In an increasingly uncertain global investment environment, where “1 in 100” year simultaneous events such as major hurricanes, cyber-attacks, viruses, financial and economic crisis, business model failures, etc, are occurring with increased frequency, having an understanding of these risks, their complex empirical relationships and interactions and their associated complex negative consequences is becoming more important for international investors who structure their investments based on a balance between an accepted level(s) of exposure to a certain type(s) of risk(s) and an associated level of expected target rate of return. For instance, pandemics such as Coronavirus (Covid-19) and extreme weather events driven by a changing climate such as storms, floods, heat waves, droughts, wildfires, and cyclones are characterized as “systemic” in nature, because they have the potential to cause a system-wide breakdown or significant disruption to man-made economic, financial, and security systems supporting our way of life. Similarly, each of these events is called an “extreme” risk event because they are “rare”, i.e., events that are generally seen as deadly surprises, happening outside everyday experience, and their likelihood are difficult to estimate. These events are capable of causing a huge change in everyday life, at least locally, and they do have the momentum to turn society upside-down in a few months, day’s, perhaps even minutes by causing massive destruction to human life and property.
According to Swiss Re 2020 Sigma report, the year 2019 was the second warmest year, and the decade from 2010-2019 was the warmest on record. In 2019 there were 317 global catastrophes due to extreme weather events, claiming the lives of 11,497 individuals worldwide with total global economic losses exceeding USD 146 billion. Further, according to a 2012 report by the Centre for Climate Security, research shows that drought conditions in Russia and China, and subsequent global wheat shortages, contributed to higher food prices in Northern Africa and may have helped catalyse and broaden the appeal of the Egyptian uprisings in 2011, causing Egypt to suffer its worst economic crisis since 1930’s. Similarly, African swine fever wiped out over one-quarter of the world’s pig population last year, causing food prices in China to increase by 16-22% so far in 2020. Again, the worst colossal armies of locusts are systematically wiping out crops across much of Africa, the Middle East and Asia, and fear of Covid-19 is greatly disrupting global food supply. The simultaneous interaction of two extreme and complex risks (Covid-19 and extreme weather) is amplifying the risk of a worldwide disruption to global food supply chains leading to a potential significant upward jump in food prices worldwide. This, in turn, could trigger crises in many countries and as a result potential food riots might ensue. In consequence, it erodes social cohesion and leads to an increase in the likelihood of social instability at the regional and global levels.
Furthermore, according to this new study , it provides observational evidence that the odds of major hurricanes around the world with Category 3, 4 and 5 storms is on the rise. Further, the severity of economic losses associated with the rise in the number of extreme weather events such as intensification of storms, increase in heavy precipitation, more frequent and intense temperature extremes, more severe droughts, longer wildfire seasons, accelerating sea-level rise, desertification, and ocean acidification is also projected to rise in the near future.
Equally important, on March 11 the World Health Organization (WHO) declared the Covid-19 outbreak a “pandemic”. Since it was first diagnosed earlier this year, it has spread to over 190 countries, infecting over 5 million people and claiming the lives of thousands worldwide. The pandemic has caused an unprecedented worldwide economic shutdown. More than 80 countries have closed their borders to incoming travel from infected countries, ordered businesses to close, and applied a range of policy instruments to contain the spread of the virus such as self-quarantine and social distancing measures. According to some estimates , they indicate the virus could reduce global economic growth by 4% in 2020, and raised the likelihood of a global economic recession similar in severity to that experienced during the Great Depression of the 1930s. Moreover, according to the World Trade Organization (WTO), Covid-19 represents an unprecedented disruption to the global economy and world trade, as production and consumption collapse across the globe with global trade in 2020 expected to fall by 13% to 32%, depending on the depth and extent of the global economic downturn.
According to some authors, State sovereignty in the modern sense of the word is built upon the States’ output and input legitimacy. A States’ output legitimacy is directly linked to its ability to meet its citizen’s demands for basic resources or prosperity such as health services, food, water, energy, and employment. While a States’ input legitimacy is defined as its ability to offer its citizens a say in the way they are governed through voting and legal recourse. The rise in the number and associated negative economic, social, health, and security implications of extreme weather events and also of the emergence of new viruses and the spread of existing or new disease vectors, in addition to the central assumption that past history is no longer a robust gauge of future developments of extreme risks exacerbate stressors on the critical resources underpinning State sovereignty and national security, these risks compromise a State’s ability to provide basic resources to its citizenry and can significantly erode the States’ output legitimacy. Therefore, they contribute to a wide range of destabilizing trends such as population displacement, migration, and political unrest. The erosion of the States’ output legitimacy can contribute to State fragility, internal conflict, and potentially State collapse, and could exacerbate geopolitical risk by activating dormant or active geopolitical intersections around the globe.
Certainly, the presence of geopolitical intersections-which are a direct consequence of the existence of irredentist or secessionist movements as a result of historically evolved geopolitical risk factors driven by territorial disputes, which manifest on the current global geopolitical map as geopolitical intersections- is at the core of geopolitical instability; ergo, geopolitical risk. Further, these intersections have been a prominent cause of armed conflict and war in the modern era that causes ethnic groups to seek independence from or unification with another State. The threats to State stability arising from the rise in the frequency and severity of either extreme weather events, or the spread of infectious disease, or even a simultaneous manifestation of both risks at the same time across the globe comes from the complex interactions of those risks with the existing security landscape and the ability of governments to effectively manage the immediate, short term and long term economic, social, and security consequences that arise as a result of these extreme events, which could amplify existing geopolitical risks by weakening social cohesion, and exacerbating social unrest across the world due to increased pressure on public health supply chains and local health systems , increased likelihood of interstate and intra-state conflicts over scarce resources, prolonged periods of lockdowns, tighter restrictions on the cross-border movement of people and goods, affecting the global supply chain for food, energy, drugs, and medical devices, and forced migration of climate refugees. These risks and their impacts are expected to become more severe as changes in the climate intensify, and pandemics like Covid-19 occur more frequently. According to these authors, they warn that 1.7 million unidentified viruses known to infect people are estimated to exist in mammals and water birds. The transmission of any one of these viruses to humans may be more disruptive and lethal than Covid-19
Finally, the complex interaction between both extreme events (climate change and pandemics) in shaping risk introduces a new set of risk drivers when scanning the global investment horizon for opportunities. For this reason, in order to be successful at managing the risks that arise from extreme events, strategic investors must think outside the box and focus on examining target countries vulnerabilities and risks associated with global, regional, and localized effects of extreme risk events by including the envelope of high-end, unprecedented possibilities instead of assessing middle of- the-road probabilities on the basis of “historic “experience and they should not downplay the extreme possibilities at the high-end of the uncertainty range. Further they should build prudent risk management frameworks that are not malleable to the” learn from failure” models that drive conventional risk management by constructing their frameworks with a deep, objective look at the risks they face and have methodology’s in place to adequately deal with low probability, high consequence outcomes, which can dominate calculations of total risk. In any case, these are some current core ideas addressing how to think about extreme risks such as extreme weather events, pandemics, and particularly paying a closer attention to the consequences of a “perfect storm” scenario where manifestation of the complex interactions shaping these risks occurs simultaneously, negatively impacting social cohesion, State stability, strategic equations and the strategic equilibrium. For if you are not aware of these rare and often socially damaging surprises and their potential to cause severe disruptions to human-made health, economic, financial , and security systems then certainly you could be caught off guard
