Navigating geopolitical risks in a globalised economy

**A Spanish version of this article was published in the Expansion on July 10th 2024. This article will be updated with the spanish link when it is made available.**

A French cognac maker may have thought that he had nothing to do with Europe’s investigation of Chinese cheap Electric Vehicles (EVs) being sold to Europe until China—the second biggest market for French cognac—retaliated with a probe into this French liquor. The industry, which employs 70,000 people and accounts for nearly 4 billion euros in export sales, was suddenly thrust into the geopolitical spotlight. While the threat of Chinese tariffs and reduced imports has since abated, this type of asymmetric geopolitical risk is expected to rise, compelling businesses to not only monitor risks directly related to their industry but also consider how seemingly unrelated geopolitical events could create a ripple effect. For the most part geopolitical risk will continue to rise for the remainder of the decade for various reasons increasing the frequency, intensity, and asymmetric risk of these events.?

Regarding the increase in frequency, geopolitical risks, particularly those involving conflict, have been escalating as the barriers to creating chaos diminish while the costs of defense rise. For instance, during Iran’s recent strike on Israel, over 350 drones, ballistic, and cruise missiles were launched. Although 99% of these were intercepted by Israel, the U.S., and other unnamed Middle Eastern countries, the cost disparity was stark: Iran's drones cost approximately $4,000 each, while intercepting missiles cost 2 to 4 million dollars each. This single attack cost more than a billion dollars to defend against. Imagine a similar swarm of drones used by state or non-state actors to attack Western infrastructure, such as commercial ports, energy grids, and communication lines. Russia has already publicly stated its intent to conduct or support such attacks on NATO countries.

On the digital front, the rise of new AI tools, specifically Generative AI (GenAI) like FraudGPT and WormGPT, enables enhanced phishing campaigns that can be automated or used to create sophisticated hacking tools. These solutions are available for a few hundred dollars a month, and for those unwilling to use these tools themselves, ransomware-as-a-service (RaaS) or malware-as-a-service providers offer these services for around 40 euros a month, taking a profit share from the potential returns, which can range from tens of thousands to millions of dollars. In contrast, companies invest heavily in cybersecurity, often spending at least 10% of their annual IT budget—approximately 2,700 euros per full-time employee—on training and additional software, yet remain vulnerable due to human error, such as an employee clicking on a phishing link. Recent cyberattacks in Spain on companies like Iberdrola, Telefónica, Santander, Ticketmaster, Direccion General de Trafico (DGT), and Decathlon underscore the need for vigilance against coordinated attacks by state and non-state actors, such as Russia and China, especially in light of the geopolitical environment.

Regarding the intensity of geopolitical risks, while markets have historically rebounded from crises such as the war in Gaza and attacks on ships in the Red Sea, the increasing frequency of such events in a globally interconnected economy significantly amplifies their impact. Each incident adds cumulative strain on the global system, creating escalating disruptions that affect stability and predictability. For example, the war in Ukraine has far-reaching consequences beyond the immediate conflict. Ukraine and Russia together supply 30% of the world's wheat and grain, and Europe heavily relies on their energy exports. The war has also disrupted the automotive industry and the EV battery sector due to Ukraine's critical role in nickel production. Moreover, Ukraine produces 70% of the neon gas required for semiconductor manufacturing, causing significant setbacks in the chip industry. The potential risk of China invading or blockading Taiwan further illustrates the heightened intensity of geopolitical risks. Such an event would drastically reduce the world's access to semiconductor chips by 21% and by 63% for more advanced chips. The cumulation of these events, will create a compounded effect.

Finally, we must address the growing concern of asymmetric risks, which are notoriously difficult to quantify due to their indirect effects and the unpredictable nature of retaliatory actions. These risks often manifest through third or fourth-level effects, making them particularly challenging to anticipate. For instance, during the trade tensions between the United States and China, China imposed tariffs on American agricultural products like soybeans and pork in retaliation for U.S. tariffs on Chinese goods. This move not only impacted American farmers but also had downstream effects on related industries such as logistics and food processing. Asymmetric risks extend beyond directly involved sectors, influencing market reactions and sentiment. A notable example is the European Union's retaliatory tariffs on iconic American products like bourbon and Harley-Davidson motorcycles in response to U.S. tariffs on steel and aluminium. Although the bourbon tariffs are temporarily suspended, measures like this can lead to shifts in consumer preferences and supply chain adjustments, creating ripple effects throughout the economy. This strategy of targeting symbolic industries highlights the potential for similar tactics in future geopolitical conflicts, possibly affecting emblematic Spanish products like wine and ham.

Traditional geopolitical risks are challenging enough, but the rise of asymmetric threats adds a layer of complexity that demands heightened vigilance and strategic foresight. Markets tend to initially overreact to geopolitical events and then stabilize, often overlooking the lingering ripple effects as they intertwine with other global risks. Therefore, businesses must proactively adapt to these evolving threats to maintain stability and competitiveness in an increasingly unpredictable world. Understanding and preparing for these multifaceted risks is essential for sustaining a resilient and competitive position in the global market.