Global Volatility Seems Limitless
This is the second of a three-part series looking at the global economy and uncertainty in 2016. In our first post, we addressed the challenges of slow growth in developed and emerging markets. In our next post, we will focus on the outlook for 2017.
Businesses need supportive, stable political and legal institutions to prosper, yet the global landscape has become increasingly unstable as many once-implausible events have become realities.
Since the start of 2016, the United Kingdom has voted itself out of the European Union. The U.S. Republican Party is pulling itself apart over policy and personalities. In Europe, fences are replacing open borders and Jihadi terrorists are targeting festivals, shopping centers, churches, and other public gathering places. Investors pay to lend their money to governments even as debt risks mount.
In conversations, business leaders and directors repeatedly express surprise and concern at the turn of events. What’s fueling this instability? Are recent events indicative of a “new normal,” a brief detour, or a transition to a new equilibrium? And, as the end-of-year business strategy season approaches, what should corporate directors and executives focus on?
Each country has unique characteristics, but there are some important interdependencies. Four powerful, converging political forces are at play.
1. Slow growth is fueling political volatility
As noted in a previous post, global growth has been muted and uneven since the global financial crisis, prompting some economists to ask whether the world has entered a period of “secular stagnation.” Energy and commodities exporters such as Australia, Brazil, Russia, and countries in much of Africa have been particularly hard hit.
Economic hardship often leads to political volatility, but there is a larger political force at play today: A lack of policy consensus and latitude. To turn the situation around, global financial institutions have been calling on governments to undertake bold structural reforms and assertive stimulus measures such as investing in infrastructure. But thanks to large debt piles and continuing calls for austerity from fiscal hawks, big spending increases are not politically feasible in the U.S. and Europe. Emerging markets dependent on commodities exports have been forced into belt-tightening mode as well. The inability of governments to reignite growth has forced central bankers to step into the breech with extraordinary measures.
Policymakers struggle to reignite growth, people are disaffected, and the sum of this instability is the political uncertainty and volatility we are experiencing today.
2. Inequality is adding to political frustrations
Free market liberalism is predicated on creating economic opportunity, but the benefits have not been shared. In many countries, inequality has surged since the 1980s. More recently, quantitative easing, a response to slow growth, has lifted a few boats greatly. In the past, governments often played the role of an equalizer; now proximity to political power is seen as conferring huge economic benefits, creating the belief that “the system” is not fair.
Free trade could be a casualty of increasing inequality and diminished opportunity. The perception that the benefits of globalization accrue disproportionately to certain segments of the population while the losers are left to fend for themselves is pervasive. Anti-immigrant sentiment is another by-product of limited opportunity.
Animosity towards politically connected elites in authoritarian markets is kept in check by repression. Open societies may be more at risk to economic and political polarization. As we see with Brexit, the pushback against globalization, and with the rise of anti-immigrant pressures, middle-ground policy pragmatism—a hallmark of stable democracy—is losing credibility in a world of economic resentments.
3. Populists are exploiting the governance gap
The widespread belief that establishment elites are incapable of solving important problems has created a volatile atmosphere where disaffected voters are willing to take risks and throw wrenches.
Private sector entrepreneurs exploit gaps in the market and find new ways to satisfy needs. Political entrepreneurs do the same in the public sphere: They take advantage of volatility, peddle new solutions (often from both left and right), and break rules.
Dramatic, frustration-driven policy stances of political entrepreneurs make compelling platforms—such as Philippine President Rodrigo Duterte’s anti-drug dealer campaign and French presidential candidate Marine Le Pen’s anti-immigrant stance. Donald Trump and Bernie Sanders are political entrepreneurs too.
But that’s only half the story. In this context, calls for pragmatism and staying the course (“Vote Remain!”) from establishment figures sound tired, if not suspect.
4. Social media is catalyzing volatility
Thanks to social media, populists can peddle their ideas with greater ease than previously seen, without having to adhere to the agenda of establishment media and institutions. (The self-described Islamic State is the most extreme example.) Being provocative is essential to gaining visibility in today’s crowded media landscape and this imperative promotes extreme points of view and places pressures on policymakers to react—even though in representative democracies governments are designed to be deliberative and consensual.
Just as individuals may be overwhelmed by the pace and quality of information flows, so too can governing institutions that were built to be slowed by checks and balances. Few would say policymaking in the U.S. has improved over the past couple of decades thanks to better information. Nationalism, ethnocentrism, and religious animosities seem more powerful than ever.
What can corporate directors do?
Western multinationals can no longer take political stability for granted. In these volatile times, directors have an important role to play in asking the right questions and discerning material risks and opportunity in a time of uncertainty.
- Integrate political and economic risk assessment into corporate strategy setting. The political forces outlined above are unlikely to change in the foreseeable future which suggests a number of scenarios. Slow growth and low interest rates are likely to persist. The U.S. presidential election is unlikely to fundamentally change the country’s political climate for the better—indeed, it could lead to more disaffection, polarization, and gridlock. Uncertainty will increase in Europe with Brexit negotiations and national elections in France and Germany in 2017. Boards should pressure test macro-assumptions from management about the external environment affecting strategy over the next 12-24 months. What are the most important moving variables and how will they affect growth prospects?
- Look for pockets of opportunity. Volatility creates opportunities as well as risks. Good governance and sound policies are differentiators between countries poised to sustain relatively stronger economic performance, and those that will continue face serious challenges in volatile markets. Watch for improving and more agile governance in Brazil, Columbia, Argentina, India, and Myanmar.
- Evaluate the firm’s societal commitments. Proactive companies are seeking to address today’s societal challenges rather than just defend themselves from risks. There is a business case for promoting more inclusive growth: Work by International Monetary Fund researchers has shown that, around the world, higher levels of income inequality are correlated with slower growth. Higher wages support increased consumer spending and broader prosperity. On the other hand, failing to address inequality and other societal ills risks lowers productivity, and leads to more regulation, taxation, and labor radicalization.
NACD’s Global Board Leaders’ Summit, themed around the issue of convergence, will have dedicated sessions on global economic and political disruption, featuring subject-matter experts and seasoned directors. Review the Summit agenda to attend Peterson and others’ sessions addressing global disruption.