Sobering thoughts

MY REVIEW of Piketty’s History of Equality last month was an obvious summer contribution.

This month, it’s still the holidays but the weather has an autumnal feel, so I’m just going to plump for a loose collection of sobering thoughts. Pretty apt for the time as sober thinking, I think, reconciles with the current mood music of global and economic affairs.

Sober thought number one. While Ukraine has finally started to make inroads into the Russian lines after months of its summer offensive, its slow pace is making worries of an attritional war that continues for years loom large. Support among some is wavering, notably groups in the US which would like to focus on China. There have been calls from some in the US for ‘democratic’ elections in Ukraine. Anything that might undermine Zelensky, who’s seen in certain quarters as a little intransigent on the issue of peace terms. Normalisation of the current situation is starting to garner support.

Sobering thought two. Normalisation of the current situation won’t be helpful economically. Obviously, the lack of long-term regional stability constrains investment and growth but I’m more thinking about the harm of the normalisation of the scope of the sanctions’ regime. Normalisation puts a swathe of geography being ruled out of bounds permanently. With the flip-flop on the strategic view of China by the US, UK (albeit with notably lukewarm support from the French and Germans) geopolitics have recently significantly shrunk our potential serviceable market.

As an international finance centre, we’ve always been susceptible to geopolitical shifts. In that regard South Africa’s strategic signalling of closeness to Russia and China during the hosting of the 13th Brics summit is a bit disconcerting given the scale of our trade with South Africa, as was the news that the UAE and Saudi Arabia are joining this club. Any movement to formalise these links would be a worrying development and unhelpful to business development in the Middle East.

The effect of wartime-type sanctions has been the legitimisation of the practice of being used as a geopolitical instrument of others. A practice that comes at a cost, a political and economic cost, and loss of sovereignty. One that won’t be immediately noticed. And another imperceptible bureaucratic burden to be absorbed.

Sobering thoughts these may be, but these are strategic risks of a long-term nature.

So let’s move on to something more immediate. How about the brick wall of high interest rates that many western economies are now hitting?

In the UK, national media have tended to focus on the brick wall impact that high (I say high in the immediate context of a decade of near-zero rates) interest rates are having and will have on the housing market. We’ve seen a similar impact here with a slowdown in the housing market and it won’t be long before there’s a feeding through of reduced demand in other areas. But it’s the corporate sector where there’s serious risks, given eye-watering levels of debt.

The Bank of England has been pilloried by many for its conduct of its monetary policy. I haven’t been shy to express my own views on the topic in social media. But to be fair, all central banks got it wrong to varying degrees. While there is talk of a pause, there is still a market expectation that the ECB still has another rate rise in its drawer. This despite negative producer price inflation across Europe and with the German economy in recession.

Truth is the Bank of England raised rates too late and too slowly. The result being we now have rates ending up higher and likely staying there for longer.

Perversely, this might result in rates ‘normalising’ at more like normal historic levels which will be better in the long run. To explain, a couple of years back it was difficult to envisage how the central banks might get interest rates back to 4% or 5% (older readers will recall that 10%+ was once considered normal) and talk was of a new natural rate of interest of around 1% or 2%. That would not have been helpful economically, capital would continue to be mispriced and misallocated. But now it’s not too difficult to imagine rates not falling much from where they are today and the period of 2008-2022 being viewed as a historic aberration.

But the pain for those who had previously factored on rates peaking at around 2% this decade is going to be immense. It suggests the full impact of the recent change in monetary conditions has yet to be felt. There’s not just a lot of adjustment to be done in the corporate sector, there’s going to be pain felt by private capital and in private equity markets.

How much, where and why is probably out of the scope of a Guernsey Press column, but it’s something else to factor into global economic prospects. Eighteen months ago, I suggested that because of inflation ‘lazy practices and easy economic assumptions, both short term and long term, need to change accordingly’ and ‘the sustainability of the investing landscape changes as capital starts to be more realistically priced and less plentiful’. We’re still to fully feel the scale of this impact.

But one impact already has been the drop off in investment in renewable energy in the UK. Coincidentally, it’s been sobering watching the commitment to action on climate change being watered down during 2023. Eighteen months ago, I also wrote that ‘I also suspect there’ll be a culling around the edges of what I call the sustainable finance “circus” – much of the marketing flotsam and jetsam’. Now the whole net-zero agenda is up for debate. This summer, Tony Blair of all people, added his voice to the questioning of the UK’s approach to net-zero. To be fair to Blair (not a popular move I grant you), his point was a more complicated one, in that that we risk overburdening ourselves if our approach is not reciprocated by the world’s biggest emitters, China and, yes, India.

This apparent rowing back of commitment reflects a much needed more ‘critical analysis’, common sense approach to climate change mitigation, but this isn’t to suggest a lessening of importance of the issue. It’s important too not to lose sight of the fact that commitments made in previous years are still being acted upon and the world continues to legislate.

With the change in mood music, it’s easy to lose sight of the lack of our local progress which is my final sobering thought this month. We pat ourselves on the back about our commitment to sustainable finance, but it’s an awkward truth that as an island we’re now far away from the onshore world in terms of the development of climate change rules and regulations. We probably hit a high-water mark of cheerleading a few years ago and we haven’t really seen any meaningful implementation of climate risk measures in the finance sector over the last 18 months.

In case people weren’t aware, we already have limited climate risk requirements, but more are coming. New international standards announced by the International Sustainability Standards Board over the summer just made it inevitable. Implementing them in the present economic environment isn’t going to be easy.

Eighteen months ago, the Guernsey Press wrote that I suggested we were moving into a new economic era and that acclimatising wouldn’t be easy. It’s certainly anything but and now we need to start playing catch-up on sustainable finance.

My final sobering thought.