the past ten years despite the impact of the crisis. For example, extreme poverty in El Salvador and Honduras decreased from 16.1% and 44.2% in 2002 to 12.0% and 36.0% in 2010. Secondary education coverage increased over 25% in all countries. Yet further progress is unlikely in 2012:
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Social indicators improved significantly in Central America over the past ten years
Poverty will remain stagnant or increase slightly in 2012 due to low economic growth, high food prices and rural infrastructure problems. Unemployment and underemployment will likely increase, particularly among the young. Lack of income opportunities, and more obstacles to migration, could increase youth vulnerability. Funding for conditional cash transfers will remain stable, but other programmes may suffer cuts. In this environment, reforms to increase health and education coverage and improve quality are unlikely, with negative implications for long-term economic growth and human development.
Security concerns Insecurity and violence will be Central America's most significant challenge in 2012. There may be regional progress, but national improvements will be small:
In June 2011 the General Secretariat of the Central American Integration System (SICA) published a regional security strategy that aims to coordinate efforts to reduce violent crimes and drug trafficking. Yet bureaucratic inefficiencies and political tensions (for example, between Costa Rica and Nicaragua) will make effective regional coordination difficult. Developed countries and multilateral institutions have committed 2 billion dollars to modernise police and promote crime prevention but disbursement of funds will be slow in 2012. New Guatemalan President Otto Perez Molina will implement a tough strategy, appointing of 2,500 new police per year, building a new high security jail and involving the army in anti-drug operations. A new security minister in El Salvador also could adopt a tougher approach to crime (see CENTRAL AMERICA: Military boost exacerbates violence - September 1, 2011). Judiciaries will remain underfunded. In Guatemala, Honduras and Nicaragua per capita judicial spending was below 11 dollars in 2009 and the number of judges low - Costa Rica is an exception on both fronts. Judicial systems have been unable to fight crime effectively. Progress in this area is unlikely in 2012. A history of violence, together with weak institutions and growing drug trafficking, are at the heart of security problems. There will not be significant progress against drug traffickers in the next twelve months, with Central America still the premier transport route from South America to Mexico and the United States.
Political prospects While the absence of presidential elections in any Central American country next year could contribute to stability and facilitate reforms, significant challenges remain:
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In Costa Rica, President Laura Chinchilla does not have an absolute majority in the legislature. Her main challenge will be to pass a tax reform that increases public revenues with support from the main opposition Citizen Action Party. Honduras slowly has recovered some normality after the 2009 coup. Nevertheless, violence has increased steadily and political polarisation is high. The creation of a new party led by former President Manuel Zelaya and his wife will intensify tensions. In El Salvador, legislative and municipal elections will test the strength of President Mauricio Funes. The ruling FMLN is likely to win narrowly, but political polarisation will remain high and economic and social challenges particularly difficult. In Guatemala, while the newly elected government will focus on reducing violence and drug trafficking, tax reform will be its second aim (see GUATEMALA: Perez Molina faces fiscal challenges - November 9, 2011). Progress in this area will be slow. In Nicaragua, President Daniel Ortega's re-election guarantees political continuity (see NICARAGUA: Ortega landslide masks challenges - November 8, 2011). Democratic accountability will remain weak, social policy clientelistic, and the opposition will struggle to operate freely.
Global Strategic Analysis
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Prospects 2012

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Prospects 2012: International

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Prospects for the global economy in 2012

An investor is seen in front of an electronic board showing stock information.(REUTERS)

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Prospects for world trade in 2012

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Prospects for the oil market in 2012

A view of a new oil refinery in Baghdad, Iraq.(REUTERS\Mohammed Ameen)

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700,000 barrels per day

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Prospects 2012: Middle East

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Middle East and Africa

Prospects for Arab politics in 2012

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Egypt's political tensions are set to rise

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Middle East and Africa

Prospects for Arab economies in 2012

Street vendor selling drinks in Cairo (REUTERS/Amr Abdallah Dalsh)

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Middle East and Africa

Prospects for Turkish politics and economy in 2012

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Middle East and Africa

Prospects for Iran's politics and economy in 2012

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Khamenei will ensure Ahmadi-Nejad's successor is more pliant

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Prospects 2012: United States

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US Middle East policy

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Prospects for US politics in 2012

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