Geopolitical volatility is one of the three primary headwinds facing CEOs: over half (55%) ranked 'a return to territorialism' as the top threat to growth in our recent CEO Outlook survey.
Political risk is not new, but it is different
Talk of geopolitical volatility in a business context has traditionally centred on government instability in developing markets and the resultant investment risk - from government appropriation to civil unrest interrupting production and security of assets. And the gradual fragmentation of the global order - in terms of norms, standards and regulatory policy - means that these types of risks are unlikely to abate in the short or medium term.
But in the past year alone, we have seen trade negotiations wielded as a tool of state power, while the flow of capital and labor is scrutinized. Closely contested elections shone a spotlight on `extreme' public sentiment, while democratic norms eroded in the face of strong (wo)man politics in the East and West alike.
Previously where you may have only had to wrap your head around the impact and likelihood of a risk, the `new normal' of geopolitical instability means that contagion effects (or interconnectivity) and the velocity (i.e. lead-time) of these threats should also be on your agenda.
Despite the long list of recent political surprises, geopolitics doesn't rate that highly in the World Economic Forum's Global Risks Report 2018 (PDF 8.33 MB). But nearly all are influenced by politics - for example, the recent politicization of climate change policy, while the impact of extreme natural disasters can be magnified by weakened government capacity.
Which basically translates to a more complex, more uncertain business risk map to navigate. These risks influence and are influenced by thebehaviour of the other risks facing your organization, which means you no longer have the luxury of dealing with these risks discretely. In this increasingly interconnected world, an individually insignificant geopolitical risk may have hidden systemic significance - with the potential to trigger many other economic, social and environmental risks, all of them more material than itself.
This interconnectivity - and lack of predictability - is making it increasingly difficult for companies to obtain a comprehensive viewpoint of these forces at work. Our CEO Outlook showed that:
1. Visibility over emerging trends can be improved: roughly half of CEOs think they need to improve the way they monitor market disruption, with the exception of those in the US (where only 8% agreed).
2. CEOs are split over the past vs. predictions: over half of CEOs (51%) say they are less confident about the accuracy of predictive analytics than historic data.
But those that do trust predictive data also saw value in specialist expertise - with 74% of US CEOs saying that specialist expertise to predict and mitigate future business risks are highly important in driving growth. Unfortunately, less than a third of CEOs consider their current scenario and risk-modelling workforce to be effective (excluding the US at 57%).
Scenario- and risk-modelling specialists (i.e. to predict and mitigate future business risks) are highly important to supporting my organization's future growth plans:
I am less confident about the accuracy of predictive analytics than historic data:
And perhaps most interestingly, CEOs are relying on intuition: 67% of CEOs say they have overlooked insights provided by data and analytics in the past three years because they contradicted their intuition.
The predictability of politics
So why does all of this matter for our day-to-day?
1. Political risk is manifesting in different ways in previously stable markets;
2. Businesses have less time to react as political changes occur more rapidly with less line of sight; and
3. Geopolitics is less predictable as economic logic gives way to political expediency.
What these three things really mean is that business cannot always rely on the past as an indicator of things to come - i.e. geopolitics has the potential to cause a `structural break'.
Econometricians coined this pithy phrase to describe the moment in time-series data when historical patterns among variables change. An unexpected shift (like an `out-of-trend' geopolitical event) can lead to unreliability of the model and significant forecasting errors (the phrase `blindsided' comes to mind here).
So where a structural break occurs, historical data loses value and the utility of predictive models lies in underlying assumptions. Enter intuition.
Building your Geopolitical Quotient (GQ)
“In a world where economic volatility is the norm, and the past is no longer an indicator of things to come, disparate events can become inextricably linked. This makes assessing risk exposure especially difficult because risk is unpredictable and contagious, and connected globally within complex organizational structures.” - Andries Terblanche, KPMG's Global Head of Dynamic Risk Assessment
Here are a couple of suggestions from the CEO as Chief Geopolitical Officer report to help build your GQ intuition:
Appoint a Chief Geopolitical Officer: establish single-point accountability at the C-Suite level. We think this is a job for the CEO, but make sure you leverage the `wisdom of the crowds' - the insights of your most experienced individuals across your business.
Watch out for domino effects: the good news is that geopolitics is not that different to other `non-traditional' business risks (like cybersecurity). Include geopolitics in your core risk management processes and develop plans for different, interconnected scenarios. You could also improve the accuracy of your business assumptions by going beyond mass media and investing in specialized geopolitical capabilities.
Check your blind spots: consider giving a different set of expertise weight in decisions. Whether this is an alternate skillset (e.g. demographers, political scientists etc.), cross-sectoral experience, or even just a fresh set of eyes, it will help identify unconscious assumptions and build a different understanding of your business and the environment in which it operates.