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Geopolitical Risk – a question of when rather than if?


Patrick Kelliher

Living in the UK, it’s easy to get wound up in the chaos of Brexit, but the possibility of a hard Brexit is just one of many geopolitical risks faced just now. Broadly heading east to west:

Spain – while things seem to have gone quiet in Catalonia, the fact remains that a greater proportionate of its electorate voted for independence than the proportion of the UK electorate voted for Brexit, even though opponents boycotted the vote [1]. The prosecution of Catalan politicians behind the vote is likely to exacerbate tensions, as will the emergence of the right-wing Vox party vehemently opposed to Catalan self-determination. While the UK faces the prospect of a break up with the possibility of a second referendum on Scottish independence and/or a border poll in Northern Ireland, it is not the only one that faces the threat of secession.

Italy – while Matteo Salvini may have recently been outmanoeuvred out of power, he is not going away. Should he get gain power in the future, his brinkmanship with Brussels over deficit spending could cause the Eurozone crisis that started with Greece in 2009 to flare up again. The only difference now is that as the third largest issuer of government bonds in the world, Italy would be too big to bail out.

Some years ago, I flagged the risk of Greece looking to get around EU imposed austerity while staying in the Euro and the EU by the government issuing IOUs in lieu of real money [2]. This now seems to be a possibility in Italy with the government proposing to issue mini-government bonds (aka BoTs) to pay government debts [3]. Even the prospect of a parallel currency operating in the third largest Eurozone economy, and the possibility this could end in Italy’s expulsion from both the Eurozone and the EU, could cause mayhem in bond markets.

Russia – the conflict in the Ukraine shows no sign of abating, and one can’t rule out further Russian adventurism in, say, the Baltic states. This may not be overt – and it is suspected of having already carried out cyber-attacks against Estonia [4] – but it could still precipitate a crisis.

Middle East – where does one start? With the increasingly dictatorial tendencies of Turkish President Erdogan? The ongoing carnage in Syria, Libya and Yemen? The ongoing Israeli-Palestinian conflict or the war in Afghanistan? perhaps the greatest threat arises with from the confrontation between the US and Iran in the Persian Gulf, with the risk that hawks on either side could miscalculate triggering an armed conflict. While the US would prevail in time, Iran has shown it has the capability to wreak havoc in the Straits of Hormuz and (allegedly) attack Saudi Arabia’s oil facilities. It could choke off a major source of the world’s oil supply and give rise to an oil shock which we have not seen since the 1970s.

Africa – while it may be easy to turn a blind eye to repression in Zimbabwe, Sudan and elsewhere, and the growing threat from Boko Haram and other jihadists in the Sahel, the fact remains that conflict and repression will increase the number of migrants seeking refuge in Europe, which will add to the rise of populism there and the general strains in the EU. There is also the risk that the ongoing carnage in the Congo could exacerbate the current severe outbreak of Ebola with regional and possibly global consequences.

India v Pakistan – their long running rivalry is set to go into over-drive with the recent decision by the Indian government’s decision to strip Kashmir of its special status, and that is after India bombed Pakistan and had one of its planes shot down. Both countries’ nuclear forces on a hair trigger – there is only 500 miles or so between New Dehli and Islamabad, compared to more than 5,000 miles between Washington and Moscow during the Cold War, so there is less time to react to any incoming threat – and I believe there is a non-trivial risk of a catastrophic conflict.

China – the current attention is on the ongoing protests in Hong Kong, and whether Xi Xinpeng will lose patience and send tanks in to impose order, but that is just one of many challenges facing China. It is clamping down on Uighurs in Xinjiang with a chilling display of the power of its surveillance state, but could face a backlash in the mainly muslim states of Central Asia. Off its east coast, it has been in conflict with Japan over the Senkaku/Diaouy islands while it has a long-standing goal to bring Taiwan back into the fold. In the South China Sea, it is in multiple disputes with its neighbours over its claims to most of that sea, where there is also a risk of confrontation with the US which is asserting its right to traverse that sea [5].

Perhaps the greatest threat it faces relates to the ongoing trade war with the US, which shows no sign of abating. Indeed, with the US crippling firms like Huawei with technological sanctions, there is scope for matters to escalate. A failing economy and/or humiliating concessions to the US could add to discontent over environment issues and calls for democracy, triggering protests like those seen in Hong Kong. Faced with such an existential challenge, the Chinese government may take dramatic steps such as selling off its portfolio of US T-Bonds or suspending rare earth exports [6].

USA – the trade war is but one example of the risks elevated through the actions of Donald Trump. He has also torn up the Joint Comprehensive Plan of Action on Iran, which has escalated tensions in the Gulf; left the Paris Agreement on Climate Change; and recognised Jerusalem as the capital of Israel to the consternation of Palestinians. While his power to change the US are limited by its constitution, his tweets let alone his actions (undermining the independence of the US Federal Reserve for instance? engaging in a full-scale trade war with Europe?) have the power to make markets swoon.

I would note that the above is by no means a complete list of geo-political risks. There are plenty other flashpoints from North Korea to Venezuela. The point is given so many, I believe the question is not if a serious crisis can emerge in the next few months, it’s a question of when.

Furthermore, with shares at or near record highs, modest corporate bond spreads modest and the VIX “fear index” of option volatilities at average levels [7], I do not believe markets are fully pricing in geo-political risks.

Which brings me back to Brexit. If we have a hard Brexit, I suspect many fears will prove to be unfounded, but I predict risks will emerge which no one has foreseen. I also believe there will be major impact on UK markets, particularly if it leads to a loss of investor confidence in the UK and a collapse in sterling as envisaged by the Bank of England in recent bank stress tests [8]. I don’t think these risks are being fully reflected in UK asset markets.

Even if a hard Brexit is avoided, there are too many other sources of geo-political risk which could crystallise and trigger a re-appraisal of risk in general. The impact could be on a par with the loss of appetite for risky assets during the financial crisis in 2007/09, and it may be a question of when, not if, such a shock would occur.

[1] While the figures can be disputed, it seems that 92% of a turnout of 43% of the electorate voted for independence or 39.6% of the electorate, which excludes up to 770,000 or 14.5% of the electorate denied the opportunity to vote due to police action (see; by contrast while the EU referendum attracted a higher proportion of the electorate with a 72% turnout, only 52% voted to leave i.e. 37.4% of the electorate (

[2] See my January 2011 blog “Grexit or the Greenback” -

[3] See “March of Italy’s mini-BoTs may split the Euro”, Financial Times, 18th May 2019 at

[4] See for instance

[5] The Economist outlined such a scenario as part of their excellent “The World If” 2019 report:

[6] See my January 2011 blog “King Don v the Dragon” -

[7] See 

[8] “Stress testing the UK banking system: key elements of the 2019 annual cyclical scenario” by the Bank of England, March 2019 ( as well as wider financial stability papers which can be found at

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