Marie Antoinette, married to Louis XVI, when informed that many of her subjects were too poor to afford bread, allegedly responded with disdain: “Let them eat cake (or more correctly brioche).”
I am often reminded of that quote whenever feisty debates on lockdowns occur as millions of people express complaints that are accompanied by the same stubborn chorus: “It is hunger we are worried about, not the virus.”
Actually, we ought to be worried about both. The destructive force of adversity knows no bounds, and so does the indomitable human spirit.
The Black Swan theory has never been more relevant than now. 2020 started with much optimism and enthusiasm. Projections and outlook were generally positive in both emerging and frontier markets.
However, we all found out that there’s a black cat running around this year, much to our chagrin. In addition to obvious headwinds caused by COVID-19, natural disasters such as East Africa locust infestation, Brazilian floods and mudslides, and the Taal Volcano eruption in the Philippines, have curtailed crop production and disrupted economic activity.
There’s one intriguing data point that is worth mentioning: out of 100 disasters reported worldwide, only 20 occur in Africa, but Africa suffers 60% of all disaster-related deaths.
The next logical question is: does a similar trend manifest itself when it comes to pandemics? The answer to this question isn’t straightforward because of the complex nature of the COVID-19 crisis. Not only does it attack lives, it also attacks mobility – the very source of people’s livelihood in most emerging markets.
While most governments have announced large financial packages to shore up struggling companies and to keep economies afloat, such welfare spending is likely to put increased pressure on Sovereign debt obligations. In fact, many countries remain vulnerable to what I would call the “deadly trinity”:
- Increased welfare spending
- Dwindling foreign exchange reserves
- Dramatic currency depreciation
World leaders, African finance ministers and international finance institutions have quickly expressed their concerns. In a joint statement, the World Bank Group and the IMF urged creditors to suspend debt payments for vulnerable countries. Zambia, Ecuador and Argentina are among the plethora of countries bracing themselves for the worse.
No one knows the duration and severity of the economic disruptions. Nor do we know which elements of pre-pandemic life the world will be able to recover by the end of this year. Regardless, there’s only one essential priority: suppress the virus and related medical challenges (i.e. deaths and hospitalizations). Now more than ever, leadership, governance and ingenuity will shape trajectories post-COVID19.
Here are a few considerations:
Risk Management: Thinking beyond the obvious
Risk management might very well be the most critical skill in both public and private sectors. The global economy has faced shocks before. And recovered. This is, however, a different kind of shock: an insidious, disruptive, and frightening one.
Just like health practitioners, financiers must respond to a fast-moving environment. Luckily, years of contingency planning and stress testing has prepared most (better managed) banks and other financial intermediaries to respond effectively to threats.
However, I foresee two challenges: the lack of direct precedent (“recent comps” as deal makers would say) and the impact of government intervention on asset quality. The lack of recent precedent means that risk managers have limited ability to draw from past experiences. The measures enforced by governments will test the agility of risk functions as banks try to navigate two imperatives: keep businesses alive and curtail asset delinquency (i.e. NPLs) as much as possible. This is not an easy feat. Lloyd Blankfein, former CEO of Goldman Sachs, would have said: “bankers do God’s work”.
Modelling and understanding the implications of stress scenarios on earnings and potential credit losses by re-purposing existing tools might be a viable solution for financial institutions.
Also, portfolio segmentation following P1, P2, P3 and P4 may provide better visibility on the ramifications and severe implications of a 6-to-18-month stress scenarios.
P1. primary sectors affected: aviation, transport, hospitality etc.
P2. secondary industries affected: manufacturing, construction etc.
P3/P4. industries that shouldn’t be adversely affected (yet): telecommunication services, healthcare, insurance etc.
Obviously, this exercise should be performed with a great deal of judgment and discretion as the outbreak may have mixed impacts on individual businesses.
For banks, the less obvious risk that may skyrocket amid COVID-19 is compliance. In light of their intrinsic business model, financial institutions face additional vulnerabilities in the middle of this crisis. Changes in working practices and higher levels of remote access to data and core systems are giving ground to cybercrimes, staff fraud and social engineering. Major banks have suffered nearly $320 billion in operational risk losses since 2011. The number may just be going up.
During the last financial crisis banks were the problem. This time round they look more like the solution to the problem. In any case, most banking systems will have to consolidate and/or recapitalize.
Digital transformation
There a few reasons why the Coronavirus have forced companies to visit a digital transformation faster. A digital transformation, in essence, is never complete. It should be a dynamic, ever-changing mindset – not just a set of static processes. The aim should be to break down internal silos to create a seamless internal experience and, in turn, affect the external customer experience.
In Africa, blatant disruptions to school courses and administrative processes have unveiled or reinforced what we all knew for years: while the private sector has leapfrogged in many digital areas, States have dragged their feet to establish reliable automated processes.
In most African countries, the civil servants’ wage bill accounts for a significant chunk of national spend. In other words, there’s more reliance on people showing up to work everyday than on platforms streamlining the delivery of public services.
Government spending and Flight to Safety
There are unprecedented, sizeable fiscal and monetary stimulus packages offered by governments and central banks across the world and almost in a synchronized way. This will not come without a cost. In March, $31 billion was pulled out of emerging-market debt funds, the biggest outflow on record since October 2008 as investors look to “flee for safety”. Credit Default Swaps are soaring, and we should expect further volatility on over-the-counter government bond prices (e.g. Nigeria’s Eurobond prices fell sharply with yields rising to as much as 13%).
Dedicated emerging-markets bond funds have been among the hardest hit in the fixed-income universe–the category median loss was 20.5%–due to steep price declines on both rates and currencies. World leaders are obviously aware of the “cost of action” as eighty-five countries have approached the IMF for short-term emergency assistance in recent weeks — double the number that called on the fund in the immediate aftermath of the 2008 financial crisis.
In most African countries, welfare spending amid volatility can seem suicidal. But governments are wise enough not to underestimate the implications of a sharp deterioration in people’s livelihood. After all, Marie Antoinette was beheaded by French revolutionaries three years after her infamous retort. In hindsight, she should’ve let them eat bread.
** This article was first published by Papa Moda Loum on his LinkedIn
