Thoughts on living with uncertainty | Deloitte UK has been saved
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Switch on the TV news, follow Twitter or read a paper and it can feel like we are living in an era of high, perhaps unprecedented, uncertainty.
We certainly seem, over time, to have become more aware of uncertainty. Since the 1940s references in English language books to uncertainty, volatility, complexity and ambiguity have soared. The term Chief Risk Officer did not exist before the mid-1990s. Now CROs are an established part of many large companies. In the 1990s the US army War College coined the term VUCA in to describe an apparently new world of volatility, uncertainty, complexity and ambiguity.
But has the world really become more uncertain?
Unlike economic activity or human life span, there is no definitive way to measure uncertainty. Moreover, uncertainty is heterogeneous. How can you add together the risk of a catastrophic meteor strike on the earth, with the risk of falling off your bike or of war breaking out in the Middle East? And while some risks, for instance of certain infectious diseases, disappear over time, new ones, such as cyber-crime, emerge. Different people and organisations are sensitive to different types of risk. Perceptions of uncertainty depends on who you are, where you are and what sort of uncertainty is involved.
One category of uncertainty, in relation to financial and economic risk, is running at elevated levels. Equity market volatility – a standard measure of uncertainty – has run at higher levels since 2008 than in the years before. Stanford University’s measure of press references to economic policy uncertainty has also soared since 2008.
But uncertainty is as much about psychology and perception as science. One approach to unlocking this is to ask people how they feel. In December, 89% of respondents to Deloitte’s CFO Survey said their businesses faced high levels of economic and financial uncertainty. Measures of business and consumer confidence provide proxy measures of uncertainty. By and large, when confidence is low uncertainty is high.
The snag with perceptions is that we are prone to biases. We assess risks not on statistics but on how easy it is to recall examples from memory. Negative events tend to be etched into our minds deeper than positive ones. Our collective memory short and we tend to compare today with the recent past.
Perceptions that we live in exceptionally volatile times arise partly because we are comparing the period since the global financial crisis, in 2008, with the period that preceded it.
That era, from the mid-1980s to 2007, was one of sustained growth and macroeconomic stability in much of the industrialised world. Globalisation, technological change and better economic management were widely thought to have brought about a new era of prosperity.
What economists dubbed the Great Moderation was accompanied by an easing of geopolitical tensions. The collapse of Communism in Eastern Europe in 1989 started a process that brought the Cold War to an end – or so it seemed at the time. In 1992 the US academic, Francis Fukuyama, wrote The End of History and the Last Man, arguing that the triumph of liberal democracy and free market capitalism in the West could mark the end point of the West’s political and economic evolution.
With hindsight this sounds euphoric. But it is true that, at least for the world’s rich economies, the last eight years have been choppy compared to the decade or so that preceded it. But if you take a longer perspective risk and uncertainty are very much the norm.
In the 1970s the West endured soaring inflation and deep recessions. The 1970s were a poor decade for the UK: it experienced a banking crisis, double digit inflation, two recessions and widespread and debilitating industrial unrest. UK equities lost 70% of their value between 1972 and 1975.
Geopolitical calm is hardly normal either. For most of the post-war period the threat of nuclear war loomed large. In 1961 the Cuban missile crisis brought the world to the brink of nuclear conflict. The 1970s witnessed the 1973 Arab Israeli War, a soaring oil price and the Iranian Revolution. Terrorism is a major concern today, but in the mid-1970s deaths from terrorism in Europe ran at around four times the levels seen in the last ten years.
In the West we know little of the tremendous reduction in risks facing the majority of the world’s population, those living in emerging market economies. At the start of the 1980s 44% of the world’s population lived in extreme poverty. By 2015 that proportion had fallen to under 10%.
Looking further back, but within living memory, the world has seen the most damaging war in history and the Great Depression. Compared to the risks people across the world lived through for much of the twentieth century, we live in stable times.
Human progress has largely been a quest to mitigate and manage uncertainty. The explosion in incomes in the last 200 years has helped reduce many of the greatest risks, from disasters, poverty and disorder. Much of the infrastructure of modern society – the welfare state, central banks, government regulation, pensions and insurance – counter and share risk.
Over time the world has become a less risky place but, paradoxically, prosperity has made us more aware of, and sensitive to, risk. It is not hard to think of categories of risk that many of us manage today – from providing health insurance for our pets, to eating exactly the ‘right’ foods or wearing a helmet while cycling – that would have been unknown or unimaginable to earlier, poorer generations.
Uncertainty can be managed and diminished, but cannot, entirely, be eliminated. It is an inherent feature of existence.
Warren Buffett put it perfectly in a letter to investors in 2012: “Of course, the immediate future is uncertain; America has faced the unknown since 1776. It’s just that sometimes people focus on the myriad of uncertainties that always exist while at other times they ignore them - usually because the recent past has been uneventful”.
So how can you get some sort of perspective?
When major events break they subsume all else. That was the case with the Brexit vote and the US elections. At such times it is worth reminding yourself that today’s news will not be the sole, and probably not even the most important, determinant of our world over the coming few years.
We should avoid placing too much weight on the latest fevered headline or market moves. Just because something is in the news doesn’t mean it is important – and vice versa. Media old and new do not necessarily give prominence to what shapes our lives. Looking at the hard data yourself, rather than relying on someone else’s conclusions, helps. Thinking against the crowd, in a contrarian way, provides new perspectives. But perhaps the best antidote for short-termism is simply to read more history.
Ian Stewart is a Partner and Chief Economist at Deloitte where he advises Boards and companies on macroeconomics. Ian devised the Deloitte Survey of Chief Financial Officers and writes a popular weekly economics blog, the Monday Briefing. His previous roles include Chief Economist for Europe at Merrill Lynch, Head of Economics in the Conservative Research Department and Special Adviser to the Secretary of State for Work and Pensions. Ian was educated at the London School of Economics.