A Wakeup Call for the New Foreign Policy Team?

The focus of today’s newsletter is on the foreign policy challenges faced by the new U.S. administration. The fact that the U.S. economy is in the middle of a severe recession exacerbates some of the challenges. Therefore, before starting our note, it is worth commenting shortly on the first anniversary of the current U.S. recession.

Now it is official, the U.S. economy fell in recession in December of 2007, as we expected. The definition of recession is not limited to two quarters of negative growth, it is more sophisticated than that. There are several indicators of economic activity that the National Bureau of Economic Activity (NBER) takes into consideration when analyzing business cycles – employment, income, real manufacturing and wholesale-retail trade sales, and industrial production.

According to the NBER, after 73 months of expansion that began in November 2001 (previous expansion of the 1990s lasted 120 months) the decline in economic activity in 2008 has met the standard for a recession. The 1.2 million jobs lost in 2008 was the biggest factor in determining the start of the contraction. Payroll employment peaked in December 2007. Real personal income (less transfers) peaked in Dec 2007. Real manufacturing and wholesale-retail trade salespeaked in June 2008. Industrial production peaked in Jan 2008.

How long will this U.S. recession last? And what will the economic activity look like once the recession is over? These are all questions that we will tackle in our next newsletters. Let us now go back to U.S. foreign policy challenges.

President-elect Obama’s new national security team, announced on Monday, will need to hit the ground running. However the worsening financial and economic crisis may make responding to security challenges doubly difficult. Economic weakness and need for a broad fiscal stimulus to support U.S. demand might limit the resources available to foreign policy and foreign aid, perhaps limiting global outreach. For now cuts in defense spending seem unlikely, in part because the U.S. is enmeshed in two wars and because of the long-horizon of military expenditure. While military involvement in Iraq may be gradually winding down, the overstretched military may be increasing its exposure in Afghanistan and involvement in South Asia.

Yet, the global spread of the crisis means that foreign economic diplomacy and coordination with trading partners, including the follow-up to the regulatory reform process launched at the recent G20 meeting will be of utmost importance.

Political and security developments in South Asia will be of particular concern. Last week’s terrorist attacks in Mumbai, India which targeted hotels and locations frequented by foreigners and the economic elites only accentuate the importance of stabilizing Afghanistan, eradicating Islamic extremists in Pakistan’s border regions and maintaining Indo-Pakistan détente. Meanwhile while the security situation may be improving in Iraq, it seems set to worsen in Afghanistan. Obama has argued for increasing U.S. and NATO presence in Afghanistan, also a key goal of his new national security adviser, James Jones who argued for a comprehensive long-term involvement in Afghanistan earlier this year.

The attacks may further complicate ties in the region, particularly as the instigators have ties to Pakistan, America’s traditional ally in the war against terrorism. The U.S., which recently solidified ties with India through a nuclear energy deal, already deployed Secretary of State Condoleezza Rice to India as a further demonstration of US solidarity. The incoming administration prefers rapprochement between India and Pakistan to allow the latter to fully focus on combating extremism in the Afghanistan border region. The U.S. will have a delicate brokering role to play especially if India-Pakistan tensions escalate.

Another test will be deterring Iran’s nuclear ambitions. The International Atomic Energy Agency reported that Iran has produced roughly enough nuclear material to make a single atom bomb, leading to a sense of urgency about how to deal with a recalcitrant Iran. President-elect Obama has repeatedly said that the U.S. should engage Tehran without any preconditions such as Iran's freezing of enrichment activities. However, the falling oil price may increase the bite of international sanctions, particularly as some estimates suggest that Iran’s budget needs $90 oil to balance.

For now peace talks in the Middle East seem once again to be frozen despite efforts to revive ties through the Annapolis process earlier this year and a flurry of negotiations involving Israel, Palestine, Syria, Lebanon and others). With new administrations in Israel and the U.S., it may take some time before any process restarts. And with the oil price having fallen, it is uncertain whether new regional foreign policy players, like Qatar may continue with their shuttle diplomacy.

Although Russia now may be more preoccupied at home given the rapidly slowing economic growth, it will likely defend its spheres of influence in the face of several issues that have strained relations – including the U.S.-backed missile defense shield in Eastern Europe, the status of Kosovo and NATO’s expansion to countries that Moscow regards as falling under its sphere of influence. Yet, Obama’s foreign policy outlook emphasizes engagement rather than confrontation, fueling fears among Central Eastern European countries that Washington may adopt a more conciliatory tone toward Moscow.

Bilateral energy and trade ties between European countries and Russia, make a common policy towards Moscow even harder to achieve than a common fiscal stimulus. Yesterday, NATO foreign ministers, led by Western European countries, as expected, vetoed putting Ukraine and Georgia on the fast-track membership path and agreed to gradually resume contacts with Russia, suspended after the Georgia war. This summer’s Russia-Georgia conflict made it clear that such countries could not be invited in until border disputes were solved, lest it invoke NATO’s collective security agreements. Obama has, so far, given somewhat ambiguous signals about NATO’s eastward expansion – he emphasized that any new member must meet NATO membership criteria (which neither Ukraine nor Georgia will do anytime soon).

Multilateral institutions, like NATO, and the UN could become more important venues for meeting U.S. foreign policy aims, particularly greater support for the military deployment in Afghanistan. The appointment of Susan Rice, a vocal advocate of actions against genocide, as U.S. ambassador to the UN and decision to restore her position to a Cabinet-level rank may signal US efforts to utilize the world body as a major foreign policy arena.

Yet, there may be several areas of continuity with the pragmatism that began to develop towards the end of the Bush administration. Keeping Defense Secretary Gates on in his position may only be one example. Furthermore, it avoids a policy vacuum in U.S. operations in Iraq. The Iraq parliament recently passed the Status of Forces Agreement with the U.S. that will mean U.S. troops may be in Iraq until 2011. This agreement, to face a national referendum in the spring, still leaves certain thorny issues like that of immunity for U.S. military contractors, somewhat undefined.

Although the president-elect has urged a rethink of relations with China, forging common ground will be important to meet key economic and political objectives, in the short and long-term. It is hard to imagine climate change, energy use or exchange rate adjustment discussions without China at the table. Furthermore, Chinese pressure on Iran and North Korea would be a key part of thwarting nuclear ambitions in these countries and the U.S. will closely watch Chinese policies towards resource rich states in Africa and its increasing dollar diplomacy in Latin America.

Overall, relations with China may continue to emphasize economic – not political – concerns. Treasury Secretary Paulson will attend the fifth Strategic Economic Dialogue with China, an approach he pioneered at the end of this week. The SED has led to some more significant bilateral agreements on product safety, financial services. However, the prospect of RMB depreciation (against the dollar at least) and China’s recent increase of export rebates, may contribute to trade tensions ahead, particularly as Obama has suggested that China is manipulating its currency. By contrast the RMB rallied with the dollar against the Euro, meaning that the RMB has now appreciated by 25% against the EUR since July, alleviated some of Europe’s trade concerns. Yet, with China having recently surpassed Japan as the largest holder of U.S. treasury bonds, the nations’ codependence has only increased. Bilateral relations may be conducted through different, if equally high level, channels in the next administration though.

Meanwhile, political and security risks might worsen economic weakness in some emerging markets. In Thailand, airport blockades which lasted for a week, might exacerbate the economic slowdown in the country and region as it deters travel and froze cargo shipments throughout Asia.

Mounting commodity windfall fueled an increase in defense spending and activist diplomacy in countries like Russia, Venezuela and the GCC, to varying impacts. Such areas now may be among the spending that has been scaled back. The correction in commodity prices may reduce the political strains on commodity importing countries as it relieves their balance sheets and economic unrest. But financial losses and loss of faith in governments could just as easily lead to political instability. It looks to be a challenging 2009.


source: RGEmonitor.com