Expert Commentary

Expect Economic and Political Risk To Merge in 2016

It has become an annual ritual: at the end of every year, risk managers look into their crystal balls and try to predict what challenges and surprises may be in store over the next 12 months. Since 2009, one may be excused for thinking that, in general, the global economy has been improving. Since 2011, the exact opposite may be said regarding political risk.


Political Risk
January 2016

The two axes are likely to intersect in 2016 for a variety of reasons, and the result for risk managers is likely to be a real test of fortitude and endurance.

US Interest Rates

Let us begin on the economic front with Janet Yellen, who has finally started raising interest rates after nearly 10 years of rate reductions. My belief is that the reason she has taken this action at this time is that the United States is well overdue (by historical standards) for a recession, and, if the Fed does not raise rates, it will have no ability to reduce them when the next recession hits.

Ms. Yellen has said she believes the US economy is in a relatively good state of health, but there appears to be some storm clouds on the horizon.

Global Economy

Clearly, the global economy is not in a good state of health. Europe continues to limp along, Japan is in its second recession in 2 years, Brazil's economy is on the verge of collapse, and emerging economies around the world are either already in recession or heading that way.

The freefall in commodity prices, significant drop in global consumption, and precipitous and sustained drop in the price of oil have put natural-resource-producing countries in a very difficult spot. Many of those countries' currencies have been devalued massively.

Social unrest is occurring in many of these countries, which has coincided with a rise in political risk for countries as diverse as Venezuela and Russia. This is occurring as the rise in global terrorism reaches a boiling point, with the Islamic State continuing to expand globally, and reaching European and American shores with successful attacks for the first time in recent weeks.

The US presidential election promises to be contentious—perhaps the most contentious in decades—with a rather uncertain outcome and unknown implications.

The Intersection

All this points to an intersection between economic and political risk unseen since 9/11. It may very well be the case that 2016 is the year when both the economic and political environment—in the United States and around the world—deteriorate in tandem. The United States should, by historical standards, enter into recession next year. Couple this with the pressure natural resource countries are likely to continue to experience in the medium-term, and you have a prescription for rising economic and political risk, both domestically and internationally, next year. Oil and mining companies, service companies related to these, and banks are already feeling the pressure, with collapsing share prices and layoffs by the tens of thousands.

Conclusion

If history is any guide, risk managers would be wise to assume that the risk environment will not improve in the coming months and to plan accordingly. This implies revising short- and medium-term strategies for growth and income, adopting a conservative risk management posture, and being defensive while implementing plans and devoting resources that are already committed.

The tea leaves are becoming clearer. 2016 may require every ounce of stamina and creative thinking in any risk manager's arsenal. Your task is to ensure that decision makers in your firms hear you and understand your warnings, and that you make risk management a central focus of the strategic planning process. While everyone naturally hopes that the global economy does not have a hard landing, there is good reason to believe it may turn out that way.


Daniel Wagner is CEO of Country Risk Solutions and author of the book Managing Country Risk.


Opinions expressed in Expert Commentary articles are those of the author and are not necessarily held by the author's employer or IRMI. Expert Commentary articles and other IRMI Online content do not purport to provide legal, accounting, or other professional advice or opinion. If such advice is needed, consult with your attorney, accountant, or other qualified adviser.

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