Internal Audit, Risk, Business & Technology Consulting FPO As organizations continue to evolve their risk governance practices, focused and relevant information about emerging risks is at a premium. The objective of Protiviti’s PreView newsletter is to provide an input for these efforts as companies focus on risks that are developing in the market. We discuss emergent issues and look back at topics we’ve covered to help organizations understand how these risks are evolving and anticipate their potential ramifications. As you review the topics in this issue, we encourage you to think about your organization and ask probing questions: How will these risks affect us? What should we do now to prepare? Is there an opportunity we should pursue? Our framework for evaluation of risks is rooted in the global risk categories designed by the World Economic Forum. Throughout this series, we use these categories to classify macro-level topics and the challenges they present. Inside This Issue 02 The Changing Landscape of Global Logistics 05 Effects of Populism on Trade and Regulation 10 Global Income Inequality: Risks and Impacts 13 The Current State of U.S. Infrastucture 16 On the Radar 17 Where to Learn More 18 Continuing the Conversation EMERGING RISKS Economic Technological Environmental Societal Geopolitical PreView Protiviti’s View on Emerging Risks AUGUST 2017
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Internal Audit, Risk, Business & Technology Consulting
FPO
As organizations continue to evolve their risk governance practices, focused and relevant information
about emerging risks is at a premium. The objective of Protiviti’s PreView newsletter is to provide
an input for these efforts as companies focus on risks that are developing in the market. We discuss
emergent issues and look back at topics we’ve covered to help organizations understand how these
risks are evolving and anticipate their potential ramifications.
As you review the topics in this issue, we encourage you to think about your organization and
ask probing questions: How will these risks affect us? What should we do now to prepare? Is there an
opportunity we should pursue?
Our framework for evaluation of risks is rooted in the global risk categories designed by the World
Economic Forum. Throughout this series, we use these categories to classify macro-level topics and
Spotlight: Digitalization in the Ocean Shipping Industry
Several products have emerged recently that provide a digital platform to better monitor and utilize shipping data. These include stowage planning software, industry data platforms to visualize data for strategic planning, and software to help shippers comply with changing regulations. These products leverage new technologies, such as machine learning, cloud-based analytics tools, and IoT technology on vessels to improve the overall shipment management cycle.
Inttra, a company that provides an electronic transaction platform to shippers, saw 16 percent year-over-year growth in its processing of container orders in 2016, despite container ship sailings rising only 3 percent in the same period.
IBM and Maersk are collaborating to launch a blockchain technology platform that will digitize the shipping industry paper trail and help improve fraud detection and inventory management, reduce errors and ultimately cut waste and costs.
The new U.S. administration, in a populist bid to reduce the size of government, has consistently challenged the Affordable Care Act (ACA) since coming into office in 2017. As a result, major healthcare insurance providers have recently announced decisions to reduce involvement or completely exit regional marketplaces created by the ACA. Exits in some cases have left entire counties with no healthcare providers from which ACA enrollees can choose. As of June 12, 2017, there were 38,000 ACA enrollees across 47 counties where no insurers were participating in the marketplace.
Insurance companies have stated that the primary cause for exiting the marketplaces is the uncertainty from the current U.S. administration regarding whether the government will actually pay for cost-sharing subsidies associated with the marketplaces. Without a cost-sharing commitment or an equitable new healthcare bill from the U.S. administration, consumers and insurers alike will face risks. All that said, the recent failure of Republicans to pass a healthcare reform bill in the Senate indicates that any changes to the ACA will have to come from a bipartisan effort. Until that happens, ACA remains the law of the land.
AGRICULTURE
The new U.S. administration has expressed reticence to cooperate with longstanding trading partners and imposed trade sanctions on China shortly after taking office in 2017. Withdrawal from such partnerships could lead to a decrease in productivity within the agricultural sector. Retaliation for these trade sanctions from China, which accounts for about 20 percent of U.S. agricultural exports, could be detrimental to domestic farmers. The United States is China’s largest source of agricultural products, and in 2015 agricultural exports to China (primarily soybeans) represented the second largest U.S. export market, at $20.2 billion dollars annually. Increased sanctions could significantly reduce such exports, leaving domestic farmers with an unwanted surplus of goods. It should be noted, however, that despite the sanctions, the U.S. and China recently struck a significant trade deal in which the U.S. agreed to accept chicken imports from China, and China agreed to accept U.S. beef imports. Trade deals such as this provide encouragement for farmers that the new administration will cooperate enough to sustain production levels.
MANUFACTURING
Increasing protectionist sentiments in emerging economies, such as Brazil, Indonesia and South Africa, which are largely reliant on commodity exports, could lead to trade disruptions, rising income inequality and poverty rates, and potentially could stall global economic growth. However, larger markets such as the U.S. and the UK can potentially benefit from such changes. An April 2017 U.S. Presidential Executive Order called “Buy American, Hire American” calls for the increase in the use of goods, products and materials produced in the United States, including iron, steel and manufactured goods currently produced in emerging markets. However, the order did not specify when such changes will take place. If the U.S. does change its steel import policy, China and other major steel exporters, such as Japan, could retaliate with their own sanctions, which may result in decreases in productivity and profits for corporate parties involved in trade with these countries.
Key Considerations and ImplicationsThe rise of populism and its effects on trade and regulation are having wide-ranging impacts on
Substantive regulatory scale-backs, another byproduct of populism, could drastically change the landscape of the financial services industry. For example, a scaleback of the Dodd-Frank Act in the U.S. could ease access to capital and improve bank profitability by reducing minimum capital ratios and/or stress testing requirements. However, large-scale repeals have the potential to weaken or remove guidelines put in place to address internal control deficiencies that contributed to the most recent crisis in the financial markets. In Europe, the UK government and leadership have increasingly expressed a desire for regulatory reform (easing of regulations), according to Financial Times. According to the Organisation for Economic Co-operation and Development (OECD), cited in the article, banking reforms will "allow for a real opportunity to stimulate the economy at a domestic level."
ENERGY
The new U.S. administration has rolled back requirements related to financial disclosure and toxic waste for energy companies to purportedly ease the overall regulatory burden on the industry. The administration’s “America First Energy Plan” seeks to roll back policies such as the Climate Action Plan and the Waters of the U.S. rule to take advantage of an estimated $50 trillion in untapped shale, oil and natural gas reserves and to revive America’s coal industry. The plan is intended to stimulate the economy and seek energy independence from the OPEC cartel. Deregulation seems to be a benefit for U.S. oil and gas companies, promising increased production of domestic oil. However, increased oil supply in the U.S. could lead to a drop in oil prices and could cause diplomatic friction with OPEC members who have agreed to cut their own production to keep supply at a suitable level. Additionally, environmental advocacy groups, such as the Natural Resources Defense Council (NRDC), have stated that extensive energy deregulations could compromise the environment and human health, which will ultimately affect citizens, as well as corporations, in an adverse manner.
TELECOMMUNICATIONS
A number of internet privacy protections, such as those requiring internet providers to obtain consumer consent before using precise geolocation, financial and health information, information about minors and web browsing history, have been reversed by the current U.S. administration. Consumers will be allowed to opt out of having their data sold but they would have to do it explicitly and would potentially have to pay a surcharge if they choose to do so. The move will benefit large internet service providers, such as Comcast and Verizon, and bring them on the same footing as Google and Facebook, which are governed by less restrictive rules. Advocates for the bill say it levels the playing field between major internet service providers and major websites, while opponents warn against potential misuse of personal data by the companies or their third-party vendors. In Europe, the EU recently introduced new digital privacy rules, and historically has enforced competition-friendly regulation to keep consumer costs down and promote innovation. However, telecommunications firms in the UK may push for U.S.-like regulatory repeals for the industry once Brexit takes place.
Rise in Right-Wing and Far-Right Party Ideology in EuropePercentage Won in Parliamentary Elections
The 2016 results for Austria represent presidential, not parliamentary elections. France's 2017 presidential and legislative election results are not reflected in this graph.
Data for the above graph was sourced from the New York Times article “How Far Is Europe Swinging to the Right?” by Gregor Aisch, Adam Pearce and Bryant Rousseau, March 20, 2017. Cited sources: European Election Database, Inter-Parliamentary Union, ElectionGuide.org, government websites.
NetherlandsFrance Germany Austria Britain Hungary Poland
The negotiation process of Brexit is in its first phase and it has already exposed anger toward certain European institutions — a sentiment only expected to increase over the next two years.
HUNGARY AND POLAND
Countries in Eastern Europe, such as Hungary and Poland, are drifting toward illiberalism as their governments’ trust in the EU has diminished as a result of the political and economic crises in 2010 and the migrant crisis in 2015.
TURKEY
The European Union’s relationship with Turkey is deteriorating as opposition grows among Turkish citizens to the EU-Turkey migrant deal that is keeping 3 million Syrian refugees in Turkey.
ITALY
As Italy’s economy continues to weaken, the likelihood that the Five Star Movement (M5S) will win the next Italian election increases. This could result in a spike in the Euro interest rates, and could potentially derail Brexit negotiations as Brussels is likely to prioritize the EU's survival rather than negotiations with the UK.
FRANCE
Despite the election results, at which centrist Emmanuel Macron beat far-right candidate Marine Le Pen, France remains heavily divided. Le Pen won a remarkable 34 percent of the vote, and the National Front party, which she represented, won 13 percent of the popular vote. With the populist sentiment in France not subsiding, it will be tough for Macron to push his pro-EU political agenda.
European Countries to Watch as Far-Right Ideology Transforms Relationships
Income Inequality as a Ratio of Disposable Income Between the 90th and 10th Percentile
0
1
2
3
4
5
6
7
8
7.2
6.4
5.9
4.9
4.7
4.3
4.2
3.6
3.4
3.1
Mexico IsraelUnitedStates
Lithuania AustraliaKorea UnitedKingdom
Hungary Netherlands Finland
Source: https://stats.oecd.org/Index.aspx.
The graph above was created with data from the Organisation for Economic Co-Operation and Development (OECD). The data is from 2014 for all countries, with the exception of the United Kingdom and Lithuania (2013 data). The graph portrays the ratio of disposable income between those in the 90th percentile (rich) and those in the 10th percentile (poor). For example, the ratio shows that in the United States, those in the 90th percentile earned 6.4 times more than those in the 10th percentile.
Measures of Inequality
There are numerous ways to measure economic inequality, each yielding a slightly different result. The most widely used measure is the Gini index, which rates income dispersion on a scale from zero to one; zero indicates that all people have the same share of income, and one indicates that one person has all of a nation’s income. The U.S. income Gini index increased from 0.377 in 1983 to 0.411 in 2013.
Universal Basic Income Worker Re-Education Normative Concerns
Some policymakers believe a basic, guaranteed income will ease the burden of job loss caused by automation and help offset income inequality. Basic income provides all people with a monthly allowance to cover basic expenses such as food, clothing and shelter, regardless of the recipient's employment status. In February 2017, Finland launched an experimental program that gives 2,000 citizens a guaranteed income for a two-year period. If the program is successful, Finland's lawmakers plan to expand it to include all adult Finns. However, critics state that not only would such a program be very costly, but it could discourage individuals from seeking employment, leading to a potential labor shortage.
Certain countries place their focus on investment in technical education and training in key industries, such as healthcare and financial services, as a potential solution to income inequality. For example, a CNBC article states that Canada’s 2017 budget includes more grants and interest-free loans for students than previous budgets. In addition, the Canadian government is investing in 13,000 “work-integrated placements,” which offer practical, work-related instruction in markets that are experiencing higher demand for workers.
A key point of contention among economic experts when considering the issue of income inequality is the level of inequality that should exist. According to the IMF review cited earlier, some researchers find that a certain level of income inequality can be beneficial for labor force participation and the overall well-being of the economy, while others believe the benefits to society are higher when there is a more equal income distribution. Such normative considerations about the benefits and drawbacks of various levels of inequality are a large factor in applying potential solutions.
Income Inequality: Possible Solutions and Normative Concerns
The inability of the private sector to arrest
the trend toward income inequality provides
impetus for proposed solutions in the public
sector, including raising taxes on the wealthy
and reducing taxes on low and middle class
wage earners. As noted earlier, significant policy
The U.S. has 614,387 bridges, of which almost 40 percent are 50 years old or older. Furthermore, 9.1 percent of all bridges are considered to be structurally deficient, requiring substantial improvements. One in eight bridges is considered functionally obsolete, meaning it does not meet current engineering standards. ASCE cites the most recent estimate of bridge rehabilitation needs at $123 billion.
DAMS
There are 90,580 dams in the country, with an average age of 56 years. People and industries depend on dams for critical needs that include drinking water, irrigation, flood control and hydropower. Approximately 15,500 dams have a high-hazard classification, meaning failure could lead to loss of life and significant economic losses. Nearly $45 billion would be needed to repair aging, yet critically needed high-hazard dams.
LEVEES
There are 30,000 documented miles of levees, which protect more than $1.3 trillion worth of property by containing, controlling and diverting the flow of water to reduce the risk of flooding. The estimated price tag for maintaining and repairing this levee system over the next 10 years is $80 billion, according to ASCE.
RAILROADS
Railway systems carry approximately 85,000 passengers, one-third of U.S. exports and five million tons of freight every day. While freight rail has seen an increase in private investment over the last five years, passenger rail continues to rely on government funding for capital investments. Compared to many European countries and China, the U.S. invests less funding in passenger rail relative to the size of its population and land mass. Amtrak estimates that it needs $11 billion to fund basic rail infrastructure projects and $17 billion for backlog projects on its Northeast Corridor, its busiest regional system.
ROADS
There are over 4 million miles of roads in the United States, with nearly 20 percent of those in poor condition. In 2014, Americans spent 6.9 billion hours delayed in traffic (an average of 42 hours per driver), wasting 3.1 billion gallons of fuel. There is an estimated $713 billion backlog of highway system capital investment needs. This number is comprised of $420 billion to repair existing highways, $167 billion for system expansion, and $126 billion for system enhancement.
The Current State of Key Types of Infrastructure in the United States, According to ASCE
“Global Trade, Policies and Populism,” OECD, December 2016: www.oecd.org/tad/policynotes/global-trade-policies-populism.pdf.
“A Guide to Statistics on Historical Trends in Income Inequality,” by Chad Stone, Center on Budget and Policy Priorities, November 7, 2016: www.cbpp.org/research/poverty-and-inequality/a-guide-to-statistics-on-historical-trends-in-income-inequality.
An Economy for the 99%, Oxfam briefing paper, Oxfam International, January 2017: www.oxfam.org/sites/www.oxfam.org/files/file_attachments/bp-economy-for-99-percent-160117-en.pdf.
“The Pros and Cons of Basic Income,” by Trevir Nath, NASDAQ.com, April 12, 2017: www.nasdaq.com/article/the-pros-and-cons-of-basic-income-cm773398.
2017 Infrastructure Report Card, American Society of Civil Engineers, 2017: www.infrastructurereportcard.org.
“It’s Time for States to Invest in Infrastructure,” by Elizabeth McNichol, Center on Budget and Policy Priorities, February 23, 2016: www.cbpp.org/research/state-budget-and-tax/its-time-for-states-to-invest-in-infrastructure.
“Women in Tech: Addressing the Root Causes of Attrition,” by Virginia Smith and Dr. Gitanjali Swamy, WiT.Berkeley.edu, April 7, 2016: http://wit.berkeley.edu/docs/WomenInTech.pdf.
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The risk areas summarized above will continue
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Continuing the Conversation
ContactsCory Gunderson Managing Director +1.212.708.6313 [email protected]