How financial institutions can navigate a shifting geopolitical order

The geopolitical systems and institutions that formed after the Second World War are coming under fire and a shift in global order is underway, said Erik Brown, a research analyst at the Global Risk Institute, when speaking at the Canadian Investment Review’s Global Investment Conference in September.

In particular, China and other emerging markets have increasing political and economic power to influence global outcomes. “Although that has immense benefits in terms of human equity and prosperity, it does also increase the likelihood for disfunction. For those familiar with the geopolitical thinker Ian Bremmer, this is essentially what he refers to as the G-Zero World, one in which no critical mass of states exists to take up that mantle of global leadership.”

The shift in global order is particularly important for financial institutions, Brown said. “The global order . . . served as a kind of moderating force. It reduced geopolitical volatility. And with its retreat, geopolitical shocks are more substantial in their effects on market, credit, liquidity, regulatory and other risk factors.”

For global investors, countries that were once considered safe to invest in may become more challenging. Three accelerating trends investors should watch over the coming years are a breakdown in transnational cooperation, economic segmentation and the possibility of a popular backlash, Brown said.

For example, the U.S. and China are seeing a breakdown of cooperation and increasing trade tensions. “The problem is, of course, if you can’t get those two parties to the table, it becomes much more difficult to address other transnational problems, whether we’re talking about climate change, financial crises, future public health crises and for financial institutions, issues like climate disclosure, [anti-money laundering], foreign investment treatment, data governance. In all these questions, institutions benefit from at least some alignment across countries and regions and of course that requires cooperative action, which is lacking in the current context.”

The pandemic has shined a light on supply chain vulnerabilities and prompted calls for reshoring production, and this is playing into existing tensions, which are not limited to just China and the U.S., Brown said. “All of these trends do not bode well for ‘business as usual’ in terms of economics and economic globalization. But arguably they also signal a greater role for the state in the market, because of course it’s the state that has the power to raise those economic drawbridges, and we’ve seen a hint of this in the run-up to the 2020 U.S. elections.”

Further, the virus has highlighted disparities not only in the economic fallout, but also in exposure to the pandemic. “The global financial crisis left a lot of those lasting economic cleavages, which were exploited by a lot of populist parties through the 2010s. If COVID-19 cleaves even greater economic dislocations, and if public policies either fail to address those inequities or unintentionally increase them, it could instigate an analogous backlash further down the road.”

Trade-offs between investment opportunities and geopolitical constraints will grow in frequency and complexity, Brown noted. And institutional investors must remember that local and global issues are intertwined. “Geography is pretty poor insulation against geopolitical risk in a networked world and I defer to Richard Haass, who’s the president of the Council on Foreign Relations in the United States, when he notes that the Vegas Rule does not apply in global affairs. In other words, what happens there does not in fact stay there.”