Don’t under-estimate the costs of a natural disaster, cyber-attack or major market crash, says Deloitte

Anthony Smith, Risk Advisory, Financial Crime Associate Director at Deloitte.

A host of dangers ranging from a major market crash, cyber-attack or a devastating natural disaster loom for businesses, governments and individuals. With emerging markets particularly vulnerable to the fallout, only those that arm themselves in advance with proper risk scenario planning, adequate coverage and improved infrastructure will be able to ride the storm if any of these risks did materialise, says Deloitte.

Risk Advisory and Financial Crime Associate Director at Deloitte, Anthony Smith, says a crisis as far afield as Japan or Chile could have repercussions for banks and other businesses in Africa because of the inter-connectedness of the financial system.’

Lloyd’s City Risk Index 2015-2025 analyses, for the first time, the potential impact on the economic output of 301 of the world’s major cities from 18 man-made and natural threats. Based on original research by the Cambridge Centre for Risk Studies at the University of Cambridge Judge Business School, the Index shows that a market crash represents nearly a quarter of all cities’ potential losses.

However, it says emerging economies will shoulder an increasing proportion of risk-related financial losses as a result of their accelerating economic growth – more than 70% of total GDP at risk was associated with emerging economies, with their cities often highly exposed to single natural catastrophes.

The amounts at risk are staggering, with over $4 trillion of economic output found to be at risk in the world's largest cities due to a host of dangers ranging from earthquakes, pandemics, nuclear disasters, terrorism, tsunamis and cyber-attacks.

According to Mr Smith, 70% of GDP is at risk is in emerging markets because of a lack of infrastructure and a lack of insurance, among others.

Yet according to Lloyds, a 1% rise in insurance penetration translates into a 13% reduction in uninsured losses and can lead to a 2% increase in GDP because of increased confidence as investors feel more protected.

The survey found that manmade threats were becoming increasingly significant. Market crashes, cyberattacks, power outages and nuclear accidents alone are associated with almost a third of the total GDP that is at risk.

New or emerging threats were flagged as cyber-attacks, human pandemics, disease outbreaks and solar storms.

Mr Smith says the Kobe earthquake in 1995 hit markets and is a very real example of the broader effects of these crises on businesses and individuals. It cost the Japanese economy more than $100 billion, or more than 2% of GDP, while the economic costs of the Fukushima nuclear meltdown in 2011, caused by a major earthquake, are still being felt.

And natural disaster risks seem to be on the rise too. On 16 September 2015, an 8.3 magnitude earthquake struck the coast of central Chile, for example.

“Without sounding alarmist, there is some reality to what is being said in the report. It isn’t about a human pandemic as such, even though we have had really worrying health crises caused by Ebola, bird flu and SARS recently. But a lot of the risks are being driven by the inter-connectedness of the global financial system,” says Mr Smith.

But it must be remembered these are just risk scenarios that remain as such until materialised. However, each would warrant some thought.

“For example, with cybercrime we are behind the curve in SA. While the US and UK have increased their ability to respond to these threats significantly, other countries need to prepare for such an attack too.”

Mr Smith says that the risk of a sophisticated cyber-attack on the financial sector in SA could have major repercussions for the South African economy given that the sector is the heart and lungs of the economy.

“We are regularly seeing bank systems going down, for example, as migration to new a system takes place. These typically lead to the inability for clients to transact. A more widespread collapse in the payments systems following an attack could be disastrous,” he says.

Another complexity that a country like SA and other fast growing countries like Nigeria face is urbanisation. “A 100 years ago the population was smaller and spread out – now we have megacities and one bad earthquake could be very damaging. Urbanisation certainly complicates the risk scenario,” says Mr Smith.

And with SA increasingly proposing nuclear as a viable solution to its energy crisis, the risks of a nuclear accident will need to be factored in.

The power crisis looms large as a threat in SA if adequate solutions cannot be found. “What does a stage 4 power crisis do to this country? Basically, it’s a national blackout – how many days could we last before there is social unrest? Businesses need to make sure they are adequately insured and do proper risk assessments to ensure sufficient resilience is being built into their infrastructure,” says Mr Smith.

Meanwhile, small economic tremors in China are still having aftershocks for emerging markets like SA. Brazil has recently been downgraded to junk status and SA is facing the risk of a recession following recent data indicating its manufacturing sector was already in a recession.

According to the Lloyds reports, HIV Aids is mentioned as the number two risk, second only to a market crash for a city like Johannesburg. For all cities, the risk of a market crash is about 40% higher than their next highest risks.

“We cannot simply under-estimate the panic that can set in if there is a major market crash like that of 1987 when the Dow lost more than 22% of its value. A natural disaster and the linkages of a cyberattack to a GDP crash must be factored in to all risk modelling,” says Mr Smith.