Navigating the Vortex

The McKinsey report Survival through purpose: How Ukrainian businesses endured amid extreme uncertainty offers fascinating insights on how Ukrainian companies were affected by Russia’s invasion in February 2022 and how they responded to the extreme challenges that this created. While specific to Ukraine, some of the observations in the report led us to consider the broader implications of war, and similarly rare but extreme events, on public and private sector companies — and the importance of planning and thinking on your feet.

What it’s about: More than a year into the war in Ukraine, McKinsey surveyed 122 Ukrainian companies about how the dramatic events since February 2022 had changed their business environment, what strategies they had adopted to mitigate these impacts, and which of them had worked to date (or not).

The consequences of the Russian invasion have been enormous in terms of lives lost, infrastructure destroyed, and people displaced. This has affected businesses of all shapes and sizes and in all sectors — it disrupted their ability to operate normally and, for the most part, decreased demand for their goods and services.

Yet, of the organisations McKinsey surveyed, only 2% ceased operations, despite the fact that 47% recorded a drop in sales of more than 30%. This remarkable resilience, the report outlines, comes down to four factors: providing employees with safety and purpose; quickly shifting to a “wartime operating model” of agile decision making; implementing existing contingency plans; and senior executives leading from the front and by example.

Why it matters: One of the rationales behind McKinsey’s report is that events like the war in Ukraine generate lessons that “apply to any company hoping to create a tool kit to deal with true black swans.”

War, like major natural disasters, large-scale terrorist attacks, and man-made catastrophes, is often considered a black swan event — an event that is extremely impactful, but also extremely rare. Taken as singularities, this is probably true. Looking at it from a more cumulative perspective, it is more doubtful that we are really dealing with events that only occur once in a blue moon.

Over the past decades, hardly a year has passed without testing the resilience of states and societies in different parts of the world and around the globe, often to, and sometimes beyond, breaking point.

The end of communism and the collapse of the Soviet Union, German unification, the wars in the former Yugoslavia, 9/11, Afghanistan, Iraq, the global financial crisis, the war in Georgia, the Arab spring, Fukushima, the annexation of Crimea, the COVID-19 pandemic, the return of the Taliban, and now the full-scale Russian invasion of Ukraine and the escalating civil war in Sudan are just some examples of such events, many of which had not just an immediate impact but lasting consequences.

Add to this natural disasters like earthquakes, tsunamis, and climate-change related events like floods, droughts, and wildfires that occur more frequently and with greater regularity, and it becomes clear that many black swans are taking on a decidedly lighter shade of grey.

Our take: War is a man-made disaster in both its immediate consequences and in how states and societies respond to it — not only those immediately affected by it but also further afield. This adds complexity to how businesses can cope, and, crucially, prepare for such an event.

The war in Ukraine demonstrates this complexity in a number of ways. For companies in Ukraine, as the McKinsey report highlighted, the key impacts were on operations and demand. Businesses further afield are similarly affected, as we have seen in terms of inflationary pressures, which increase operational costs but can also depress demand because inflation hits consumers as well. Supply chain disruptions are another factor, as are the broader impacts of increasing geopolitical and geoeconomic fragmentation.

This fragmentation — sometimes also referred to as decoupling or de-risking — is partly a choice made in response to war and in an effort to deal with its consequences, as we discussed in an earlier piece, Mitigating the risks of geopolitical fragmentation: regulation, oversight, and good corporate governance. One of the West’s responses to Russia’s invasion of Ukraine has been a significant up-scaling of sanctions since February 2022. This has not only had an effect on Russia’s war effort, as detailed, for example, by the World Economic Forum in a report last December, but it has also increased the regulatory burden on companies and the costs of non-compliance.

Non-compliance is wide-spread, partly because of deliberate circumvention of sanctions, partly because of the complexity of the sanctions regime. With sanctions widely used by the US, the EU, and their G7 partners as geopolitical and geoeconomic tools of statecraft, ensuring compliance has become a major, and constantly evolving, task for business organisations.

Non-compliance can have a serious effect on company profits. Even before the Russian invasion of Ukraine, Standard Chartered Bank was fined just over £20m by the UK Treasury in 2020 for breaching sanctions imposed by the European Union over Russia’s annexation of Crimea. Unrelated to the war in Ukraine, Royal Bank of Scotland and French bank Credit Agricole were fined $100m and $800m, respectively, in 2013 and 2015 by the US Treasury for violating various sanctions then in place against a number of countries, including Iran, Sudan, Myanmar, and Cuba.

Given that sanctions violations remain high on the radar of western governments and international financial institutions, compliance should also become, or remain, a priority for companies in their corporate governance efforts.

At the same time, war has always created opportunities for growth, investment, and innovation as well, and the war in Ukraine is no exception in this regard, as detailed in a recent report by the Financial Times. This, however, also indicates a shift in public and private financing priorities in times of war, which means that in sectors other than those relevant to the war effort, access to capital and skilled labour will be more difficult and potentially have long-term negative impacts. The longer wars last, the more entrenched shifts to war-time economies become, and the more time- and resource-intensive post-war transitions will be in economic terms.

The bottom line — regardless of whether one looks at war or other black or not so black swan events — is that risk management and contingency planning are important aspects of any organisation’s resilience to major external shocks. But they are only part of the answer. What is equally, and perhaps more significant, is having well-qualified and well-motivated people working for the organisation from top to bottom who can think on their feet when any kind of event requires activating these contingency plans. This means realising that resilience is above all about people, and that investing in people is key to increasing resilience.

Join hosts Lucy Marcus and Stefan Wolff for a deep dive into some of the most pressing issues of today and tomorrow.

In this episode of Navigating the Vortex, Lucy and Stefan discuss Italy, corporate governance, the energy sector, multinational companies, politics, the debt ceiling, the OSCE, NATO, Sudan, Ukraine, Russia, and, of course, Eurovision.

Italy's Enel AGM and the Shakespearean drama of corporate governance

AGM season continues and Lucy and Stefan do a bit of a deep dive on one Italian company that brings together politics, energy, power, leadership, governance, money and more. By the end you'll wonder if it is a Shakespearean play or corporate governance, or both.

Corporate governance rules for appointing directors to public companies in Italy are structured in a way which is supposed to emphasize transparency, accountability, and diversity in the boardroom, and to seek to ensure that all shareholders have a voice in the governance of the company. Enel, an Italian multinational energy company, is the largest-listed company in Italy and operates in the production, distribution, and sale of electricity and gas. They had their AGM on 11 May, and the vote was seen as a test of the influence that the Italian government has as a majority shareholder over Enel and other powerful state-backed companies. Because Enel operates in numerous countries around the world, across Europe, North America, South America, and Africa, the right-wing government's power to have a strong say over who is appointed to the board, means that they also have a great deal of influence over the company's operations in other countries, and by extension that expands their power on a global basis.

The Global Impact of a US Debt Default: What You Need to Know

Stefan and Lucy also discuss the potential impact of a US debt default on the global economy. Starting with an explanation of what the debt ceiling actually is, they talk through severe consequences for the US economy and that a US default would have significant global consequences due to the US's central role in the global economy and financial system.

They note it could cause economic turmoil, trigger market instability, and lead to currency fluctuations, potentially causing political instability and reducing US influence in international affairs. The consequences of a US default could be severe and long-lasting, affecting not only the US but also other countries, particularly those that hold a significant amount of US debt, such as China and Japan.

A US default could undermine the stability of the global financial system, and a downgrade of the US credit rating could increase borrowing costs for other borrowers as well. They also talk through the reverberations that will begin to be felt as the US gets closer to the chance of default: we may see increased volatility and uncertainty in financial markets around the world, making investors more risk-averse and leading to a sell-off of assets that are perceived to be risky.

Eurovision and Geopolitics: Behind the Glitz and Glamour

Of course, the episode would not be complete without a vital conversation about the Eurovision song contest, including the finer points of the geopolitical implications and influence on Eurovision voting, and the special significance of this year's event.

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Join hosts Lucy Marcus and Stefan Wolff for a deep dive into some of the most pressing issues of today and tomorrow.

In this episode of "Navigating the Vortex," Lucy and Stefan discuss the ongoing crisis in Afghanistan, the impact of Brexit on Northern Ireland, the escalating conflict in Sudan, and the role that business and investment can play in promoting political stability.

They also touch on the impending Ukrainian counteroffensive and the impact of the conflict on corporations, with knock-on economic and supply issues that are reaching beyond the region and into boardrooms around the world.

Plus, they talk about corporate governance and the overarching theme of accountability that is emerging from Annual General Meeting (AGM) season this year, as investors hold companies to account for the promises they made in the past and the commitments they’ve made for the future.

Note: A big thank you to all of our subscribers, listeners, and readers! Since its launch, the Navigating the Vortex newsletter and podcast have been read and listened to by people from 41 countries and 20 US States. Thanks for continuing to read, listen and share.

We love hearing from you - this week we had some fascinating and thought-provoking feedback, including from readers in Pakistan about our piece on Afghanistan. Please be in touch with your questions and feedback via the comments. We read it all.

We hope you'll continue to share Navigating the Vortex far and wide, with friends, family, colleagues, across social media, and even strangers on your commute…

Subscribe via Substack or on all major podcast platforms, including:

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One of the stories that we have followed for some time is the circumstances in Afghanistan. The situation of the UN mission, UNAMA, has become ever more precarious and its ability to improve the humanitarian and economic situation of ordinary Afghans has been seriously impeded. Within that context, it was intriguing to see China’s foreign ministry release a position paper on Afghanistan.

What’s it about: On 12 April, the Chinese foreign ministry issued a position paper  on Afghanistan. Four of its eleven points deal with the threat of terrorism and narcotics that Afghanistan poses, indicating the serious concerns that China has in this respect. Unsurprisingly, the paper also condemns past and current US actions in relation to Afghanistan and juxtaposes them to China’s respect for the country’s independence, sovereignty and territorial integrity and Beijing’s commitment to never interfere in Afghanistan’s internal affairs, never seek selfish interests in Afghanistan, and never pursue a sphere of influence. That, however, does not stop the Chinese foreign ministry from demanding moderate and prudent governance from the Taliban, including the protection of the basic rights and interests of all Afghan people, including women, children and all ethnic groups. Moreover, China commits itself to supporting peace and reconstruction in Afghanistan, including through facilitating a solution to Afghanistan’s humanitarian and refugee issues and through strengthening international and regional coordination on the Afghan issue.

Why it matters: Afghanistan has not been in a good place for as long as many people’s living memory. Foreign occupation and civil war have been a near-constant feature of life in Afghanistan for several decades. The Taliban takeover of power in August 2021 has done little to improve this. On the contrary, the economic situation in the country is dire. Women and girls are more and more excluded from education and the labour market. Levels of violence may have decreased, partly because of the harsh rule imposed by the Taliban, but the threat posed by Islamic State and other terrorist groups to Afghanistan and the region remains. Addressing this complex set of challenges requires a coordinated and thought-through approach by Afghanistan’s neighbours and the broader international community—an approach that recognises the urgent needs of Afghans and at the same time takes an ethically principled stance on the Taliban regime that causes much of their suffering.

Our take: While Afghanistan remains one of the most deprived countries in the world with no hope of imminent improvement, the UN simultaneously contemplates pulling out its mission and taking steps towards recognising the Taliban regime. The dilemma that the UN is facing is that its operations have become more and more constrained with the Taliban now prohibiting women from working for the UN mission in the country. If any final confirmation was needed that attempts to engage with the Taliban since August 2021 have not led to any positive change, this should be it. The approach of give and take, of humanitarian relief, of economic engagement, of exploring trade and transport links has been futile.

It seems intuitively right to argue that the world cannot turn its back on Afghanistan and abandon its people. But this argument ignores the fact that whatever engagement has been possible to date has not improved the situation of ordinary Afghans at all and in fact it has worsened that of women and girls. Moreover, calls for more engagement with the Taliban, especially when it appears to be unconditional—as expressed by China in its position paper and pursued by many of the Central Asian states for the past twenty months—also mask the underlying economic interests of such an approach.

Afghanistan has vast mineral deposits, including critical rare earth minerals, that are of significant interest to China, as are the country’s oil reserves. China is known to have invested in Afghanistan’s lithium sector and China and the Taliban also agreed a deal in January this year enabling a Chinese company to drill for oil in the Amu Darya basin. For Afghanistan’s northern neighbours in Central Asia, engagement with the Taliban is meant to lead to infrastructural, trade, and energy cooperation that would supposedly create opportunities for economic development across Central and South Asia and connect Central Asia better to the global economy at a time when many of its traditional connections to and through Russia have been disrupted by the war in Ukraine.

Economic engagement with, let alone diplomatic recognition of the Taliban regime, is not a promising approach to either achieving the regional security and stability that China and other neighbours of Afghanistan crave or to relieve the suffering of ordinary Afghans. While it is important to engage with China on Afghanistan, engaging with the Taliban regime can only lead to desirable outcomes if it remains steadfast in the commitment to key principles like the protection of the basic rights and interests of all Afghan people, including women, children and all ethnic groups which China’s position paper also calls for.

Even if an unconditional engagement with the Taliban regime now would result in short-term economic and perhaps even security gains, the Taliban’s track record in power—between 1996 and 2001 and since August 2021—suggests that this is neither a sustainable business proposition nor one that would be politically prudent.

In this first episode of the Navigating the Vortex podcast, hosts Lucy Marcus and Stefan Wolff introduce themselves and the premise of their podcast, which is to have insightful and thought-provoking conversations with guests about current events and big ideas. They discuss their backgrounds and expertise and how discussions around their kitchen table led them to create this podcast.

The hosts also review their recent columns, which focused on geopolitical risks and their impact on economic growth, global trade flows, foreign direct investment, and technological advancement. They examine why geopolitical risks are so important and how they impact economic development. They emphasize the role of the private sector, which is as much affected by global events as the public sector, and examine how public-private partnerships are essential for the international community's ability to tackle global challenges like climate change and future pandemics.

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Two reports released by the International Monetary Fund — on global financial stability and the world economic outlook — echo findings from an earlier report from the World Bank about the weak prospects for sustainable economic growth. Like the World Bank report (which we covered here, asking “Is Global Growth Doomed?”), the IMF points to geopolitical risks as a major driver of suppressed growth potential. While the IMF is sceptical about reversing the trend of geopolitical fragmentation anytime soon, it emphasises the importance of risk monitoring and strengthening oversight to improve the resilience of banks.

What it’s about: The IMF’s April 2023 Global Financial Stability Report and World Economic Outlook paint a picture of a global economy strained by high inflation, fiscal tightening, a looming sovereign debt crisis, and uneven post-pandemic recovery. Added to that, and exacerbating these downside risks, is a persistent trend of geopolitical fragmentation — a deliberate reversal of global economic and financial integration, driven by strategic considerations, especially of major powers.

Why it matters: Geopolitical fragmentation, according to the IMF, has a negative impact on global trade flows, foreign direct investment, labour mobility, and technological advancement. It affects developing economies more, and more negatively, than advanced economies but also limits the ability of the international community as a whole to tackle global challenges like climate change and future pandemic threats. In a context in which many people are already severely exposed to the consequences of the energy and food crises, reduced capacity to support the most vulnerable populations is likely to contribute to more, and spreading, social unrest. This, in turn, has increased the risk, and cost, of doing business for many companies, according to a recent study by Allianz.

Our take: Geopolitical fragmentation is not a new trend, but it has accelerated since the beginning of Russia’s invasion of Ukraine. It is likely to continue as competition between the US and China increases. In fact, US-style decoupling is a prime example of geopolitical fragmentation. It also indicates that fragmentation will become more pervasive as countries will have few options but to choose between a US-led western bloc and a China-led bloc. That choice will be shaped by ideology as much as geography, evident in terms like ‘friend-shoring’ and ‘near-shoring’ that have been added to the vocabulary of geoeconomic strategies and that complement the trend of ‘re-shoring’ which became popular as a result of the COVID-19 pandemic.

While the most obvious countermeasure to geopolitical fragmentation would be strengthened multilateral cooperation, this is, for the time being, also the most unlikely path to be chosen by the world’s major powers. Consequently, other mitigation measures are required. These might not treat the root causes of fragmentation, but they can increase the capacity of national and international financial actors to deal with some of the symptoms.

Both policy makers and the private sector need to rise to this challenge. As the IMF points out, risks need to be more systematically monitored. This can improve early warning, which is important, and needs to be followed with early, and decisive action. Decisive action, in turn, requires that resources be available, and are made available, for targeted interventions. This can be aided by strengthening oversight of the banking and non-bank financial sector to ensure that financial regulations are not only in place but adhered to when it comes, for example, to capital and liquidity requirements.

It is important to note, that oversight is not merely a question for financial regulators but also goes to the heart of the short- and long-term health and governance of all organisations. Nor does it only impact traditional multinational companies. Any organisation buying or selling abroad or operating in sectors that could be impacted by local, regional, and global upheaval — from sovereign debt crises and expanding sanctions regimes, to cyber threats, currency fluctuations, and protectionist trade policies — must have a system of risk assessment and monitoring in place. Public or private, profit or not-for-profit, no-one is immune, and as a matter of corporate governance, boards must keep a finger on the pulse of how the shifting winds of policy in myriad areas impact their organisations.

At a time when multilateralism is unable to provide more than at best minimal guardrails against a prolonged global economic downturn, the public and private sectors need to work more closely together nationally and across politically like-minded economies to put in place mitigations against the negative impacts of geopolitical fragmentation. This requires a sense of common purpose in which regulation and oversight go together with good corporate governance. The more resilient national economies emerging from this will be better able to weather continuing fragmentation and be better placed to re-engage globally when the time comes.

One of the stories we have been following in the past couple of days is the trip by French president, Emmanuel Macron, and European Commission president, Ursula von der Leyen, to Beijing. Not much seems to have changed in the relationship or in either side’s attitude, but this is by no means a bad thing at a time when communication is often the first victim of intensifying geopolitical and geoeconomic rivalry.

What it’s about: The not-so-joint visit by Macron and von der Leyen to China just before Easter produced no concrete political outcomes and few economic ones. Rolling out the red carpet for Macron and pretty much cold-shouldering von der Leyen confirmed that China prefers bilateralising its relationship with EU members, especially ones that reflect well on the image of its own leader, rather than dealing with the bloc as a whole.

Why it matters: The EU and China are among each other’s largest trading partners—China is the primary source of imports for the EU and its third-largest destination for exports. European companies, too, have a stake in this. For the German automotive industry, for example, China is the most important export market, with every third German car sold there. Germany and France together account for almost a quarter of all EU exports to China.

The EU and China, thus, have a keen interest in global economic and political stability, but they don’t see eye-to-eye on many issues. From democracy and human rights, to Taiwan and the war in Ukraine, and to the lack of a level playing field for European companies in China, there are many issues where both sides do not simply agree to disagree but have profound differences that shape their foreign, security, and economic policies.

Our take: In a speech just before her departure, von der Leyen outlined a policy of ‘de-risking’ in the EU’s approach to China. Short of US-style ‘de-coupling’, the approach is meant to be more assertive and protective of EU economic interests and balance them carefully with the bloc’s political interests. This is insufficient from a US perspective, and US pressure on the EU and key member states like France and Germany will continue to align more with Washington’s policy of containing China.

President Xi’s efforts to drive a wedge between Europe and the US are evident in his differential treatment of Macron and von der Leyen, as are his intentions to exploit divisions within Europe among member states who back the Commission’s approach and those that think it either goes too far or not far enough. There is no indication that Xi has been particularly successful in achieving this.

The persistent lack of a level playing field for European companies in China has meant that the landmark 2020 Comprehensive Agreement on Investment has effectively been abandoned and was not even discussed at the recent meetings in Beijing. This does not imply an end to the trade relationship between the EU and China, but it also means that there will not be the kind of step-change in deeper integration that the 2020 deal could have offered. Like German chancellor Olaf Scholz before him, Macron has demonstrated that individual deals—such as for Airbus or French energy giant EDF—will remain possible.

Like other European leaders before them, von der Leyen and Macron both emphasised the importance of the war in Ukraine as a determining factor in the relations between Europe and China, but they got little from China in return, apart from a re-statement of its “Position on the Political Settlement of the Ukraine Crisis”.

Ultimately, there was nothing groundbreaking in the joint declaration by Macron and Xi, and there was not even one between Xi and van der Leyen. But not breaking things in one of the most important global political and economic relationships is perhaps as good an outcome as one could and should have expected. Above all, it means that dialogue between the EU and its member states and China will continue in areas where they agree and disagree alike.

One of the stories we have been following is a new report by the World Bank, published at the end of March, which paints a gloomy picture of the prospects of sustained global growth.