XL’s Rosengarten on How Mega Trends Exacerbate Risks; It’s a Scary World

By | May 27, 2014

Jacob Rosengarten, Chief Enterprise Risk Officer for XL Group, in a keynote speech at the European Insurance Forum in Dublin, examined how greater connectivity and technology are intensifying global risks and contributing to the world’s current state of volatility.

His presentation began by citing Charles Dickens’ famous opening lines in a Tale of Two Cities: “It was the best of times; it was the worst of times.” He explained that “many of today’s most pressing global risk management issues are intertwined. They are correlated in one way or another, especially in their potential and significant impact on the insurance industry and the businesses we serve.”

His overall views of the most serious mega trends, which were the theme of the conference, were: Weakness in the West; Youth unemployment; the rise of Nationalism; Urbanization and Middle Class growth; the rising power and instability of developing Markets, and the Technological revolution.

Weakness in the West: The persistent weakness in the West is exemplified by the fact that “while the US and other Western military powers are cutting military spending, others are building up,” Rosengarten said.

”It was the best of times; it was the worst of times.” Charles Dickens, as quoted by Jacob Rosengarten

As examples he cited the “ineffective response to ongoing upheavals in Syria and the Ukraine, as well as an earlier failure to send a strong message to Russia when it seized several territories from Georgia.

Youth Unemployment: “The consequences of significant youth unemployment rates, in both developed and emerging economies, contributes to a younger generation that feels alienated from key institutions,” he noted. While this is an ongoing problem in Europe, particularly in Greece, Spain and Portugal, it’s also a fact of life in France and Italy.

The situation in many developing countries, however, is far worse particularly in the Middle East and North Africa (MENA), where youth (15-24 year olds) averaged 34 percent of working age population in 2005, and unemployment among this group [averaged about] 30 percent

Growing Nationalism and Separatist Movements: “Whether it’s economic weakness, youth unemployment or other issues, failed global institutions can cause societies to turn inward, and [become more] nationalistic, in a ‘romantic’ desire to recapture some notion of historical greatness,” Rosengarten explained. These conditions cause “political unrest and instability,” Rosengarten explained.”

Recent economic upheavals – bank failures, job losses, along with increased immigration – have given an opening to nationalistic – and many far right groups – to attack what they see as an increasingly globalized world that has taken decision making out of the hands of voters and taxpayers. There are separatist movements in Scotland, Canada (Quebec) and parts of Africa. Differences in language have heightened the ongoing dispute in Belgium between French and Flemish, and have led to the present schism between Russians and Ukrainians.

Rosengarten spoke before the European Union’s parliamentary elections, which took place this past weekend, and resulted in significant gains for anti-EU parties, particularly in England, France, Greece and Denmark, with somewhat lesser gains in other EU countries. He characterized this mega trend with a rhetorical question; asking whether it signaled a “return to the tribe,” where group identities, based on ethnicity, religious beliefs, language, social conventions and sometimes class distinctions, become more important than more inclusive forms of government such as the EU, or maybe even the U.S.

Urbanization: “More of us are living closer together,” Rosengarten said, noting that half the world’s people live in cities, whereas in 1900 only around 15 percent did.

In that condition “social disparities become very noticeable Plus, greater numbers of people can find themselves more vulnerable to natural and man-made disasters and greater risk of health issues caused by concentrations of people,” he added. “This also creates risks associated with weaknesses in governance over delivery of key services, infrastructure degradation, and pollution conditions.”

Urban conditions make it easier to assemble protests, as the world has seen with the Arab Spring, the clashes in Turkey, riots in Brazil, India, Venezuela, Argentina and Thailand. The majority of people demonstrating their displeasure, however, aren’t from mainly from poverty stricken urban poor, but from the middle classes, who have seen their expectations, both economic and social, dashed by the economic crisis and the austerity measures taken by many governments to address it.

Rise of developing markets: The rapid economic growth and urbanization have combined to create “instability in developing markets that once seemed unrelated to developed markets, Rosengarten said. These unstable conditions “are now becoming more prominent, especially where supply chain risk is concerned. Developing markets are playing a larger role in producing items (like computer chips) that developed markets need and any disruption has a global ripple effect.”

While emerging markets increasingly produce an ever greater amount of global GDP, the risks inherent in many of them, particularly political instability, haven’t disappeared; in all likelihood they’ve increased.

Rosengarten presented a slide, which noted that “while free and fair elections are clearly an important part of stable government, long term stability for any country also requires:

• A truly independent judiciary and respect for the rule of law;

• Freedom of the press

• Property rights that are stable and enforceable

• Minority rights

• Stable geopolitical surroundings

Developing nations lag behind developed countries with respect to some or all of these dimensions,” he concluded.

Technological revolution: The surge in technology has been phenomenal over a very short period of time. It has “made this world much, much smaller,” Rosengarten said. “Technology, particularly social media, has played a significant role in the instability of some developing markets. Social media makes it possible for small and oppressed groups to mobilize rapidly and take action in a way that wasn’t possible years ago.”

The slide for these particular risks listed the following as “Clear Risks:

a) More capacity for small groups (“tribes” and terrorists) to do harm in a way not possible 50 years ago – empowers small and oppressed groups to “challenge the state, per Robert Kaplan”

b) Speed of weaponry – and wider access to weaponry – makes risk management much more challenging.

c) Computational advances and technology have increasingly created algorithms and techniques which reduce costs but increase risks through just in time production

d) Nanotechnology.

e) Computational power creates new financial products and tools and related risks (e.g., CDO Squared, VaR models, etc.)

f) Optimization techniques may overstate true risk adjusted returns for many industries if constraints incomplete or misspecified (e.g., 2007 collapse of a bridge in Minnesota), or if resiliency steps to types of cyber events are not well understood or prepared for (cyber-attacks or solar storms)

g) “Just in time” inventory techniques and supply chain risks associated with a limited number of production facilities

The conference took a lunch break following his exposition of the perils the insurance industry, as well as the rest of the world, now faces. Discussions were lively, if somewhat somber.

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