Annual Forecast 2015

JANUARY 12,

2014 was the year in which the world was finally shaken out of complacency. Ukraine triggered Russia's inevitable confrontation with the United States and Europe. Economic malaise in Europe became impossible to ignore, with anti-establishment groups growing louder with each passing election. An intensifying anti-corruption drive in China exposed how far and deep the Chinese leadership is willing to go in trying to manage political resistance amid a slowing economy.

Stratfor has long emphasized that two of the three pillars of the international system — Europe and China — were in structural decline while the United States, buoyed by an energy boom, would maintain a position of relative hegemony. As Robert Louis Stevenson would remind us, sooner or later, we will sit down to a banquet of consequences. Indeed, as we begin 2015, the price of Brent crude oil has been slashed by more than half of what it was a year ago and now hovers around $50 a barrel.

While energy traders, politicians and producers alike scramble to find the bottom of the barrel — the nadir of global oil prices — the world's ability to cope with or exploit an oversupplied oil market will shape many of the trends we are looking at for 2015. The standoff between OPEC swing producers and U.S. oil producers will wind down as low oil prices reach a point where U.S. production growth will stall. At the same time, OPEC's key producers — Saudi Arabia, Kuwait and the United Arab Emirates — have shown little interest in pulling back on their own production levels in order to increase oil prices (which would have them effectively subsidizing U.S. shale oil producers), leaving the oil market oversupplied.

The global energy climate will help bring about a de-escalation in the conflict over Ukraine. Russia can tolerate more economic pain than most countries, but deep cuts into energy revenue combined with sanctions are too much for even Russian President Vladimir Putin to bear as he tries to manage an increasingly shaky Kremlin. Russia maintains energy leverage over Kiev and can temper a frozen conflict in eastern Ukraine to sway the Europeans toward easing up on sanctions. The United States will not let up as easily and will continue beefing up military ties with states along the former Soviet periphery, but Washington will also be mindful of the consequences of unraveling Russia.

Germany will play a role in moderating the conflict with its eastern neighbor, but faces much bigger problems to its west. The artificial calm that was created by the European Central Bank and embraced by financial markets for the past two years is due to end with a rude awakening. Italy, Greece and Spain will bear close watching for triggers to a financial panic, while France and Germany will remain locked in conflict over how to revive the eurozone. Little will be done in the end to address the structural ailments fueling the political crisis on the Continent.

With various tensions persisting in Eurasia, the United States will try to reorient itself from peripheral issues in the Middle East to more central issues on the European mainland. This will be easier said than done. The fight against the Islamic State will be slow, as Washington relies on air power and the gradual buildup of local forces divided along multiple ethnic and sectarian lines. The United States' negotiations with Iran may not culminate in a grand rapprochement this year, but their working relationship will hold steady as lower oil prices fortify the Iranian government's resolve to reopen its economy, albeit at an unavoidably slow pace.

Out of all the oil producers stuck with slashed budgets, Venezuela has the most potential to tip over the edge this year. The country's finances are already highly strained, and as the government becomes less able to fund imports, social unrest will be inevitable. The security architecture around the government designed by former President Hugo Chavez is one of current President Nicolas Maduro's main vulnerabilities as he balances multiple competing factions while the government's inherited security patron, Cuba, re-engages with the United States.

We are now in the midst of the second wave of a generational shift that began in 2008-2009, with a global financial crisis that exposed Europe and China's weaknesses, a shale revolution that dramatically increased U.S. energy output and a Russian military invasion in the Caucasus that reminded the world of Moscow's need to maintain its buffer space. As we look at what 2015 holds in store, we know the oil markets are oversupplied, Europe and China will continue to stagnate, and Russia will work under heavy constraints to deny the West a strong foothold in crucial areas of its periphery while the rest of the world deals with the repercussions of these trends. The ebb and flow of this tumult is covered in the forecast that follows.

Russia's Ongoing Competition with the West

The Ukrainian crisis and the ensuing standoff between Russia and the West was the result of a collision between two geopolitical imperatives: Russia's imperative to maintain buffer space in its former Soviet periphery — particularly Ukraine — to feel secure and project power, and the United States' imperative to prevent the rise of a hegemon in Eurasia.

In 2015, the tension between Russia and the West will persist but de-escalate. Russia began the year at a disadvantage; there is no major military move Moscow can make without triggering a larger, and potentially crippling, response from the West. Moreover, because of Russia's increasingly vulnerable economy, Russian President Vladimir Putin will have to consider the state's economic survival, as well as stability within the Kremlin, in any decision he makes in trying to protect Russian interests in the former Soviet periphery. Russia will thus avoid making a major military push into Ukraine, opting instead to keep the conflict in eastern Ukraine frozen with the potential for the separatist territories to resume economic ties and political contacts with the rest of the country. Russia also will avoid any major military actions to undermine the pro-Western governments of Moldova and Georgia, but will continue using opposition groups, protests and its existing military presence in their breakaway territories to maintain pressure on these countries.

At the same time, the West will likely refrain from taking action that risks pushing Russia — a massive, nuclear-armed country — over the edge. The Europeans in particular do not want to see Russia collapse, given the potential impact to their own economic and security standing. Barring any major miscalculations on either side, the European Union is unlikely toincrease meaningful sanctions against Russia this year. The current European sanctions in place will automatically expire throughout the year, and extending them would require approval from all 28 EU member countries. Thus, an easing is more likely than an extension or intensification of the current sanctions. Russia will follow this timeline carefully and moderate its behavior accordingly to ensure it has enough European support to neutralize the sanctions, even as more hardline states, such as Poland and the Baltics, fight to sustain this economic pressure.

On the security front, NATO is unlikely to push into Central and Eastern Europe beyond the rotational exercises and ballistic missile defense deployments already planned. Meanwhile, Ukraine, Moldova and Georgia will not be brought into the military alliance, although the United States could increase bilateral security assistance, including potential weapons sales, to these countries. The United States also has the option of leveraging strategic weapons systems, such as long-range missiles and nuclear weapons, in its military posturing, to the detriment of existing Cold War-era treaties. However, such threats will remain rhetorical, as Europe will resist the increasing deployment of such weapons systems on the continent.

Russia Struggles Economically and Politically

Sanctions are only part of Russia's economic woes. Low oil prices and the effects that ongoing tensions with the West are having on Russia's investment climate will make the Russian economy one of Moscow's greatest challenges in 2015, inflicting both social and political pressures on the Kremlin. Market hysteria aside, the Russian economy will continue to decline in 2015, but it will not sink to the depths of the 1998 crisis.

Russia will go into recession officially in 2015 as inflation rises to double digits, foreign investment remains low and capital flight remains high. With the decline of oil prices, the Russian ruble will continue to weaken, its value changing chaotically. Additionally, the major Russian firms — including energy, banking and industrial firms — will have limited access to credit and will face mounting debts.

According to the Russian government's current budget, which is based on oil at $80 per barrel, Russia could face a fiscal crisis unless Moscow makes deep spending cuts and withdraws a large amount from its cash reserves. Russia does have approximately $400 billion in those reserves as of December 2014, but the debate over where and how much to spend will only add to friction within the Kremlin. Russia will have to prioritize financial assistance for many strategic state firms and banks, such as Rosneft, Novatek, VTB Bank and Sberbank. Social spending will be key for Moscow as it tries to mitigate the social costs of the recession, such as increasing inflation and higher unemployment, by subsidizing gasoline prices or capping food prices. The poor economic situation will likely spur demonstrations across Russia, though the government will be able to manage the unrest.

Russia will increase defense spending moderately this year but will postpone its large armament programs until after 2015. This will allow Moscow to maintain its current military presence and projection in the former Soviet periphery, but Russia's long-term overhaul of its military and defense sector will be put off for the time being.

Amid Russia's economic troubles and its standoff with the West, divisions will grow deeper among the Kremlin elite over how to address the country's various crises. The declining economy means that the Kremlin's power circles will have less money to draw from for their own clans and companies. Moreover, Russian President Vladimir Putin will face increasing pressure from many oligarchs, whose companies and fortunes are in massive decline. However, the Kremlin will focus mostly on the elite and on companies in the business of energy and banking, such as Rosneft, Novatek, Sberbank, and VTB, instead of the oligarchs and most of the private sector. The increasing competition among the elite will force Putin to spend more time arbitrating, though this will keep the competing clans focused on each other instead of the Russian leader, enabling Putin to manage any potential challenges to his rule this year.

Ukraine's Internal Challenges

Like Russia, Ukraine will face significant economic challenges this year. With a gross domestic product decline of 7.5 percent in 2014 and an ongoing separatist conflict in eastern Ukraine, Kiev comes into 2015 under significant economic and financial strain. However, foreign financial assistance is likely to keep Ukraine afloat this year. The International Monetary Fund and foreign governments will follow through with their current commitments and provide Ukraine with additional financial assistance as needed. Such aid will require the implementation of significant new austerity measures, including cuts in subsidies and social spending, which will lead to some protests. Ukraine's weak economy and volatile political situation will allow Russia to exert influence over Ukraine in areas like energy, trade and security matters, though on the whole Kiev is likely to maintain an economic and political orientation toward the West.

Ukraine also will encounter greater domestic security challenges as far-right and nationalist groups seek to pressure the government with protests. Some armed far-right groups that fought in eastern Ukraine will remain active throughout the country. On the other side of the spectrum, Russia-backed groups are likely to launch terrorist-style attacks in Ukrainian cities such as Kharkiv, Odessa and Mariupol, though these attacks will be limited in their scope and effectiveness.

On the energy front, a deal that Kiev and Moscow reached at the end of 2014 for the resumption ofnatural gas imports from Russia will continue into the early months of 2015 in order to avoid major energy shortages in Ukraine during the winter. However, periodic cutoffs could occur later in the year as the two sides negotiate over a longer-term agreement regarding natural gas pricing and deliveries. A large-scale cutoff that affects Europe is unlikely for 2015.

On foreign policy, Ukraine will take steps to integrate further with the European Union within the framework of the EU Association Agreement, and Kiev will seek to increase cooperation with NATO and the individual militaries of NATO states. However, actual EU and NATO membership will not be considered for Ukraine. A low-level frozen conflict will continue with pro-Russian separatists in eastern Ukraine, but Ukraine will not seek to militarily regain control of Crimea and the self-declared republics in Donbas.

The Ukraine Crisis Has Regional Reverberations

The effects of the standoff between Russia and the West over Ukraine will continue to spill over across the former Soviet periphery.

Amid continuing efforts by Ukraine, Moldova and Georgia to get closer to the West, Russia on Jan. 1 launched the Eurasian Union with Belarus, Kazakhstan and Armenia, and Kyrgyzstan is scheduled to join mid-year. This initiative will increase economic and security integration between Russia and these countries. The other Eurasian Union member countries will feel the negative effects of Russia's economic crisis due to their dependence on Russia and their integration with Russia in areas such as trade, remittances and currency pegs. These economic weaknesses will make protests and social unrest more likely. Belarus in particular will seek to build closer economic ties with Europe, but it will also maintain a strong military and security relationship with Russia.

The Baltic states will increase their efforts to diversify their energy supplies away from Russia, primarily with regional pipeline connections and Lithuania's liquefied natural gas import terminal. This greater independence from Russian energy supplies will give them more room to maneuver politically regarding Moscow. NATO will maintain its commitments to the Baltics in terms of semi-permanent troop rotations and exercises, but these will not expand significantly. Pro-Russian demonstrations and activities will worry the Baltic governments, but they will be more of an irritant than a serious threat to stability.

In the Caucasus, Georgia will see an increase in political instability as the ruling Georgian Dream party experiences greater internal divisions, though this will not offset the country's broader EU and NATO integration drive. With Russia more focused on domestic and economic issues and thus less likely to intervene in skirmishes over Nagorno-Karabakh, Azerbaijan will try to challenge the status quo of its conflict with Armenia with more military activity on the front line. Although increased hostilities on the border can be expected, a full-scale military conflict drawing in larger neighbors is unlikely.

Gradually rising tensions have been a common feature in Central Asia for the past few years, though 2015 could see these tensions spike. Tajikistan and Kyrgyzstan, both of which have seen significant political and security turmoil in recent years, will hold parliamentary elections this year. Perhaps more important, Uzbekistan will hold presidential elections in March 2015, just as the country is in the middle of a shaky succession process. All three countries will experience greater economic pressures as remittances from migrants in Russia decline, further contributing to the potential for political and security volatility in the region. Further adding to Central Asia's security challenges is the risk of greater militancy as a result of the U.S. drawdown in Afghanistan and the potential return of militants fighting in the Syria/Iraq theater.  

On the energy front, the cancellation of South Stream will make finding replacement projects a priority for both Russia and the Europeans as they seek to circumvent the troublesome Ukrainian transit route. Russia will build closer energy ties with Turkey. The Europeans will court Azerbaijan and Turkmenistan to participate in new projects on the Southern Corridor route — though Turkmenistan, still mindful of Russian interests, is not likely to participate in any such projects this year.

Europe, Ukraine and Russia

The European Union, divided as it is among widely varying interests, will remain largely reactive to events in Ukraine and to the standoff with Russia overall. NATO will continue its rotation of troops in Poland, Latvia, Lithuania and Estonia, but barring an unexpected event (such as the downing of the Malaysian Airlines flight MH17 in 2014) the European Union is unlikely to force an escalation of tensions with Moscow. It will keep the current sanctions regime in place during the first half of the year but allow parts of the sanctions package to expire when they come up for review in mid-2015 if Russia appears more cooperative.

Even as Germany maintains firm demands on Russia regarding the crisis in Ukraine, both sides will prioritize keeping their communication channels open. As far as Berlin is concerned, it is Moscow's responsibility to take the first steps to de-escalate the crisis. Russia is likely to act first, giving Germany the political room to support letting the sanctions expire in mid-2015. Meanwhile, Berlin will back multilateral forms of financial aid for Kiev while pushing the Ukrainian government to implement structural reforms.