Level 1 CFA® Exam:
Intro to Geopolitics
Defining Geopolitics for Level 1 CFA Examstar content check off when done
Geopolitics deals with the analysis of international actors and their interactions that hugely rely on geographic factors.
The actors of geopolitics include not only state actors and governments but also various organizations, and companies, as well as individual people.
State actors exert authority over the country’s national security and resources. Examples of state actors include governments, political organizations, and political leaders.
Non-state actors are other participants in global politics, economy, and finances with no direct control over the country’s national security and resources. Examples of non-state actors include NGOs, multinational companies, business leaders, and even cultural icons.
Geographic factors such as location or access to different resources are crucial for every country and its political or economic decisions.
- affect the country’s approach to national security,
- affect the country’s willingness to cooperate with other countries,
- can be used by the country as a lever of power (e.g., when the country has access to trade routes or acts as a conduit for trade),
- can lead to the country’s dependence on other countries (e.g., when the country has no access to the sea and thus to crucial resources).
Understanding the geopolitical opportunities and threats that countries face may help assess the likelihood of good cooperative international relations and geopolitical risks. Such assessment is important for making informed investment decisions.
CFA Exam: Cooperation of State Actorsstar content check off when done
The relations between countries (state actors) can be cooperative or competitive. Depending on geographic location and national interest, a country may want to cooperate with the neighboring countries or refrain from cooperation.
Cooperative state actors are engaged, share the same goals, and care about the standardization of rules, harmonization of tariffs, or trade agreements. They are open to free movement across borders, as well as the unrestricted exchange of goods, services, capital, and information (including technology).
Non-cooperative state actors have arbitrary rules and restricted exchange of any kind, which hinders cooperation.
A country’s cooperative approach is highly dependent on geography. Landlocked countries may be more willing to cooperate to ensure the country’s national security, access to resources, or even survival. Countries with access to the sea can benefit from trade, transport, and resources, which makes them a powerful party when they cooperate.
Motivations for Cooperation
A country’s motivation for cooperation may be military, economic, or even cultural in nature.
Globalization in Level 1 CFA Examstar content check off when done
Globalization = result of economic and financial cooperation of non-state actors mainly
Globalization takes place when there is interaction and integration between people, companies, and governments from all over the world.
Globalization is a powerful process that happens on its own, though it can be actively supported by the cooperation of state actors. It can be measured using the World Bank Openness Index, which was 27% in 1970 and exceeded 60% in 2019. Still, as of 2008, globalization has been facing some difficulties like the financial crisis or the development of nationalism in many countries. Importantly, globalization can never reach 100% of economic activity owing to capacity constraints, which means that the process of globalization is eventually due to slow down regardless of other obstacles.
Globalization is an independent process and may happen despite the non-cooperation of governments. Examples include international travel, internet usage, and private sector development due to the exchange of local products (even from different cultural backgrounds, see the food sector and various kinds of restaurants ranging from Italian to Mexican to Thai, etc.).
Motivations for Globalization
We distinguish profit-driven and intrinsically-driven motivations for globalization. While the former can be measured by the company, the latter creates benefits beyond profit per se and thus are rather immeasurable. Importantly, intrinsic gains have stabilizing effect and can reduce geopolitical risks.
- increasing profit either through increased sales or reduced costs,
- accessing new resources such as talent or raw materials,
- accessing new markets.
- reducing barriers,
- expanding horizons,
- learning new ideas, etc.
Drawbacks of Globalization
Among the risks of globalization, we include:
- unequal scope of economic/financial benefits (e.g., while a company enjoys more profit thanks to moving production to a lower-cost country, people at home lose jobs),
- lower ESG standards (e.g., lower-cost countries usually have less restrictive environmental standards, so even though a company may enjoy more profit in the short run, the overall costs for humans may be much higher in the long run),
- rollback in political cooperation due to income and wealth inequality in a country or unequal opportunities between countries,
- interdependence, which means that when countries cooperate they tend to rely on each other for different things from resources to talent (any disruptions may impede e.g. production of cars that uses different parts from different countries).
CFA Exam: Archetypes of Country Behaviorstar content check off when done
There are 4 archetypes of country behavior, namely:
Autarky = when a country wants to be self-sufficient and does not aspire to international cooperation. On the contrary, the state controls strategic domestic industries, the supply of technology, goods, and services, as well as media or political messages. Autarkic countries may experience both swift and slow political and economic development. Examples of autarkic countries include China, North Korea, and Venezuela.
Hegemony = when a country is a regional or global leader that influences other countries to control resources. The state controls export markets. The country exerts a great influence on global affairs and acts as a stabilizing force. It can get too competitive in exerting influence, which increases geopolitical risks.
Multilateralism = when a country participates in mutually beneficial trade relationships with many countries and is very open to cooperation and rule standardization. Examples of multilateral countries include Germany and Singapore.
Bilateralism = when a country cooperates with only one country at a time. It means that even though the country may have cooperative relations with many countries, it is engaged in one-at-a-time agreements only. The UK is said to be shifting towards bilateralism after Brexit. However, countries are usually placed on a continuum between bilateralism and multilateralism. Regionalism is when a group of countries cooperates regionally.
CFA Exam: Geopolitics & Globalizationstar content check off when done
The relationship between geopolitics and globalization can be measured using 2 axes:
- cooperation vs non-cooperation axis, and
- globalization vs anti-globalization (nationalism) axis.
Each axis should be understood as a continuum, which means that each axis presents a spectrum of different behaviors. Depending on which archetype of behavior a country chooses and how cooperative it’s willing to be, it will have a different effect on geopolitics and globalization.
Before making investment decisions, it is necessary to know where countries are placed in the framework and how they move within each continuum to assess both the actors and potential geopolitical risks.
Geopolitical Tools for Level 1 CFA Candidatesstar content check off when done
Different actors use different geopolitical tools. These tools may either facilitate or hinder cooperation.
3 types of geopolitical tools:
- national security tools, e.g., military alliances like NATO (as cooperative tools) vs armed conflicts and espionage (as non-cooperative tools)
- economic tools, e.g., multilateral trade agreements, common markets, and a common currency (as cooperative tools) vs nationalization (as a non-cooperative tool)
- financial tools, e.g., facilitating foreign investment and currency exchange (as cooperative tools) vs restricting foreign investment and currency exchange (as non-cooperative tools)
Level 1 CFA Exam Takeaways for Geopoliticsstar content check off when done
- Geopolitics deals with the analysis of international actors and their interactions that hugely rely on geographic factors.
- The relations between countries (state actors) can be cooperative or competitive. Depending on geographic location and national interest, a country may want to cooperate with the neighboring countries or refrain from cooperation.
- Generally, the more a country or a region depends on cross-border goods and capital flows, the more cooperative it is.
- Globalization takes place when there is interaction and integration between people, companies, and governments from all over the world. Globalization is a powerful process that happens on its own, though it can be actively supported by the cooperation of state actors.
- On the one hand, globalization and the consequent interdependence of cooperative actors may reduce the risk of political, economic, or financial attacks. On the other hand, those countries that cooperate with and depend on other countries are more subject to geopolitical risk than less cooperative countries.
- There are 4 archetypes of country behavior, namely autarky, hegemony, multilateralism, and bilateralism.
- Different actors use different geopolitical tools. There are 3 types of geopolitical tools: (1) national security tools, (2) economic tools, and (3) financial tools. Geopolitical tools can be either cooperative or non-cooperative.
- Understanding the geopolitical opportunities and threats that countries face may help assess the likelihood of good cooperative international relations and geopolitical risks, which is key for making informed investment decisions.