AMUNDI 10-YEAR

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ABOUT AMUNDI

Amundi, the leading European asset manager, ranking among the top 10 global players1, offers its 100 million clients - retail, institutional and corporate - a complete range of savings and investment solutions in active and passive management, in traditional or real assets.

With its six international investment hubs2, financial and extra-financial research capabilities and long-standing commitment to responsible investment, Amundi is a key player in the asset management landscape.

Amundi clients benefit from the expertise and advice of 4,500 employees in nearly 40 countries. Created in 2010 and listed on the stock exchange in 2015, Amundi currently manages nearly €1.6 trillion of assets3.

Amundi, a Trusted Partner, working every day in the interest of its clients and society

1. Source: IPE “Top 500 Asset Managers” published in June 2020, based on assets under management as at 31/12/20192. Boston, Dublin, London, Milan, Paris and Tokyo3. Amundi data as at 30/06/2020

Amundi Asset Management, French “Société par Actions Simplifiée” - SAS with a capital of €1,086,262,605 - Portfolio management company approved by the French Financial Markets Authority (Autorité des Marchés Financiers) under no.GP 04000036.Registered office: 90, boulevard Pasteur, 75015 Paris - France - 437 574 452 RCS Paris

www.amundi.com

A Decade of Sharing Expertise



4 I AMUNDI 10-YEAR AMUNDI 10-YEAR I 5

TABLE OF CONTENTS


p. 09 FOREWORD: A DECADE OF SHARING EXPERTISE

Yves Perrier, Chief Executive Officer of Amundi

p. 13 2010 - 2020: THE END OF TRADITIONAL ASSET MANAGEMENT

Philippe Ithurbide, Senior Economic Advisor at Amundi

INTRODUCTION

p. 15 10 YEARS, 10 THEMES

CHAPTER 1

p. 21 POST-2008 CRISIS: A DECADE ALMOST LOST

p. 22 What is left of the 2008 GFC?p. 26 What have we learnt from the 2008 GFC?p. 30 Debt deleveraging is incomplete: are there risks in the foreseeable future?p. 32 Conclusion

CHAPTER 2

p. 35 LOW RATES, SECULAR STAGNATION, JAPANISATION OF EUROPE, COVID-19: A DECADE OF CONTINUAL REGIME SHIFTS

p. 36 From the golden era to stagflation of the 1970s: constantly changing regimesp. 38 From the 1970s to the Great Financial Crisis of 2008 and 2019: different facets of the same evilp. 42 2020 onwards: Covid-19 adds new risks, new momentum and new regimep. 44 COVID-19: uncertainty about economic growth, but a severe recession to come p. 48 The return of nations and borders and the pursuit of de-globalisationp. 48 The return of state interventionism and the creation of an “industry of war against viruses”p. 50 The changes from the pandemic in in investment, consumption and saving

behaviourp. 51 The intensification of financial repression and the real start of debt monetisationp. 52 Moving beyond the logic of cost/benefit analysis to accepting the precautionary principlep. 52 What choices for economic policy?p. 56 The persistence of low rates, disinflation, declining potential growth, and high asset

valuationsp. 60 The Japanisation of Europe: a danger, a fatality or not?p. 64 Conclusion


TABLE OF CONTENTS

CHAPTER 3

p. 67 ULTRA-LOW RATES AND QUANTITATIVE EASING: A NEW GENERATION OF CENTRAL BANKERS

p. 68 Emerging challenges for central banksp. 72 Is inflation really dead?p. 74 Monetary policies have reached their limits: the example of the ECBp. 74 The foundations of ECB policyp. 74 Assessing the impact of ECB monetary policyp. 76 QE and negative interest rates: what dangers?p. 78 Inflation targeting: is it illusory?p. 82 Low inflation and rates; the paradoxes of tranquility and credibility: some dangers to comep. 84 Low inflation and high debt: is central bank independence at risk?p. 88 Monetary policy versus fiscal policy: Modern Monetary Theory and debt

monetisationp. 88 From orthodoxy to heterodoxy: helicopter money, modern monetary policyp. 90 Debt monetisation: a solution?p. 94 Conclusion

CHAPTER 4

p. 99 GEO-POLITICS AND GEO-ECONOMICS: ONGOING CHALLENGES

p. 102 The rise of populismp. 104 Europe disorientated by Brexitp. 106 The migration shock: revealing differencesp. 110 Globalisation, de-globalisation and China: what consequences for the United States?p. 112 United States - China: chronicle of an announced war?p. 112 The Thucydides trapp. 116 The Kindleberger trapp. 120 The Herodotus trapp. 120 The Tacitus trapp. 122 The Chamberlain – Daladier trapp. 122 The Cold War trapp. 124 A question of balancep. 125 Conclusion

CHAPTER 5

p. 127 US, CHINA, EUROPE, INDIA, RUSSIA, AND OTHERS: NEW POWER STRUGGLES

p. 128 What is a power? Hard power versus soft power versus smart powerp. 140 Different kinds of power coexistp. 141 Digital economy, energy transition and rare-earth metals: a component of the power

of Chinap. 143 Conclusion


TABLE OF CONTENTS

CHAPTER 6

p. 145 PROTECTIONISM, DE-GLOBALISATION: WHAT WAY OUT?

p. 146 Declining world trade: the determinantsp. 152 A new era of protectionism since the 2008 Great Financial Crisisp. 152 The causes of the China-US trade conflictp. 156 Is Trump an isolationist?p. 156 2018: a landmark yearp. 158 Defining the impacts of trade disputes on growthp. 164 Deglobalisation: what are we talking aboutp. 169 Conclusion

CHAPTER 7

p. 173 USD VS. EUR VS. RMB, FIAT MONEY VS. CRYPTOCURRENCIES: WILL THE US DOLLAR CEASE TO BE THE PRINCIPAL INTERNATIONAL CURRENCY?

p. 174 The currency war: EUR, USD and RMB competing for an international rolep. 174 Lessons from the recent pastp. 178 The public and private use of currenciesp. 178 International currencies: advantages and disadvantagesp. 180 Central bank reserves in retrospectp. 182 Is the international role of the Dollar at risk?p. 186 Will the Euro and Renminbi compete more with the Dollar?p. 186 Upheaval since 2009: the emergence of cryptocurrenciesp. 188 Different types of medium of exchangep. 190 Digital currencies: more financial assets than currenciesp. 192 Cryptocurrencies first generation versus cryptocurrencies second generationp. 194 Central banks’ digital currencies: the major development to come?p. 196 Conclusion

CHAPTER 8

p. 199 MEGATRENDS AND DISRUPTIONS: A REALITY NOW UNAVOIDABLE

p. 200 Demographicsp. 202 Increasing and aging population, but slower growthp. 202 Life expectancy, fertility rates and the ageing populationp. 204 Working-age population, urbanisation and the middle class: three major trendsp. 204 Migration: a major component of population change in some countriesp. 206 A growing labour poolp. 208 Infrastructure - a megatrend of megatrends: real assets, emerging markets,

demographyp. 212 Adaptation of the business model to the technological upheavals of the fourth

industrial revolutionp. 218 Conclusion: Megatrends, disruptions, and asset management

CHAPTER 9

p. 221 CLIMATE CHANGE CHALLENGES: THE COUNTDOWN

p. 222 From the necessary to international agreements: back to historyp. 230 Greenhouse gas: Where do they come from? What are the impacts?


TABLE OF CONTENTS

Author and chief-editor : Philippe Ithurbide - Project coordinator: Claire Ombredane (Amundi) - Editor: Oliver Griffith (EuroBusiness Media) - Design and Layout: Ghislaine Plougastel

p. 234 Global warming: serious and inevitable consequencesp. 236 The energy of tomorrow: a key issuep. 236 Greenhouse gas emissionsp. 238 Respecting the Paris Agreement: lessons from different institutionsp. 242 The main low-carbon solutionsp. 246 Green Bonds and monetary policies: two major assets for the energy transitionp. 246 Green Bondsp. 246 • Increasing diversificationp. 248 • How to encourage the growth of green bonds?p. 250 • Green Bond Principles and Climate Bonds Standard: standardisation has

become necessaryp. 250 Central banks and climate challengesp. 252 • Central banks in face of the risks from the energy transitionp. 253 • Should central banks get involved in climate issues?p. 254 Conclusion

CHAPTER 10

p. 257 INEQUALITY: THE CAUSES AND THE CHALLENGE

p. 258 Taking stockp. 260 There are multiple causes of inequalityp. 262 Is there a relationship between inequality and growth?p. 264 Sometimes the problem is not inequality but povertyp. 268 Income inequality, inequality of opportunity, and social determinismp. 268 Inequality in corporations: gender balance and executive payp. 268 Gender balance: more effort neededp. 272 Pay equity ratio: huge disparities between businesses and countriesp. 274 Myths that die hardp. 278 Conclusion

CONCLUSION

p. 281 ASSET MANAGEMENT: THE CHALLENGES OF CONTINUOUS ADAPTATION

p. 282 Face the fierce competitionp. 284 Adapt asset allocation to the low interest rate environment.p. 286 Bypass porosity between traditional asset classesp. 286 Take advantage of megatrends and survive disruptionsp. 288 Play an active role in the ESG trendp. 294 Understand behavioural changesp. 300 Anticipate and adapt to potential regulatory changesp. 302 Implement active and effective diversificationp. 304 Conclusion: The end of traditional asset managementp. 307 To find out more

p. 316 BIBLIOGRAPHYp. 329 AUTHOR’S BIOGRAPHYp. 330 AWIF KEYNOTES SPEAKERS AND PANELISTS

AMUNDI 10-YEAR I 9

AMUNDI 10-YEAR I 9

FOREWORD: A DECADE OF SHARING EXPERTISE

Ten years! Amundi is already ten years old.

During this time, we have built a diversified company, combining performance and responsible asset management to serve more than 100 million customers in 35 countries across the globe.

It is a unique model that has enabled us to become the European leader. Our multicultural teams based in Paris, Milan, Boston, Dublin, and Tokyo, have industry-leading expertise in alpha management, in fixed income securities and dollar-denominated equities, and in emerging markets, with multi-asset capabilities. We are firmly established among the top ten asset managers worldwide and, with a strengthened business model. Our objective is to become one of the top five asset managers in the world as regard three criteria:

• The quality of expertise and services,• The dynamic of development,• The commitment as a responsible investor.

For our clients, our ambition remains the same: to provide effective advice and world-class savings and investment solutions in line with their objectives. This is how we earn their trust every day. Our organisational structure is designed to achieve this objective:

• It is global, with platforms in the world’s main financial centers.

• It is local, with offices in many countries on all continents, allowing us to maintain close relationships with our customers.

YVES PERRIER CHIEF EXECUTIVE OFFICER

Amundi hopes to become one of the top five asset

managers worldwide as regard the

quality of expertise and services,

the dynamic of development, and

the commitment as a responsible

investor.



In ten years, we have considerably strengthened our reach, especially in Europe and Asia. Today, Amundi is the European leader by size, profitability, and market capitalisation, with a strong presence in all Eurozone countries. We are first in France, second in Italy, Austria, and the Czech Republic, and fourth in Spain. Our activity in Asia is also growing rapidly. We currently manage €300 billion of assets in this region.

Our expansion is taking place in a difficult environment, characterised by low interest and inflation rates, new monetary policies, higher debt levels, unstable geopolitics and threats to democracy, greater protectionism and populism, and financial instability. The COVID-19 pandemic added another unexpected dimension to these challenges.

However, our solutions evolve with the times, from alternative asset classes, to real estate and private debt, retirement solutions, factor investing, ETFs, and more. And we are addressing trends such as combating climate change and lessening inequality in our strategy.

In fact, responsible investing was built into Amundi’s DNA from its founding in 2010. Embedding environmental, social and governance (ESG) factors into our investments has not been a marketing strategy, but rather a fundamental tenet of our responsibility to our investors and society. We are proud to have been among the first to do ESG analysis and to lead in Europe with more than €300 billion of assets under management that incorporate ESG assessments. To continue our pioneering efforts, we have developed a diversified ESG offer for institutional and individual clients in many different asset classes. Our ambition is to double our investments in initiatives related to the environment, the energy transition, and social betterment, while strengthening our commitment to companies that promote responsible business.

With such ambitions in a challenging context, it is not surprising that our group has evolved substantially over the past decade. In a world that faces accelerating political, economic, social, and societal changes, you cannot accept the status quo. However, you need landmarks and lighthouses that illuminate the future and guide the present. This is why we created the Amundi World Investment Forum ten years ago. It has become an essential platform where global market players, top CEOs, Nobel Prize economists, academics, government leaders, and our staff and clients meet to explore evolving trends and strategies for the future. Along with the Comité Médicis, which analyses societal problems, the World Investment Forum has made Amundi a major thought leader in the financial community.

We need to have benchmarks and lighthouses that light up the future and guide the present.



In ten years, we have considerably strengthened our reach, especially in Europe and Asia. Today, Amundi is the European leader by size, profitability, and market capitalisation, with a strong presence in all Eurozone countries. We are first in France, second in Italy, Austria, and the Czech Republic, and fourth in Spain. Our activity in Asia is also growing rapidly. We currently manage €300 billion of assets in this region.

Our expansion is taking place in a difficult environment, characterised by low interest and inflation rates, new monetary policies, higher debt levels, unstable geopolitics and threats to democracy, greater protectionism and populism, and financial instability. The COVID-19 pandemic added another unexpected dimension to these challenges.

However, our solutions evolve with the times, from alternative asset classes, to real estate and private debt, retirement solutions, factor investing, ETFs, and more. And we are addressing trends such as combating climate change and lessening inequality in our strategy.

In fact, responsible investing was built into Amundi’s DNA from its founding in 2010. Embedding environmental, social and governance (ESG) factors into our investments has not been a marketing strategy, but rather a fundamental tenet of our responsibility to our investors and society. We are proud to have been among the first to do ESG analysis and to lead in Europe with more than €300 billion of assets under management that incorporate ESG assessments. To continue our pioneering efforts, we have developed a diversified ESG offer for institutional and individual clients in many different asset classes. Our ambition is to double our investments in initiatives related to the environment, the energy transition, and social betterment, while strengthening our commitment to companies that promote responsible business.

With such ambitions in a challenging context, it is not surprising that our group has evolved substantially over the past decade. In a world that faces accelerating political, economic, social, and societal changes, you cannot accept the status quo. However, you need landmarks and lighthouses that illuminate the future and guide the present. This is why we created the Amundi World Investment Forum ten years ago. It has become an essential platform where global market players, top CEOs, Nobel Prize economists, academics, government leaders, and our staff and clients meet to explore evolving trends and strategies for the future. Along with the Comité Médicis, which analyses societal problems, the World Investment Forum has made Amundi a major thought leader in the financial community.

We need to have benchmarks and lighthouses that light up the future and guide the present.

Ten years on, to mark the double anniversary of Amundi and the Forum, we are publishing this book, which allows us to step back and evaluate the past decade with an eye to the future. It was designed by Philippe Ithurbide, senior economic advisor at Amundi, as a journey through the major themes of the past and present, as discussed and analysed by the distinguished witnesses, actors, and speakers from the Forum and the Committee. These themes will remain challenges for years to come and will guide our mission of maintaining the trust of you, our clients and partners, by listening, analysing and understanding our complex world.

We wish you an enlightening trip.

AMUNDI 10-YEAR I 13

2010 - 2020: The End of Traditional Asset Management

AMUNDI 10-YEAR I 13

Philippe Ithurbide, Senior Economic Advisor at Amundi

2010 - 2020: The End of Traditional Asset Management

AMUNDI 10-YEAR I 15

AMUNDI 10-YEAR I 15

INTRODUCTION

To think is to disavow what one believes in.

EMILE-AUGUSTE CHARTIER, AKA ALAINPhilosopher (1868 - 1951)

10 YEARS, 10 THEMES

On the tenth anniversary of Amundi’s founding we have selected ten themes that have defined the decade’s economic, financial and asset management landscape. They include economic developments such as the rise of unconventional monetary policies, the return of protectionism, the emergence of crypto-assets, and the digital revolution; challenges specific to asset management such as negative interest rates, fears of secular stagnation, and the rise of geopolitical factors; and long-term global challenges such as climate change, inequality, social cohesion, and migration.

These themes have been the focus of the Amundi World International Forum (AWIF), which for a decade has brought together over 500 of our customers (sovereign wealth funds, central banks, institutional investors, distributors, and corporations) with prestigious speakers including Nobel Prize laureates and top politicians.

The Forum, which is Amundi’s headline event, defines the group's thinking and strategy. It allows us to share views on economics, finance, geopolitics, investment, and asset allocation, and on the specific concerns of our customers, such as ESG standards, retirement, alternative assets, and active versus passive management, among others. The ten themes analysed in the first ten chapters of this book are all drawn from the past AWIF editions, underlining their importance.


10 YEARS, 10 THEMES

POST-2008 CRISIS: A DECADE ALMOST LOST

The 2008 crisis was particularly severe, affecting almost all countries. Emanat-ing from the US subprime crisis, it quickly became an international crisis and led to a recession and then a debt crisis, especially in Europe. It will go down in economic history as the Great Financial Crisis (GFC).The GFC has left its mark: it has pushed central banks into uncharted territory (negative rates, QE) and has made traditional tools and analysis nearly obsolete, including monetary rules, the Phillips curve, potential growth projections, and inflation targets. It made us distrust indebted countries, generating another crisis in Europe, and prompted countries to pursue austerity policies. Internal devaluations have rekindled fears of deflation and damaged social cohesion in southern Europe. While emerging countries may be faring better, it is often at the cost of increased debt, with China being a prime example. This has required very accommodative monetary policies and the adoption of non-traditional measures. Deflation has been avoided, but growth is only recovering slowly.What remains from this crisis ten years later, and what have we learned? Are debt levels still dangerously high or do low interest rates temper the risks?

LOW RATES, SECULAR STAGNATION, JAPANISATION OF EUROPE, COVID-19: A DECADE OF CONTINUAL REGIME SHIFTS

Any crisis is a break, a break in confidence in a system that has become unsta-ble, and that has spread suddenly. And even if the factors of instability are clearly identified, it is impossible to predict whether or not they will be cor-rected in stages or abruptly; i.e. a crisis or a regime shift. That is the key point. The challenge of returning to solid growth has led to fears of secular stagnation, with Japan serving as an example. One of the paradoxes of the 2010s was that productivity remained weak despite the digital revolution. Prices also remained weak, leading some countries such as Japan to try to counter deflation. Has inflation really disappeared? Have we entered a new regime?Since the 1970s, the world economy has experienced several crises and several regimes: balanced growth, stagflation, slumpflation, great moderation, irrational exuberance, bond yield conundrum, global savings glut, liquidity glut, fears of secular stagnation, Minsky moment... Secular stagnation and Japanisation (a combination of low short rates, low long rates, low growth, inflation close to zero...) are the regime that seem the most dangerous for Europe. Will it be possible to avoid both of them? To what extent is the Covid-19 pandemic, which affects the whole world, a game-changer?

ULTRA-LOW RATES AND QUANTITATIVE EASING: A NEW GENERATION OF CENTRAL BANKERS

Low growth and low inflation, coupled with the high indebtedness of households, businesses and governments, prompted central banks to adopt very accommodative monetary policies, which included novel instruments such as negative interest rates and QE. Despite some reluctance, particularly from the ECB as regard the impacts of these policies on the business models of central banks, these instruments are now in the toolbox.So, monetary policies have evolved considerably over the past decade, as the Great Financial Crisis pushed central banks far from charted territory. The crisis, the return of protectionism and, more recently, the appearance of COVID-19, have led central banks, particularly the ECB, to move further

10 YEARS, 10 THEMES


10 YEARS, 10 THEMES

beyond the conventional framework. The new normal includes durably ultra-low or even negative interest rates, massive cash injections, tailored measures for banks (LTRO, TLTRO), and several asset-purchase programs. What is most striking is the inability to return to the old normal. This herald a paradigm shift in a world economy that will have to cope with the sustainability of debt, more frequent crises, and the absence of inflation. What are the prospects?

GEO-POLITICS AND GEO-ECONOMICS: ONGOING CHALLENGES

The last decade has witnessed many changes. The international context has deteriorated over the past ten years, with terrorism, populism, and fundamen-talism growing. The United States, while never stronger, has turned inward with protectionism and a rejection of multilateralism. China is stepping in trying to become the dominant power, causing conflict. Democracies are weakening and illiberal regimes are gaining strength. Populism is on the rise, especially in Europe. Climate and migration issues have divided states, and the debt crisis and Brexit have threatened the very existence of Europe. What are the long-term effects? Are democracies in danger? What is the geopolitical balance now? Where will tomorrow’s geopolitical and geo-economical conflicts take place - in the Middle East, Africa or East Asia? Is China too strong – or maybe not strong enough?

US, CHINA, EUROPE, INDIA, RUSSIA, AND OTHERS: NEW POWER STRUGGLES

The last decade saw dramatic shifts in power worldwide. The 2008 crisis weakened the advanced countries, not just economically but also politically and socially. Geopolitical rivalries grew or shifted, not just between the US and China, but also between the US and Europe. The United States, while temporarily weakened by the financial crisis, remained predominant. However, its “hyper” power that grew out of the fall of communism has ended; now it must share power. Europe is a challenger. It has proved that it can be united and determined, able to speak with one voice (for example on Brexit). However, it is the emerging countries, particularly China, that are becoming the new world powers. And it has just begun; worldwide power relations keep evolving. The BRICS are no longer just an acronym, they are increasingly a political and diplomatic force, joined by other states such as Indonesia. What will constitute power in the 21stcentury? Will China and Europe compete with the US for hegemony? Might the dollar lose its predominance as the world’s international currency?

PROTECTIONISM, DE-GLOBALISATION: WHAT WAY OUT?

The last decade has witnessed a slowing down of globalisation and a rise in protectionism. Crises, recession and deteriorating trade flows usually impact the behaviour of states. The 2008 GFC, the decline in GDP growth and the drop in global trade have effectively changed the nature of cooperation and multilateralism: when trade stagnates, some countries may use the classic tactic of protectionism to reduce the market share of both competitors and partners. Indeed, non-tariff protectionism resurfaced in 2008 and was joined by tariff-based protectionism in 2018, when the US administration raised tariffs on Chinese, Mexican, Canadian, Japanese and European products, followed by

10 YEARS, 10 THEMES


retaliation. In fact, the risk of a global trade war that can severely impact the global economy increased with the election of Donald Trump in 2016.How far can protectionism go? Are these tensions the beginning of the end of globalisation and the start of a new era of protectionism, or something even worse? The conflict between China and the US is deep rooted, and some tend to consider that we should fear a real war? History shows that the risk is not negligible.

USD VS. EUR VS. RMB, FIAT MONEY VS. CRYPTOCURRENCIES: WILL THE US DOLLAR CEASE TO BE THE PRINCIPAL INTERNATIONAL CURRENCY?

2009 was the starting point for a new monetary era with the birth of the private currency Bitcoin. Since then, thanks to technologies such as the blockchain, cryptocurrencies have proliferated (there were more than 3,000 by 2019), as well as Initial Coin Offerings (ICOs), Stablecoins, and Central Bank Digital Currencies (CB-DCs). What are the dangers to monetary policy and financial stability, what can central banks do? Do digital currencies get around the difficulties of negative rates? The US Dollar is still, by far, the most complete international currency, well ahead of the Euro and the Renminbi. But currency competition is not just between sovereign currencies. Electronic and digital currencies are gaining ground because of their ease and speed of use, a certain mistrust of banks and fiat currencies, and a change in habits. The benign neglect of central bankers during the early stages of digital currencies has disappeared. They are now looking at the impact of stablecoins, the second generation of (private) digital currencies, on monetary policy and financial stability. Some plan to launch their own “central bank digital currencies” (CB-DC), the third generation of digital or crypto currency. How will digital currencies compete with fiat currencies in the long run? What is the future of Facebook’s Libra? What is the future of the dollar, euro or renminbi?

MEGATRENDS AND DISRUPTIONS: A REALITY NOW UNAVOIDABLE

Megatrends and disruptions are themes that have animated many debates and studies over the past decade, which is amply justified. Major trends, which are both risks and opportunities, have even become disrupters of our traditional economic and political models. In an increasingly short-term world, they force us to have a longer-term vision.Changing demographics are threatening our traditional social fabric, with mass migration, aging populations, shifting job markets, and rising inequality.The digital revolution is driving growth, with Watsonisation (cognitive computing, Artificial Intelligence), Googlisation (big data), Amazonisation (powerful platforms), Uberisation (new business models), and Twitterisation (connected and collaborative business).Megatrends also include climate change, as well as the shift toward ethical and moral values, socially responsible investment and adherence to recognized environmental, social and governance standards.Most of these trends are disruptive. What are the true impacts of these mega trends? How can we take advantage of them?

10 YEARS, 10 THEMES


There is no question that these ten themes have influenced the investment policies and business models of traditional asset management. The last chapter of this book will demonstrate how Amundi has adapted its investment processes and business models to confront and profit from these challenges and trends.

This book(1) was written in a small village in southwestern France from March to May 2020, during the Coronavirus lock down. It was a period and a place conducive to reflection about how our world and our business have changed – evaluating what is unnecessary, dangerous, or anxiety-provoking, but also what remains essential and important in our economic, political, social and business environment.

Nousty, 31 May 2020.

(1) The author would like to thank Didier Maillard (professor emeritus at CNAM) for his valuable comments on chapters 2, 3, 4, 9, 10 and conclusion. Any remaining errors are of course the responsibility of the author.

CLIMATE CHANGE CHALLENGES: THE COUNTDOWN

Along with the upheaval in monetary policies, the environment of low interest rates, the return of protectionism, and geopolitical tensions, climate change became one of the key concerns of the financial community in the last decade. Fighting climate change, which has been recognized for over three decades, got renewed momentum with the signature of the 2015 Paris Climate Agreement at COP 21. The withdrawal by the US under Donald Trump does not alter the reality. Climate change is, however, only one of the dangers faced by our planet today. All the problems of the Anthropocene era, which dates from the commencement of significant human impact on Earth's geology and ecosystems, are coming to the fore and require action. Is it already too late? What are the solutions? How can we save the planet without restricting growth? How can technology help? How will climate affect other trends such as migration?

INEQUALITY: THE CAUSES AND THE CHALLENGE

The subject of inequality has been front and centre since the 2008 financial crisis. Many studies and books have been published on it, with some becoming best sellers. Businesses are treating it through the lens of gender balance and executive pay. Governments have intervened with initiatives and legislation, and social movements have sprung up to deal with it. The “occupy” movements emerged in 80 countries, of which the US (“Occupy Wall Street”), France (with the “Yellow Vests” the most recent protest movement), Spain, Portugal, Greece, Iceland… In all these countries, protesters have made many demands. Among them are access to housing, inclusive political systems, ethical finance (including executive compensation), gender equality, and fair employment. Transcending social classes, political parties and unions, protesters in advanced economies were motivated by the threat to the middle classes, even as poverty is decreasing in developing countries.Can capitalism become more inclusive? Is inequality really increasing? Has it become unacceptable? Is the feeling of inequality legitimate everywhere? What role does social determinism play? What impact does inequality have on growth? Does it create poverty? What kind inequalities should we focus on - income, wealth, consumption – and are they a danger for growth? Have redistributive policies been effective? What is the role of social determinism in inequality? Many questions being answered in this chapter.

10 YEARS, 10 THEMES

AMUNDI 10-YEAR I 21

AMUNDI 10-YEAR I 21

CHAPTER 1

To wait to know enough before acting overtly condemns you to inaction.

JEAN ROSTANDBiologist and philosopher (1894 - 1977)

POST-2008 CRISIS:A Decade Almost Lost

The 2008 Great Financial Crisis has left its mark: it has pushed central banks into uncharted territory (negative rates, QE) and has made traditional tools and analysis nearly obsolete, including monetary rules, the Phillips curve, potential growth projections, and inflation targets. It made us distrust indebted countries, generating another crisis in Europe, and prompted countries to pursue austerity policies. Internal devaluations have rekindled fears of deflation and damaged social cohesion in southern Europe. While emerging countries may be faring better, it is often at the cost of increased debt, with China being a prime example. This has required very accommodative monetary policies and the adoption of non-traditional measures. Deflation has been avoided, but growth is only recovering slowly. Debt sustainability remains the major problem, despite very low interest rates.

22 I AMUNDI 10-YEAR22 I AMUNDI 10-YEAR

WHAT IS LEFT OF THE 2008 GFC?The magnitude of the crisis was such that its effects linger even ten years later.

Ultra-low interest rates continue in both advanced and emerging countries. In Europe interest rates were lowered gradually to negative levels by the ECB since the crisis. They are still negative in some countries in Europe and in Japan, even as the effectiveness of this measure is being increasingly questioned.

Central banks’ balance sheets have ballooned, and it is difficult to go back to pre-crisis levels. In Europe, rates turned negative while the balance sheet of the ECB grew substantially.

Monetary rules such as the Taylor rule (the link between inflation, unemployment, and potential growth) have become useless. This makes calculating potential growth and productivity gains more difficult, even during this time technological revolution.

The Phillips curve (the link between unemployment rates and wage growth) has also disappeared or changed (see Box 1). This, coupled with the demise of the Taylor Rule, makes it difficult to evaluate productivity gains and potential growth. So how can we measure key indicators when the tools are broken? The GFC has left economists with deflation and inflation puzzles. The “missing deflation puzzle” saw inflation drop slightly despite the recession in both absolute terms and in relative terms compared to previous recessions. Meanwhile the “missing inflation puzzle” saw a recovery without the expected impact on inflation.

Some central banks have been unable to restore room to maneuver although a slowdown has already started. Is this a mistake, are they behind the curve? Or is it necessary, considering debt levels and the need to improve the solvency of indebted entities?

There are three paradoxes:• The paradox of liquidity: Global liquidity remains high thanks

to QE programmes, while market liquidity remains low. After the GFC, market liquidity has shrunk significantly. Among the causes are declines in proprietary trades, falling inventories, bank regulation, QE programmes, and excess demand.

• The paradox of credibility: Central banks have become so credi-ble that inflation expectations have disappeared, and monetary

THE GREAT RECESSION HAS LEFT ECONOMISTS WITH SEVERAL PUZZLES, INCLUDING THE “MISSING DEFLATION PUZZLE” AND THE “MISSING INFLATION PUZZLE”.

The 2008 crisis started in the United States (subprime crisis) and then spread to all countries, advanced and emerging. It quickly led to a general recession, then to a second crisis in Europe, a debt crisis, with fears of EMU blowout. It will remain in economic history as the “Great Financial Crisis”. 10 years later, what is left of this crisis, and what have we really learned? Is the debt level still dangerous or does the low interest rate environment alleviate the potential risks? For how long?

AMUNDI 10-YEAR I 23



The long period of stable macro-economic performance prior to the financial crisis may have bred excessive risk-taking and undermined financial stability. The absence of good supervision and regulation was an important part of that.

When you say ‘financial crisis’ let me say ‘disruption’. Our hope is that, because we have stronger regulations and a safer financial system, a disruption would not trigger a full-blown financial crisis of the type we have seen. Janet Yel len, AWIF 2018

HAS THE PHILLIPS CURVE DISAPPEARED?Unemployment is below structural unemployment, but inflation is still far below its target. The Phillips curve is flat. Has it disappeared?• If it has disappeared, the Federal Reserve and other central banks can

expect lower unemployment without the risk of higher inflation. Interest rates can remain low long term and “normalisation” is not necessary.

• If the Phillips curve has not disappeared, is there is a risk of inflation resurfacing and, if so, how much and how soon? In that case normali-sation and interest rate hikes are inevitable.

SO, WHAT’S UP?• Observation # 1: Inflation expectations are strongly anchored at low levels.• Observation # 2: Inflation is now a function of long term expected in-

flation and not a function of past inflation.• Observation # 3: The Phillips curve is the relation between unemployment

and inflation (as in the 60’s) and not the relation between unemployment and inflation changes.

WHY IS THERE SUCH A SITUATION?• Explanation # 1: Central bank have gained credibility. For the past 20

years, and especially in the past 10 years, central banks have done well in controlling inflation. The nature of the Phillips curve has therefore changed. It is sustainable as long as wages remain under control.

• Explanation # 2: The Phillips curve has disappeared because employ-ment has shifted to low skill and low wage jobs that have little impact on inflation. The question is whether this is sustainable.

Central banking has become a very challenging task. You have one instrument and you have so many different

targets that you need to think about how you can bring in other tools. That is precisely what macro prudential

policies and regulatory policies aim to do. Ben Bernanke, AWIF 2014

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1


policy tightening no longer seems necessary. So, credibility has created the conditions for financial instability.

• The paradox of tranquillity: The longer the period of stability lasts, the deeper the next financial crisis will be since unhealthy debt levels will rise.

Non-conventional monetary policy is now part of central banks’ toolkits. Conventional tools can no longer address the challenges central banks face. With fiscal and tax policy constrained in Europe and interest rates stuck at ultra-low levels, how can they preserve financial stability and manage liquidity and inflation (or lack thereof), while promoting growth and employment?

Central banks are paying more attention to financial stability. With nominal interest rates at ultra-low or even negative levels, central banks no longer have conventional tools to boost growth if needed. Financial stability has become a prerequisite, and several central banks have adopted changes in the monetary policy framework, such as inflation targets and monetary policy mandates.

Inflation-targeting and the independence of central banks are becoming debatable. The main problem may no longer be inflation, but deflation, over-indebtedness and financial instability. In other words, not the world from 1980 to 2000, but the world since 2008. Therefore, reviewing central banks’ status, mission and independence (as the Fed is doing) seems inevitable. Enlarging their role, especially in Europe, may become necessary. Will Europe and the ECB, where price stability (i.e. the internal value of the euro) is the main target, enter into these debates? As Mario Draghi said in March 2019: “In a dark room you move with tiny steps; you don’t run but you do move”.

Lower potential growth everywhere. Fears of secular stag-nation have not fully disappeared everywhere. Demographics and lower productivity gains have naturally pushed potential growth down.

Global debt has ballooned. Since the GFC, debt to GDP ratios have risen in almost all countries, whether advanced or emerg-ing. However, debt overhang is not severe if interest rates remain lower than GDP growth. This is less threatening than from 2008 to 2012 and is less pronounced in emerging countries.

Banks are much less vulnerable and are unlikely to be the next Achilles’ heel of the international monetary system, thanks to their strong post-crisis regulatory responses.

Low inflation prevails. The low-flation or flat-flation regime will continue based on low interest rates, high valuations, and the absence of inflation expectations. What’s next? Will it be 1970’s stagflation, 1930’s German hyperinflation, or late 1800’s deflation?

REVIEWING CENTRAL BANKS’ STATUS, MISSION AND INDEPENDENCE (AS THE FED HAS STARTED DOING) SEEMS INEVITABLE.

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Anybody stupid enough to make a decision based on a rating agency needs to lose his money. Nassim Nicholas Taleb, AWIF 2014

When it comes to diversification and allocation, asset allocation or geographical diversification are not in fact the

best ways to diversify; factor allocation is more effective. Pascal Blanqué, AWIF 2013

One of the most important institutions that was lacking was a unified banking sector, because the single currency had been created without banking union, which only aggravated the situation when the crisis hit. Joseph Stigl itz, AWIF 2013

In the last 10-20 years, there has been a large increase in the correlations of equity markets and some fixed income

markets. The driver has been financial globalisation. The typical investor today is a global investor. That has made investor mood and investor sentiment much more correlated across markets. However, since these moods

are transitory, they do not have a lasting effect. Luis Viceira, AWIF 2019

The simple Taylor rule is probably not going to come back and I think that is a good thing, because I think we need to be focused more on forecasts and objectives, as guiding lodestars for central bank policy. Ben Bernanke, AWIF 2014

Going back to 1944, 44 countries gathered in Bretton Woods to try to create a more stable global financial system. They did it by limiting capital flows. We then moved toward allowing unfettered capital flows, which had many benefits and brought many advantages, but we did not ask ourselves what happens when the stocks of assets and debts rise relative to incomes, to a point where fragility is brought in. Lord Mervin King, AWIF 2014

The 2011 crisis was worse than the 2008 crisis for two reasons. The first was that EU member states were unable

to rescue the banks in some key countries, unlike n 2008, because they were under massive pressure from the market.

The second was that the assets under stress were not US toxic assets, but the sovereign debt of the bank’s own country, an

asset you are supposed to hold as a guarantee of liquidity. Xavier Musca, AWIF 2013

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Traditional asset classes have become strongly correlated. The low rate environment and accommodative monetary policies have changed the financial context, especially in the last three years. In 2017 and in 2019 only 6% and 2% respectively of listed asset classes delivered negative returns, while in 2018, 95% did. So, what is a risk-free asset? What should be the role of bonds in portfolio construction? How can we macro-hedge and diversify a traditional portfolio?

Three new dangerous “isms” have grown. They are populism, protectionism, and unilateralism. Added to terrorism and religious extremism they are unfortunately probably here to stay for the long term.

WHAT HAVE WE LEARNT FROM THE 2008 GFC?

Every crisis is different, so it is difficult to predict all the con-sequences. However, every crisis is also instructive, so we can highlight several lessons learned from the GFC.

LESSON # 1: Confidence is much more important than statistics. In crises, even when the situation improves, sell-offs may continue depending on risk perceptions and trust in governments and central banks. This is common to crises. In addition, markets uncorrelated to crisis factors can depreciate strongly due to profit taking, sometimes to compensate losses in other markets.

LESSON # 2: Perceptions may be more dangerous than facts. Examples include Italy on debt and France on inequalities.

LESSON # 3: Credit cycles are inevitable, and they do not nec-essarily accompany interest rate cycles.

LESSON # 4: Mean reversion works. Excess valuation always leads to risk premium repricing. Value always leads back to investment strategies when the crisis is mostly over.

LESSON # 5: Preventing and managing all the risks is impossible. Do not focus only on probabilities; the materiality and contents of risk scenarios are more important. Pay attention to liquidity, exit strategies, and risk budgeting.

LESSON # 6: Being prepared for everything is crucial: The “known knowns” (what we are aware of and understand) rely on facts and thorough analysis; the “known unknowns” (what we are aware but know we don’t understand) rely on questions and scenarios; the “unknown knowns” (what we understand but are not aware of) require intuition; and the “unknown unknowns” (what we are neither aware of nor understand) need exploration.

LESSON # 7: All crises are different even when the causes are often the same (excess credit, misunderstood monetary policies, geopolitics) but the sequence of crises are always similar. Crises start with a catalyst and a sell-off in the corresponding

MANAGING ALL THE RISKS IS IMPOSSIBLE, SO REGULATORS WILL NOT BE ABLE TO PREVENT THE NEXT CRISIS.

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WHO HOLDS THE EUROPEAN PUBLIC DEBT?There are differing opinions on which sector represents the largest public debt in European Union countries. Among the states for which data is available, the highest proportion of public debt held by non-residents in 2018 was in Cyprus (76%), followed by Latvia (74%) and Lithuania (73%). Conversely, the largest share of debt held by resident financial corporations was in Denmark (72%), followed by Sweden (70%) and Italy (65%). Globally, within EU countries, less than 10% of debt was held by resident non-financial sectors (non-financial corporations, households and non-profit institutions serving households), with the exception of Malta (25%), Hungary (22%), Portugal (13%), and Ireland (11%). European debt is therefore widely held by non-residents, showing that Europeans have less financial patriotism than the Japanese (and the patriotism of northern Europeans for southern Europeans is even more limited). Only federal debt would be favoured by all Europeans. Furthermore, it is hard to imagine the ECB going down the BoJ route with massive purchases of government bonds, stocks, and ETFs. In some respects, “Japanisation” of Europe would be more serious than “Japanisation” of Japan.

It looks like the lessons from the financial crisis, which we all remember vividly, are already long forgotten.

Luis Viceira, AWIF 2019

The media is fundamental to the genesis of bubbles. Before there were news media – if you go back before 1600 there were no newspapers or magazines - there were no bubbles. You need contagion. Robert Shi l ler, AWIF 2015

The problem before the crisis was that we knew there were serious imbalances between savings and investment within economies and between them, hence the imbalance between reserves and needs. Forget about calling it obscene; just think about the massive imbalances in stocks, assets and debts that were being built up. We all knew it was unsustainable, but it was not clear how it would come to an end. Lord Mervyn King, AWIF 2014

There is recognition that we need better regulation of the financial sector and that markets

are not self-regulating. Joseph Stigl itz, AWIF 2013

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28 I AMUNDI 10-YEAR

markets. They then provoke a panic with a generalised sell-off in unrelated markets, including segments and securities which had performed well (a way to limit total losses), and they lead to wealth effects and fears of recession.

LESSON # 8: Emergency and remedial policies are generally efficient. We should be patient and not panic.

LESSON # 9: Regulators may fight the causes of the previous crisis, but they cannot prevent the next crisis. The sequence of all crises is similar, but the catalysts may be very different, for example subprime mortgages in 2008 and COVID19 in 2020. Moreover, the world continues to evolve, so economic and financial risks will vary and change.

LESSON # 10: Nobody really knows what the “new normal” is or will be. Inflation is not dead but merely dormant. How long will it remain under control? How severe will the wake-up call be, and when will it come? Can bond yields remain so low for long? Will debt problems resurface? What about the impacts of the digital revolution on business models, on productivity, and on the labour market? What will be the safe haven country in the future?

LESSON # 11: How to avoid the next crisis? The requirements for avoiding another financial crisis are:

• Encourage a gradual rise in key rates to reduce excess liquidity and restore the capacity to support the economy if needed;

• Avoid the impression that inflation at any price is an objective of central banks, since it is not easily manageable;

• Reduce the impression that central banks have abandoned price stability to adopt a debt sustainability target (the theme of “fiscal dominance”);

• Exit quantitative easing programmes gradually and slowly. Central banks’ balance sheets have grown substantially for a decade, but since the economic and financial conditions can change they need room to maneuver;

• Maintain financial regulation to control credit and financial market derivatives;

• Provide evidence of international cooperation and avoid unilateralism and self-centered policies by large countries such as the US, the UK, and China or the eurozone.

LESSON # 12: There are prerequisites for excessive valuations that are also common factors of bubbles.

• Rationality: Often justifications are found in the macroeco-nomic environment - in the recent case, low interest rates, low bond yields, and low inflation.

• Opportunism: The attractiveness of some markets will lead investors to chase yields and returns, driving up prices, most recently for corporate bonds and alternative assets.

• Confidence: Excessive confidence in central banks or monetary policy expectations - for example, in QE programmes and low interest rates and bond yields.

• Complacency: Trends can become exaggerated when the environment is positive.

NOBODY REALLY KNOWS WHAT THE “NEW NORMAL” IS OR WILL BE.

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SAVINGS IN INTEREST PAYMENT IN THE EUROZONETo illustrate the impact on low interest rates on budget deficits, let’s ex-amine the “savings” in interest payments on eurozone government debt. In percentage of GDP during the 2008 to 2018 period (cumulated figures), countries had “saved”:

Germany€368 billion

France€350 billion

Greece€55 billion

Spain€101 billion

Italy€261 billion

Eurozone€1417 billion

10,85% 14,90%

30%

8,35%14,80% 11,80%

According to the Bundesbank, the average interest rate in Germany went down from 4.2% to 1.5%. In France it fell from 4.4% to 1.9%, in Italy from 4.9% to 2.8%, and in Spain from 4.2% to 2.5%. The most spectacular plunge occurred in Estonia, where it dropped 5.1% to 0.5%. For the Eurozone as a whole the interest rate fell from 4.5% to 2.2%. In other words, a large part of the reduc-tion in fiscal deficits in some European countries came from debt servicing.

A risk-free asset is supposed to have three characteristics. First, the expected return is supposed to be the effective

return; second, the risk-free asset is supposed to be non-correlated with risky assets, by definition; and third, the risk-free asset normally does not bear any systemic risk. Because of confidence in the long-term solvency of states, long bonds

tended to be considered risk-free assets. One of the lessons of the crisis was to remove this ‘sacred cow’.

Phil ippe Ithurbide, AWIF 2013

The crisis makes it even more necessary to undertake reforms that support the level and rate of potential output growth. Such reforms are divers and mutually supportive. Benoît Coeuré, AWIF 2013

We have not yet fully learned from the last crisis, the result being that we are likely to face an extended period of turmoil and uncertainty in the global economy. Hopefully we will learn those lessons before it is too late. Joseph Stigl itz, AWIF 2013

One of the great lessons we have seen is that changing correlations between asset classes really causes a lot

of problems and even sometimes disasters for portfolio managers. For others, perhaps those who are less leveraged long term investors, they can provide great opportunities.

Douglas Breeden, AWIF 2014

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• Mimesis: Following or mimicking the views and positioning of the largest number of players.

• The sentiment that a period is atypical. The sentiment that “this time it’s different” can give unwarranted comfort.

A significant driver of asset prices since the GFC has been the amount of liquidity in the system. From 2008 to 2015 the Fed grew its balance sheet by over $3.5 trillion and kept rates at or close to zero. Including the European, Chinese and Japanese central banks, there was over $13 trillion in global balance sheet growth. This liquidity spurred massive appreciation across all assets as investors pushed out the risk curve to achieve yield.

LESSON # 13: History can teach us about crises. The GFC weak-ened advanced countries, intensified the tensions between coun-tries, and empowered the critics of globalisation and free trade. It taught us that power concentrated in one country – most recently the United States – can have serious consequences. The US can impose its own rules, constrain trade (NAFTA, Iran sanctions), weaken international organisations (WTO, NATO, UN), and capture capital flows to finance its deficit and future expansion by holding the world’s reserve currency.

DEBT DELEVERAGING IS INCOMPLETE: ARE THERE RISKS IN THE FORESEEABLE FUTURE?

Debt was at the origin of the 2008 crisis, and ballooning debt, low inflation, low interest rates, and low bond yields are among the top characteristics of the post-crisis era. Few countries have been able to reduce the level of total debt in the past decade. With low inflation and low interest rates, is the use of fiscal policy easier? The answer is “yes, to some extent” (see the savings in interest rate payments on Box 3).

There is no fixed rule for determining the sustainable level of deficits and indebtedness. However, one of the decisive factors is the difference between the interest charge (r), which mechanically contributes to the growth of the debt, and the increase in income (g). This difference (r minus g) determines the “snowball” effect, positive or negative, inherent to any indebtedness:

• If it is positive, the “snowball effect” will sooner or later lead to net spending reductions;

• If it is negative, it mechanically reduces the ratio of debt to GDP. Refinancing the debt will not be problematical and a deficit equal to the effect will not impose subsequent tax increases.

The good news is that for the eurozone the “snowball effect” has been a mechanical factor since 2015 in reducing the debt ratio by about one percentage point of GDP per year. In the most recent period only Italy was an exception. On the other hand, the eurozone has a primary surplus of close to one percent of GDP. In total, the debt-to-GDP ratio falls by around two percentage points of GDP per year. Except for the

THERE IS NO FIXED RULE FOR DETERMINING THE SUSTAINABLE LEVEL OF DEFICITS AND INDEBTEDNESS. HOWEVER, ONE OF THE DECISIVE FACTORS IS THE DIFFERENCE BETWEEN THE INTEREST CHARGE AND THE INCREASE IN INCOME.




We learned from the experience of the Depression about countries that allowed their banking systems to collapse and their financial markets to go into cardiac arrest. They had much more severe depressions than countries that were more stable. That was one of the lessons, and I think we worked very hard to try to prevent the collapse of the financial system.

There are times when you have to depart from orthodoxy. These are when the situation is sufficiently extreme that the old doctrines do not work.

I think that lesson was one that not only the Federal Reserve and I, but the whole US Government embraced as we tried to tackle what was one of the

worst financial crises in history. Ben Bernanke, AWIF 2014

An empirical and theoretical fact: it is possible to have a monetary union without having a fiscal union.

For example, Zimbabwe is in a monetary union with the United States and President Obama does not even know about it. But of course, Europe is not similar to

Zimbabwe. Thomas Sargent, AWIF 2014

The Brazilians have discovered the best risk manage-ment system for helicopters is to have the repair person take a ride for 30 minutes on a random helicopter once a week. That is how it works. Nassim Nicholas Taleb, AWIF 2014

There is the crisis of understanding. We went into the crisis with a very simplistic perception of the way the

world and human nature work. They were symmetrical and linear, whereas the reality is about non-linearity,

dilations, contractions, and cognitive biases. Pascal Blanqué, AWIF 2014

More economic history should be taught in schools, because it was very important. As I was saying a few moments ago, knowing something about the financial panics of the 19th century, and even the 18th century, was useful in thinking about the sources of the panic, the dynamics of the panic and how we should respond.

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1980s and 1990s, growth far exceeded the cost of public debt until the 1970s, and significantly since the end of the Great Recession of 2009.

Olivier Blanchard, the former chief economist of the IMF, recently went further, saying that public debt is not necessarily a problem. If interest rates remain permanently low, public debt can be reimbursed easily, no matter how big, without the need to raise taxes or cut spending. Just be patient, he counsels. A structural public deficit can be tolerated, provided it is not too high, and in case of an emergency, such as in 2008, we can accept a sharp deterioration of public accounts, provided we return to a reasonable deficit thereafter.

For the New York Times, this statement represents a complete turnaround for the IMF, as if “a former pope claimed to support the devil”. This paradigm shift would be proof of a new budget orthodoxy with less room for debt repayments. By going to the end of Blanchard’s logic, and if we want to make the r minus g effect even more favourable, the state must finance itself on very short maturities, where the interest rates are even lower. The public debt would become a monetary debt. There are currently many proposals in this direction. It is obviously dangerous: who can swear that interest rates will not rise sharply one day?

Blanchard’s analysis nevertheless helps us understand that in the current context the solvency constraint of public accounts remains low in many countries. However, it would be unfair to consider that Blanchard recommends loose fiscal policy; his article is much more sophisticated.

In any case, countries must not overestimate the effectiveness of public spending. On the other hand, raising nominal wages or cutting taxes (raising disposable income), or using public expenditures more extensively would have different impacts and should be decided looking at efficiency and second-round effects.

We must admit that, even if interest rates stay low, inflation remains under control, and economic growth stays higher than interest rates, the trend in indebtedness is a major problem and that there is not enough fiscal discipline.

CONCLUSIONThe Great Financial Crisis is behind us, but its consequences continue to weigh on the world economy. Ten years later, central banks are still in accommodative mode. And it’s only because interest rates are low that the rise in debt following the crisis does not cause concern, which is probably wrong. Despite the economic recovery, central banks have not been able to restore room for maneuver, and this will hurt if a new crisis occurs. All in all, the 2008 crisis significantly disrupted the logic of the policy mix of many advanced countries, and not necessarily for the better.

“DESPITE THE LOW LEVEL OF INTEREST RATES, THE TREND IN INDEBTEDNESS IS STILL A MAJOR PROBLEM AND FISCAL DISCIPLINE IS LIMITED”




What we do need in Europe at some stage is a federal budget. Probably the benchmark for Europe is not the

US, but Canada, where the system of transfer from one province to another is great, although complex. Few

Canadians are able to explain the way it works, but it works very well.


The debt to GDP ratio for Europe has been lower than that of the US, so if you mutualize the debt then presumably you could borrow at the same negative real interest rates as the US, and then you could move away from austerity and borrow. Joseph Stigl itz, AWIF 2013

Even if we are better off now than a few years ago, we have only cured the symptoms, not the disease.

Nassim Nicholas Taleb, AWIF 2014

Continuing with an aggressive negative interest rate policy is both less necessary and more dangerous than we realize. Xavier Musca, AWIF 2016

There is some trade-off between excessively accommodative monetary policies and macro financial

stability. I think part of the problem is the mix, a policy where we have too much monetary and not enough

fiscal elements. Ben Bernanke, AWIF 2014

One issue that seems to be particularly important is that we have a global financial system, and major institutions have global assets and global liabilities. However, our regulatory institutions remain essentially national. Our financial system may be too global, while information sharing is fine as long as things go well. Jean Tirole, AWIF 2015

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CHAPTER 2

One change begets another.

MACHIAVELPhilosopher (1469 – 1527)

LOW RATES, SECULAR STAGNATION, JAPANISATION OF EUROPE, COVID-19:

A Decade of Continual Regime Shifts?

Any crisis is a rupture, a rupture in confidence in a system that has become unstable that has spread suddenly. And even if the factors of instability are clearly identified, it is impossible to predict whether they will be corrected in stages or abruptly as in a regime shift. This is the point. Since the 1970s, the world economy has experienced several crises and regimes: balanced growth, stagflation, slumpflation, great moderation, irrational exuberance, bond yield conundrum, global savings glut, liquidity glut, fears of secular stagnation, and Minsky moments. Secular stagnation and Japanisation (a combination of low short rates, low long rates, low growth, and inflation close to zero) are the regime that seems the most dangerous for Europe. Can we avoid this? To what extent is the Covid-19 pandemic, which affects the whole world, a game-changer?

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FROM THE GOLDEN ERA TO STAGFLATION OF THE 1970s: CONSTANTLY CHANGING REGIMESAfter the Second World War, when the emerging world was still called the developing world, we witnessed a period of 30 years of strong growth and reasonable inflation in advanced countries (called “les Trente Glorieuses” in France). This period of recon-struction - the golden era - was accompanied by full employ-ment and was threatened only periodically, mostly by the Cold War.

In the 1970s, particularly with the first oil shock in 1973, stagflation became commonplace. This portmanteau word, a contraction in the words stagnation and inflation, was originally used by Chancellor of the Exchequer Iain Macleod in November 1965 to describe the economic situation of the United Kingdom. As stagflation is most often accompanied by a high unemployment rate, it has undermined the Keynesian economic policies that have predominated to far, whose logic is based on arbitrage between inflation and unemployment. The stimulus policies advocated have proven ineffective; while they were meant to lower unemployment, under some it has increased.

This has become known as slumpflation (combining slump and inflation), a period of economic crisis, recession, and high inflation. This gave birth to monetarism (Milton Friedman, Chicago School) which considers the money market to be paramount and emphasizes combating inflation. These are the foundations of the independence of central banks (missions, objectives and statutes) and major European treaties (fiscal and tax discipline, Maastricht Treaty criteria).

The period of great moderation (low macroeconomic volatility, GDP and inflation), which characterized the period 1985 to 2005, benefited from the expansion of trade through globalisation and pockets of low cost labour, which can mask the difficulty of debt repayment, especially public debt. The expansion of demand did not lead to an inflation crisis but rather an increase in trade deficits. In some respects, the current difficulties (recession, banking and public debt crises) are the result of a period of excessive disinflation.

The great moderation was a period of low price volatility, and high consumption and production, but it was sustained by the accumulation of large financial imbalances, with growth boosted by excess credit. This led to several crises, from real estate, emerging countries, and stock market to the Great Financial Crisis. A detailed analysis (Schularick and Taylor, 2012) covering 140 years and 14 countries shows the predictive power of crisis financial bubbles and debt drift. The depression and deflation that followed the GFC also highlighted the lack of dynamism of investment.

THE PERIOD OF GREAT MODERATION WAS A PERIOD OF LOW PRICE VOLATILITY CONSUMPTION AND PRODUCTION, BUT IT WAS ALSO SUPPORTED BY THE ACCUMULATION OF LARGE FINANCIAL IMBALANCES.

Financial markets have experienced many disruptions, regime changes, or paradigm shifts since the 1970s, including during the last decade. Some were favourable to growth, but some raised concerns and risks. Both kinds surfaced in the post-crisis era.

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LOW RATES, SECULAR STAGNATION, JAPANISATION OF EUROPE, COVID-19…


When everybody tries to repay their balance sheets at the same time, nobody will be borrowing money. Everybody will be paying down debt, even at zero interest rates. When that happens, we enter what Larry Summers calls ‘secular stagnation’. I call it ‘balance sheet recession. Richard Koo, AWIF 2015

The concept of secular stagnation is important as a thought virus. Secular, from the Latin, means

a generation or a century – a very long time. By 1937, the Great Depression had gone on for 10 years and people

were starting to worry that it would never end. This was when the term ‘secular stagnation’ was coined and

became very popular. The use of this term had gradually faded until Lawrence Summers gave a talk at the IMF-World Bank meetings a few years ago and brought up it up again. He brought the term up quite diffidently, but the response was enormous. The public found it

very interesting that Lawrence Summers would bring it up, and now it has been renewed – it is like a second

epidemic of this thought virus. Robert Shi l ler, AWIF 2015

The discussion on secular stagnation has become a kind of ideological warfare. People will understand different things about this term.” (…) The secular stagnation hypothesis is speculation about the future which is not supported by the facts. Otmar Issing, AWIF 2015

I do not believe in the secular stagnation view. “In the long run technology is going to lead to much

higher productivity growth. Kenneth Rogoff, AWIF 2018

The appropriate antidote to structural stagnation is policies that raise the level of investment demand or even reduce the level of savings so that they drive up the natural real interest rate, as opposed to policies that seem to drive the real interest rate even further down. Lawrence Summers, AWIF 2015

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It is certain is that since the 1980s we have entered a high financial risk era, with everything accelerating. This includes the frequency of crises (stock and bond crashes, bursting bubbles), regime changes, the growing power of financial markets (affecting the real economy), new investment opportunities (financial innova-tion, emergence of new players), and globalisation (increased trade, emergence of new countries). During the last twenty-five years, we have witnessed distinct phases, but all of them are characterised by the same evil: excess credit and debt.

FROM THE 1970s TO THE GREAT FINANCIAL CRISIS OF 2008 AND 2019: DIFFERENT FACETS OF THE SAME EVIL

Irrational exuberance is a concept highlighted by Alan Greenspan in 1996 to warn against excessive and abnormal overpricing in equities. The bursting of the tech bubble made this concept very popular, and he can be blamed for identifying the evil of bubble formation, but not trying to contain it.

The bond yield conundrum, another Greenspan concept developed in 2005, emphasizes the low level of long rates in short rates. There have been several explanations for this. According to Ben Bernanke (2005), a global savings glut, an imbalance between global savings and investment, explains low interest rates because it lowers their volatility, resulting in lower risk premia. Others argue that the fall in inflation volatility explains the low level of long-term rates or highlights the global recycling of savings. In this scenario, the accumulation of US dollar securities by Asian central banks, and more generally by non-residents, causes the relationship between short and long rates to disappear. In other words, the lack of savings in developed countries is offset by the excess of savings and the lack of investment products in emerging countries. This “natural” recycling lessens the pain of financing deficits, particularly in the US, but is not used to correct the behaviour that leads to the excesses. It also amplifies differences between the effective valuations of certain assets and their fundamental values.

The present global liquidity glut stems from extraordinarily accommodative monetary policies, both conventional and uncon-ventional. Clearly, if the money supply grows faster than nominal GDP, excess liquidity grows. This has been the case globally since the mid-1990s, with broadly accommodative monetary policies. It is even more pronounced in the US since the introduction of QE programmes, and also for almost three years in the Eurozone. This is reflected in extremely low interest rates, but also by significant increases in credit aggregates (before the financial crisis) and monetary aggregates (since the financial crisis). Of course, the policies are aimed at facilitating deleveraging or debt sustainabil-ity of both the private sector (banks, corporates and households) and the public sector. To avoid a further collapse in asset prices, especially equities and real estate and a negative wealth effect that could lead to deflation and recession, central banks had to implement strong, unconventional measures.

THE LACK OF SAVINGS IN THE DEVELOPED COUNTRIES HAVE BEEN OFFSET BY THE EXCESS OF SAVINGS AND THE LACK OF INVESTMENT PRODUCTS IN EMERGING COUNTRIES.

TO AVOID A FURTHER COLLAPSE IN ASSET PRICES AND CREATE A NEW NEGATIVE WEALTH EFFECT THAT COULD LEAD TO ECONOMIES OF RECESSION - DEFLATION - DEPRESSION, IT BECAME NECESSARY FOR CENTRAL BANKS TO IMPLEMENT STRONG, NON-STANDARD MEASURES.

AMUNDI 10-YEAR I 39



SECULAR STAGNATION, 1930’s VERSUS 2010’s, EUROPE VERSUS THE USThe phrase ‘secular stagnation’ was first used in 1938. What kind of world did we have in 1938? Most economies were struggling then, and we are going through almost the same thing now. The reason the economy has been struggling is that, after the bursting of the asset price bubble, the private sector actors who had leveraged themselves prior to it, who had borrowed lots of money to invest in all sorts of assets, realised that their balance sheets were under water. They all started paying down debt at the same time, which is the right thing to do at the micro-level, but when everybody does it at the same time, the macro economy goes sour.In 1938, when Alvin Hansen talked about secular stagnation, a large part of the western world was in secular stagnation. However, one country was not - Germany. The unemployment rate was 2%, whereas many other countries had unemploy-ment rates in double digits or even more. Why was that? Germany used a fiscal stimulus from 1933. President Roosevelt in the United States did the same thing but by 1936 thought the economy was strong enough to cut the stimulus. So even though Germany and the United States were improving at a similar pace from 1933 to 1936, the US fell into a significant double dip recession, whereas Germany continued to grow.We see a similar situation this time around. The US understood the need for a fis-cal stimulus and kept on going, but Europe, after initially having the correct fiscal response, cut the stimulus and as a result is facing difficulties.

The risks of inaction would be much greater than the risks of the actions that Mario Draghi has taken, but I think that it would be much better if the impetus in Europe came from the second and third volley of arrows and from mea-sures that promoted private and public investment. Lawrence Summers, AWIF 2015

Most policymakers and investors have been hypnotized by the complexity of the debate on secular stagnation.

This is a complex debate, surplus side versus demand side, potential gross versus actual gross, temporary versus permanent, balance sheet recession leading to secular

stagnation, demand problems leading to supply problems. The main result has been inaction.

Pascal Blanqué, AWIF 2015

In this world, I am afraid, all of our economic theories go up in smoke because all the economic theories we learn in universities are based on private sector maximizing profits. However, we do not have that now. We have private sector minimizing debt or maximizing savings to repair the balance sheets. Japan went through this for many years, and now I see that, after the bubble burst in 2008, Europe and the United States are going through it as well. Richard Koo, AWIF 2015

THEY SAID IT !

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What has intrigued many observers in recent years, particularly since the financial crisis, are the weak investment and produc-tivity gains despite the economic recovery and technological revolution. It is difficult to identify the precise causes, since there can be many. Some think it is linked to the severity of the financial crisis and the low availability of credit for new com-panies. Others cite weak domestic demand or focus on major demographic trends. It fuels fears of secular stagnation. If an economy does not increase the quantity of the factors of pro-duction, does not invest in education, and does not accumulate productive capital, then it will not generate growth, unless there is technological progress. In the long run, technological innova-tion has been the main determinant of growth. So, declines in innovation capacity lead to declines in potential growth.

The phase of secular stagnation is a persistent incapacity of the economy to simultaneously achieve full employment, sta-ble inflation and stable financial stability (Larry Summers). In other words, when the economy is dislodged from the sustain-able growth path due to technological changes, demographic changes, rising inequality, or large-scale financial imbalances, it is unable to return spontaneously. Some observers go further, con-sidering that we have entered a secular deflation phase, which means a contraction of both economic activity and inflation:

• Global demographics are deflationary, because of aging populations;

• Technical progress is deflationary because it raises the volume and quality of production with fewer employees, possibly leading to “jobless growth”.

• Fiscal and tax policy austerity are deflationary because their main objective is to service debts.

• Overly strict income policies are deflationary because they undermine international competition.

• Globalisation is deflationary if the key objective is to produce more products more cheaply.

• T ax and social competition within Europe are deflationary.• Migration policies are deflationary since they affect wage gains.

The Great Recession brought declining total factor productivity and insufficient technological innovation into stark relief, fuelling fears of seeing the world economy plunged into a great stagnation. However, stagnation fears emerge whenever the economy slows over a long stretch. It was a very popular notion in the 1930s (Alvin Hansen, 1938, Full recovery or stagnation?) (see Box 1). Moreover, there is an active debate on secular stagnation in the United States, although the roots of this evil are much more entrenched in Europe through demographics and debt constraints. While issues related to demographics or debt are important, the contribution of innovation has often been underestimated. It has allowed economies to avoid periods of secular stagnation.

Secular stagnation fears have gradually disappeared due to renewed economic growth in Japan, China, the Eurozone, and the US, sometimes above potential (see Box 2). This has

THE PHASE OF SECULAR STAGNATION IS A PERSISTENT INCAPACITY OF THE ECONOMY TO ACHIEVE AT THE SAME TIME FULL EMPLOYMENT, STABLE INFLATION AND STABLE FINANCIAL STABILITY.




The US continues to strongly affect finance worldwide, she emphasized. For example, in Europe the decline in long-term interest rates has less to do with local policies than with the Fed’s stance and the US economy, as well as with global uncertainties.

The global financial crisis was the first big blow to globalisation, with trade growth collapsing from about 6% a year to 2.5%. The new steady state of trade growth will be even lower, whether there is a resolution with China or not.”Carmen Reinhart, AWIF 2019

Monetary policy has contributed more to the problems than solved it. Keeping interest rates in the past much too

low for a much too long period has contributed to what we can call a ‘serial bubble problem’.

Otmar Issing, AWIF 2015

The fiscal and monetary mix, with austerity policies and very small fiscal deficits in the Eurozone is absolutely wrong. Without Draghi’s willingness to boldly step forward and use the only instruments that were politically available, I am not sure that we would be still discussing the euro area today.

When interest rates are low, people are more prone to chase return by upping their risk taking, and they will find it easier to get more leverage because they are able to cover the coupon payments; but that greater leverage carries risk.

Europe needs substantially more commonality with fiscal policy, substantially greater intra-European transfers, substantially more pro-investment microeconomic policies and an approach to rebalancing that

recognizes that you cannot have reductions in deficits, while also having reductions in surpluses. It is not plausible to ask the rest of the world to have

a reduction in surpluses that are necessary for the European periphery to adjust, with no adjustment at all in the magnitude of German surpluses.

Lawrence Summers, AWIF 2015

THEY SAID IT !



been accompanied by controlled inflation and low volatility of growth, inflation and interest rates, so the theme of the great moderation surfaced, starting in 2015 the US. Some attribute this phase of low variability of the major aggregates to the credibility of central banks. However, it can also be caused by the increasing flexibility of the labour market through globalisation, which eliminates wage inflation. A serious consequence is ultra-loose monetary policy, which pushes growth upward and interest rates downward, and favours an excessive rise in the price of financial assets and the deterioration of financial balances through excessive debt.

The Minsky moment is the period characterized by the tendency to increase leverage when long periods of economic stability make it easier to justify. In other words, financial stability is only apparent or temporary, and the great moderation carries within it the seeds of future financial crises.

2020 ONWARDS: COVID-19 ADDS NEW RISKS, NEW MOMENTUM AND NEW REGIME

Major pandemics have existed in history (see Box 3). In 2002 - 2004, China suffered from SARS-CoV (Severe Acute Respira-tory Syndrome - 775 dead). In 2012, the Middle East suffered the MERS-CoV (Middle-East Respiratory Syndrome - 27 countries - 450 dead). Since the end of 2019, the world has been facing a new large-scale health crisis: it is facing the Covid-19. Even if the mortality rate is “low”, the Covid-19 epidemic is one of the costli-est human health disasters that many countries all over the world has known in the last fifty years. SARS (mortality rate close to 10%), MERS (mortality rate close to 35%) and COVID-19 are all coronaviruses, but COVID-19 is by far the most global: accord-ing to an established balance sheet by researchers at the Center for Systems Science and Engineering (CSSE) at John Hopkins University in Baltimore, it currently affects (as of April 28) 185 countries and territories and has killed more than 200,000 peo-ple. In comparison, the Ebola virus (EVD), which raged in 1976 (1st wave in the Democratic Republic of Congo and in Sudan, with a mortality rate of 88% and 53% respectively), in 2014-2016 (2nd wave mainly in West Africa), and in 2018-2019 (3rd wave in the Democratic Republic of Congo with a mortality rate of 61%) killed 11,000 people. The average death rate was around 50%. The 2019 H1N1 flu virus killed around 200,000 people.

Crises, be they economic, financial, climatic, geopolitical, or, in this case, health, are recurrent events that have more in common than we think, even if we are tempted to see them as unique. They require similar responses, such as lower interest rates, economic stimulus, and targeted support for certain sectors. Without exception, they require solutions to cover the basic needs of affected populations (HP Rousseau, 2020), such as access to security, accommodation, health care, food, energy, and livelihoods.

AMUNDI 10-YEAR I 43



For the 20-year existence of the euro the average rate of inflation has generally been aligned with the current interpretation of the ECB’s mandate. What counts is its trend, which is why the ECB looks closely at inflation expectations, both in markets and in surveys. Natacha Val la, AWIF 2019

A PARTICULARLY (SURPRISINGLY?) LONG US CYCLE According to the NBER, the United States has experienced no less than 33 cycles of economic expansion since 1854, with an average duration of 38.7 months since 1854 and 58.4 months since 1945. To date, the longest one of 120 months or 10 years was 1991-2001. The last cycle started in July 2009, making it the longest in history (11 years). Is this a unique case? Not really: Australia holds the longevity record for an expansionary cycle in developed countries at 29 years. The current cycle began in the third quarter of 1991.If two consecutive quarters of negative real GDP growth are necessary to qualify a recession, then Ireland and the Netherlands have grown slightly more than twenty years, from 1986 to 2007 for Ireland and from 1982 to 2003 for the Netherlands. In Japan (1975 - 1993) and in Canada (1991 - 2008), the longest cycles lasted 18 years, and the United States has previously experienced more than 16 years of expansion (1991-2008).

The Fed does not set monetary policy according to any mechanical rules. This would be impossible

in any case, since most rules rely on estimates of unknown parameters.

After the crisis if you had followed the Taylor Rule or most other rules, you would have taken interest rates into highly negative territory, which is impossible. The FOMC had to follow a completely different strategy, based on asset purchases and holding short rates at very low levels for a very long time.”Janet Yel len, AWIF 2018

THEY SAID IT !

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Among the forces which destabilize economies and populations, we identify imperious forces, tendencies whose effects are already observable, such as the growth of cities, capitalism, technology, income distribution, population growth, the rise of the middle classes; and insidious forces, which take us by surprise, such as floods, earthquakes or other natural disasters, but also AIDS, SARS, MERS, H1N1 or COVID-19. Climate change is part of both imperious forces and insidious forces (it generates natural disasters, for example).

More than other insidious disasters, COVID-19 affects all coun-tries, all populations, it causes the same fear for everyone, and because of the measures taken by different governments, it has strongly paralyzed the production apparatus. As such, COVID-19 may represent regime shift. Its long-term consequences will be numerous, but they are still uncertain (for a full analysis of COVID-19, see Ithurbide – Maillard (2020)).

COVID-19 - UNCERTAINTY ABOUT ECONOMIC GROWTH, BUT A SEVERE RECESSION TO COME

Covid-19 containment has varied substantially between countries, with those that had the strictest lockdowns seeing the greatest fall in activity and the weakest growth forecasts. For example, from March 20 to May 9, the fall in traffic in shops and places of leisure was dramatic in Spain (-88%), France (-82%), Italy (-81%), India (-78%), Ireland (-74%), and the UK and Belgium (-73%). It was less marked in the United States (-39%), which resulted in less control of the epidemic. On the other hand, the decline in eco-nomic activity was relatively small in the countries that imposed looser or no lockdowns and favoured systematic detection, wide-spread use of masks, and confinement only of people at risk, such as Taiwan (-12%), South Korea (-13%), Sweden (-20%), Japan and Hong Kong (-25%), and Denmark (-29%). (Google Mobility Com-munity Report).

The magnitude of the recession following containment to limit the propagation of Covid-19 has not been seen since the episodes of war. The first observation is that, by itself, the Covid-19 epidemic has practically no economic consequences. The mortality rate, although hard to bear, is not considerable compared with historical precedents, and is concentrated in age groups that are mostly no longer productive in a strict economic sense. Cynics have even pointed out that the epidemic is reducing the burdens on stressed pension systems and the risks of demographic imbalances in some countries. However, the measures taken to limit mortality (and long-term recovery) have considerable economic consequences.

In most countries, the response to Covid-19 has been to limit its spread through prohibition and confinement. Prohibition has focused mostly on service sectors and places where large numbers of people would gather, from bars and restaurants, to transport, education, and cultural events. Confinement has meant keeping people at home with a similar effect, since even

AMUNDI 10-YEAR I 45



ECB LAUNCHES AN NEW ASSET PURCHASE PROGRAMME TO FIGHT THE COVID-19 PANDEMICOn March 18, the Governing Council of ECB decided to launch a new temporary asset purchase programme (including all the asset categories eligible under the existing asset purchase programme) of private and public sector securities “to counter the serious risks to the monetary policy transmission mechanism and the outlook for the euro area posed by the outbreak and escalating diffusion of the coronavirus, COVID-19”. The PEPP (Pandemic Emergency Purchase Programme) had an initial envelope of €750 billion. It also decided to expand the range of eligible assets under the corporate sector purchase programme (CSPP) to non- financial commercial paper, making all commercial papers of sufficient credit quality eligible for purchase under CSPP. On June 4, the ECB increased the amount of its PEPP by €600 billion to a total of €1,350 billion. The Governing Council will terminate the programme once it judges that the COVID-19 crisis phase is over, but in any case, not before the end of June 2021. The maturing principal payments from securities purchased under the PEPP will be reinvested until at least the end of 2022.

PANDEMICS IN HISTORY: SOME USEFUL REMINDERSAccording to historians of medicine, there have been many pandemics over time (more than 50 different diseases), from the plague, to influenza, measles, smallpox, yellow fever, cholera, SRAS, AIDS... and now COVID-19. The plague struck from 167 to 190 (Antonine plague – between 7 to 10 million deaths, including the emperor Marcus-Aurelius, to be compared to a total population of 64 million for the whole of the Roman Empire in the year 164), in 541–767 (Justinian plague - 30 to 50 million deaths), from 1347 to 1351 (the Black Death - 20 million deaths, with the loss of 40% of the inhabitants in Germany, 50% in Provence, and 70% in Tuscany), in the 1600s (3 million deaths), in the 1700s (600,000 deaths), and at various times from 1865 to 1920 (12 million deaths). During the last French epidemic, in 1720, it remained confined to Provence, and more than half of the population of Marseille perished, as well as 60% of the population of Toulon, 45% of that of Arles and 30% of that Avignon and Aix. For smallpox, there was the Japanese epidemic of 735 (1 million dead), the epidemic of Latin and central America from 1520 to 1600 (several million deaths, especially in Mexico where the population increased from 18 million between 1492 and 1600) and the European epidemic from 1500 to 1800 (several tens of millions of deaths - in the 18th century, approximately 95% of the French population was affected by this disease and 10% died from it; in Sweden 10% of children die each year from smallpox, in Russia, it is 1 child in 7. For cholera, the pandemic of 1817 which lasted nearly a century, killed about one million people. A yellow fever pandemic in the late 1800s killed about 150,000 people. Influenza pandemics struck the world in 1510, 1557, 1729, 1733, 1781, 1829, 1889 (Russian flu A H2N2 - one million deaths), 1918-1920 (Spanish flu A H1N1 – 50 to 100 million deaths), 1957 (Asian flu A H2N2 - more than one million deaths)), 1968 (Hong Kong flu A H3N2 - one million deaths), 2009 (influenza A H1N1, the first flu pandemic in more than 40 years - between 150,000 and 500,000 deaths), and 2019 (H1N1 A flu - about 200,000 deaths).

THEY SAID IT !

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4


authorised activities cannot find the necessary workforce. And some of the employees who remain active through remote working find it difficult, for example if they have out-of- school children.

The central economic impact is a supply shock, linked to the withdrawal of a substantial part of the labour supply. This reduction implies a reduction in the supply of products, and therefore in the wealth created. The impact on supply is all the more intense since labour and capital are complementary in the production process. The reduction in the labour supply thus leads to inactivity of the installed capital (For a full analysis of Covid, see Ithurbide – Maillard (2020)).

The major short-term risk concerns supply. Companies that would be economically sound in the absence of the epidemic can find themselves forced into bankruptcy, leading to accelerated obsolescence of physical assets, a depreciation of financial assets accentuated by distress sales, and a loss of human capital. Companies lose by laying off workers in whose training and specialised knowledge they have invested.

In fact, governments have chosen lives over material goods. Another, more brutal, way of saying this is to view the recession as intentional and inevitable. But what is not inevitable is the longer-term damage that containment policies do to the economy. Through their actions, governments have attempted to minimise the impact on confidence. However, all recessions have a strong impact on populations. As António Guterres, Secretary General of the United Nations recently recalled, the global recession caused by the COVID-19 pandemic might cause hundreds of thousands of children deaths: when the most vulnerable households suffer income reductions, children, pregnant women and nursing mothers become particularly vulnerable. In other words, governments would therefore have not only made a trade-off between lives now and lives later, but also between lives here and lives elsewhere.

As for the impact on growth, recent studies diverge strongly, and estimates are regularly updated. The OECD initially estimated that, according to the most pessimistic scenario, the impact of COVID on global growth in 2020 would be 1.6 percentage points (pp) for the G20, 1.5 pp in North America and worldwide, and 1.3 pp in Europe. There is now talk of a recession in the range of 5% to more than 10% depending on the country, which is similar or more severe levels of recession than the worst cases in the history of the 20th and 21st centuries.

The recession should be more than 4% in the United States, which would make the COVID episode the most severe recession since 1946 (-11.6%). 2020 should enter into the top 10 of the largest contractions since 1900, far from the record of 1932 (-12.9%), the worst year since 1790 (data not available before 1790. The US Civil War, from 1861 to 1865, also wreaked havoc on the US economy (-8.9% in 1864).

IF FORCED SAVINGS BECOME REAL PRECAUTIONARY SAVINGS, THEN THE RECESSION WILL BE MORE SEVERE AND ESPECIALLY LONGER.

THE COVID-19 IS POTENTIALLY A MASSIVE GAME-CHANGER.



In England, where data dates back to the 13th century, there is nothing in the Top 10 of the worst recessions beyond the 17th century (source: Bank of England). The worst recessions date from before the industrial revolution. In 1629, during the war against France and Spain, the fall had exceeded 25%. In 1349, at the height of the black plague epidemic that ravaged Europe, British GDP collapsed by almost 24%. The Bank of England fears a recession of almost 14% in 2020, which would make it the most severe contraction since 1900: the GDP had dropped by 9.7% in 1921 and by 7.8% in 1919. In 1944 and 1945, GDP fell by 4.4% and 4.6% respectively. And the contraction of the 2009 financial crisis, which was the largest since World War II, was ‘only’ by 4.2%.

In the case of France (which should be one of the most affected countries in the area (Europe) itself the most affected in the world), there is talk of a recession of more than 10%. According to Global Financial Data, six of the ten largest annual contractions in France took place during the two world wars. The worst year was 1918, when real GDP (at constant exchange rates, i.e. adjusted for inflation) fell by almost 22% (-21% in 1941).

Faced with these uncertainties, it is interesting to compare the current episode with other pandemic episodes. According to Barro and Ursúa (2008) and Barro, Ursúa and Weng (2020) the macroeconomic impact of the great flu pandemic (the Spanish flu of 1918-1920) had been very substantial, similar to that of the First World War. The results suggest that the 1918-1920 pandemic was the fourth largest negative macroeconomic shock to the world since 1870 - after World War II, the Great Depression of the early 1930s, and the First World War. Twelve countries were victims of macro-disasters in terms of GDP and eight in terms of consumption, with the low points occurring from 1919 to 1921. The Great Influenza Pandemic would have reduced real GDP per capita and consumption by an average of 6.0% and 8.1%, respectively. The First World War is associated with declines in GDP and consumption of 8.4% and 9.9%, respectively. Their econometric work further shows that at least part of the negative effect of the war on GDP was permanent, while the long-term effects of the flu are more difficult to identify

The great influenza pandemic of 1918-1920 represents a plausible worst-case scenario for Covid-19. A death rate of 2% of the world population, like that of the Spanish Flu, would translate into at least 150 million deaths. This mortality rate would entail declines in GDP and consumption of 6% and 8%. In addition, there would be significant declines in real equity and short-term treasury bill yields.

At this point, the probability that COVID-19 will reach something close to the great Spanish influenza pandemic seems low, given the epidemiological differences, the progress of public health and the current mitigation policies.

THE GREAT INFLUENZA PANDEMIC

OF 1918-1920 IS A LESSON

FOR COVID-19.



THE RETURN OF NATIONS AND BORDERS AND THE PURSUIT OF DE-GLOBALISATION

The globalisation of business has become excessive in certain aspects, such as when it is based on artificially created comparative advantages. It can lead to offshoring, dumping, quality reduction, trade disputes, unfair competition, and patent infringements (particularly by China). We must ask ourselves whether it is reasonable to consume Chinese chestnuts in Canada, to eat Norwegian farmed salmon in France that is unfit for consumption in Norway, or to produce fruits and vegetables out of season with excessive use of energy and water.

Financial globalisation, on the other hand, entails greater cooperation between financial systems, which is essential for fighting financial crises and is in everyone’s interest. Experience shows that this cooperation has been quite effective.

Unfortunately, health globalisation has followed more the pattern of business globalisation than financial globalisation. Health regulations are not harmonised and are insufficient in some countries - for example, eco-labelling of foodstuffs and legislation on GMOs. As in the case of financial integration, with its risks of contagion, health issues such as pandemics do not stop at borders. Moreover, while international cooperation is essential, especially for medical research, the health sector remains largely the prerogative of states, with large differences in health systems and levels of crisis preparedness.

De-globalisation was a major trend long before Covid-19, but the pandemic will accelerate it, since it upends local, regional and national production and supply chains. Local shops have grown in importance as people seek comfort and certainty on the origin of products. At the country level, governments will try to lessen dependence on foreign trading partners for essential goods and services. And on the regional level, such as in the EU, trade within trusted blocks will grow. The current situation should exacerbate protectionist behaviour from political leaders; especially but not only the populist parties. The role of borders might be revisited.

THE RETURN OF STATE INTERVENTIONISM AND THE CREATION OF AN “INDUSTRY OF WAR AGAINST VIRUSES”

China and India account for a large share of world drug production, and it can only be considered to be an extremely dangerous addiction. Large pharmaceutical companies have realized that they must repatriate the production of certain active ingredients in medicines, 60-80% of which are now produced outside the EU. In the United States, 80% of drugs are of Chinese origin (95% for ibuprofen, 91% for hydrocortisone, 45% for penicillin). India, the “pharmacy of the world” is 70% dependent on Chinese ingredients and intermediates. Shortages have occurred during the pandemic when India and China faced production problems. France, the leading producer of

DE-GLOBALISATION WILL UNDOUBTEDLY ACCELERATE.



drugs 15 years ago, is now in 4th place and, like some other European countries, has faced shortages. 538 major drugs were out of stock in France in 2017, and 2,044 were running short in the Netherlands in 2019. There were also shortages when 150 Chinese production sites were closed from 2016-2018 while they were being brought up to international standards. Worse, there have been dramatic cases of contamination, such as in 2018 when valsartan, used against hypertension, was contaminated with nitrosamine, a carcinogenic product used as rocket fuel.

The problem is therefore not new, but its seriousness has been highlighted during the pandemic. It is time to fix it, and various initiatives have emerged. For example, 900 American hospitals created an association in late 2019 to launch a non-profit generic drug manufacturer.

The creation of stocks, which H.P. Rousseau (2020) calls “grana-ries”, would no longer be disputed today. They have also existed in the past, such as the “grain stores of abundance” in Paris and Lyon in the 18th century, whose purpose was to store grain supplies to prevent famines. The current strategic stocks of petroleum are similar, protecting against supply shocks. If it is believed that one of the major risks of the coming years remains the bacteriologi-cal, pandemic epidemiological risk, then it would undoubtedly be wise to have stocks of masks, gloves, hydro-alcoholic gel, tests, basic drugs... Having stocks of basic necessities, promoting the production of a national industry of medical and paramedical sup-plies and equipment, boosting research… would create an “indus-try of war against the viruses” (Rousseau (2020)). It is necessary to identify the structures that can be mobilised in times of pan-demic: the army (which one must be able to mobilise more for its experience in medical matters and in phase of extreme tension), the covered stadiums convertible into field hospitals, private com-panies to guide production processes towards essential goods, private medical research laboratories... The shortage or even, in France, the absence of gel, masks, gloves and tests is quite incomprehensible in comparison with other more agile and better organised countries (stronger political power, stronger effective decentralisation, more agile institutions, etc.). And logistics infra-structure has to be robust and intelligent.

Creating stronger and more efficient regional ecosystems would also make sense. This is not just regionalisation, but an assurance that regional ecosystems can function effectively with more autonomy and agility. Covid-19 has highlighted the differences between regions, cities, and rural areas. For exam-ple, the under capacity of hospital beds in France was com-pensated for, albeit too slightly, by regional structures. Already necessary in normal times, more such cooperation could have proved decisive in the current crisis. An ecosystem includes businesses, public institutions, annexes of ministries, universi-ties and educational structures, transport, communication and health infrastructures (maternity hospitals, hospitals, surgical services, etc.). The role of public policy is to promote greater decentralisation of services, particularly health and medical.

SHORTAGE OF PHARMACEUTICALS A MAJOR CONCERN.

AN INDUSTRY OF WAR AGAINST THE

VIRUSES.

REGIONAL ECOSYSTEMS VS.

CENTRALISATION.


50 I AMUNDI 10-YEAR AMUNDI 10-YEAR I 5150 I AMUNDI 10-YEAR

In sum, the COVID-19 health crisis will inevitably force gov-ernments to intervene more strongly in the future in all mat-ters relating to health and food and the related logistics. They will get more involved with private sector players, seeking new forms of cooperation between the public and private sectors to achieve the expected results. Some of this could include nationalisation of key sectors or companies. One can also imagine that new forms of cooperation between the public and private sectors will emerge in order to achieve the expected results. The crisis has highlighted the inequalities of access to health care and survival rates. Even in France, pre-crisis sur-veys showed that unequal access to health care was one of the most controversial inequalities. And it is much worse in many other countries, especially those without a universal national health service. One of the “post- mortems” of the Covid-19 crisis is how these inequalities can cause new political and social ruptures that governments will have to deal with.

THE CHANGES FROM THE PANDEMIC IN INVESTMENT, CONSUMP-TION AND SAVING BEHAVIOUR

Electronic commerce has developed strongly in recent years and the trend will accelerate due the pandemic, since many peo-ple became accustomed to using it and because it could sup-ply essential products. Many businesses developed new services during the crisis and will maintain them. COVID also showed us that e-commerce no longer means just sourcing from far away, but also purchasing nearby, and that it requires good logistics, inventory management, and supply chains. Digital technology and robotics have long been essential for the distribution sector, but the Covid-19 crisis has shown that some sectors and com-panies can operate with fewer employees with equal or even more productivity. Many companies will carry out HR analyses after the crisis, and their use of digital technology, robotics, and automation will rise. This will aggravate the economic and social situation of lesser skilled or unskilled workers.

The Covid-19 crisis has forced many companies, institutions and governments to adopt telecommuting. Depending on the sector, the results are mostly positive and should lead to a permanent spread of telecommuting.

The growing importance of health and thus the quality of consumption will - as is often the case in extreme periods - lead to changes in behaviour. Consumers will search for quality, turn to local markets, and put a premium on food security. This, in turn, will further fuel concerns about climate change and its effects. On the other hand, the risks of using public transport may outweigh its ecological benefits for some. In fact, it has been proven that economic hardships tend to outweigh ecological concerns.

The COVID-19 crisis forced us to rediscover what is essential in life, such as having enough food, access to energy and health care, and the ability to communicate with loved ones. It has

INEQUALITY ON ACCESS TO HEALTH CARE IS THE MOST INTOLERABLE INEQUALITY.

THE ECONOMIC AND SOCIAL PROBLEM OF UNSKILLED OR UNSKILLED WORKERS WILL EMERGE AGGRAVATED.

AMUNDI 10-YEAR I 51



also challenged our work and social hierarchies. For example, we became aware that people in high social utility jobs (nurses, deliverymen, supermarket employees) were more exposed to COVID, with no possibility of teleworking, but were being paid far less than people in “dominant” white collar jobs in banks or corporations. Indeed, the income hierarchy stemming from our dominant societal values was called into question by the pandemic.

COVID also highlighted the continuing gender gap. Many of the most essential but at-risk positions are filled by women. In the case of France, women represent 87% of nurses and midwives, 88% of nursing assistants, 77% of hospital support staff, 88% of store cashiers, 78% of food vendors, 84% primary school teachers, 98% of school service workers, 95% of domestic workers, and 94% of home helpers. Since they are comparatively badly paid, this exacerbates the inequality between the sexes.

COVID is also making us revisit how we value and measure the components of GDP. In general, we should pay more attention to investing in «human infrastructure» (N. Folbre). Using public expenditures as a chief component of GDP is not enough. New classifications should be created to monitor the way in which public expenditure, in particular investments in natural and human capital, improve well-being (Albelda, Duffy, Folbre, 2009). In addition, investing in physical infrastructure is often more valued - and better paid - than investing in “soft” infrastructure such as health care and social services. This has resulted in some countries finding themselves unprepared for the health crisis. Avoiding such problems and mitigating their effects has become urgent and requires massive investments in our essential wealth (natural and human capital).

THE INTENSIFICATION OF FINANCIAL REPRESSION AND THE REAL START OF DEBT MONETISATION

Large-scale emergency measures have been taken by govern-ments and central banks (see Box 4), regardless of the impact on deficits, debt or inflation. The recent episodes of quantita-tive easing and economic stimulus have not really translated into an increase in structural deficits, the abandonment of structural reforms, and the return of inflation beyond existing targets. In this sense, these are not real episodes of debt monetisation. The post-Covid-19 phase may well be different. It may mark the beginning of debt monetisation; a lesser evil compared to the current challenges.

Debt financing will inevitably entail additional financial repres-sion. This means the decline in international financial flows, and the return of larger sovereign spreads, as some countries find it more difficult to attract investors. This will be less visible since central bank purchasing programs remain important. Funding for private companies is likely to be impacted by incentives to buy government bonds or bonds related to post-crisis infra-structure projects.

WE SHOULD PAY MORE ATTENTION TO

INVESTING IN “HUMAN INFRASTRUCTURE”.

POST-COVID-19: THE EFFECTIVE STARTING DATE

OF DEBT MONETISATION.

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MOVING BEYOND THE LOGIC OF COST/BENEFIT ANALYSIS TO ACCEPTING THE PRECAUTIONARY PRINCIPLE

While hindsight is always easier, it is clear that the risks of a pandemic were known. Not only had we lived through several localized ones such as Ebola, SARS, and MERS, but there was also no shortage of books and studies warning about the danger. For example, a 2016 report by the National Academy of American Medicine, authored by 17 international specialists, explained that pandemic threat was an overlooked dimension of global security. The WHO had also alerted to such risks, as had reputed virologists So why were we so unprepared? Three factors explain the inaction (Chavagneux, 2020):

• The first is the dominant ideology of reducing the weight of the state, with reductions in public spending not sparing the health sector.

• The second is the dominant ideology of the search for zero cost. First confined to large companies (outsourcing, tax avoidance, etc.), it has spread to public services. We shut down unprofitable health services and hospitals, and “optimise” those that survive.

• The third is inaction linked to distrust of the precautionary principle, with the apostles of anti-precaution gaining traction in the political and administrative space. We still remember the criticism against a French health minister who had bought 95 million doses of vaccine to fight influenza A (H1N1) that were not used. Instead we glorify, “The heroic vision and clear-cut decisions that the sovereign takes in a situation of uncertainty - and in all ignorance of the cause”, rather than evaluating the underlying conditions democratic societies should consider when facing challenges (Callon, Lascoumes and Barthe, 2014).

WHAT CHOICES FOR ECONOMIC POLICY?

What solutions are there for mitigating the economic effects of the pandemic? There are three principal avenues: boosting growth, creating additional fiscal room for maneuver, and redirecting households and businesses through taxation. Specific measures could include:

• Mobilize savings accumulated during confinement. Weeks of confinement deprived households of consumption opportunities. Savings rates have increased everywhere, especially in countries that used lockdowns. The post-crisis economic momentum will depend heavily on how this savings is used. For example, directing it through environmental incentives such as the insulation of homes or purchase of electric cars could be useful.

• Create new savings vehicles labelled “COVID”. The primary purpose of these products would be to finance the infrastructure necessary to improve the ability to cope with new pandemics. Their advantage would be that they direct the available savings towards long-term projects. In France, the Livret A savings product is used to finance social housing and one could imagine a Livret C (“C” for Coronavirus).

THE PANDEMIC THREAT WAS AN OVERLOOKED DIMENSION OF GLOBAL SECURITY.



• Use “helicopter” money. When a central bank wants to support growth, it generally does so by lowering interest rates or by supporting banks. The effectiveness of this policy depends on the ability or willingness of banks to pass this largesse into the real economy, which is not always the case. The underlying idea of helicopter money is to credit the economic agents’ bank accounts directly (perhaps according to income or total wealth) avoiding the banking channel. In the case of the EU, the question is whether the ECB can decide this on its own or whether it would require extensive coordination with national fiscal authorities.

• Issue Corona bonds. “Corona bonds” would be the equivalent of “Euro bonds” which were considered in 2011 during the Greek debt crisis but rejected because it meant pooling public debt at the eurozone level. On March 25, the leaders of Belgium, France, Greece, Ireland, Italy, Luxembourg, Portugal, Slovenia, and Spain called on the President of the European Council to establishment such bonds, limited to expenses related to COVID-19. However, Germany and the Netherlands, which are hostile to the principle of pooling debts in Europe are opposed. Similar bonds could be issued in other regions or countries.

• Issue common, “federal” debt. This idea, which was taboo before the crisis, is becoming a reality in the EU in certain respects. The European recovery plan of May 18 of €500 billion is funded by a loan from the European Commission on behalf of the European Union. This plan, approved by Germany, is the first example of an ad hoc decision resulting in a budget transfer to the European authorities. Other countries and regions have or could take similar measures.

• Raise a “Coronavirus tax”. European countries in particular, but also others worldwide, are adept at responding to problems through targeted taxation. Putting in place a Coronavirus tax (like the drought tax in 1976 in France) is gaining support. The magnitude of the coming recession, the deficit in public finances, and the inequalities in health care, beg for an additional contribution by the richest for funding public services, especially hospitals.

• Cancel debts. This idea surfaces regularly, given the mountain of debt accumulated before and since the crisis. However, we must be cautious since the debt of one actor is always held by another. The situation of the first can become untenable and justify a cancellation, but this hurts the other, reducing income by eliminating interest payments and the value of assets. This can result in bankruptcy, which is especially troublesome if it is a bank or a business. Furthermore, debt holders are not only the wealthy or banks. Most households hold debt, notably through life insurance contracts (for example, 40% of French households hold government securities). Cancelling debts has many drawbacks, such as jeopardizing future borrowing (or raising its cost) or creating «moral hazard» by rewarding the spendthrift or negligent. Therefore, such cancellation or restructuring is rarely unconditional.

THREE PRINCIPAL AVENUES: BOOSTING GROWTH, CREATING ADDITIONAL FISCAL

ROOM FOR MANEUVER, AND REDIRECTING HOUSEHOLDS AND

BUSINESSES THROUGH TAXATION.



• Cancel ECB debts. Such an initiative could become popular in the EU, since it is viable if economic agents maintain confidence in the ECB which manages the Euro, and in the Euro itself. For the time being, however, such cancellation is impossible because the ECB cannot directly finance EU member states.

• Raise a wealth tax. The establishment (or for some countries like France, the reestablishment) of a wealth tax for a targeted contribution by the richest households could also be considered depending on the country context.

• Tax multinationals. This is also a recurring theme. The idea (Chancel, 2020)) would be to tax companies on the turnover achieved in a territory, as opposed to the declared profit. This would lessen competition using tax rates, or a “race to the bottom” between countries to attract international companies.

• Make public aid and tax havens irreconcilable. Some European countries (Denmark, Italy, France, and Poland) have already announced that they want to ban all public aid to a company that uses tax havens. The idea is laudable, but its implementation is complicated. Defining what is a tax haven is complex. In fact, according to the 2020 Tax Justice Network’s index, Luxembourg, and the Netherlands, are among the top 10 tax havens, and the US ranks second, ahead of Switzerland. It is also complicated because we cannot ban all businesses from operating in tax havens. Using havens does not necessarily make them opaque, and their presence may be linked to the presence of customers, not the desire to avoid taxes.

Three lessons to conclude:• Protecting economically vulnerable citizens from COVID-19

made sense, of course. However, protecting physiologically vulnerable citizens from COVID-19 (those over 60) and agree-ing to expose the youngest (less vulnerable) would have had less impact on economic activity thanks to the difference in activity rates. Testing the populations abundantly and isolat-ing the positive cases, as some countries, notably in Asia, have done, achieves the same result. But we don't rewrite history.

• It is possible to estimate ex post the cost of the COVID-19 pandemic by comparing the loss of activity and the gain in terms of lives saved. The concept of VSL – Value of a Statistical Life - is frequently used in evaluating the Cost-Benefit Analysis of policies. OECD (2012) proposed a range for the average adult VSL for OECD countries of USD 1.5 million - 4.5 million, with a base value of USD 3 million. For EU-27, the corresponding range is USD 1.8 million - 5.4 million, with a base value of USD 3.6 million (all data with 2005-USD). According to the OECD, the value of a human life, for example, is around 3 million euros in France. Thus, 80,000 lives saved thanks to the confinement would economically compensate for any fall in GDP of 10% (around 240 billion euros).

• The COVID-19 pandemic has recalled that the value of human life is not the same across the globe. It is undoubtedly an essential inequality among those which undermine our economic system.

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When you have a period of high returns on risky assets, for whatever reason, people learn the lesson that risky assets are attractive and become complacent. Lawrence Summers, AWIF 2015

We ought to be a little nervous about it, because we can have these regime shifts, where it leads to

excessive debt and suddenly when something changes, we are not prepared.

Kenneth Rogoff, AWIF 2018

With the absolute level of debt higher today than ten years ago, the question is only when and where the next recession will occur, not whether. Nouriel Roubini , AWIF 2018

It would be naive to say that managing a big stock of fixed income assets and thereby extracting duration from the market in a sustained manner (as ECB does),

is not having any impact on financing public debt. Natacha Val la, AWIF 2019

There is growing temptation for governments to directly monetize deficits, and this is one of the reasons to assure the independence of central banks. The Fed should focus on Congressional mandates such as price stability and raising employment.

There may be a “new normal” of lower interest rates than in the past, with an equilibrium short-rate closer to 1% than 2%. If that is the case, then price-earnings ratios in the stock market may justifiably be higher on a long-run basis..

Investment spending and factor productivity growth have been weak. Part of that is a mystery, but part of it looks like a decline in dynamism in

the US economy. That, in some ways, is also mystery. Janet Yel len, AWIF 2018

THEY SAID IT !

AMUNDI 10-YEAR I 55


The value of a life varies greatly from a country to another. This is what the OECD shows, but also a recent study commissioned by the Gates Foundation (2018), covering 129 countries: the VSL is between 2.5 and 4 million for many countries (Europe, Turkey, Russia…), but only between 10,000 and 50,000 for countries in sub-Saharan Africa…

THE PERSISTENCE OF LOW RATES, DISINFLATION, DECLINING POTENTIAL GROWTH, AND HIGH ASSET VALUATIONS

The common denominators of irrational exuberance, bond conundrum, global savings glut, global excess liquidity, and sec-ular stagnation fears are the abnormally low interest rates and the excess valuation of financial assets. The Covid-19 exacerbates the low level of interest rates and the risks of lasting low growth. In reality, the consequences of the danger of secular stagnation, alongside with lower productivity gains and unfavorable demog-raphy are quite clear:

• Reduced potential growth,• Non-existent or limited inflationary pressures,• Ultra-accommodating monetary policies,• Low short-term interest rates,• Low long-term interest rates,• High asset prices,• Increasingly asymmetric risks,• Higher financial volatility.

In summary, most recent regimes (especially from the 1980s) called for low inflation and low interest rates, while the secular stagnation fears that emerged in the 2010s amplified the under-lying trends. However, while secular stagnation scenarios gradu-ally disappeared, potential growth is lower. Among the important structural factors which justify lower potential growth are:

• The decline in the working-age population and the decrease in participation rates. This is true in most advanced countries and in China, a country that has become old before becoming rich;

• The slower pace of technological progress, which reduces productivity gains. These are themes, along with demograph-ics, often evoked by the supporters of secular stagnation;

• The massive increase in inequalities that weighs on potential economic growth, a theme developed by Robert Gordon, in particular;

• The decline or stagnation in real disposable income, with a role played by wage policies and taxation;

• The impact of the debt burden. Excess credit had artificially boosted growth in many countries until the GFC, with the still incomplete deleveraging that followed lowering growth. Eco-nomic policies, constrained by debt, now need to improve over-all solvency, including that of states, and can no longer counter economic cycles. In other words, debt maintains the natural interest rate at very low levels. With deleveraging far from over, this drain on growth remains dominant. This is another one of the themes developed by the proponents’ secular stagnation.

ECONOMIC POLICIES, CONSTRAINED BY DEBT, NEED TO IMPROVE OVERALL SOLVENCY, INCLUDING THAT OF STATES AND CAN NO LONGER COUNTER ECONOMIC CYCLES. IN OTHER WORDS, DEBT MAINTAINS THE NATURAL INTEREST RATE AT VERY LOW LEVELS.

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There are two kinds of economist in this crisis – there are people who have looked at Japan seriously, and people who have not.” Paul Krugman, AWIF 2014

Why did the land under the Imperial Palace – 3 square miles – become worth

more than all the land in California? It was because you had a huge pile of savings.

I do not doubt that the kind of financial environment that we are in is more bubble prone and more prone to creating financial instability than a financial environment with higher interest rates. Lawrence Summers, AWIF 2015

In the United States slowing productivity growth is only half the problem. We also have slowing growth in hours of work. You put the two together– output per hour and hours of work–and our GDP growth has slowed from 3% to a little more than 1%. Robert Gordon, AWIF 2017

It took the United States 30 years to bring interest rates back up to the average of the 1920s after the Great

Depression. The average of the 1920s was 4.1% in both short- and long-term, and then came the crash of 1929.

It took until 1959 to return it to 4.1%. Richard Koo, AWIF 2015

What we do not understand is the source of the productivity collapse that we have experienced in

the last five years. It is really a puzzle.” (…) “I’m a long-run productivity optimist.

Most studies actually show that the highest-level productivity is really reached by people between 45 and 55 and that from 55 to 65, productivity

generally goes down. Then, they retire. Jeremy Siegel , AWIF 2016

THEY SAID IT !

AMUNDI 10-YEAR I 57


In times of secular stagnation, it is difficult to find where eco-nomic growth can come from, and the macro-financial stability of this new regime clearly requires lower interest rates, probably for a long time. Productivity gains continued to recede in the 2010s while the digital revolution gained momentum. Is this a paradox or puzzling? Yes and no. Economies usually boost their productivity in two ways - micro and macro:

• Microeconomic gains take place within an enterprise as it invests, trains workers, innovates and competes;

• Macroeconomic gains occur when the overall economy reor-ganizes, shifting resources so they produce more than before.

Both types of productivity make us better off. Statistics capture productivity’s capacity to increase consumption and leisure, but they ignore other gains, such as better working conditions, new and better products, greater safety and security, and eventually a better environment (this is nothing new; see FRB Dallas, 2003). For example, labour productivity gains are expected to account for over 55% of all GDP growth from Artificial Intelligence from 2017 – 2030.

Productivity gains are supposed to be one of the best indica-tors of the magnitude of the technological revolution, and a critical indicator for inflation expectations and potential growth (according to monetary rules and the Phillips curve). However, in reality, both positive and negative factors impact productivity gains and explain why, in net terms, productivity gains – as they are now measured – are disappointing.

Positive factor # 1: Some studies reject the inevitability of secular stagnation and show that even in Europe technologi-cal progress (total-factor productivity) is not faring as poorly as generally claimed, even if there are significant differences between countries. The duality of some economies and gaps between regions, areas and countries hide a reality that is more positive than one might think.

Positive factor # 2: Some analysts say that the present problem is not that the pace of technical progress is slowing - the aggregate productivity of the most innovative and productive companies is not falling. Instead, the issue is the current difficulty in integrating new forms of productivity into economies and businesses. It is a question of time.

Positive factor # 3: Others rightly say that we cannot measure productivity gains because the phases that follow a recession always lead to a phase of “creative destruction”, to borrow the expression coined by Joseph Schumpeter. The positive effects would therefore be partially obscured by the inevitable dam-age. Once completed, the positive effects will be revealed.

Positive factor # 4: Others believe that we are not yet able to correctly measure the effects of the Industrial Revolution on productivity, as such effects may only appear in the future. It should be reiterated that over the course of history, it has taken decades before new technologies began spreading to the rest

BOTH POSITIVE FACTORS AND NEGATIVE FACTORS IMPACT PRODUCTIVITY GAINS AND EXPLAIN WHY, IN NET TERMS, PRODUCTIVITY GAINS – AS THEY ARE NOW MEASURED – ARE DISAPPOINTING.

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There are a number of differences between Japan’s downturn in the 1990s and the current crisis in Europe. There are fewer balance sheet problems, the pricking of the real estate bubble in the euro area as a whole was more subdued, and monetary policy has taken a different route. Interest rates in Japan remained at considerably higher levels than in the euro area after corrections in stock markets and land prices began. The rapid decline in inflation in Japan in the 1990s also complicated monetary policy and ultimately prompted the Bank of Japan’s announcement of quantitative and qualitative monetary easing.” Benoît Coeuré, AWIF 2013

Japan was exceptional in having extraordinarily bad demographics. They are not exceptional anymore. Looking at five-year growth rates, the euro area is now already in

Japanese territory. The working age population is shrinking at about half a percent a year, so we

already are in a situation of dramatically worse demography than previously.

It is becoming increasingly clear that the austerity measures that have been at the core of the euro policies will not restore prosperity. Austerity has never worked to bring economies in recession back to full employment. Joseph Stigl itz, AWIF 2013

The euro area is almost a perfect storm of stuff that is wrong. You have a Central Bank that has limited traction, partly because it does not have a single treasury to deal with and there is no single minister of finance to go to. You could not do an Abenomics type of thing in Europe right now because that requires close cooperation from a single government.

People ask me whether it is possible that Europe could find itself in something like the Japanese situation, whether we are looking at a prolonged Japanese-style slump in Europe. That is the wrong question; the right question should be whether Europe could avoid turning into a larger version of Japan, because the forces are quite strong.”Paul Krugman, AWIF 2014

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AMUNDI 10-YEAR I 59


of the economy. However, it should also be noted that the spread of tools, technologies and innovations is now faster than ever before and that keeps accelerating.

Negative factor # 1: Robert Gordon, for example, does not expect total factor productivity to fall but rather to remain at a low level since inequality and access to education are two significant negative factors.

Negative factor # 2: What further worries Gordon is that the effects of the Third Revolution and the related developments in information and communications technology began around 1960 and have reached their peak. The benefits of the Digital Age were concentrated in the decade 1994-2004.

Negative factor # 3: Some believe that the technological revolution will lead to destructive creation, and not to creative destruction, with a debate on the percentage of jobs destroyed versus the jobs created.

Negative factor # 4: With ultra-low rates and easy access to liquidity, the destructive part of creative destruction is incom-plete, and zombie companies (low efficiency, low profitability, low productivity) still survive. Global productivity gains figures are therefore biased due to the existence of these companies.

THE JAPANISATION OF EUROPE: A DANGER, A FATALITY OR NOT?

How to define “Japanisation”? There is no real consensus, but many people think it has the following characteristics:

• Interest rates close to zero or even negative;• Bond yields close to zero or even negative;• High public debt;• An excessive central bank balance sheet, and the impossibility

of reducing it;

Considering these criteria, one could say that the Japanisation of Europe is already complete. However, the Japanisation of interest rate markets and the financial characteristics common to countries with negative rates are not enough.

We must also consider the macroeconomic situation, and therefore growth or, more precisely, the capacity of economies to rebound. What happened in Japan over the past 30 years is a fixation on ultra-low interest rates and a very accommodating monetary policy, with no way to “unplug” or stop QE. It was also its chronic inability to promote a durable economic rebound with a resumption of inflation. In other words, the growth engines stalled - this is what Japanisation is all about. Note that the Japanisation has not resulted in a debt crisis, a currency crisis, an asset valuation crisis, a massive capital outflow, a social crisis, or a political crisis... (see Box 6).

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The Japanese experience is unique in world history. We should not over-emphasise an example set by only one country. Doing so is committing a certain fallacy that the psychologists, Kahneman and Tversky, called the representativeness heuristic. This is the idea that people misjudge events because there are too many statistics to look at. People take one example, which they think is representative of what can happen and they talk about it incessantly. They are constantly looking for matches from history. Japan is in this category: so many people think about it and it therefore becomes of exaggerated importance. Robert Shi l ler, AWIF 2015

Thinking of the Japanisation of Europe is tempting, but there are important differences. Japan is much more homogenous, and, despite decades of disappointing growth, its per capita income has steadily increased. This cannot be said of Italy or Greece, for example. Heterogeneity is a European challenge that the Japanese do not face.” Carmen Reinhart, AWIF 2019

TIERED DEPOSIT SYSTEM: A COMMON CHARACTERISTIC OF COUNTRIES WITH NEGATIVE INTEREST RATESThe “tiered deposit system” has been adopted by some countries to not penalise banks. In Japan, there is a three-tiered system, with rates at -0.1%, 0% and + 0.1%, and only 5% of excess reserves are penalised. In the other countries with negative rates, the situation is identical. In Sweden, with a deposit rate of -1.00%, the penalty for excess bank reserves is mitigated by the fact that the central bank issues short papers (one week) widely subscribed by banks, which reduces excess reserves and the amount in-vested thus escapes the deposit rate. In Denmark, with a deposit rate of 0.65%, 85% of excess reserves are penalised, but exemptions are part of the of monetary policy instruments of the central bank (which uses it). In Switzerland, with a deposit rate of -0.75%, there is a two-tiered system, and around 35% of excess reserves are subject to a negative rate. Up to September 2019, around 95% of excess reserves in the Eurozone were sub-ject to a rate of -0.40%. The new system, based on a multiple of six times minimum reserves, should enable a P&L for banks of €1-2 billion. Note that German, French, Belgian and Dutch banks represent around 85% of excess reserves, and that Spain and Italy together represent around 10%.

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AMUNDI 10-YEAR I 61

5


It is worth remembering that the US also experienced low rates, (too) low inflation, an ultra-inflated Fed balance sheet, and high public debt. Japanisation appeared as a threat within two to three years after the GFC. However, economic recovery, enabled by conventional and unconventional monetary policies as well as budgetary and fiscal measures, allowed the economy to avoid the Japanisation trap. The Fed used three successive QEs but was able to deactivate this tool after a few years of intensive use.

What about the Eurozone? It’s not Japan, but it’s not the United States either, for at least two reasons:

• The Eurozone experienced two crises, the 2008 GFC and the debt crisis of 2010 – 2012, while the US experienced only the GFC.

• The debt crisis radically changed the policy mix of the Euro-zone. Unlike the US, Japan or even the UK, which combined monetary, fiscal and tax policies, in the Eurozone fiscal disci-pline and even fiscal austerity prevailed almost everywhere. Part of the support for growth through conventional and unconventional monetary policies has been erased by this rig-our, which is nevertheless essential to avoid too strong a rise in risk premiums, long term interest rates and credit spreads.

This period is over now. The crises are behind us and budgetary austerity has disappeared. In fact, the rigorous work carried out and falling interest rates have given Europe more fiscal and tax room to maneuver and the ability to better use it. Even if growth has slowed recently, the growth engines have not stopped:

• Consumption has remained resilient,• Real disposable income continued to increase,• The unemployment rate gradually converged towards the

natural unemployment rate,• The service sector has held up well -, although it will be con-

siderably weakened by COVID 19.

THE EUROZONE EXPERIENCED TWO CRISES, THE 2008 GFC AND THE DEBT CRISIS OF 2010 – 2012, WHILE THE US EXPERIENCED ONLY THE GFC.

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For inflation, the ECB is like an army: it is well prepared and well equipped to fight an enemy that has disappeared … But inflation never dies. It sleeps. Phil ippe Ithurbide, AWIF 2016

Official projections always assume return to normal in five years; it is a kind of consensus. No one explains exactly why it is five years, but it is always safe to say

that. Paul Krugman, AWIF 2014

Long-term investment is about playing with regime shifts, with regimes defined by some kind of equilibrium level, some mean reversion dynamics, and counter-cyclicality. Pascal Blanqué, AWIF 2018

THE “JAPANISATION OF JAPAN” DID NOT LEAD TO A CRISIS... EXPLANATIONSJapanisation has not resulted in a debt crisis, a currency crisis, an asset valuation crisis, a massive capital outflow, a social crisis, or a political crisis...• Japanese residents agree to hold bonds with zero / negative returns…

a kind of financial patriotism? Not really: the main holder of Japanese debt is now the Bank of Japan (Japanese QQE – Qualitative and Quantitative Easing)...

• Non-resident investors have very little presence on the Japanese JGB market (around 5%, mainly for tactical investments)

• The BoJ is able to continue to buy significant amounts of assets to keep bond rates and yields at extremely low levels in the long term… it even buys stocks and ETFs (a large ETF holder)… It is “a few notches further” than the ECB! Thanks to this device, Japan has managed to avoid cap-ital outflows (and the collapse of prices) and avoid asset bubbles (and soaring prices).

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6


CONCLUSIONTo sum up, we have for long entered a high financial risk era, with everything accelerating: higher frequency of crises, regime changes, growing power of financial markets (affecting the real economy), globalisation and de-globalisation phases… And even if we have witnessed distinct phases, all of them were character-ised by the same evil: excess credit and debt.

As mentioned above, with the first oil shock in 1973, stagflation became commonplace. As it was accompanied by a high unem-ployment rate, it has undermined the Keynesian economic poli-cies that have predominated, whose logic is based on arbitrage between inflation and unemployment. The stimulus policies advocated have proven ineffective; while they were meant to lower unemployment, under some it has increased. Then came the slumpflation (combining slump and inflation), a period of economic crisis, recession, and high inflation. This gave birth to monetarism: the money market is paramount, and combating inflation became the top objective. One of the tools was the inde-pendence of central banks (missions, objectives and statutes).

The period of great moderation (low macroeconomic volatility, of which GDP and inflation), which characterised the period 1985 to 2005, with the expansion of globalisation has masked the difficulty of debt repayment, especially public debt. The expansion of demand did not lead to an inflation crisis but rather an increase in trade deficits, accumulation of large financial imbalances, with growth boosted by excess credit. This situation led to several crises, from real estate, emerging countries, and stock market to the Great Financial Crisis of 2008.

The lower inflation volatility and the imbalance between global savings and investment (the “global savings glut”, as defined by Ben Bernanke (2005)) both explained the low level of interest rates: it lowered their volatility, resulting in lower risk premia. It also highlighted the global recycling of savings: the lack of savings in developed countries is offset by the excess of savings and the lack of investment products in emerging countries. This “natural” recycling tended to lessen the pain of financing deficits, particularly in the US, but was not used to correct the behaviour that leads to the excesses.

The emergence of a global liquidity glut came from extraordinarily accommodative monetary policies, both conventional and unconventional. Clearly, as the money supply grows faster than nominal GDP, excess liquidity grows. This has been the case globally since the mid-1990s, with broadly accommodative monetary policies. It was even more pronounced in the post-2008 crisis period, in the US and later in Europe with the introduction of QE programmes. This is reflected in extremely low interest rates. The 2008 financial crisis has also fuelled fears of secular stagnation and Japanisation of the US, then Europe.

SINCE THE 1980S, WE HAVE ENTERED A HIGH FINANCIAL RISK ERA, WITH EVERYTHING ACCELERATING: HIGHER FREQUENCY OF CRISES, REGIME CHANGES…

THE COVID-19 PANDEMIC HAS BRUTALLY STOPPED THE LONGEST GROWTH CYCLE IN US HISTORY.



With monetary and fiscal policies facilitating economic recovery, these fears have gradually receded, but the COVID-19 pandemic has brutally stopped the longest growth cycle in US history, and a world recession has emerged. In economic terms, the COVID-19 pandemic is undoubtedly the most serious of the crises the European Union has had to face. In some countries, the recession will be five times larger than the one which followed the great financial crisis of 2008. On the political level, it is not, however, the most serious: unlike the debt crisis of 2011 - 2012 ( which endangered European integration itself) or the refugee crisis (which amplified migration issues and encouraged the rise of extreme parties in almost all countries), it is hard to see how the COVID-19 crisis could threaten the Eurozone ... even if the rise in unemployment, or the feeling of inequality in the face of this crisis can really degenerate into a social crisis.

The post COVID-19 world will nevertheless be different, with the return of nations and borders, the pursuit of de-globalisation, the return of state interventionism, the creation of an “industry of war against viruses”, radical changes in investment, consumption and savings behaviour. Moving beyond the logic of cost/benefit analysis to accepting the precautionary principle will certainly guide public choices too. With a lack of room for maneuver for monetary policy, the orientation of budgetary and fiscal policy will also become crucial, especially in Germany. The creation of a European stimulus fund of 500 billion euros to help countries in difficulty to overcome the impacts of the pandemic is an important step in the functioning of Europe: it is the first budgetary allocation on the basis of common debt. A big step forward, no doubt.

COVID-19 GENERATES THE WORST ECONOMIC

RECESSION IN THE HISTORY OF THE

EUROPEAN UNION... BUT UNLIKE THE FINANCIAL CRISIS OF 2008 OR THE

DEBT CRISIS OF 2011-2012, THIS TIME THERE

WILL BE GREATER COORDINATION AND

SOLIDARITY BETWEEN THE COUNTRIES OF

THE UNION.

MOVING BEYOND THE LOGIC OF COST/

BENEFIT ANALYSIS TO ACCEPTING THE

PRECAUTIONARY PRINCIPLE WILL

CERTAINLY GUIDE PUBLIC CHOICES

FROM NOW ON.


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We don't have to fear everything, but we have to prepare for everything

Armand Jean du Plessis de Richelieu (1585 – 1642), Principal Minister of State of Louis XIII, King of France

CHAPTER 3

ULTRA-LOW RATES AND QUANTITATIVE EASING: A New Generation of Central Bankers

Monetary policies have evolved considerably over the past decade, as the Great Financial Crisis pushed central banks far from charted territory. The crisis, the return of protectionism and, more recently, the appearance of COVID-19, have led central banks, particularly the ECB, to move beyond the conventional framework. The new normal includes durably ultra-low or even negative interest rates, massive cash injections, tailored measures for banks (LTRO, TLTRO), and several asset-purchase programs. What is most striking is the inability to return to the old normal. This herald a paradigm shift in a world economy that will have to cope with the sustainability of debt, more frequent crises, and the absence of inflation. What are the prospects?

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The past decade has been a love affair for financial markets with central banks. The current situation threatens to end that, with new risks and questions about central banks’ mission and independence, and even the monetary theory that underlies their work.

ONE CAN EASILY UNDERSTAND THE RATIONALE BEHIND THE LOVE AFFAIR OF FINANCIAL MARKETS WITH CENTRAL BANKS.

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ULTRA-LOW RATES AND QE: A NEW “GENERATION” OF CENTRAL BANKERSULTRA-LOW RATES AND QUANTITATIVE EASING: A NEW GENERATION OF CENTRAL BANKERS

EMERGING CHALLENGES FOR CENTRAL BANKS

Looking at the measures implemented by central banks for the past decade (see Box 1), one can understand why financial markets loved them:

• They offered tranquillity through interest rates close to zero (ZIRP - Zero Interest Rate Policy), or even negative interest rates (Japan, Eurozone, Sweden, Switzerland, Denmark);

• They supported the interest rate and bond markets through quantitative easing (QE) programmes in the US, Eurozone, Japan, UK, and Sweden;

• They reduced negative surprises via forward guidance: Odyssean forward guidance in the US and Japan (imple-mented in an explicit way, via communication of forecasts and future intentions), and Delphic forward guidance else-where (implemented more implicitly using monetary rules, with fewer constrains);

• They reduced the volatility of financial markets and the volatility of macro economies;

• They significantly increased their reactivity during crises such as the Great Financial Crisis (GFC), the European debt crisis, and now the COVID-19 crisis. Christine Lagarde summed up the new attitude: “Extraordinary times require extraordinary actions. There are no limits to our commitment to the euro. We are determined to use the full potential of our tools, within our mandate.”

Although central banks have comforted the financial markets, we should not underestimate the underlying dangers. Central banks face ten issues:

1. The absence of inflation, which, even with strong labour market pressures, encourages very low interest rates. This goes to the core of central banks’ inflation-fighting mission;2. Lower rates, lower inflation, lower growth. Apart from exogenous shocks (such as COVID-19), do business cycles still exist? What role remains for monetary rules? Should the framework for monetary policy be revisited? 3. The high level of indebtedness, which gives central banks incentives to improve the solvency of borrowers by leaving rates at low levels, even if it encourages the use of credit and further raises debt. A rise in interest rates may trigger a debt crisis. Is central bank independence at risk?4. ECB monetary policy stayed highly accommodative, even when GDP growth revived. Is low inflation the only reason for the ultra-low level of interest rates? Is it also because central banks consider fiscal policy too restrictive? Does it reflect a policy mix problem?5. The weakening of potential and effective growth can affect the solvency of borrowers and encourage ultra-low interest

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ECB, FED, BOJ, BOE: MONETARY POLICIES SINCE THE START OF QE PROGRAMS2001: Bank of Japan (BOJ) adopts quantitative easing (QE) program October. 2008: ECB announces unlimited supply of liquidity to banks.November 2008: Fed launched its 1st Quantitative Easing program (QE1): $1,500 bn in total. The program ends in mid-2009.2008: Bank of England launches QE programme for GBP 375 billion..2009: ECB launches three long-term refinancing operations (LTRO)May 2010: 1st program of purchases of government securities by the ECB (SMP).Nov. 2010: 2nd Fed QE (QE2). Purchase of $600 billion US Treasury Securities; reinvestment in maturing mortgage bonds. This QE ends in June 2011.Dec. 2011 and Feb. 2012: ECB launches very long-term refinancing operations (VLTRO, 3-year maturity).September 2012: Fed launches QE3 with no initial duration limitation. Purchase of $85 billion in assets per month (mainly US Treasuries and mortgage se-curities). In December, the FOMC announced an increase in the amount of open-ended purchases from $40 billion to $85 billion per month. Reduced amounts in 2014 and program stopped in October 2014 , after accumulating $4.5 trillion in assets. The Fed reverts to a conventional monetary policy.July 11, 2012: ECB sets overnight deposit rate at 0%.July 26, 2012: Draghi says “The ECB is ready to do whatever it takes to save the euro. And believe me, it will be enough”.2013: BOJ adopts an even more aggressive QE strategy: 80,000 billion yen in government bonds per year (previously 50,000) and 3,000 billion in equity ETFs (1,000 previously).June 11, 2014: The overnight deposit rate becomes negative in the euro zone.September 2014: ECB launches targeted refinancing operations (TLTRO).January 22, 2015: ECB announces its first quantitative easing (QE) program.March 2015: ECB starts asset purchase program (QE).January 29, 2016: BoJ raises deposit rate to negative territory.March 10, 2016: ECB increases its purchasing program and introduces cor-porate debt into its program.March 16, 2016: ECB’s fixed rate tender rates are set at 0%.September 18, 2019: ECB's overnight deposit rate drops to -0.50%.March 12, 2020: ECB releases a budget of €120 billion to respond to the coronavirus crisis.March 15, 2020: Fed announces a $700 billion asset purchase program, includ-ing T-Bills and Secured Home Loans (MBS). It lowers its key rate by 100bp.March 16, 2020: BoJ increased its ETF purchase program to 12,000 billion yen (6,000 billion previously). It also doubled its Japanese real estate mu-tual fund purchase program (J-REIT), now 180 billion yen. Its repurchase of corporate debt securities increased by 2,000 billion yen, 7,400 billion yen.March 18, 2020: ECB launches a €750 billion “emergency buyout program in the face of the pandemic”. By adding its repurchases resumed at the end of 2019 at a rate of 20 billion per month and the envelope of €120 billion released on March 12, its interventions will total €1050 billion in 2020, or nearly €117 billion euros per month.March 2020: Fed, ECB, BoJ, Bank of England, Bank of Canada and Swiss National Bank announce that they will act in concert to improve the supply of liquidity to markets denominated in US dollars.

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1

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CENTRAL BANKS HAVE DEVELOPED A STRONGER AVERSION TO THE RISK OF RECESSION.

THE STABILITY OF THE CURRENT ECONOMIC REGIME REQUIRES LOWER RATES AND, SINCE THERE HAVE BEEN STRUCTURAL CHANGES, THIS WILL PROBABLY LAST A LONG TIME.



rates. Do central banks still believe that the global economy has a deflationary bias? Is this monetary policy efficient? How can pension funds and life insurance companies survive in such an environment?6. The mounting importance of long-term issues such as ine-qualities and climate change. Should central banks meddle in such issues? Are such long-term missions more important than traditional roles? 7. Is Draghi’s slogan “Whatever it takes” becoming a standard independent of the impact on central banks’ balance sheets? In the face of exogenous shocks such as COVID-19, central banks reacted very quickly. How far can they go?8. “New” monetary policy theories are emerging. The current generation of central bankers is far different the former. Is a “mon-etary policy revolution” legitimate? What are its perspectives? 9. Central Banks have developed a stronger aversion to the risk of recession since the GFC, due to the impacts on banks and financial stability. Therefore, they support demand much more than in the past.10. The COVID-19 pandemic endangers populations and econ-omies, so central banks must increase their role in global risks management, whatever the price (size and composition of bal-ance sheets, debt monetization). This is a brand-new situation.

All interest rates fell during the decade, including short and long rates, nominal and real rates, natural rates, and deposit rates. The stability of the current economic regime requires lower rates and, since there have been structural changes, this will probably last for a long time. In addition, there are factors such as the fall in inflation expectations, risk aversion and wage austerity. In most OECD countries, the liberalisation of labour markets has led to a deterioration of income-sharing with employees and an increase in inequality and precariousness, further reasons for continued low interest rates.

In such an environment, bond yields went down dramatically everywhere. To be more precise, a few months ago, 27% of the world’s fixed income was in negative territory at the beginning of 2020 (about $15 trillion of which $1 trillion of corporate bonds). 42% of negative yield bonds in the world were Japanese, 46% were European (of which 13% German and 14,7% French), none were American. 10% of world’s corporate investment grade bonds were in negative territory. Excluding the US, 45% of the world’s investment grade bonds are in negative territory. In Europe, 100% of German and Dutch sovereign bonds were in negative territory, 75% of French, 72% of Austrian, 64% of Belgian, 54% of Portuguese, and 50% of Spanish. In Japan, more than $0,6 trillion of negative yield bonds will mature every year until 2033!


How can interest rates on government bonds be so low, given that government debt has doubled over the last seven years? While that is true, the demand for government debt has quadrupled. Jeremy Siegel , AWIF 2016

If we continue too long with quantitative easing, it will be a real threat to financial stability; but we also see, even in recent days, that exiting QE will be extremely

delicate and challenging. Xavier MUSCA, AWIF 2017

When QE started, interest rates were already low, and the deleveraging process and balance sheet repair, particularly in banking, was not well enough advanced. Therefore, the credit channel was blocked, and QE had only moderate benefits. Jürgen Stark, AWIF 2017

Central banks have a complicated business and I find it hard to second guess them. Overall, since the financial

crisis, the central banks of the world have done very well. We might have had a great depression but the really

impressive thing to me is that they took action quickly in 2008. It is very important to nip these things in the

bud before a depression storyline is established. That was the critical time to take aggressive measures.

Robert Shi l ler, AWIF 2015

They (central banks) were operating on the assumption that the market would take care of itself. They had a rude awakening to the fact that the market wasn’t taking care of itself, which is the lesson to be learned from the crisis. Paul Volcker, AWIF 2013

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HOW IS LONG-TERM INFLATION DETERMINED NOW?

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IS INFLATION REALLY DEAD?There are various explanations for the absence of inflation (see Box 2): lower demand, competition and globalisation, wage austerity, decline in inflation expectations, greater credibility of central banks, lower potential growth, labour market changes, and the rise of e-commerce. However, while the consumer price index continued to decline in advanced economies, inflation has not disappeared. It has partially moved to financial assets such as stocks, real estate, and private equity.

In other words, inflation is underestimated at present. Therefore, the Fed has started calculating a new price indicator - the “Underlying Inflation Gauge” (UIG). This captures inflation (CPI, PPI, PCE, Import prices, export prices), real activity (ISM, unemployment, average weeks unemployed insurance), money (money stock, non-borrowed reserves of depository institutions), and financial data (Fed funds, T-Bills rate, bond yields, USD FX rates, NYSE index, NYSE volume, S&P PER, DJIA, future oil contracts, S&P futures.). Had the Fed been using a 2% target based on the UIG, former chairs Janet Yellen and Ben Bernanke would have been compelled to raise interest rates much earlier than they did.

Some studies have tried to calculate the UIG for the Eurozone and Japan. The forecasts do not show any sign of a meaningful increase in core inflation in the Eurozone. The levels are much lower than the ECB’s “below but close to 2%” inflation target and would justify a cautious approach to policy normalization in the upcoming period. The Japanese UIG points to a new moderation of core inflation, well below the BoJ’s 2% target.

There is no longer any relationship between employment and inflation, nor between money supply (M2/GDP, monetary base/GDP) and inflation (see Box 3). If one considers that the central banks arbitrate between short-term growth and inflation and monitor the evolution of the monetary aggregates that determine inflation in the long term, one can understand that they are a little lost. If inflation is no longer determined by the growth of the money supply, what is the point of monitoring monetary aggregates?

One of the key questions is how long-term inflation is deter-mined now. Currently, it appears that the structure of the labour market determines it. Greater labour market flexibility would lead to lower long-term inflation. Monetary policy would there-fore ultimately have relatively little impact; it would “accom-pany” the level of inflation more than determine it.

The question whether we are correctly measuring inflation is not new. In the mid-1990s, the Boskin commission concluded that inflation was overestimated by 1% per year, while in the Eurozone, there were several analyses that concluded that real inflation was higher than official indices. At present, inflation is supposedly underestimated, in part because of the way housing and rental prices and the impact of technology are included

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I would not claim to understand why exactly the long-term rates are where they are, but I certainly understand why they are quite low. Inflation, near term growth and long term growth were all pushing towards very low rates of return. Ben Bernanke, AWIF 2014

What was not fully apparent at the beginning is that we probably had not foreseen that you could have

such contagion effects in OECD countries. The speed, strength and scope of contagion have

had a huge effective impact. Phil ippe Mil ls , AWIF 2013

HOW TO EXPLAIN INFLATION?1. The “historical” approach: The idea that a growth phase must be translated - with a certain delay - into a resumption of inflation is so common that it is seldomly questioned. Yet Cooley and Ohanian (1991) were able to count a very large number of periods since 1820 during which economic expansion did not result in a significant increase in prices. In some cases, prices even fell. It all depends on the structure of growth. When the expansion is more related to demand than supply factors it modifies the impact on prices.2. Supply-demand models: The analysis of supply and demand should make it possible to detect price changes. An increase in demand while supply stays stable would lead to higher prices while a simultaneous and equivalent increase in both would have no net effect on prices.3. The “potential growth” model: Another way to predict inflation is to use the concept of potential growth. This is the level of growth that defines the onset of inflationary pressures. The absence of inflationary pressures can only be explained if growth is below potential growth.4. The statistical approach (decomposition of inflation): Cyclical inflation is traditionally distinguished from structural inflation. It is possible to compare cyclical factors (such as inflation expectations a year ahead, oil prices, wage growth, the Euro/Dollar exchange rate, the output growth gap) and structural factors (such as potential growth, the natural interest rate, the trend in the employment rate, the overall stance of ECB mone-tary policies). 5. Cost models: This model thus focuses on what is driving rising pro-duction costs. An increase in production costs ends up being passed on to the price of finished products, and thus to the general level of prices.

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2

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IS INFLATION MEASURED PROPERLY? PROBABLY NOT.

IN PRACTICE, THE ECB HAS BOTH EXPLICIT AND IMPLICIT OBJECTIVES.

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in price indices. This explains why, over the past twenty years underlying inflation indicators have been developed. Some core CPIs exclude volatile components like energy and food prices or assign smaller weights to more volatile items, and some “super-core CPIs” increase the weight of services and consider the output gap. The core measures are less volatile than headline inflation rates and can help policymakers. At present, all of them point to a lack of inflation in the Eurozone.

To sum up, what we are seeing is not the death of inflation, but the death of high inflation. We are in the “flat-flation” phase (low and stable inflation), and the number of two-digit and three-digit inflation countries has dropped considerably over the last 30 years. This is positive, since high inflation is usually associated with political and social disruption.

MONETARY POLICIES HAVE REACHED THEIR LIMITS: THE EXAMPLE OF THE ECB

The financial fragmentation of the Eurozone and the dysfunction of the interbank market cannot be solved by the ECB alone; disintermediation, economic growth and the relaying of fiscal and tax policies are indispensable levers. The ECB has also faced problems of liquidity on sovereign debt, which underlines the limits of an administered market.

THE FOUNDATIONS OF ECB POLICY

In theory, the ECB has a single objective: price stability (the internal value of the euro). But in practice it has multiple targets, as do all central banks.

Following the GFC and the debt crisis the ECB provided liquidity to banks, kept short-term rates low, and anchored bond yields at low levels, while mitigating deflationary pressures, and ensuring favourable financing conditions. At the same time, it did not want to fund public deficits directly, provide direct support to banks by buying up bank bonds or distressed assets (unlike the US with QE), or drive the euro down (unlike Japan with the Yen). The ECB was also indirectly reducing sovereign default or insolvency by buying up sovereign debt bonds, fostering the development of a “non-banking” system, and reducing liquidity on fixed-income markets.

ASSESSING THE IMPACT OF ECB MONETARY POLICY

There are seven channels through which monetary policy affects the real economy:

1. Interest-rate effect: Drive interest rates as low as possible and keep them there. The ECB has pulled this off.2. Spread effect: Narrow spreads, especially for countries on the periphery. The ECB has also pulled this off but to do so it is buying up more than the net issuance of the entire Eurozone.3. Wealth effect: Boost economic agents’ wealth, mainly by driving up the equity and real-estate markets.

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I do not think there is a puzzle and I think we will see inflation

again in our lifetime.” Olivier J. Blanchard, AWIF 2016

The deficits went on forever and the surpluses went on forever until the music stopped, and when the music stops you have to make some big adjustments, and that is difficult. Paul Volcker, AWIF 2013

PHILLIPS CURVE, NAIRU, NAWRU, NAICUThe relationship between inflation and unemployment (known as the “Phillips curve”) is one of the cornerstones of the cost-model of inflation and of traditional monetary policy. A low unemployment rate puts pres-sure on wages and therefore on prices; the lower the rate, the stronger the relationship. This trade-off between unemployment and wage growth, and therefore between inflation and deflation, can be exploited by the corporates and by central banks.This relationship has been criticised. According to opponents to the Phillips curve, monetary policy cannot sustain unemployment below its “natural rate” (determined by structural factors) without leading to higher inflation (it explains the NAIRU = the Non-Accelerating Inflation Rate of Unemployment). In the long run, the Phillips curve must be vertical. In the short run however, there is enough scope for monetary policy to smooth out fluctuations around the independent path of potential output by affecting cyclical unemployment (and the difference between observed unemployment and the NAIRU), and thus inflation. This relationship is no longer very strong. US unemployment is below structural unemployment, for example, but inflation is still below its target. In recent decades the slope of the original Phillips curve has flattened worldwide - the relationship between unemployment and inflation appears to have weakened. The substantial variability in unemployment has had less effect on inflation, which has remained anchored at relatively low levels in the US and the Eurozone, despite large swings in the economic cycle. Using NAIRU, NAWRU (Non-Accelerating Wage Rate of Unemployment) or Greenspan NAICU (Non-Accelerating Inflation Capacity Use) does not change the results. In some countries, the yield curve is extremely flat.

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3


THE ECB'S MONETARY POLICY HAS BEEN VERY EFFICIENT IN GUARANTEEING LOW RATES AND SPREADS TO MAKE CREDITORS, INCLUDING COUNTRIES, MORE SOLVENT AND LESS RISKY, LIMITING MARKET VOLATILITY.



4. Bank lending effect: Boost bank lending, particularly to SMEs. The ECB has tried this but the impact has been minimal since companies have taken advantage of low rates and investors’ quest for spreads to refinance on the capital markets. Mid-market and small cap companies remain a cause for concern, since they depend on bank lending, which has fallen for seven consecutive years.5. Currency effect: The objective is to drive down the euro, which increases competitiveness. This cannot be an explicit goal of the ECB, which has no mandate to steer the euro exchange rate. However, its QE announcement did weaken the euro in 2015, albeit for a brief period when it levelled off with the drop in emerging currencies, the yuan depreciation and change of FX regime, and the end of the dollar’s appreciation.6. “Inflation expectations” effect: The ECB wanted to eradi-cate deflationary pressures and trigger a virtuous price-con-sumption cycle. It has not really been successful at this, at least for now. Deflationary risks have receded, but the price-consumption spiral has not reversed itself, and inflation expectations are still very low. 7. “Confidence” effect: Achieving a significant and sustained increase in confidence indicators was necessary for investment and growth. QE’s impact here has been mixed, but without ECB action these indicators would have fallen again.

Overall, the ECB's monetary policy has been useful in guarantee-ing low rates and spreads to make debtors, including countries, more solvent and less risky, limiting market volatility. But this is somewhat artificial, since it depends on the ECB's presence in the interest rate markets, which reassures financial markets. It is another reason for long-term interest rates to remain low.

QE AND NEGATIVE INTEREST RATES: WHAT DANGERS?

Ultra-low interest rates and QE have been successful in pre-venting deflation and additional debt crises or surges in default rates of corporates. However, there were a distrust (see Box 4) and several criticisms of QE programmes:

• 1st criticism: QEs are keeping interest rates (short and long) at artificially low levels; • 2nd criticism: The more time goes by, the harder it is to exit QE; • 3rd criticism: They are dampening market volatility artificially; • 4th criticism: They are getting market participants accustomed to a calm environment; but this “new normal” is anything but normal; • 5th criticism: They are skewing asset values; • 6th criticism: They are generating potential bubbles; • 7th criticism: They could be causing financial crises; • 8th criticism: They are encouraging governments to drag their feet on fiscal and tax measures (although they could have more proactive fiscal and tax policies without drawbacks such as rate hikes); • 9th criticism: While low rates are a tax on savings, QEs (and negative rates) are a subsidy on debt accumulation;


The big question for the ECB, and it is highlighted by many members of the board, is how to try to solve the fragmentation of the eurozone, and how they should address the fact that the transmission channel for monetary policy does not work in some euro area countries. Phil ippe Mil ls , AWIF 2013

The current regime will be extended to its limits - but one day there will be a sudden tightening

of financial conditions, like thunder in a blue sky. Pascal Blanqué, AWIF 2019

The real question is not whether inflation is dead, but rather how far we go in terms of complacency or excessive rigor: we must avoid becoming complacent when inflation is close to the target, but excessive rigor can be dramatic too. Phil ippe Ithurbide, AWIF 2016

The big shift in central bank portfolios will have an important effect on increasing real long-term interest

rates. In my sense, the markets don’t yet reflect that. Martin Feldstein, AWIF 2017

When people talk about normalizing interest rates, they are almost surely wrong. Imagining that interest rates will be anything like their pre-crisis level for quite a while, as far as I can see, seems to require some change in the fundamentals that we just do not see happening at the moment. Paul Krugman, AWIF 2014

QE is short- term gain with long-term pain. Phil ippe Ithurbide, AWIF 2017

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NEGATIVE INTEREST RATES AND QE PROGRAMMES BEAR DANGERS.

INFLATION TARGETING UNOFFICIALLY DIED IN THE 2010s.

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• 10th criticism: QEs have shrunk risk premiums and squeezed spreads to such a point that spread-rating matrices mean little. Some investors can no longer buy bonds since the spread no longer corresponds to the rating or the risk incurred. What is the solution: no longer invest or revise spread-rating matrices and raise portfolio risk? • 11th criticism: QEs tend to deteriorate market liquidity;• 12th criticism: QEs tend to increase inequalities through the appreciation of financial assets.

Some central banks have pushed interest rates into negative territory, which has drawn criticism:

• 1st criticism: They are not truly necessary for access to financ-ing at low cost. Companies had, and still have, access to the capital markets (except SMEs, which rely mostly on banks); • 2nd criticism: A reduction in bank deposits with the ECB (if any) does not ensure an additional increase in bank lending to companies in the least favoured regions; • 3rd criticism: Having negative interest rates in no way guaran-tees that the interbank market will work better; • 4th criticism: Banks have liquidity (which they then deposit with the ECB) precisely because the ECB is injecting so much of it; • 5th criticism: The reduction of rates into negative territory is undermining banks’ profitability - in the case of the Eurozone, all banks, both core and peripheral; • 6th criticism: By sending short and long rates into negative territory, the ECB is sending negative signals to the financial markets, including for banking stocks; • 7th criticism: Negative rates push the gap between capital markets interest rates and banks’ cost of capital wider.

INFLATION TARGETING: IS IT ILLUSORY?

Inflation targeting was born in New Zealand in March 1990. Admired for its transparency and for facilitating accountability and has been implemented in other countries such as Canada, Australia, the United Kingdom, Sweden, South Korea, Turkey, and Israel. It also became popular in Latin America (Brazil, Chile, Mexico, Colombia, and Peru) and in developing countries (South Africa, Indonesia, Thailand). Inflation targeting unofficially died in the 2010s, when it became clear that those who had been relying on it had not paid enough attention to asset-price bubbles. But its death was never announced, owing to uncertainty over what should succeed it, so many central banks have maintained inflation targets, mostly around 2%.

In past economic cycles, the Fed began to raise interest rates in the middle of the expansion period. This occurred in early 1994 for the period from 1992 to 1999, and at the end of 2004 for the period from 2002 to 2007. But in the current economic cycle, the Fed raised its interest rates until 2018 (last rate hike in December 2018, first rate cut in July 2019), while the unemployment rate has been falling since 2010. The reason is simple: full employment in the United States no longer brings back inflation. So, the Fed concluded that inflation would not return, but that there was a

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In half of the cases since 1945 (six out of the last 12), monetary tightening cycles were followed by a US

economic recession within two years. The fear is that the Fed moves too quickly and, especially, too strongly.


At a certain point in time, the business cycle will come to an end. What kind of ammunition do central banks have available, if they are not willing to end or taper quantitative easing or raise rates? Jürgen Stark, AWIF 2017

NEGATIVE INTEREST RATES: WHY THE DISTRUST?The impact of negative rates on the economy, investments and savings behaviour is not efficient due to negative drivers:1. Additional rate cuts are unnecessary: Access to financing has improved

considerably in two years, more so since the implementation of the QE programme, which has anchored interest rates at a low level for a long time;

2. A decline in bank deposits with the ECB does not guarantee an additional increase in bank loans to businesses in the most disadvantaged zones;

3. If the banks do have liquidities, it is precisely because the ECB is injecting them in quantity – one mustn’t confuse causes with consequences;

4. The drop in deposit rates is dragging down banks’ profitability (all banks, whether in the core zone or on the periphery) just when they are being shaken up by the markets and even being asked to give the economy more credit;

5. The continued decline in rates is feeding into fears of deflation more than it is fighting them;

6. An excessive cut in rates inevitably creates abnormal, excessive valuations;

7. By sending short-term and long-term interest rates into negative territory, the ECB is also sending negative messages to the financial markets.

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4


RATHER THAN TARGETING INFLATION, AN ALTERNATIVE WOULD BE TO TARGET THE PRICE LEVEL.



need to normalize monetary policy to be able to use it counter-cyclically in the future. It has now done so in face of COVID-19.

Under the inflation targeting rule, interest rates must be raised when price increases exceed a target level. This approach has been criticised. Stiglitz, for example, considers that “this rudimentary method is based on weak economic theory and little empirical evidence… and there is no reason to believe that, whatever the source of inflation, the best solution is to raise interest rates.” In any case, the current inability of central bankers to get inflation to converge toward their 2% target, despite the scale of the measures taken since the financial crisis, has led them to question their strategy. The Japanese Finance Minister encouraged the BoJ to be more flexible on the inflation target given its adverse effects. Olli Rehn of the ECB warned that prolonged low interest rates could reinforce reliance on unconventional tools, which have not been effective for inflation.

However, there is reluctance to abandon the strategy of inflation targeting since it has long made it possible to strengthen the legitimacy and credibility of monetary policies. ECB Chief Economist Praet acknowledged in 2019 that it “may not be the right time” for a review of both tools and strategy. Draghi shared this caution, indicating that “in a dark room we must move slowly”. In November 2018, however, the Federal Reserve decided to launch a broad review of its monetary policy, including inflation targeting. The conclusions will be made public by mid-2020.

The question of whether the monetary policy of a central bank should consider deviations from the inflation target is not new. It comes down to choosing between an inflation targeting or a price-level targeting strategy. Since the crisis, the concept of price-level targeting has gained ground as it has become clear that central banks are failing to bring inflation back on target. Rather than targeting inflation, the alternative would be to target the price level.

If the strategy is based on an inflation target, the fact that inflation has long remained below target does not in itself influence future monetary policy, which aims only to bring inflation back to the target level. But if the strategy is based on the price level, the central bank sets a moving target, with the target price level increasing each year with the inflation target. If inflation is significantly lower than the target this will have to be offset by inflation above the target. For example, if inflation is at 1% (instead of 2%) for five consecutive years, then the Fed would tolerate 3% inflation for five years to compensate for “lost” inflation. This would reinforce the idea that the inflation target is symmetric.

Price-level targeting could become a dangerous strategy. If the policy of “price-level targeting” is not credible for households, companies, and investors, exceeding the inflation target could eliminate the anchoring expectations of inflation, which would complicate the control of the inflation rate. One can also worry


For the 20-year existence of the euro the average rate of inflation has generally been aligned with the current

interpretation of the ECB’s mandate. What counts is its trend, which is why the ECB looks closely at inflation

expectations, both in markets and in surveys. Natacha Val la, AWIF 2019

Quantitative easing and negative interest rates are based on the wrong diagnosis: the diagnosis of deflationary risk. In my view, this risk was never real. Jürgen Stark, AWIF 2017

The Germans are not on board with what is actually needed, which is higher inflation

and some fiscal stimulus.

What is actually true is that, in an environment like this, where interest rates are zero and the Central Bank is trying desperately to get traction, the lower the inflation the worse things are, so we are having deflationary problems even though we do not actually have deflation in Europe. We would be in substantially better shape if Europe actually had 2% inflation, which is the target, and I would argue we would be in better shape still if it were 3% or 4%; that would make life a lot easier.

Paul Krugman, AWIF 2014

When you look at recent central bank or regulatory performance, it is obvious that they performed heroic actions once the crisis started, but why was there a crisis in the first place? Paul Volcker, AWIF 2013

The starting point would be to acknowledge that some inflation is a good thing, and in Europe (and in the US, but not so severely) we do not have remotely enough. Paul Krugman, AWIF 2014

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WILL THE MAGNITUDE OF CYCLES NOW BE DETERMINED MAINLY BY EXOGENOUS FACTORS?

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about this policy raising the risk of bubble formation and volatility on the financial markets. “Low rates for longer” implies that risky assets (equities, corporate bonds, real estate) would reach high valuation levels, driven by the belief that monetary policy should remain accommodative as long as the accumulated inflation deficit is not eliminated. The need to encourage a prolonged overrun of the inflation target to correct the inflation deficit could further increase these concerns. All of this highlights the complexity of the price-level targeting approach.

How do you choose between inflation-targeting and price-level targeting when, as Janet Yellen said, “The reason why inflation remains low is a mystery” (Yellen, 2017 and 2018). Moreover, the absence of inflation also means that business cycles do not depend on inflation. The absence of rising inflation at the end of the expansion period keeps interest rates at very low levels, as well as maintaining inflation expectations low (see Box 5 on inflation regimes).

Given these developments, can we hope, or fear, that economic cycles have disappeared and that growth can reach its long-term potential?

This scenario is attractive, but not credible. If it is neither inflation, nor rising interest rates, nor excessive debt, nor the deterioration of the financial situation of corporates, nor asset bubbles that will cause the next recession, what will it be?

• Low interest rates are a condition that improves solvency but does not guarantee it. Factors such as wage bargaining and value-added sharing have not fully disappeared, and exogenous factors such as escalating trade conflicts, geopolitical risks or pandemics such as COVID-19 remain a threat. In short, economic growth does not depend on the level of inflation alone.

• Low inflation has considerably reduced the likelihood of recession at the end of the expansion period, but many threats remain. They include abnormally low interest rates leading to a rapid rise in the prices of financial assets, excessive valuation in risk premiums, and an incentive to increase debt.

To conclude, cycles have not completely disappeared. Monetary policy cannot be guided by inflation or inflation alone, at least as long as economies and financial markets have not returned to the “old normal” (assuming this is possible, which we strongly doubt), when inflation is dormant and does not determine business cycles, and when cycles are due to exogenous factors.

LOW INFLATION AND RATES, THE PARADOX OF TRANQUILLITY AND CREDIBILITY: SOME DANGERS TO COME?

Low and stable inflation for long periods tends to favour exces-sive risk-taking and leveraging, especially if the central bank is credible. Indeed, if economic actors are assured of the central

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DIFFERENT INFLATION REGIMES CAN BE IDENTIFIED• Hyper-inflation: high inflation periods are always associated with se-

vere political and social disruption. High inflation is nowhere and never “a merely monetary phenomenon”.

• Inflation: a widespread and cumulative increase in prices, which drives up the rate of inflation or keeps inflation excessively high. To assess the level of inflation, a comparison of effective inflation with an inflation target is highly common; One can also consider price changes as “in-flation” when they alter the savings and consumption behaviour, with direct consequences on GDP outlook : as such, inflation would be neither a matter of level or target, but a matter of impact.

• Disinflation: declining rates of inflation; inflation still positive but de-clining. Disinflation policies were highly popular in the 1980’s and 1990s amongst central bankers.

• Flat-flation(or Low-flation): stable and low inflation;• Deflation: regime of simultaneous contraction of the rate of inflation and

economic activity. Periods of deflation often stems from an excess of recourse to credit, resulting at one point in a reduction of indebtedness (the intense deleveraging period is referred as “debt deflation”) which, when it comes from public excesses, strongly constrains economic policy. It then struggles to support growth. When deflation reaches high levels, it is called depression;

• Stagflation: low economic growth paired with high inflation. This situation is not so frequent, and the last episode dates from the 1970s.

The biggest myth in the world today is that it is the Central Banks that have driven interest rates to zero.

This is false. It is fundamental factors in the world economy that have driven interest rates to zero, and all

the Central Banks have done is follow them down. Jeremy Siegel , AWIF 2016

The role of a central bank is actually not to go down the road of doing things which are inherently the responsibility of government. Lord Mervin King, AWIF 2014

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LOW AND STABLE INFLATION FOR LONG PERIODS TENDS TO FAVOUR EXCESSIVE RISK-TAKING AND LEVERAGING, ESPECIALLY IF THE CENTRAL BANK IS CREDIBLE.

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bank’s commitment to price stability their inflation expectations become anchored around its inflation target, so the rise in credit and asset prices will not necessarily translate into higher infla-tion. This is positive to some extent. However, the maintenance of price stability does not encourage the central bank to tighten its monetary policy, so that it ultimately allows financial imbal-ances to accumulate. This is known as “paradox of credibility” (Goodfriend (2001), Borio and alii (2002, 2003)).

History proves that the main drivers of financial crises are credit and indebtedness. Minsky described three different types of financing or debt:

• Hedge financing: payment of both debt and interest are hedged by the expected return of the investment. This debt is healthy.

• Speculative financing: the expected return covers interest only. Therefore, the debt is systematically rolled over.

• Ponzi financing: the expected return does not cover anything, neither debt nor interest payments. The debt rises or assets are sold, which is dangerous and unsustainable.

Minsky also focused on the level of instability. The longer the period of stability, the higher the unhealthy debt, the deeper the financial crisis, with more speculative or even Ponzi financing. This is what is known as the “paradox of tranquillity”. Are we living in such an environment at present? Probably to some extent.

LOW INFLATION AND HIGH DEBT: IS CENTRAL BANK INDEPENDENCE AT RISK?

The rationale behind central bank independence is well known (see Boxes 7 and 8). You need an independent, neutral institution, since governments have a natural tendency to manage monetary policy with little respect for price stability. They generally have an inflationary bias to satisfy the expectations of private economic players, especially before elections. It is this lack of credibility that the transfer of monetary policy to an independent central bank is supposed to offset. Entrusting this institution with the principal goal of maintaining price stability reduces the temptation to try to revive the real economy at the price of higher inflation.

Critics claim that the main problem of central bank independ-ence is that it was introduced to solve a problem – high infla-tion – that no longer exists. Does their independence prevent them from using more direct and effective solutions to solve current problems? What should their role be when the main problem is not inflation, but deflation, over-indebtedness and financial crises – in other words, the world since 2008? Accord-ing to a CFM-CEPR survey of European economists in 2017 the traditional argument that central bank independence is neces-sary to tame inflation was relevant for only 50% of respondents. Critics also point out that the desire to preserve their inde-pendence often prevents central banks from responding to economic problems in the most direct and effective way:

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Big Central Bank balance sheets have become the norm for advanced economies and are a starting point for thinking about monetary policy. However, the balance sheets, which

are now also filled with fixed income assets issued by the public sector, affect the independence of the banks and make

them potential tools for financing the economy. Natacha Val la, AWIF 2019

WILL THE IDEA OF CENTRAL BANKS AS INDEPENDENT INSTITUTIONS BE PUT ASIDE?Independence as defined in the European Treaties goes far beyond institu-tional, organizational and operational independence ... it was also a matter of assigning the ECB a single objective, price stability (i.e. the internal value of the euro). Already criticized during the creation of the ECB and the introduction of the euro, this choice has shown its limits.Theoretical limits: the problem of coordination of monetary and fiscal policies remains intact, and the lack of flexibility due to the ex-ante allocation of an instrument with a single objective (price stability), or the reducing assumption of perceived inflation only as an exclusively monetary phenomenon do not appease the debate.Empirical limitations: Is central bank independence an absolute necessity to defeat inflation? Certainly not. The Bank of Japan is not very independent of political power, but it performs very well (too well) in controlling inflation... probably because the nature of inflation has changed.The reality is even more complex: are central banks really still independent when playing, as in the 2008 systemic crisis, such a role of lender of last resort? Is the ECB really independent when it agrees to finance the Greek, but also Irish and Portuguese, debt by relaxing the conditions it accepts as “collateral”, in return for liquidity provided, the “junk bonds” attached to the sovereign debt of these countries? Does the phenomenon of moral hazard not diminish their degree of independence? As a consequence, only 30% of Germans trust the European Central Bank (ECB), according to recent Eurobarometer surveys of public opin-ion. In sum, it seems fairly easy to question the true degree of independence of central banks in developed countries, even for central banks that have provided evidence of the credibility of their monetary policy such as the ECB or the Fed.If we can question the advantage that the independence of the central banks would offer in terms of cyclical regulation, should we then go back to a strict independence, should the role of the central banks be supplemented to the detriment of the concept of independence, or should one completely abandon the status of independence, a status that is ultimately very recent? Reviewing their status, role, mission and independence seems inevitable, and en-larging the role of central banks is a inescapable fact. Charles Goodhart (a former member of the Bank of England's Monetary Policy Committee, and a well-known and respected expert of central banks) has even suggested that “the idea of the central bank as an independent institution will be put aside” (Goodhart 2010). He sees central banks as increasingly involved in interactions with governments on issues like regulation and sanctions, debt management and bank resolution.

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THE MAIN PROBLEM OF CENTRAL BANK INDEPENDENCE IS THAT IT WAS INTRODUCED TO SOLVE A PROBLEM – HIGH INFLATION – THAT NO LONGER EXISTS.

IT APPEARS THAT REVIEWING THE ROLE OF CENTRAL BANKS IS INEVITABLE AND THAT ENLARGING IT IS THE LIKELY RESULT.

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• The single-minded target of the ECB to preserve price stability or the internal value of the euro was already strongly criticized in the 1990s;

• The current tools (QE, ultra-low interest rates) distort finan-cial markets and can have serious consequences for financial stability;

• Monetary policy is also asymmetric. Central banks have more tools to restrain inflation than to stimulate it, despite the present problems of disinflation, over-indebtedness, and the risk of another financial crises.

In other words, conventional policies have reached their limits. Central banks would be better prepared to face the current economic challenges if they gave up some independence and worked together under the control of democratically elected governments.

The rising rejection of elites and technocrats, fuelled by populist parties in some countries, is increasing the mistrust of central banks, which are increasingly pressured by governments. This could call into question the current balance and revive the debate on their institutional and operational independence. As The Economist pointed out in 2018, monetary policy is becoming dangerously political in some countries:

• In the United States, President Trump threatened to sack Jerome Powell, the Fed’s chairman, whom he accused of hampering US growth by keeping interest rates too high;

• In the UK, Brexit supporters criticised the Bank of England’s involvement in the Brexit debate, while others criticized the Bank’s independence.

• In Turkey, President Erdogan lashed out at the central bank.• In India, the government replaced the governor of the central

bank with a political sympathizer who lowered interest rates in the run-up to the elections.

It appears that reviewing the role of central banks is inevitable and that enlarging it will be the result. Charles Goodhart (former BoE board member) even suggested in 2010 that “the idea of the central bank as an independent institution will be put aside”. He sees central banks increasingly interacting with governments on issues like regulation and sanctions, debt management and bank resolution (see Box 6).

The reason why both central banks and governments face pressure to change is clear. Disinflation, low interest rates and globalisation have had an important impact. The inclusion in the labour force of two billion workers from emerging countries put pressure on wages. Governments tried to compensate for some of the negative effects of this competition, such as lower growth and unemployment, with deficit spending and became complacent about rising global debt. While middle-classes started growing in many emerging countries, those of advanced countries were increasingly stressed, with declining employment opportunities and disposable income and growing inequality. This contributed to the rise of populism.

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There were huge structural problems across global economies, as deficits in some countries were being financed by surpluses in others, and no one was taking control of the situation. Paul Volcker, AWIF 2013

Independent central bankers are today confronted with a considerable challenge. They must reconcile conflicting

objectives since the borders between fiscal, monetary and prudential policies have been blurred. In turn, this is

raising serious political risks. Xavier Musca, AWIF 2015

In the US, we have this fiction of Fed independence, but when the Fed starts gathering powers that really fall under the Congress and the President, sooner or later that will be challenged. One way it could be challenges is where market interest rates start going up, for any of several reasons. Thomas Sargent, AWIF 2014

THE INDEPENDENCE OF CENTRAL BANKS IS A RELATIVELY NEW CONCEPTA government has a natural tendency to weakly manage monetary policy, given the objective of price stability. Often for political reasons (com-placency or lack of courage) or electoral (“gifts” in the election period), and sometimes for financial reasons (the reduction of the weight of the debt), It would be at the origin of an inflationary bias coming from its inability to anchor the expectations of private economic agents to a low level. It is this lack of credibility of the government that the transfer of monetary policy to an independent central bank is supposed to offset. The theory – relatively recent – lends to an independent central bank the credibility that a government does not have. The central banks of the developed world gained independence only in the 1980s and even in the 1990s. European banks obtained it under the Maastricht Treaty and had to amend their statutes even before the end of the 1980s adoption of the Treaty. The case of the Bank of England is fairly representative: founded in 1694, it only achieved operational independence in 1997, after more than 300 years of existence. It was then a question of pursuing a 2% inflation target set by the state.

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INFLATION NEVER DIES; IT SOMETIMES JUST SLEEPS, AS IT IS DOING NOW.

HETERODOX MONETARY POLICIES HAVE GAINED GROUND.

WITHOUT A MONE-TARY POLICY DEDI-CATED TO MONEY CREATION AND A FISCAL POLICY DEDICATED TO FULL EMPLOYMENT ONLY MACRO-PRUDENTIAL POLICIES ARE LEFT TO ACHIEVE FINAN-CIAL STABILITY. WILL THAT BE ENOUGH? CERTAINLY NOT.

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The pressure on governments and central banks to resolve these problems will continue. Among the favoured solutions are lower taxation and higher wages. In other words, the shock that may be the only way for inflation to rise could come soon, earlier than generally expected. Therefore, fighting inflation must remain in the monetary policy toolbox. Inflation never dies; it sometimes just sleeps, as it is doing now.

MONETARY POLICY VERSUS FISCAL POLICY: MODERN MONETARY THEORY AND DEBT MONETISATION

The environment of high debt, lower growth, and low inflation has fundamentally changed monetary policies, which are much more accommodating than in the past. Since they have had little impact on inflation, credit, and macroeconomic balances, “heterodox” monetary theories gained ground recently. Some of them are not totally new, but they all aim to give monetary policy a new role.

FROM ORTHODOXY TO HETERODOXY: HELICOPTER MONEY, MODERN MONETARY POLICY

The debate revolves around the following:• If an expansionary monetary policy is not capable of restoring

inflation, as is the case in Japan and in the Eurozone, then “neo-Fisherism” must be followed. This means that in the long term the nominal interest rate would determine inflation. Said differently, to have low inflation in the long run, you need permanently low nominal interest rates.

• If we nevertheless want to use monetary policy, we must target monetary creation and not use large aggregates. Targeting the economic agents whose expenditure we want to boost is essential. This approach is known as the “helicopter money” theory.

• If monetary policy fails to boost credit, it cannot boost growth. Fiscal and tax policies must therefore be given a central role, but this would create a difficult policy-mix. It would make the European logic of using monetary policy for price stability and future growth and, with fiscal rigor, financial stability, no longer suitable. Going further is the idea that we should use fiscal pol-icy only to maintain full employment and monetary policy only to finance the public deficit, with monetary creation prevent-ing a rise in interest rates. This is the heart of Modern Mon-etary Theory (MMT), or “neo-chartalism” (Bell (1998, 2000), Wray (1998, 2000)), which resurfaced recently (see Fullwiler - Kelton – Wray (2012), Wray (2015) and Kelton (2020)).

The move from conventional theory to Modern Monetary Theory is simple:

• Under conventional theory, monetary policy keeps inflation below or around the inflation target and fiscal policy contributes to full employment, constrained by the solvency of states. If debt is too high, fiscal rigour is unavoidable to avoid large increases in interest rates which would dampen solvency further. Without such rigour, debt crises would emerge sooner or later. The European debt crisis of 2011-2012 is an example.

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INDEPENDENCE OF THE ECB: WHAT DOES IT MEAN EXACTLY?It should be recalled that the independence of the ECB is based on five pillars set out in the Statute of the European System of Central Banks and in the Treaty on the Functioning of the European Union.• Institutional independence: The ECB must not solicit or accept instruc-

tions from an institution, government or other body of the Union. The governments of the Member States and the other institutions of the European Union are also not allowed to influence the decision-making bodies of the ECB.

• Personal independence: The bylaws protect the personal independence of the members of the Executive Board of the ECB, who are appointed for a non-renewable term of eight years and can only be removed from office in the event of serious misconduct. This allows them to make responsible and objective decisions.

• Functional and operational independence: The ECB's statutes give it the necessary powers to achieve the objective of price stability, and the Eurosystem alone exercises the power of monetary policy in the euro area. The ECB cannot lend directly to the public sector.

• Financial and organizational independence: In order to further limit external pressures and influences, the ECB and the national central banks have their own financial resources and revenues.

• Legal independence: The ECB also has its own legal personality and can thus appeal to the Court of Justice of the European Union to assert its independence, if it becomes necessary.

The ECB, however, has accounts in return for this independence. Every quarter, the President of the ECB takes part in a hearing before the Committee on Economic and Monetary Affairs of the European Parliament. Members of the European Parliament can also send written questions to the ECB.

It is true that in a world in which rates of return are low, basic math tells you that asset prices tend to be high. We are in a low return world, at least in terms of current assessments of rates of return and

growth. While asset prices have adjusted, you should not expect them to continue to grow at the rate that

they grew say last year, for instance. Going forward, you expect the returns to be low.

Ben Bernanke, AWIF 2014

One of the key problems is that central banks want money flows to be stable, but the rapid pace of information in today’s markets makes flows increasingly unstable. John Lipsky, AWIF 2013

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IF INVESTORS ARE CONFIDENT THAT ALL SOVEREIGN DEBT, EVEN WHEN IT IS DIFFICULT TO SELL, IS BOUGHT AS A LAST RESORT BY THE CENTRAL BANK, DEFAULT BECOMES IMPOSSIBLE.



• With MMT, there is a new role for monetary policy - money creation and financing deficits - and a new role for the fiscal policy - full employment. The key questions are whether MMT represents a risk for financial instability and hyperinflation. Without a monetary policy dedicated to money creation and a fiscal policy dedicated to full employment only macro-prudential policies are left. But macro-prudential policies are not efficient enough to limit excessive debt or excessive valuation.

The table below presents the evolution of monetary policy, from version 1.0 (interest rate policy) to version 2.0 (quantitative programs), to version 3.0 (helicopter money) and finally version 4.0 (MMT).

The monetary theories Monetary Policy The contents

Conventional monetary policy

Monetary Policy 1.0 (MP 1.0)

Traditional Interest rate policies with inflation targeting

Non-conventional monetary policy


QE programmes to support growth, solvency, banks

Helicopter money theory


Target monetary creation by distrib-uting money to the agents whose expenses we want to support

Modern Monetary Theory


Monetary policy to finance deficits, fiscal policy to create full employment (and macro-prudential policy for financial stability?)

DEBT MONETISATION: A SOLUTION?

For a central bank to create money and finance deficits goes far beyond the traditional mission of central banks, be it the BoJ, the BoE, the Fed, or the ECB - although they are all different. Even in countries where the central bank is dependent on the government, it is never assigned these roles. This indicates how unorthodox MMT is.

But on closer inspection, we have already started monetising public debt if we define this as the state printing money for its financial needs rather than borrowing or issuing debt as it would normally do. The term is also often used to describe a purchase of public debt by the central bank (QE), a solution which has been effective in crises. If investors are certain that all sovereign debt, even when it is difficult to sell, is bought as a last resort by the central bank, default becomes impossible and they will continue investing. In the Eurozone, the monetisation of public debt ended the sovereign debt crisis. It also improved the solvency of the borrowing agents (including states) by lowering long-term interest rates.

However, QE is criticised since it removes the risk premiums on many bonds and can create excess liquidity which can turn into asset price bubbles. Moreover, it delays needed structural reforms and favours budget laxity, which ultimately can lead to increased debt and a crisis of confidence. To see if QE is a true monetisation of debt we must look at the evolution of the structural deficit and the inflation rate.


The political commitment of the eurozone elite to the problem is awesome. The willingness to stick with it

despite terrible conditions has been awesome, but you need to make this thing work, and it really means you

need expansionary policies from somewhere. Paul Krugman, AWIF 2014

We certainly do not have a system that enforces discipline today, and in lieu of such a system we should develop a cooperative approach that requires wisdom and leadership. There is no alternative. John Lipsky, AWIF 2013

Who is scared about the debt sustainability of Spain and Portugal, when every year the ECB buys much more

than the amount of net issues? QE has had real short-term advantages for peripheral countries, as well as its

long-term effects. Phil ippe Ithurbide, AWIF 2017

The debt issue goes beyond China, with global debt levels the highest since the Second World War.

Inflation is not the way we should deal with public debt. Jürgen Stark, AWIF 2017

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QE DID NOT ENTAIL LOOSE FISCAL POLICIES OR PREVENT REFORMS.

THE STRATEGY OF THE ECB (AND SOME OTHER CENTRAL BANKS) DID NOT FALL UNDER THE RUBRIC OF MONETISATION OF PUBLIC DEBT SO FAR.

DEBT MONETISATION: THE COVID-19 MAY REPRESENT AN EFFECTIVE AND MASSIVE REGIME SHIFT.



1. The evolution of the structural public deficit. Have we really witnessed abnormally expansionary fiscal policies in the Eurozone following QE? Has the structural deficit worsened? It appears that this is not the case. Certain countries like Germany have been more virtuous since the financial crisis and the start of QE, but almost all OECD countries have seen their public and structural deficits shrink. With fiscal solvency restored, some countries have pursued structural reforms. QE therefore did not entail loose fiscal policies or prevent reforms.

2. The evolution of the inflation rate. When a central bank acquires a debt security, whether it is public or private, it by definition monetises this debt and thereby increases the monetary base. However, a central bank buys and sells assets all the time as part of its open market operations, which are the basic instrument of monetary policy. As long as these purchases serve the principal objectives of central banks to promote price and currency stability and reduce output gaps, the monetisation of debt is not questioned.

Daniel Thornton (St. Louis Fed) therefore proposed reserving the expression "monetization of the debt" to interventions aimed mostly at refinancing the state, even if this means sacrificing the price stability objective. “The only effective way to determine whether the Fed (or any central bank) has monetised debt is to compare its performance relative to its stated objectives. Many central banks have adopted a numerical inflation target. If inflation is running above the target when the government is faced with a debt-financing issue, one might suspect that the central bank is monetising the debt”.

The central bank does not need to buy government bonds on the secondary market for this purpose; it only must grant banks low-interest loans. They will buy the government bonds, in effect refinancing the state through the market. On the basis of these criteria the strategy of the ECB did not fall under the rubric of monetisation of public debt following the 2008 crisis and the 2011-2012 European debt crisis. Its acquisitions of public bonds of Eurozone countries and its massive loans to private banks remained consistent with its mission to guarantee price stability.

When one pays attention to central banks’ balance sheet only (15% of GDP in the US (25% at the highest), and around 40% in the Euro zone and 100% in Japan at present), one can easily suspect debt monetisation. However, at the same time of the implementation of QE programmes, the ECB never gave up with the price stability target, while the governments of the most vulnerable countries (debt vulnerability), have been forced to adopt austerity packages and to manage structural reforms to avoid massive slippage of deficits and debt. COVID-19 is different. Growth, inflation and debt are all secondary to the pandemic and the thousands of deaths. It is legitimate for governments and central banks to make every effort, at any cost, to stem this scourge and prepare for other potential


Saying that we accumulated too much debt in the past is not saying that the thing to do now is to induce people to get rid of that debt fast, because there is an adding-up issue.

Regarding the ECB, their hearts are in the right place, but more importantly, their heads are in the right place, but that is not true of all the players on the European scene; they need a lot of rethinking. Paul Krugman, AWIF 2014

The system is complex, but good regulation does not mean that you have to be incredibly

detailed in order to have adequate, robust supervision of a complex system.

Lord Mervin King, AWIF 2014

It is not financial regulators that need to wake up to increasing regulation and oversight. There needs to be a strong political will to get things done, otherwise it might be too late.

Central banks applied the lessons learned from the depression. Acting aggressively, acting innovatively, was the lesson learned from past experience, and not just for central banks but for governments as well. In retrospect, it will be viewed as crucial and by and large successful in avoiding something worse. John Lipsky, AWIF 2013

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THE ULTRA-LOW INTEREST RATE ENVIRONMENT HAS, THROUGH THE DECLINE IN VOLATILITY, BLURRED CERTAIN METRICS OR GENERATED COMPLACENCY TOWARDS RISK.



pandemics: in 2002 - 2004, China suffered SARS-CoV (750 deaths); in 2012, the Middle-east suffered the MERS-CoV (450 deaths); since 2019, the world suffers Covid19. All three are coronavirus, and the COVID-19 is a much deadlier one: close to 70,000 deaths at the beginning of April 2020). One can imagine that the effective debt monetisation (purchases of assets, money creation with inflation and deficits and debts being relegated to the background) will really start soon. And this will undoubtedly apply to Europe as well as to the US, UK, Asia… This is potentially, a massive regime shift.

CONCLUSIONSince the 1970s, the world has faced very different situations, different generations of central bankers have succeeded, and central banks have therefore followed different objectives. In the early 1970’s, the instability of FX rates was the major problem. The flexibility of FX regimes changed the rules of the game. In the 1980s, central banks wanted to offer a good level of liquidity to bring inflation back to the desired level. They continued with inflation targeting up to the 2008 GFC with a target of around 2%. Since 2008, fearing deflation, they have also adopted very accommodative monetary policies, using non-conventional measures such as QE. However, inflation is still largely absent. This can be explained by the structure of the labour market, with little pressure on wages, growing international competition, the lack of inflation expectations (partly due to the credibility of central banks) and, especially in the Eurozone, weak structural components of inflations.

Central banks have taken the financial markets into unfamiliar and, in some respects, uncharted territory:• Interest rates went close to zero or into negative territory,

and we have thus gone from a risk-free (and return-free) yield situation to risky return-free environment;

• The concept of risk has not disappeared, but monetary policy and ultra-low rates have, by lessening volatility, clouded certain metrics or generated complacency toward it;

• The models for valuing risky assets have not lost their validity, but they now reference returns and risks that have lost much of their meaning.

• Liquidity has not disappeared, but with the search of investors for returns, central banks and regulators are contributing to the contraction of liquidity in some markets, increasing the risks of contagion, volatility and markets manipulation;

• Financial stability during this period has come to depend on central banks;

• Debt problems have not been resolved but they are considered less of a concern for now. What has changed is the mode of funding, especially in Japan and the Eurozone. Why worry about a rate hike when you know that central banks are buying debt assets?


Monetary authorities are very effective at combating panic in the markets; they have been extremely effective

several times now in bringing panic under control. Paul Krugman, AWIF 2014

The low interest-rate environment in which we live puts a cap on how much return pension fund systems can obtain over the investment cycle.

Jansen Phee, AWIF 2018

We have to think of, in broad terms, a regulatory system and a financial system that accommodate both the public authorities’ desire for smooth functioning and the realities of financial markets that tend to move abruptly. John Lipsky, AWIF 2013

In Europe, the decline in long-term interest rates has less to do with local policies than with the Fed’s stance and the US economy, as well as with global uncertainties.

The first risk is that markets may be too optimistic about how much they can expect out of the Fed in the near term. The second risk is a “bubbly feeling” about US corporates, especially low-grade debt, that has veered off course on expectations of aggressive Fed easing. Carmen Reinhart, AWIF 2019

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THE COVID-19 IS VERY PROBABLY A GAME-CHANGER FOR GOVERNMENTS AND CENTRAL BANKS, AND DEBT MONETISATION WILL EFFECTIVELY START.


This new situation implies changes in the way OECD countries are perceived. Despite better economic conditions and ten-sions in the labour market, low wage growth, low underlying inflation, and low interest rates have persisted. In this atypical context, corporates were able to maintain high profitability. In addition, the maintenance of low interest rates improved the solvency of public and private borrowers. This has, of course, all changed, hopefully only temporarily, because of COVID-19. Central banks will now have to cope with a recession.

In the absence of a permanent paradigm shift through the COVID-19 pandemic, the medium term could be characterized by the following:• An absence of recession due to interest rate hikes, declining

profits or solvency problems of borrowers. Other factors such as geopolitics and trade will still play a role, however;

• No deterioration in business fundamentals at the end of the expansion period, and therefore no sharp credit cycle;

• Lower risk of debt crises due to low interest rates;• Lower swings in inflation cycles;• Lower swings in growth cycles.

The COVID-19 is very probably a game-changer for governments and central banks. Debt monetisation will effectively start: inflation and deficits are secondary targets to health and survival.

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CHAPTER 4

Speak softly, carry a big stick: you will go far.

F. D. ROOSEVELT (a reference to a West African saying)

GEO-POLITICS AND GEO-ECONOMICS:

Ongoing Challenges

The last decade has witnessed many changes. The United States, while never stronger, has turned inward with protectionism and a rejection of multilateralism. China is stepping in trying to become the dominant power, causing conflict. Democracies are weakening and illiberal regimes are gaining strength. Populism is on the rise, especially in Europe, with consequences such as Brexit. What is the geopolitical balance now? Where will tomorrow’s geopolitical and geo-economical conflicts take place - in the Middle East, Africa or East Asia? Is China too strong – or maybe not strong enough?


Geopolitics - the ideology of territories (de Montbrial) - and geoeconomics - the logic of conflict in economics (Luttwak) - have filled the international scene. The concepts are often closely linked and can help us understand today’s trends and rivalries, such as that between China and the United States.Globalisation is built on the ruins of a bipolar world in permanent conflict (the Cold War) and has recently become truly global. While the previous phases of globalisation had a central focus, the current phase is more complex because it is more horizontal than vertical. New players have appeared on the international scene, not just countries like China and India, but also corporations, NGOs, and even prominent individuals who are involved in major international deliberations. So where does power reside now?The 20th century was not just the American century. It was above all the bipolar, East-West century. The rising influence of the Soviet Union after the 1917 revolution and the Second World War and the ensuing Cold War set the tone. However, the situation changed dramatically with the fall of the Berlin Wall in November of 1989 and the disintegration of the Soviet Union in 1990. The bipolar balance had ended, and we hoped the world would westernize. It was to be not just a new world order based on democracy and a market economy, but also the “end of history” (Fukuyama, 1989) - a unipolar world led by the West and the United States.This illusion did not last long. September 11, 2001 marked a brutal “return to history” and a chaotic, explosive world. In fact, the illusion of a unipolar world and universal peace lasted just over a decade, from November 1989 to September 11, 2001. In historical terms, it was no more than a brief interlude. Since then, nobody believes in a unipolar world anymore. However, the United States remains the top power and its actions are still crucial for preserving the impression of a managed world order and the determination to avoid chaos and conflicts.

To say that the world has changed in the last decade is therefore self-evident. It is no longer unipolar and dominated by the United States, but it is also not totally multipolar. It is both, and in some respects, it is chaotic. No single country fulfils all the functions of power, and no form of power is completely in the hands of a single country. In Chapter 5, we will discuss the current forms of power and some major players such as the US, China, Russia, Europe, Iran and Turkey, who are competing for it or disrupting the world order.In this chapter, we will analyse some manifestations of the instability of today’s world. Democracies are facing various forms of populism, whether on the right or the left, which offers simplistic solutions to complex problems. These include closing borders to people

and trade, rejecting the financial sector and traditional economics and, in the case of Europe, questioning long standing alliances, globalisation... Europe, meanwhile, has had its economic and political limits tested over the last decade. Weak growth, powerful populist or extremist parties, recurrent fears of break-up (Brexit, Grexit, Frexit, Italexit…), and divergences over migration have challenged its unity.The new wild card is China, which is growing from being the workshop of the world to being its leader. We will therefore analyse the various traps posed by the rise of China on the international scene. In addition to the Thucydides trap, which is the best known, we will discuss the Herodotus trap, the Tacitus trap, the Kindleberger trap, the Chamberlain-Daladier trap, and the Cold War trap.

THE WORLD IS NO LONGER UNIPOLAR AND DOMINATED BY THE UNITED STATES, BUT IT IS ALSO NOT TOTALLY MULTIPOLAR. IT IS BOTH, AND IN SOME RESPECTS, IT IS CHAOTIC.

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The cosmopolitan elites in Europe are so content that they have forgotten that others are not. Europe needs

better storytelling to reach the people at the grassroots. Enrico Letta, AWIF 2017

I see no option but for European powers to put their differences aside and tackle the issues head-on. Hubert Vedrine, AWIF 2018

TICKING TIME-BOMBS “The world is facing a series of ticking time-bombs. The first is envi-ronmental, with changing climate, declining biodiversity, deteriorating oceans and forests, and all at an increasing pace. This calls for aggressive greening of agriculture, manufacturing, transport, and construction—in short, every part of the economy. The second time-bomb is demographic, with little population increase in Europe but a boom in Africa for decades to come. The digital revolution is another potential time- bomb whose impact is already being felt.All this is happening in a backdrop of geopolitical chaos and instability. The international community no longer presents a united front where things are clear- cut, he emphasized. When the Soviet Union collapsed, the Western world claimed a final, decisive victory for capitalist democracy and universal values. But it was merely the beginning of a new chapter in history. The West still retains vast power and wealth, but no longer holds a monopoly. New powers have emerged, with China in the lead. We don’t yet know whether this redistribution of power will be an orderly, negotiated process, he warmed, or whether we can expect more tensions or conflict. A lot hinges on US-China relations.The big challenge for Europe is to find its place and a consensus in the new global order. However, the EU was never intended to be a power or entity in its own right, which is why member states are constantly jostling for position against countries like the US, China, and Russia. Among the issues European countries have to address are:• Standing firm against Trump rather than allowing him to dominate the

agenda.• Striking the right balance with Putin by being firm and dissuasive yet

cooperative.• Embracing the idea of a symmetrical relationship with China.• Finding a way to contain the threat of Islamic extremism.• Working together to address the migrant crisis.”

Hubert Vedrine, AWIF 2018

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THE RISE OF POPULISMThe rise of populism is a constant in many countries, including the most solid Western democracies. The financial crisis, the impoverishment of the middle classes, the feeling of inequality, wage austerity, and globalisation all feed into this movement.

Defining populism is difficult, however, because it can take many forms. It can be a style, a discourse, or a political regime (see Box 2). It is everywhere, but different from country to country. In elections almost all politicians resort to some form of demagoguery or unrealistic, populist electoral promises.

At its worst, populism promotes a restrictive vision of democ-racy. For example, populists consider that democracy is limited to elections and referendums, not the multiplicity of forms of representation and sources of legitimacy and counter-powers favoured by the EU. Populists reject the input of “minorities” (unions, judges, intermediary bodies, media), even if these rep-resent most of the population. They seek to eliminate checks and balances on constitutional courts, for example, and favour a strong leader who, for them, incarnates democracy and the will of the people. In their vision of social justice, equality depends on identity, which implies rejecting those who are not “the people”. In most cases a populist regime represents a shift towards authoritarianism, as in Hungary, Turkey or Poland.

Even in its mildest form, populism is dangerous, because it does not understand or deal with problems effectively. Contrary to what British populist parties claim, poverty and inequality in the UK do not stem from the constraints of Europe, but from the decline in social protection and bad policies. Likewise, weak long-term growth is not the fault of Europe, but of budgeting errors, underinvestment and low productivity. In France, inequality and unemployment do not come from the “enrichment of the rich”, as claimed by the “Yellow Vests”, or from the rigid rules of Europe, but rather from the lack of qualifications of low-skilled workers and social determinism.

Most European populist parties want to leave the EU or to dras-tically reform it to loosen budgetary and fiscal constraints to regain greater political, diplomatic and economic sovereignty. Populism has gained ground everywhere in Europe, with right wing parties generally advancing in the richer North and the left wing in the South. However, going from Euroscepticism to Eur-exit is a big leap, which the countries on the EU periphery, for example, have not wanted to make, despite experiencing crises.

De-globalisation and protectionism are not accidental phe-nomena. Their origins are deeply rooted and linked to problems that grew with globalisation, such as stagnant wages and feel-ings of inequality. This trend has been particularly marked in the western developed countries. Brexit, the election of Donald Trump, and the impact of the far-right on the political ecosystems of France, Germany, Italy and other major European countries, are reflections of this. Moreover, for many westerners there is a

AT ITS WORST, POPULISM PROMOTES A RESTRICTIVE VISION OF DEMOCRACY.


The cosmopolitan elites were doing so well that they concluded that social solidarity was not important for a well-functioning democracy. Populism is an understandable reaction against these cosmopolitan elites. Angus Deaton, AWIF 2017

HOW TO DEFINE POPULISM?Defining populism is often difficult because it takes many forms. It can be a style, a speech or a political regime. In the case of elections, all candidates resort to varying degrees of demagogy and unrealistic electoral promises, some of which could be called populist.The Belleville talks, organised by the CFDT (a major French trade union) in 2017, brought together historians, sociologists, economists and political scientists to propose a more precise definition of populism. It underlined populist’s restrictive view of democracy, which allows only limited forms of representation, sources of legitimacy, and countervailing powers. European populists, for example, prefer democracy restricted to direct electoral suffrage or referendums, and reject the views of "minorities" (trade unions, judges, media etc.), even though these may represent a majority of the people.Populists seek to eliminate the balance of power and question constitu-tional courts. They project strong personalities which they think are the embodiment of democracy and the people. In their vision of social justice is defined by identity, which implies the rejection of those who are not "the people". In most cases, populist regimes shift toward authoritarian forms of government, as is happening in Hungary, Turkey or Poland.At the Belleville talks, Pierre Rosanvallon, a historian, sociologist, and spe-cialist in the history of democracy, warned against the “commoditisation” of the term, stressing “its dimension of social insult and political disqualifi-cation”. He recalled that "all parties at one time or another checked one of the boxes that define populism, but only the extreme right ticks them all”.Populism and nationalism share common elements, such as the defence of sovereignty against the effects of globalisation, the rejection of mul-ti-culturalism and universalism, and the defence of the people against the elites. Parties that embrace these themes also reject the establishment and portray themselves as defenders of social justice, denouncing inequalities, corruption, and fraud, while promoting protectionism and, in Europe, anti-EU messages.

If the parties at the top of the EU choose the right people and reach the right agreements, Europe can start again. If not, the populists will say they are unfit to run

the Union. Enrico Letta, AWIF 2019

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strong, negative association between globalisation and China. Such sentiments have also spread to developing countries, so de-globalisation or anti-globalisation have become “globalised”.

Populism and nationalism share several elements:• The defence of sovereignty against the effects of globalisation• Rejection of multiculturalism and universalism• The defence of the people against the elites• Rejection of the “establishment”• Justification of anger against inequalities and corruption,

among other evils

EUROPE DISORIENTATED BY BREXIT

European construction has gone through seven cycles (R. Franck, 2017):• 1st cycle (1945 - 1949): The Marshall Plan and the OEEC (Organ-

ization for European Economic Cooperation).• 2nd cycle (1950 - 1954): Beginnings of economic integration according

to the Monnet-Schuman doctrine.• 3rd cycle (1955 - 1969): Creation of Euratom and the EEC (Euro-

pean Economic Community).• 4th cycle (1969 - 1974): First enlargement with the integration

of the UK, Denmark and Ireland.• 5th cycle (1974 - 1985): Creation of European summits and the

European parliament, adhesion of Greece, Spain and Portugal.• 6th cycle (1986 - 1995): The Single European Act and the prepara-

tion of the Maastricht Treaty. The EU replaces the EEC and Euro-pean nationality is created. Sweden, Finland and Austria join.

• 7th cycle (1998 - 2004): Enlargement to countries previously under Soviet control. The EU welcomes 10 new members

To this we can now add and another cycle:• 8th cycle (2005 - ?): Crisis management period: economic and

financial crisis (2008), debt crisis, Brexit political crisis (2016 - 2020), migration crisis (2018 - ?), Covid-19 pandemic…

The first seven cycles were construction cycles, advancing Europe, while the current cycle is a defensive, preservation or withdrawal cycle. European integration is now regularly impacted by internal political crises, with results such as Brexit. This was an unanticipated shock, since in previous cycles leaving the European Union seemed dangerous.

However, Brexit has shown that for a country which does not belong to the EMU to leave the Union is complicated but not impossible. For an EMU country, it remains highly improbable. All EU countries (not only those in difficulty) have high external debt (in euros or their currency). Leaving the EU or the Eurozone would entail a strong increase in debt if the Euro appreciated against the currency (the new currency in the case of Eurozone leavers). This is all the more true since the lack of capital mobility between the countries of the Eurozone is already a handicap, especially after the financial crisis. Additional public deficits, increases in public expenditure, or excessive stimulation of internal demand could lead to an increase in interest rates

DE-GLOBALISATION AND ANTI-GLOBALISATION ARE NOT LIMITED TO THE DEVELOPED WORLD; THEY HAVE BECOME ’GLOBALISED’.

EUROPEAN INTEGRATION IS NOW REGULARLY IMPACTED BY INTERNAL POLITICAL CRISES, WITH RESULTS SUCH AS BREXIT.

104 I AMUNDI 10-YEAR

We now have 88 democracies and only 44 countries that are not free at all. The question is whether in a world of technological change, globalisation, and the narrowing of options for many people, we can sustain the values that produced the growth of democracy. John Kerry, AWIF 2019

Politicians must show ordinary people that Europe can protect and help them. They should not only be pawns in a chess game between the other powers in this world.

Sigmar Gabriel , AWIF 2019

The issue about populism is that it always manifests itself in terms of people seeking simplistic answers to complicated problems. Politicians need to find solutions that demonstrate to the disaffected that they have a fair stake in the economy.

Populism is a cultural phenomenon that occurs when people feel that their personal and national identities are under threat, especially from migration. Sir Simon Fraser, AWIF 2018

The entire European system hinges on the euro— and I expect it to remain that way. Hubert Vedrine, AWIF 2018

THEY SAID IT !



THE DISENCHANT-MENT TOWARD EUROPE OF BRITISH CITIZENS WAS UNDOUBTEDLY TOO STRONG OR THE SPEECHES OF THE BREXITERS TOO CONVINCING.

THE MIGRATION CRISIS FED POPULIST PARTIES ALL OVER EUROPE.



with an impact on the solvency of the country and its banks. In other words, for a Eurozone country in difficulty, the room for maneuver is limited.

• It would have to reduce wage costs (internal devaluation) by restructuring the debt, as was done during the debt crisis by Spain, Portugal, Ireland and Greece. This led to additional unemployment and carried political risks, such as the rise in populism and extremist parties.

• Or it could implement well-targeted structural reforms. How-ever, their effects are only visible in the long term. In the short term, they can create further deterioration in social cohesion and destabilize the government.

• Or Europe could make institutional reforms such as relaxing the economic "convergence" criteria.

The UK chose another route - Brexit. David Cameron put it to a referendum, Teresa May organised and negotiated it, and Boris Johnson implemented it.

In reality, the English never really joined the European con-struction. Unlike the Scots who are Europhiles, they have always sought exemptions, special treatment (some would say prefer-ential treatment), and concessions. There are many examples, from Margaret Thatcher in 1979 (“I want my money back!”) to the various opt-out clauses on the Schengen border agreement (1985), on the EMU (Maastricht, 1992), on Justice and Home affairs (Lisbon Treaty, 2007) and the latest pre-Brexit conces-sions on budget and immigration. Nonetheless, all these were not enough - the disenchantment was apparently too strong or the speeches of the Brexiters too convincing.

Brexit is an asymmetric shock that is unfavourable for the United Kingdom. Exports to the EU represent 12% of UK GDP, while EU exports to the UK represent less than 4% of EU GDP. UK exports of services to the EU represent 45% of total UK exports and are expected to fall by 50% in a worst-case, hard Brexit.

In summary, the stakes for Europe have never been greater, and the European construction has never been more contested. EU governance has become exceedingly complex; we are far from the homogeneity of an EU of six countries. We must now manage a Europe with two major divisions: the north-south divide on the state of public finances and the size of debts, and the east-west divide on development gaps.

THE MIGRATION SHOCK: REVEALING DIFFERENCES

As growth and jobs returned after the financial crises, Europe faced a renewed crisis -migration. Another indicator of the east-west divide mentioned above, the migration crisis has caused intense electoral divisions and has sometimes brought to power parties hostile to migratory flows and favourable to the expulsion of foreigners (see Box 3). Italy is good example, but there are substantial differences across the continent. Following


it is ironic that threats to Europe come from its former stabilizers, the US and the UK. Sir Simon Fraser, AWIF 2017

For the first time in 70 years, Europe has to train be a global player.

This will be much more difficult without the UK than with the UK.

My fear is that Europe is seen as the last vegetarian in a world of carnivores. When Britain leaves, they will see us as vegans. Sigmar Gabriel , AWIF 2019

There’s a wave of discontent across Europe. People are protesting against all manner of grievances. But not a

single country is contemplating leaving the Euro. Hubert Vedrine, AWIF 2018

The only way to be at the table and be a role- setter again rather than a role-taker, is to be united as Europeans. This is the key issue for the next five years. Enrico Letta, AWIF 2019

Pulling out of the EU at a time when a new bipolarity between the US and China is emerging is a strategic error for the UK and will weaken the EU. If it happens, “we have to find ways for the EU and the UK to stay as close as possible. Sir Simon Fraser, AWIF 2019

If our kids and grandkids want a voice in the world tomorrow, it is important to have a united Europe.

Sigmar Gabriel , AWIF 2019

THEY SAID IT !



REGARDLESS OF THE STATUS OF MIGRANTS, MANY COUNTRIES ARE IDEOLOGICALLY, HISTORICALLY OR SOCIALLY RELUCTANT TO ACCEPT THEM.

UNLIKE AUSTRALIA, CANADA OR THE UNITED STATES, EUROPE DID NOT BUILD ITS POLITICAL IDENTITY ON IMMIGRATION. IT HAS HISTORICALLY BEEN A CONTINENT OF EMIGRANTS, NOT IMMIGRANTS.



the two European crises (financial and debt) and austerity policies, migration flows were reversed in some cases. Portugal, for example, saw a strong wave of emigration (10,000 people per month in 2012), as did Greece and Ireland.

In 2018, the number of asylum applications in OECD countries was 1.09 million, down 34% from the records recorded in 2015 and 2016 (1.65 million). Most asylum seekers were from Afghanistan, Syria, Iraq, and Venezuela. The number of refugees also declined. However, temporary labour migration continues to increase; in 2017, it reached 4.9 million (+ 11% compared to 2016). Poland became the top destination country for temporary work migrants (mostly from Ukraine and Belarus), ahead of the United States.

Sub-Saharan Africa and Syria have been major sources of migrants for the past decade and will continue to be. The Sahel and the Sahara are often considered demographic time bombs. Niger, the youngest country in the world with one of the highest birth rates, is a prime example.

Development and perspective gaps are the main factors in migration. Another important factor is the desire to move away from crises (Portugal in the 2010s) or conflicts (Syria for several years). The forced or voluntary nature of departure determines the difference between a migrant (Portugal) and a refugee (Syria). The 2015 Syrian refugee crisis tested the cohesion of the EU, with the community approach of the Lisbon Treaty (2007) giving way to national measures. Why did this happen?

1. The different economic, political and geographic situations of EU countries make it hard to find a one-size-fits-all solution for immigration.

2. Immigration is not in the genes of Europe. Unlike Australia, Canada or the United States, Europe did not build its political identity on immigration. It has historically been a continent of emigrants, not immigrants.

3. Migration is badly defined.• “Forced migrants due to war” are recognized in the Geneva

Convention, but European countries have had to balance the obligation to protect them with controlling immigration and borders. In 2015, Greece, which is not economically attractive to migrants per se, was overrun by 850,000 migrants fleeing Syria, Iraq and Afghanistan. So, the migrant flow spread all over Europe with strong counter reactions in some countries.

• “Economic migrants”, whose plans are considered voluntary, have no legal status, and there is no obligation to assist them. States are sovereign in how they handle them.

• “Climate migrants” (or environmental refugees) are also not recognized under the Geneva Convention. However, the COP21 Paris Agreement states that countries must “respect, promote and take into account their obligations concerning the rights of migrants” in their fight against global warming.


I would try to transform Europe not to a carnivore in geopolitics, but maybe to a flexitarian. Sigmar Gabriel , AWIF 2019

Migration, as well as terrorism are tests for European solidarity, replacing the debt agenda. Enrico Letta, AWIF 2017

The geopolitical challenges are making people think very carefully about the disadvantages of not being

in the European Union, so they have actually strengthened the EU.

Sir Simon Fraser, AWIF 2019

IMMIGRATION: ELITES VS. POPULATION“Immigration is the area where there is the sharpest divergence between what the elites believe and what the population believes. Some is self-in-terest, some is based on analysis, and some is simply unjustified fear. The elites like to have cheap gardeners, cheap field hands, and cheap household servants. They may share workers’ beliefs that immigrants reduce wages, but they like that outcome because they benefit. Meanwhile, academic studies are mostly positive about the effects of immigration. They note that migration is much more effective in raising living standards than other tools such as trade or foreign aid.

An important point is that immigrants tend to be heterogeneous. In the US, they have about the same educational level as the native population, but many have much more, and many have none. It is the less-educated immigrants that are the most problematical. Evidence suggests that they bring down the wages of native low-skilled workers, some of whom are earlier immigrants, although mostly in the short term. Large numbers of immigrants arriving very quickly are also a problem, especially if they have a different language and different customs. This can provoke misunderstanding and fear. Nonetheless, America, which is a nation of immigrants, and in which one in four is an immigrant or a child of an immigrant, is still the richest country in the world.”

Angus Deaton, AWIF 2017

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IN REGARD TO BRAIN DRAIN, THE MOST AFFECTED COUNTRY IN THE WORLD IS INDIA, FOLLOWED BY FRANCE.

TO SHAPE THE NEW GLOBALISATION AND GIVE NEW IMPETUS TO GLOBAL GROWTH, CHINA HAS LAUNCHED NEW INITIATIVES, INCLUDING THE BELT AND ROAD INITIATIVE.



4. Finally, it is a reality that, regardless of the status of migrants, many countries are ideologically, historically or socially reluctant to accept them.

Countries have always sought to protect themselves. A dozen anti-migrant walls remained after the Cold War, and by 2016 more than 65 had been built or were planned. Among them are barriers between United States-Mexico, Slovenia-Croatia, Greece-Turkey, Morocco- Algeria, Israel-Egypt, Botswana-Zimbabwe, United Arab Emirates-Oman, Malaysia-Singapore, Malaysia-Brunei, China-Macao, Turkmenistan-Uzbekistan, Azerbaijan-Nagorno-Karabakh, China-Hong Kong, Bulgaria-Turkey, Serbia-Romania-Bulgaria, Hungary-Serbia-Croatia, Austria- Slovenia, Ceuta-Melilla-Morocco, and South Africa-Zimbabwe-Mozambique.

It is estimated that more than 300 million people live outside their country of origin legally or illegally, three times more than in 1973. The countries currently receiving the most migrants are the United States, Germany, Saudi Arabia, and Russia. The main countries of emigration by 2050 should be India, Bangladesh, China, Pakistan and Indonesia. The Chinese diaspora and the Indian diaspora are already around 50 million and 30 million people respectively. In some cases, emigration harms the country of origin. A dozen African countries have lost 40% of their highly-qualified population to the “brain drain”. However, the most affected countries may be a surprise to most. In 2015 it was India, ahead of France, Italy, the UK and Spain.

GLOBALISATION, DE-GLOBALISATION AND CHINA: WHAT CONSEQUENCES FOR THE UNITED STATES?

The virtues of globalisation were highlighted by Chinese president Xi Jinping at the UN in 2015: “The highest ideal is to create a world truly shared by all. Peace, development, equity, justice, democracy and freedom are values common to all of humanity. and the lofty goals of the United Nations. Yet those goals are far from being achieved and we must continue our efforts to achieve them”. To shape globalisation and give an impetus to global growth, China has launched various initiatives, including the Belt and Road Initiative. Launched in 2013 in Kazakhstan and formalized in 2015, China claims that it wants to mobilize international and national resources for shared, mutually beneficial development, offering security and better living conditions, and a positive transformation of globalisation.

The multipolarity of the world and the major role of China are at the centre of the Chinese vision. At the 19th National Congress of the Chinese Communist Party in 2017, Xi Jinping spoke of the trends towards a multipolar world and the globalised economy, in which digital technology and cultural diversity are booming. He stressed that changes in the system of global governance and in the international order are accelerating. He added that, “countries are more and more interconnected and interdependent, the international balance of forces is becoming


Along with climate change, the second most important question of

the future is where the good jobs will come from.

Dani Rodrik, AWIF 2019

The quality jobs in Africa have not necessarily been stolen by globalisation. They are also victims of the capital intensity of our growth. Lionel Zinsou, AWIF 2019

Leaders need to explain to their citizens that what is happening is not just a short-term shift but a long-term structural shift, so long-term strategies must be

implemented, not quick fixes. For migration, maybe Europe should “press the pause” button while searching

for a durable solution. Kishore Mahbubani, AWIF 2018

Europe needs a long term strategic approach to address problems such as migration and terrorism, and not a short term fix as has been the practice. Catherine Ashton, AWIF 2017

The 2008 crisis worsened the situation and the general population has become more anti-establishment, rejecting globalisation and multilateralism. “Forces that deny the legitimacy of the worldwide framework are now gaining strength: negotiations of the WTO are stuck, protectionism has ceased to be taboo, the framework of Basel is being questioned, and financial deregulation seems legitimate again. Xavier Musca, AWIF 2017

THEY SAID IT !



CHINA AND THE UNITED STATES MUST AVOID SEVERAL TRAPS.



more and more balanced and peace and development remain an irreversible trend”. However, “regional conflicts often arise and unconventional security threats such as terrorism, cyber insecurity, infectious diseases and climate change continue to spread. As humans, we have many common challenges.” “No country”, he warned, “can meet the many challenges facing humanity alone; no country can afford to turn in on itself”.

It is in this globalised, multilateral framework, that Xi announced China’s concrete objectives: By 2025, it wants to be the dom-inant economic power on the main markets for ten advanced technologies, in particular artificial intelligence and quantum computers. By 2035, it wants to be the leader in innovation in all advanced technologies. And by 2049, for the hundredth anniversary of the People's Republic of China, it wants to be number one in the world.

One can understand the fears of the Trump administration.

UNITED STATES - CHINA: CHRONICLE OF AN ANNOUNCED WAR?

China and the United States risk falling into historically well-known traps:

• The Thucydides trap. If China becomes too strong and forces the United States to harden its positions to maintain its place, war could become inevitable;

• The Kindleberger trap, with China possibly being too weak to replace the United States as the superpower (or concerning part of its current responsibilities);• The Herodotus trap. Conflicts based on the supposed superiority

of a culture or a religion made possible by the current multipo-larity and the relative or assumed weakness of the hegemonic power - or its lack of interest in regulating the world order;

•The Tacitus trap. A situation in which any action or statement is deemed to be bad or malicious.• The Chamberlain - Daladier trap, which refers to the compla-

cency of England and France during the rise of the Hitler regime;• The cold war trap, wherein the United States and China would

reduce any relationship (economic, political, diplomatic) to the bare essentials.

THE THUCYDIDES TRAP

The basic question is simple: how to avoid war between the dominant power of a historical phase with the rival ascending power which aspires to dominate the next phase? Long before Trump put forward his “Make America great again” slogan, Xi Jinping had the same ambition for his country, including the People's Liberation Army, which he asked to prepare for “a global military struggle which will be a new starting point”. He has given himself the means by contributing to one of the most tremendous growth spurts in history. Between the end of the 1970s and 2015, the number of Chinese living on less than $1.90 per fell from 90% to less than 1%. Similarly, while in 2004 Chinese GDP was 50% that of the United States, it equaled it by

THE FEAR OF CHINA IS GROWING AS THE COUNTRY ENTERS THE WORLD POLITICAL STAGE AND IS LESS AND LESS THE WORLD’S WORKSHOP.


Today, we are in a G0 world without any global order, but we are going into a G2 world, with the US and China. Are we willing to take on the responsibilities in Europe to

make it at least a G3 world? Sigmar Gabriel , AWIF 2019

We are in a more fragmented world in which the major powers don’t agree on many things. Nouriel Roubini , AWIF 2018

Trump’s imposition of unilateral measures against China and the extension of those measures to other

countries, including his closest political, security, and trading partners, seems to be a very unwise course of

action because it is dividing the West. Sir Simon Fraser, AWIF 2018

I am not going to say that President Trump is directly opposed, but he has clearly got a penchant for supporting authoritarian leaders in the world, and openly picking fights with Merkel, May, Macron, and NATO. This is destructive and can be exploited by demagogues. John Kerry, AWIF 2019

THEY SAID IT !



THE THUCYDIDES TRAP HAS BEEN CHALLENGED.

TODAY, WORLD PEACE MAY DEPEND ON THE WILLINGNESS OF THE AMERICANS TO NEGOTIATE A NEW GLOBAL BALANCE WITH CHINA.



2014. At this rate, by the mid-2020s Chinese GDP will be 50% higher than US GDP. Chinese power is forcing a renaissance or at least a reaction on the United States.

The outcome of such a scenario was described by Thucydides in the 4th century BC (431– 404 BC): it is war. The trap of Thucydides, as described by Graham Allison (founder of Harvard’s Kennedy School of Government), was that “the rise of Athens and the fear it instilled in Sparta made war inevitable”. The cities wanted to avoid war, but that was not enough. Sparta's paranoia conflicted with the pride of Athens. Sparta won the war, but both cities were ruined. Today, world peace may depend on the willingness of the Americans to negotiate a new global balance with China.

Instead the Americans are falling into the Thucydides trap, according to Allison. History is punctuated by conflicts between ruling powers and emerging powers. Since 1500, he notes sixteen examples of this trap. Twelve times it led to war. As with Sparta and Athens, the states generally did not want war, but third countries played the role of detonator, leading to confrontation. Today, North Korea could play this role (the “rapprochement” between Trump and Kim is not trivial), or Taiwan. A conflict between China and Taiwan could force the Americans to intervene under the Taiwan Relations Act of 1979. Already in 1996, when China launched missiles in the Gulf of Taiwan, President Clinton sent two aircraft carriers there, forcing the Chinese to back down.

However, over the past 20 years, China's military power has grown dramatically. It has become a real maritime power. In 2016, it had 72 attack submarines (against 58 in the United States, 50 in Russia, 7 in Germany and 6 in France) including 4 nuclear launchers (14 in the United States and 4 in France or the United Kingdom). It can stop American warships from approaching beyond 1,600 kilometers from its coast or from sinking aircraft carriers. In fact, it is gradually ejecting the US fleet from the South China Sea.

However, the theory of Thucydides' trap is challenged by authors like Joseph Nye, Donald Kagan, among others. Some of Allison’s examples are not conclusive. For example, he states that “Britain was the dominant power in the world in the mid-19th century, but it let Prussia create a new powerful German empire in the heart of the European continent”. Of course, Britain fought Germany half a century later in 1914, but that war was not one in which an established Britain reacted to a growing Germany. Moreover, the First World War was caused by the German fear of an increasingly powerful Russia, the fear of a rise of Slav nationalism in a declining Austria-Hungary, as well as other factors very different from the bilateral rivalry of ancient Greece. As for current analogies, the power gap which exists today between the United States and China is much greater than that which prevailed between Germany and Great Britain in 1914.

Kagan showed that before the war broke out in 431 BC, Athenian power had stabilized, and that the balance of power


We hope we get a new President so that we can move in the right direction. Not just hope for it, but work for it

– as I will. That is the sine qua non of moving forward. John Kerry, AWIF 2019

When every person facing a problem turns into a journalist who is able to tweet or send you a video

message, diplomacy is not given the time and space to do its job.

Catherine Ashton, AWIF 2017

Like many Americans, I find President Trump’s behaviour, statements, tweets, and misinformation very un-presidential. But he is not speaking to folks like you, but to his political base. Martin Feldstein, AWIF 2017

Trump is a cause of the rapprochement between Europe and Asia. Last year relations with Asia progressed more than in the previous 40 years, with agreements signed or pending with Japan, Singapore, and Vietnam. Enrico Letta, AWIF 2019

THEY SAID IT !



IN THE DECADES AHEAD, CHINA WILL HAVE TO SOLVE IMMENSE PROBLEMS SIMPLY TO SURVIVE.

DONALD TRUMP MUST WORRY ABOUT ANOTHER TRAP, THAT OF A CHINA THAT IS AT ONCE TOO STRONG AND TOO WEAK.

IN ANY CASE, IN TERMS OF GDP, MILITARY FORCES, NUCLEAR POWER, EDUCATIONAL AND TECHNICAL LEVELS, STANDARD OF LIVING, AND FINANCIAL SECTOR, EUROPE, AND NOT CHINA, IS STILL THE LEADING POTENTIAL CHALLENGER TO THE UNITED STATES. HOWEVER, EUROPE AND AMERICA ARE NOT, AND PROBABLY WILL NEVER BE, ON A PATH TO WAR.



was re-established. “It was certain that political mistakes of the Athenians had led the Spartans to think that war could be worth the risk”. In other words, even the classical Greek case is not as simple as Thucydides claimed.

As noted by Waldron, “Allison’s recipe is actually a recipe for war”. The case is difficult to make. He gives some examples. Japan was the rising power in 1904 while Russia was long established. Did Russia therefore seek to pre-empt Japan? No. The Japanese launched a surprise attack on Russia, scuttling the Czar’s fleet. In 1941, the Japanese were again the rising power. Did ever-vigilant America strike out to eliminate the Japanese threat? Wrong. Roosevelt considered it “infamy” when Japan surprised him by attacking Pearl Harbor at a time when the world was already in flames. Switch to Europe - in the 1930s, Germany was obviously the rising, menacing power. Did France, Russia, England, and the other threatened powers move against it? No, they could not even form an alliance, so the USSR eventually joined Hitler rather than fight him. There are some exceptions that support Allison’s conclusions, but they are not mainstream.

In any case, in terms of GDP, military forces, nuclear power, educational and technical levels, standard of living, and financial sector, Europe, and not China, is still the leading potential challenger to the United States. However, Europe and America are not, and probably will never be, on a path to war. Nor are America and China, according to Waldron. Even if the impressive statistics of China’s growth in military power and technology are real, it has many vulnerabilities: high debt, pollution, corruption, demographics. Even Xi Jinping sent his daughter to Harvard; and his first wife fled China and lives in England. In other words, in the decades ahead, China will have to solve immense problems simply to survive. A military solution would worsen its situation.

THE KINDLEBERGER TRAP

Donald Trump must be concerned about the “Kindleberger trap”, a concept issued from the analysis of the intra-war period by one of the architects of the Marshall Plan, Charles Kindleberger (1973). He considered that the decade of the 1930s was disastrous because the United States, which replaced Great Britain as the dominant world power, failed in fully assume its role, in particular supplying goods worldwide. “The result was the collapse of the world system in depression, genocide and the world war.” (J. Nye)

In other words, while the problem with the Thucydides trap for the US comes mainly from China, which seems too strong rather than too weak, the problem with the Kindleberger trap comes from a China which may be too weak to help provide goods globally. Trump therefore faces the paradox of a China that is both too weak and too strong. To achieve his goals, he must avoid the Kindleberger trap as well as the Thucydides trap.


As with most leaders, if you narrow their political space for decision-making, as the US have in Iran and China,it is hard for them to deliver

the things you want. John Kerry, AWIF 2019

What we are witnessing is the end of 600 years of Eurocentric development in the world. At the beginning of the 15th century, Henry the Navigator sent his fleet to search for a sea passage to India. At the same time, the Chinese Emperor dismantled his fleet, which had been dominant in Asia for 300 years, claiming the Chinese had ‘enough to do at home’. This was the beginning of 600 years of dominance of European ideas and the waning of Chinese influence. Now, it is the other way around. Sigmar Gabriel , AWIF 2019

What counts is the reality not the rhetoric. Martin Feldstein, AWIF 2017

THEY SAID IT !



CHINA'S POSITION IS PRECARIOUS: IT MUST DO MORE TO OVERCOME THE KINDLEBERGER TRAP BUT DO LESS TO AVOID THE THUCYDIDES TRAP.

WILL CHINA BE A FREE RIDER? WILL IT SEEK A BREAK WITH THE INTERNATIONAL ORDER? WILL IT HELP MAINTAIN AN INTERNATIONAL ORDER IT DID NOT CREATE?



His refocusing on “America first” can amplify the Kindleberger trap if it results in a withdrawal of the US from the world. Indeed, as Nye notes, “If China refuses or hesitates to take more responsibility for the supply of goods globally, it is almost certain that we will hear stronger criticism that it continues to take advantage of the system rather than contributing to the existing international order. And if it does the opposite, that is, to take on more international responsibility - which corresponds to its growing national power - we will inevitably hear the accusation that it is seeking regional and even global hegemony.”

China's position is precarious - it must do more to overcome the Kindleberger trap but do less to avoid the Thucydides trap. The danger is heightened by America’s intense pressure. The Trump administration’s 2017 “National Defense Strategy” decries the policies of China and Russia: “China and Russia are defying the power, the influence and the interests of the United States, trying to undermine American security and prosperity. They are determined to make economies less free and less fair”. China, like Russia, is a “revisionist power”. It forces the United States to, “rethink the policies of the past two decades - policies based on the assumption that engagement with rivals and inclusion in international institutions and world trade would make them minor players and partners of confidence”.

In other words, will China assume responsibility by becoming the world leader or will it, like many countries, be a free rider? For several decades, global public goods - financial stability, peace, a stable climate, freedom of the seas, etc. - have been managed by coalitions led by the great powers. As Nye reminded us in 2017, small countries have little incentive to pay for these global public goods, so it makes sense for them be free riders. Their minimal contributions have little influence on their ability to benefit from the public good. This is not the case for the great powers, so it is logical for them to take the lead. If they don't, it can be disastrous. This was the case after the First World War when Britain became too weak to play this role, and the isolationist United States continued to be a free rider.

So, what will China do? Will it be a free rider? Will it seek a break with the international order and become “revisionist” as claimed in the US report? Or will it help maintain an international order it did not create? For the moment, the results are reassuring; China is increasingly integrated into the existing order:

• It benefits from multilateral economic institutions such as the United Nations, the World Trade Organisation, the World Bank and the International Monetary Fund.

• It has a veto power in the UN Security Council and participates in its international programmes (climate change, Ebola), even becoming the second largest donor to peacekeeping.

• It launched the Asian Infrastructure Investment Bank in 2015 which, contrary to early fears, cooperates with the World Bank and adheres to international rules.


Europe must assure its seat at the table on major issues such as the environment, security, data protection, technology, and finance. In a “world with two giants,” the smaller European countries could be marginalized. Enrico Letta, AWIF 2019

Geopolitics starts at home, so we must be strong

at home to be strong abroad. Sir Simon Fraser, AWIF 2019

US, China, Russia… They all want to see if we (Europeans) survive. Sigmar Gabriel , AWIF 2019

THEY SAID IT !




So far, China has proven that it does not seek to overthrow the liberal world order from which it benefits, but rather to increase its influence in it. Will the overly aggressive approach of the Trump administration change this? If so, the Kindleberger trap would become a tangible reality and a danger.

THE HERODOTUS TRAP

Herodotus, considered “the inventor of history”, analyzed the Greco-Persian wars during the Achaemenid Empire (499 - 449 BC), which ended with the victory of the Greek city states, led by Athens and Sparta, at Marathon, Thermopylae and Salamis (note that Athens and Sparta faced each other a few years later during the Peloponnesian wars (see above)). For the Persians of Darius these were territorial wars for the control of the Aegean Sea, but for the Greeks they became an affirmation of their iden-tity, making of them more of a civilizational conflict. Language, culture, religion, and the concept of nation are at the foundation of what can be called “the first great historical production of a war of civilizations” (J. Huntzinger, 2020). Herodotus set out to show the richness of “barbarian” civilizations (all those who did not speak Greek), positing that the relationships between peo-ples (Greeks, Persians, Libyans/Africans) generated mostly cultural conflicts and not territorial conflicts.

What lesson can we learn from Herodotus' analysis? What is the trap to avoid? The first lesson is that the rise of fanaticism, the rejection of “the other”, or the idea that one’s culture, religion, or mores are superior to those of one’s neighbors, making them enemies or dangers, can lead to conflict. The second is that this becomes more likely as the hegemonic power becomes weaker, is perceived as being weaker, or loses interest in managing the world order. This is the case today. Donald Trump’s rejection of multilateralism and his unwillingness to police the world has unleashed leaders of illiberal regimes, and the lack of regulation and a collective search for a stable world order is leading into the trap of Herodotus.

These fears are fueled mainly by countries that are nostalgic for their past. Among them are Turkey, whose president does not hide his nostalgia for the Ottoman Empire; Iran, which would like, among other things, to be a religious reference point; Russia, whose president is nostalgic for the Soviet Union and has a Eurasian project; and of course, China. And there are other countries with similar tendencies that seek more regional or continental power based on their heritage. Indeed, for some leaders, conflicts or war would “correct” recent developments, restore an old order, and represent a kind of “revenge of history”. So, one could surmise that the Herodotus trap is at least as likely as the Thucydides trap.

THE TACITUS TRAP

The Tacitus trap is sometimes put forward by the Chinese themselves. Tacitus was a Roman historian and senator born in

FEARS ARE FUELED BY COUNTRIES THAT ARE NOSTALGIC FOR THEIR PAST.


As usual, Europe needs external threats, and we have two fantastic external threats in 2016: Trump and Brexit. We have a very short but very important window of opportunity for Europe. Enrico Letta, AWIF 2019

Europe is still the most peaceful and prosperous region. Europe is the mother of multilateralism. Kishore Mahbubani, AWIF 2018

THEY SAID IT !




the middle of the 1st century AD. Since he did not want to flatter anyone, he is said to have spoken ill of everyone. Tacitus’ trap stems from this character trait: it describes a situation where, no matter what is said or done, people will consider it to be a lie, a bad deed or a bad one intention. No credit is given to the person undergoing the Tacitus trap. For some, including some leaders, China is responsible for the harms of globalisation, exchange rate misalignments, deflationary pressures, unemployment, COVID-19… The Chinese president himself used this term to emphasize the need to maintain the credibility of the government. If not, “the foundations of the Party’s legitimacy and power will be threatened”. To counter this situation, China would need more transparency, consolidate its legitimacy... Difficult to reconcile this with the certainty of the Chinese Communist Party that the Chinese political system is more legitimate and efficient than the western democracies in crisis.

THE CHAMBERLAIN - DALADIER TRAP

The other trap to avoid is that of giving endless concessions to avoid war. Political and diplomatic complacency can be a sign of weakness when applied to an adversary that seeks war. The most famous example is the Munich agreements of September 1938. British Prime Minister Neville Chamberlain and the President of the French Council of Ministers Edouard Daladier were so peace-lov-ing that they concluded an agreement that, while avoiding war in the short term, showed Hitler that they were foolish, weak, or both.

We urgently need to avoid this trap in the case of China and the United States. We must be neither complacent nor overly confrontational, instead acting firmly within the framework of international organisations to integrate it into the existing world order. In this regard, the tactic of Donald Trump of confronting China while ignoring multilateralism is dangerous. It may appeal to his political base in the run-up to elections, but it is internationally irresponsible.

THE COLD WAR TRAP

War is not inevitable, and the Cold War trap threatens both the United States and China, and consequently the whole world. It stems from Thucydides' trap and the ideological conflicts which exist between these two countries and which we find explicitly in the defense and security report which we mentioned above. Defending the current liberal order and American domination is undoubtedly a good prerequisite for a new cold war, this time with China. It is possible that if the two powers avoid open conflict - because both fear the cost of such a conflict, the Cold War becomes a realistic option. This will be the case if China and the United States fail to improve mutual trust and reduce ideological opposition. History, especially the recent history between the United States and the USSR, shows us how difficult it was to establish a relationship of mutual trust throughout this period. For the United States and China,

WE MUST BE NEITHER COMPLACENT NOR OVER-LY CONFRONTATIONAL, INSTEAD ACTING FIRMLY WITHIN THE FRAMEWORK OF INTERNATIONAL ORGANISATIONS TO FULLY INTEGRATE CHINA INTO THE EXISTING WORLD ORDER.


We believed that the world that emerged from the collapse of communism would see the “end of history”,

but instead of a reconciled world, we are seeing the rise of geo-political tensions and terrorism.

Xavier Musca, AWIF 2017

Europe should also see itself as retaining faith in the processes of multilateralism and continue to export them to the rest of the world. So, don’t be too hard on yourselves. Be nice. Kishore Mahbubani, AWIF 2018

THEY SAID IT !




it will also be difficult, especially since China-US relations have never been good in recent years or decades. And in ideological matters, both the United States and the Europeans criticize the undemocratic character of China and its methods of governance. The US administration goes even further, while the National Defense Strategy never puts values and ideology in the background. On the contrary, it always tends to consider that the US must protect liberal ideology in this competitive world. As noted in a document published in 2017, “China and Russia want to shape an antithetical world to American values and interests” and there are “fundamentally political conflicts between those who favour repressive systems and those who favour free societies”. The Trump administration has added an ideological “red line” to the economic, financial, and diplomatic ones, making cold war a possibility. The Cold War between the US and the USSR showed us how difficult it is to establish a relationship of trust during such a period. It would be the same for the US and China, whose relations have never been great.

Ideology returned to the forefront during the 20th century. Since the Treaty of Westphalia in 1648, conflicts have always been between nations. However, starting in the 20th century, they have been between ideologies, as Samuel Huntington explained in 1996 in “The Clash of Civilizations and the Remaking of World Order”. He argued that henceforth conflicts will oppose civilizations as defined by language, religion, or even the self-identification of people.

A QUESTION OF BALANCE

The rise of China will drive certain countries, with the United States in the lead, to change their evaluation of the international scene. Beyond the Sino-American rivalry, it is a safe bet that the upheavals will be substantial. New alliances will be sought, territorial issues will cause conflicts, and third countries will try to take advantage of the situation. There are many pitfalls, since the transition from one balance of power to another is always complex.

Is China already too powerful, making an open conflict with the United States inevitable (the Thucydides trap) or will an equilibrium be established (the Cold War trap)? Or is China still too weak to assume some superpower functions (the Kindleberger trap)? Will the lack of balance and collective will fuel the territorial ambitions of other countries (the Chamberlain-Daladier trap) or the inclinations of the nostalgic powers to reclaim some of their former glory (the Herodotus trap)? Is China forced to improve transparency, to liberalise its capital account and to protect private property rights, for example, to avoid the Tacitus trap? Perhaps all of this will happen since the traps are not mutually exclusive. Many fear that the world will remain partly unipolar, partly multipolar, and partly chaotic. It's all about balance.

THE COLD WAR BETWEEN THE US AND THE USSR SHOWED US HOW DIFFICULT IT IS TO ESTABLISH A RELATIONSHIP OF TRUST DURING SUCH A PERIOD. IT WOULD BE THE SAME FOR THE US AND CHINA, WHOSE RELATIONS HAVE NEVER BEEN GREAT.


CONCLUSIONThe last decade has been revolutionary - or maybe evolutionary. The rise of populism, the strains in the EU, and the conflict between China and the US are worrying. If we add in religious extremism, terrorism, unwelcome migration, pandemics, and climate change, the news seems bad indeed. Therefore, it is more important than ever that states cooperate to solve what are, after all, mostly global problems. In view of the stakes, there should be no room for political or ideological quarrels.

However, reality is harsher, as proven by the conundrum between China and the US, which is characterised by distrust and competition. Both governments, supported by other powers and international institutions, must do their utmost to avoid the historically well-known traps other world powers fell into in the past. It will be a difficult but essential exercise.

There is hope. Unlike other ascending powers, such as Hitler’s Germany or Stalin’s USSR, China so far has made no major territorial claims against the other great powers. Even if its ambitions are unpleasant realities for the US and Europe, it does not really want to overturn the existing liberal world order – it just wants to feed off it and influence it more, as evidenced by its positions in international bodies, at the World Economic Forum in Davos, or its adherence to the Paris Climate Agreement. “China is ready to bear its share of the burden and thus participate in the smooth running of the world order on which it has based its development and prosperity.” (Nye)

However, let’s not be naïve. This will not occur smoothly, without conflicts. This is due not just to China’s growing ambitions, but to the retrograde approach of Donald Trump. Since his election, he has introduced doubt where certainties are necessary conditions for international collaboration and the production of global public goods. With his “winner-takes-all”, “America first” attitude he has undermined the predictability and reliability of the international system when it is urgently needed to tackle transnational problems (climate change, financial stability, cyberspace or public health …).

One last thought. Many observers are concerned that China wants to change the world order for its own benefit, which assumes that the current world order is indisputably the best. Is this true? Is capitalism as we know it today so great that it is better to defend it at all costs than to reform it in order to reduce its excesses?

As H. Védrine (2018) recalls “the disarray of the Americans is obvious: how to resign oneself to only relative leadership? By withdrawing to a solidly defended national base? By trying to keep, to regain control of" the rest of the world “as the Americans say?” Betting on the influence of western / European / universal values is not the solution either. The triumph of democratic values, supposing that this happens, “will not happen under the influence of our pressures and sanctions, and that will surely not strengthen us”. Being a democracy does not mean being submissive to the West. India is without a doubt the best example.

CHINA SEEMS READY TO SHOULDER ITS

SHARE OF THE BURDEN AND PARTICIPATE IN

THE SMOOTH RUNNING OF THE WORLD

ORDER ON WHICH IT HAS BASED ITS

DEVELOPMENT AND PROSPERITY.

BEING A DEMOCRACY DOES NOT MEAN BEING

SUBMISSIVE TO THE WEST.




CHAPTER 5

The world is neither unipolar, multipolar, nor chaotic—it is all three at the same time.

JOSEPH S. NYE, JR. The Future of Power (2011)

US, CHINA, EUROPE, INDIA, RUSSIA, AND OTHERS:

New Power Struggles

The last decade saw dramatic shifts in power worldwide. The United States, while temporarily weakened by the financial crisis, remained predominant. However, its “hyper” power that grew out of the fall of communism has ended; now it must share power. Europe is a challenger. It has proved that it can be united and determined, able to speak with one voice (for example on Brexit). However, it is the emerging countries, particularly China, that are becoming the new world powers. And it has just begun; worldwide power relations keep evolving.


The 2008 crisis weakened the leadership of the advanced countries, not just economically and financially but also politically and socially. Leadership also means rivalry, and the last decade, especially since 2018 with the revival of protectionism, was emblematic of this. Rivalry between the US and China grew, and even rivalry between the US and Europe. The rise of other countries like India and Indonesia is also profoundly changing the power balance. The BRICs are no longer just an acronym; they are increasingly becoming a political and diplomatic force. Power, leadership and domination (three different concepts) can be expressed in many ways. What does power mean in the 21st century? Will China and Europe effectively compete with the US to become the world’s leading power?

THE BRICS ARE NO LONGER JUST AN ACRONYM; THEY ARE INCREASINGLY BECOMING A POLITICAL AND DIPLOMATIC FORCE.

WHAT IS A POWER? HARD POWER VERSUS SOFT POWER VERSUS SMART POWERIn the past, a country with a large army or fleet and the tech-nology and steel production capacity to produce sophisticated weapons was considered a power. It could impose its will on other countries via hard power, its oldest form, by combining economic and military power.

Measured by Gross Domestic Product (GDP) the US is ahead of China, Japan, Germany, the UK, France, India and Brazil. It is a useful indicator since countries with large economies can devote resources to the military and research and increase their influence in the world. The four BRIC countries are now among the 12 largest economies in the world, demonstrating that the centre of gravity of the world has shifted. And it is just the beginning!

In the early 1980s, Europe and the US represented 15% of the world’s population and more than half of world GDP. Today, these shares are respectively 10% and one third. In 20 years, they will be even smaller. The BRICS (including South Africa) now represent nearly 45% of the world’s population (3 billion people). They account for nearly 25% of nominal global GDP and have contributed to more than 50% of global GDP growth over the last decade.

When comparing countries according to Purchasing Power Parity (PPP), the share of emerging countries is even larger. China has already overtaken the US and the EU and the BRICS represent one third of world GDP, as much as the US and EU, but with a population four times larger.




Because the base of the Chinese economy is huge now, we need to aim at quality and not speed, so as to achieve sustained growth without much volatility. Jin Liqun, AWIF 2013

China does not want to destabilise the world’s rules-based order, since it is the chief beneficiary. China

has “a 2000-year reason” for valuing stability and predictability more than freedom and liberty.

It also needs another 30 years to fully develop, so it wants to assure that the rules based order

will not break down in the meantime. Kishore Mahbubani, AWIF 2018

Here comes a world order in transition. It will need some years of instability or even chaotic development to sort out its direction, which will definitely no longer be a Western-dominated one. Joschka Fisher, AWIF 2015

You have a very real return of a very classical kind of geopolitics in Eurasia. You have large, centralised, well-organised authoritarian countries at both ends of Eurasia - Russia and China. Both have territorial

ambitions, which is a problem that is quite familiar to the diplomacy of the 19th to 20th centuries.

Francis Fukuyama, AWIF 2015

To understand the world we live in today, it is important to distinguish between powers and fora. The United Nations is a forum, but despite its name it is not really “united”. It is a space where the whole world comes together to talk. The same applies to the G6, G7, G8 and G20; nothing happens unless all the parties agree. The US and China, and to some extent Russia, on the other hand, are real powers. And there are other, old or emerging powers. Hubert Vedrine, AWIF 2018

THEY SAID IT !



PPP GDP of the world (%)

Population of the world (%)

2019

PPP GDP ($bln)

2019 population

(millions)

1980 2019 1980 2019

United States 21,439 327 21.6% 15.1% 5.1% 4.3%

China 27,309 1,393 2.3% 19.3% 22.1% 18.4%

EU 22,774 513 29.9% 16.1% 10.5% 6.8%

Germany 4,444 83 6.6% 3.1% 1.8% 1.1%

France 3,061 67 4.3% 2.2% 1.2% 0.9%

Italy 2,443 60 4.6% 1.7% 1.3% 0.9%

Spain 1,941 47 2.2% 1.4% 0.8% 0.6%

United Kingdom 3,131 66 3.8% 2.2% 1.3% 0.9%

BRICS 47,249 3,157 NA 33.3% 44.3% 41.6%

Brazil 3,456 209 4.4% 2.4% 2.7% 2.8%

Russia 4,349 144 NA 3.1% 3.1% 1.9%

India 11,326 1,353 2.9% 8.0% 15.7% 17.8%

South Africa 809 58 1.0% 0.6% 0.7% 0.8%

Japan 5,747 127 7.9% 4.1% 2.6% 1.7%

South Korea 2,320 52 0.6% 1.6% 0.9% 0.7%

However, in social indicators the advanced countries still lead. In the 2019 Human Development Index (HDI), the US is 15th, and 21 European countries (including 12 in the Eurozone) are in the top 30. Russia is only 49th, Brazil 79th, China 85th (up from 116th in 2018), and India 129th. The 2019 inequality adjusted HDI index gives a similar picture: None of the BRICS countries are ranked in the top 45 - at least so far.

Economic power is linked to the power of corporates. A simple way to evaluate this is to look at the ranking of brands. In a strongest brand analysis, five of the top ten are American companies - Disney (2), Deloitte (5), Coca-Cola (6), PWC (9) and PayPal (10); two are European - Ferrari (1) and Rolex (8); one is Russian - Sberbank (4); and two are Chinese - WeChat (3) and Tencent (7).

In the top 10 most valuable brands, six are US companies - Amazon, Google, Apple and Microsoft (1-4), Facebook (7) and Walmart (8); three are Chinese - ICBC (6), Pingan (9) and Huawei (10); and one is Korean - Samsung (5). In the top 100 most valuable brands, 47 are American (with 24 in the top 50), 23 Chinese (15 in the top 50), 8 German, 7 Japanese, 4 British (but none in the top 50), 3 South Korean, 2 French, and one each Indian, Swiss, Dutch, and Swedish. In total, there are 18 European companies in the top 100. Overall, US companies are the most represented in this ranking (close to 50%); Chinese companies, largely absent 10 years ago, have quickly emerged and now represent one- fifth of top 100 and top 500 brand value; and European companies also represent around one-fifth.




China is going to have problems, but it is going to come out of those problems just as America did and will become the most successful country in the 21st century.

The 21st century will be China’s century, in the same way that the 20thwas the United States’ and the 19th Great Britain’s.”

Jim Rogers, AWIF 2016

The global economy has quadrupled in size since 1970, so there has been a huge amount of economic development and social change, such as the rise of

middle class populations in emerging countries including China, Indonesia, and Turkey, among others. That has

led to a certain political destabilization, because middle class people are much more demanding of governments

than are poor people. This, for example, is one of the underlying causes of the Arab Spring.

Francis Fukuyama, AWIF 2015

One of the results of the Second World War was the Cold War, a rising threat to freedom and democracy in Europe. We are back in this situation now. Joschka Fisher, AWIF 2015

THEY SAID IT !



Another way to look at power is to compare banks. By total assets, 18 Chinese banks were recently listed in the top 100 worldwide, versus 12 US banks, 8 Japanese, 6 French, 6 UK, 5 Canadian, 5 German, and 5 Spanish. Around 40 European banks, of which 30 are from Eurozone countries, are among the top 100. The four top banks were Chinese (in order - ICBC, CIBC, ABC, BoC), followed by Japan’s Mitsubishi UFJ Financial Group. Two US and two French banks made the top 10.

This ranking is based on reported assets and is not adjusted for different accounting rules. The US uses US GAAP, as opposed to IFRS, which only reports the net derivative position in most cases. Therefore, US banks show fewer derivative assets than comparable non-US banks. Adjusted under IFRS rules, US banks would have a better ranking. For example, by market capitalisation 11 US banks were listed in the top 50 (4 in the top 10), with 9 Chinese (5 in the top 10), 5 UK (1 in the top 10) and 4 Japanese. 12 banks from the BRICs and 7 from the eurozone (2 French, 2 Spanish, 1 Italian, 1 Dutch and 1 German) also appeared in the top 50 banks by market capitalisation.

Finally, military force is another key indicator of hard power. Considering that the US represents almost 45% of world military expenditures (see Box 1), it still has the most hard power. However, as a percentage of GDP both Saudi Arabia (10%) and Russia (4,3%) spent more than the US (3.1%).

In the Global Firepower Index (GFP), which focuses exclusively on military force, the US is in first place, followed by Russia, China, India, France, the UK, Japan and Turkey. The GFP ranking is based on the ability of each country to make war with conventional weapons. The results incorporate values related to resources, finance and geography, with over 55 different factors. Three of the four BRIC countries are among the top four, and Brazil ranks 14th. The US is by far the country with the most hard power. Europe needs to push integration further to be perceived as a more credible contender.

However, hard power is no longer enough: power is a composite concept that must consider economic, financial, technical, human, and political factors, including aspects such as stability, cohesion, influence, and more (see Box 2).

Soft power is a concept proposed by Joseph Nye in 1990 in reaction to those who concluded that US power was declining. He claimed that US power was not declining since the concept of power had to be reconsidered. Soft power has become more important recently. It comes from three main sources: culture (when it attracts others), values such as democracy and human rights (when it respects them), and politics (when they are con-sidered legitimate because they are formulated with humility and awareness of the interests of others). Nye argues that the US has a comparative advantage to play a growing role in the future: “The ability to seduce and persuade other states without having to use force or threats”. This new form of power does not

THE US IS BY FAR THE COUNTRY WITH THE MOST HARD POWER. EUROPE NEEDS TO PUSH INTEGRATION FURTHER TO BE PERCEIVED AS A MORE CREDIBLE CONTENDER.




The goals of the Chinese, for their part, are actually not that hard to understand. They say they were always

a great power and they always exercised dominant influence in their region. Then they went through 100 years of humiliation and now they are back. Other countries, particularly the US and Japan, do not want to recognize the fact that they are

a great power, unlike Putin’s Russia. Francis Fukuyama, AWIF 2015

We should understand that we are in a period of transition, and this period will continue for several years. The US is redefining its role, and I do not mean that it is in a decline; it is really redefining its role. It cannot play the traditional role it played after the Second World War any longer. Joschka Fisher, AWIF 2015

MILITARY EXPENDITURES (IN USD BLN AND IN % OF GDP)

Country Spending (USD bln) Ranking Spending

(% of GDP) Ranking

United States 610.0 1 3.1 3

China 228;0 2 1;9 9

Saudi Arabia 69.4 3 10.0 1

Russia 66.3 4 4.3 2

India 63.9 5 2.5 5

France 57.8 6 2.3 6

United Kingdom 47.2 7 1.8 10

Japan 45.4 8 0.9 15

Germany 44.3 9 1.2 14

South Korea 39.2 10 2.6 4

Brazil 29.3 11 1.4 12

Italy 29.2 12 1.5 11

Australia 27.5 13 2.0 8

Canada 20.6 14 1.3 13

Turkey 18.2 15 2.2 7

World 1739.0 2.2 Source: SIPRI (2018)

THEY SAID IT !


1


operate through coercion but through persuasion. According to Nye, soft power (or the power of persuasion) relies on intan-gible resources such as “the image or positive reputation of a state, its prestige (often its economic or military performance), the degree of openness of its society, its communication skills, the exemplarity of its behaviour (of its internal policies but also of the substance and style of its foreign policy), the attrac-tiveness of its culture, its ideas (religious, political, economic, philosophical), and its scientific and technological influence.”

Different soft power indices exist, among them the “IfG Mon-ocle Soft Power Index”, the “Elcano Global Presence Report”, and the “Portland’s Soft Power 30”. The results vary. While US and European countries always have similar, excellent rankings, China is perceived differently, but is improving. It finishes sec-ond with Elcano, 19th with Monocle and 27th with Portland. In the Portland report, China is ranked fourth in soft power in Asia, with Japan, South Korea, Singapore leading, Taiwan fifth, India eighth and Indonesia ninth.

European countries are usually considered the strongest in soft power, led by the UK, France, and Germany. Some surveys also highlight the US decline, since how a government behaves at home, in international institutions, and in foreign policy can affect its influence on others. In many areas, Donald Trump has reversed attractive American policies, and power indicators highlight the consequences. However, America is more than just Trump or the government. Unlike hard-power, soft-power does not depend much on the government, so the US decline is more in line with global sentiment than with fact. The country is still unrivalled in higher education, cultural production, and technological innovation, and thus preserves its leadership in most surveys.

Power can be a guarantor of success but is of little use if a country cannot make the best use of it. Smart power, a combination of hard and soft power might appear optimal. In 2018, the Elcano Royal Institute and the French Magazine “Conflits“ (in a study coordinated by Jean- Marc Holz) released indices on Smart Power. The Elcano’s Global Presence Report ranks the US and China in the first two places, with the UK, Germany and France rounding out the top 5. The Global Ranking of Power of Conflits (which uses resources, S&T, wealth, stability, political and social cohesion, among other indicators) gives similar results. The US still ranks first, followed by China. Russia, France, the UK, Germany, Canada and Japan are in the top 10 in both studies. Turkey is only 22nd (Elcano) and 29th (Conflits), far down from its ranking in the firepower index (9th). China and Russia rank among the top three powers.

SOFT POWER COMES MAINLY FROM THREE SOURCES: CULTURE (WHEN IT ATTRACTS OTHERS), VALUES SUCH AS DEMOCRACY AND HUMAN RIGHTS (WHEN IT RESPECTS THEM), AND POLITICS (WHEN THEY ARE CONSIDERED LEGITIMATE BECAUSE THEY ARE FORMULATED WITH HUMILITY AND AWARENESS OF THE INTERESTS OF OTHERS).




There are fundamental differences between India and China. For one, India is a democracy, which is

positive, but makes decision making and change slower. Change must first be acknowledged by the people as being in their interest before it can be implemented.

The second difference is that, while China could create the production capacity to become the world’s manufacturer, India became the world’s back-office, providing knowledge-based services. Aside from IT,

India could also go more global in pharmaceutical, steel, and automotive sectors.

Dinesh Kumar Khara, AWIF 2019

The rise of China is, in the long run, the single most difficult challenge to grasp here, because in past history the rapid rise of a very large, well-organized great power has always been one of the most difficult problems for the system to solve.

The Chinese are very smart and very patient. They would much rather have a confrontation when they are much larger than the US, so they will take their time. However, they are gradually making this assertion; for example, they are basically claiming sovereignty over the whole of the South China Sea. Francis Fukuyama, AWIF 2015

DIFFERENT KINDS OF POWER: HARD, SOFT AND SMART

Type of power Hard power Soft power

Components Economic power

Military power

Power of co-optation and soft power

TargetsEncourage

BuyConstrain

DeterConstrain

submit

SeduceAttract

Encourage

MeansInvestments

SubsidiesSanctions

ThreatViolenceCoercion

Popular culture

Combination Smart power

Source : F. Louis (2014)

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Ranking Power indicator of the “Conflits” review (2018)

Elcano’s Global Presence Report on SMART power

1 United States United States

2 China China

3 Russia United Kingdom

4 France Germany

5 United Kingdom France

6 Germany Japan

7 Canada Russia

8 Japan Canada

9 Australia Netherlands

10 Switzerland Italy

While the two surveys rank the US and China at the top, there is a huge gap between them. And the UK, Germany and France, while still in the top five, are gradually losing ground to China. Whatever method is used, the US remains the power of reference, which is not a surprise; but depending on the criteria, the list of the top 10 countries may vary considerably. This is a confirmation of the multipolarity of the world, of the diversity of competitors, of the evolving nature of such rankings, and of the progress of emerging countries.

So far, the US is by far the most complete power and still has an effective hegemony, but China has become a major contender, gaining ground year after year much quicker than other emerging countries. For now, the US does not have to share power with other countries, but leadership is not the same as domination. There have always been degrees of leadership and degrees of influence during the American century. As Nye points out, the US never had complete control, and with slightly less preponderance and a much more complex world, it must make smart strategic choices at home and abroad to maintain its position.

K. Mahbubani goes further, when he considers that “the West’s two-century epoch as global powerhouse is at an end. A new world order, with China and India as the strongest economies, dawns”. Nye considers that, “contrary to those who proclaim the 21st century is the Chinese century, we have not entered a post-American world. But the continuation of the American century will not look like it did in the 20th century. The com-plexity represented by the rise of other countries as well as the increased role of non-state actors will make it more difficult for anyone to wield influence and organize action.” “Analysts should stop using clichés about unipolarity and multipolarity. They will have to live with both in different issues at the same time.” “The American century is likely to continue for a number of decades at the very least, but it will look very different from how it did.”

Power is nevertheless no longer in the hands of one country; we already live in a multipolar world. It explains why the US considers China as a rival and why the tone of the US administration

SMART POWER RANKING: THE US AND CHINA AT THE TOP, BUT THE GAP BETWEEN THEM IS STILL LARGE.




What we see is a world order that is more regionalised. We see the Middle East and we see East Asia, which has serious problems, though I would not define them as a crisis. We see a re-emerging Russia, where I think Vladimir Putin did not conceal his strategy well and will pay a high price. We see the Mediterranean, where Europe is confronted with a refugee crisis, an important element from a European perspective.

Joschka Fisher, AWIF 2015

Africans recognise that they are among the winners of globalisation, which has engendered 20 years of sustained growth for the first time in history. Lionel Zinsou, AWIF 2019

The fundamental issue in Europe is now political. You have a situation where the policies have been a

failure; not an explosive one, but a failure to provide opportunity, to provide jobs for young people and for

everyone.

We just saw that the unreasonable people got a lot of votes in the European parliamentary elections. If this goes on, eventually someone you

do not want to see in power will come to govern at least one country. I hope it is Cyprus and Greece first, because they are a relatively reasonable bunch.

The scary thing is that we have a coalescing of the wagons around policies that are in fact not delivering, and that means the next step is the coming of

the barbarians, and that is where it gets scary.” Paul Krugman, AWIF 2014

THEY SAID IT !



has become more aggressive. This will likely continue. To gain ground, Europe needs to be perceived as a block and single entity, not just a group of countries. Nonetheless, European countries remain influential, since they are individually ranked at the top of most surveys, especially Germany and France, and to a lesser extent Italy and Spain. However, they are significantly behind the US in hard power.

In terms of GDP, China will not be the only rival to the US. With average annual growth at 7%, world GDP would double every decade. In other words, it is likely that the world economy will more than double by 2050, if we exclude a major global catastrophe. The so-called emerging economies will continue to be the world’s growth engine: in 1995, based on GDP at PPP, the E7 countries (China, India, Brazil, Russia, Indonesia, Mexico and Turkey) represented half the size of G7 countries (US, Japan, Germany, France, UK, Canada and Italy). They were roughly the same size in 2015, but they could be double the size of the G7 in 2050 and represent 50% of world GDP. China would remain the largest economy in the world, accounting for around 20% of world GDP in 2050. Mexico should be larger than the UK and Germany by 2050. The EU27 share of world GDP (without the UK due to Brexit) should be down to less than 10% by 2050 and become smaller than India (the second largest country). Six of the seven largest economies in the world could be emerging markets by then.

Table: E7 versus G7, PPP GDP ranking

World ranking in 2016 World ranking in 2050

China 1 1 China

United States 2 2 India

India 3 3 United States

Japan 4 4 Indonesia

Germany 5 5 Brazil

Russia 6 6 Russia

Brazil 7 7 Mexico

Indonesia 8 8 Japan

United Kingdom 9 9 Germany

France 10 10 United Kingdom

Mexico 11 11 Turkey

Italy 12 12 France

Turkey 14 14 Italy

Canada 17 17 Canada

E7 country G7 country

Sources: IMF for 2016 PPP GDP and PwC for projections for 2050

LET’S STOP USING CLICHÉS ABOUT UNIPOLARITY AND MULTIPOLARITY. WE HAVE TO LIVE WITH BOTH IN DIFFERENT ISSUES AT THE SAME TIME.

SIX OF THE SEVEN LARGEST ECONOMIES IN THE WORLD COULD BE EMERGING MARKETS BY 2050.




The Chinese have a wonderful expression, “wei ji yu gan”, which means opportunity

and disaster are the same thing. Whenever there is a disaster, there is opportunity.

Jim Rogers, AWIF 2016

I do not think the Chinese economy can depend forever on exports based on the low cost of labour. As a matter of fact, the labour cost has been going up very fast, partly because of the natural course of economy. When the economy goes forward, national income grows and labour costs will go up. This is also due to the government’s policy to reduce the gap between high-income and lower-income groups. For example, the minimum wage has increased very fast.” Jin Liqun, AWIF 2013

JOSCHKA FISHER ON MIDDLE EAST“We must go back a bit in history to understand what is going on in the Middle East. The modern Middle East emerged out of remnants of the Ottoman Empire at the end of the First World War, and it was designed by one Brit and one Frenchman, Mr. Sykes and Mr. Picot. This creation relied on an outside hegemon of the region, and this outside hegemon consisted of two European colonial powers. After the Second World War, this was more or less taken over by the US. This came to an end with the American intervention in Iraq.What we see now is the second worst event which can happen in inter-national affairs. Number one is direct military aggression, and number two is a vacuum, and this vacuum is because America will not continue in the way it behaved in the last two decades or more. America is with-drawing from the Middle East, step by step, and the vacuum is filled by a power struggle between regional powers, the foremost of which are Iran and Saudi Arabia. This is viewed as a sectarian confrontation, a Sunni majority represented by Saudi Arabia, with Turkey in the background, and on the other side a Shiite majority in Iran. Then you have all the structural problems, lack of economic development and so on. Then you have the Israeli-Palestinian conflict, where nothing positive has happened in years, or will happen.The only positive element in this very grim picture is that there might be an agreement between the five permanent members of the Security Council, plus Germany and Iran, on the nuclear programme at the end of the month. This would be a positive element, but to be very blunt, I am pretty pessimistic about what is going on in the Middle East. This is a long-term development, and external intervention, military intervention, will not help to sort it out; it will increase the chaos.”

Joschka Fisher, AWIF 2015

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DIFFERENT KINDS OF POWER COEXISTPower is a concept with variable geometry; it is an absolute concept but also a relative concept. It is also in many cases a legacy of history. One can now distinguish 10 different kinds of power (Conflits (2018)):

• The hegemonic power exerted by the United States, which almost all the criteria for power: military, technology, population, raw materials, diplomacy, wealth, etc.

• The rival power that China has become over the last few years, which is not as complete and strong as the US, but growing rapidly.

• The old powers, especially Europe, are still significant, but are also losing ground to China. Japan remains essentially an economic power. Spain, Portugal, the Netherlands, England and France were global powers through their fleets and military power, exploration and colonialization, or diplomacy. However, even with the EU they find it hard to compete against the hegemony of the US and the rise of the BRICs. Their heterogeneity makes it difficult to transform wealth into power, even for Germany. In 1900, Europe accounted for a quarter of the world’s population. By 2060, it may account for just 6%—and almost a third will be over 65 years old. However, the size of a population is not always correlated with power, and as Nye said: “predictions of Europe’s downfall have a long history of failing to materialize.”

• The continent-state powers such as Canada, Russia, and Australia have significant influence, in the case of Russia augmented by military power.

• The city-state powers such as Singapore have economic power and local influence.

• The energy powers have importance that varies depending on the price of gas and oil, making their power intermittent.

• The former middle eastern powers such as Turkey and Iran have ambitions that go beyond their means based on military investment and systematic use of force.

• The large emerging countries such as India, Brazil, Mexico, and Indonesia, with large territories and populations and specific strategic positioning have disparate expressions of power.

• The growing ASEAN economies, from developed coun-tries such as South Korea, to the Philippines, Vietnam, Thai-land and Malaysia are not yet real powers, but their economic growth has put them on the geopolitical and economic map.

• The soft powers in Scandinavia and Switzerland, are highly developed with strong social cohesion, and exert discreet but persistent influence on many issues. (Soft power can also be promoted by big countries).

It is clear that the times when power resided in only one, two or three countries is over. The dominant countries have not lost their power, but they are forced to share it now.

THE DOMINANT COUNTRIES HAVE NOT LOST THEIR POWER, BUT THEY ARE FORCED TO SHARE IT NOW.



DIGITAL ECONOMY, ENERGY TRANSITION AND RARE-EARTH METALS: A COMPONENT OF THE POWER OF CHINAEven though the Chinese economic model has evolved and demand for raw materials has slowed - for example, demand for steel is growing at less than 5% a year rather than in in double-digits - it remains considerable. China imports half of its oil and growing quantities of natural gas. Rising incomes have also stoked demand for better quality food products. However, while China is the main consumer of traditional commodities, it is also the main exporter of an increasingly important “new” commodity – rare earths.

The first rare metals were discovered at the end of the 18th century and the beginning of the 19th century. There are about forty kinds, including better-known ones such as cobalt, tungsten, lithium, and mercury. Seventeen that are lesser known are in the family of “rare earth elements (REE) or rare-earth metals (REM). They are: Cerium, Dysprosium, Erbium, Europium, Gadolinium, Holmium, Lanthanum, Lutecium, Neodymium, Praseodymium, Promethium, Samarium, Scandium, Terbium, Thulium, Ytterbium, and Yttrium.

Since it is difficult to isolate them because they have similar chemical properties, they are often taken in rocky amalgams, and were not used much until the 1940s, when they could be purified on an industrial level. There are two main techniques to separate them: flotation, based on hydrophobic or hydrophilic reactions of mineral particles with water, and chemical processes, such as treatment with cyanide or mercury. While the first technique is generally not polluting, the second is.

The widespread use of REMs really started in the 1970s, with yttrium used in cathode ray tubes for colour televisions. Since then, and especially over the past twenty years, their use has taken off. Some REMs, such as those used in smartphones are abundant. Others, such as terbium, yttrium, and europium, are no longer useful since they were mainly used for fluorescent lamps, which are being replaced by LED lamps. Others that are exceedingly rare, such as dysprosium and neodymium, are required for magnets in wind turbines, hard disks, or green car batteries. This is also the case for lanthanum, neodymium, dysprosium, and samarium, which is used for some electric vehicles. Overall, with their crucial role in the digital and green economies, procuring rare earths has become a strategic economic imperative.

It is more difficult to estimate the remaining reserves of REMs than those of petroleum or other raw materials. We do know, however, that our dependence on China is enormous. Brazil, India, and South Africa have long been major producers, but their production is now dwarfed by that of China, which in the early 2010s supplied 90% to 95% of REMs. This near monopoly is dangerous and begs the question of how to be lessen this dependence.

THE MIDDLE EAST HAS OIL, CHINA HAS

RARE-EARTHS. DENG XIAOPING (1992).

THE WAR OF RARE-EARTH METALS IS

ALREADY UNDERWAY



There are three options. One is to diversify supply by producing more elsewhere, although supplies could quickly be exhausted and refining REMs is very polluting. The other is to reduce their use or find alternatives through new technologies.

• One is to diversify supply by producing more elsewhere, although supplies could quickly be exhausted and refining REMs is very polluting. Refining REMs produces toxic and radioactive elements responsible for livestock mortality and human cancers (Pitron, 2019).

• Explore the space is another solution. This may sound odd, but it should be remembered that in 2015 Barack Obama authorized American citizens to become owners of asteroids to exploit (in the future) REM. Not a solution considering the urgency.

• The third solution is to reduce the use of rare-earth metals or find alternatives through new technologies. The only real way to get rid of dependence on China is to bypass the use of REM, and therefore Chinese exports. New technologies using little or no REM appear too. One can for example mention that certain electric engines (Tesla, Renault …) use less REM than before.

China is well aware of the power this dependency gives it, leveraging it in conflicts with its trade partners. Sometimes it couches its political goals in economic terms. For example, in 2009, China announced that it was reducing its exports of REMs to safeguard reserves, promote its energy transition, and protect the environment. Although it is true that green technologies and the digital economy booming in China, the US, EU, and Japan filed a complaint with the WTO in 2012 because of the export restrictions. China ended them in 2015. However, in 2019, amid the escalation of the Sino-US trade tensions, it threatened to cut off all supplies of REMs to the US, for which it furnishes 80% of imports.

In summary, rare-earth metals are at once a geopolitical issue between China and the rest of the world, especially the US, an economic necessity because of their role in the digital economy and energy transition, and an environmental and health threat, due the pollution their refining causes. The hunger for them is reminiscent of the oil boom days or the gold rush and will extend exploration deep into the oceans and possible into space.

CHINA IS WELL AWARE OF THE POWER THAT RARE-EARTH METALS GIVE IT.



CONCLUSIONSo, there are different forms of power, which means that the con-cept of power has greatly evolved. It has become less fungible, less coercive, and less tangible (Louis, 2018).

Power is less fungible than before because it is now more difficult to transform it into influence. How, for example, can one use soft power or financial power to acquire military power, and vice versa?

Power is less coercive than in the past because using force is now more costly. The greater interdependence of economies means that any conflict could have a negative impact on all countries. Less coer-cive solutions to conflicts than applying power, such as negotiations and diplomacy, are preferable.

Power is less tangible than it used to be because it is not based just on economic indicators or statistics, such as population size, the number of banks and multinationals, or the number of tanks and sol-diers. Power is now also based on intangible characteristics such as social cohesion and the universality of a culture, which are difficult to measure but increase a country’s influence.

Power is becoming more co-optive (Nye). It is less about forcing others to adopt a specific vision or behaviour than having the ability to influence them enough so that they willingly do what you want them to. This growth of soft power harks back to the ideas of Her-odotus, Braudel, and Huntington in that cultural differences rather than territorial aspirations are now more likely to generate conflicts.

We saw in the previous chapter that politically and geopolitically, China (but also the United States and Europe to a certain extent) have to avoid many traps: the Herodotus trap, the Tacitus trap, the Thucydides trap, the Kindleberger trap, the Cold War trap, the Chamberlain - Daladier trap. On the economic level, another trap exists: the “middle income trap”, that of not succeeding in pursu-ing a sufficient rate of growth, and of staying at a level much lower than that of developed countries. It should be borne in mind that what has made China powerful over the past decades is its open-ness to the world, but also its rate of growth: both have made it possible to place China on the international scene, to lift a signif-icant part of the population from poverty, and to weigh on world trade... Let one or the other (or both) stop, and so will the place and role of China. The search for more balanced growth is also and above all the search for sufficient growth to keep up with the two major economic powers. For the time being, the GDP per cap-ita of a Chinese (PPP GDP of $ 18k in 2019, OECD data) is 3 times lower than that of an American or a German (respectively 60.7k and 50.1k), 4 times lower than that of a Frenchman (43.2k) or a Canadian (45.8k), 5 times lower than that of a Singaporean (more than 100k)... China ranks 72ndin the world. The gap with Europe is even wider when it comes to GDP per active worker (33k in China, against 102k in France and 92k in Germany). Failure to close this gap, and being caught in the "middle income trap" (as Brazil or Argentina did) would no doubt be very bad news for China in its quest for leadership.

POWER IS LESS ABOUT FORCING

OTHERS TO ADOPT A SPECIFIC VISION OR

BEHAVIOUR THAN ABOUT, BUT RATHER HAVING THE ABILITY TO INFLUENCE THEM

ENOUGH SO THAT THEY WILLINGLY DO WHAT

YOU WANT THEM TO.

FALLING INTO THE 'MIDDLE INCOME TRAP' WOULD NO DOUBT BE VERY BAD NEWS FOR

CHINA IN ITS QUEST FOR LEADERSHIP.




CHAPTER 6

What protection teaches us, is to do to ourselves in time of peace what enemies seek to do to us in time of war.

HENRY GEORGE 19th century economist, in “Protection or Free Trade; an Examination of the Tariff Question, with especial Regard to the Interests of Free Trade” [1886]

The last decade has witnessed a slowing down of globalisation and a rise in protectionism. The 2008 GFC, the decline in GDP growth and the drop in global trade have changed the nature of cooperation and multilateralism. The risk of a global trade war that can severely impact the global economy increased with the election of Donald Trump in 2016. The risks became more apparent in 2018, when the US administration raised tariffs on Chinese, Mexican, Canadian, Japanese and European products, followed by retaliation. Are these tensions the beginning of the end of globalisation and the start of a new era of protectionism, or something even worse?

PROTECTIONISM, DE-GLOBALISATION:

What Way Out?


On December 11, 2001, more than 15 years after its application on July 10, 1986, the World Trade Organisation (WTO) welcomed China as its 143rd member. President Jiang Zemin promised that China would “strike a carefully thought out balance between honouring its commitments and enjoying its rights.” During the next years, China’s trade surplus with the rest of the world ballooned, so it seemed that the balance was definitely in its favour. This could not go on for long and the 2008 GFC changed the tone. Non-cooperative behaviour (protectionism, tariffs and non- tariff barriers) is com-mon during phases of economic stagnation. A way to gain market share in stagnant economy is to curb the trade of one’s partners. This has been the reality since the GFC, starting with non-tariff barriers, mainly from the US, Russia and China. In 2018, the US went one step further, significantly increasing tariffs on goods from several countries, both friends and foes. 2018 may do down as a landmark year when the idea that trade globalisation has gone too far became generally accepted.

IN REGARD TO PROTECTIONISM, 2018 COULD BE CONSIDERED A LANDMARK YEAR.

DECLINING WORLD TRADE: THE DETERMINANTS

For decades trade has grown more rapidly than GDP, but this stopped in the mid-2000s due to several factors.

1. The decline in potential growth. Potential growth has declined over the decade in both advanced and developing countries. The major structural factors include the decline in the working-age population and falling economic activity rates, coupled with lower productivity gains. The increase in inequality and stag-nation in real disposable income also impacts potential growth, and increased debt is constraining public sector budgets.

2. Weak investment. Investment, one of the key drivers of trade, has been weak and there have been few productivity gains, despite recovery from the GFC. There are several possible causes for this unusual situation. They include the severity of the crisis, a lack of credit for new companies, weak domestic demand, or unfavourable demographics.

3. Tariffs are already quite low, so reducing them further and liberalising trade policies has become more difficult. The GATT and WTO negotiations resulted in substantial reductions in tar-iffs after the Second World War. Since the early 1990s, aver-age rates in emerging countries have fallen by three-quarters to below 10%. Tariffs between advanced economies have been halved and are now below 2.5%. Since the GFC, tariffs have remained stable between emerging countries and been reduced only slightly between advanced countries. Trade agreements now have less of an impact and serve more to create a frame-work for trade than to increase its level.

4. While tariffs continue to decline, non-tariff measures (NTMs) have been rising since 2012. NTMs include all measures that restrict or distort trade flows, such as export subsidies, national clauses in public contracts and restrictions on granting licenses, technology transfer or FDI. The financial crisis and the period




2018: US TARIFFS, RETALIATORY TARIFFS AND IMPACTSThe US tariffs• January 2018: Adoption of tariffs for washing machines and solar pan-

els (20% on the first 1.2 million units of washing machines, 50% on the following units).

• March 2018: Tariffs of 25% on imported steel and 10% on imported aluminum.• May 2018: Draft tariffs of 25% on car imports. Project suspended with

Europe during the negotiations.• July 2018: Tariffs of 25% on some Chinese imports (for a total of $ 50bn,

with a first tranche of $ 34bn) and plans to impose tariffs on all Chinese imports (for a value more than $ 500 billion worth of goods).

• August 2018: Implementation of the second tranche of tariffs against China ($ 16 billion) and proposed tariff increase of 10% to 25% on $ 200 billions of Chinese imports. Project to double customs duties towards Turkey.

• September 2018: New series of measures on Chinese imports of $ 200 billion (40% of Chinese exports, or 25% of US imports).

The retaliatory tariffs: some examplesMexican tariffs increase in June 2018 from 20% to 25% on $ 3bn of US prod-ucts such as cheese, steel, Tennessee whiskey, pork, apples and potatoes. Some of them have been lifted in May 2019.On July 1, 2018, Canada implemented retaliatory tariffs on U.S. imports. The value of the Canadian tariffs was set to match the value of the U.S. tariffs dollar-for-dollar and cover 299 U.S. goods, including steel, aluminum, and a variety of other products, including inflatable boats, yogurt, whiskies, candles, and sleeping bags before the tariffs were lifted on May 20, 2019.The European Union set retaliatory tariffs took effect on June 22, 2018, imposing tariffs on about 200 types of US products over $3.3 billion of U.S. goods. Among the U.S. manufacturers affected by the EU's responsive tar-iffs is Harley-Davidson, which even announced that it would move some of their manufacturing out of the US.In response to tariffs on steel and aluminum, China set tariffs of about $ 3 billion for US products (wine, nuts and steel pipes, recycled aluminum and pork). Then China announced new tariffs on imports from the United States worth $ 50bn. After Trump ordered his administration to carry the threat of tariffs from 10% to $ 200bn to 25%, China has announced tariffs of up to 25% for an additional $ 60bn worth of goods. China had imposed the same 8% average tariffs on all countries in January 2018, but in June 2019, average tariffs on American exports had increased to 20.7% while those on other countries had declined to 6.7%.The impactsIn May 2018, more than 1,000 economists co-authored a letter warning Trump about the dangers of entering a trade war, arguing that the tariffs were echoing policy errors, such as the Smoot-Hawley Tariff Act, which helped lead to the Great Depression. Several studies have found that Trump's tariffs reduced US real income and US GDP. they also had an impact on the price, with double-digit increases for a number of products tariffed.A 2019 working paper by Federal Reserve Board economists found that the steel tariffs led to 0.6% fewer jobs (approximately 75,000 jobs) in the manufacturing sector than would have happened in the absence of tariffs.

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known as the Great Recession (2008-2010) had major effects on trade. Countries generally implement more restrictive trade policies during recessions or during periods when they are less competitive. In recent years, the G20 countries, led by the US and Russia, have introduced NTMs on a large scale. However, the role of NTMs should not be overestimated. Their impact on the volume of world trade has been modest, with estimated tariff equivalents of the measures remaining low. Nonetheless, the trend is worrying. Germany, the UK, China and France, for example, which had around 50 NTMs in 2009, have created around 200 new ones in seven years. And the US and Russia, which had 100 NTMs each in 2009 now have over 600 and 500 respectively. What is striking is that since 2009, the number of measures that limit world trade has become much higher than measures that promote trade.

5. The moderation of foreign direct investment (FDI), which has a complementary relationship with trade, has also played a role in limiting trade growth. Following strong growth in the 1990s, worldwide FDI has fallen off over the past 5-7 years.

6. A trend towards local production influences trade volumes. Dynamic interaction between trade and foreign investment lies at the heart of globalisation since investments abroad generate trade. However, they can also reduce it. Over recent decades, many companies have introduced consumer-proximity strategies, shifting to local production and thus lowering trade. Indeed, in the 20th and 21st centuries, we have shifted from a form of trade that helps to “sell” goods to one that helps to “manufacture” goods through a global value chain. The rapid integration of the emerging markets into the world economy stimulated the expansion of this value chain. This process of cross-border production fragmentation appears to be mature now, since labour costs in the main emerging markets have increased. Companies have also taken another look at the risks of long supply chains and are increasingly producing within their traditional export markets.

7. The development of services, in particular financial services, plays a significant role. Deciding to export products abroad involves substantial initial costs, including an analysis of the export market and the establishment of international distribu-tion networks. International shipping takes longer than domes-tic shipping, which means that producers incur production costs before receiving any income. Therefore, exporters seek insurance and payment guarantees from financial institutions. In fact, the development of the financial sector has been a fac-tor in bolstering export capabilities in several industrial sectors. Finance plays two roles: it provides working capital to support international transactions and a means of reducing payment risks. Banking systems are highly developed in most countries, so it is no longer necessary to approach foreign banks as in the past (which allowed US and UK banks to grow). However, the financial crisis slowed down these developments.

IN RECENT YEARS, THE G20 COUNTRIES, LED BY THE US AND RUSSIA, HAVE INTRODUCED NON-TARIFF MEASURES ON A LARGE SCALE.

THE CURRENT REBALANCING OF THE CHINESE ECONOMY AND THE SHIFT IN ITS MODEL TOWARDS AN ECONOMY THAT IS DRIVEN MORE BY CONSUMPTION THAN BY EXPORTS, HAVE GRADUALLY SLOWED THE GROWTH OF IMPORTS FROM CHINA.




WHEN THE US DEFICIT BECAME UNSUSTAINABLE The US deficit with China is almost twice as large as with the EU, while Germany (half of the EU surplus) is similar to Japan 8%-9% of the US deficit). The annual goods and services deficit was around 650 bln dollars at the time of new tariffs. In terms of contribution to the US trade deficit, China was the main contributor, followed by the European Union, Mexico, Japan and Germany. In the recent years, the deficit with China, Mexico and Germany has exploded. Both US and China have substantial trade exposures: US’ total trade with China is 16.9% of its total trade with the rest of the world; China’s total trade with the US is at 14.3%.By no surprise, when the Trump Administration has decided to address this issue, it complained first against China, Mexico and Europe. Japan has massively reduced its surplus vis-à-vis the US in the past 25 years: it represented 65% of the US deficit in 1991, and less than 9% in 2017. Japan has been “replaced” by China (47% of the US deficit in 2017). Additional countries have emerged as contributors to the US trade deficit: Spain, Italy, India and South Korea, to name a few.

All countries that have had rapid growth and converged to the frontiers have done so through

the process of industrialisation. Dani Rodrik, AWIF 2019

The question about globalisation is no longer whether it has gone too far - which was the title of a famous book by Dani Rodrik some 20 years ago. It is more to know whether it’s coming to an end. Daniel Cohen, AWIF 2019

When growth declines, emerging market countries face the same problems as the advanced countries.

Globalisation and technological change have generated societies where, essentially, good jobs have disappeared,

and no one knows where they might come from. Dani Rodrik, AWIF 2019

Aside from fears over climate change, people are also angry because, “As this technological world emerges and globalisation sweeps through, it is not doing what everybody promised it would. John Kerry, AWIF 2019

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8. The role of China in world trade has changed substantially over the last decade. For over 20 years, China was the main supplier of consumer goods to the world. Its rapid development increased the supply of and demand for trade. This acted as a global supply shock, contributing to the fall in relative prices of exchangeable goods and stimulating trade. China quickly became the largest consumer of raw materials, except for oil and gas. Before the Great Recession, China expanded its export capacity considerably. It specialised in industries that were labour-intensive in which it had a comparative advantage. This export-driven growth resulted in the rapid expansion of its manufacturing base, which sustained the growth of world trade. However, this role is diminishing. The current rebalancing of the Chinese economy and its shift toward an economy that is driven more by consumption than exports, has slowed the growth of imports from China. Perhaps the Chinese export sector (10% of worldwide exports) has reached maturity, since the exports to GDP ratio has fallen continuously since 2010. Its export capacity has gradually been reduced as a result of its development and the rise in production costs, which are lower in Vietnam and Mexico, for example.

9. The structure of world trade has changed. Data show that composition effects have played a major role in the slowdown of world trade. The shift in economic activity from advanced economies to emerging economies, which generally have weaker trade elasticities, has had a negative impact on the elasticity of world trade. This geographical composition factor is responsible for around half of the decline in world trade elasticity over recent years. In addition, trade elasticities have also declined in most countries. This composition of demand effects has also been a drag on trade.

10. The increase in behavioural protectionism and hostility towards free trade and globalisation have become realities. IMF data show that emerging or developing countries are more favourable to free trade, while the US sees fewer advantages, either for job creation or wage growth. The temptation to “buy national” (and now even local), a historical trait of the Japanese for example, has spread across the globe. The evolution of wages and taxation over the past decade also explains the hostility towards globalisation, particularly in Europe. Losing faith in the economic system, in institutions, in economic policy, in political leaders, and in globalisation in general, has led to populism, protectionism, and anti-establishment parties (on the extreme right in Europe’s core and extreme left on the periphery). The desire of citizens to end inequality and more equitably share added value with “my-country-first” policies is a new reality. The referendum on Brexit and the US presidential election are examples. Addressing financial stability, inflation, banking system solvency, and wealth effects (through support of equities and real estate) is not enough. This is why the IMF recently criticized globalisation and why the BIS censured central banks for merely boosting capital markets as a reaction to what is really a failure of globalisation.

THE BIS CENSURED CENTRAL BANKS FOR MERELY BOOSTING CAPITAL MARKETS AS A REACTION TO WHAT IS REALLY A FAILURE OF GLOBALISATION.




The way global trade has driven world economic growth is being inverted, with domestic economic growth increasingly driving world trade. It’s a change of perspective that we have to understand and live with.

The question about globalisation is no longer whether it has gone too far, which was the title of a famous book by Dani Rodrik 20 years ago. It is more about whether it is ending. World trade is now more or less expanding at the rate of economic growth of the major economies, China and the US. So, perhaps the way global trade has driven world economic growth has changed and it is now more domestic economic growth that is driving world trade. It is a change of perspective that we must understand and live with. Daniel Cohen, AWIF 2019

Manufacturing has been the base of middle-class societies and the concomitant welfare state and social

democracy. Manufacturing and the kind of good jobs that manufacturing creates is the basis of a lot of good things

that have happened in the world. Dani Rodrik, AWIF 2019

EXPORTS ARE VITAL FOR THE EUROPEAN UNIONExports are vital for the European Union but much of the trade is intra-EU trade, protecting many countries from an external trade war (from direct impacts only though). Intra-European trade is important, but it should also be noted that one-third of EU trade is with the United States and China. For the Member States, however, intra-EU trade is largely dom-inant. According to 2018 Eurostat data, the United States (631 billion euros, or 16.9% of total EU goods trade) and China (573 billion euros, 3%) were the two main trading partners of the EU, far ahead of Switzerland (261 billion euros, or 7.0%), Russia (231 billion euros, or 6.2%), Turkey (154 billion euros, or 4.1%) and Japan (129 billion euros, or 3.5%). While the US share of total EU trade in goods has tended to stagnate between 16% and 18% in recent years, China’s share has almost tripled since 2000 (5% in 2000, 15.3% in 2017).

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A NEW ERA OF PROTECTIONISM SINCE THE 2008 GREAT FINANCIAL CRISISThroughout history free trade waves have most often been accompanied by phases of economic expansion and progress, while phases of economic stagnation are generally accompa-nied by non-cooperative behaviour (use of protectionism, tar-iffs and non-tariffs), with countries trying to gain market share by curbing trade with their partners. Since the GFC, the world has entered a new phase of protectionism, starting with non-tar-iff measures, which have proliferated in countries such as China, Russia and the United States. In the current period, it consists of direct and targeted tariffs, the renegotiation of trade agreements, and retaliatory measures. Therefore, global trade plateaued. In 2017, it briefly appeared to be reviving with growth of more than 5%, the highest rate in seven years, but then it stalled again.

The anti-globalisation sentiment stemming from the crisis started to be translated into concrete policy measures. According to polls in 2018, 60% of French people had a negative opinion of globali-sation and only 13% were favourable to freer trade. 75% of the French and 57% of Germans favoured greater protection against foreign competition, and 47% of Americans and 36% of French wanted more to be done to protect them from today’s world. At the same time, 68% of the French and 55% of Germans consider that globalisation increases social inequalities. Such statistics pro-vide fodder for electoral campaigns. In short, protectionism is back, and with it the fears and risks of a generalized trade war, intense diplomatic friction, and a major decline in global growth.

THE CAUSES OF THE CHINA-US TRADE CONFLICT

• First, the US released the Status of Non-Market Economy report on China questioning China’s economic system (although many countries have, in fact, recognized China as a market economy) (J. Ha (2018). It states that: • “The government controls fundamental economic factors like land

and other resources either directly or indirectly, and state-owned enterprises have control over many economic resources through administrative monopoly.

• Pricing mechanism is still limited in many sectors.• Effectiveness of protection on private property rights is still insufficient.• The government is taking various industrial policies as measures to

realize diversified goals such as technology upgrade”.

• Second, in 2015 China promoted the Made in China 2025 pro-gram (MIC 2025), inspired by the Industry 4.0 plan in Germany. The MIC 2025 encompasses the entire production process and not just advanced technologies. It no longer specifically supports high-tech industries, but includes as priority sectors more tra-ditional industries (marine, train, agriculture). The emphasis on strengthening intellectual property law as well as the incentives for publication and patenting illustrate the Chinese government’s renewed interest in SMEs and mid-cap companies. The status of foreign companies in the plan remains unclear, and the scope of industrial activities related to national security is not explicit.




We are entering a period of de-globalisation. Technology is shifting the world economy from manufacturing, whose

outputs are largely tradeable, to services, which are less tradeable. Supply chains are also changing thanks to ‘skil-

ling-up’ and automation of manufacturing in advanced eco-nomies, which reduces outsourcing to low wage countries.

At the limit, if you can manufacture shoes with 3D printing, then they will be manufactured in the United States and

Germany, and no longer in low-wage countries. Dani Rodrik, AWIF 2019

The WTO seems powerless to counter the rise in protection since the great financial crisis of 2008. The proliferation of non-tariff measures between 2008 and 2017, and then the use of tariff measures by the United States (and China’s retaliation in particular) have all showed how free trade could be in danger as soon as World Trade no longer progressed. Phil ippe Ithurbide, AWIF 2018

GERMANY’ HAS A MAJOR ROLE IS MAJOR IN EU TRADE. Germany is indeed the main export market for a majority of Member States. When this is not the case, it is most often another member of the European Union. In the case of Germany, Ireland and the United Kingdom, the United States is the main destination for their exports, which explains their greater vulnerability in the event of a trade war with the US. On the other hand, many Member States export mass to the EU: Slovakia (86% of its exports), Luxemburg and the Czech Republic (84%), Hungary (81%), Poland (80%), Romania and Slovenia (76%) as well as the Netherlands (75%). These countries are protected by the fact that there can be no lift-ing of tariffs within the EU, between member States. Germany is also the largest source of imports for more than half of the EU Member States. And as for exports, when this is not the case, it is most often another mem-ber-State of the EU. As a result, more than three-quarters of imports of goods came from another EU member State in Luxemburg (83%), Estonia (81%), Slovakia (80%), Latvia (79%), the Czech Republic and Croatia (78%), Austria (77%) and Portugal, Hungary and Romania (76%).

While trade globalisation may be reaching its limit, financial globalisation goes on apace. When the Fed raises or cuts its interest rate, it affects the rates of almost all countries. There is some disconnection between the Eurozone and the US, because Europe has an independent monetary policy, but the influence of the US role in emerging markets remains very strong. So, financial globalisation is still very much alive and will be for some time. Daniel Cohen, AWIF 2019

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• Third, the US called China a “strategic rival” in its National Security Strategy report in December 2017. Its objective is to promote free, fair and reciprocal economic relationships. As the report said, “for decades, the United States has allowed unfair trading practices to grow. Other countries have used dumping, discriminatory non-tariff barriers, forced technology transfers, non-economic capacity, industrial subsidies, and other support from governments and state-owned enterprises to gain economic advantages. Today we must meet the challenge. We will address persistent trade imbalances, break down trade barriers, and provide Americans new opportunities to increase their exports.” “The United States distinguishes between economic competition with countries that follow fair and free market principles and competition with those that act with little regard for those principles.” This is a good introduction to the trade disputes of Donald Trump.

• Fourth, creating trade conflicts with China could benefit the Republicans in elections. A large proportion of US voters is sensitive to the topic and backs Trump’s policies. Protectionism was a key part of his electoral programme and most surveys indicate that it is popular.

The rise of non-tariff protectionism since 2008 and Trump’s threats against China, Mexico, Japan and Europe have changed the perception of world trade. The Fed and other central banks are increasingly worried about protectionism, with the word “trade war” appearing 20 times in the Fed’s Beige Book between 1996 and 2017, and 89 times for the year 2018 alone.

Whether it is respect for intellectual property, technology trans-fers imposed on foreign investors, access to public procurement or transparency, Trump’s criticisms are mostly justified. However, two additional factors play a role - the size of US deficits and the inability of the US to reduce them to sustainable levels, and the struggle between the US and China for world supremacy.

One can also understand the US focus on Europe. The weak capital flows between European countries forced some of them to reduce internal demand and eliminate trade deficits (Spain is the best example, and France the biggest exception). Therefore, the European trade surplus grew substantially, and at a time when the trade balance deteriorated in the US, Japan, and Latin America.

The dysfunction of the Eurozone is partially responsible for the large increase in the trade surplus and the deterioration of the trade balance in the rest of the world. The IMF considers that the enormous trade surplus in Germany, for example, is an incen-tive for its partners to adopt protectionist measures. So to some extent, European countries can blame Germany. It also has a large surplus with the rest of Europe and the lack of capital mobility within the EU, especially North to the South, is a problem.

CHINA IS OFFICIALLY A ‘STRATEGIC RIVAL’ OF THE US.

ONE CAN UNDERSTAND WHY THE US CAN ALSO BLAME EUROPE, AND TO SOME EXTENT WHY EUROPEAN COUNTRIES CAN BLAME GERMANY.




Globalisation has substantially increased the mobility of labour, which has led to a polarisation of opinions,

especially on migration. The educated are looking for opportunities, so new sectors must be developed,

especially when robotics and artificial intelligence eliminate some technical and service jobs.

Dinesh Kumar Khara, AWIF 2019

The slowdown in trade is of particular concern for China’s emerging market trading partners, some of which were already suffering from the fall in commodity prices. Carmen Reinhart, AWIF 2019

UNITED STATES: IMPORTED PRODUCTS AND COUNTRY OF ORIGIN IMPORTSThe table below shows the extent to which imports of vehicles (cars, trucks, buses and auto parts) are crucial in US trade, and for its deficit. It is the flagship product of many trading partners, including Mexico, Germany, Japan, Korea and Canada. Just over 30% of the cars sold in the United States are American models, and more than 25% are produced in the US by foreign companies. Nearly 40% are imported: Mexico, Canada and Japan each represent about 10%, Germany and Korea each represent about 3%. Note that Germany “consumes” 30% of its production of vehicles only (20% are exported to Europe, and 50% to the rest of the world). The table provides also a better understanding of why the Trump Administration has been heavily focused on the motor vehicle sector during the renegoti-ation of NAFTA with Mexico in particular. And it also helps to understand why Europe was not immune from further protectionist measures. And this is all the more true as the automotive sector is a key sector in the political arena. Almost all Swing States, which are crucial in elections, have a significant portion of the automobile sector-related electorate (Michigan, Ohio, Wisconsin, North Carolina…), making it a prime mock for protectionist measures.

Imported product # 1




Canada Oil Automobiles Re-imports Autos parts

China Cell phones Apparels / accessories Computers Computers

accessories

Germany Automobiles Pharmaceutical products Aircrafts Autos parts

Japan Automobiles Autos parts Machinery Aircrafts

Mexico Autos parts Trucks and buses Automobiles Computers

South Korea Automobiles Cell phones Autos parts Petroleum products

United Kingdom

Pharmaceutical products Automobiles Re-imports Aircrafts

Sources: Census Bureau, T. Slok (2018)

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IS TRUMP AN ISOLATIONIST?

The US has had a large trade deficit for long (the early 1970s), and D. Trump announced during the presidential campaign he would address this issue. He considered the structural trade deficit is the best way to prove that global trade is not fair. He also mentioned it can be reduced by increasing the cost of imports through tariffs and / or renegotiating existing agreements, if not eliminating some of them.

D. Trump is not an ardent defender of protectionism, and he does not advocate the end of all Treaties and agreements; in sum, he must not be considered as an isolationist. But unlike Europeans, for example, he gives little credibility to multilateral agreements (such as UN, NATO, WTO, trade agreements, etc.) that seem to him all too restrictive, too constraining. D. Trump prefers by far bilateral agreements and discussions that allow him to better express the power of the United States in particu-lar. He prefers national laws to international treaties, a better way, according to him, to regulate and manage international relations and trade. These are the reasons why he systemat-ically complains against international organisations and why he considers necessary the rejection of global agreements (the Paris climate agreement as a good example) and why all trade agreements have to be renegotiated or abandoned.

According to figures, the US has also comparatively low trade barriers, particularly relative to China. It was therefore easy for D. Trump to justify additional tariffs on the basis of perceived “unfair trade”. Last but not least, the US administration could fix new trade restrictions on China in response to the results of the Section 301 investigations of alleged intellectual property theft by China. Last, the US could implement any measure without WTO views or authorisation because they contest the legitimacy and efficiency of the multilateral institution.

2018: A LANDMARK YEAR

US tariff measures grew rapidly. In January 2018, the US imposed tariffs on washing machines and solar panels; in March 2018, it imposed tariffs of 25% on imported steel and 10% on imported aluminium; in May 2018, it drafted legislation for tariffs of 25% on EU car imports (suspended during negotiations); in July 2018, it imposed tariffs on 25% on some Chinese products, and threatened tariffs on all Chinese imports (worth more than $500 billion); in August 2018, it implemented the second tranche of tariffs against China and proposed increases of 10% to 25% on goods worth $200 billion; also in August 2018 it threatened to double customs duties for Turkey; and in September 2018, it outlined a new series of measures for $200 billion of Chinese imports (40% of Chinese exports, or 25% of US imports (see Box 1)). Note that imports of vehicles (cars, trucks, buses and auto parts) are crucial in US trade and US deficit (see Box 5).

D. TRUMP IS NOT AN ISOLATIONIST, BUT HE PREFERS BILATERAL AGREEMENTS AND DISCUSSIONS THAT ALLOW HIM TO BETTER EXPRESS THE POWER OF THE US.




The disruption of globalisation and world trade are major issues. After the crisis in 2008, G20 heads committed to fighting protectionism, but since then hundreds of restrictive trade measures have been imposed. Jürgen STARK, AWIF 2017

Qualified, smart people like Jeb Bush and Mitt Romney were cast aside for someone who doesn’t spend a lot of time thinking, and doesn’t know much, who capitalised

on the dissatisfaction of average citizens. John Kerry, AWIF 2019

EUROPE, A WINNER IN THE CHINA-US TRADE WAR?The imposition of unilateral tariffs by the United States on China amounts to a positive shock to the terms of trade for the rest of the world: imports outside China suddenly become relatively cheaper for the US consumer. In 2017, China was far from being the only supplier of the United States for many of the products to be impacted by the new US tariffs. In fact, while China exported $ 200 billion worth of these products to the United States, the rest of the world sent an additional $ 600 billion. If the US consumers decide to switch from Chinese products to other exporters, and according to the market power of the companies of the exporting countries, then the regions that should benefit the most from the US-China trade war are the three that are already exporting the most to the United States after China: Canada, Mexico and the Eurozone. All in all, if a trade war between the United States and China can have adverse effects on global growth, the consequences of the “shift in exports” to Canada, Mexico and the Eurozone could be significant. All of this will probably be true if Europe, Mexico and Canada are not hit with harsh protectionist measures.

The United States has a very clear capacity to weaken the WTO in the long run... or to change its operating

rules. On the other hand, a real trade war would probably mean the end of the WTO.


The conflict between the US and China is more about technology and world dominance than trade. There are incentives for temporary peace, but not for resolution. Carmen Reinhart, AWIF 2019

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Retaliations came swiftly. Mexico raised its tariffs from 20% to 25% on $3 billion of US products such as cheese, steel, Tennessee whiskey, pork, apples and potatoes. Canada raised tariffs by 10% to 25% on $12.8 billion of US goods. The European Union planned to set a 25% tariff on about 200 US products, while China, in response to tariffs on steel and aluminium, raised tariffs first on about $3 billion, then on $50 billion, and finally on $60 billion of goods. Later in the year, further retaliatory measures were announced by India, Turkey and Russia. In short, there were so many announced or implemented tariffs that, for world trade, 2018 was definitely a landmark year.

DEFINING THE IMPACTS OF TRADE DISPUTES ON GROWTH

The direct effects of trade disputes are relatively easy to cal-culate as they depend on the volumes of goods affected by tariffs, the magnitude of the tariffs, and the price-sensitivity of exports and imports. Indirect effects are in some cases more damaging and harder to calculate. They include a fall in confi-dence leading to less consumption and investment, increased risk aversion, financial market reactions and potential wealth effects, and shifting imports to other sources and countries, possibly for the long term.

Lessons from economic theoryEconomic theory has focused extensively on protectionism, with the conclusion that its impact depends on the nature of the measures adopted.

• Protectionism can be offensive (or “educative” according to Friedrich List, a 19th century economist), with the ambition of creating national champions, initially protected from foreign competition. Historically protectionism was temporary, used mostly at the beginning of the industrialisation phase of countries to allow fledgling industries to become competitive. Thereafter tariffs were lowered.• Protectionism can also be defensive (N. Kaldor theorised on this in the middle of the 20th century), trying to protect aging industries or uncompetitive sectors by raising barriers. This does not usually make the sector competitive and the protectionist measures employed are generally not temporary.• Protectionism can be multifaceted. It may include tariff measures, non-tariff measures, laws limiting foreign investment, procedures that encourage local production, manipulations of the exchange rate, and subsidies. The impact on trade growth and employment will depend on the type of measures adopted and their length.

The perception of protectionism has evolved over the years. The mercantilists from the 16th century to the middle of the 18th century believed that a state must intervene in the economy by favouring exports over imports. It is the appropriate way to encourage the development of national industries and to favour a positive trade balance, and thus the enrichment of the nation. Marx and Marxist-inspired authors opposed free trade, considering the exchange as unequal and a way for

US TARIFF MEASURES GREW RAPIDLY AND RETALIATION CAME SWIFTLY.

PROTECTION DOES NOT MAKE THE INDUSTRY CONCERNED COMPETITIVE AND THE PROTECTIONIST MEASURES EMPLOYED ARE GENERALLY NOT TEMPORARY.




HOW TO DEFINE A TRADE WAR?Four elements are crucial.• First, in a trade war, countries face attacks in the form of tariffs and

retaliate in kind.• Second, the magnitude of measures is large enough to seriously impact

exports, global trade and GDP growth.• Third, the measures implemented are in line with the ones which prevailed

in the previous trade wars. (This is not the case so far.)• And fourth, for a trade dispute to become a war, it must be global. Until

now, the disputes are still bilateral, mostly between the US and specific countries – not global. For example, The EU and Japan, which repre-sent one third of the world economy, maintain a free trade agreement. Moreover, globally there is still a desire for free trade and to avoid a full-scale trade war.

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developed countries to dominate poor countries. It has been shown, however, that under the right conditions, freer trade favours the development of poorer countries and regions. Trade agreements and international organisations such as the GATT/WTO have contributed significantly to this.

Economic theory suggests that protectionism has several impacts:• It boosts inflation by directly increasing import prices, with

potential impacts on monetary policies;• It hurts global trade, which is a major growth engine;• It can harm consumer and business confidence, with conse-

quences on GDP growth, employment, and equity prices;• It impacts financial markets through negative wealth effects

and further lowers consumption.

The effects can be disproportionate, with countries more-heav-ily exposed to global trade being affected more adversely.

Lessons from historyThe history of US trade wars shows that the risks of retaliation and the negative effects of protectionism have countered the protectionist waves, but this did not prevent damage in terms of growth and jobs (see Box 7 for a definition of trade war). The major trade disputes or wars were the “Tariff of 1828” – also known as the “Tariff of Abominations”, the “Morrill Tariff” of 1861, the “Fordney – McCumber Tariff” of 1922, the “Smoot – Hawley Tariff Act” of 1930, the “US – Japan Trade War” of the 1980s, and the “US steel tariff” of 2002 (see Box 8). They all point to the same conclusions. The US – Japan trade war of the 1980s, for example, which resembles the current trade dispute with China, illustrates that negotiating down the trade deficit through trade policy does not really work.

In the current world with deeply entwined supply chains, a trade war would be much costlier than in previous periods. In the past, a tariff only reduced efficiency at the margins since it relocated production from foreign to domestic firms who in the initial equilibrium have equal costs. When supply chains are deep, however, a tariff cannot be considered simply as a tax on imports; it will also raise the costs of production of domestic firms through more expensive economic inputs.

The “get tough” strategy of Donald Trump is highly questionable. Recent periods of protectionism (in the 1980s under Reagan, and in 2002 under Bush) were not successful, and a trade war at present would not be successful either, for at least four reasons:

• Since the end of the Cold War, power has been shared and US power has declined (this was not yet the case in the 1980s);

• The supremacy of the US over Japan was much higher during their conflict than it is now over China;

• The US share of most of its trading partners’ imports has declined sharply;

• As a member of the WTO (should it is still respect it) its ability to apply unilateral trade sanctions to individual trading part-ners is limited.

THE HISTORY OF US TRADE WARS SHOWS THAT THE RISKS OF RETALIATION AND THE NEGATIVE EFFECTS OF PROTECTIONISM HAVE COUNTERED THE PROTECTIONIST WAVES.




TRADE WARS IN THE US: LESSONS FROM THE PAST

#1 The “Tariff of 1828” (the “Tariff of Abominations”)

The measures: The US raised tariffs to their highest ever level, to protect Northern US industries from low-priced imported goods from Europe, especially Britain.The impacts: The tariffs were strongly opposed by the South, where import prices increased sharply and farmers faced the threat of British purchasers finding alterna-tives. Protectionism is often considered as one of the triggers of the secession war.

#2 The Morrill Tariff of 1861

The measures: In its first year of operation, the Morrill Tariff increased the effective rate collected on dutiable imports by approximately 70%. In 1860, US tariff rates were among the lowest in the world and at historical lows by 19th century standards: the av-erage rate for 1857 through 1860 being around 17% overall, or 21% on dutiable items only. The Morrill Tariff raised these averages to about 26% overall or 36% on dutiable goods. Further increases of tariffs by 1865 rose the tariffs rates, respectively at 38% and 48%.The impacts: It is di cult to assess the precise impact of tariffs on growth and trade during the Secession War. The tariffs played nevertheless a modest role in financing the war compared to the $2.8 billion in bond sales and the printing of Greenbacks

#3 The Fordney – McCumber Tariff of 1922

The measures: The tariff law raised the US tariff rate to an average of about 38.5% for dutiable imports and an average of 14% overall.The impacts: It is east to show the negative impacts on growth, trade and inflation. During the first year of the tariff, the cost of living climbed higher than any other year except during the war. Retaliation actions were significant: 5 years after the imple-mentation of the Fordney - McCumber tariff, France raised its tariffs on automobiles from 45% to 100%, Spain raised its tariffs on US goods by 40%, and Germany and Italy raised their tariffs on wheat.

#4 The” Smoot – Hawley Tariff Act” of 1930

The measures: This Tariff Act of 1930 impacted more than 20,000 imported goods. The average tariff rate on dutiable imports increased from 40.1% in 1929 to 59.1% in 1932.The impacts: The consensus view among economists and economic historians is that the implementation of the Smoot – Hawley Tariff exacerbated the Great Depression, although there is disagreement as to how much. Note that tariffs rose sharply with equivalent magnitude in 1861 (from 18.61% to 36.2%), between 1863 and 1866 (from 32.62% to 48.33%), and between 1920 and 1922 (from 16.4% to 38.1%), without pro-ducing global depressions.

#5 The US – Japan Trade War of the 1980s

The measures: The Reagan administration thus decide to implement 100% tariffs on electronics, Voluntary Export Restraints (VERs) on autos (equivalent to a tariff rate above 60%), steel, and machine industries, Voluntary Import Expansions (VIEs) on Semiconductors...The impacts: US could export more to Japan and Japan invested in the US and created plants ad jobs. However, the bilateral trade deficit continued to expand until the early 1990s. Moreover, it was not costless: the US consumer had to face a sharp increase in the price of cars (due to tariffs and to the behaviour of US companies), and 60,000 jobs were lost in the auto industry between 1982 and 1984...

#6 The US steel tariff of 2002

The measures: In March2002, George W. Bush decided to increase tariffs of up to 30% on imported steel. The US suppressed tariffs at the end of the year, due to a WTO potential $2 billion in sanctions (the largest penalty ever imposed by the WTO to a WTO member) and because of retaliation fears.The impacts: There was no global impact (a limited list of products, a short period of time...), but steel- consuming companies said steel tariffs ended up wiping out 200,000 US jobs.

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8


In other words, it would have been more reasonable and efficient to force China to open its markets via the WTO, leveraging allies such as Europe and Japan, rather than setting up unilateral tariffs.

Lessons from empirical studies To quantify the impacts of a trade war on GDP and global trade is not easy when tariffs and retaliation concern just a few countries and when the indirect impacts are the most important. But attempts to quantify these impacts are instructive and there are several transmission channels of trade wars on GDP growth. They include:

• The dependency on trade;• The ability to substitute for countries whose exports are sub-

ject to tariffs;• The importance of imports as inputs for exports;• The intensity of the trade war and the impact on the confi-

dence indicators that determine the level of economic activ-ity (consumption and investment);

• The impact on the financial markets. A trade war is a com-mon factor for numerous economies and can therefore generate widespread declines in the financial markets, with impacts on economic activity.

According to most studies, even if the magnitude of these impacts differs depending on the assumptions of the studies, the overall impact of a full-scale trade war would be disastrous (see Box 9). A 10% tariff on all goods worldwide would cut global growth by 1%, US growth by 2%, and global trade by 2.5%. The losses could amount to 3 to 4 points of GDP in the United States, China and Europe if the current situation evolves to a classical trade war with a sharp rise in all tariffs generating a significant impact on financial markets and confidence. The impact could be like that of the Great Recession of 2008-2009, and much worse for the most open economies. The French Council of Economic Analysis (CEA - an independent, non-partisan advisory body) analysed two different scenarios:

• A full-scale trade war with a rise of all tariffs to 60%, apart from EU countries where the zero-tariff agreement is maintained. A full-scale trade war is not plausible (see Box 10).

• A limited-scale trade war with a rise of tariffs to 60%, except for countries which have specific bilateral agreement and EU countries.

According to the CEA, a full-scale war would entail a permanent loss of GDP of more than 4% for the EU as a whole and 4% for the US, and more than 3% for France, close to 4.5% for Germany and 12% for Ireland. These losses would be the direct consequence of a sharp fall in trade. For example, France’s trade outside the EU would fall by about 42%. The smaller and more open the countries would be affected through increases in production costs via their value chains and consumer prices, as well as by the loss of markets. EU countries are partly protected by the internal market but the decline in GDP would be comparable to that following the Great Recession. A limited scale trade war

THE LOSSES COULD AMOUNT TO 3 TO 4 POINTS OF GDP IN THE UNITED STATES, CHINA AND EUROPE IF THE CURRENT SITUATION EVOLVES TO A CLASSICAL TRADE WAR WITH A SHARP RISE IN ALL TARIFFS GENERATING A SIGNIFICANT IMPACT ON FINANCIAL MARKETS AND CONFIDENCE.




A SUMMARY TABLE ON THE IMPACTS OF A TRADE WAR

Study Framework of the study Estimated impacts (vs. a base scenario)

Noland – Robinson – Moran (2016)

Potential effects of three trade- war scenarios based on Trump’s pre-election rhetoric.They estimate the impact on the US of a 45% tariff on non- oil imports from China and a 35% tariff on non-oil imports from Mexico, based on differing retaliatory actions.

In a full trade war scenario, in which China and Mexico impose identical tariffs on the US, inflationary pres-sure in the US increases alongside rising import prices, prompting the Fed to raise interest rates. Activity is further dampened by greater un-certainty, which pushes up spreads and the cost of capital, dragging on consumption and investment. As a result, the US enters a recession in 2019, and the unemployment rate peaks at 8.6% in 2020.

McKibbin – Stoeckel (2017)

They estimate the impact of a 40% tariff imposed by the US on imports of manufactured goods from China (assuming no retaliation).

The effect is relatively neutral for the US (if substitution to lower priced products from elsewhere occurs), but harmful for China, in terms of GDP and investment.

McKibbin – Stoeckel (2017)

They estimate how the level of GDP would be affected in one year if all countries were to increase import tariffs by 10% points.

Considering the average effects across countries suggests that a trade war that took this form could reduce global GDP by around 2% within a year.

Bloomberg (2018)

A 10% increase in the cost of US imports followed by an equivalent response on the part of the Rest of the world.

A decline in global GDP of 0.5% after two years: 0.9% in the US, 0.5% in China, 1.8% in Canada, 1.0% in Mexico.

World Bank (2018)

Maximum global tariff increase allowed by the WTO (consoli-dated tariff rates), i.e. 2.7% to 10.2% on average.

After 3 years: a drop in global trade of 9.0%, and a decline in global real income of 0.8%.

International Monetary Fund (2018)

Widespread increase of 10% in the cost of imports for all countries; it also adds an indi-rect effect (confidence shock).

A decline in global real GDP of 1.75% after 5 years and roughly 2% in the longer term. Drop in global trade of 15% after 5 years.

Bank of England (2018)

The BoE assumes that the US will triple import tariffs on all trade partners, i.e. raise them by 10% points.

The estimated direct effect would be a 1.2% lower global GDP through 2021. The effect on the US would be -2.5%. Adding indirect effects would double the adverse impact. The world and the US would see accumulated price hikes of 1.1% and 0.8%, respec-tively, by 2021. A policy dilemma for central banks.

ECB (2018)

10% reciprocal tariffs on the US and its trading partners.

US GDP could fall by more than 2% the first year, and global GDP by 0.75%. World trade contraction by 3% and US GDP down 2%.

Conseil d’Analyse Economique (2018)

Widespread increase in tar-iffs of 60% (except against members of regional trade agreements).

Real GDP would decline: a 2.4% decline in the US, 3.3% in China, 1.5% in Canada, 3.1% in the EU, and a 0.8% decline in Mexico.

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9


would have less impact on European countries, although more than 2% in France and more than 3% in Germany, and a more limited impact on countries such as Canada that have bilateral agreements with the US.

Tellingly, a full-scale trade war would not just have the same effect as the Great Recession, but it would have this on all the major economic powers, including not just China and the EU, but also the US. This negates the US assertion that the EU and China would be the only losers. The losses of the three major trading powers are roughly equivalent at around 3% for China and the US and 4% for the EU. For very open countries, the losses would even greater - more than 10% for Ireland, Canada, Switzerland, Mexico and Korea. In a trade war, there are no winners, only losers.

DEGLOBALISATION: WHAT ARE WE TALKING ABOUT?

In French, there are two kinds of globalisation, the first is the kind known as globalisation in most countries when trends become globalised and form a complete system governed by written and unwritten global rules. The second, which does not create a complete system, is called “mondialisation”, and features multiple links and interconnections between states, companies, people, and events, with decisions occurring in one place affecting individuals and communities living elsewhere. It is a question of degree and represents a different reality.

Despite this terminological ambiguity and the changes to globalisation over the past ten years, it is not threatened. It is not, strictly speaking, a deglobalisation, but rather a change in the intensity of globalisation. Perhaps it is a shift to the French idea of “mondialisation”. Using the typology of Huntzinger (2019), there are six types of globalisation: political, economic, financial, social, cultural, and legal.

Political globalisation continues. This is about the universaliza-tion of the state - what Kissinger called “the triumph of the model of the Westphalian state”. World history has seen the multipli-cation of states and sovereignties (Huntzinger, 2019). The state is considered the only possible political and legal superstruc-ture. In political globalisation, we find all types of societies and states. “Liquid” societies are those that have become inhuman and unstable due to globalisation and individualisation, while “solid” societies have managed to keep a collective spirit and project (Zigmunt Bauman). The types of states include strong states, weak states, rogue states, and even terrorist states, which impose borders or highlight the importance of borders.

Economic globalisation is retreating. This is already observable in global value or production chains. These are measured by the value of the intermediate goods that are inputs for goods that are then exported. For 30 years, China was the key player in this process, before it refocused on domestic demand. In 2004, the value of Chinese imports destined for re-export represented

POLITICAL GLOBALISATION CONTINUES.




In India, financial inclusion could counteract some of the negative effects of globalisation and spawn new industries.

The knowledge industry will eventually be in a position to create incremental

value for our (Indian) fellow citizens. Dinesh Kumar Khara, AWIF 2019

IS A FULL-SCALE TRADE WAR STILL REALISTIC?Multiple scenarios are possible, but four distinct scenarios emerge:• Scenario # 1: A total, global trade war affecting all countries, the most

dangerous for global growth and trade;• Scenario # 2: A scenario of trade disputes between the United States

and a large part of the rest of the world, which preserves the free trade that prevails between them;

• Scenario #3: A scenario of trade disputes with China mainly (only?);• Scenario # 4: As R. Reagan did in the early 80s and G. W. Bush did in

2002, the abandonment of Trump’s protectionist temptations (long-term inefficiency of protection, negative impact on US growth, WTO sanctions, retaliation form partners...) and a return to calm;

• Scenario # 5: And, finally, a scenario in which the next wave of protec-tionism would almost exclusively affect Europe, especially the automo-bile sector. Such a scenario would impact Euro zone growth (a drain of 0.3% for the zone), with a stronger impact on Germany, Slovakia and Czech Republic.

A full-scale trade war is highly unlikely: there would be no winners, only losers. The end of conflicts with China is also highly unlikely, taking into account the lasting rivalry. Note that different scenarios may succeed one another.

A “full scale” trade war would have a permanent effect of similar magnitude on the three major global powers (EU, US and China), to that of the Great Recession of 2008-2009. This completely calls into question the US assertion that the EU and China would be the only losers in a trade war. For very open countries, the losses would even be much bigger (more than 10% for Ireland, Canada, Switzerland, Mexico and Korea).

The risk for European countries, and for the EU as a whole, is essen-tially that Germany is strongly weakened by trade disputes or intensified fears of trade war: indirect impacts of a trade war would represent, by far, the major driver for a decline in GDP growth, trade and employment. Phil ippe Ithurbide, AWIF 2018

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10


almost 30% of total exports, but this fell to 13% in 2019. Like other countries, China is gradually moving out of global value chains. In other words, it is de-globalising. Another manifestation of this is the growth of intra-Asian and intra-European trade over the past decade to the detriment of inter-regional trade.

Although it may too early for firm conclusions, COVID-19 may well accelerate the retreat of economic globalisation. In Chapter 2, we highlighted the danger that health investments were more inspired by economic globalisation (based on the attraction of value chains) than by financial globalisation (better risks and prevention risks). Big changes are likely to take place in the coming years in this area.

Financial globalisation has also been impacted over the last decade and is slowing down. Since the 2008 financial crisis, international lending and deposits between banks have fallen by 35% worldwide. The international market for financial products has also fallen by two-thirds, as has the share of debts held by non-residents in both Europe and the US. This is mostly the result of financial repression and central bank asset purchases (quantitative easing).

Social globalisation, on the other hand, continues to progress. It reflects the rise of trans-nationalisation (Nye, Keohane, 1970s). On the one hand, the world is increasingly populated by non-state actors, be they economic, financial, or religious, and on the other hand, global society no longer depends on the coexistence of states but the interdependence of societies. State politics may no longer be guided by the behaviour of another state, but by that of individuals, for example, a September 11 terrorist, a Chinese student in front of a tank in Tien An Men square, or a Tunisian street vendor setting himself on fire before the Arab Spring. In fact, social globalisation is the number one enemy of authoritarian regimes.

Huntzinger posits that along with NGOs and pressure groups, there are now two other main actors in social globalisation - terrorists and migrants. Terrorists seek to undermine states and have progressed from regional to global action. Migrants represent nomadism, the desire to cross or ignore state borders. Migrant diasporas developed in the 20th century (50 million Chinese, 30 million Indians), and they now constitute important transnational networks, a sort of state within a state. Migrants currently represent 3% of the world population or 200 million people. More than 60% live in developed countries, with three-quarters in thirty of them. More than 50% are in the United States and Europe alone. Migration will remain strong over the next few decades, another indicator that we have entered the post-sovereign world of transnational society.

Cultural globalisation is also progressing, in part through political globalisation. All societies have cultural identities based on common history, language, mythology, religion, and customs. These have often been enhanced by political globalisation,

ECONOMIC GLOBALISATION AND FINANCIAL GLOBALISATION ARE RETREATING.

SOCIAL GLOBALISATION CONTINUES TO PROGRESS.




We cannot say anymore that globalisation equals global trade. To a large extent global

growth is retreating back home. Pascal Blanqué, AWIF 2017

The Chinese Belt and Road initiative is great. Africa needs logistics and transport, which are key for unlocking development. Although the Chinese may be investing mostly to gain access to raw materials, this has many positive externalities. The West may consider this as ‘a colonial adventure’, but infrastructure is permanent, and the Chinese are providing billions of Dollars and expertise. Lionel Zinsou, AWIF 2019

Europeans think that Africa is slow, whereas the Chinese do not. They have taken advantage of this and awakened everyone’s interest in Africa.

An additional problem in Africa is that most of the unemployed are the most qualified. This is the opposite of what happens in advanced economies, where the more qualified have more opportunities. People feel disenfranchised, which can have political consequences and threaten stability. This was not the case 30 years ago. Lionel Zinsou, AWIF 2019

THEY SAID IT !



which has given many groups a political existence and identity. However, at the same time, the world is becoming more divided between its many cultures, and their peaceful coexistence is not guaranteed.

This is nothing new. Herodotus had already shown that relations between peoples generated mainly cultural conflicts and not territorial conflicts (see chapter 4). Braudel and Huntington came to the same conclusion, and Huntzinger posited that in the 19th century the world was multipolar but uni-civilisational, dominated by European culture. In the 20th century, however, it became bipolar and divided into three ideological worlds, the West, the Soviet world, and the Third World. Today, for the first time in history, the world is multipolar and multicultural, with many dividing lines that sometimes lead to neo-nationalist or populist movements. Cultural globalisation is marked by a paradox: The West is declining politically and new powers and civilisations are emerging, however, these are strongly influenced by western culture, which still dominates globalisation.

Legal globalisation is another major trend, although the obses-sion with sovereignty of certain states (US, Russia, Turkey, Hun-gary, etc.) undermines multilateralism and reduces the power of the institutions that symbolise the idea of a global community, like the UN, the G20, and the EU. In addition, migration or reli-gious fundamentalism continues to fuel nationalism. Nonethe-less, the desire to preserve “common goods” is growing. States have gradually become aware of the need to jointly combat cli-mate change, deforestation, the decline of biodiversity, the deg-radation of seas and oceans, and the development of new global pandemics. This trend seems irreversible, with COP 21 in 2015 serving as a landmark. It involved engaging numerous stake-holders, including NGOs, scientists, businesses, and states, to adopt common rules that addressed a problem while adapting to the needs of states according to the principle of «common but differentiated responsibilities». The “One Planet Summit” of 2017, another example, set the commitments for public and pri-vate funding of projects. So, global law seems to be emerging, although it is still far from perfect.

In summary, globalisation is changing, and the trends observed over the past ten years should continue. These are a decline in economic and financial globalisation, and an intensification of cultural, legal, and political globalisation.

POLITICAL DE-WESTERNISATION OF THE WORLD VERSUS CULTURAL WESTERNISATION OF THE WORLD.

THE TRENDS OBSERVED OVER THE PAST TEN YEARS SHOULD CONTINUE: DECLINE IN ECONOMIC AND FINANCIAL GLOBALISATION, INTENSIFICATION OF CULTURAL, LEGAL AND POLITICAL GLOBALISATION.



CONCLUSIONThe last decade has seen a decline in economic and financial globalisation and in multilateralism, and a rise in protection-ism and populism. Historically, freer trade has mostly been accompanied by economic expansion and progress. On the other hand, non-cooperative behaviour (protectionism, tar-iffs, non-tariff measures) usually leads to economic stagna-tion. There are rarely winners, but only losers. The worst-case scenario, when countries engage in a full-scale trade war and protectionism becomes a policy instrument, usually leads to recession. The history of US trade wars and the studies that have evaluated the impacts of trade wars have proven this. It is not new: Henry George, the 19th century economist, said: “What protection teaches us, is that we do to ourselves in time of peace what enemies seek to do to us in time of war”. So, one must remember that, while the interdependence that flows from trade has created enormous opportunities, it has also led to greater vulnerability.

The current situation might seem unusual, but this is not the first time that globalisation must transform and reinvent itself. According to D. Rodrik (2020), we are experiencing the fourth phase of globalisation.

• The first phase lasted from the end of the 19th century to 1914, a period during which people and capital cir-culated freely. During this phase, there was no inter-national institution to regulate the financial system, although the gold standard naturally created monetary discipline. In effect, it forced states to base issuance of money on available gold reserves.

• The second phase began after the Second World War, when only goods moved freely. Capital movements between countries, as well as the movement of people, were tightly controlled. International institutions, such as the IMF and the OECD, were created to oversee the system and to enforce the rules. States nevertheless retained room for maneuver via public policies.

• The third phase of globalisation, or “hyper-globalisa-tion”, began in the 1980s. Goods and capital circulate almost without obstacles, and international institutions such as the IMF, the WTO, and the EU force states to lib-eralise their economies and tighten domestic policies to guarantee budget stability. This was relatively successful until the 2008 great financial crisis.

• The fourth phase of globalisation began following the crisis, with world trade growing less rapidly than world production and the circulation of capital decreasing markedly. Regulation is taking over and liberal ideology is heckled, while states seek to regain more national autonomy. Brexit, the growth of populist movements,



and the rise of protectionism, are the most visible manifestations. International regulatory institutions now have more power, but those that continue to promote the goals of the third phase of globalisa-tion, such as the WTO, are gradually being marginal-ised. COVID-19 is a new wild card as we live through this fourth phase.

The current period may not be a total regime shift in terms of globalisation (back to the Nations), but it is certainly a proof that trade globalisation went too far. Financial globalisation to some extent is by far more solid than trade globalisation. And as for the COVID-19, he came to recall - if need be - that the borders can just be an illusion in some circumstances, and that cooperation is better than individualism, whether individuals or countries. The 2002 SARS-CoV (Severe Acute Respiratory Syndrome CoronaVirus) and the MERS-CoV (Middle-East Respiratory Syndrome CoronaVirus) were not global, which is not the case of the COVID-19: it cannot be considered as the disease of a country or a zone.

THE COVID-19 CAME TO RECALL - IF NEED BE - THAT THE BORDERS ARE JUST AN ILLUSION, ANT THAT COOPERATION IS BETTER THAN INDIVIDUALISM, WHETHER INDIVIDUALS OR COUNTRIES.

THE CURRENT PHASE MAY NOT BE A TOTAL REGIME SHIFT IN TERMS OF GLOBALISATION, BUT IT IS CERTAINLY A PROOF THAT TRADE GLOBALISATION WENT TOO FAR.



172 I AMUNDI 10-YEAR AMUNDI 10-YEAR I 173172 I AMUNDI 10-YEAR AMUNDI 10-YEAR I 173


If you have a rival you must please to be preferred over him. if you do not have one you must still please to avoid

getting one.

PIERRE CHODERLOS DE LACLOSWriter and military officer (1741 – 1803)

CHAPTER 7

The US Dollar is by far the most complete international currency, well ahead of the Euro and the Renminbi. But currency competition is not just between sovereign currencies. Electronic and digital currencies (the first one, Bitcoin, has been created in 2009) are gaining ground because of their ease and speed of use, a certain mistrust of banks and fiat currencies, and a change in habits. The benign neglect of central bankers during the early stages of digital currencies has disappeared. They are now looking at the impact of stablecoins, the second generation of (private) digital currencies, on monetary policy and financial stability. Some plan to launch their own “central bank digital currencies” (CB-DC), a third generation of digital or crypto currency.

USD VS. EUR VS. RMB, FIAT MONEY VS. CRYPTOCURRENCIES:

Will the US Dollar Cease to be the Principal International Currency?


The Dollar remains the most important international currency, although declining in recent years, especially as a percentage of central banks’ FX reserves. Newer currencies, such as the Renminbi and Euro, have emerged and central banks are diversifying their portfolios, especially in Asia. And some older currencies, such as the Yen and gold, are gaining ground. However, the Dollar is still the only currency that is accepted worldwide as a reserve currency, as an invoicing currency, as a vehicle currency, as a reference currency, and as an intervention currency. The US government, because of its persistent fiscal and current account deficits (and through the balance sheet of the Fed), continuously feeds the global dollar-denominated liquidity market (a difference from Germany, for example). Is the advent of crypto currencies (both private and public) a reason to consider that a new era is emerging?

THE CURRENCY WAR: EUR, USD AND RMB COMPETING FOR AN INTERNATIONAL ROLELESSONS FROM THE RECENT PAST

It was the 1944 Bretton Woods Agreement that brought the Dol-lar into its current position as an international currency. Prior to this agreement, most countries were bound to the gold standard and their governments guaranteed the exchange of their cur-rency against gold on demand. After the Second World War, the developed countries met in Bretton Woods, New Hampshire, to establish new monetary rules and a new international monetary system, which aimed to be more stable and capable of manag-ing reconstruction and the future economic expansion. The Bret-ton Woods agreements led to the fixing of the exchange rate of all currencies vis-a-vis the US Dollar. At that time, the United States held the largest gold reserves. The agreement has also allowed other countries to support their currencies with Dollars rather than gold and to change the role of the Dollar in the global economy. The US Dollar has quickly become the world reference, to the great advantage of the United States. By no surprise, since then, the United States has clearly demonstrated its desire to maintain the advantage to print an international currency. The capacity to finance deficits (especially following crises) and the need for US economic partners to manage FX rates versus the Dollar were at a paroxysm when J.B. Connally, the US secretary of Treasury, declared in 1971 to European finance ministers, “the Dollar is our currency, but it is your problem”. Europe and Japan, among others then stopped protecting the external value of the Dollar. In December 1971, the Bretton Woods Agreement was officially abandoned, the convertibility of the Dollar into gold was abandoned, and the Dollar was devalued (a second devaluation would occur in February 1973). A multipolar system a “monetary polycentrism” surfaced, with the German Mark), the Japanese Yen, the Swiss Franc, the British Pound and the French Franc gaining ground as international currencies. However, due to the size and role of the US economy and to the lack of liquid-ity of alternatives to the Dollar, the US currency never stopped being the major international currency. Moreover, the US never stopped feeding international markets with Dollar assets, even through, or thanks to, higher debt and higher deficits.


USD VS. EUR VS. RMB, FIAT MONEY VS. CRYPTOCURRENCIES…


The Dollar will continue to be the world’s reserve currency, despite the US running twin deficits (in trade/

current account and budget) for many years and its growing public sector debt. Normally the Dollar should

depreciate under these circumstances, as happened in the 1970s; however, this is slowed by the flight to the Dollar.

Carmen Reinhart, AWIF 2019

If you remember, in the late 1990s, there were august scholars in Britain and elsewhere who were saying that the Euro was going to be the international currency in 2014. Why? Read the Maastricht Treaty. If everybody had stuck by that, and the United States did what it has done, then the Euro probably would have been the international currency. However, that is not what happened. Thomas Sargent, AWIF 2014

As for China, there are two issues one must separate. One is the role of China in the world economy in terms of its trade surplus and its influence on capital movements and, more importantly perhaps, the assets people hold.

The second is the growing wish of the Chinese to see not a rapid but at least a steady movement toward the

Renminbi being used as an international currency. Lord Mervyn King, AWIF 2014

Part of the problem is that when the Fed takes action, because the Dollar is an international currency, it has global impact. But part of the problem arises from emerging countries’ goals which require them to smooth out and manage exchange rates. Ben Bernanke, AWIF 2014

THEY SAID IT !



For the US economy, the capacity to finance higher deficits and debt is undoubtedly one of the major advantages of having the Dollar as an international currency:

• US Treasury bonds are systematically considered as a safe haven, as well as the Dollar, even when the crisis comes from the United States (this was the case of the great financial crisis of 2008);

• US deficits are easy to finance as long as there is a “natural and recurrent” demand for US Dollars (the privilege of an international currency).

This situation has helped US administrations manage crises and recessions better than other countries, and weaken their economic partners when desired.

But in less than 20 years, the IMS (International Monetary system) has radically changed. Before the end of the 1990’s, the supremacy of the Dollar was indisputable. The Euro did not exist, and China was “simply” the factory of the world. From the end of the 1990’s to the middle of the 2010’s, there was a “gentleman’s agreement” between China and the US: the US accepted to run a large trade deficit with China, while China invested the surplus into US assets. This agreement, called “Bretton Woods 2” benefitted both the US and China. However, the business model of China has changed (more services, less export-led growth and more internal demand-led growth, lower potential growth), trade surpluses have shrunk, and China invests less in US assets. So, Bretton Woods 2 disappeared in 2014 and Europe became the creditor of the US, replacing China.

With the Trump Administration, the US model has changed and the International Monetary System moved from a coop-erative model (Bretton Woods 2) to a non-cooperative sys-tem: The US reverted to a mercantilist approach, with non-tariff measures since the Great Financial Crisis (GFC), and tariffs for the past two years, with the Trump administration targeting Chinese, Japanese and European products. In substance, the US does not accept running large trade deficits with Europe (and China), and would like to force Europe (and China) to buy US products. Bretton Woods 2 is dead, but there is no Bretton Woods 3 with Europe or China.

In the current non-cooperative IMS the US Dollar is still “the” international currency, although declining, while the Euro, the Renminbi and other currencies (including the Japanese Yen or the Swiss Franc) struggle to improve their ranking. However, unlike the Yen, the Pound, the Swiss Franc and the Renminbi and to a lesser extent the Euro, the Dollar is a “full” international currency (the only one), and the US is reluctant to share the advantages of printing an international currency. The disputes with China (tweets, tariffs, non-tariff measures, trade agreements ...) are part of this reluctance.

WITH THE TRUMP ADMINISTRATION, THE US MODEL HAS CHANGED AND THE INTERNATIONAL MONETARY SYSTEM MOVED FROM A COOPERATIVE MODEL TO A NON-COOPERATIVE SYSTEM.




China is the top importer of commodities of any kind worldwide. These are quoted, invoiced and traded in

Dollars. But the Dollar is probably the worst reference currency for commodities, at least in the short term. For

example, when the price of gold or oil fluctuates it is mostly due to a change in the fundamentals of the Dollar and not to changes in the fundamentals in gold or oil.


The Dollar debt standard is alive and kicking and the Yen is marginal, with no intention of being an international currency. The Euro is on the side lines and is a variable of adjustment; to an extent it is the only real floating currency in the system. Pascal Blanqué, AWIF 2014

INTERNATIONAL CURRENCIES: ADVANTAGES AND DISADVANTAGESThe advantages 1. Thanks to the billing process, the internationalisation of the currency gives

the country’s exporters / importers the possibility to limit exchange rate risk and even to transfer the risk to the foreign customers / providers.

2. Thanks to the internationalisation, the domestic capital markets expand much quicker than foreign markets, a strong advantage for domestic entities.

3. It allows domestic firms and financial institutions to access international financial markets “without incurring exchange rate risk and to borrow more cheaply and on a larger scale than they can at home” (P. Kenen, 2011).

4. It benefits to the domestic economy, thanks to a larger and more profitable financial sector, able to serve the domestic non- financial sector better.

5. Currency internationalization will allow the country’s government to finance its budget deficit by issuing domestic currency debt on international mar-kets, and not by issuing in foreign currency denominated instruments. As a consequence, at the opposite of numerous countries, internationalization of the currency may allow the government to finance current account deficits without drawing on its reserves.

6. The country issuing an international currency can invest abroad very easily, the expansion being financed by countries targeted for FDIs

7. Last but not least, history recalls that it allows the country to adopt benign neglect attitude for its own currency, forcing economic partners to protect FX rates. The US is certainly a good example of this laissez-faire.

The dangers 1. With an international currency, there is a good chance the country’s public

debt to be in the hands of foreign investors. As a consequence, periods of high volatility and depreciation of the currency are inevitable, Mistrust may also generate financial crises... This is even worse for countries having relatively small - and vulnerable - financial markets compared to the size of their economy (it is not the case for the US or the Eurozone).

2. The country cannot control capital flows anymore. Currency internation-alization usually moves in tandem with the absence (reduction) of capital controls, which limits the capacity of the central bank to control domestic interest rates. Chinese officials have no doubt that in mind...

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THE PUBLIC AND PRIVATE USE OF CURRENCIES

An international currency has four functions: it is a reserve currency for central banks; it is an intervention currency, used by central banks to curb undesired FX rate movements; it is a settlement currency with the true value of an international currency determined by its ability to establish itself in third-party trade; and it is a reference currency, especially for international debt and commodities.

The Euro and the Dollar are at present the only currencies with an international role, but the Euro lags behind in functions such as FX turnover and FX reserves. With the Renminbi emerging, we could enter into a multipolar currency system.

In regard to global trade invoicing and payments, the Euro and the Dollar each represent around 40% of world transactions. The Euro also has to be considered as an international currency in terms of FX reserves, international debt, international loans and FX turnover, but it lags behind the US currency. The Japanese Yen has a relatively small role in FX markets, while the Renminbi so far is a marginal currency in regard to all the functions of an international currency.

It is only as an invoicing currency that the Euro competes with the Dollar – each have market shares of 40%. But a recent study by the Bruegel Institute demonstrates the regional role of the Euro. It is mainly used for trade with non-Eurozone European countries and European neighborhood countries. The Dollar, on the other hand, has a true international role. In East Asia and Latin America, for example, trade is overwhelmingly invoiced in Dollars. Even in Europe, the Dollar’s share is high, partially because so many commodities are denominated in Dollars. In fact, the share of US dollar-denominated world trade is more than three times higher than the United States’ share of world trade.

Nevertheless, the status of the Dollar may diminish in the long term for six reasons:

• The pursuit of FX reserve diversification by Asian central banks into alternative currencies and gold;

• The continuation of the internationalisation of the Renminbi as a contender of the Dollar, along with the Euro;

• The capacity of the Eurozone to improve its institutional and economic set-up:

• The political and economic will of Eurozone countries (especially Germany);

• The difficulty of the US to continue to attract international sav-ings (as it has since the 1970s) to finance structural twin deficits;

• The foreign policy of the US administration.

INTERNATIONAL CURRENCIES: ADVANTAGES AND DISADVANTAGES

The emergence of a true international currency is a long pro-cess that historically has depended on financial stability. The lit-erature on the benefits of having an international currency is

THE EURO AND THE DOLLAR ARE AT PRESENT THE ONLY CURRENCIES WITH AN INTERNATIONAL ROLE.

IN REGARD TO GLOBAL TRADE INVOICING AND PAYMENTS, THE EURO AND THE US DOLLAR EACH REPRESENT AROUND 40% OF WORLD TRANSACTIONS.

EVEN IF TWO CONTENDERS EXIST AT PRESENT - THE EURO AND THE RENMINBI - THE US DOLLAR IS THE ONLY CURRENCY TO BE CONSIDERED A COMPLETE INTERNATIONAL CURRENCY.




It is difficult to say that the Chinese Yuan is a contender at the moment. First, it has to outshine the Yen, which is easy. Then it has to outshine the Pound, which is not too complex, but then it will have to compete with the Euro and the Dollar, and that is another story. Phil ippe Ithurbide, AWIF 2014

The reason Sterling fell from its preeminent position was because the economic consequence of two world

wars was the devastation of the UK’s underlying fiscal position. That was clearly the end of Sterling as the

international currency. Lord Mervyn King, AWIF 2014

If you look historically, there are two simple principles involved in determining which country or countries are going to have reserve currencies. The first necessary condition is to have a sustained fiscal balance, which is the present value budget balance under the control of the fiscal authorities. The second is having active, liquid, and relatively unfettered financial markets. If you combine these two things, you will have the necessary conditions. Thomas Sargent, AWIF 2014

INTERNATIONALISATION OF THE JAPANESE YEN LESSONS FOR CHINAThe government supported the internationalisation of the yen, and favoured domestic financial liberalisation as a means of providing attractive yen instruments to non-residents in one hand, and both the liberalisation of eu-royen transactions and the internationalisation of Tokyo on the other hand. However, in concrete terms, the yen has not emerged as an international currency, due to the prolonged economic stagnation / recession and to the lack of confidence. Tokyo as an international financial centre declined, and the government implemented a financial “big bang” in 1996 to restore financial markets and institutions competitiveness, with notably the elimination of barriers and a reform of the FX market. What have we learnt?Lesson # 1: In the foreseeable future, the Japanese yen has a very little chance to increase its role as an international currency: the RMB can fill that empty seat in Asia;Lesson # 2: The liberalisation of capital markets represents a prerequisite for the internationalisation of the currency;Lesson # 3: Confidence in the economy is crucial;Lesson # 4: Domestic markets have to be attractive to foreign investors and foreign financial institutions in order to increase the need to use the currency;Lesson # 5: Bargaining power in trade invoicing currency helps to install the currency as an international one;Lesson # 6: Domestic financial centers must be developed as regional centers;Lesson # 7: The relative stability of the RMB in Asia is a prerequisite for this currency to be used and accepted as an international currency, and as a contender / substitute for the US Dollar.

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extensive, with studies concluding that one cannot be created by decree. For an international currency to emerge, several cri-teria must be met:

• Size and liquidity: To become an international currency, the size of the economy (in terms of GDP, volume of trade) is important. Large and liquid markets reduce transaction costs and attract participants, which is positive for both for invest-ment vehicles and investment financing. A large supply of debt matters in the choice of a safe asset (which reduces the cost of borrowing via the liquidity premium) and, as a conse-quence, for the investment financing and reserve functions.

• Sustainability of debt: A good fiscal situation will affect the choice of the safe asset.

• Political will: The central bank’s behaviour to promote the international use of the currency is important.

• Stability: The financial stability of the issuing country com-pared with other countries is also critical to enhance the store-of-value role.

• The removal of obstacles to the free movement of capital: Full convertibility of the currency and openness of the capital account must be present.

The competition between currencies is fierce, as we are seeing now with the weakening of the Dollar and the probably irrevers-ible rise of the Renminbi, as well as the potential of the Euro.

An international currency provides many benefits and dangers to the country that issues it (see Box 1). The benefits include easier finance of deficits and economic expansions, less exchange rate risk, the luxury of being able to neglect its price, and better access to safe haven assets. It also helps other countries by giving them access to an ultra-liquid capital market and the use of universally accepted assets in other transactions. An international currency can pose dangers to the issuing country, however, such as dependence on foreign holders of assets denominated in it, and a diminished capacity to control capital flows. Japan supported the internationalisation of the yen, but without any success (see Box 2).

CENTRAL BANK RESERVES IN RETROSPECT

After the 2008 GFC, central banks’ FX reserve managers sharply reduced their exposure to US agency securities and rebalanced their portfolios with long-term Treasuries and equities. The share of equities in long-term US assets held by foreign pub-lic institutions rose from 10% in 2007 to 18% in 2015. Follow-ing the GFC and the subsequent Eurozone crisis, the weight of the Euro as a reserve currency fell dramatically, from a peak of 28% in Q3 2009, to 19% at the end of 2015, its lowest level since 2000 (it is around 20.5% at present). The Dollar, although falling from a peak of 72% in 1999, remained by far the most important reserve currency, with a 61.5% share in H1 2019. How-ever, in a sign of the increasingly multipolar monetary system, several other currencies gained FX reserve market share from 2012 to 2019. The Renminbi’s share grew from 1% to 2% the

THE EMERGENCE OF A TRUE INTERNATIONAL CURRENCY IS A LONG PROCESS THAT HISTORICALLY HAS DEPENDED ON FINANCIAL STABILITY.




Is the Euro the same in Germany as elsewhere? A five-euro note is the same, but what has not been decided is whether a euro sovereign bond issued by Portugal or Greece is the same one issued by Germany. Thomas Sargent, AWIF 2014

It was probably too optimistic to expect the Euro to challenge the Dollar as a full international currency

in 10 years’ time, and it did not happen. Pascal Blanqué, AWIF 2014

On the role of the international currency, China will take a very long view. This is not one of the things driving its economic policy now. Lord Mervyn King, AWIF 2014

THE INTERNATIONALISATION OF THE RENMINBI: THE RATIONALE BEHINDChina decided to accelerate the internationalisation of the RMB in the late 2000s, for 5 major (official and non-official) reasons:• To align the role of the currency with the size of China in the world

economy;• To allow Chinesecorporates to reduce their dependence on the US dollar

and also to reduce FX cost and risk;• To reduce the accumulation of FX reserves;• To develop a fixed-income market to attract foreign investors... and a

way to finance reforms;• To introduce additional and external pressures towards a necessary financial

liberalisation. In the same way, the entry of China into the WTO in 2001 kick-started the reforms of country’s state-owned commercial banks.

The competition between the USD and the RMB has then officially started.

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Yens from 3.5% to 5.25%, and the Australian and Canadian Dol-lars were also increasingly used. Meanwhile, the Euro, the Swiss Franc and the Pound, already important reserve currencies, did not benefit from this trend.

The role of the Dollar has declined in the past decade for several reasons:

• The emergence of the Euro as a reserve currency;• Low interest rates in the US;• Higher debt in the US;• The decline of the US share of the world economy;• FX reserve diversification, especially in China, Japan and Russia;• Political factors.

The role of the Euro has also declined since the GFC due to diversification of FX reserves, and other reasons:

• The 2011-2012 debt crisis;• The recession that followed he GFC and the debt crisis;• The doubts about the survival of the Euro (the loss in

predictability);• The deterioration in the credit quality of European bonds (less

German Bunds, more peripheral country bonds);• The weakness and the instability of the Euro.

In 2009, the highest point, the share of Euros in FX reserves was 27.25%. By 2018 it was only 20.70%.

Since 2012, the Eurozone has had a large savings surplus. The current account surplus is over 3.5% for the whole zone, and close to 8% in Germany and the Netherlands, which is the opposite of the United States. This has eliminated external debt, making it difficult to use the Euro as an international reserve currency. Since 2015, non-residents have also reduced their holdings of Eurozone bonds. While the United States has chosen to have external debt and deficits because of its low savings and high consumption rates, the Eurozone (especially since 2012) has chosen to have external surpluses and to accumulate foreign assets.

In recent years, FX reserves have risen in some central banks. According to the 2019 Central Banks Gold Reserves survey, in developing economies the impetus is to build a buffer against balance of payments crises, while in advanced economies the considerations are exchange rates and monetary policy.

IS THE INTERNATIONAL ROLE OF THE DOLLAR AT RISK?

The Dollar’s recent decline as an international currency stems from three factors: the lower accumulation of FX reserves world-wide, excessive US debts and deficits (and the expectation they will continue), and a more unpredictable US foreign policy.

First factor: Since 2014, FX reserves ceased to increase while diversification has intensified.

THE INTERNA- TIONAL ROLE OF BOTH THE DOLLAR AND THE EURO HAVE DECLINED IN THE PAST DECADE.




There is no alternative to the Dollar today and there is no interest across the US-Asia axis in jeopardizing this. It would be a lose-lose game. There is an equilibrium of fear and interest at work between the US and China. Pascal Blanqué, AWIF 2014

Becoming a safe haven would help the Eurozone, from playing a role in payment systems to increased use of

the Euro as an international currency. There have been discussions on what kinds of safe assets Europe can create,

which could be revived by the new European Commission. There are already embryonic common issuance platforms of such assets, for example the European Stability Mechanism

and the European Investment Bank. Natacha Val la, AWIF 2019

I do not think the euro area should set its objective to be an international currency. Its objective is to try and stay alive. Lord Mervyn King, AWIF 2014

FINANCIAL LIBERALISATION IN SCANDINAVIA LESSONS FOR CHINAThroughout history, lots of countries have decided to liberalise the financial markets, open the capital account and abandon capital controls… and it is worth comparing the current financial liberalization in China with other ex-periences. There are several reasons to consider the Scandinavian experience to be useful, simply because China today and the Nordic countries before liberalisation, i.e. in the mid- 80s, share a critical mass of common features: a bank-dominated financial system, strong credit controls, exchange (capi-tal account) controls, lack of risk management experience, lack of financial knowledge … Similarities are much higher than generally thought. Five lessons for China can be mentioned (see Chen – Jonung – Unteroberdoerster (2009)):Lesson # 1: Financial liberalisation does not necessarily pave the way toward financial crises, except when policy makers and central banks misunderstand the effective operation of newly unregulated financial marketsLesson # 2: Reforms need to be properly sequenced to minimise pro-cyclical effectsLesson # 3: The financial supervisory system has to be reformed prior to or (at the latest) simultaneously with financial liberalisationLesson # 4: A “big bang” approach to financial liberalisation as applied by the Nordics (apart from Denmark) should be avoided in China, where a cautious approach should be favoured by liberalising in small, but substantive stepsLesson # 5: In the long-run, financial liberalisation tended to be beneficial for the countries that decided to move gradually, step by step.

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Many central banks try to avoid sharp appreciations of their currencies (oil-exporting countries, emerging countries, China, Japan). This is a major change compared to the 2000-2014 period, when FX reserves surged. It represents a boost for the Dollar, given its importance in reserves. A large part of the increase was invested in Dollars, facilitating US deficits. With the diversification of FX reserves, low US interest rates and high debts, and the falling US share of the world economy, the importance of Dollars in FX reserves can only decline.

Second factor: US deficits continue to rise significantly

US fiscal and trade deficits have further deteriorated in recent years, particularly due to the tax and fiscal boost, the slow-down of the US economy and the strength of domestic con-sumption. The question is whether the US can finance these twin deficits. Is the risk-free asset role of US public debt and the global demand for US Treasuries sufficient? Indeed, the US public debt is the largest global risk-free asset, thanks to the liquidity of the US market and the ability of the state to remain solvent. During crises and recessions, investors rush to this asset class, which lowers US equilibrium interest rates and leads to an appreciation of the Dollar. This is an unsustainable paradox: US problems create incentives to buy Dollar assets.

However, historically there have been periods when the risk-free asset role of the US debt has been weaker.

Sometimes it is insufficient to finance the US public deficit, and it normally leads to a rise in US bond yields. This occurred in 1983-84, 1990-91, 2013-2014, and 2017-2018.

At other times, it is insufficient to finance the US external deficit, which normally leads to a depreciation of the Dollar, as in 1985-87, and in 2004-2008.

In theory, in such cases, there could be either a depreciation of the Dollar or an increase in the risk premium on US bonds and therefore a rise in long-term rates and an increase in spreads with German bonds, for example. Or it can lead to a fall in growth or a recession, or a combination of all three.

At present, the twin deficits represent a risk that is not yet priced into valuations. This favors additional diversification in FX reserves and further usage of alternative currencies.

Third factor: The United States can allow the international role of the Dollar to deteriorate, directly or indirectly.

US foreign policy may be a determinant for the level of Dollars in FX reserves. Donald Trump’s foreign policy could have dire consequences. A recent study (Eichengreen et al, 2018) shows that the share of Dollars in foreign reserve holdings depends on the US security umbrella. The authors assess the role of economic and security considerations in the currency

WITH THE DIVERSIFICATION OF FX RESERVES, LOW US INTEREST RATES AND HIGH DEBTS, AND THE FALLING US SHARE OF THE WORLD ECONOMY, THE IMPORTANCE OF DOLLARS IN FX RESERVES CAN ONLY DECLINE.




CRYPTOCURRENCIES VS. CENTRAL BANK MONEYCryptocurrencies do not have the potential to compete with the sovereign currencies issued by central banks. Size matters. The total market capitalisation of all cryptocurrencies is below USD 300 billion, while broad money (M3) in the US alone is around USD 14 trillion. The number of transactions in cryptocurrencies is anecdotic should one compare to sovereign currencies. In most of the countries, sovereign currencies should remain unchallenged for the foreseeable future. But there are, theoretically, places where the potential of cryptocurrencies might be more significant:• Countries where the sovereign currency remains inconvertible;• Countries where the population cannot access to financial services. McKinsey

Global Institute concluded from a study that the provision of financial services by mobile phone could increase the GDP of emerging markets by 3.7 trillion US dollars within a decade;

• Countries where economic agents do not really trust the sovereign currency due to its poor record of (price) stability;

• Countries where economic agents do not really trust the sovereign currency due to political and / or economic uncertainty;

• Countries where there is a strong will to reduce the link to the USD;• Countries where the cost of maintaining (or implementing) a “traditional”

currency is too high;• Countries where a centralised currency is not efficient;• ...

Commodities represent a real challenge for China in the long run. It hopes to reduce the commodity-intensive nature of its production, which works against it in real terms. Part of this challenge might be addressed through the role the Yuan can play internationally. Lord Mervyn King, AWIF 2014

The openness of the capital account is a long and winding road. At present, China does not have a very

developed financial market and financial stability is at risk, so there are still constraints on capital flows, with it favouring inflows over outflows. The progress of China is

impressive, but it is a long process. Phil ippe Ithurbide, AWIF 2014

The closer you come to a fixed exchange rate, the more you adopt the monetary policy of the country to which you are fixing. Therefore, attempts to smooth out exchange rates, though understandable from a certain perspective, also has the effect of importing tight monetary policy from the US, which may or may not have been appropriate for the emerging market economies. Ben Bernanke, AWIF 2014

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composition of international reserves. They contrast what they call the “Mercury hypothesis”, that currency choice is governed by pecuniary factors such as economic size and credibility of major reserve currency issuers, against the “Mars hypothesis” that it depends on geopolitical factors. Using data on foreign reserves of 19 countries before World War One for which the currency composition of reserves is known and who had security alliances, they find that “military alliances boost the share of a currency in the partner’s foreign reserve holdings by about 30 percentage points. These findings speak to the implications of possible US disengagement from global geopolitical affairs”.

Said in a different way, if the US withdraws from the world, keeping FX reserve composition unchanged would imply a rise in US bond yields by as much as 80 basis points. There is thus an advantage for the US (a negative risk premium) to protect partners whose central banks allocate FX reserves into dollar assets. In such a scenario, additional diversification of FX reserves would be inevitable. Being the master of NATO or being outside NATO (and other international organisations and agreements) could change the game for the US, with implications for policymakers in both the US and Europe.

WILL THE EURO AND RENMINBI COMPETE MORE WITH THE DOLLAR?

To reinforce the international role of the Euro, Europe must consolidate and improve the Eurozone institutional set-up. This could include the completion of the European banking union, progress on capital market union, and better credit quality of “peripheral” sovereign bonds. The issuance of common “federal” bonds, with a role like Treasuries in the US, would significantly increase the international role of the Euro. Progress on the fiscal and structural components of Eurozone economic policy, and a more united and effective external and defense policy would consolidate European leadership and thus use of the Euro. Speaking with one voice more regularly on critical issues would no doubt also be a “plus” for the Euro.

Concerning the Renminbi, if China wants it to become an international currency, it must set the foundation. This includes liberalising capital markets and making capital accounts transparent, abandoning capital controls, and making the currency fully convertible. Under these criteria, China still has a long way to go (see Boxes 3 and 4).

UPHEAVAL SINCE 2009: THE EMERGENCE OF CRYPTO-CURRENCIES

China and Europe are developing genuine international curren-cies able to compete with the Dollar. However, currency com-petition goes well beyond that between sovereign currencies. The advent of private digital currencies, and soon the first central bank digital currencies, represents an important and new phenomenon. It shows that the world has entered a digital, disruptive era, and currencies are no exception.

US FOREIGN POLICY MAY BE A DETERMINANT FOR THE SHARE OF DOLLARS IN WORLD FX RESERVES.




China wants to work with the rest of the world, but while being seen as having one foot in the developing

world camp and one foot in the advanced world camp. They are very smart people.

Lord Mervyn King, AWIF 2014

Governments will regulate blockchains as they did when checks, credit cards, and mobile payments were invented. Kenneth Rogoff, AWIF 2018

LOCAL MONEY: A POST-FINANCIAL CRISIS PHENOMENONEither cash or electronic, local currencies appeared in the past decade. They are issued by associations and disseminated at the scale of cities or regions. These currencies are booming. Four essential reasons for this:• A question of trust: Financial crises incite actors to want to detach

themselves from traditional monetary and financial systems;• A form of regionalism: the declared desire to revitalise the local economic

landscape and agriculture and help local productions;• Environmental awareness: the desire to promote short circuits of con-

sumption and reduce the carbon footprint of consumption.• A difficult economic situation: weak growth favours the creation of

local currencies, and vice versa. For example, while local currencies are developing in France, there has been a drying up in Germany over the past two years. History shows that, in the case of a healthy economy, the use of local currencies diminishes.

We are currently witnessing a revival of local currencies. However, given their technical characteristics (to some extent, local currencies are more vouchers than alternative currencies), local currencies are not competing with central bank an bank, and they do not pose any problem to mone-tary policy.

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The kick-off was in 2009, when Bitcoin was created, starting the money wars. Supporting the first generation of cryptocur-rencies are new high-performance technologies that make pay-ments backed by these currencies efficient and fast. Although the numerous new cryptocurrencies do not account for a large share of transactions in volume and value, central banks are closely watching the second generation, such as stablecoins. They are concerned about competition for their own currency (central bank money) and worried about their impact on mone-tary policy and banking systems. They are also interested in the opportunities they offer in the low interest rate environment, are attentive to the regulation of crypto-assets, and are curious about the technologies used. The central banks may use the technologies for their own cryptocurrencies. Indeed, almost all are involved in projects aimed at creating public digital curren-cies (CB-DCs), the third generation of cryptocurrencies.

DIFFERENT TYPES OF MEDIUM OF EXCHANGE

In around 10 years, the landscape of money has changed drasti-cally. The mistrust in some central banks’ currencies, the devel-opment of technology allowing for fewer intermediaries, and more rapid execution and ease of use are among the reasons for this evolution. Seven different types of payments systems now exist or may exist soon and compete with each other (for further details, see Ithurbide - 2020):

• Central bank money, in the form of notes and coins;• Central bank digital currency, the digital counterpart of

central bank money;• Cryptocurrency, created (or “minted”) by nonbanks, and

issued on a blockchain or alternatives. Bitcoin, Ether, Ripple are amongst the best-known examples. There are fewer fiat currencies than countries, but there are 25 times more cryp-tocurrencies than countries (5216 in mid-March 2020), which confirms their speculative nature. So far, Bitcoin dominates with $84 billion in circulation (down from $132 billion in mid-2019). It is followed by Ethereum ($11.3 billion) and the XRP ($5.6 billion). These three represent around 80% of the total value of the market ($130 billion mid-March 2020, down from $200 billion mid-2019 and $750 billion in early 2018). For many reasons (see Box 5), cryptocurrencies cannot compete with currencies issued by central banks.

• Bank money, which is currently issued by banks and is the most widespread use of claim-based money, which typically covers commercial bank deposits;

• Electronic money offered by new private sector providers, such as Alipay and WeChat Pay in China, M-Pesa in East Africa, and Paytm in India. Banks can also issue e-money;

• Local money, either cash or electronic, which is a means of pay-ment in paper or electronic format issued by associations and dis-seminated by cities or regions (see Box 6). Since it is more like a voucher than an alternative currency, it does not compete with central bank money and bank money and does not pose problems for monetary policy. Local currencies exist is several countries, Switzerland, UK, Germany, Japan… The concept of local currency

THE MONEY WARS BETWEEN FIAT CURRENCIES AND DIGITAL CURRENCIES OFFICIALLY STARTED IN 2009 AND WILL ACCELERATE WITH THE CREATION OF STABLECOINS.




POLICY MAKERS, CENTRAL BANKERS AND REGULATORS COULD NOT DECIDE TO IGNORE CRYPTO-ASSETS, OF WHICH CRYPTO-CURRENCIES, NOR TO BAN THEMBoth extreme approaches would have been wrong. These assets had to be considered and treated as any other financial instrument, according to their size, their complexity, and the underlying risks. Note that harmonising regulations (and taxation) is highly recommended across countries, taking into account the trans-border character of these assets. Cryptocurrencies do not endanger monetary policies and financial stability at present. To be more precise:• Monetary policy will be marginally challenged by cryptocurrencies they

only serve as a medium of exchange;• If cryptocurrencies are considered as a good store of value, then both

monetary and financial stability risks may be larger;• If cryptocurrencies are also used as a unit of account, then the risks are

even much larger;Cryptocurrencies should not have the capacity to be considered as safe haven and substitute for traditional currencies. A larger adoption of cryp-tocurrencies all over the world, and a lower volatility of cryptocurrencies might change the game radically.

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was legally recognized in France in 2014 (There are about sixty local currencies currently in France, of which the basque Eusko, created in January 2013 and at present the largest local currency in Europe).

• Investment money issued by private investment funds. These funds offer liquid investments but no means of payment. Shares in private investment funds or ETFs could become investment money, for example. Investment money is equivalent to elec-tronic money, except that it entails a claim on assets and offers variable value redemptions into currency. It is thus an equity-like instrument. A tangible example of investment money backed by a portfolio of assets may be Facebook’s Libra.

DIGITAL CURRENCIES: MORE FINANCIAL ASSETS THAN CURRENCIES

Electronic and digital currencies are gaining ground for several reasons:

• Ease and speed of use,• A major change in behaviour and habits, with “everything and

everybody connected”,• The inclusion of unbanked persons in electronic payment

systems,• A certain mistrust of banks and fiat currencies. Some investors,

savers and consumers are looking for new currencies. In countries where credibility of currencies as a means of payment is low, cryptocurrencies are attractive. In advanced countries, where interest rates are low and central banks’ balance sheets have ballooned, there may be a FX rate or store of value problem, not a credibility problem. Abandoning traditional money may mean investing in real assets as an inflation hedge, or in gold as a store of value.

However, whatever the approach, cryptocurrencies cannot be considered as genuine currencies. According to metallism, the value of money derives from the purchasing power of the commodity upon which it is based. According to chartalism, money has value because it is a legal creation. According to functionalism, the most conventional definition and the most popular theory of money (developed in the 1870s by the English economist William Stanley Jevons), money has to fulfil three functions: it has to be a means of payment (medium of exchange), a unit of account and a store of value. As such, legal tender is more important than any link to any good, paper or not. Even if one can settle purchases with cryptocurrencies, store them, and consider them as assets, the cryptocurrencies currently in circulation only partially fulfil these three essential functions. As such, cryptocurrencies cannot be considered genuine currencies. In the same vein, due to their high volatility and the high correlation with equities, cryptocurrencies such as Bitcoin cannot be considered as the digital gold (see Box 8 for additional arguments).

Apart from these three economic functions, money also plays a role in social cohesion and sovereignty. These roles are also not fulfilled by cryptocurrencies that are not easily accessible

IN 10 YEARS THE LANDSCAPE OF MONEY HAS CHANGED DRASTICALLY.

CRYPTO-CURRENCIES CANNOT BE CONSIDERED AS GENUINE CURRENCIES.




CRYPTOCURRENCIES VS. GOLD, I.E. AN “OLD” CURRENCY VS. NEW “CURRENCIES”.Are cryptocurrencies safe-haven like gold? Are cryptocurrencies substitutes to gold as macro-hedge assets? Due to the lack of long data on crypto-currencies, one cannot compare these assets in times of crisis. It has been established that gold is the sole asset which appreciated during major stress events: the 1980-1982 US recession, the LTCM fallout, September 11 events, the dot.com bubble, the Great Financial Crisis of 2018, the European debt crisis of 2011-2012... Since the creation of Bitcoin, only the year 2018 (and especially the last quarter) and the Covid-19 episode might be considered as a reference stress period; with the equity market tumbling. The data are clear: the ability of cryptocurrencies to serve as a liquid, safe-haven macro- hedge asset and store of value did not hold: Bitcoin’s price fell more than S&P500, Nasdaq or major equity indices. Over the same period, gold rallied and was inversely correlated with the S&P 500 and Nasdaq (and Bitcoin). In other words, cryptocurrencies are not a substitute for gold as a safe-haven. Gold is very different from cryptocurrencies: it is less volatile and more liquid than cryptocurrencies, and gold trades in an established regulatory framework. Last but not least, gold is well understood by inves-tors and it has a favourable track record: its return rivals that of the equity market over different time horizons; it performs well in times of crisis and stress, and it has performed well during periods of inflation: it has acted for long as an important portfolio diversifier. Bitcoin cannot compete with gold. Bitcoin has also experienced phases of collapse without comparison, it is not a genuine safe haven, it is not the digital gold... But let’s be fair to Bitcoin: it has been, since its creation, an asset whose return exceeds all other assets: an initial investment of USD 100 in January 2011 was valued at $2.3 million in December 2019. Tesla was ranked second, with a $100 investment valued at 1324 (1224%). Amazon, another top performer of big tech, would have given a USD 972 (872%). Alibaba has performed the worst in our sample of big techs, doubling - only - an investment of USD 100 in 2014 to USD 218. Note that gold (without any major crisis, without any inflation, and with the longest business cycle in US history ...) has not performed well during the last decade: 4% only for the entire period of 2011 – 2019. Because of its volatility, frauds, hacking, market rigging... Bitcoin has received its fair share of criticisms and hostilities. But in terms of total return, Bitcoin is undoubtedly the investment of the last decade!

Blockchains have many good uses, but bitcoins will not replace Dollars. Central Banks will retain their control over price-setting. Kenneth Rogoff, AWIF 2018

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for the entire population. Finally, the very high volatility of cryptocurrencies (see Box 4) and their environmental issues (see Box 5) are two additional drawbacks.

Note that the adoption of cryptocurrencies is more rapid in coun-tries where corruption and political instability are higher, confi-dence in the rule of law is lower, and regulatory quality is lower.

CRYPTOCURRENCIES FIRST GENERATION VERSUS CRYPTO-CURRENCIES SECOND GENERATION

Stablecoins directly address the issue of volatility while several Fin Techs have recently launched projects to reduce the ecological footprint of their blockchains. Stablecoins seem to solve the problem of price volatility of crypto-assets that prevents their mass adoption, while retaining the benefits of a virtual currency (instantaneity, peer-to-peer exchange). The value of stablecoins is linked or indexed to a currency (usually at a parity of one for one), a real asset (precious metal, gold or real estate, for example), another cryptocurrency or a basket of assets. The total value of stablecoins has multiplied by five, from €1.5 billion in January 2018 to more than €6.5 billion in March 2020. Tether is the largest one, with tokenized funds initiatives accounting for more than 97% of the market.

Stablecoins carry potential risks:• 1st risk: loss of bank deposits to stablecoin providers. Banks

will have to compete with stablecoin providers and offer their own innovative solutions, and higher interest on deposits.

• 2nd risk: monopolies. Tech giants could use their networks to shut out competitors and monetize information. Access to data on customer transactions is crucial and strategic. New rules for data protection, control, and ownership are crucial too.

• 3rd risk: a threat to weaker currencies. Where high inflation and weak institutions prevail, there is a risk that citizens give up local currencies for stablecoins in foreign currency. This new form of “dollarisation” would undermine monetary policy and local markets. Would some countries be forced to ban or restrict foreign currency stablecoins?

• 4th risk: fostering illicit activities. Stablecoin providers must prove that they can prevent the use of their networks for illicit activities like money laundering and terrorist financing.

• 5th risk: loss of “seigniorage”. Central banks have long cap-tured the profits stemming from the difference between a currency’s face value and its cost of production.

• 6th risk: consumer protection. We need legal clarity on the definition of stablecoins as financial instruments.

• 7th risk: financial stability. We need full transparency of the technicalities of stablecoins (as shown by controversies about some, such as Tether).

• 8th risk: hacking, infrastructure risk. This calls for upgraded security processes.

STABLECOINS SEEM TO SOLVE THE PROBLEM OF PRICE VOLATILITY OF CRYPTO-ASSETS THAT PREVENTS THEIR MASS ADOPTION, WHILE RETAINING THE BENEFITS OF A VIRTUAL CURRENCY.




LIBRA VS. VENUS: A TOUGH WAR TO COME SOON? In August 2019, to counter the Libra, Binance (the world’s leading digital exchange, a Hong Kong Chinese company) announced they will soon launch their own competing project called “Venus”. This project runs on their native Binance Chain and would constitute a “Belt and Road” version of Libra (an “independent and autonomous, regional version of Libra”) that will resemble to the Belt and Road initiative of the Chinese government, a project that aims to connect Asia with Europe and Africa through land (Road) and sea (Belt) networks. Venus is expected to be a structure aimed at issuing crypto-assets backed by fiduciary currencies (fiats) at the scale of nations or geographic regions. To stimulate the creation of new digital currencies, Binance seeks to partner with governments or large companies with “regional influence” (as said in the official brochure). This stands in stark contrast to Facebook’s stablecoin Libra model, which is sold as a unique, global cryptocurrency.In other words, the future war between global stablecoins may be summed up as competition between dollar-dominated (Libra) or dollar-based sta-blecoins and a Chinese platform of national / regional bitcoins (Venus) that reinforce the “Belt and Road” initiative, one of the key projects of the Chinese government.

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CENTRAL BANK’S DIGITAL CURRENCIES: THE MAJOR DEVELOP-MENT TO COME?

Central banks initially adopted either a “benign neglect atti-tude” or, in most cases, pointed out the risks associated with cryptocurrencies: risk of bubbles, organized crime financing, terrorism financing, tax evasion, speculation, money launder-ing, lack of governance, deficient control, absence of regula-tion, risk of bank runs, lack of transparency etc (see Box 7).

However, in recent years, central banks’ behaviour has changed. Central bankers are now looking at the potential impact of sec-ond-generation cryptocurrencies on monetary policy and financial stability. This change in attitude is due to several factors:

• The increasing use of electronic payment methods and the falling use of coins and notes (Scandinavia the best example);

• An opportunity to create its own currency (Marshall Islands);• The mistrust of some currencies (Venezuela);• The multiplication of cryptocurrencies as a sign of growing

demand;• The will of China to be a major player in cryptocurrencies,

forcing other major countries to react;• The decision of “small” or emerging countries struggling to

switch to cryptocurrencies (cheaper to manage);• The “Big Tech” offensive, such as the Libra consortium (Face-

book and 27 partners at the beginning) as a danger for central bank money;

• The continuing improvement in technology. Blockchain is now overtaken by better technologies. For example, Tangle, which is much faster has been adopted by the Riksbank for its own public cryptocurrency, the e-Krona.

In sum, central bank money and bank money now have serious competitors, and nearly all central banks are working on their own cryptocurrency.

Central Banks’ digital currencies (CB-DCs) represent the third generation of cryptocurrencies (see Box 10 for a typology of CB-DCs). They have several advantages:

• A better capacity (compared to cash) to fight money laun-dering, crime, and tax evasion - a crucial topic in a post-crisis world that increasingly emphasizes ethical and moral values.

• A better capacity to manage monetary policy in an ultra-low and negative interest rate environment. By replacing cash (instead of abolishing it) with an electronic currency, nega-tive interest rates are possible. And it would not need to affect seigniorage income, and preserve anonymity to its users, like banknotes. Ironically, among the solutions to the Effec-tive Lower Bound problem, we find public cryptocurrencies that are similar to private currencies, the cornerstone of the Austrian School of Economics under Hayek, and the taxation of cash, one of the focuses of Gesell’s analysis in 1916, which ultimately inspired local currencies. This is also why the devel-opment of crypto assets over the last ten years cannot be treated with scorn, indifference, or systematic denial.

THE DEVELOPMENT OF CRYPTO ASSETS OVER THE LAST TEN YEARS CANNOT BE TREATED WITH SCORN, INDIFFERENCE, OR SYSTEMATIC DENIAL.

NEARLY ALL CENTRAL BANKS ARE WORKING ON THE FEASIBILITY OF THEIR OWN DIGITAL CURRENCIES.




CENTRAL BANKS DIGITAL CURRENCIES (CB-DCS): WHAT IS IT EXACTLY?Even if risks and challenges are clearly identified, especially as regard banks, central banks have embarked in analysing CB-DCs and several CB-DCs may appear in the very near future. Many countries work on it, such as Sweden (e-krona), Canada (Jasper project), European Central Bank and Bank of Japan (Stella joint research project), Thailand (Inthanon project), Singapore (Ubin project), South Africa (Khokha project), Uruguay, Senegal (e-CFA issued in Dec. 2016), Venezuela (Petro introduced in Dec. 2017), Bahamas, Peru (PeruCoin), China, Marshall Island (SOV introduced in 2019)... Note there are three different variants of CB-DC:• 1st variant: a “general purpose”, “account-based” variant, i.e. an ac-

count at the central bank for the public. This would be widely available and primarily targeted at retail transactions (but also available for broader use). This solution is difficult to implement in some countries, where the central bank admits its incapacity to manage millions of private accounts.

• 2nd variant: a “general purpose”, “token-based” variant, i.e. a type of “digital cash” issued by the central bank for the general public. This second variant would have similar availability and functions to the first, but would be distributed and transferred differently.

• 3rd variant: a “wholesale”, “token- or value-based” variant, i.e. a restricted-access digital token for wholesale settlements (for example interbank payments, or securities settlement).

According to a recent BIS survey (January 2020)), 80% are engaging in some sort of work, with half looking at both wholesale and general pur-pose CBDCs. Some 40% of central banks have progressed from conceptual research to experiments, or proofs-of-concept. Another 10% have developed pilot projects. In the short term (up to three years), about 70% of central banks still see themselves as unlikely to issue any type of CBDC. 10% of central banks say they are likely to issue a general purpose CBDC in the short term and 20% in the medium term (up to six years). Fewer central banks plan to issue wholesale CBDCs, in either the short or medium term.

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CONCLUSIONIn around 10 years, the landscape of money has changed drastically. The mistrust of some central banks’ currencies, the development of technology (fewer intermediaries, rapid execution, ease of use ...) are the main two reasons of this evolution. Several different types of payment exist now, and Central bank money and bank money have serious competitors.

The last decade has highlighted the fact that currency competition goes well beyond the “simple” competition between sovereign currencies (USD, EUR, RMB, JPY, CHF ...). The advent of private digital currencies and very soon central bank digital currencies represent an important phenomenon: it shows that the world has entered a “total digital (disruptive) era”, and currencies are no exception. It also shows that currencies (all form of currencies) are part (and sometimes a new form) of the current tremendous geopolitical and geo-economic challenges.

Currency being an attribute of the sovereignty of a state, any “stateless money” (a way of qualifying the Libra, or other similar “currencies”) can only appear as an attack on the principles of sovereignty. If the path of outright prohibition is not chosen, then it will be a question of restricting the use of such currencies and limiting their expansion. Several avenues are possible: either via the exchange regulations (as was the case in some countries concerning Bitcoin), or via specific tax measures, by highlighting the lack of transparency and the risk of money laundering... or finally by prohibiting / binding the banks via strict prudential rules with regard to these currencies.

In the long term, the international status of the Dollar could diminish depending on six conditions:

• The pursuit of FX reserve diversification by Asian central banks into alternative currencies and gold;

• The emergence of the Renminbi as a competitor of the Dollar;

• The capacity of Europe to consolidate and improve the Eurozone institutional set-up;

• The difficulty of the US to continue to attract international savings to finance structural twin deficits;

• The unpredictable foreign policy of the present US admin-istration;

• The eventual adoption of an international crypto-based currency. However, any stateless money is an attack on the principles of sovereignty (see Box 9 for a Libra – Venus comparison). Cryptocurrencies are not genuine currencies, and the environmental issues of these assets represent undoubtedly a major drawback, for their future develop-ment (see Box 11).

CURRENCY BEING AN ATTRIBUTE OF THE SOVEREIGNTY OF A STATE, STATELESS MONEY, SUCH AS THE LIBRA, CAN BE CONSIDERED AN ATTACK ON THE PRINCIPLES OF SOVEREIGNTY.

CURRENCIES (ALL FORM OF CURRENCIES) ARE PART (AND IN SOME WAY A BRAND-NEW FORM) OF THE CURRENT TREMENDOUS GEOPOLITICAL AND GEO-ECONOMIC CHALLENGES.




ENVIRONMENTAL ISSUES OF CRYPTOCURRENCIESCryptocurrencies are virtual, but the negative impact of most of them on the environment is very real. This has been demonstrated in recent years by a number of scientific studies involving mining, the process by which transactions are validated on blockchains thanks to considerable computing power. At the end of July 2019, the average annual electricity consumption of bitcoin, for example, was 60 terawatt hours, according to the Cambridge Bitcoin Electricity Consumption Index. Said differently, the annual electricity consumption of Bitcoin alone is higher than that of Switzerland (58 terawatt hours), Qatar, Greece or New Zealand... and is equivalent to 0.27% of that of the whole planet... In 2017, bitcoin already consumed more energy than more than 150 countries. Each validation of a block of transactions in Bitcoin requires 300 KWH, the equivalent of working with a laptop during 1.5 years, using a freezer during nearly 2 years, or watching TV during around 1500 hours (source: EDF). One of the two VISA data centres require 2% of the electricity required by Bitcoin. The two VISA data centres analyse 200 million transactions per day while the Bitcoin network is made of 350 000 transactions only. That is the reason why several companies have recently launched different projects to reduce the ecological footprint of their blockchains. Bitcoin has announced they will soon unveil new technological solutions to halve the energy resources required for the mining operations. Litcoin (ranked # 4 in terms of capitalisation) is currently transforming its blockchain so that transactions are validated without the use of any mining.

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CHAPTER 8

I am increasingly inclined to think that there should be some regulatory oversight, maybe at the national

and international level, just to make sure that we do not do something very foolish.

ELON MUSKEngineer and entrepreneur, 2014

Megatrends and disruptions are themes that have animated many debates and studies over the past decade, which is amply justified. In an increasingly short-term world, they force us to have a longer-term vision. They include demographic challenges (aging populations, migration), the digital revolution (AI, distribution platforms, hyper-connectivity, big data), and climate change, as well as the shift toward ethical and moral values and socially responsible investment. Most of these trends are disruptive, especially for our traditional business models. We must adapt to them since they have far-reaching, lasting, global impact.

MEGATRENDS AND DISRUPTIONS:

A Reality Now Unavoidable


The table next page recaps the principal megatrends and the changes they may bring about. In this chapter, we analyze three of them: demographics, infras-tructure needs, and technology. The global divide (the wealth gaps between countries) and the digital divide (the unequal access to and use of information technology) are presented in chapter 9, and the long-term effects of the trends on asset management are developed in the conclusion of this book.

A recap on some megatrends and disruptions

Megatrends Effects

Demographic trends - Ageing population- Rising middle class- Urbanisation and migration- Growing Infrastructure needs- Increasing role of women- New generations (X, Y, Z)

Macroeconomic trends - Secular stagnation fears- Emerging markets and capital flows (inflows and

outflows)- Wealth gaps between countries (the “global divide”)- Unequal access to and use of information technology

(the “digital divide”)

Technology trends - Watsonisation - using cognitive computing and artificial intelligence

- Googlisation - taking advantage of the availability of big data

- Amazonisation - exploiting the power of platforms- Uberisation - hatching new business models- Twitterisation - doing business in a hyper connected

and collaborative world

Asset management industry trends

- Regulatory changes (AM as a systemic risk?)- E-trade- The expansion of passively managed portfolios- The growth of real assets and alternative investments- Concentration of the AM industry- Socially Responsible Investment and ESG approaches- SMART beta- Factor investing- Alternative Risk Premia…

DEMOGRAPHICS

Demography concerns ageing populations, life expectancy, and fertility and employment rates. It also drives migration, urbani-sation, the growth of the middle class, and infrastructure needs. And it necessitates an understanding of new generations (X, Y, Z). It affects growth, labour markets, public finances, social cohesion, political power, and geopolitics. Overall, demographics is proba-bly the most important megatrend, as it has been for millennia.

Demographic trends are relatively easy to predict. The variables used in forecasting models are fairly stable so long-term forecasts are viable. The UN regularly publishes updates on the world’s population trends that facilitate analysis. The following are the main findings of the latest edition of “World Population Prospects – the 2019 Highlights” (June 2019).




GDP, however, is not measured correctly by government statisticians, who do not capture the value

of free digital products such as Google maps. It could be understated by as much as 2 percentage points.

Martin Feldstein, AWIF 2017

If you look at economic history you can see the waves of technological change from steam and railways in the mid-19th century, to steel and electricity in the late-19th century, to motor cars and mass production at the beginning of the 20th century, and to digital technologies more recently. These major waves of change – much as Schumpeter described – beget 20, 30, or 40 years of innovation, investment, discovery and growth. If we look back at economic history for lessons to be learned, we find a very powerful story around growth from waves of technological change. Lord Nicholas Stern of Brentford, AWIF 2015

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INCREASING AND AGING POPULATION, BUT SLOWER GROWTH

The world’s population is expected to increase by 2 billion peo-ple in the next 30 years, from 7.7 billion in 2019 to 9.7 billion in 2050. It could reach its peak around the end 21st century, at a level of nearly 11 billion. The population of sub-Saharan Africa is pro-jected to double by 2050 (a 99% increase). Other regions may experience lower rates of growth, including Oceania (excluding Australia and New Zealand - 56%), Northern Africa and West-ern Asia (46%), Australia and New Zealand (28%), Central and Southern Asia (25%), Latin America and the Caribbean (18%), Eastern and South Eastern Asia (3%), and Europe and Northern America (2%).

The population is highest in Asia (4.6 billion, 60% of the total), and Africa (1.34 billion, 17.5%). Greater Europe has only 748 mil-lion inhabitants (around 10%), Latin America 654 million (less than 9%) and North America 369 million (5%).

According to the UN, future population growth will be concen-trated in a few countries. Nine should make up more than half the projected growth through 2050 (in order): India, Nigeria, Pakistan, Congo (DRC), Ethiopia, Tanzania, Indonesia, Egypt and the US. By 2027, India’s population is expected to reach 1.4 billion, exceeding China’s, and by 2050 it may be 1.7 billion.

Through 2050, 99% of population growth will occur in countries now regarded as developing countries, and 47 of these will have growth that exceeds their capacity. This includes 27 in Africa, which will have 25% of the world’s population by 2050. On the other hand, population growth through 2050 will decline in 55 countries because of low fertility rates and, in some cases, high levels of emigration. Some of them (Bosnia-Herzegovina, Bulgaria, Croatia, Hungary, Japan, Latvia, Lithuania, Moldova, Romania, Serbia and Ukraine) will lose as much as 15% of their population. China will lose 2.2%. This represents a powerful brake on their potential and effective growth.

LIFE EXPECTANCY, FERTILITY RATES AND THE AGEING POPULATION

Worldwide life expectancy at birth, which increased from 64.2 years in 1990 to 72.6 years in 2019, is expected to increase further to 77.1 years in 2050. The biggest jump during the past decade has been in Africa, where it rose by six years. At 60, it is nonetheless much lower than in Asia (72), Europe (77), or North America (79). Even if considerable progress has been made in closing the longevity differential between countries, large gaps remain. People in the poorest countries still live 7,4 years less than the world average, due largely to high levels of child and maternal mortality, as well as violence, conflict and the impact of HIV and other epidemics.

The global fertility rate, which fell from 3.2 births per woman in 1990 to 2.5 in 2019, is projected to decline further to 2.2 in

BY 2027, INDIA’S POPULATION IS EXPECTED TO REACH 1.4 BILLION, EXCEEDING CHINA’S.




A background trend that is important all over the world, including in the US, is demography. Increasing numbers of people are living longer, but they are still retiring at the same age under social safety systems

designed when they did not live that long. This is a mismatch, so the question is how retirement and

disabilities will be financed and who will do it. Will the private sector be brought in, or will it be done through a

pay-as-you-go system? Thomas Sargent, AWIF 2014

Today, we see inequalities within countries grow; we see fears about robotics and machines; and we see driverless cars or cell phones that can carry on conversations with you. Where this goes in the coming decades is society’s greatest problem. Robert Shi l ler, AWIF 2015

Younger generations are not just challenging companies on energy policy but also on social policy.

Job seekers, for example, are more attracted by smaller structures on which they can have a direct impact and

get feedback on the quality of their work. Isabel le Kocher, AWIF 2019

Already, a digital generation is producing and sharing music, videos, news blogs, social media, free e-books, massive open online college courses and other virtual goods at near zero marginal cost. Jeremy Rifkin, AWIF 2016

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2050. In 2019, fertility remains above 2.1 births per woman in sub-Saharan Africa (4.6), Oceania excluding Australia and New Zealand (3.4), Northern Africa and Western Asia (2.9), and Central and Southern Asia (2.4).

Therefore, the world’s population continues to age, with the age group of 65 and over growing the fastest. By 2050, one in six people in the world will be over 65 (16%), up from one in 11 in 2019 (9%). Regions where the share of the population aged 65 years or over is projected to double between 2019 and 2050 include Northern Africa and Western Asia, Central and Southern Asia, Eastern and South-eastern Asia, and Latin America and the Caribbean. By 2050, one in four peoples living in Europe and North America could be aged 65 or over. In 2018, for the first time in history, persons aged 65 or over outnumbered children under five globally. Meanwhile, the number of people aged 80 years or over is projected to triple, from 143 million in 2019 to 426 million in 2050 (for young dynamic populations, See Box 1).

WORKING-AGE POPULATION, URBANISATION AND THE MIDDLE CLASS: THREE MAJOR TRENDS

The falling proportion of working-age people is putting pressure on social protection systems. The potential support ratio (numbers of persons at working age/number of persons over age 65), is falling around the world. Japan has the lowest ratio in the world (1.8). 29 countries, mostly in Europe and the Caribbean, already have potential support ratios below three. By 2050, 48 countries, mostly in Europe, North America, and Eastern and South-eastern Asia, are expected to have potential support ratios below two. As a consequence, they may have problems maintaining public systems of health care, pensions, and social protection over the long term.

However, the sharp increase in the middle class is good news. In 2009, the middle class already represented 27% of the world’s population and it should grow to 60% by 2030. In 2010, 58% of the middle class lived in developing countries; by 2030, this figure should grow to around 80%. Urbanisation is also still progressing. By 2030 60% of the world’s population will live in cities, which builds efficiencies but also presents infrastructure challenges.

MIGRATION: A MAJOR COMPONENT OF POPULATION CHANGE IN SOME COUNTRIES

The UN reports that between 2010 and 2020, fourteen countries or areas will see a net inflow of more than one million migrants, while ten countries will see a net outflow of similar magnitude. Some of the largest migratory outflows are driven by the demand for migrant workers (Bangladesh, Nepal, the Philippines) or by violence, insecurity and armed conflict (Myanmar, Syria, Venezuela). Belarus, Estonia, Germany, Hungary, Italy, Japan, Russia, Serbia and Ukraine will experience a net inflow of migrants

BY 2050, ONE IN SIX PEOPLE IN THE WORLD WILL BE OVER AGE 65 (16%), UP FROM ONE IN 11 IN 2019 (9%). THE NUMBER OF PEOPLE AGED 80 YEARS OR OVER IS PROJECTED TO TRIPLE, FROM 143 MILLION IN 2019 TO 426 MILLION IN 2050.

IN 2009, THE MIDDLE CLASS ALREADY REPRESENTED 27% OF THE WORLD’S POPULATION AND IT SHOULD GROW TO 60% BY 2030.




Ageing populations are a critical problem and a unique opportunity for the investment industry as a whole to come together and try and make an impact. Lionel Martel l ini , AWIF 2018

A firm that mirrors society can better understand its environment. This requires not just gender diversity

but diversity of backgrounds and age. Isabel le Kocher, AWIF 2019

The ‘Silver Economy’ is a complete and autonomous ecosystem not limited to the pharmaceuticals and healthcare equipment sectors. Ageing population is a non-cyclical and permanent investment theme, leading to value creation. Vafa Ahmadi, AWIF 2018

YOUNG DYNAMIC POPULATIONS, BUT LARGE GAPS BETWEEN COUNTRIESThere are around 400,000 births every day on earth and 175,000 deaths, making the overall population progressively younger. About 27% are under age 15 now. A young population is a source of dynamism, opti-mism, capacity to innovate, to consume, and to take risks (militarily if needed). Having children is also a guarantor for future growth, although sometimes not per capita. In 2018 25 African countries had the youngest average population. Close to 50% of people living in Niger (ranked 1), for example, were below age 15, versus 18.8% in the US (157), 18.6% in France (158), 17.4% in the UK (168), 15.4% in Spain (197), 13.7% in Italy (217), 13.0% in Japan (222) and 12.8% in Germany (224). There are also major differences between the BRICS: 28.3% are under 15 in South Africa (80), 27.7% in India (86), 22.8% in Brazil (128), 17.1% in China (176), and 16.9% in Russia (177). The gap with Africa is expected to rise further. In the 1950s, the population of Europe was twice as large as that of Africa. At present, it is the reverse and in 30 years Africa’s population should be 3.5 times larger than Europe’s. This could be a major challenge for Europe if immigration continues at its present high pace.

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over the decade, helping to offset population losses caused by an excess of deaths over births.

According to the UN, more than 80% of the population increase in the major developed countries between now and 2050 is expected to come from migratory flows. Receiving migrants and integrating them into the local labour force can stimulate economic growth, and in the future, there may be competition to attract the youngest, most dynamic and highly trained immigrants.

However, it is very challenging to receive large numbers of migrants or refugees. In Europe it could threaten open borders and the Schengen Area. Physical barriers to holds back migrants are already going up around the periphery as well as in many other parts of the world. In greater Europe they include barriers between Austria-Slovenia, Greece-Turkey, Bulgaria–Turkey, Serbia–Bulgaria, Bulgaria–Romania, Hungary–Serbia, and Serbia-Croatia. Elsewhere borders are being reinforced between the US–Mexico, Morocco–Algeria, Tunisia–Libya, Israel–Egypt, Israel-Syria-West Bank, Egypt–Gaza, Botswana–Zimbabwe, South Africa–Zimbabwe, Zimbabwe–Mozambique, Malaysia–Brunei, China–Hong Kong, China–Macao, China–North Korea, India–Bangladesh, Turkmenistan–Uzbekistan, and Azerbaijan–Nagorno-Karabakh. This is rekindling debates on bilateral and multilateral agreements, the role of international organisations, and the types of migrants and refugees (climate change, political, economic).

A GROWING LABOUR POOL

In 2018, for the first time, people aged 65 or over outnumbered children below age 5. By 2050, the ratio should be around 2, and the number of persons above 65 will surpass the number of people aged 15 to 24 years. This dramatic shift, coupled with government policies, will substantially increase the working age population in many countries. It has five major components:

• The birth rate, which determines the number new workers entering the labour market. Natality policies can, in the long run, affect this;

• The mortality rate of working-age people, which determines the number of workers exiting the labour market;

• Retirement policies which, by modifying variables such as retirement age and level of pensions, can affect the time of exit from the labour market. Pension reforms will be at the forefront for this;

• The increase of the labour market participation rate for women;• Immigration policies. Some countries are highly selective

based on skills and needs, other have laxer criteria and can easily absorb immigrants, while others are very restrictive, accepting almost none.




In the next three decades or so we will move from 3.5 billion people living in cities (50% of 7 billion) to

6.5 billion. That means that by the middle of the century, 70% of the world’s population of more than 9 billion people will live in cities. That happens only once in

human experience. The infrastructure that will be built during the next two or three decades – much of it in the

next two – will set and frame what is possible for the rest of this century. It is a special moment.

Lord Nicholas Stern of Brentford, AWIF 2015

Why do we have $13 trillion sitting in net negative interest rate status around the world, when we have infrastructure needs, including in sectors that produce reliable revenue streams such as electricity. You may not make what you dream about, but at least you are making 12% or 7%, which is better than paying for the privilege of depositing your money. John Kerry, AWIF 2019

MULTILATERAL DEVELOPMENT BANKS INVESTMENTS IN INFRAS-TRUCTURE PALES IN THE FACE OF THE OVERALL NEEDS Multilateral development banks (MDBs) have undoubtedly played a crucial role in supporting economic development and fighting poverty over the past 70 years, namely since the creation of the World Bank. It explains why there is a growing number of MDBs in the world. Despite relatively small contributions of shareholders in capital, MDBs have been able to raise big amounts of financing from private sources.Infrastructure needs cover all types of countries (emerging and developing coun-tries, but also most developed countries), all sectors (road infrastructure, energy etc.), and some projects are vital because they concern the very survival of certain populations (such as access to water, education, health, etc.), while others have as their main ambition the ability to attract businesses and future investments, which is a prerequisite for future economic development.How to finance these infrastructure needs? States cannot do this alone. Multilateral Development Banks (MDBs) have undoubtedly played a crucial role in supporting economic development and fighting poverty over the past 70 years, namely since the creation of the World Bank. In the case of emerging and developing countries, two natural actors are generally solicited: MDBs, and the private sector.But clearly, the volume of MDB investment - and of private financing - in infra-structure pales in the face of the overall needs and the trends observed are not sufficient to meet infrastructure needs. One key figure to have in mind: the cost of providing infrastructure to support global economic growth and begin to narrow the infrastructure gap between countries amount to around $ 90,000 billion by 2040.MDBs can play important catalytic roles to attract private investment in at least three other ways (Chelsky – Morel (2013)): 1) they help establish the necessary policy framework, 2) they contribute to the design and implementation of the project, and 3) they provide support to private investors through active presence, guidelines, guarantees … in reality, the key difficulty to embark private sector lies on the mis-match between investor risk appetite and risk levels for infrastructure investment in developing countries. The MDBs have been called upon to help close this mismatch.

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INFRASTRUCTURE - A MEGATREND OF MEGATRENDS: REAL ASSETS, EMERGING MARKETS, DEMOGRAPHYWhen we refer to megatrends in relation to development, urbanisation, and emerging countries, infrastructure imme-diately comes to mind. According to the 2017 Global Infra-structure Outlook report of Oxford Economics, the cost of providing infrastructure to support global economic growth and to narrow the infrastructure gap between countries will be around $94 trillion by 2040 (about 40 times French GDP). Add in the UN’s Sustainable Development Goal of universal provision of clean water, sanitation, and electricity, and the cost rises to $97 trillion.

These figures are based mostly on the UN population projection of 9.2 billion inhabitants in 2040, which is about 2 billion more than today. This increase of almost 25% will not be equitably shared between countries and continents, or cities and rural areas. While the rural population may remain stable over the next 20 years, that of cities will likely increase by almost 50%. Such population growth in urban areas requires massive investments in infrastructure, in particular to reduce the congestion that is already choking many cities.

This is a great challenge for emerging countries, although investment needs vary considerably from one continent to another. Asia is the region that needs the most investment by 2040. According to the Oxford Economics report, China, India and Japan are the countries that need the most infrastructure (39% of the global total). China alone needs an estimated $28,000 billion, more than half of all the needs in Asia ($50,000 billion) and a third of the global total. North America is the second neediest region, of which €12 000 billion is for the United States. This is followed by €15,000 billion for Europe, €6,000 billion for Africa and €2,000 billion for Oceania.

The Oxford Economics report is ground-breaking since it pro-jects data for country needs by sector and the corresponding spending gaps.

The US is forecast to have the largest infrastructure investment gap (the difference between investment needs and current spending) with $3.8 trillion, twice as much as China at $1.9 trillion, and followed by Brazil at $1.1 trillion and Russia at $0.7 trillion. The largest financing gaps are in transport and electricity, with $8 trillion needed for roads, more than half of the total global gap, and $2.9 trillion for electricity, with the majority in developing countries.

In fact, basic infrastructure such as roads, water, sanitation, and electricity are lacking in most developing countries. Some 60% of the world’s population does not have access to the Internet, 1.2 billion people live without electricity, and more than 660 million without access to safe drinking water (by 2025, 1.8 billion people will face water shortages). One in three do not have access to toilets or sewage disposal, and a third are not

FOR THE PERIOD 2016-2040, THE INFRASTRUCTURE INVESTMENT NEEDS AMOUNT MORE THAN $50,000 BILLION IN ASIA, OVER $20,000 BILLION IN AMERICA, CLOSE TO €15,000 BILLION IN EUROPE, AND €6,000 BILLION IN AFRICA.




MULTILATERAL DEVELOPMENT BANKS: A WIDE VARIETY OF TECHNIQUESTo support development with the highest as possible level of safety, and to embark private partners, the Multilateral Development Banks (MDBs) use at present multiple techniques.• The use of loan guarantees, which were supposed to be the main activity

of the World Bank at the very beginning, began effectively at the turn of the 1990s. On top of the late start, they do not represent – still – a large portion of total financing operations undertaken by the World Bank Group, IADB, AfDB, AsDB and other MDBs. The reason is quite simple: guarantees are rarely funded (MDBs cannot do it as regard their balance sheet) or often considered too complex while MDBs sometimes perceived as not sufficiently transparent. Guarantees – booked on MDB balance sheets in the same way as loans – are usually offered in three different forms: Partial risk guarantees (PRGs), which cover risks to debt (loan or bond) repayment posed government action or inaction; Partial credit guarantees (PCGs), which cover all or part of the financial obligation regardless of the reasons for non-payment; Trade finance guarantees, covering a portion of a bank’s portfolio of trade finance.

• Loan syndication is a fairly nascent activity globally, with EBRD and IFC more active in that area. There are two types of syndication: 1) an A/B loan program, where the MDB is the lender of record and the external financer provides re-sources as part of the overall loan package via the MDB), or 2) a parallel loan, where the MDB and the external source conclude separate loan agreements with the borrower, on a project designed and administered by the MDB.

• Co-financing is similar to syndication, but for a portfolio of loans rather than by individual project. This strategy might be useful in some cases: indeed, unlike syndication, co-financing arrangements can involve sovereign loans. AfDB and IFC, among other MDBS, already used this facility.

• Targeting instruments and targeting maturities to the portion of the invest-ment most in need of multilateral support is a more and more utilized strat-egy. MDBs tend to consider this strategy as an adequate way to maximise the use of their own scarce financial capacity and la proper way to leverage private resources.

• Risk-sharing facilities are also utilised. The basic idea is to look for an external guarantor – or several external guarantors – for a portion of the MDB’s expo-sure. The EIB does it extensively for long.

• Last, but not least, MDBs have also begun creating spin-off vehicles to at-tract investors. It is also a way for MDBs to exonerate from some internal constraints. Such a strategy may be vital taking into account the huge in-frastructure investment needs compared to their own capacity, and it should be favoured in the coming years.

In total, even if MDBs are crucial player, and even if the instruments available are effective, it is insufficient so far, as regards the amounts to finance and the capacity to attract financing, both public and private.

We have a huge pool of savings in developed countries seeking investment opportunities with high yields. All the surveys show that institutional investors consider that infrastructure investments are good. Xavier Musca, AWIF 2018

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served by all-weather roads Moreover, the needed infrastructure must be resilient to climate change and be climate friendly.

Demographics strongly affect the balance between supply and demand, from rapid population growth and overcrowding, to urbanization and growing housing needs, to the booming demand from growing middle classes, and increased migration.

The solutions are slow in coming. Due to excess savings, very low interest rates and insufficient return on financial assets in advanced countries, one would expect more substantial capital flows from advanced to emerging markets, particularly for infrastructure. However, this is not the case, for various reasons:

• First, programs to meet the infrastructure needs of emerging countries compete with those in developed countries.

• Second, projects in advanced countries are considered less risky. Infrastructure investors face a wide range of risks in any country. They include construction and completion risks, operational risks, transfer risks, macroeconomic risks, exchange rate risks, tax policy risks, legal risks, political risks, and regulatory risks. These are greater in developing and emerging countries where governance and market institutions may be weak or dysfunctional: the various legal risks such as the instability of laws, the instability of contracts, corruption, capital repatriation risks… Individual project sponsors or investors cannot manage or hedge all these risks and thus may turn to advanced countries where they face fewer.

• Third, the lack of capacity of banks to finance the projects. The Great Financial Crisis reinforced the need for banks to solidify their capital structure and to reduce risks in their portfolios, while regulations became more restrictive.

• Fourth, the constraints investors face. Sovereign wealth funds, insurers, and other institutional investors have the capacity and incentive to finance large infrastructure deals, especially to secure solid returns and spreads in the low rate, low yield environment. However, in practice they face constraints on duration, ratings, and risk, preferring projects with of less than 7 or 8 years. They are reluctant to invest in infrastructure deals of over 20-year durations and prefer already operating, brownfield projects in OECD countries. When they do invest in greenfield projects (projects that are under development), they prefer senior, secured and guaranteed debt. The riskiest tranches are often neglected.

To turn this situation around and increase infrastructure invest-ment flows to emerging countries we must develop products and vehicles to lessen the constraints, especially reducing the risks that are not easy to hedge against. These include legal, contract, repatriation and payment risks and corruption. More-over, cooperation between the public and private sectors and Multilateral Development Banks must be enhanced (see Boxes 2 and 3).

PROJECTS IN ADVANCED COUNTRIES ARE CONSIDERED LESS RISKY, AND INVESTORS TEND TO SELECT PROJECTS WITH DURATION BELOW 7 OR 8 YEARS.




A lot of technological innovations are capital-intensive, skills-biased, and labour-saving. If you deal in financial

capital or have modern skills you are going to do well, but if you are a blue-collar worker, or increasingly a white-collar

worker with low value added, your job is threatened. Nouriel Roubini , AWIF 2018

In regard to infrastructures, we need to always be aware that there is nothing like ‘one- size-fits-all’. Challenges are different in different geographies, and we need to find ways

and products that will adapt to local circumstances. Ambroise Fayolle, AWIF 2018

ENTER THE THIRD INDUSTRIAL REVOLUTION“In the 19th century, steam-powered printing and the telegraph, abundant coal and locomotives on national rail systems gave rise to the First Industrial Revolution. In the 20th century, centralized electricity, the telephone, radio and television, cheap oil and internal combustion vehicles on national road systems converged to create an infrastructure for the Second Industrial Revolution.Today, we are laying the groundwork for the Third Industrial Revolution. The digitalized “Communications Internet” is converging with a digitalized, renewable “Energy Internet” and a digitalized, automated “Transportation and Logistics Internet” to create a super “Internet of Things” infrastructure. In the Internet of Things era, sensors will be embedded into every device and appliance, allowing them to communicate with each other and Internet users, providing up-to-the- moment data on the managing, powering and moving of economic activity.By 2030, these sensors will connect the human and natural environment in a global distributed intelligent network, effectively acting as a global brain. For the first time in history, the entire human race can collaborate directly with one another, democratizing economic life.The digitalization of communication, energy and transportation also raises risks and challenges, not the least of which are guaranteeing network neutrality, pre-venting the creation of new corporate monopolies, protecting personal privacy, ensuring data security and thwarting cybercrime and cyber terrorism.”

Jeremy Rifkin, AWIF 2016

Technology is providing big data capability to really gain insights into the utility functions of our members.

Alison Tardit i , AWIF 2019

Computers are beginning to replace jobs and I think we should worry about the future. Robert Shi l ler, AWIF 2015

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ADAPTATION OF THE BUSINESS MODEL TO THE TECHNOLOGICAL UPHEAVALS OF THE FOURTH INDUSTRIAL REVOLUTIONTechnology remains one of the largest sectors in the world economy. In today’s new economy, practically all corporations – small and large – are into technology, directly or indirectly. What does this mean for asset management? In the past few years, management companies have started applying information technology to portfolio management, achieving economies of scale, and making complex transactions more efficient. But they should not stop there, because technology also has vast potential for enriching client relations, developing innovative products, and reinventing business models. Many investment companies have started exploiting these opportunities.

Over the past 50 years, many innovations have been scalable rather than revolutionary, based on reconditioning products or improv-ing certain processes (see Box 5). In rare cases, investment com-panies have applied technology to reinvent business models or value chains. However, they cannot remain inert and ignore today’s trends; they must procure the means to remain competitive in the coming years.

Ross Ellis and Jim Warren (2017), of SEI Investment Management Services, consider that there are five trends that asset managers are increasingly facing and must master to stay competitive: Watsoni-sation, Googlisation, Amazonisation, Uberisation and Twitterisation.

Trend #1: The development of cognitive computing (WAT-SONISATION):Artificial intelligence (AI) with advanced and cognitive informa-tion systems can learn to analyse and interpret massive quantities of data (see Box 8). For example, language modelling is making quick progress and Google AI has already written poems and novels. A machine can also reproduce paintings and will soon be able to create a new painting using the original artist’s technique. Once a machine can detect its own errors and correct them it could be considered to have human intelligence. Some data sci-entists consider that Artificial intelligence could be considered as the “end of thought”. No doubt AI is a disruptive technology with massive potential. PwC predicts that AI will add $16 trillion to the global economy by 2030.

The impact of automation varies with a country’s income level, demographics, and industry structure. Historically technol-ogy has entailed large employment and sector shifts, but it can also create new jobs. Overall, large-scale sectoral employment declines have been balanced by growth in other sectors that have absorbed workers. For asset management, the systems will (and some already do) automate interactions with clients, conduct all types of research, detect security risks, and solve complex prob-lems. Robo-advisors may be the vanguard of a broader trend toward automated advising. According to Deloitte, there should be $7 trillion in assets managed by robo-advisors by 2025.

ONCE A MACHINE CAN DETECT ITS OWN ERRORS AND CORRECT THEM IT COULD BE CONSIDERED TO HAVE HUMAN INTELLIGENCE.

ACCORDING TO DELOITTE, THERE SHOULD BE $7 TRILLION IN ASSETS MANAGED BY ROBO-ADVISORS BY 2025.




The digital economy will revolutionize every commercial sector, disrupt the workings of virtually every industry, bring with it unprecedented new economic opportunities, put millions of people back to work, democratize economic life and create a more sustainable low-carbon society to mitigate climate change. Jeremy Rifkin, AWIF 2016

We are living in an increasingly ‘Amazonian’ world, where new technologies and commercial models are

disrupting familiar ways of doing business, creating both dangers and opportunities.

Fathi Jerfel , AWIF 2017

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Will passive management need portfolio managers in the future? Will AI be clever enough to replace active portfolio managers? Will compliance or risk control still need compliance and risk officers? McKinsey (2017) estimates that in the US, 5% of jobs are fully automatable while 60% of all occupations have at least 30% technically automatable activities (see Box 6). All countries are concerned, but to varying degrees. Automation will change many professions, although often just partially automating them rather than replacing them. However, in total, 800 million jobs could disappear worldwide. In asset management, 40-50% of jobs could be totally or partially (at least 30%) automated.

Trend #2: The availability of a greater volume of data (GOOG-LISATION):We live in an age of data abundance (see Box 7). The power of search algorithms coupled with the collapse of data storage costs and cloud computing, has given each of us nearly unlimited access to the world. Yet this abundance of information is also a challenge. How can we extract value from all this information? For asset management the most successful managers are those who bring data sophistication to multiple aspects of competitiveness, not just portfolio management.

The world of FinTechs, RegTechs, and others such as InsurTechs is well on its way. According to the 2017 PwC Global FinTech Survey, 88% of participants admit they are worried that part of their business is at risk from standalone FinTech companies. The survey covered a variety of areas of the financial services industry, including banking, asset management, fund payments and institutions, insurance and reinsurance - more than 1300 participants from 71 countries across six regions. Therefore, 82% of participants across all countries expect to increase partnerships with FinTech companies over the next three to five years. This is true in all countries should we refer to the 2017 PwC survey.

Trend # 3: The power of platforms (AMAZONISATION):Amazon, Netflix, and other e-commerce companies have clearly demonstrated the inherent advantage of online markets. The more people use them, the more useful they become. Web-based platforms make it easier for consumers to search for products, and to compare and learn from other customers and suppliers. Now, online platforms are rapidly developing around finance-related activities, and the e-commerce giants are into lending and management. Just 10 months after its launch, Alibaba had collected $90 billion in assets, deposited by 81 million investors. It looks as though this upheaval in the asset management industry is a combination of threats and opportunities no one can afford to ignore. By comparison, about a decade ago, it took Vanguard about 10 years to arrive at the same level.

IN ASSET MANAGEMENT, 40-50% OF JOBS COULD BE TOTALLY OR PARTIALLY (AT LEAST 30%) AUTOMATED.




THE FACTORS AFFECTING THE PACE AND EXTENT OF ADOPTION OF AUTOMATIONAccording to McKinsey, there are five factors:The technical feasibility: technology has to be invented, integrated, and adapted into solutions for specific use;The cost of developing and deploying solutions: how much it costs to develop the hardware and software;The labour market dynamics: the supply, demand, and costs of human labour will affect which activities will be automated;The economic benefits: the increase in throughput and quality, along with the savings in labour;The regulatory and social acceptance: how long it will take for effective automation to be accepted.

DIFFERENT FORMS OF INNOVATIONOne can distinguish five forms of innovation:- Process innovation - technologically new production methods;- Radical (breakthrough) innovation - new technology that upends or

renders obsolete old ways of doing business;- Incremental innovation – the upgrading of an existing product’s function,

such as the move from wired to wireless telephones);- Disruptive innovation - innovation that underperforms at first, but ends

up taking over, such as moving from paid software to free software);- Cluster innovation (Schumpeter’s term) – growth of interdependent inno-

vation sets around an initial innovation, that upend existing systems and can ultimately become destructive.

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Trend # 4: Hatching new business models (UBERISATION):It is estimated that just a few years from now, 40-50% of people will work for themselves in the service sector, as consultants in con-nection with platforms. In the United States, nearly 55 million work-ers, or one third of the labour force, already do this. The traditional organisation model of Asset Management is being remodelled with open architecture, specialisation, and outsourcing. Accelerating competition, rising costs, pressure on tariffs, margins, and commis-sions, and the regulatory burden are now pushing asset managers to rethink their value chains. Companies like Uber and China’s Didi in taxis, Airbnb in lodging, Spotify in music streaming, to name just a few, suggest a new type of model in which the driving force is technology. Such companies create a network of participants who interact and participate in creating value.

This model allows companies to achieve economies of scale with low marginal costs, but it also lets them improve the product, speed up the service, and personalise it. It is not easy to agree to outsource activities that were seen, not long ago, as being part of the core business. However, now pharmaceutical companies, for example, are outsourcing some of their research, which is critical to their activity. Uber is the world’s largest taxi service without owning a single car, and Airbnb supplies 1.5 million lodgings in 190 countries without owning a single hotel. Will the largest asset management service providers of tomorrow manage assets in the strictest sense, or will they act as a driving force, simply recruiting asset managers? One can expect a radical change in future job descriptions with the arrival of platforms, big data, robo-advisors, and passive management robots. What about active management? Does AI have limitations? Will the current set-up of portfolio management – trading, research, risk, compliance, middle office, back office, reporting - survive as such? AI and platforms, among other things, will force a profound re-evaluation of the business model.

Trend # 5: Doing business in an increasingly connected and collaborative world (TWITTERISATION)The world of social digital platforms and interactive digital media has exploded, transforming the way businesses communicate with and learn from their clients. Management companies have moved into these new activities. Before the rise of these platforms, cor-porate communication was generally a one-way street. Now, any company, whether large or small, local or international, can enter a dialogue with its clients, its employees, its peers, and the whole world. New media is used to create the brand, increase penetra-tion, reduce distances, improve client experiences, get to know market trends better, test new products, and accelerate employee collaboration and innovation. The new media provide the tools to make sure that client training programmes, content marketing, and advertising are possible and effective. Twitter and other social media facilitate gathering knowledge about the market. All this goes well beyond the traditional information channels still used a few years ago.

WILL THE CURRENT SET-UP OF PORTFOLIO MANAGEMENT - TRADING, RESEARCH, RISK, COMPLIANCE, MIDDLE OFFICE, BACK OFFICE, REPORTING - SURVIVE AS SUCH?




WHAT IS AT STAKE: SOME FIGURES ON BIG DATAIn 2011, Google was already processing 24 petabytes of data, four times the total content of the US Library of Congress. As early as 2014, every minute, users shared 2.4 million pieces of content on Facebook, sent nearly 300,000 tweets, upload nearly 75 hours of new video on YouTube, completed 85,000 online sales on Amazon, exchanged 350,000 photos on WhatsApp, sent more than 200 million messages, spent nearly 25,000 hours on Skype, and posted 220,000 images on Instagram. This has been greatly multiplied now. For example, there are now more than 40,000 Google searches every second - that’s 3.5 billion per day, and 1.2 trillion per year!Since 2010, every 48 hours the world produces more information than what all of humanity produced since the beginning of writing about 5,000 years ago. 98% of this information is digitalised, and 70% of it comes from individuals and is compiled and analysed by private companies. An expert from IBM recently mentioned that more than 80% of available data is still raw and unstructured.According to Betts, Savi and Shen (2015), there are 4,000 broker reports produced daily with about 40,000 pages. This requires powerful analytical tools. There are already companies that translate legal texts that can process thousands of pages in a few hours, companies that extract data from 500-page documents in less than a second, and others that process stacks of fund documentation in less than 30 seconds (compared to 30 hours in the past).

ARTIFICIAL INTELLIGENCE: MEN VS. ROBOTS

Human in the loop No human in the loop

Specific systems

ASSISTED INTELLIGENCE(Helping people to perform tasks faster and better)AI systems that assist hu-mans in making decisions or taking actions.Hard-wired systems that do not learn from their interactions

AUTOMATED INTELLIGENCE(Automation of manual/cognitive and routine/non- routine tasks)Automation of man-ual and cognitive tasks that are either routine or non-routine.This does not involve new ways of doing things – it automates existing task

Adaptive systems

AUGMENTED INTELLIGENCE(Helping people to make better decisions)AI systems that augment human decision making and continuously learn from their interactions with humans and the environment

AUTONOMOUS INTELLIGENCE(Automating decision making processes without human intervention)AI systems that can adapt to different situations and can act autonomously without human assistance

Source: adapted from PwC (2017)

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CONCLUSION: MEGATRENDS, DISRUPTIONS, AND ASSET MANAGEMENT

Structural changes in the global economy and in the asset manage-ment industry represent risks, disruptions, and therefore investment opportunities (see Box 9). Investing in megatrends means investing in future “winners” with methods that are different from the usual. It also means being more exposed to secular growth, reducing expo-sure to purely cyclical factors, and moving away from traditional investing, which occur in a weak-growth environment. It is also a good way to get some distance from themes of secular stagnation, find a better risk/return ratio, and overcome the low-rate environ-ment. Finally, it means having the option to profit from thematic approaches and investing where risk is still being rewarded. In sum, megatrends represent game changers, and disruptive events, but in all cases, they also represent investment opportunities.Without a doubt, digital adaptation should reshape the asset man-agement industry, and FinTechs represent only a part of the chal-lenge. As have many observers, Moody’s (2017) considers digital disruption as a major change for the asset management industry: “The first wave of disruption in asset management was the adoption of low-cost index funds, which have reduced active asset managers’ fees and pressured their business models”. The two major innova-tions, the index fund in 1976 and the ETF in 1993, have been hugely transformational. Moody’s notes that “the lack of a good response to this threat (i.e. impact on fees and business models) has weakened the industry and leaves it open to a second wave of disruption from new entrants – technology firms”. “Barriers to entry are also lower in asset management than in other areas of finance”. In fact, asset management is globally a low-capital and high margin business, with supposedly low levels of innovation and investment underper-formance. These factors make asset management a target for new entrants (mainly technology-enabled companies), with the continua-tion of the domination of passive products, particularly as long as the perception that asset managers do not add value continues. In such a context, there is a good chance for the rapid growth in alternative indexing (i.e. strategic beta strategies) to continue (+25% per year in the past years), should investors and regulators continue to prefer low-cost and rule-driven strategies. In the same way, one can expect robo-advisors to increase rapidly in the coming years, representing an additional threat to traditional wealth managers.

In summary, megatrends are redrawing the financial landscape and redefining business models. According to a recent PwC survey, 73% of American CEOs and 61% of CEOs worldwide think that new competition is going to disrupt their industries in the next five years. To remain competitive and take advantage of new opportunities, asset management companies must reflect more on their business models and look beyond simple improvements to management operations. Asset management is in the process of being disrupted.

INVESTING IN MEGATRENDS MEANS INVESTING IN FUTURE WINNERS, BEING MORE EXPOSED TO SECULAR GROWTH, REDUCING EXPOSURE TO PURELY CYCLICAL FACTORS, IT IS ALSO A GOOD WAY TO FIND A BETTER RISK/RETURN RATIO, AND MOVE AWAY FROM THE LOW-RATE ENVIRONMENT.




MEGATRENDS : ISSUES AND OPPORTUNITIES FOR ASSET MANAGEMENT

DEMOGRAPHYIssues Opportunities for asset management

• Food issues• Issues related to aging• An impact on the growth of the population• An impact on health• The role of women• Globalisation• The growth of the middle class• The role of emerging markets• Time spent at work• Urbanisation• The energy• Life expectancy• Transportation…

• Retirement products • Infrastructures• Real estate• Investing in thematic...

ENVIRONMENTIssues Opportunities for asset management

• The search for new materials• The rise of environmental risks• Waste Management• The change of behaviours• Impacts in the field of construction• Alternative energies• Security issues for resources• Energy storage• Resource management• Urban pollution• The development of «smart cities»• The recycling...

• Rising adoption of ESG criteria• The decarbonisation of portfolios• Water, probably the next «factor»

built into the portfolios• Adapted tailor-made referential to

clients • The management of controversies• Voting policies• The best-in-class management • Exclusion management• Energy transition• Investing in thematic...

TECHNOLOGYIssues Opportunities for asset management

• Big data• The speed of technological change• Genetic research• New innovations• Nanotechnologies• The robotics• The knowledge economy• The micro-surgery• Automation• The networks...

• Robotic Process Automation (RPA)• Becoming data experts• Gain in efficiency of business models• New set of expertise• Investing in thematic...

SOCIAL, BEHAVIOURAL AND ETHICAL VALUESIssues Opportunities for asset management

• A stronger demand for immediacy and the devel-opment of different connection and communication tools

• A desire for simplicity • A desire - and the need - to better manage

cultural differences• Better management of social differences• The strong growth of media and social networks• A greater desire for transparency• A request for customization• Managing political differences• Strong ethical values, such as respect, integrity• A greater desire for equality• A greater desire for social justice...

• Platforms• Robo-advisors• KYC approaches• Diversified approach to the different

generations• Social networks / marketing• Investing in thematic...

Source: Ithurbide Ph. (2017) “Megatrends and Disruptions: consequences for asset management”; Discussion Paper 28, December, 64 p.

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Carbon-fueled capitalism is a zombie-system, voracious but sterile. This aggressive human monoculture

has proven astoundingly virulent, but also toxic, cannibalistic, and self-destructive.

ROY SCRANTONin “Learning to Die in the Anthropocene:

Reflections on the End of a Civilization”, 2015.

CHAPTER 9

Along with the upheaval in monetary policies, the environment of low interest rates, the return of protectionism, and geopolitical tensions, climate change became one of the key concerns of the financial community in the last decade. The Paris Agreement of 2015 highlighted this and the withdrawal by the US under Donald Trump does not alter the reality. Climate change is, however, only one of the dangers faced by our planet today. All the problems of the Anthropocene era, which dates from the commencement of significant human impact on Earth's geology and ecosystems, are coming to the fore and require our action.

This chapter is not intended to present the debates between climato-pessimists and climato-skeptics (researchers in this camp prefer the term climato-realistic), but to present the challenges of global warming (unduly called climate change). It therefore obscures the review of (numerous) academic literature which amends or sometimes strongly contests conclusions that have become mainstream.

CLIMATE CHANGE CHALLENGES: The Countdown


The reports of the Intergovernmental Panel on Climate Change (IPCC) and the conclusions of hundreds of research studies, confirm the importance of taking urgent measures to confront the unprecedented changes that our planet is undergoing. The climate risks and challenges which we are already facing, and which future generations will have to deal with, require strong political will and international coordination. It is human activity that is responsible for global warming and the loss of biodiversity, so we cannot dissociate the social science laws that govern people from the natural science laws that govern the Earth. The Earth is subjected to our policies, and should not, or no longer, be considered as an object. Without going as far as predicting the sixth mass extinction during the Anthropocene era, which is hotly debated by experts, it is evident that human activity is the main cause of global warming and that humans have to find the solutions (see Box 1).

FROM THE NECESSARY TO INTERNATIONAL AGREEMENTS: BACK TO HISTORY

Climate awareness dates back centuries. Plato mentioned the consequences of deforestation in Attica, and in 1778. In “The Epochs of Nature”, the biologist Buffon pointed out that humans alter temperature and precipitation by changing vegetation and burning coal. In 1820, the French physicist Fourier defined the greenhouse effect as the atmosphere naturally returning part of solar radiation to Earth, and in 1861, Tyndall, an Irish physicist, showed that water vapor (H2O) and carbon dioxide (CO2) are at the origin of the greenhouse effect.

In 1864, Marsh published “Man and Nature, Physical Geography as Modified by Human Action”, one of the first works on ecology, which dealt with the impact of deforestation on desertification. He stated that “the operation of causes set in action by man has brought the face of the earth to desolation almost as complete as that of the moon”.

In 1908, the discoverer of the phenomenon of global warming, the Swedish chemist Arrhenius, calculated that the combustion of coal by industry would emit enough CO2 to significantly warm the atmosphere by 4-5°C. He thought it would take 3,000 years, but at the present rate it may take only one hundred.

However, it was only in the second half of the 20th century that the scientific and political debate on the planet’s environment was fully developed. Princeton’s international conference in 1955 on “Man’s Role in Changing the Face of the Earth”, was the first of its kind to be interdisciplinary. The first climate models were also developed around this time, making it possible to predict the impact of climate change. In the 1960s, scientific research on the environment accelerated, with pollution and industrial risks featured prominently in publications.

In 1972, the Meadows report, “The limits to growth”, published on the initiative of the Club of Rome, provided the first long-term quantified estimates of different scenarios through 2100 linking population growth, consumption, non-renewable resources,

THE GREENHOUSE EFFECT HAS BEEN DEFINED SINCE 1820.




Climate change is an unsolved problem – we are not doing enough to avert it. Global warming is real, and that is worrying because this is our only planet – we are not going to be colonizing Mars, not for a long time! The problem has been that it is a public good, and a large number of people want to shift the responsibility to others. Robert Shi l ler, AWIF 2015

In the scientific community, there have been a number of sobering publications recently, projecting

that in the next six or seven decades we are going to see storms unprecedented in human history, destruction of

our infrastructure on a never-before-seen scale, and coastal cities submerged.

Jeremy Rifkin, AWIF 2016

We must analyze climate change in multiple places, in multiple countries, with multiple people, with multiple views, always looking back to correct our mistakes. Will iam Nordhaus, AWIF 2019

If we stay in the second industrial revolution, we are lost. The model of the Third Industrial Revolution is the

only way we know to effectively address climate change. Jeremy Rifkin, AWIF 2016

Climate change is no longer just a scientific theory but a visible problem. “This is something that was predicted 50 years ago, but not very well-understood. Now we see it in a dramatic fashion. Will iam Nordhaus, AWIF 2019

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and pollution. It highlighted the impossibility of infinite growth in a world of finite resources. The idea of containing economic growth and population growth was gaining ground, as was the theme of negative growth.

Also in 1972, the United Nations organized its first environ-mental summit, which led to the creation of the United Nations Environment Program (UNEP) and the publication of princi-ples for international environmental cooperation. So, most of what we know today was already evident in the late 1970s.

In the 1980s, more global subjects such as climate change, biodiversity, or the hole in the ozone layer became prominent. The Montreal Treaty of 1985 is the first UN treaty to be ratified by all countries of the time (196 and the EU). It specifically concerns protecting the ozone layer which was threatened by the widespread use of chlorofluorocarbons (CFCs) or freon gases in refrigeration systems and aerosols. Elimination of the hole in the ozone layer was one of the first real attempts at international environmental governance. Two years later, the UN’s Brundtland Report developed the concept of “sustainable development”, which seeks to reconcile economic growth with environmental protection.

In 1988, the World Meteorological Organization (WMO) and the United Nations Environment Programme (UNEP) created the Intergovernmental Panel on Climate Change (IPCC). A grouping of scientists, government officials, and other experts, the IPCC identifies and summarizes the published work of thousands of researchers analysing climate change. It brings together 195 states and has published five global reports, starting in 1990, with a sixth due in 2022. It also publishes specialised reports, with the most recent (September 2019) on the oceans and the cryosphere.

In 1992, the first Earth Summit was held in Rio, culminating with the signature by 173 states and hundreds of associations of an action program for the 21st century, “Agenda 21”. This was followed in 2000 by the United Nations Millennium Declaration, which adopted eight Millennium Development Goals (MDGs): 1) to eradicate extreme poverty and hunger, 2) to achieve universal primary education, 3) to promote gender equality and empower women, 4) to reduce child mortality, 5) to improve material health, 6) to combat HIV/AIDS, malaria, and other diseases, 7) to ensure environmental sustainability, and 8) to develop a global partnership for development.

The Rio Summit also adopted the United Nations Framework Convention on Climate Change (UNFCCC), whose objective is to “stabilize greenhouse gas concentrations in the atmosphere at a level that would prevent dangerous anthropogenic interference with the climate system”. The framework sets non-binding limits on greenhouse gas emissions for individual countries but contains no enforcement mechanisms. It enjoys legitimacy largely due to its nearly universal membership. The signatories have met annually from 1995 in Conferences of the

THE MEADOWS REPORT (1972) HIGHLIGHTED THE IMPOSSIBILITY OF INFINITE GROWTH IN A WORLD OF FINITE RESOURCES.

THE ELIMINATION OF THE HOLE IN THE OZONE LAYER WAS THE FIRST REAL ATTEMPT AT INTERNATIONAL ENVIRONMENTAL GOVERNANCE.




First of all, we need to develop an example of ethical investing. We need publicity for this. Second, we need struc-ture. I am thinking, for example, of William Nordhaus’ idea of climate clubs. When talking about new trade agreements, we should emphasize good government controls regarding climate change. We could even raise tariffs for people who do not join the climate club. If we generate public aware-ness, we could actually solve the climate change problem. Robert Shi l ler, AWIF 2015

Everything we are looking at in climate change is human induced and therefore human solvable.

John Kerry, AWIF 2019

THE FIVE GREAT EXTINCTIONSThe idea that life on Earth is characterized by extinction and renewal phases of fauna and flora was conceived in the 18th century by the French scientists Buffon and Cuvier. In 1982, Sepkoski and Raup further refined the concept, stating that during a mass extinction an average of 75% of the animal and plant species on Earth disappear, marking the passage from one dominant life form to another. The five major extinctions are:1. The Ordovician extinction 445 million years ago, said to have been caused by the explosion of a distant star, when 70% of ocean life was eliminated.2. The Devonian extinction 385 million years ago, which lasted approximately 3 million years, making it one of the slowest mass extinctions. Among its likely causes was global warming and a volcanic explosion under present day Siberia.3. The Permian extinction 250 million years ago, which with the disappearance of 95% of marine species and 70% of terrestrial species, became known as “the mother of all mass extinctions” (according to paleobiologist Erwin). Among the presumed causes were anoxia (lack of oxygen in the seabed), an increase in aridity, a modification of ocean currents caused by climate change, and the impact of one or more meteorites.4. The Triassic-Jurassic extinction 200 million years ago, during which almost 20% of marine species and a significant proportion of large terres-trial vertebrates disappeared. Its causes remain controversial, but were probably climate change due to volcanic activity, changing sea levels, and the impact of asteroids. 5. The Cretaceous-Tertiary extinction 65 million years ago, when 60-80% of the species, including the dinosaurs, disappeared. One theory is that an asteroid about 15 kms wide struck the Earth in present day Yucatán, Mexico, causing it to cool down, killing most species in a few days. Others say that 1.5 million years of volcanic eruptions in present day India caused cooling of the atmosphere and acid rain.What is noteworthy is that all mass extinctions involved climate change in some way.

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Parties (COP) to assess progress in dealing with climate change. In 1997, the Kyoto Protocol was concluded and established legally binding obligations for developed countries to reduce their greenhouse gas emissions from 2008–2012.

In the early 2000s, the IGBP (International Geosphere--Bio-sphere Program) started collecting available data on the influ-ence of man on the planet since the middle of the 18th century. This shows that as population growth and consumption of natural resources grew during the Industrial Revolution many of the Earth’s cycles and systems were negatively affected. This includes the carbon, nitrogen, and methane cycles, the planet’s surface temperature, the terrestrial biosphere, and the oceans. The degradation worsened during the acceleration of economic growth in the 1950s in the developed world, and is now affecting more and more countries. Since then, numerous other measure-ments and analytical methods have been implemented which further refine our understanding of human influence on Earth.

In 1997, Japanese economists Kaya and Yokobori gave a math-ematical model stating proved mathematically that greenhouse gas emissions linked to human activities depend on economic and demographic growth and the level of energy consumption. “Kaya’s equation” (1993) is used by IPCC experts and the Inter-national Energy Agency (IEA). However, this equation is not without its critics: the terms of the equation are not independ-ent, and they do not constitute the root causes of CO2 emissions. Therefore, we cannot use it for forecasts.

In 2002, at the fourth World Summit on Sustainable Develop-ment in Rio French physicist Jean-Paul Deleage makes French President Jacques Chirac, say at the plenary session: “our house is on fire, and we are looking elsewhere”, an emblematic sentence on the time lost in fighting climate change. This sen-tence was inspired by a song (“beds are burning”) on climate warming written in 1987 by an Australian band, Midnight Oil: “how do we sleep while our beds are burning”.

In 2005, Jared Diamond published “Collapse: How Societies Choose to Fail or Succeed”, in which he shows that certain human communities, such as Easter Islanders, the Mayans, or the Vikings of Greenland, disappeared in part because of their impact on their environment. However, he mentions no case in which the collapse of a society was fully attributable to ecological degra-dation. He also studied Icelandic, Japanese, and Tikopia island societies to show that it is possible to survive despite enormous environmental handicaps, which he cites as a lesson for our mod-ern societies. His book fed the study of “collapsology” (Servigne and Stevens, 2015), along with others, such as the works of Mal-thus (1803), Toynbee (1939), Ehrlich (1969), Tainter (1988), or the Meadows report (1972). According to Tainter, over the years, soci-eties become more and more complex, leading them to eventu-ally collapse due to the ever-increasing difficulty of solving their problems.

IN THE 2000s, THE INTERNATIONAL GEOSPHERE--BIOSPHERE PROGRAM SHOWED THAT AS POPULATION GROWTH AND CONSUMPTION OF NATURAL RESOURCES GREW DURING THE INDUSTRIAL REVOLUTION MANY OF THE EARTH’S CYCLES AND SYSTEMS WERE NEGATIVELY AFFECTED.




We shouldn’t see climate change as an additional constraint on European finance, but as an opportunity. We have an innovation and a disruption, where Europe is ahead and the US lags behind. Francois Vi l leroy de Galhau, AWIF 2019

PARIS AGREEMENT: THE RESPONSIBILITY OF THE VARIOUS STAKEHOLDERS“The Paris Agreement contains three paragraphs: limiting global warming to 2, or possibly 1.5, degrees, dealing with economic development, and encouraging the financial sector to integrate the fight against global warming and its mitigation in its investments. Everyone is concerned. We will only succeed with this transition if all economic sectors, all individuals, and all states act. This is not the case today.States must first sign on to international agreements, if possible ambitious ones. Even if the commitments under the Paris Agreement are not up to par, it remains a success. The role of the state is then to translate the agreements into legislation. In France, the energy transition law is ambitious, only lacking a framework for emissions from the food and agricultural sectors. While it is ambitious and we are only in the first years of implementation, both the CESE (Economic, Social and Environmental Council) and the High Council for Climate point out that we have fallen behind. Local and regional entities must also get involved. Communities, regions, cities, and territories have jurisdiction over buildings, urban planning, transport, renewable energy, and the energy transition. They make the everyday decisions and can make sure that they are concrete. These actors can think about appropriate implementation, which differs from one place to another.The economic sectors are investing in the energy transition. The success of the transition is crucial for economic dynamism. There is not a profession or an industry that can say that global warming is not its problem. I think the industries and the countries that act first will gain economically. Maybe not in five years, but in ten, twenty or thirty.The education system needs to integrate climate change into its curric-ulum and tackle the problem.The media also have an important role to play by keeping people well-informed.Individuals also have a crucial role. Everyone can act, whether in an organ-ized way with NGOs or other organizations, or individually. Our travel, our eating habits, and our behaviour at home represent more than half of the emissions in France. Through our daily decisions, we can have an impact.”

Jean Jouzel, Comité Médicis 2019

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In 2009, the scientists Rockström and Steffen identified nine lim-its not to be crossed to preserve the fundamental balances of the planet. They relate to biodiversity, climate, the ozone layer, ocean acidification, deforestation, fresh water, chemical pollution, nitro-gen and phosphorus cycles, and the concentration of fine par-ticles in the atmosphere. Later they added a tenth - synthetic molecules and nanoparticles. There is a consensus that three of these limits have already been crossed due to human activity - climate, biodiversity, and the nitrogen and phosphorus cycles. Crossing such boundaries represents a dangerous break in the equilibrium between the planet and its inhabitants. If it contin-ues, it could lead to the sixth mass extinction during the Anthro-pocene era. As Elizabeth Kolbert wrote in 2014, “This time the asteroid is human” (“The Sixth Extinction: An Unnatural History”)

While the Conference of the Parties process produced positive results early on, such as the Kyoto Protocol, COP15 in Copen-hagen in 2009 untracked the process. Emerging countries increasingly asserted their right to economic growth, including through burning fossil fuels, and did not want to accept binding climate targets without some kind of compensation.

In 2015, the countries of the United Nations adopted the 2030 Agenda for Sustainable Development, comprising 17 goals that follow up on the earlier Millennium Development Goals (MDGs). Also in that year, the journal “Nature” published a dossier on “The Human Epoch” on the advent of the Anthropocene. Even if it is almost impossible (for ardent defenders of this) to precisely date the entry into the Anthropocene which undoubtedly started during the industrial revolution, it is the date of 1950 which is most often retained, which is easily understood: the analysis of the phase of great acceleration is enough to show the urgency of awareness and corrective measures.

The Paris Agreement reached at COP21 in 2015 made some progress, setting a target of climate change of “well below 2°C”, derived from the national policies of the signatories (see Box 2). It is a bottom-up agreement and is fragile, since it is based on the will of states and not on international law. On April 27th, 2016 (Earth Day), 174 countries signed the agreement in New York and began adopting it within their national legal systems.

The measures to save the ozone layer have been effective, reducing the ozone hole and potentially making it disappear by 2050. Unfortunately, this has resulted in accelerating the production of substitute gases, hydrofluocarbons (HFCs), which strongly contribute to climate change, with a global warming potential 15,000 times greater than CO2. The Kigali Accord (2016) provides for an 80-85% reduction in HFCs by 2036 to 2047, depending on the country. HFCs should be replaced by hydrofluorolefins (HFOs), which have no impact on the ozone layer and have limited greenhouse effects. If ratified by China, this deal should prevent a further temperature rise of 0.5°C.

COP 15 IN COPENHAGEN IN 2009 MARKED A BREAK. EMERGING COUNTRIES INCREASINGLY ASSERTED THEIR RIGHT TO ECONOMIC GROWTH AND DID NOT WANT TO ACCEPT BINDING CLIMATE TARGETS WITHOUT SOME KIND OF COMPENSATION.




GLOBAL SUSTAINABLE DEVELOPMENT GOALS, A REFRESHERGlobal Sustainable Development Goals (SDGs) have been adopted by 193 countries to end poverty, protect the planet and ensure prosperity for all by 2030. They are targeted at Governments, but also at civil society and the private sector. There are 17 SDGs:

(1) End poverty: in all its forms, everywhere,

(2) Zero hunger: end hunger, achieve food security and improves nutrition and promote sustainable agriculture,

(3) Good health and well-being: ensure healthy lives and promote well-being for all at all ages,

(4) Quality education: ensure inclusive and equitable quality education and promote lifelong learning opportunities for all,

(5) Gender equality: achieve equality and empower women and girls,

(6) Clean water and sanitation: ensure availability and sustainable management of water and sanitation for all,

(7) Affordable and clean energy: ensure access to affordable, reliable, sustainable and modern energy for all,

(8) Decent work and economic growth: promote sustained, inclusive and sustainable economic growth, full and productive employment ad decent work for all,

(9) Industry innovation and infrastructure: build resilient infrastructure, promote inclusive and sustainable industrialisation and foster innovation,

(10) Reduced inequalities: reduce inequalities within and among countries,

(11) Sustainable cities and communities: make cities and human settlements inclusive, safe, resilient and sustainable,

(12) Responsible consumption and production: ensure sustainable and production patterns),

(13) Climate action: take urgent action to combat climate change and its impacts,

(14) Life below water: conserve and sustainable use the oceans, seas and marine resources for sustainable development,

(15) Life on land: protect, restore and promote sustainable use of terrestrial ecosystems, sustainable manage forests, combat desertification and halt and reverse land degradation, and halt biodiversity loss,

(16) Peace, justice and strong institutions: promote peaceful and inclusive societies for sustainable development, provide access to justice for all, and build effective, accountable and inclusive institutions at all levels,

(17) Partnerships for the goals: strengthen the means of implementation and revitalise the global partnership for sustainable development.

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In 2017, the United States announced that it was withdrawing from the Paris Agreement, an action that will come into force in November 2020. However, this may change if Donald Trump is not re-elected and, in any case, large US companies, cities and states remain committed to the Paris Agreement targets, as evidenced by the Climate Alliance which brings together 25 states (see Box 4).

The COP25, held in Madrid in 2019, was disappointing overall. 80 countries promised to step up their efforts in 2020, as called for in the Paris Agreement, but the trajectory through the end of the century is warming of 3,2°C, far above the threshold of 2°C set in 2015. Many countries are not living up to their promises, with big emitters such as China, India, the US, Australia and Brazil favouring national economic growth over international consensus.

GREENHOUSE GAS: WHERE DO THEY COME FROM? WHAT ARE THE IMPACTS?

A “greenhouse gas” (GHG) is a gas found in the Earth’s atmosphere that intercepts infrared emitted from the Earth’s surface. This is not the case with nitrogen or oxygen, the two most abundant gases in the atmosphere by far. They are therefore not GHGs.

Greenhouse gases are either natural or industrial, i.e. of human origin: this is called the anthropogenic greenhouse effect. However, humans are responsible for part of the emissions and concentration of natural GHGs in the atmosphere. It is for this reason that they are taken into account in international agreements.

Natural GHGs: a presence accentuated by the role of humans

The two main gases responsible for the greenhouse effect present in the atmosphere even before humans appear are water vapor (H2O) and carbon dioxide (CO2). There are other “natural” GHGs, such as methane (CH4), nitrous oxide (N2O) and ozone (O3), a variant of oxygen.

Water vapor generates 55% of the greenhouse gases in the atmosphere. Direct emissions of water vapor from humans (from power stations, irrigation, dams, deforestation...) do not contribute to increasing the greenhouse effect in a detectable way, and are therefore not taken into account in human emissions.

While carbon monoxide (CO) is a real poison, carbon dioxide is one of the essential elements of life: we exhale CO2, which the trees capture and transform into oxygen. Without CO2, no life is possible. But excess is dangerous. Carbon dioxide is responsible for more than 60% of the additional human-caused greenhouse effect. In nature, it comes from animal respiration, putrefaction, natural fires, warming of the surface ocean,

IN 2017 DONALD TRUMP RENOUNCED THE PARIS AGREEMENT, BUT LARGE US COMPANIES, CITIES AND STATES REMAIN COMMITTED, AS EVIDENCED BY THE US CLIMATE ALLIANCE WHICH BRINGS TOGETHER 25 US STATES.



activity of volcanoes, but it is attenuated by photosynthesis in particular. Anthropogenic emissions come mainly from the combustion of fossil fuels and deforestation. CO2 has many uses, in gaseous form, in liquid form and in solid form. Since the industrial revolution, due to the constant combustion of very large quantities of fossil carbon, while the regression of forests and planted areas continues, the level of CO2 in the air increases regularly.

Methane (CH4) is a hydrocarbon, naturally present in the Earth’s atmosphere, but anthropogenic inputs have more than doubled its concentration since the industrial revolution. In its natural form, it comes in particular from wetlands - such as swamps or marshes - from putrefaction... Anthropogenic methane comes from ruminant animals, rice cultivation, garbage dumps house-wares, oil and gas operations (methane is the main constituent of natural gas), and coal mines (methane is the main constituent of firedamp). It is a greenhouse gas much more powerful than CO2, with a global warming potential 28 times higher, responsi-ble, at its current level of concentration, for a few percent of the total greenhouse effect at works in our atmosphere. The influ-ence of methane on the climate is less important than that of carbon dioxide (It generates a little more than 15% of the anthro-pogenic greenhouse effect), but it is nevertheless worrying. The 5th IPCC report in 2013 considered that the influence of methane has been underestimated for too long.

Nitrous oxide (N2O) (commonly known as “laughing gas”) generates about 5% of the anthropogenic greenhouse effect. According to the World Meteorological Organization WMO (2017), its emissions are of natural origin for about 60% and human for about 40%. Certain soil and ocean microorganisms, as well as anthills and termite mounds, and the fermentation of wetlands are the main natural sources. The anthropogenic greenhouse effect comes from the spreading of slurry, the use of nitrogen fertilizers in agriculture, certain chemical processes. It is also produced by the combustion of organic matter and fossil fuels, industry or wastewater treatment plants. As a powerful greenhouse gas (298 times more powerful than CO2 according to the IPCC), the nitrous oxide has become the first contributor to the destruction of the ozone layer. Its emissions have increased by more than 120% in the air since pre-industrial times.

Tropospheric ozone or trioxygen (O3) the ozone which is in the troposphere (the lowest layer of the atmosphere, the one that “touches” the ground and goes to the stratosphere, about 10 km from the ground) generates about 10% of the anthropogenic greenhouse effect. In the upper atmosphere (the stratosphere is the layer of the atmosphere between 10 and 50 km above sea level), ozone stops the sun's ultraviolet rays and is therefore very useful for preserving life outside the oceans. Above a certain threshold in the lower atmosphere, ozone is one of the most dangerous air pollutants for health. In the troposphere, ozone is an aggressive oxidant (ozone is



extremely harmful for the lungs, the kidneys, the brain and the eyes), and one of the components of local pollution, indirectly coming from the combustion of hydrocarbons. Forest fires, lightning storms and high temperatures in particular generate ozone.

100% industrial GHGs

Besides “natural” greenhouse gases, there are “industrial” gases which are only present in the atmosphere because of human action. These are halo-carbides (or halogenated hydrocar-bons), gases obtained by replacing hydrogen by a halogen gas (fluorine, chlorine...) in a hydrocarbon molecule (propane, butane, octane, etc.). These molecules strongly absorb infrared, and some of them therefore have lifetimes in the atmosphere which can be very long (thousands of years). Halo-carbides - 100% anthropogenic - generate just under 10% of the anthro-pogenic greenhouse effect. Among the halo-carbides, we find:

• Chlorofluorocarbons (CFCs), called freons, used as refrigerants (in air conditioning systems and cold chains) or as propellants in aerosol cans;

• Hydrofluorocarbons (HFCs): they have a high heating power (15,000 times more powerful than CO2), but a short lifespan in the atmosphere;

• Perfluorocarbons (PFCs), used in medicine (respiratory fluid, hemoglobin substitute, etc.), in ophthalmology, it is also a doping product used by certain athletes. They have also been identified as endocrine disruptors.

• Halons (non-flammable gases used in particular to extinguish fires).

Sulfur hexafluoride (SF6) is also an industrial gas, used for example for electrical applications (high voltage circuit break-ers, transformers), medicine (cardiac and vascular ultrasound), double glazing. Its global warming potential (PRG index) is 22,800 times higher than that of CO2, which makes it potentially the most powerful greenhouse gas on Earth. However, its contri-bution to the overall greenhouse effect is less than 0.3% due to its low concentration compared to CO2.

In total, methane is the second gas responsible for climate change but far ahead of the freons and nitrous oxide. Methane contributes 20% to ongoing warming (compared to 70% for CO2), because, despite its much lower concentration, its global warming potential (GWP) is 28 times higher. This implies that in order to meet the objective of staying below 1.5 ° C or 2 ° C, one cannot be satisfied with limiting carbon dioxide emissions, but that one must also reduce those of methane.

In 2001, the IPCC report stated that none of the known climate models could reproduce the rise in temperatures over the second half of the 20th century without involving human-caused emissions of greenhouse gases. Since the beginning of the industrial era, that is to say since the year 1750, what we put in the atmosphere has the effect of introducing a “radiative




If we don’t fight climate change, we will lose 10% of GDP by the end of this century.

There are those, such as the US President and energy lobbies, who question climate science and deride the policies. But their views are based

on ideology and politics, not science and evidence. Will iam Nordhaus, AWIF 2019

THE UNITED STATES CLIMATE ALLIANCE: AN ANSWER TO TRUMPThe United States Climate Alliance, created in June 2017, is a bipartisan coalition of 25 US state governors committed to reducing greenhouse gas emissions consistent with the goals of the Paris Agreement. The states represent 55% of the US population and a $11,7 trillion economy, larger than all countries except the US and China, so it can have a strong impact. It has three core principles:- Principle # 1: States are continuing to lead on climate change: Alliance states recognize that climate change presents a serious threat to the envi-ronment and our residents, communities, and economy;- Principle # 2: State-level climate action is benefiting our economies and strengthening our communities: Alliance members are growing our clean energy economies and creating new jobs, while reducing air pollution, improving public health, and building more resilient communities;- Principle # 3: States are showing the nation and the world that ambi-tious climate action is achievable: Despite the US. federal government’s decision to withdraw from the Paris Agreement, Alliance members are committed to supporting the international agreement, and are pursuing aggressive climate action to make progress toward its goals.Member states commit to: 1) implement policies that advance the goals of the Paris Agreement, aiming to reduce greenhouse gas emissions by at least 26-28% below 2005 levels by 2025; 2) track and report progress to the global community in appropriate settings, including when the world convenes to take stock of the Paris Agreement; and 3) accelerate new and existing policies to reduce carbon pollution and promote clean energy de-ployment at the state and federal level. The key priorities of the Alliance are climate resilience, clean energy finance, power sector modernization, product energy efficiency standards, advanced transportation, natural and working lands, and short-lived climate pollutants.

https://www.usclimatealliance.org

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forcing” of the order of 1% of the radiation received. In other words, “through his greenhouse gas emissions, man has changed the situation “as if” the sun had increased its power by about 1%” (Jancovici 2007). “Given the challenges, the fragility of certain natural balances, and the fact that these effects act over long periods, this is very significant for our future”.

GLOBAL WARMING: SERIOUS AND INEVITABLE CONSEQUENCES

Global temperatures are already 1°C higher than in the middle of the 19th century, due to past and current emissions of green-house gases, mostly carbon dioxide (CO2). There is considerable evidence that this warming has serious consequences on eco-systems and populations:

Melting ice, rising sea levels: since 2009, Antarctica, which contains 90% of the world’s ice, has been losing more than 250 billion tonnes of ice each year (40 billion in the 1980s). The cryosphere currently covers between 7% and 17% of the planet depending on the season. If Antarctica were to lose all its ice, sea levels would rise by almost 60 meters (+6 additional meters for the Arctic). If the Paris Agreement is strictly observed, then the temperature of the Arctic would rise by 3°C by 2050 and by 5 to 9°C by 2100. The US National Observation Oceanic and Atmospheric Administration (NOAA) considers that the rise in sea levels could be two meters by 2100. Large parts of certain countries (Netherlands, Vietnam, island states etc.) would disappear. Almost 700 million people (two thirds in Asia) currently live in coastal areas less than 10 meters above sea level. In addition to the melting ice phenomenon, the increase in ocean temperatures may lead to a dilatation of the waters, and thus to more rise of the sea level.A risk for fresh water: Salt water represents 98% of all water on the planet. Glaciers and the Arctic and the Antarctic ice caps account for an estimated 70% of the world’s fresh water. Therefore, melting ice will cause not just flooding, but also a water shortage, whose supplies are already under severe strain.Ocean acidification: The seas cover 70% of the planet, supply 50% of our oxygen and absorb more than 25% of CO2 emis-sions, which slows climate change. The bad news is that the absorption of CO2 provokes a decline in the pH balance making the oceans more acidic. This endangers marine biodiversity, in particular plankton and species needing limestone (coral, oys-ters, mussels, shells), with repercussions on the food chain.Ecosystems in danger: Other species are also in great danger, in particular those that do not migrate and have to face a radical modification of their biotope. Even respecting the Paris Agreement, the IPCC estimates that 30% of animal species are threatened with extinction by 2100.An unprecedented health challenge: Recent heat waves have shown how many public health systems are not prepared for global warming. Future health impacts will be greater in the southern hemisphere where in 2016 216 million people were affected by infectious diseases such as malaria, dengue, and chikungunya, with about 700,000 deaths. Hepatitis, gastro-




Climate change is another area for Sino-European rapprochement and leadership.

Enrico Letta, AWIF 2017

The solution to climate change is energy policy. However, we are not serious about this and people are increasingly angry. John Kerry, AWIF 2019

GLOBAL WARMING AND CLIMATE JUSTICE“We can look at climate justice through four lenses.Justice between individuals: Some individuals are more fragile and less prepared - for example certain indigenous populations, women, children, and low-income groups. They will not only be more vulnerable to a climate incident, but will also find it more difficult to recover from it.Justice between states: Rich countries have contributed more to greenhouse gas emissions, while it is poor countries that are the most vulnerable. Some countries were unable to develop because of an already unfavorable climate.Justice with Nature: This is defined as: “The recognition in international law of the intrinsic value of biological diversity, or of the need to maintain the processes essential for survival”. This is a central pillar in the debate about global warming.Justice between generations: Our behaviour today should not put the next generations in difficulty. The transition should not just be fair in the coming decades, it must address the quality of life of the next generations. It requires swift action.The easiest thing would have been to listen to the scientific community 30 years ago. Today’s climate is what we predicted then, not only in terms of warming, but also in the increase of extreme weather events. We now must do our utmost. The real injustice would be not to bring about a quick transition, not only for future generations, but also for the young. The perception of global warming is evolving rapidly, and if we do not act now we will be asked why we did nothing.”

Jean Jouzel, Comité Médicis 2019

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intestinal enteritis, and cholera will also multiply. Global warming also affects food security and malnutrition, especially of children.Additional waves of migration: The first IPCC report of 1990 mentioned increased human migration as one of the most tragic consequences of environmental degradation. Currently, more than 25 million people are displaced each year due to natural disasters linked to the climate, such as floods, hurricanes, and drought. The World Bank estimated in 2018 (“Groundswell: Preparing for Internal Climate Migration”) that nearly 150 million people could be forced to move within their own country, half of them in sub-Saharan Africa, if the Paris Agreement is not respected and the current greenhouse gas trajectory is not reduced.Rising conflicts: Climate change can lead to local and possibly international conflicts over land, revolts over food supply, and the weakening of governments. While research is still inconclusive, cases such as Darfur, conflicts in the Sahel, or localized conflicts between tribes or interest groups support this conclusion.

THE ENERGY OF TOMORROW: A KEY ISSUE

It is hard to overstate the importance of hydrocarbon-based energy, such as oil, gas and coal. It has powered the world’s economic growth and development and, when its supply is threatened, led to turmoil and conflict. One need only remem-ber the oil shocks of 1973-1979 and 1979 and the number of armed conflicts in which energy supply has played a role. But the use of fossil fuels per se was rarely questioned. That is, until recently, when it has become clear that the pollution and greenhouse gases they cause are unsustainable.

GREENHOUSE GAS EMISSIONS

China is the country that emits the most greenhouse gases (GHGs), in 2016 the equivalent of 10.2 gigatonnes of carbon dioxide (Gt CO2), which accounted for a quarter of global emissions. The United States is second, but far behind, with 5.3 Gt CO2, ahead of India (2.4), Russia (1.6) and Japan (1.2).

If we look at per capita GHG emissions, the ranking is different. According to 2016 data from the IEA, Qatar is first (48 tonnes of CO2 per capita), followed by Curaçao (39 t), Trinidad and Tobago (30 t), Kuwait and Saudi Arabia (26 t). The United States ranks 13th, with 17 t, at the level of Luxembourg, Canada and Australia. China is not in the top 30. The level of development partly explains the differences between countries, as does demography, political choices, geography, and climate. Some differences are huge: China is as populous as India but emits four times more CO2.

Remarkably, more than 70% of CO2 emissions are produced by only 100 companies and, according to the Climate Accountabil-ity Institute, 20 of these (including 12 that are state-owned in the

MELTING ICE AND RISING SEA LEVELS, LOSS OF FRESH WATER, DAMAGED ECOSYSTEMS, AND HUMAN MIGRATIONS – MANY CONSEQUENCES OF CLIMATE CHANGE ARE ALREADY WELL IDENTIFIED.




In the private sector, we must do our duty to promote sustainability. We have the means to mobilize a huge amount of capital while providing innovative finance. Xavier Musca, AWIF 2019

At the recent G20 the American delegation strongly resisted the inclusion of the Task Force on Climate-

Related Financial Disclosures. That is a pity. Francois Vi l leroy de Galhau, AWIF 2019

This obsession with growth, largely fuelled by the fear of unemployment, is now running up against another problem: the need to counteract the environmental crisis. As a consequence, current economic discourse is calling into question the future of growth itself. Yves Perrier, AWIF 2016

Automobile efficiency will help, but it mostly depends on renewables, whose prices are falling substantially.

In addition, we must create net emissions technologies that take carbon dioxide out of the atmosphere.

John Kerry, AWIF 2019

I do think the fight against global warming is compatible with growth. More than that, unless we win that argument, we will not get the action we need. If all this turns into a completely artificial horse race between growth on the one hand and climate responsibility on the other, climate responsibility will lose. Fortunately, more and more people are seeing that horse race is artificial and that if we want to grow for any extended period of time, we have to be responsible on climate. Lord Nicholas Stern of Brentford, AWIF 2015

THEY SAID IT !



energy sector) are responsible for more than a third of all emis-sions. They are Saudi Aramco (59 billion tonnes of CO2 equiv-alent), Chevron (43), Gazprom (43), ExxonMobil (42), National Iranian Oil Co (36), BP (34), Royal Dutch Shell (32), Coal India (23), Pemex (23), Petroleos de Venezuela (16), Petrochina (16), Peabody Energy (15), ConocoPhilipps (15), Abu Dhabi National Oil Co (14), Kuwait Petroleum Corp (13), Iraq National Oil Co (13), Total (12), Sonatrach (12), BHP Biliton (10), and Petrobras (9).

Meanwhile, the temperature keeps increasing. 2016 was the hot-test year on record, 2017 the second hottest, and 2018 the fourth. At the current GHG emission rate, the temperature will increase by 0.2°C every 10 years. The Paris Agreement’s goal is an increase of only 2°C by 2100, but only 10% of the signatories are meeting their commitments. Unless there is a drastic turnaround, we are on our way to an increase of 3.5°C by 2100. The average tempera-ture of the Earth, which is 15 °C, would rise to 18.5°C, or even more in the case of the pessimistic scenario (+6.5°C). It would mean that certain regions of the world would become uninhabitable.

RESPECTING THE PARIS AGREEMENT: LESSONS FROM DIFFERENT INSTITUTIONS

Respecting the Paris Agreement by limiting greenhouse gas emissions requires a shift to less polluting energy sources and away from production based on fossil fuels, starting with coal. Renewable energy is the optimal solution, especially since it has become more competitive economically and technologically. But renewables alone are not sufficient to ensure the transition. For the near term, we must use the whole spectrum of energy sources in the “energy mix”, and make it evolve to emit fewer GHGs. The way forward is well known, having been analysed by eminent scientists, international organisations, NGOs, and energy companies.

The International Energy Agency (IEA) publishes its yearly “World Energy Outlook” (WEO), presenting scenarios for the development of energy markets in the medium and long term, with an emphasis on public policies. The objective of its Sustain-able Development Scenario (SDS) is to describe an evolution of the energy sector compatible with universal access to mod-ern energy by 2030. It is compatible with the objectives of the Paris Agreement as well as with air pollution targets. The SDS requires spending more than $67,000 billion for energy systems alone (energy supply and use) from 2018-2040.

The New Policies Scenario (NPS), the WEO’s central scenario, would require $60,000 billion over the same timeframe. It describes the evolution of energy markets taking into account the climate policies of countries that have already been implemented or are planned. Emissions of GHGs continue to increase in this scenario. To reach the NPS objectives, the share of electricity in total energy consumption must exceed that of oil, which leads currently, by 2040. The substitution of vehicles with internal combustion engines by electric vehicles

THE TEMPERATURE KEEPS INCREASING. 2016 WAS THE HOTTEST YEAR ON RECORD, 2017 THE SECOND HOTTEST, AND 2018 THE FOURTH.




By investing wisely in cities, energy, and protection of forests over the next 15-20 years, we

could do most of what we need to do to bring down emissions. This could also create less congested,

less polluted and more efficient cities. Lord Nicholas Stern of Brentford, AWIF 2015

125 countries produce only 1% of the emissions, while 20 countries produce 85%. The US, Europe, and China alone produce over 50%. John Kerry, AWIF 2019

So, there is this baseload challenge: how are we going to continue to provide jobs, keep the economy running, and produce growth and development while we are trying to solve the climate change problem? John Kerry, AWIF 2019

JUSTICE DURING THE ENERGY TRANSITION“This topic must be tackled by delineating the characteristics of energy. Energy is an essential and fundamental good necessary for everyday life and the economic and social development of any organized grouping. It has three characteristics.Energy must be available and accessible: The accessibility of energy cannot be judged only through western eyes. 800 million to one billion people worldwide have no access to energy, but access is a prerequisite to lift them out of poverty. I do not consider it acceptable that in the name of the climate crisis, two or three billion people out of the nine billion that we will soon be on Earth can be left in energy poverty.Energy must be affordable: The cost of energy has been vital since the dawn of economic development. Even in a country with strong purchas-ing power like France, an increase in the price of energy through taxes is strongly opposed.Energy must be fair: The subject of climate challenges our notion of in-tergenerational solidarity and what we will leave to our children.”

Patrick Pouyanné, Comité Médicis 2019

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must be encouraged, while the use of plastics and other petroleum products must be drastically reduced. Nuclear power production must increase by 60% to reach the targets.

According to the IEA’s analysis, the peak of energy-related CO2 emissions will take place in 2020. Under the NPS, continuing the rate of reduction of emissions beyond 2040 would allow reaching the end of net emissions for energy-related CO2 around 2070. The reduction in emissions would come first from the electricity generation sector, and then from the transport sector. Other energy sectors would be smaller contributors. The effort to reduce emissions is greater for developed countries (-4.5% per year on average for OECD countries) than for developing countries (-2% per year), with a few exceptions such as China (-4.3% per year).

The IEA recommends maintaining funding for existing and new installations in the petroleum and natural gas sectors, the con-sumption of which would increase with the substitution of gas for coal. It also calls for the end of all fossil fuel subsidies by 2035, and the introduction of strict efficiency and emission standards for power plants and industries, vehicles, and buildings.

The IEA scenario is “consistent with the objective of limiting the temperature rise to 1.8°C, with a probability of 66%, or to 1.65°C with a probability of 50%”. However, it is often criticised. Some think that the IEA favour fossil fuels too much; others consider that the global warming targets are not ambitious enough - that 1.5°C by 2040 should be the standard. Nevertheless, the approach of the IEA is interesting and can serve as a reference since it specifies the method, the effort required, and the sequence.

The scenario of the International Renewable Energy Agency (IRENA) is published in its 2019 report “Global Energy Transforma-tion: A roadmap to 2050”. It relates to industry, transport, buildings, electricity production, and district heating. Its objective is to pres-ent a decarbonization trajectory for the global energy system, based largely on renewable energy, and to inform decision-makers on solu-tions for reaching the climate target of “well below 2°C” of the Paris Agreement. The objective is zero emissions linked to energy by 2050.

IRENA insists on the importance of political leverage, which should promote the development of digitalization and flexibility of the electricity system, the use of hydrogen for transport and industry, the use of biofuels in aviation, maritime transport and long distance road transport, the establishment of minimum emissions standards for vehicles, and the prohibition to build coal-fired power plants. As in the IEA scenario, the electricity generation sector would make the most significant reductions, followed by transport. Geographically, North America, the EU and East Asia must make the greatest effort, with reductions of about 80% by 2040 (from base year 2016). Other countries could have slightly slower rates, in particular the rest of Asia, whose emissions should decrease by around 45%.

ACCORDING TO IEA, NUCLEAR POWER PRODUCTION MUST INCREASE BY 60% TO REACH THE PARIS AGREEMENT TARGETS.

THE ACHIEVEMENT OF THE OBJECTIVES MAKES IT POSSIBLE TO GENERATE A POSITIVE IMPACT ON GDP.




It will not be governments that solve all the problems, but the private sector, which has more and more

credibility, legitimacy and leverage, and capacity to focus where its capital goes, which has an impact on where

jobs are created and what the future will hold. John Kerry, AWIF 2019

Unregulated markets cannot properly manage energy systems. This is known as a market failure, and the result is an excessive emission of carbon dioxide and other greenhouse gases, with impact on the oceans, climate, the economy, and the viability of many species on Earth. Will iam Nordhaus, AWIF 2019

THE FAIR VALUE OF CARBON“A fair energy transition can only be achieved by finding a fair carbon price. Using such an economic tool is effective. Once a price was set for sulfur dioxide emissions and nitrogen monoxide, industries innovated and developed alternative technologies to offset the costs of the tax or levy. Applying this economic instrument directly to consumers is only effective if they have the possibility of changing their behaviour. 72% of the French use their cars to commute, and they do not necessarily have the option of a less-polluting car. So, they see the rising cost of energy as a form of injustice. The subject is very complex. Several experts in the United States, including Nobel Prize winners and former Secretary of State Schultz, recently launched the idea of a carbon dividend. Everyone would pay a tax on their energy consumption linked to carbon. The proceeds would go into a fund and everyone would recover the same amount. The system is incentivizing and redistributive. The wealthiest consume more energy and would contribute more to the fund, while recovering the same amount as those who contribute less. We must continue to think about this type of mechanism. We must offer people benefits for participating in the energy transition, not just constraints.”

Patrick Pouyanné, Comité Médicis 2019

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Since 2005, Greenpeace has produced scenarios for the evo-lution of the energy system to promote ecological sustainabil-ity, including, “Energy [R]evolution: a sustainable future for all” in 2015. The “Energy Revolution” scenario posits a complete reduction of CO2 emissions linked to energy, with a 100% shift to renewables, and an exit from nuclear power. It calls for the rapid end of fossil fuel subsidies, and counsels against using BECCS (Bio Energy with Carbon Capture and Storage) and CCUS (Car-bon Capture, Utilisation and Storage). The Greenpeace scenario is more inclusive than that of the IEA or IRENA, since all sectors, not just energy, reach zero emissions by 2050. Emissions from electricity generation would decrease sharply from the start.

The International Institute for Applied Systems Analysis (IIASA) published an article in Nature magazine in 2018 sum-marizing a transition based on the sharp decrease in final energy demand. This differs from most scenarios proposing solutions relating to energy supply and production, such as decarbonisation of the energy mix and the development of large renewables projects. IIASA’s time horizons are 2050 and 2100, and its study, “Low Energy Demand (LED)”, covers the energy system, industry, the land and forest sectors, and waste.

IIASA highlights the importance of leveraging public policies to accelerate technological, institutional (especially market), and behavioural changes to drive the transition. Technological leverage means progress for information and communication technologies coupled with strong digitalisation, innovation and improvement in decentralized and small-scale energy produc-tion, and development of technologies linked to the end use of energy (but like Greenpeace not Carbon Capture). Behav-ioural leverage involves promoting a healthy and unpolluted environment, changing consumer preferences toward innova-tive, flexible services that are available on demand (the sharing economy), and increasing the number of energy consumers who also produce energy at the household or district level. All sectors should reach zero net emissions and carbon neutrality by 2060. The transition will be helped by negative emissions from land use, land-use change, and forestry (LULUCF).

THE MAIN LOW-CARBON SOLUTIONS

There are three main low-carbon solutions:• Reduction of CO2 emissions,• Capture and storage of CO2,• Taxation of CO2 emissions.

The concept of decarbonisation has become prominent over the past decade. It concerns both asset management (the decarbonisation of portfolios) and industry (the search for production with lower carbon emissions). For the energy sector, many measures are consensual, such as improving energy efficiency, developing renewable energy, improving the energy mix, supporting the energy transition for transport, and developing low-carbon businesses.

IN THE GREENPEACE SCENARIO, ALL SECTORS REACH ZERO GHG EMISSIONS BY 2050.

POLITICAL LEVERAGE, TECHNOLOGICAL LEVERAGE, AND BEHAVIOURAL LEVERAGE ARE ALL NECESSARY TO FACILITATE THE ENERGY TRANSITION.




It is also important to think about both the rate of growth and the quality of growth.

Often the quality of growth is overlooked. Lord Nicholas Stern of Brentford, AWIF 2015

Climate risk, which is existential for the planet, and is also a financial risk. Asset values have not included the consequences of a potential rise in the price of carbon, and it is certain that it is coming. Joseph Stigl itz, AWIF 2018

CLIMATE-RELATED RISK: THE NGFS RECOMMENDATIONSSix main recommendations have been promoted by the Network for Greening the Financial System (NGFS):1. Integrating climate-related risks into financial stability monitoring and

micro-supervision2. Integrating sustainability factors into own-portfolio management3. Bridging data gaps4. Building awareness and intellectual capacity and encouraging technical

assistance and knowledge sharing5. Achieving robust and internationally consistent climate and environ-

ment-related disclosure6. Supporting the development of a taxonomy of economic activitiesOne can also mention some of the actions of the Banque de France and the ACPR (Autorité de Contrôle Prudentiel et de Résolution / the French Prudential Supervision and Resolution Authority):• The ACPR is working toward the integration of climate-related risks into

day-to-day prudential supervision.• The Banque de France has adopted a Responsible Investment Charter.• The Banque de France provides the Secretariat for the Central Banks and

Supervisors Network for Greening the Financial System (NGFS).• The Banque de France published its first Responsible Investment Report

in March 2019.• The Secretariat to the NGFS contributes to the activities of the European

Commission Technical Expert Group that is notably working towards developing an appropriate taxonomy.

Source: Banque de France (2019).

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Other measures are highly controversial such as nuclear power, and CCUS, CCS and BECCS (“Carbon Capture, Utilisation and Storage”, “Carbon Capture and Storage”, “Bio Energy with Car-bon Capture and Storage”). The CO2 capture process involves trapping CO2 molecules before, during or after combustion to prevent their release into the atmosphere as greenhouse gases. The extracted CO2 is then sequestered in underground forma-tions for the long term, typically several centuries. This tech-nique extends the use of fossil fuels.

Most of the circa 20 CCUS installations in service are in North America and use CO2 to improve the recovery of hydrocarbons from petroleum deposits. Only two coal-fired power plants worldwide are equipped with CO2 capture and storage systems - Boundary Dam 3 in Canada and Petra Nova in Texas. According to the Global CCS Institute, only six countries - Canada, China, United States, Japan, Norway, United Kingdom - currently have policies that support CCS and CCUS technologies.

As seen above, the IEA recommends the development of nuclear and CCUS technologies, while IRENA would consider deploying CCUS for certain emitting industries (excluding electricity pro-duction). Greenpeace and IIASA are opposed, and Greenpeace also recommends exiting from nuclear power. Meanwhile, oil companies such as BP (“Rapid Transition” scenario) and Total (“Programme Total Eco-solutions”) recommend both the devel-opment of renewable energy and CCUS technologies.

The carbon tax is an environmental tax on CO2 emissions. Based on the “polluter pays” principle, it aims to modify behaviour and guide purchases and investments. Applied upstream, it results in an increase in the prices of products using a polluting energy source, thus favouring those that induce lower CO2 emissions. This tax (or its equivalent) has been implemented in several countries, starting with Finland in 1990, followed within five years by Swe-den, Norway, Denmark, the UK, Slovenia, and Costa Rica, and from 2008-2019 joined by Switzerland, Ireland, India, Japan, Australia (later repealed), France, Canada, Singapore, and South Africa. The list also includes US states such as Colorado and California. Some countries use all or part of the revenue from this tax to finance the energy transition (Switzerland, Denmark) others redistribute it in part (Switzerland, Canada), while others use it to reduce their pub-lic deficit (Ireland, Finland) or to lower other taxes.

Despite this progress, the OECD noted that from 2010-2014, its 34 member states and six major economic partners implemented 800 measures to support the production or consumption of fossil fuels, representing about $200 billion in subsidies a year. Accord-ing to the IMF, this “black” tax (in reference to oil, the black gold) represents more than 6% of world GDP. This vividly demonstrates the limits of the carbon tax.

SOME LOW-CARBON SOLUTIONS ARE WIDELY ACCEPTED, SUCH AS RENEWABLE ENERGY, ENERGY EFFICIENCY, AND A BETTER POLICY-MIX; OTHERS, SUCH AS CARBON CAPTURE AND STORAGE, ARE NOT.




Most people would like to do something about climate change and would choose a greener portfolio, especially if they do not give up much in returns. You can think of this as a hedge. The worse climate change gets, the better your investments will do. Richard Thaler, AWIF 2019

Most green bonds are issued in developed countries, but the needs for green infrastructure investment are

greater in the developing world. Xavier Musca, AWIF 2018

It is very scary at this stage, because we do not talk about a carbon price anymore, which is a basic instrument to succeed in the fight against climate change. We do not even talk about measurements, so even measuring countries’ pollution is not being discussed. Jean Tirole, AWIF 2015

We are finding that the economic growth process is leading to some by-products that have turned out

to be unwelcome, such as climate change. Will iam Nordhaus, AWIF 2019

I have little doubt that a strong greening the financial system will happen worldwide. Francois Vi l leroy de Galhau, AWIF 2019

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GREEN BONDS AND MONETARY POLICIES: TWO MAJOR ASSETS FOR THE ENERGY TRANSITIONAs we have noted, climate issues affect everyone and thus require everyone’s attention. Limiting climate change and mit-igating its effects must mobilize all sectors and industries. The world of finance is no exception; in fact, it can play a key role. Along with measures such as socially responsible investment and increasing the weight of ESG issues in investment deci-sions, two initiatives have taken off in the last decade:

• Green bonds, which were created in 2007, but have recently gained more momentum.

• The activism of central banks, which recently announced their intention to integrate climate issues into monetary policy.

GREEN BONDS

The world’s transition to a low-carbon economy requires a massive change in the allocation of financial capital. Green Bonds are an important tool. “Green Bonds are any type of bond instrument whose proceeds are exclusively applied to finance or re-finance, in part or in full, new or existing eligible green projects” (ICMA). They are like a conventional bond since they help the bond issuer raise funds for specific projects or ongoing business needs in exchange for a fixed periodic interest payment and repayment of the capital at maturity. A green bond differs mostly by the “green” label, which indicates to investors that the funds collected will be used to finance projects that benefit the environment. Green bonds have several virtues:

• They can help bridge the gap between capital providers and green assets;

• They help governments raise funds for projects aimed at achieving climate goals;

• They allow investors to achieve sustainability goals;• They can, along with other innovative capital market instru-

ments, support new or existing green projects through access to long-term capital.

After a slow start in 2007 and a market driven mainly by multilateral development banks, green bonds have experienced impressive growth over the past decade. Globally, annual global green bond issuance increased from €600 million in 2007 to $37 billion in 2014, $87 billion in 2016, $167 billion in 2018 and probably around $190 billion in 2019.

Increasing diversification

This growth was marked by four structural changes beneficial to the market:

• Greater diversification of the types of issuers. Originally dominated by multilateral development banks (MDBs), green bonds are now issued by public and private institutions, including governments (local, state and national), and government agencies and businesses (large corporations,

THE ‘GREEN’ LABEL INDICATES TO INVESTORS THAT THE FUNDS COLLECTED WILL BE USED TO FINANCE PROJECTS THAT BENEFIT THE ENVIRONMENT.




Some investors believe that their investment is sustainable or green, but it can be very difficult to know whether a company is really green. Heenam Choi, AWIF 2019

Responsible accounting means acknowledging the magnitude of climate risk. Responsible lending and

investing means helping the economy respond, not aiding and abetting the demise of the planet by lending to

carbon, but instead supporting green investments. Joseph Stigl itz, AWIF 2018

One of your criteria as investors is high risk-corrected returns, but you also should have goals to promote good environmental, social, and governance policies. Will iam Nordhaus, AWIF 2019

Yesterday, we were asked the question: ‘How can you integrate responsible ESG concerns

into your investments?’ I would rephrase that question and ask, ‘How can you not?

Liza Jonson, AWIF 2018

We are all aware of the multiplication of Green Finance, Social Finance, SDG Finance, and Good Bonds, but we should not create a multiplication of ‘good’ niches. Francois Vi l leroy de Galhau, AWIF 2019

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financial institutions). In markets with little or no activity, MDBs remain the most important issuers. The African Development Bank, for example, has issued around 80% of the green bonds in circulation in Africa.

• Greater geographic diversification. Europe was the first to be active in this market, followed by North America, and lately Asia-Pacific. Latin America and Africa are currently less active. The top three green bond issuers in 2018 were the US ($34.2 billion), China ($31 billion) and France ($14.2 billion) (CBI, 2019). Corporations and financial institutions are becoming dominant, but sovereign issues used to finance climate assets are also increasing. While renewable energy is the main beneficiary of green bonds, they also finance other sustainable development solutions.

• Greater diversification in terms of issue currencies. The Dollar and the Euro are the main issue currencies (representing 83% of issues in 2018), followed by the Renminbi and, in 2018, a record number of 30 other currencies.

• Greater diversification of the sectors financed. Renewable energy dominates green bond issues, followed by energy efficiency and clean transportation. IRENA calculated, that out of 4,300 green bonds, 50% (in Dollar value) financed, at least partially, projects relating to renewables, while 16% of them financed them exclusively. On a regional basis, 21% of green bonds issued in Europe were dedicated only to renewables, compared to 19% in Africa, 16% in the Americas, and 14% in Asia-Pacific.

The market has therefore evolved considerably since its creation in 2007, but its growth potential remains huge. The outstanding amount of green bonds is less than 1% of all global bond issues (around $1 trillion versus $100 trillion).

How to encourage the growth of green bonds?

The need for green bond issuance is growing. In 2019, IRENA estimated that the investments in the energy transition necessary to reach international objectives was around $110 trillion from 2016-2050, or $3.2 trillion a year. Green bonds can help bridge some of this gap if they receive the necessary support:

• Political decision-makers should adopt green bond standards aligned with development aid policies, favour subsidies and incentives for renewables over fossil fuels, and promote the energy transition wherever possible;

• Industrialists should engage more directly in the energy transition and invest in large-scale projects that can attract the major players in the green bond market;

• Suppliers of public capital should provide seed capital to reduce risks;

• Rating agencies and financial institutions should focus more on green bonds and, through their analysis and ratings, improve the comparability of projects and the understanding of the market;

• Institutional investors should align investment objectives with long-term sustainability mandates;

THE GREEN BOND MARKET HAS EVOLVED CONSIDERABLY SINCE ITS CREATION IN 2007, BUT ITS GROWTH POTENTIAL REMAINS HUGE.

THE INVESTMENTS IN THE ENERGY TRAN-SITION NECESSARY TO REACH INTERNATIONAL OBJECTIVES IS AROUND $110 TRILLION FROM 2016-2050, OR $3.2 TRILLION A YEAR.




Investing green is not a charity business, it is not about morals, it is not about ethics – it is about making a good investment. Jeffrey Jaensubhaki j , AWIF 2017

Climate change is a dynamic, non-linear, chaotic system, producing turbulence. Pascal Blanqué, AWIF 2019

What we should really be focusing on is how to make sure that the financial sector does what it is supposed to do, what no one else can do. That is to provide finance in a sustainable way, in a responsible way, to ensure long-term stable growth. Joseph Stigl itz, AWIF 2018

Climate change is part of our mandate, because climate risk affects financial stability and financial risk.

Should central banks discriminate in favor of green assets? This is delicate, since the green

bond market is developing quickly but is still small. There could be a risk of distortion.

Francois Vi l leroy de Galhau, AWIF 2019

Sustainable finance can contribute o financial stability. Heenam Choi, AWIF 2019

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• Retail investors should also play a role in strengthening the green bond market and advancing the global energy transformation;

Green Bond Principles and Climate Bonds Standard: stand-ardisation has become necessary

One of the problems with green bonds is properly defining what makes a bond and its uses “green”. There is no simple answer, although there is growing convergence of directives and market standards. The best-known international standards are the Green Bond Principles and the Climate Bonds Standard, but there are also regional and national standards. Regional standards include those of the Association of South-East Asian Nations (ASEAN), which will soon be joined by the European Union Green Bond Standard. On a national level, countries such as Japan, Brazil, India, China, and Morocco, among others, have created their own standards. In addition, credit rating agencies, specialized consultants and NGOs, such as Moody’s, Sustainalytics, CICERO, and the Climate Bonds Initiative, provide varying forms of green bond certification. Finally, some green bonds are self-labelled by issuers,

The two main international standards - the Green Bond Princi-ples and the Climate Bonds Standard – have come to dominate. Their rationale is different. As IRENA notes: “The Green Bond Principles set out voluntary guidelines on potentially eligible categories of green projects, the process for project evalua-tion/selection, the management of proceeds and reporting. The Climate Bonds Standard has more detailed criteria and requirements on what is green based on a category’s align-ment with the Paris Agreement climate target, as well as on management of proceeds and reporting.”

CENTRAL BANKS AND CLIMATE CHALLENGES

The 196 countries that signed the Paris Agreement committed to fighting global warming by reducing their greenhouse gas emissions. While this is desirable, supporting the energy transition poses risks for economic growth and financial stability. These risks have been mentioned by several central bankers. Mark Carney, Bank of England Governor, summed them up in 2015 (“Breaking the tragedy of the horizon – climate change and financial stability”). He focused on three broad channels through which climate change can affect financial stability:

1. Physical risks: the immediate impact on insurance liabilities and the value of financial assets that arise from climate- and weather-related events, such as floods and storms that damage property or disrupt trade;

2. Liability risks: the future impact if parties who have suffered loss or damage from the effects of climate change seek com-pensation from those they hold responsible. Such claims could come decades later, but could hit carbon extractors and emit-ters – and, if they have liability cover, their insurers – the hardest;

ONE OF THE PRO-BLEMS WITH GREEN BONDS IS PROPERLY DEFINING WHAT MAKES A BOND AND ITS USES ‘GREEN’. THERE IS NO SIMPLE ANSWER, ALTHOUGH THERE IS GROWING CONVER-GENCE.


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CLIMATE FINANCE CHANNELS - MARKET MECHANISMS AND POLICY INTERVENTIONS

Business activities and financial sector practices

Microprudential policy Macroprudential policy

De-carbonization of in-vestment portfolio;Sustainable business practices;Corporate disclosure and non-financial/integrated/ESG reporting, including from physical/transition risks of climate change;Enhanced risk manage-ment with greater focus on climate change;Innovative product/ser-vice development to seize opportunities.

Prudential taxonomies of climate-smart invest-ments/risk management/governance;Disclosure requirements for climate-related risks, non-financial reporting;Regulatory standards and capital requirements.

System-wide surveillance on the financial sector impact of climate risk;Additional reporting and/or capital/liquidity requirements.

Monetary policy Fiscal policy Structural policy

Climate-related consider-ations in three different considerations:- Definition of central bank mandate (price sta-bility/employment) and forward guidance;- Design/implementation of conventional central bank operations (reserve management, refinancing operations);- Design/implementation of unconventional central bank operations (asset purchases).

Sustainable development budgeting and climate-in-formed fiscal planning;Government borrowing via green and/or social bonds;Design and calibration of tax instruments (Positive tax incentives: energy effi-cient housing, purchase of electric cars;Negative tax incentives: carbon tax, fossil fuel subsidy reform);Debt sustainability: assessment of impact of natural disasters/climate change on debt sustainability (“modified DSA - Debt Sustainability Analysis”);Disclosure: reporting of full public sector balance sheet with contingent liabilities from physical/transition risks of climate change.

Energy efficiency stand-ards, building codes, land use regulation, urban planning;Disaster risk planning and management;Structural policies and regulations for sustainable infrastructure investment;Support for new tech-nology and innovations (venture capital/start-up funding).

Competition policy

Dissemination of new technology and innovations;Lower barriers to entry in key infrastructure markets (energy, transport, water, waste).

Source: Jobst – Pazarbasioglu (2019) Financial Stability Review, Banque de France

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3. Transition risks: the financial risks which could result from the process of adjustment towards a lower-carbon economy. Changes in policy and technology, as well as physical risks, could prompt a reassessment of the value of a large range of assets as costs and opportunities become apparent.

One consequence of this awareness is the creation of a Taskforce on Climate-related Financial Disclosures (TCFD) in 2017, under the auspices of the Financial Stability Board (FSB), a body that gathers G20 countries’ financial authorities to avoid new financial crises. One of the main tasks of the TCFD is to propose a universal framework over a fragmented landscape of disclosure methodologies as regard climate issues.

Central banks in face of the risks from the energy transition

Even before taking office, Christine Lagarde, the new President of the ECB, had highlighted her focus on environmental, social and governance (ESG) issues. Indeed, the ECB must tackle climate change if it thinks it poses a risk to financial stability, but without interfering with its other objectives such as price stability, or EU priorities such as employment and economic growth. The question is how to do this. Karsten Junius recently posited that the ECB (and any central bank) has the means to protect the environment and support climate change mitigation or the companies engaged in it. Central Banks should:

1. Integrate climate change and associated risks into economic models and forecasts. Taking these risks into account (via “green” stress tests) would make it possible to assess the threats to the financial stability of the euro zone.

2. Make it mandatory to include climate change risks in banks’ crisis scenarios and deal with any residual systemic risks that arise from them. Make the results public so that the rating agencies and the markets can integrate them appropriately. Treat residual systemic risks using macro-prudential tools.

3. Position its own portfolios held for non-monetary reasons, such as its pension fund, on the assets of “green” companies.

4. Provide specialised lending facilities or other monetary policy instruments to “green” businesses.

5. Buy “green” assets as part of its asset purchase program.6. Require a lower discount when “green” corporate bonds are

used as collateral for central bank refinancing operations.7. Accept as collateral only with a penalty, securities issued by

companies that emit a lot of CO2.

Considering the ECB, the first four options are easily achieva-ble, since they do not contradict monetary policy objectives. On the contrary, they provide additional information and an impetus via the non-monetary portfolio. The last three options are more delicate. The idea that the ECB would directly finance the energy transition through “green” quantitative easing is complex and could necessitate a reinterpretation of its man-date. Moreover, it is not the role of the ECB (or any central bank) to pick winners by deciding which company is sustainable or not and receives support. As for requiring a lower discount, this

CLIMATE CHANGE REPRESENTS PHYSICAL, LIABILITY AND TRANSITION RISKS, AND THEREFORE FINANCIAL STABILITY RISKS.

CENTRAL BANKS HAVE DIFFERENT OPTIONS TO SUPPORT THE ENERGY TRANSITION, BUT SOME OF THEM ARE NOT REALISTIC.



seems superfluous, since the ECB already uses a system that favours less risky companies. Regulations and crisis scenarios make the risks linked to climate change that businesses face transparent. Credit rating agencies can assign lower ratings to companies penalized by climate change or its mitigation, making the price of their bonds lower than that of comparable companies, but less risky. “As the amount that the ECB recog-nizes as collateral in its refinancing operations depends on the market price, after deducting a discount according to its rating, ‘green’ companies will already benefit from a lower discount applied to a price potentially higher market” (Junius, 2020).

Should central banks get involved in climate issues?

Not everyone agrees that climate change should be integrated into the objectives of the principal European monetary institution. Jens Weidmann, head of the Bundesbank, criticized it during a conference on sustainable finance in Frankfurt three days before Ms. Lagarde took office, saying that it would be “contrary to the rules provided for by the European Treaty”. Under this, the interventions of ECB’s monetary policy must remain neutral, reflecting the composition of securities available on the market. He also fears that it will find itself in potential conflict when it wants to put a brake on bond purchases while climate activists may be calling for more vigorous action. It would also be wrong to use banking regulations “to provide incentives for climate policy”. According to Weidmann, this task falls to politicians. This does not mean that the Bundesbank is inactive. It plans to green its portfolio of securities (more than €12 billion) and is already investing some of the pension funds entrusted to it in green securities.

So, should central banks get involved in climate issues? In 2017, Mario Draghi, then President of the ECB, recalled that “the Euro system should support the general policies of the EU, including the sustainable development of a Europe based on balanced growth, aiming at a high level of protection and improvement of the quality of the environment”. However, he recognized that, “it falls to the political authorities to define and decide on the appropriate measures to achieve the objectives of the Paris agreement”. Meanwhile ECB Executive Board member Coeuré argued in 2018 that “the best the ECB can do is to concentrate its efforts on creating the right conditions for supporting the flow of capital into sustainable sectors. By doing this, the ECB would support the EU’s environmental goals while staying true to its price stability goal”. While acknowledging that climate change impacts monetary policy, he does not want to incorporate explicit environmental criteria into the ECB monetary policy framework.

It is clear that the primary responsibility of the ECB is price stability. However, its secondary responsibility is to support the overall economic policies of the EU, which are sustainable and balanced growth, full employment, and protection of the environment. Therefore, the ECB has an indirect mandate derived from the EU treaties that permits greening monetary

THE ECB HAS AN INDIRECT MANDATE

DERIVED FROM THE EU TREATIES THAT PERMITS

GREENING MONETARY POLICY AND SUPPOR-

TING THE ENERGY TRANSITION, WHICH

CAN BE DONE WITHOUT PREJUDICE TO PRICE

STABILITY.



CONCLUSIONAccording to figures from the World Bank (2018), the fight against global warming would require, by 2030, $ 89 trillion in investment ($ 19 billion a day). Climate change is the Tragedy of the Horizon. As Mark Carney recalled in 2015, “we don’t need an army of actuaries to tell us that the catastrophic impacts of climate change will be felt beyond the traditional horizons of most actors – imposing a cost on future generations that the current generation has no direct incentive to fix”. That means beyond the business cycle, beyond the political cycle and beyond the horizon of technocratic authorities, like central banks, who are bound by their mandates. In other words, “once climate change becomes a defining issue for financial stability, it may already be too late.

Climate change is one of the major challenges of this century. The experts agree: humans are responsible for global warm-ing and can thus reverse it, limiting its damage to the environ-ment, to biodiversity, to health, and to the planet in general. But this must be done without slowing development, innovation, growth, and employment. As the World Bank states: “The real challenge over the near term lies in the design and implementa-tion of growth - friendly policies (which make remedial actions more urgent and help address market failures). The transition will require the greening of investment, consumption, and pub-lic spending flows, as well as replacement of a large share of existing carbon-heavy private and public capital stock, with a focus on climate- friendly infrastructure and technology”.

Countries, working with companies, need to accelerate the energy transition and to integrate climate risks and climate targets into their policies. They can do this through financial sector reforms (new asset classes such as green bonds, pruden-tial rules including climate risk), fiscal policies (environmental taxes and subsidies favouring renewables over fossil fuels), and structural policies (early stage financing of new technologies).

THERE ARE MANY WAYS TO DEVELOP PLANS TO ACCELERATE THE ENERGY TRANSITION AND TO INTEGRATE CLIMATE RISKS AND CLIMATE TARGETS INTO NATIONAL POLICY FRAMEWORKS.

policy and supporting the energy transition, which can be done without prejudice to price stability.

The ECB can consider ESG issues in various ways (Schoenmaker, 2019). For example, it can use exclusionary/negative screening (not investing in companies that do not meet specific ESG cri-teria), the best in class approach (investing in companies that perform better on ESG issues than their peers), and portfolio tilt (tilting an investment portfolio toward a desired carbon foot-print). On the other hand, active ownership, thematic investing, impact investing, and full ESG integration are best left to others.

ESG EXCLUSION POLICY, BEST IN CLASS APPROACHES, AND PORTFOLIO TILTS ARE USEABLE BY CENTRAL BANKS. OTHER OPTIONS SEEM INAPPROPRIATE.





I believe that virtually all the problems in the world come from inequality of one kind or another.

Amartya Sen, 1998 Nobel Prize of economics

CHAPTER 10

INEQUALITY:The Causes and the Challenge

The subject of inequality has been front and centre since the 2008 financial crisis. Many studies and books have been published on it, with some becoming best sellers. Businesses are treating it through the lens of gender balance and executive pay. Governments have intervened with initiatives and legislation, and social movements have sprung up to deal with it, from “Occupy Wall Street” in the US to the “Yellow Vests” in France. Is inequality really increasing? Has it become unacceptable? Is the feeling of inequality legitimate everywhere? What role does social determinism play? What impact does inequality have on growth? Does it create poverty?


Inequality has been in the spotlight for the past ten years. In 2014, Pope Francis tweeted that “Inequality is the root of social evil”. A few years later, former US President Obama said that inequality was “the defining challenge of our time”. Recently Jeremy Corbyn called for new economic policies to address the UK’s “grotesque inequality”. There is a growing consensus that the concentration of income and wealth has had a negative impact on the economic and social spheres.Meanwhile, Angus Deaton, a Nobel laureate, argues that worrying about the negative effects of inequality, such as slowing economic growth and malfunctioning democratic institutions, is looking at the problem backwards. “Inequality is not so much a cause of economic, political, and social processes as a consequence.” Admittedly a clear correlation, but what is the causality? Intuitively, both are legitimate views and causality doubtlessly works both ways. So where, exactly, do things stand? Although the world has become more egalitarian and developing economies are closing the gap with the advanced economies, inequality and the decline of the middle class in the latter have become serious concerns.

TAKING STOCK

After two centuries of continuously rising inter-country inequality following the industrial revolution, the trend started reversing in 1990s, with developing countries partially catching up to advanced countries. However, another trend started: after several decades of stability, intra-country inequality began rising again. Overall, inter-country inequality has fallen by 35% since 1990, while intra-country inequality has risen by 14%, which has slowed the fall in overall worldwide inequality.

Studies on inequality focus on the distribution of the wealthiest classes and the least well-off. The following are the most important statistics:

• The share of the wealthiest 10% in terms of income ranged from 37% in Europe to more than 60% in the Middle East and nearly 50% in North America;

• The share of this 10% has been steadily increasing since the 1980s, particularly in India, China and the United States. The increase is more modest in Europe;

• In the United States, the share of income of the top 1% rose sharply between 1980 and 2016, while that of the bottom 50% fell dramatically. Since 1996, the income of the top 1% has exceeded that of the bottom 50%; the income curves crossed, with the top 1% earning 20% of total income versus 13% for the bottom 50%;

• In Europe, the gap between the share of income of the top 1% (12%) and that of the bottom 50% (22%) has been relatively stable since 1990. Greece, Ireland and Portugal are fundamentally inegalitarian countries (primary income before taxes and transfers). In comparison, Sweden, the Netherlands and Denmark are economies with less inequality and less need for transfers.

• Emerging countries (China, Brazil, India, Russia) have a similar pattern of inequality, with an increasing share of income going to the top 1%.

OVERALL, INTER-COUNTRY INEQUALITY HAS FALLEN BY 35% SINCE 1990, WHILE INTRA-COUNTRY INEQUALITY HAS RISEN BY 14%, WHICH HAS SLOWED THE OVERALL FALL IN WORLDWIDE INEQUALITY.




Inequality is a good measure of economic instability and potential financial problems. David Wood, AWIF 2019

At the beginning of the 80s, economists were discussing the idea of endogenous growth, for which

Paul Romer got the Nobel Prize. They argued that perhaps the divergence between the rich and the

poor would continue forever. Precisely at the moment when their theories were becoming popular in

academic circles, China and, to a certain extent, India demonstrated that this was not the case. There was

no deterministic path and the poorest countries could manage to grow, in particular through trade.

Daniel Cohen, AWIF 2019

I no longer believe that equality of outcomes is inherently desirable,” and we must be careful on how we reduce inequality. Redistribution from top to bottom affects incentives, and you risk killing the goose that lays the golden eggs. Angus Deaton, AWIF 2017

Today, 51% of all income goes to 1% of Americans or investors, which is not

a sustainable political equation. John Kerry, AWIF 2019

The American Dream is a myth. I tell my students there is one key decision they have to make, and that is choosing the right parents. And if you mess up that decision the game is over. Joseph Stigl itz, AWIF 2018

THEY SAID IT !



• The share of global national income of the OECD countries fell from 41% to 35% between 1990 and 2019, another indication that the emerging economies are catching up.

• Several studies have also shown that the middle classes in developing countries are catching up, with their real income increasing the most. Middle-class wage earners in developing countries are in the 50th to 60th percentiles in the distribution of world income. In the developed countries, the middle class is in the 80th to 90th percentiles.

Several countries have a high potential for redistribution - reducing inequality in the distribution of primary income. The US is the developed country that does the least to fix the disparities, while Finland is the most egalitarian after redistribution. Ireland, a very inegalitarian country initially, is an example of a country that is working hard to address inequality through the distribution of primary income. The Netherlands and Luxembourg, although relatively egalitarian, are in relative terms more unequal than several European countries including France, which does a good job of addressing the distribution of primary income.

Over the past 30 years, income inequality has widened in the United States, the UK, and Germany, among others. In France, where inequality was already lower than elsewhere, it has remained relatively stable, growing only slightly. In the United States in particular, rising inequality is due to high incomes and the increase in the numbers of working poor. This has been exacerbated by the distortion in income sharing, which is unfavourable for the most precarious and least qualified. However, the labour force participation rate is high and the unemployment rate is low. In France, on the other hand, the employment rate is lower, but job insecurity and the emergence of the working poor is much less pronounced. The unequal sharing of value added, which is detrimental to wage earners, is also less extreme than in the US.

Economic inequality is manifested in different ways. Wealth inequality (see Boxes 2 and 3) is consistently higher than income inequality, which in turn is higher than consumption inequality. This hierarchy is maintained over time, irrespective of the index used (Gini, Theil, Atkinson).

THERE ARE MULTIPLE CAUSES OF INEQUALITY

The factors responsible for rising inequality in developed coun-tries are either purely economic or linked to societal changes:

• The change in forms of work and working conditions, such as the increase in the number of part-time, fixed term, low skilled, less stable and less well paid jobs filled mostly by young people.

• The change in the technological environment that favours skilled workers and widens the wage gap with the unskilled. Technological revolutions also generate more income in some sectors than others, contributing to wage disparities.

ECONOMIC INEQUALITY IS DISPLAYED IN DIFFERENT WAYS. WEALTH INEQUALITY IS CONSISTENTLY HIGHER THAN INCOME INEQUALITY, WHICH IN TURN IS HIGHER THAN CONSUMPTION INEQUALITY.




I am not sure that globalisation will be the driving force for economic growth in Africa as it was in Asia, especially if it ends. Daniel Cohen, AWIF 2019

There are many dimensions of this inequality, but two have not received sufficient attention in the

financial community. The first is that race and gender discrimination are rampant in in many countries, both

in employment and in lending. Second, that there is inequality across generations.

Joseph Stigl itz, AWIF 2018

The greatest inequalities in the world today date back to historical episodes of progress, such as the industrial revolution, which brought huge benefits to mankind. Angus Deaton, AWIF 2017

THE RISE OF INEQUALITIES, ESPECIALLY IN THE US, IS THE BIG SURPRISE OF THE PAST 30 YEARS.“At the beginning of the 1980s the promise was to make labour a centrepiece of the modern era, assuring that people would be rewarded according to their e orts. That was more or less the motto of Thatcher or Reagan: “Work and you will get rewarded”. The idea that the deregulation of the economy they engineered would generate so much inequality was not anticipated by politicians and economists. The economists in those days thought more about the Kuznets curve, which says that inequalities tend to fall over the long run, at least in advanced economies. So, the rise in inequalities came as a surprise. There has been a lot of discussion on whether it was the by-product of the conservative revolution or whether it was more the by-product of the technological revolution or world trade.”

Daniel Cohen, AWIF 2019

It’s not just the benign neglect of the rest by the elite, but something more active and more maligned. I suppose

it is what non-economists like to call neoliberalism. Angus Deaton, AWIF 2017

THEY SAID IT !


1


• The transfer of manpower from industry to services, which are more heterogeneous in terms of occupations and skills, and less well organised than industry to press wage demands.

• Innovation and the efficiency of the education system, which reduces average income disparities but increase extreme inequality (which we may have to accept during the tech-nological revolution).

• The weakening of wealth redistribution policies due to budg-etary restraint and austerity or unfavourable tax and social policies, such as lower marginal tax rates on high income and capital.

• Increased trade integration and financial openness which impact wages and thus inequality through a sharp rise in the labour supply, especially for the least skilled.

• Automation of repetitive jobs facilitated by the falling cost of machines, another consequence of globalisation.

• Labour market reforms in several OECD countries to lessen employment protection, not only for temporary employment, but also for full-time employees on open-ended contracts.

• The rise in the level of education, which has led to a reduction in inequality in some countries but exacerbated it in those with inappropriate or inadequate job training or educational systems.

• The increased proportion of women in the workforce, which has reduced inequality.

• The rise in single person or childless households, which has increased inequality.

Another particularly important factor is social mobility. “Social ladders” do not function as well as they once did. Social determinism is a factor that, in some countries, has become a real obstacle in the fight against inequality. France is a good example.

IS THERE A RELATIONSHIP BETWEEN INEQUALITY AND GROWTH?

Inequality does not necessarily increase in times of crisis. Rising unemployment rates following a crisis may bring about a decline in some income, including that of capital, but there is no absolute rule. Generally, economic policies are designed to help the disadvantaged classes following a crisis, which should lower inequality. However, if countries hurt by a crisis are forced to implement austerity policies, inequality widens. Europe in the 2010s is a classic example, especially Italy, Spain, Greece, Ireland, and Portugal.

Growth is not necessarily synonymous with decreasing ine-quality if it does not result in the creation of high-quality jobs or income redistribution. It can even increase when successful corporations raise the pay of top earners.

So, contrary to some beliefs, income inequality can increase both in periods of job growth and in periods of crisis. This is the story of the 2000s and the 2010s. During the 2000s the

THE FACTORS RESPONSIBLE FOR RISING INEQUALITY WITHIN DEVELOPED COUNTRIES ARE EITHER PURELY ECONOMIC OR LINKED TO SOCIETAL CHANGES.




Many in the United States, more so than in Europe, see the outcomes of market capitalism to be automatically fair, while government action is seen as arbitrary and unfair. Angus Deaton, AWIF 2017

The OECD and the IMF have research suggesting that inequality harms economic growth. That is contrary to

the old wisdom that inequality is the price of growth. Now, it is becoming a barrier to growth.

David Wood, AWIF 2019

Inequality, it is not only a moral issue, but also an economic and political issue. Societies with more inequality have slower growth and more volatile growth. We used to think that if you want more equality you have to give up on growth, but now we realize that equality and growth are complementary. Joseph Stigl itz, AWIF 2018

GLOBAL WEALTH (AS A %, WORLD): WEALTH CLASSES BY MAJOR WORLD REGION

Region Less than $10k

From $10k to $100k

From 100k to $1m

More than $1m

Africa 19.5 4.1 0.8 0.4

Asia-Pacific 27.2 17.6 22.0 16.0

China 9.3 42.6 21.8 9.5

Europe 7.8 12.0 30.3 28.4

India 23.5 10.4 3.0 1.6

Latin America 10.2 8.1 2.5 1.4

North America 2.5 5.1 19.7 42.6

WORLD 100 100 100 100

Source: Crédit Suisse Research Institute, “Global Wealth Databook 2019”.

THEY SAID IT !


2


employment rate increased but the types of jobs created, mostly temporary or part-time or self-employment, increased inequality on the labour market. Furthermore, even though disposable household income rose on average in the OECD countries (a little more than 1.5%), the income of the wealthiest increased faster in three-quarters of them, leading to a rise in inequality.

A key subject is the negative effect of inequality on growth. This happens if the feeling that inequality is increasing becomes intolerable, if the share of value-added is one-way and hurts wage earners, if primary income inequality is not corrected by the redistribution system, if opportunities fade away, and if social determinism lowers the prospects of the disadvantaged classes.

Low interest rates and inequality have an unclear relationship. The ECB has stated that inequality should be factored into mon-etary policy, but the relationship is not obvious. On the one hand, low interest rates reduce income inequality since they favour borrowing households over lenders. Low- and medium-income households tend to be borrowers while higher income house-holds are mostly lenders. However, at the same time low interest rates worsen wealth inequality because they favour households that own financial assets, real estate, and businesses.

SOMETIMES THE PROBLEM IS NOT INEQUALITY BUT POVERTY

How do we measure extreme poverty around the world? In 2015, the World Bank set the poverty line at $1.90 per day (about €50 per month). People who live on less are considered poor. There are two additional, less restrictive, thresholds: $3.20 and $5.50 per day.

The number of people living below the extreme poverty line has fallen by a little more than one billion in thirty years, from 1.9 billion in 1984 to 736 million in 2015. This trend is impressive, since over the same period the world’s population grew from 4.5 billion to 7.4 billion. Overall, the rate of extreme poverty fell fourfold: today 10% of the world’s population lives on less than $1.90 per day versus 39% in 1984. However, the war on poverty has yet to be won (see Box 4).

In 1981, when the international poverty threshold was still $1 per day in purchasing power parity (PPP, the capacity for consumption), nearly half the global population was considered poor. Today the rate, with the threshold at $1.90, is around 11%. There are considerable geographical variations. Extreme poverty is falling mostly due to the substantial decline in the two largest countries, China and India. Officially China has almost no-one living under the extreme poverty line of $1.90 (only 10 million), and the number is also falling rapidly in India (less than 100 million in 2017). Poverty is now concentrated in Sub-Saharan Africa, where in 2019 90% of the population was living on less than $1.90 per day.

3.4 BILLION PEOPLE LIVE ON LESS THAN $5.50 PER DAY, ALMOST HALF THE GLOBAL POPULATION, WHICH IS MORE THAN AT THE BEGINNING OF THE 1980s.




GLOBAL WEALTH (IN % PER REGION)

Region Less than $10k

From $10k to $100k

From 100k to $1m

More than $1m Total

Africa 88.5 10.8 0.6 0.0 100

Asia-Pacific 65.7 24.5 9.2 0.6 100

China 24.6 65.0 10.0 0.4 100

Europe 38.2 33.9 25.7 2.3 100

India 78.2 20.0 1.7 0.1 100

Latin America 66.6 30.5 2.8 0.2 100

North America 26.2 30.7 35.8 7.3 100

WORLD 56.6 32.6 9.8 0.9 100Share of total wealth (in %) 1.8 15.5 38.9 43.9 100

Source: Crédit Suisse Research Institute, “Global Wealth Databook 2019”.

The mind-set of the financial sector, with a focus on quarterly returns and short-term thinking, has had an effect on the entire society and economy. Long term sustainable growth has to be based on long term responsible finance. Finance is enormously influential in our political decisions and the stances taken naturally affect the outcomes. Joseph Stigl itz, AWIF 2018

There is a link between inequality and health, in the form of ‘deaths of despair’. For less-educated, middle-

aged whites the ratio is three drug-related deaths to two each for suicides and alcoholic-related deaths.

Angus Deaton, AWIF 2017

I regret to say that America’s financial sector has played a pivotal role in this short-term thinking. They supported deregulation, stripping away the protections from another crisis. Joseph Stigl itz, AWIF 2018

THEY SAID IT !


3


If we use a threshold of $5.50 per day (€150 per month), the findings are very different: 3.4 billion people live on less than this amount per day, almost half the global population, which is more than at the beginning of the 1980s.

While in China the percentage of the population living on less than $1.90 per day represented less than 1% in 2015, poverty had not disappeared. 6% of the population lived on less than $3.20 per day and 25% on less than $5.50 per day.

Studies show that the most disadvantaged fare best in the most economically liberal countries. However, it is likely that their reduction in poverty will be accompanied by rising inequality. China is emblematic. The percentage of the population living on less than $1.90 per day fell from 66.6% in 1990 to 0.7% in 2015, but inequality increased. The wealthiest 1% of the Chinese population now lay claim to 13.9% of all income versus only 8.1% in 1990. They accounted for 29.6% of the wealth in 2015 versus 15.8% 25 years earlier.

We can criticize capitalism and globalisation, but the statistics speak for themselves: the most disadvantaged are far better off today than 30 or 40 years ago. Capitalism is the best ally against poverty. However, it must not be a capitalism of connivance, co-option, excessive capture of value-added, corruption, tax eva-sion, and inequality of opportunity. The themes of “responsible capitalism” or “inclusive capitalism” must be part of the formula.

Wealth distribution including “trickle-down” theory (Adam Smith, Simon Kuznets) states that if you allow entrepreneurs to create wealth, the others will eventually benefit from it. Angus Deaton pointed out that growth, not redistribution policy, is pri-marily responsible for the reduction of poverty in the world, and that this growth was helped by the freedom to amass wealth. Every time governments seek to legislate more or total equal-ity, everyone’s wealth falls. This is what happened in the United Kingdom in the 1970s, in the USSR and the countries of Eastern Europe a few decades ago, and today in Venezuela, Cuba and North Korea. The conclusion is that to fight poverty and promote prosperity it is preferable to choose liberty over equality. But pov-erty must be fought, and trickle-down economics can contribute.

An important question is whether the next generation will be poorer than their parents? If so, it would be a first. McKinsey has identified the factors responsible for the stagnation or decline in household income that could bring this about.

• The weaker growth of the economy and jobs;• The size of households, with the number working age adults

declining;• Changes in the labour market, with the share of GDP going to

wage-earners falling;• Income from capital falling;• Unfavourable taxes in countries where budgetary discipline

and austerity have been adopted;• The falling size of transfers and redistribution.




POVERTY IN FIGURES:- 1.9 billion people live on less than $3.20 per day, and 3.4 billion people

live on less than $5.50 per day;- More than 160 million children are likely to remain in extreme poverty

between now and 2030;- Of the 28 poorest countries, 27 are on the African continent where

poverty is engrained because of conflicts and unfavourable political or economic regimes;

- 85% of people living below the poverty line live in Sub-Saharan Africa and southern Asia;

- 41% of Africans live below the extreme poverty line (less than $1.90 per day) with a majority being children or those in rural areas;

- Nigeria has as many people living in poverty as India but only one seventh of the population;

- 876 million adults are illiterate, two-thirds of whom are women;- More than one billion people do not have access to clean water;- 260 million children and young people have no formal education;- 448 million children are underweight;- Each day, 30,000 children under the age of five die from preventable

diseases;- Less than 50% of pupils achieve minimum literacy skill levels;- Global warming could cause 150 million climate refugees between now

and 2050;- 91% of the world’s population is exposed to atmospheric pollution;- 7 million people die every year due to air pollution, 90% of whom are in

low income countries;- In low income countries, 93% of all waste is burned or abandoned along

the roadside, on open land or in water sources, compared to only 2% in high income countries;

- 2.6 billion people do not have indoor plumbing and clean water;- The lack of sanitation is responsible for 1.6 million deaths each year and

contributes to stunting, which afflicts 150 million children worldwide;- 13% of the world’s population lives without electricity;- 2.7 billion women are excluded from the job market;- In 104 countries, women are not allowed to hold certain jobs;- 59 countries do not have laws on sexual harassment in the workplace;- In 18 countries, husbands have the legal right to prevent their spouses

from working;- More than one-third of all adults are excluded from the financial system,

especially women.

THEY SAID IT !


4


The post-crisis decade was particularly difficult for some countries, especially southern European countries that were compelled to enforce restrictive budgetary and fiscal meas-ures to overcome government deficits and public debt. According to one McKinsey study covering the period 1993-2014, from 65-70% of the households in 25 advanced econo-mies, equivalent to between 540 and 580 million people, saw their wages and income from capital stagnate or even decline between 2005 and 2014, compared to less than 2% from 1993-2005. Government transfers and lower tax rates tried to mitigate the effect on disposable income, but 20-25% of households saw their disposable income stagnate or decline between 2005 and 2014, compared to less than 2% in 1993-2005.

INCOME INEQUALITY, INEQUALITY OF OPPORTUNITY, AND SOCIAL DETERMINISM

Inequality of opportunity from birth perpetuates itself from generation to generation. A recent OECD study shows that the social ladder is no longer working properly, even in France and in Germany, where the poorest 10% have little opportunity to advance socially and economically. They would need six genera-tions (about 180 years) to achieve the income level of the middle class. In Italy or the United Kingdom, five generations would be required, and in Belgium or Spain, four. Northern European coun-tries do better, with three generations required in Norway, Swe-den or Finland, and only two in Denmark, the European champion.

The example of France is emblematic. Inequality of opportunity affects more than just the poorest, it also impacts parts of the middle class. Disparities across socio-economic groups and regions begin at an early age and the disadvantages continue at school. The influence of the community and regional disparities are responsible for this. Differences in education determine access to jobs and continue throughout life, especially when they are not corrected by vocational training. In fact, the real fight against inequality takes place through skills development. Differing levels of income reflect disparities in access to work and tax policy. Income redistribution through taxation corrects some of the inequality but does little for the middle-income brackets; in fact, it sometimes hurts them. Overall, France does badly in social mobility rankings.

INEQUALITY IN CORPORATIONS: GENDER BALANCE AND EXECUTIVE PAY

The polemic of inequality has also entered corporate life, lead-ing to initiatives and sometimes legislation to promote gender balance and to regulate executive pay.

GENDER BALANCE: MORE EFFORT IS NEEDED

According to Eurostat, women in Europe are paid 16% less on average than men. The wage gap goes from 21% in Germany and the Czech Republic to 5% in Italy and 3.5% in Romania. In

THE DISADVAN-TAGED FARE THE BEST IN THE MOST ECO-NOMICALLY LIBERAL COUNTRIES.

A RECENT OECD STUDY SHOWS THAT THE SOCIAL LADDER IS NO LONGER WORKING PROPERLY IN FRANCE AND IN GERMANY, WHERE THE POOREST 10% HAVE LITTLE OPPORTUNITY TO ADVANCE SOCIALLY AND ECONOMICALLY.




If you accept the argument about deaths of despair coming from long-term dysfunction in the labour market, this is what we need to understand, and it is also what we need to prevent in other countries. Angus Deaton, AWIF 2017

According to IMF research, one of the risks of inequality is that, aside from constraining growth, it

makes it harder to overcome economic shocks. This requires social solidarity and is the kind of

long-term issue that should concern investors. David Wood, AWIF 2019

The number of people better off than their parents has been falling rapidly in the US. About 60% of Americans had higher incomes at age 30 than did their parents at the same age. However, for people born 20 years before, the percentage was 90%. Angus Deaton, AWIF 2017

HOW CAN CORPORATE BEHAVIOUR BE INFLUENCED AND COMPA-NIES ENCOURAGED TO TAKE INEQUALITY INTO CONSIDERATION?Some recommendations • Encourage companies (to be the type of company) that value applicants

who received scholarships for their education;• Encourage companies (to be the type of company) that finance/contribute

to educational programmes for underprivileged classes / neighbourhoods/regions;

• Promote partnerships with regional institutions of higher learning/uni-versities, which may be less prestigious than their Paris counterparts, but nevertheless hold real talent;

• As for women, encourage companies (to be type of company) that develop hiring programmes factoring in inequalities: systematic inclu-sion in the last round of potential recruits (no systematic rejection of applications), but final selection based on expertise (well thought-out positive discrimination);

• Do not encourage companies (to be the type of company) that practice toxic capitalism (co-opting, fanatical elitism, etc.);

• Do not encourage companies that abuse tax optimisation techniques. Tax revenue is one of the instruments to fight against inequalities."

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recent years, there has been a decline in gender pay disparities, except in Poland, Croatia, Bulgaria and Portugal. France, where women earn 15.4% less than men, is ranked just below the Euro-pean average, along with the Netherlands and Spain.

Pay inequality is just one aspect of gender inequality. Others that are included in World Economic Forum Global Gender Gap Index are labour force participation and economic opportuni-ties, access to and level of education, health and survival, and political empowerment and access to positions of responsibility.

Iceland has been ranked as most egalitarian country in the world for the past 10 years. It has eliminated 88% of its gender pay gap; It is followed by Norway (84.2%), Finland (83.2%) and Sweden (82%). Rounding out the top ten are Nicaragua (80.4%), New Zealand (79.9%), Ireland (79.8%), Spain (79.5%), Rwanda (79.1%) and Germany (78.7%). France is ranked 15th (78.1%), the United Kingdom 21st (76.7%) and the United States 53rd (72.4%).

Overall, Western Europe is the area which has done the most to correct pay disparities between men and women (a gap of 23% according to the WEF index, as compared to Eurostat’s 16%), ahead of North America (27%). The Middle East/North Africa bring up the rear (39%). In the space of about fifteen years, France rose from 70th to 15th, with a particularly signifi-cant improvement in the proportion of women in political and corporate leadership roles. However, it is still behind in labour force participation and economic opportunities.

Nowhere do men devote as much time to unpaid work (mainly household and volunteer) as women. Even in countries where the ratio is lowest (Norway or the US), women devote twice as much time to unpaid household work than men. This affects overall gender equality, since there is a negative correlation between the time devoted by women to unpaid work and economic participa-tion and other indicators.

Currently, there is an average gender gap of 31.4% worldwide. The largest disparity between men and women is in political empow-erment. Only 25% of the 35,127 parliamentary seats worldwide are occupied by women and only 21% of the 3,343 ministerial posts. Globally, 36% of senior managers in the private sector and civil servants in the public sector are women. Labour force participation by women is also stalling. On average, only 55% of adult women are in the labour force as opposed to 78% of men, which contrib-utes to the economic participation and opportunities gap. Women could contribute more and in larger numbers –including in high tech and management roles– if current obstacles were removed.

Educational differences between men and women are lower on average, but there are still countries where investment in the talents of women falls short. Ten percent of girls and women aged 15 to 24 are illiterate, with the heaviest concentration in developing countries.

PAY INEQUALITY IS JUST ONE ASPECT OF GENDER INEQUALITY.

PROJECTING CURRENT TRENDS, THE GLOBAL GENDER GAP WILL BE CLOSED IN 100 YEARS.




There are clear roles for investors in engendering a broader social consensus - some solidarity around what a just, durable economy looks like. David Wood, AWIF 2019

Every institution should have a mechanism to measure social impact and this could start to trickle down into the portfolios. It could be regional, it could be by sector, or it

could be by asset class. Rina Kupferschmid-Rojas, AWIF 2019

Diversity is tough to manage, but it can deliver a lot of performance for your company. Carlos Ghosn, AWIF 2018

HOW TO IMPROVE GENDER BALANCE?Gender equality is about more than just pay gaps. Indicators on gender inequality include economic criteria (labour force participation and economic opportunities), educational criteria (level of education, access to education, etc.), health criteria (health and survival indicators) and political criteria (political empowerment, access to high-level offices, etc.). Socially responsible companies cannot take into account all these criteria, but they all tend to implement multiple initiatives such as:• Facilitating convergence towards a “near” 50/50 ratio of men to women

on boards of directors, management teams and in executive positions (analysis of data over 5 years);

• Ensuring that men and women have identical access to career-building opportunities (parity in executive/management training plans, etc.);

• Promoting an inclusive work culture;• Establishing flexibility in the workplace (telework, flexible hours, etc.);• Providing coaching and mentoring for women;• Setting quotas or targets (undoubtedly preferable to quotas) to balance

the ratio of men to women in management/leadership roles;• Making one of the criteria for manager “rewards” their ability to reduce

gender inequality;• Setting up proactive selection and inclusion programmes (partnerships

with universities, internship programmes, etc.).• Ensuring that women are represented in all hiring processes (parity in

final list of applicants used by managers to choose (final choice based on expertise, though);

• Encouraging companies to offer both maternity and paternity leave.

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Projecting current trends, the global gender gap will be closed in 99.5 years on average. At the current rate, it would take 54 years in Western Europe, 59 years in Latin America, 71.5 years in South Asia, 95 years in Sub-Saharan Africa, 107 years in Eastern Europe and Central Asia, 140 years in the Middle East and North Africa, 151 years in North America, and 163 years in East Asia and the Pacific. The lack of progress in closing the economic partici-pation and opportunities gap is increasing the time needed to close the overall gap. At the rate from 2006-2020, it would take another 275 years to close the economic participation gap.

PAY EQUITY RATIO: HUGE DISPARITIES BETWEEN BUSINESSES AND COUNTRIES

In many countries businesses are becoming concerned about the excessive pay of corporate executives compared to employ-ees, in part because of political and public pressure. The pay equity ratio - the ratio of CEO pay to average employee pay - is an idea that has been around a long time. Plato wrote that for the sake of social cohesion in Athens the income of the highest paid should never amount to more than five times that of the lowest paid. George Orwell advocated an ideal ratio of 10:1, while John Pierpont Morgan was in favour of 20:1 and Henry Ford 40:1. In 1970, Peter Drucker thought that it should not exceed 15:1 in SMEs and 25:1 in large corporations.

The limit has constantly been breached since 1970, rising from 10 to 100 in a few decades. Moreover, the “justice threshold” of US residents is much lower than perceived. According to Michael Norton and Bhavya Mohan, Americans feel that a ratio of 7 to 1 is ideal. Irrespective of the ideal ratio, it is clear that the gap between the pay of the CEO and the average employee has spiralled out of control.

The pay equity ratio in the US, for example, rose from 20:1 in 1965 to 270:1 in 2018. Among the corporations included in the S&P 500, nearly 80% paid their CEO more than 100 times the median salary in 2018. In the 50 companies listed on the stock exchange with the highest pay gaps in 2018, the average employee would have to work at least 1,000 years to earn what their CEO makes in one year.

The pay equity ratio varies by sector, with the consumer products sectors having the highest and the energy and utilities sector have the lowest. It also depends on the size of the corporation and where employees are located. The higher the number of employees in foreign countries, the greater the pay equity ratio. Studies also show that two-thirds of the ratio’s increase in the US over the past 40 years is due to inter-company distribution and only one-third to intra-company distribution. Furthermore, in companies with more than 10,000 employees, median compensation is going down, while the remuneration of the 10% highest paid employees increased sharply. Lastly, the compensation of the top 1% rose 137% in large corporations but only 45% in small businesses. In other words, in the US unequal

THE PAY GAP BETWEEN EXECUTIVES AND EMPLOYEES: WHAT IS THE ACCEPTABLE LIMIT?




The stock market rewards not only innovations that are widely beneficial, but also redistribution from labour to capital. Angus Deaton, AWIF 2017

EXECUTIVES PAY RATIO : MAJOR CHANGES IN EUROPE IN THE LAST DECADEThe Sapin II Act of 9 December 2016 on transparency, prevention of corruption and modernisation of the economy introduced the “say on pay” mechanism into French law (i.e. shareholders are entitled to vote on executive pay). Shareholders were required to vote twice on the pay granted to CEOs of publicly-traded com-panies: an ex-ante vote on the policy governing the pay granted to executives of publicly-traded limited liability companies (sociétés anonymes) and an ex-post vote on the compensation actually paid or granted to said executives, with a “no” on the ex-post vote liable to block payment of the variable and exceptional portion of executive pay.On 17 May 2017, the European Commission amended Directive 2007/36/EC (aka the “Shareholder Rights Directive” or SRD I) in order to adopt SRD II in a bid to promote long-term shareholder engagement. SRD I was revised with the aim of changing the practices highlighted by the financial crisis by strengthening perfor-mances, controls and transparency at publicly-traded companies. SRD II requires listed corporations to establish a pay policy describing in particular the various components of fixed and variable pay, including any bonuses or benefits of any kind whatsoever, liable to be granted to top execs. The “say on pay” principle is rooted in the directive, with ex-ante and ex-post shareholder voting, but under less restrictive conditions than those set out in French law (for example in SRD II ex-post voting is only done on a consultative basis).The purpose of the Pacte Act, published on 27 November 2019, was to align French rules further with the European directive. The French law on the transparency of CEO pay is now more restrictive than the laws adopted by other European countries. All of these changes are applicable to General Shareholders’ Meetings starting in 2020. The Pacte Act has two provisions on executive pay:1. A section on pay policy• A business must justify the selection of the criteria applied to pay by demonstrat-

ing its consistency with the company’s interests, employee pay and employment conditions and the creation of lasting value.

• It must also detail the decision-making process, in particular the board's assess-ment of the performance of the Chairman, CEO or Deputy CEO.

2. A section on ex-post pay which must include a resolution concerning the Compensation Report. It must describe:• How the pay policy is implemented and how it is consistent with the company’s

interests, employee pay and employment conditions and the creation of lasting value;• The information for each director and corporate officer;• Pay equity ratios: average salary, median salary and five-year trend.The new legislative framework only imposes a disclosure requirement. It in no way limits the amount of executive pay. However, where the salary of the directors and officers is regarded as excessive (a very high multiple) or unjustified (high pay in a company that is losing money), the company has a duty to explain. It might also see its reputation tarnished (“name and shame”).

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pay practices have increased far more in large groups than in small businesses.

After the US, pay equity ratios are highest in India and the UK. In France, the executives of CAC 40 companies earn 90 times the salary of their employees (versus 73 times in 2014 – although some of this is due to a sharp rise for the four best paid CEOs). The pay equity ratio has become more transparent in France since the Pacte Act of 2019, which requires corporations to disclose the pay gap between their executives and employees (see Box 7). Growth in the compensation of these executives has been three times faster than that of the employees. Ten years after the 2008 financial crisis, their income (fixed and variable components, shares, and benefits in kind) has set a record. Even in a country that is relatively egalitarian, this contributed to months of protests by the “Yellow Vests”, who called for a fairer distribution of wealth.

CountryPay equity ratio (calculated based

on the average salary in 2018)

United States 265

India 229

United Kingdom 201

South Africa 180

Netherlands 171

Switzerland 152

France 152

Canada 149

Spain 143

Germany 136

China 127

MYTHS THAT DIE HARD• Myth 1: Inequality means poverty. Actually, there is no causal

link between inequality and poverty.

• Myth 2: Fighting inequality reduces poverty. The fight against poverty is mostly separate from the fight against inequality. Moreover, inequality is a relative concept and poverty (mini-mum subsistence) is an absolute concept.

• Myth 3: Inequality is worse than ever. This is incorrect, includ-ing in the US. In fact, the middle class worldwide is growing, and the contribution of redistribution is often not taken into account in statistics.

• Myth 4: The rise of the middle class is the greatest achieve-ment of the past thirty years. This is correct but a word of caution: the status of the middle class in the developed coun-tries (under threat) and in the emerging and developing coun-tries (strong but fragile growth) is different.

• Myth 5: The wealthy don’t have to earn their money, they inherit it. This assertion is unsupported by fact almost everywhere.

INEQUALITY IS A RELATIVE CONCEPT, POVERTY (MINIMUM SUBSISTENCE) IS AN ABSOLUTE CONCEPT.




If you ask institutional investors what the return on their investment is, they can tell you; but asking them what the social impact is proves difficult. Rina Kupferschmid-Rojas, AWIF 2019

HOW SHOULD EXCESSIVE PAY BE CORRECTED?Several options are available:- Encourage, through legislation if necessary, smaller pay gaps between

CEOs and employees. Extreme pay gaps also jeopardise the efficiency of the company. Researchers have shown that businesses function more efficiently in the long run when they recognise and reward creative contributions from all employees.

- Eliminate taxpayer subsidies of excessive remuneration. Ordinary taxpayers should not have to bear the cost of excessive executive pay. Nonetheless they do so by virtue of the existence of preferential tax treatment of income from capital.

- Encourage reasonable limits on pay and fight short-termism. The higher the annual pay of directors and corporate officers, the greater the temptation to take unwise decisions that generate short-term benefits to the detriment of the long-term health of the company, the economy and the environment in general.

- Increase responsibility towards shareholders. On paper, boards of di-rectors that determine executive pay are accountable to the shareholders. In practice, corporate officers dominate the board rooms. Forcing boards of directors to justify to the shareholders the pay they award to senior executives makes sense.

- Expand responsibility to the largest groups of shareholders. In August 2019, the Business Roundtable stated that the purpose of a corporation was not only to serve the shareholders (their official stance since 1997) but to “generate value for all our stakeholders”. Pay practices should encourage decisions by the CEO that consider the long-term health of the planet and the interests of all the corporation’s stakeholders, including consumers and employees.

- Tax corporations based on their pay equity ratio to prevent excesses. In addition, this would give a boost to corporations that share their resources more equitably. Such tax penalties would not be dangerous in the US in the light of the Tax Cuts and Jobs Act of 2017, which reduced the corporate income tax rate from 35% to 21%. Republican leaders proclaimed that businesses would invest their profits, but instead the companies spent a record $1 trillion in share buybacks, a way to further enrich wealthy shareholders and senior corporate executives. The AFL-CIO analysed 10 of the largest companies which bought back more than a quarter-billion dollars of their own stock in 2018, showing that the salaries of their CEOs rose 46%, reaching and average of $30.8 million.

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• Myth 6: The wealthy live on income and interest from invest-ments. This is also largely unsupported. The percentage of renti-ers among the wealthiest is small.

• Myth 7: The wealthy and super-rich are the same. Confusing the wealthy with the super-rich is dangerous. The super-rich (the 0.01%) are often studied, but 53% of Americans have been counted among the wealthiest 10% in total assets sometime in their lifetimes, and 11% have been counted among the wealthiest 1% for at least one year. In fact, 70% of US wage earners are going to spend at least one year in the top 20%.

• Myth 8: Gender inequality is just about the salary. Gender ine-quality is much more significant if you look at other criteria, such as access to positions of responsibility and education, among others.

• Myth 9: The rich get richer and the poor get poorer. This is not true when you factor in crossing class lines, the possibil-ity of getting into the wealthy deciles over a lifetime, and the long-term instability of the composition of the wealthiest 1%. However, it is true that in some countries the social ladder does not work well.

• Myth 10: The inequality responsible for disrupting the politi-cal process is not excessive. This is not the point, since it is the feeling of inequality that counts more than actual inequality, as shown by yellow vests movement in France. The perception of inequality can disrupt the political process as much as actual inequality.

• Myth 11: Growth generates inequality. This can be true but depends on the type of growth and the quality of the jobs created. It can also be corrected by transfers and mitigated by “trickle-down”.

• Myth 12: Inequality stifles growth. This is true only if the share of value-added hurts wage earners, if it is not corrected through redistribution, if economic opportunities fade away, and if social determinism seems inevitable for the disadvantaged classes.

• Myth 13: Capitalism generates poverty and inequality. It is the opposite - capitalism may be the best ally in the fight against poverty. Dictatorships and communist regimes have done far worse. However, capitalism must be “tamed”.

• Myth 14: Inequality is unjust, equality is just. Actually, countries that promote equality (egalitarianism or socialism) such as the former communist bloc, Venezuela, Cuba, and North Korea, are usually at the bottom of global rankings in most positive “just” criteria such as income, consumption, health, and political participation.

IF CAPITALISM CAN BE TAMED, IT MAY BE THE BEST ALLY IN THE FIGHT AGAINST POVERTY.




It is not inequality that is driving populism, but unfairness, or perceived unfairness. If people believe that they are doing badly because someone else is doing well, then inequality poses a danger to political and economic stability. This is currently the problem in the United States between working people and the educated, professional elite. Angus Deaton, AWIF 2017

Most Americans don’t realize how dangerous the tax cut is. Together with expenditure increases it raises the

deficit-GDP ratio by about 3%, in an economy already at full employment. If the US were a developing country the

IMF would come down like a hammer and not just say ‘you’re irresponsible’. Joseph Stigl itz, AWIF 2018

Countries of the world should plan to raise the tax rate on high incomes in the future if inequality becomes much greater. Francois Hollande’s idea for a 75% tax rate on high incomes was a good idea, but it was too soon and too shocking. It should have been introduced gradually. It might come in the next 10 to 30 years if inequality worsens. If he had done that, it would have been much more constructive, in my opinion. Robert Shi l ler, AWIF 2015

A danger of high taxation is its effect on the kind of innovation that has made much of the world prosperous. Angus Deaton, AWIF 2017

How do investors engage on questions of fair taxation in a way that takes all of society into account, and not

just investor interest into account? David Wood, AWIF 2019

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THE DEBATE ON INEQUALITY MUST FOCUS NOT ONLY ON REDISTRIBUTION, BUT ALSO ON UNEQUAL OPPORTUNITY, PARTICULARLY IN THE EDUCATION SYSTEM, AND ON IMPROVING SOCIAL MOBILITY.

CONCLUSIONThere are different definitions of inequality and therefore different ways to address the issue. Milanovic (2005) distin-guishes between three concepts of global inequality. First, unweighted international inequality is the inequality in per capita income among countries. Second, population-weighted international inequality measures inequality among people by assigning everybody the per capita income of his place of residence, ignoring within-country inequality. Third, global interpersonal inequality captures the inequality of individual incomes. Anand and Segal (2008) add the concept of zero ine-quality, which is aggregate inequality of income (rather than per capita) among countries.

In the last 20 years, many studies have nevertheless concluded that the winners of globalisation are the world’s top 1%, as well as the lower and middle classes in emerging markets, espe-cially in Asia. The losers have been the middle class of the rich countries. This has major political consequences because this class historically has been at the foundation of western liberal democracies. This pillar is disintegrating, leading to more frag-mented societies and in some cases, electoral subversions.

However, the issue of inequality is so complex that empiri-cal studies have not identified clear links between inequality, employment, and growth. Inequality may result from the high salaries awarded to successful innovators or the emergence of companies that offer higher pay to its top workers. This type of growth in inequality goes hand in hand with economic growth and a buoyant labour market, which are positive. However, if it leads to a reduction in the income of the middle class, it can reduce consumption and therefore investment and growth.

Some events, such as COVID-19, can also highlight other forms of inequality. For example, poorer people were more affected by the pandemic than the rich, less developed countries more than advanced economies, the old and women more than the young and men, and big cities more than the countryside.

In reality, the problems are not so much income or wealth inequality, but rising poverty, threats to the middle class, low social mobility, and the political instability stemming from the heightened perception of inequality. Therefore, the debate on inequality must focus not only on redistribution, but also on equalizing opportunity, particularly in education, and improv-ing social mobility.

Companies have also to do their part, and address the pay equity ratio (see Box 5 and 8) and the gender gap balance (see Box 6).

THE WINNERS OF GLOBALISATION ARE THE WORLD’S TOP 1%, AS WELL AS THE LOWER AND MIDDLE CLASSES IN EMERGING MARKETS, ESPECIALLY IN ASIA. THE LOSERS HAVE BEEN THE MIDDLE CLASS OF THE RICH COUNTRIES. HERE LIES A REAL PROBLEM: THIS CLASS HISTORICALLY HAS BEEN AT THE FOUNDATION OF WESTERN LIBERAL DEMOCRACIES.




Inequality is not the same as unfairness. Everybody hates unfairness, but some aspects of inequality are accepted. Getting rich through a beneficial innovation is not unfair; getting rich by bribing government officials is. Angus Deaton, AWIF 2017

Inequality is a way to see whether finance in the economy is working for real people, or

whether we are in a speculative market that does not have long- term value.

David Wood, AWIF 2019

I don’t think we have all the solutions yet but using a more innovative approach today is going to pay off in five to ten years. Rina Kupferschmid-Rojas, AWIF 2019

His party and the business community should have bridled at Trump’s misogyny, his racism, his ignorance, his protectionism. But instead, they have been licking their lips at the benefits they get from the tax cut and the hope for deregulation. Joseph Stigl itz, AWIF 2018

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CONCLUSION

An idea without execution is but a dream.

LUC DE ROUVROY, DUC DE SAINT-SIMON (1675 - 1755), in "Mémoires"

The past decade saw great upheavals. After the Great Financial Crisis of 2008, we faced a debt crisis in Europe from 2011-2012. We saw monetary policies move into uncharted territories, and rising fears of deflation and secular stagnation, with the “disappearance” of inflation and the persistence of low interest rates throughout the yield curve. We faced a renewed struggle for world leadership and had to deal with growing protectionism, rising inequalities, accelerating climate change, and the digital revolution, while incorporating tougher ESG criteria into our investment decisions. All of this had a major impact on asset management and on business models. More than ever, knowing how to adapt(1) has been one of the keys to success over the past decade. And all the more so, one can consider that the last decade actually marks the end of traditional asset management.

ASSET MANAGEMENT: The Challenges of Continuous Adaptation

(1) Adaptation to this new context has led the research and management teams to work closely together, more than in the past, to offer analysis as well as adapted tools and products. An appendix to this concluding chapter, entitled "to find out more" highlights the main research work carried out during the decade. Most of this research is available on our Amundi Research Center website.


Asset management has grown over the last 20 years and its business model has changed dramatically over the past 10. Macro liquidity by central banks grew, while micro liquidity in certain financial markets fell. The search for yield in an environment where risk-free assets have almost disappeared has made investors change their investment strategies substantially. ESG, factor investing, behavioural economics and finance are amongst the major new trends.

Asset management (AM) today is very different from what it was 20 years ago for several reasons: • Surplus savings have grown in certain parts of the world, especially Asia

and Europe;• Liquidity has become abundant, boosted by falling interest rates since the

mid-1980s and Quantitative Easing;• Pension funds have greatly expanded, providing more funds to manage;• New market participants have appeared, or grown in significance, such as

Sovereign Wealth Funds, that are different from historical market participants;• Banking regulation has driven the market towards disintermediation.

Liquidity, which was previously offered by banks, is now in the markets, and insurers and asset managers have become the intermediaries.

These factors have spurred the creation of numerous new asset management companies and created new industry giants. A few years ago, the Bank of England even postulated that “We may be about to enter the Age of Asset Management”.

Never has asset management been so innovative and creative. This is fortunate since it must deal not only with unexpected disruptions, but also with several ongoing challenges. These are transforming it from traditional AM to modern AM.

FACE THE FIERCE COMPETITION

The huge expansion of AM has been accompanied by fierce competition between players that are ever bigger. The key question is how to maintain profitability and competitiveness. This has three major consequences:

Reduced margins and management fees. Competition has pushed AM companies to do more to control costs, revise their business models, and reduce the number of funds carried. It has also pushed prices, and therefore margins, to very low levels - so much so that the ongoing concentration begets more concentration. The decline in interest rates is responsible for a portion of the decline in margins, and the competition between the major players has fed the profitability gap between the institutional and retail investors segments and the increasing uniformity of margins. This trend is far from over.

Regulation. In terms of AM companies, regulation has essentially been aimed at protecting consumers and investors. This is the traditional angle of asset management regulation. MIFID is the best example.

A MAJOR ISSUE IS TO QUICKLY IDENTIFY WHAT IS TRULY DISRUPTIVE AND WHAT IS LONG LASTING, AND TO FIND THE MOST APPROPRIATE TECHNOLOGICAL SOLUTION.

WE MAY BE ABOUT TO ENTER THE AGE OF ASSET MANAGEMENT.


ASSET MANAGEMENT: THE CHALLENGES OF CONTINUOUS ADAPTATION


People act on fear and greed. After a fall in their portfolio they get afraid, while after a rise they feel they

have missed out on something and want to participate. Roger Ibbotson, AWIF 2019

The big difficulty is to make sure that we understand the market cycle and our own cycles as a corporation, in order to somehow surf the waves on top of our strategic asset allocation. Elisabeth Bourqui, AWIF 2017

Loss aversion definitely leads to less wealth accumulation than risk appetite or capacity

to take risk would suggest. Alison Tardit i , AWIF 2019

People, it turns out, are not that averse to risk. For many reasons, they are not opposed to risk, but they are opposed to losing and the possibility of loss plays a very significant part in their decision. Daniel Kahneman, AWIF 2016

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The search for innovation and differentiation. A major issue is to quickly identify what is truly disruptive and what is long lasting, and to find the most appropriate technological solution. For this, innovation, flexibility, and collective intelligence are crucial.

ADAPT ASSET ALLOCATION TO THE LOW INTEREST RATE ENVIRONMENT

The ultra-low (and lasting) interest rate environment has had an impact on asset allocation and diversification. There are several possible solutions to assure returns for portfolios:

• Extending the duration of portfolios;• Accepting greater credit risk (more credit papers, lower ratings,

etc.);• Accepting greater leverage (yield curves plays, long/short,

overlays, etc.);• Searching for neglected or undervalued assets;• Finding assets with higher yields and lower volatility (ABS,

infrastructure, private debt, etc.);• Adding a change component to portfolios;• Capturing liquidity premiums;• Revising the benchmarks followed (“SMART Beta” approaches);• Integrating megatrend plays (secular growth, outside of bench-

marks, etc.);• Applying factorial approaches (“factor investing”, including ESG);• Investing more systematically and broadly in real assets;• Investing in big data and SMART data;• Accepting more absolute return strategies;

In addition, we have had to fundamentally re-evaluate asset allocation. This has involved:

• Reviewing the concept of risk-free assets;• Reviewing the construction of portfolios, especially the role and

weight of government bonds;• Reviewing the concept of portfolio diversification, specifically

the correlation between traditional assets;• Looking for new performance strategies;• Reviewing the range of funds carried, especially monetary funds;• Reviewing the structure of management fees;• Adapting to declining margins, first on the institutional side

first and then on the retail side;• Optimising the quality of execution of trades;• Focusing on consulting activities and the sale of services for

diversification;• Reviewing the expectations of returns;• Educating clients, risk departments, and boards, among others;

In short, no aspect of the asset management company business model has been spared. Regarding life insurers, the situation has even become more worrying. The vulnerability of the sector increases when the duration gap between assets and liabilities is high and when a large part of contracts, which fall under liabilities, have been negotiated with guaranteed, fixed rates. According to Moody’s, Germany, Norway, and Taiwan, where returns are close to or below guaranteed rates and the duration

TO ASSURE RETURNS FOR THE PORTFOLIOS, WE NEED NEW STRATEGIES AND DIFFERENT PORTFOLIO CONSTRUCTION.




If interest rates stay low and stable, most asset allocations are still sub-optimal, remaining biased

toward government bonds, which cover just a limited amount of risk. This may be less prudent

than an allocation including more risky assets, given the shift in the relative efficiency frontiers

between governmental bonds and the rest. Pascal Blanqué, AWIF 2017

Humans are bad at many things, but they are very good at doing nothing. Richard Thaler, AWIF 2019

Most of us have both inertia and a tendency to act impulsively at the same time: we can’t make a decision,

but when we do, we make it impulsively. Roger Ibbotson, AWIF 2019

We have seen the disappearance of the risk premium; the only risk premium that remains is the risk premium on liquidity, so illiquid assets have pretty interesting qualities. Bernard Descreux, AWIF 2017

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gap is large, are at high risk. There is also high risk in Switzerland, Sweden, South Korea, Japan, and the Netherlands, where returns are close to or below guaranteed rates, but the duration gap is small. Meanwhile, the risk for profitability is moderate in France, Italy, Canada, China, the US, and Hong Kong, thanks to moderate duration gaps and low guaranteed rates, and is low in South Africa and Spain due to low guaranteed rates. Finally, because of few guaranteed products and low guarantees, life insurers in Brazil, Mexico, Ireland, UK, and Australia face few risks.

BYPASS POROSITY BETWEEN TRADITIONAL ASSET CLASSES

The ultra-low interest rate environment has also had an impact on asset class correlation. The past years, especially 2017 to mid-2020, were atypical. Only 6% of listed asset classes (FX, sovereign bonds, corporate bonds in Dollars) delivered negative returns in 2017 versus 95% in 2018 (the highest in 40 years), 2% in 2019 (a record-low), and 86% as of May 2020 (the worst apart from 2018). In other words, traditional asset class boundaries have blurred.

The correlation of traditional asset classes poses additional questions:

• Favour concentration or diversification? Diversification - bonds versus equities - is less rewarding, but concentration implies different investment processes, risk management, and skills.

• Favour alpha or beta processes? In the evolving market, dispersion is more important than diversification and it is important to manage bond and stock picking properly, particularly in tough times such as 2018 and 2020.

• Macro-hedge or de-risk? In the ultra-low yield environment large amounts of bonds are required to macro-hedge risky assets. In addition, since bonds and equities move in tandem, one risks losing both on investment and on macro-hedging. Therefore, de-risking might be more appropriate during some periods.

• Use traditional asset classes or real and alternative assets? It may be appropriate to use a mix of positioning during the business and inflation cycles, using alternative and real assets, as well as looking at maximum drawdown metrics.

• Apply new investment processes such as SMART beta and factor investing? It may be time for a different way to invest and different investment processes.

TAKE ADVANTAGE OF MEGATRENDS AND SURVIVE DISRUPTIONS

Megatrends (demographics, climate change, technological revolutions, innovations, ESG/ethical investing) offer investment opportunities but also pose challenges and risks that require adaptation. The digital revolution is the best example. The key question is how to invest in and make money from the megatrends and disruptions by adapting product offerings and business models in line with the changing environment and technological transformations.

NO ASPECT OF THE BUSINESS MODEL OF ASSET MANAGEMENT COMPANIES HAS BEEN SPARED RE-EVALUATION.

TRADITIONAL ASSET CLASS BOUNDARIES HAVE BLURRED.

CONCENTRATION VERSUS DIVERSIFICA-TION, ALPHA VERSUS BETA PROCESSES, ALTERNATIVE ASSETS, WHAT TO CHOOSE?




You are being paid very little for a whole range of illiquidity risks. You really have to look for niche areas, where the vast bulk of money hasn’t gone in and liquidity premiums are still available. Jeffrey Jaensubhaki j , AWIF 2017

Better returns come with lower liquidity. Real assets are more difficult to source and structure and have

associated costs and longer due diligence. However, they have more security, with covenants for private debt,

or a physical building for real estate. Vincent Mortier, AWIF 2017

As an asset manager, our ultimate objective is to be alongside investors as a partner, in co- evolution mode, to adapt to the coming new environment. Laurent Bertiau, AWIF 2017

THEY SAID IT !



The digital revolution has spawned several transformations: Wat-sonisation - the development of cognitive computing; Amazoni-sation - the power of platforms; Googlisation - the availability of a greater volume of data; Uberisation - hatching new business models; and Twitterisation - doing business in an increasingly con-nected and collaborative world.

Taking advantage of these trends does not fit in with a traditional investment approach, which favours benchmarks and is based on well-defined liquidity, regions, and sectors. Instead, we should consider a thematic investment approach, which is quite different from traditional investment.

Thematic investment:• Does not involve any ex-ante view of benchmarks;• Focuses on future winners using different methods, with no

more benchmark constraints, especially for market caps, and no more predefined regional or sectoral constraints (while still permitting sectoral and regional diversification);

• Offers some decorrelation with traditional betas and investment factors;

• Favours real long-term investments in a world dominated by the short term. (The average holding period for a stock has gone from 48 months in the 1950s, to eight months in 2000, to 22 seconds in 2010);

• Cushions investors from secular stagnation themes (the old winners), traditional betas, and low rates through greater exposure to secular growth (the future winners);

• Reduces the exposure to purely cyclical factors, moving away from the traditional investment used in weak growth environments;

• Facilitates diversification;• Helps find more favourable risk/return ratios and investments

that reward risk;

The current and future themes used for thematic investment are mostly related to innovative processes. These are found in both large and small companies to varying degrees, with a trade-off between large caps and SMID caps. For example, an innovative biomedical process or theme will most likely be present in a large pharma company, along with others that are less innovative or promising. On the other hand, for a SMID cap firm, it will probably be the sole process or activity, and therefore the undiluted focus of an investment. If the process is expected to be a success, it is worth investing in a SMID cap firm (fully dedicated to the innovation) than in large cap, where the innovation represents a small part of the activity.

PLAY AN ACTIVE ROLE IN THE ESG TREND

The use of ESG (environmental, social and governance) criteria has grown in importance in the investment sector over the past decade. Corporations are increasingly willing to embrace Corporate Social Responsibility (CSR) to show that a business is not just about making money. Companies are becoming aware

THEMATIC INVESTING IS DIFFERENT FROM TRADITIONAL INVESTMENT.




For stable and predictable returns, private debt works well, while for higher returns and a link to the global economy, private equity is the

solution. Real estate represents a combination of the two.

The long-term investor must be clear about liquidity, and remember that in case of stress, liquidity that you think exists can vanish, so it is very important to ask yourself which portion of the asset should be liquid on a given time horizon. You must also be clear about over-crowded trades, for which investors just forget the risks, which is wrong. Vincent Mortier, AWIF 2017

Recent research found that 71% of millennials basically said that they would rather go to the dentist than go talk to their financial advisor. Roel Huisman, AWIF 2017

THEY SAID IT !



of the importance of extra-financial criteria and ESG is no longer just a marketing argument.

Europe has long been ahead (for example, ESG has been part of Amundi’s DNA since the early days), but no region has escaped the phenomenon. According to a 2020 study by Fidelity, only 7% of analysts worldwide believe that ESG issues are not among the priorities of companies, compared to 58% in 2017. 100% of the more than 150 analysts surveyed believe that the majority of European or Japanese companies they follow now pay more attention to ESG issues than before. This figure is also increasing in the United States (91% versus 25% in 2017) and in China (80% versus 33% in 2018).

The rise of ESG issues among the priorities of companies represents a first step. This must be followed by measurement and transparency before tackling a third stage - the mitigation of the negative impacts identified. It is a long road, and improvement does not come overnight. We must wait some time for these developments to bear fruit. According to McKinsey (2019), ESG links to cash flow in five important ways:

1. Facilitating top-line growth by attracting customers with more sustainable products and achieving easier access to resources through improved community and government relations;

2. Reducing costs via lower energy consumption, recycling or other measures;

3. Minimising regulatory and legal interventions to gain strategic freedom through deregulation, or to earn subsidies and government support;

4. Increasing employee productivity by boosting motivation and attracting talent through greater social credibility. Edmans (2012) found that the companies that made Fortune’s list of the “100 Best Companies to Work For” generated 2.3-3.8 % higher stock returns per year than their peers over a greater than 25-year horizon;

5. Optimising investment and capital expenditures for the long term by avoiding investments that may not pay off because of ESG issues.

Each of these five objectives should be part of an executive’s checklist when approaching ESG opportunities.

The themes of inequality, corporate governance, gender parity, food quality, pollution, and climate change, among others, are all factors that should be part of asset managers’ investment decisions. This is becoming the case, as shown by the impressive rise of ESG-oriented investing, which now tops $30 trillion - up 68% since 2014 and tenfold since 2004. “The magnitude of investment flow suggests that ESG is much more than a fad or a feel-good exercise” (McKinsey (2019).

EUROPE HAS LONG BEEN AHEAD, BUT NO REGION HAS ESCAPED THE ESG PHENOMENON.

THE MAGNITUDE OF INVESTMENT FLOW SUGGESTS THAT ESG IS MUCH MORE THAN A FAD OR A FEEL-GOOD EXERCISE.




As asset managers, we have to not only provide ESG strategies which maintain risk return profiles but provide strategies which in the long-term enhance the risk-return profile. Valerie Baudson, AWIF 2018

When you want to avoid risks that are not rewarded, you go for low volatility, mean variance, risk variety,

and maximum diversification. Pascal Blanqué, AWIF 2017

Harvesting risk premiums for long-term investors is not only about incorporating new asset classes, but about identifying new disruptive opportunities in existing asset classes. Laurent Bertiau, AWIF 2017

THEY SAID IT !



While the subject of ESG is not entirely new, the context has changed considerably:

• The ESG market is no longer a supply market, as it could have been twenty years ago, but a demand market. It is no longer a question of offering ESG products and explaining their interest or value but of responding to growing demand.

• New generations are more sensitive to the subject than were preceding generations. Not offering ESG products is becoming a kind of professional suicide;

• With a few years of hindsight and more precise data it is now easier to show that the ESG approach brings value to portfolios. It is no longer just a “good deed”; it is also a financially rewarding decision.

• Recent work - notably of Amundi’s research team - shows that ESG can even be assimilated into a factor.

Therefore, ESG has a bright future and is increasingly becoming mainstream. But like factor investing, it suffers from a lack of standardization in data, tools, methodologies, and results. This can partly be explained by the fact that the ESG is based on impacts, but also on values, whether cultural, political, or religious, which are different between different types of populations.

There are other difficulties to overcome, such as:• Confusing ESG scores: The “aggregate confusion”, as it

is called by academics, concerns the aggregation of ESG criteria. A company can be highly rated on E and badly rated on S (Tesla is a good example), making scores uneven. As the chairman of the US Securities and Exchange Commission recently said: “Any analysis combining separate environmental, social, and governance metrics into a single ESG rating would be imprecise”.

• Poor data quality: Data from the companies themselves may be skewed or false but there are few alternatives. Moreover, there are no standardised data categories.

• Proprietary ESG monitoring is expensive: Collecting and analysing data, implementing methodologies and rating systems, adopting voting policies covering all portfolios, and ensuring regular reporting, represent costs that only large asset managers can cover.

• Multiple approaches: There are many different approaches, including best-in class and the exclusion of corporates or sectors. Are global approaches or tailor-made approaches better, and for which clients? And what is the best way to encourage the generalisation of ESG criteria in a portfolio?

• Labels can be misleading: Morningstar recently mentioned that: “Funds labelled as ESG could disappoint investors, not because of investment returns but because they fall short on demonstrating their social and environmental impact”.

• Inadequate products: There is still too much greenwashing and too many ESG products that fall short of expectations, which could alter the momentum on sustainable investing.

ESG INVESTORS ARE INCREASINGLY CHALLENGING COMPANIES TO IMPROVE.




Ten years ago, ESG was considered a cost and now it is considered a value creator. Properly integrating this into

the investment process is a way to capture opportunity in the long term and manage risk properly.

Magnus Bi l l ing, AWIF 2018

On the retail side, while seven out of ten clients say they want responsible retail investments, they are still skeptical because the industry has not agreed on the definition of what constitutes responsible investment.

If you really want to make an impact, investors must join together to tell companies what they need to do to be investable in the long term. It’s a win-win-win situation: we create better companies and we create value growth for our own investors, and we actually create a better world. Liza Jonson, AWIF 2018

THE PRI PRINCIPLESThe UN Principles for Responsible Investment is an organization dedicated to promoting environmental and social responsibility among the world’s inves-tors. It considers that environmental and social considerations are relevant factors in investment decision-making and should therefore be considered by responsible investors. It relies on voluntary disclosures by participating members, called signatories. Launched in April 2006 with support from the United Nations, the PRI has over 2,300 participating financial institutions (over $80 trillion in assets worldwide), as of January 2020. The PRI put forward six core principles - developed by investors, for investors - that offer a menu of possible actions for incorporating ESG issues into investment practice.• Principle 1: Incorporate ESG issues into investment analysis and deci-

sion-making processes.• Principle 2: Be active owners and incorporate ESG issues into our own-

ership policies and practices.• Principle 3: Seek appropriate disclosure on ESG issues by the entities in

which we invest.• Principle 4: Promote acceptance and implementation of the Principles

within the investment industry.• Principle 5: Work together to enhance our effectiveness in implementing

the Principles. Principle 6: Report on our activities and progress towards implementing the Principles.In implementing these principles, signatories consider they contribute to developing a more sustainable global financial system.

THEY SAID IT !


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Despite these difficulties, ESG investors are increasingly challenging companies to improve through very broad initiatives, such as the UN-backed Principles for Responsible Investment (PRI), which has been adopted by more than 2,300 investors worldwide (see Box 1). Under the PRI they accept incorporating ESG issues into investment analysis and decision-making, to be active owners and incorporate ESG issues into their policies and practices, and to seek appropriate disclosure on ESG issues by the entities in which they invest. There are also other, more targeted, efforts, such as the Workforce Disclosure Initiative which aims to encourage companies to communicate better about the way they manage their staff and their supply chains.

UNDERSTAND BEHAVIOURAL CHANGES

Like any business, successful asset management companies are those that understand and anticipate behaviour and behavioural changes. The past decades have provided a comprehensive field of observation, leading to the emergence of Behavioural Economics and Behavioural Finance, which are useful analytical tools.

Most economists used to believe that the individual makes rational decisions, driven by self-interest and not influenced by emotions. This is not true - rationality and self-interest are not enough to explain behaviour. It is therefore necessary to consider observed human behaviour. This is the big difference between traditional finance and behavioural finance. Behavioural researchers use psychological research to understand financial decision-making.

The contributions of Gary Becker (Nobel Prize 1992) on human capital theory and altruism, of Daniel Kahneman (Nobel Prize 2002) on behavioural economics, or of Richard Thaler (Nobel Prize 2017) on nudge theory, among others, are crucial. According to these authors, the homo-economicus described in economic textbooks is a myth. “Homo sapiens has neither Einstein’s brain, nor IBM’s Big Blue memory, nor the will of Mahatma Gandhi.”(Thaler - Sustein). Two ways of thinking coexist in us. The first is intuitive and automatic; the second is thoughtful and rational. Economic models are based on the second way of thinking, an idealistic modelling of man and the only way to make calculations and forecasts.

The political consequences of embracing behavioural economics are important. The acceptance of the irrationality of agents chal-lenges the central idea that markets function efficiently because of the rationality of individual behaviour. And if you accept irra-tionality, “you have to start protecting people” (Kahneman) through regulation or other ways to encourage more rational behaviour. This begat the doctrine of “libertarian paternalism” of Thaler and Sustein, which advocates using “nudges”, simple aids to facilitate difficult and uncommon decisions, to guide behaviour.

HOMO SAPIENS HAS NEITHER EINSTEIN’S BRAIN, NOR IBM’S BIG BLUE MEMORY, NOR THE WILL OF MAHATMA GANDHI.




We need support from the regulatory side and data points from the issuer side, but I think responsible investing is clearly driven by the customer side - they demand it, they want it, and it is part of our fiduciary duty to deliver it. Magnus Bi l l ing, AWIF 2018

Financial advisers are not created equal. There is a lot of art: a financial planner is half- finance and half- psychiatry.

A bias all investment managers have is that they think they are superior because they are smarter than everybody else. We know that can’t be true for everyone. Richard Thaler, AWIF 2019

THEY SAID IT !



This behaviourist approach is sometimes called the third way. It questions the Chicago school’s libertarian free trade doctrine, but places more trust in the free market than the Keynesians, because even if there are dysfunctions, a little boost (a nudge) may be enough.

Another tenet of behavioural economics or finance is that, while our behaviours are not rational, they are governed by constants and cognitive biases (a concept introduced by Kahneman and Tversky in the 1970s). There are many different ones:

1. Traditional financial theory focuses on the trade-off between risk and return, while behavioural finance shows that investors are overly confident about making gains (overestimating their skills and neglecting other factors) and too sensitive about losses. Studies show the existence of an “illusion of control” and that investors who are overly confident trade too much and have a “confidence bias”. In fact, the most active traders get the lowest returns (Barber – Odean, 1999). Excessive trust is fuelled by a “self-attribution bias” or a “self-fulfillment bias” wherein positive results are considered to reflect on one’s skills, while failures are attributed to bad luck or others. This bias impedes progress and improvement for future decisions.

2. We also tend to overestimate unlikely risks simply because they are present in our minds. This is the “availability bias”, through which recently observed or experienced events strongly influence decisions. For example, investors are more afraid of a crisis or crash when they have happened in the recent past, which is a mistake.

3. Another bias is that, since we do not know how to represent random sequences, we tend to find patterns that we consider logical.

4. Our judgments are affected by the fear of loss (loss aversion) and by the tendency to favour the status quo, which leads to inertia. This “status quo bias” is the tendency to prefer to leave things as they are, for fear that changes could bring more risks and harm than benefits. This is amplified by the “negativity bias”, the tendency to remember and give more weight to negative experiences than positive ones. Studies show that losses weigh twice as much as potential gains. By being more sensitive to losses than to risks and returns investors behave asymmetrically. They are risk averse when they expect a profit by selling assets, and more risk-tolerant when they are faced with a loss (holding on to an asset in the hope of a future price rise). This is what Shefrin and Statman call the “disposition effect”, selling winners and retaining losers, which hurts returns.

5. Another behavioural tendency is to focus too much on individual stocks rather than the overall portfolio, which increases the sensitivity to losses. Studies show that when assessing investments and performance at the aggregate level investors tend to accept short-term losses more easily.

6. The “representativeness bias” also influences investments. Some decisions are not made based on a detailed reality assessment but more on the assumption that the recent

BEHAVIOURAL ECONOMICS AND FINANCE: THE THIRD WAY.

INVESTORS ARE TOO CONFIDENT ABOUT MAKING GAINS AND TOO SENSITIVE ABOUT LOSSES.

WE ALSO TEND TO FOCUS TOO MUCH ON INDIVIDUAL STOCKS RATHER THAN THE OVER-ALL PORTFOLIO, WHICH INCREASES THE SENSI- TIVITY TO LOSSES.




You can’t count on regulation and the organizational set-up to send everybody in the right direction.” Financial advisors may not be free of bias, but they have been trained to recognize it and know the problems. Once you understand the biases, it is easier to be rational yourself. You are in the business of trying to be more rational and trying to overcome them. Roger Ibbotson, AWIF 2019

The pernicious effect of hindsight is that we get the sense, after the fact, that an event was predictable,

so we get the sense that the world is predictable. Daniel Kahneman, AWIF 2016

Everybody thinks that biases describe what other people do, but that they have the same biases as everyone else. Richard Thaler, AWIF 2019

THEY SAID IT !



performance of an investment is an indication of its future performance. For example, we may assume that the equities of a well-managed company are attractive, without wondering if the price already reflects this or if future returns may come from other characteristics, such as the level of activity, sectoral growth, or long-term strategy. Another classic example of representativeness bias is to assume that the recent performance of an investment (an equity, a bond, a fund, etc.) is an indication of its future performance.

7. In addition, investors often cling to initial judgments despite new contradictory information and not adjust their positions accordingly. This is known as the “conservatism bias”.

8. Behavioural finance research further suggests that investors find it difficult to implement diversification. They prefer to invest in familiar assets since they are known and presumed to be less risky. This “domestic bias” is quite common and it is not illogical since familiarity fosters in-depth knowledge. However, it prevents diversification (and profits) into unfa-miliar or international markets. It can lead to holding extreme portfolio allocations that are composed entirely of equities, are focused only on real estate, or feature only ultra-con-servative assets.

9. Investors also tend to filter the information they receive. “Confirmation bias” is the common tendency to seek out and consider only information that confirms beliefs and to ignore or discredit those that contradict them.

10. Similarly, we are very conformist, maintaining our habits even when new needs arise. Known as “conformism bias”, it is the tendency to think and act like others do.

11. Individual decisions can have many biases, while group decisions can reduce these biases or generate others. The “false consensus bias” is the tendency to believe that others agree with us more than they do. This is most evident in closed groups, made up of people who do not interact with other groups or people. For example, political or religious groups may feel they have more support than they actually do.

12. Bias analysis provides lessons for effective decision-making in committees, which should be sufficiently diverse in experience and perspective. Committee members should be encouraged to give their own opinion rather than align with the opinions expressed by others or dominant people such as their boss.

All in all, the behavioural biases presented above are deeply rooted in everyday human decision-making. They can be harmful in the context of investment decisions, especially in the long term. It is impossible to eliminate these biases, or not to take them into account, but it is possible to better understand them and to assess their effects, and thus avoid major pitfalls and mitigate their impact. This can be done by setting up automatic management systems (profit and loss management, etc.), incentive measures (nudges), global approaches (evaluation of investment, etc.), or hiring advisors to ensure a balance between the risk and the return of portfolios. There is no doubt

DOMESTIC BIAS OR EXTREME PORTFOLIO ALLOCATIONS ARE QUITE COMMON.

BIAS ANALYSIS PROVIDES LESSONS FOR EFFECTIVE DECISION-MAKING IN COMMITTEES.




DANIEL KAHNEMAN ON BEHAVIOURAL ECONOMICS AND FINANCE“The main difference between economics and behavioural economics and between finance and behavioural finance is the assumptions that underlie the theories. There are two main assumptions: one is that people are rational and the other is that people are selfish. Psychologically, both assumptions make very little sense, which is really the origin of behavioural finance and behavioural economics.”

“What determines the individual’s behaviour is the belief that one stock will outperform the other. Now with modern technology we can easily analyse the outcomes of this single-day transaction a year later, and the results are quite astonishing. On average, the stock that a person sold did better than the stock they bought, but it’s not only that it did better — it did better by a large amount. The average is 3.4 percent. These results have been replicated many times over.”

“Individual investors tend to churn their accounts, they tend to trade too much, and that they trade too much seems to be due over-confidence. They believe they know something that they do not know, and this is one essential characteristic of human beings, which makes them different from rational beings.”

“Research shows that as individual investors, women do better than men. The reason is quite simple. It is not that they have fewer costly ideas. Indeed, they may have as many ideas, but they act on these ideas less. They trade less, and by trading less, they achieve significantly better results than many investors.”

“Psychological research is fairly unequivocal on the matter. Confidence is not a very good indicator of accuracy. You can have confidence in opinions that are not accurate at all. Confidence is primarily a feeling, and it is the feeling of coherence of the story that you are telling yourself. If the story that you are telling yourself makes sense, and makes subjective sense, then you feel confident. It has very little to do with the quality of the information on which the story is based.”

“Expertise and true confidence – valid confidence – are really quite dif-ferent. Expertise is something we know — we know the conditions under which expertise develops. Expertise has two conditions and they are quite clear. First, you cannot develop expertise unless the environment is reg-ular and there are consistencies to be internalised. The second condition is a vast amount of practice with immediate feedback. You have to know the consequences of the action; the feedback has to be clear, rapid and unequivocal. So, can you develop expertise in picking stocks? This is very doubtful. In fact, it is probably not the case, because it is such a highly irregular environment.”

Daniel Kahneman, AWIF 2016

THEY SAID IT !


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that behavioural finance will continue to gain in importance and maybe become part of the mainstream.

ANTICIPATE AND ADAPT TO POTENTIAL REGULATORY CHANGES

After focusing on banks, regulators are now looking at other financial players, which are collectively referred to as “shadow banking” and suspected of harbouring the seeds of the next crisis. Asset management is in their sights, with regulations progressively tightening. These regulations involve just about every activity: funds, savings, ETFs, documentation, research, governance, insurance, securities sales, pension funds, disclosure, tax on trades, and invoicing. Their traditional role has been to protect investors. However, if asset management companies or their funds are considered to have systemic risk, then they will be confronted with ever stricter regulations aimed at that risk.

Meeting regulatory constraints is a prerequisite for doing business but requires money, skills, and a growing workforce; in other words, important investments. As we progress toward hyper-efficient data management not all asset management companies can cope without major investments in new resources, which is why they baulk at the tightening regulations.

So, are asset management companies or their funds systemic? The next wave of regulations depends on this. The answer is the same as for the banks, where the weight of certain players in terms of public debt, the equity market, or even bank debt, makes them systemic institutions. This explains why the financial sector inevitably attracts attention. Looking at asset management under this light is useful considering its importance and its potential role in contagion during crises.

Four trends indicate that asset management companies may be becoming systemic:

1st criterion: The size of the assets at stake. Assets under management worldwide are close to $90 trillion, which is one year of global GDP or three-quarters of the world’s banking assets. They could grow to $400 trillion by 2050 (Bank of England, 2014).2nd criterion: The increasing concentration of asset manage-ment activity, with very big players: The share of the world’s top ten asset management companies now exceeds 25% of the total assets under management (versus 20% of assets for the top ten banks). The biggest asset manager is about 30% bigger than the biggest bank.3rd criterion: Falling liquidity. Funds have fewer liquid assets due to investments in emerging markets, high yield bonds, and real assets, but increasing liquid liabilities, with final investors that are more volatile. Moreover, they carry more risk, in place of intermediaries. In other words, like banks, funds are transforming liquidity. 4th criterion: Activity is becoming more pro-cyclical: Since the different players have similar risk and stress constraints, there

ARE ASSET MANAGEMENT COMPANIES OR THEIR FUNDS GRADUALLY BECOMING MORE SYSTEMIC?




Factor investing allows investors to pick the factors they want to have exposure to. It also helps them think beyond

the classical distinction between liquids and illiquids.

We have got, on the one hand, small beta leading the charge on cap-weighted indexing and, on the other hand, factor investing leading the charge against traditional definitions of alpha. This translates into portfolios with a three-bucket approach: an alpha component based on idiosyncratic alpha and a demanding selection of external fund managers; a big packet of factor exposure, static or dynamic, defining the rewarded factors you want to be exposed to; and cap-weighted replication, ETFs, indexing and the like, to get exposure in some efficient markets or to tactically monitor your allocation. Pascal Blanqué, AWIF 2017

I think the growth in factor investing, in passive investing, and in index investing, is in many ways a result of the low rate environment. Luis Viceira, AWIF 2019

THEY SAID IT !



is a strong tendency to accompany the cycle. Big drops in the market inevitably result in sales, and vice versa. This is true for insurers and pension funds, although they are considered long-term investors.

In other words, it is true that asset management companies or their funds are gradually becoming more systemic. Are current regulations sufficient? Probably not, since they have essentially been aimed at protecting consumers and investors (as MIFID does). Therefore, it is likely that future regulations will be tightened to address the systemic risk of the asset management industry. This seems inevitable and is largely desirable.

IMPLEMENT ACTIVE AND EFFECTIVE DIVERSIFICATION

For decades, asset and risk managers had the luxury of combining bonds with equities to form a diversified portfolio. Many sovereign bonds were considered safe and of high quality and used to “park” liquidity or macro-hedging instruments. This is more difficult now. As for correlation, traditional asset class boundaries have blurred. In addition, the level of long rates is not encouraging, and quantitative easing has destroyed the elements of fixed income that made the asset class an essential part of a balanced allocation. Seeking diversification by replacing sovereign bonds with assets such as convertible bonds, high yield bonds, and emerging fixed income or other fixed income securities, is not always satisfactory because these assets often behave more like equities than sovereign bonds. In other words, investors have made their fixed income allocation more equity-like, which is the opposite of true diversification.

So, what is the best way to diversify? Alternative assets, and megatrends and factor investing may be the best solutions.

1st way: Diversification within traditional asset classes is useful but, as seen above, not efficient in times of crises;2nd way: Diversification through alternative assets. Compared to traditional assets, alternative assets have a different positioning in the business cycle and the inflation cycle, and as such, they offer opportunities and diversification (see Box 3). Real assets, for example, can serve as an inflation hedge, and furnishes better protection for drawdowns. And private debt can play the role of a credit continuum asset.3rd way: Diversification through alternative investment pro-cesses, such as Smart Beta, factor investing, and Alternative Risk Premia (see Box 4). These are promising approaches to diversify, which allow exiting standard benchmarks (SMART) or pure asset class investing (factor investing and alternative risk premia);4th way: Diversification through playing megatrends (demog-raphy, technology, climate change, ESG/ethical investing), and playing disruptions (digitalisation). Investments focus on pri-vate markets (private debt and private equity), SMALL and MID caps, thematic funds, and disruption funds, among others.

IS REGULATION SUFFICIENT AT PRESENT?

EQUITIES BECAME MORE LIKE FIXED INCOME, AND FIXED INCOME LIKE EQUITIES.

ALTERNATIVE ASSETS, MEGATRENDS AND FACTOR INVESTING MAY BE THE BEST SOLUTIONS FOR EFFECTIVE DIVERSIFICATION.




REAL ESTATE IS A RICH AND MULTIFORM ASSET CLASSIt can be evaluated from different angles:• The nature of the underlying asset: Several types of assets are available

for investors, from offices, businesses, hotels, car parks, logistical assets, retirement homes, clinics, and data centres;

• The nature of the risk: This means carefully assessing the condition of the asset, for example the quality or the rental risk for an asset undergoing restruc-turing, or the quality of the asset’s location and lease terms. Therefore, this involves rental risk, valuation risk, construction risk, legal risk, and tax risk;

• The nature of a holding: investors can incorporate real estate into their asset allocations using listed real estate, direct investments, or funds. Many consider that minor shareholding in a listed real-estate company must be included in the equity portfolio, whereas a major holding (which is more in line with strategic investment) must be included in the real estate portion. Direct buying requires greater capital outlay or the creation of a group of investors who share both risk and yield. A “club deal” reduces the entry fee and provides easier access to the biggest trades on the market. As for funds, this entails investing in shares of a vehicle managed by an asset manager. Often there is an issue with a fund’s investment horizon, which is generally much shorter than that of a long-term investor.

SMART BETA, FACTOR INVESTING AND ALTERNATIVE RISK PREMIA: THE GENESISNew processes have emerged in the past years that aim to outperform benchmarks and avoid high correlations between asset classes. Smart Beta was initially developed for fixed income markets to reduce investment in excessively indebted entities (Japan or corporates) but is now generalised to all asset classes. Factor Investing was developed to find different styles of equities but is now generalised to all asset classes. The styles – size, value, momentum – rapidly became popular because they usually had low correlation.Then came Alternative Risk Premia (ARP). They started with Fama – French (1992) on additional risk premia: the authors suggested the capitalisation bias, with smaller companies outperforming larger companies, and the valuation bias, with value stocks doing the best. Jegadeesh and Titman developed the momentum approach in 1993 and later more risk premia appeared, including liquidity, event, low beta, low volatility, quality minus junk, betting against alpha, maximum diversification, carry, volatility, and momentum.The underlying idea is now to develop a factor-approach on all asset classes. It is easy on equities, and a little more difficult on bonds. Usually, on fixed income, we manage through duration – credit/spread – liquidity. These older factors are still most used. The low risk factor is like the duration risk premium, the size factor is similar to the liquidity risk premium, and the value factor is similar to the carry credit risk premium.ARP approaches, which are the same as alternative betas, are becoming a popular concept in the current market environment, characterized by unusual correlations (bonds versus equities for example), difficulties to diversify, and difficulties in finding alpha. This has put some investment processes and hedge funds into question since they failed on their two promises - diversification and alpha production.

THEY SAID IT !


3

4


THE BUSINESS MODEL OF ASSET MANAGEMENT HAS BEEN DISRUPTED. ONE CAN EVEN SAY THAT THE LAST DECADE HAS MARKED THE END OF TRADITIONAL ASSET MANAGEMENT.

CONCLUSION : THE END OF TRADITIONAL ASSET MANAGEMENT

Amundi was created and developed over the past decade, when the level of risk has constantly been at the heart of concerns: the debt crisis in Europe, the rise of protectionism and populism, geo-economic and geopolitical risks, keeping rates low or even negative, fears of secular stagnation, the creation of crypto-assets, the challenges of climate change and inequality, the COVID-19 pandemic...

In 10 years, the world has radically changed. The business model of asset management has been disrupted. One could even say that the rules of the game have changed, and that the last decade has marked the end of traditional asset management.

Amundi took part in all of these structural changes. We had to review the range of funds carried, especially monetary funds, and the structure of management fees, and adapt to declining margins, on the institutional side first and then on the retail side. In addition, we had to optimise the quality of execution of trades and focus on consulting activities and the sale of services for diversification. And we had to educate our clients, risk departments and boards, about the changing levels of returns. Being both global and local, attaining critical size to maintain independence and enter new markets quickly are also important.

In terms of asset allocation, it seemed evident that the 50/50 or 60/40 bond/equity approach would lose relevance, with ultra-low interest rates, high correlation between traditional assets, and new opportunities and practices appearing. Portfolio construction had to change through a review of what constitutes risk-free assets and effective diversification, and the role and weight of government bonds. New performance strategies have also been implemented.

Most of the last decade has been marked by extending the duration of portfolios, accepting greater credit risk (more credit papers, lower ratings) and greater leverage (yield curves plays, long/short, overlay strategies), and searching for neglected or undervalued assets and assets with higher yields and lower volatility (ABS, infrastructure, private debt).

We have also focused on adding a change component to portfolios, capturing liquidity premiums, revising the benchmarks (“SMART Beta” approaches), and integrating megatrend plays (secular growth, outside of benchmarks, etc.) and factorial approaches (“factor investing”, including ESG), as well as investing more systematically and broadly in real assets, and applying Big Data and SMART data, and absolute return strategies.

NEW PERFORMANCE STRATEGIES HAVE BEEN IMPLEMENTED: SMART BETA, FACTOR INVEST-ING, ALTERNATIVE ASSETS, ETFS…




LIONEL MARTELLINI ON FACTOR INVESTING“Factor investing is born from a simple idea - that securities are bundles of factor exposures. So, every single security, stock, or bond is just a col-lection of factor exposures. It is like a piece of food being a collection or basket of underlying small nutrients. So, factor exposures is important for understanding and measuring within a portfolio. The key focus is to ensure that a seemingly well-diversified portfolio does not end up being a concentrated portfolio of factor exposure. Diversification is most mean-ingful when it exists at the underlying factor level.Factor investing is much more popular in the equities space than in fixed income, commodities, or other asset classes, for several reasons. First, we have access to a large body of academic research that documents the existence, persistence, and robustness of risk premia in the equities space, but not in the other asset classes. Second, the beauty of the equity space is that it is a deep and liquid market where risk premia can be harvested efficiently, even by the largest investors. If you turn to less liquid markets, including corporate bonds, for example, the practicalities of risk premia harvesting may turn out to be increasingly complex.”

Lionel Martellini, AWIF 2018


5

THEY SAID IT !


THE DIGITAL REVO-LUTION FORCES ASSET MANAGERS TO ADOPT NEW BEHAVIOURS AND STRATEGIES TO MAINTAIN THEIR PERFORMANCE.

BEING AGILE AND INNOVATIVE IS AT LEAST AS IMPORTANT AS BEING BIG AND POWERFUL.

The digital revolution became a major game changer too, with asset managers forced to adopt new behaviours and strategies to maintain the performance. It also represents massive opportunities, such as:

• Developing customer-centred business models;• Developing partnerships with key clients;• Optimising distribution networks and seeking distribu-

tion agreements with banking networks;• Building the capacity to sell services that go beyond sav-

ings and cash flow management;• Simplifying operating methods to lower costs and

increase flexibility;• Learning to use big data and robotic process automation

advantageously;• Being agile and innovative;• Managing risks, regulatory constraints, and capital effec-

tively;• Improving product documentation;• Deepening analysis of investors’ needs and developing

personalized data analysis;• Improving employee morale and managing future talent;• Evaluating regularly the impact of changes in the eco-

nomic environment;• …

Today’s battle is less about the big and powerful against the small and weak and more about competition between those that are agile and those that are not.



TO FIND OUT MORE

The "To Find out More" section presents a selective list of Amundi's research works (books, book chapters, working papers (WP), Discussion Papers (DP)) which, over the past decade, have accompanied the evolution of asset management and Amundi. Focusing on

SMART beta, factor investing, ESG, asset allocation, risk management, asset class behaviour, inequalities, climate change ... A good number of these research papers have been presented to our clients, and some of them have even been the subject of a conference presentation or even a publication in renowned academic journals. Alongside with day-to-day “economy and strategy research” and market views, most papers are available on the Amundi Research website (www.research-center.amundi.com). Note that every Spring, we (P. Blanqué and Ph. Ithurbide) edit a book, entitled “Investment Strategy - Amundi Collected Research Papers”, with some of the DP and WP released in the previous 12 months. See our 2014, 2015, 2016, 2017, 2018, 2019 editions in our website. The 2020 edition is forthcoming.

1. BOOKS

Mijot E. (2018) “Investment Cycles and Asset Allocation”, Ed. Economica, Paris.

Roncalli T. (2013) “Introduction to risk-parity and budgeting”, Chapman & Hall (translated into Chinese in 2016 by CRC Press, Modern Finance Series.

Roncalli T. (2020) “Handbook of Risk Management”, 1142 pages, Chapman & Hall.

2. BOOK CHAPTERS

Brière M. and A. Szafarz (2015) "Factor Investing: the Rocky Road from Long Only to Long Short", in “Risk-Based and Factor Investing”, Ed. Jurczenko E., Elsevier.

Brière M. and A. Szafarz (2018) "Factors vs. Sectors in Asset Allocation: Stronger Together?", in “Advances in the Practice of Public Investment Management: Portfolio Modelling, Performance Attribution and Governance”, Ed. Bulusu N. et al., Palgrave Macmillan.

Perrin S. and T. Roncalli (2020) “Machine Learning Optimization Algorithms & Portfolio Allocation”, Chapter 1 in Jurczenko E. (Ed.), “Machine Learning & Asset Management”, Elsevier.

Pola G. (2013) “Diversification measures for portfolio selection”, book chapter in Petroni et al. (Ed.), “Stock Markets: Emergence, Macroeconomic Factors and Recent Developments”, Nova publisher.

Roncalli T. (2017) “Alternative Risk Premia: What Do We Know?”, Chapter 10 in Jurczenko E. (Ed.), “Factor Investing and Alternative Risk Premia”, Elsevier.

3. ARTICLES PUBLISHED IN ACADEMIC JOURNALS (2010-2020, A SELECTIVE LIST)

Most of the papers were originally published as Amundi Working Papers (WP) or prepared specifically for international academic conferences. They are now available on the academic journal websites and/or on the ssrn research website.

Aboura S. and D. Maillard (2016) "Option Pricing under Skewness and Kurtosis using a Cornish Fisher Expansion", Journal of Futures Markets, December 2016, vol. 36n°12, pp 1194-1209.

Ang A., M. Brière and O. Signori (2012) “Inflation and Individual Equities", Financial Analyst Journal, 68(4), July-August, p. 36-55.

Baku E. (2019) “Exchange Rate Predictability in Emerging Markets”, International Economics, 157(C), pp. 1-22.

Baku E., Fortes R., Hervé K., Lezmi E., Malongo H., Roncalli T. and J. Xu (2019) “Factor Investing in Currency markets: Does it Make Sense?”, Journal of Portfolio Management, 46(2), pp. 141-155.

Ben Slimane M. and M. de Jong (2017) “Bond Liquidity Scores”, Journal of Fixed Income, 27(1), pp. 77-82.


TO FIND OUT MORE

Blanqué P., de Jong M., and Ph. Ithurbide (2016) “Appraising Investment Risk”, Journal of Asset Management, 17(4), pp. 215-217.

Bodie Z. and M. Brière (2014) “Sovereign Wealth and Risk Management: a Framework for Optimal Asset Allocation of Sovereign Wealth", Journal of Investment Management, Q1, p.45-61.

Boon L.N., M. Brière and S. Rigot (2016) “Regulation and Pension Fund Risk Taking”, Journal of International Money and Finance, 84, 2018, p. 23-41. Journal of Asset Management, 17(4), p. 295-312.

Boon L.N., M. Brière and B. Werker (2020) "Longevity Risk: To Bear or to Insure?", Journal of Pension Economics and Finance, 19(3), p.409-441.

Brière M., Fermanian J.-D., Malongo H. and O. Signori (2012) “Volatility Strategies for Global and Country Specific European Investors”, Bankers Markets & Investors, November-December 2012, N°121, pp.17-29.

Brière M., A. Chapelle and A. Szafarz (2012) “No Contagion, only Globalisation and Flight to Quality”, Journal of International Money and Finance, 31(6), October, p. 1729-1744.

Brière M., K. Oosterlinck and A. Szafarz (2015) “Virtual Currency, Tangible Return: Portfolio Diversification with Bitcoins", Journal of Asset Management, 16(6), November, p 365–373.

Brière M., V. Mignon, K. Oosterlinck and A. Szafarz (2016) "Towards Greater Diversification in Central Bank Reserves", Journal of Asset Management, 17(4), p. 295-312.

Brière M., S. Pouget and L. Ureche-Rangau (2020) "Institutional Investors’ Votes at General Meetings", in Evolving Practices in Public Investment Management, BIS.

Brière M., J. Peillex and L. Ureche (2017) “Do Social Responsibility Screens Matter when Assessing Mutual Fund Performances", Financial Analyst Journal, 76(3), 3rd Quarter, p.53-66.

Brière M. and O. Signori (2012) "Inflation Hedging Portfolios: Economic Regimes Matter", Journal of Portfolio Management, 38(5), Summer, p. 43-58.

Brière M. and A. Szafarz (2020) "Good Diversification is Never Wasted: How to Tilt Factor Portfolios with Sectors", Finance Research Letters, 2020.

Cette G. and M. de Jong (2013) “Breakeven Inflation Rates and Their Puzzling Correlation Relationships”, Applied Economics, 45(18), pp. 2579-2585.

Cette G. and M. de Jong (2013) “Market-Implied Inflation and Growth Rates Adversely Affected by the Brent”, Journal of Asset Management, 14(3), pp. 133-139.

de Jong M. (2018) “Portfolio Optimization in an Uncertain World”, Journal of Asset Management, 19(4), pp. 216-221.

de Jong M. (2013) “Incorporating Linkers in a Global Government Bond Risk Model”, Journal of Portfolio Management, 39(2), pp. 92-99.

de Jong M. (2011) “An Adequate Measure for Exchange Rate Returns”, Journal of Asset Management, 12(2), pp. 85-93.

de Jong M. (2014) “Practical Aspects of Incorporating Linkers in a Global Government Bond Risk Model”, Practical Applications, 3.

de Jong M. and A. Nguyen (2016) “Weathered for Climate Risk: a Bond Investment Proposition”, Financial Analysts Journal, 72(3), pp. 34-39.

de Jong M. and L. Stagnol (2016) “A Fundamental Bond Index Including Solvency Criteria”, Journal of Asset Management, 17(4), pp. 280-294.

de Jong M. and H. Wu (2014) “Fundamental Indexation for Bond Markets”, Journal of Risk Finance, 15(3), pp. 264-273.

Fermanian J. and H. Malongo (2016) “On the Stationarity of Dynamic Conditional Correlation Models”, Econometric Theory, 33(3), pp. 636-663.

Ithurbide Ph. and D. Maillard (2020) “COVID-19: le monde économique d’après”, Commentaire, Numéro 171, Automne (first draft: April 2020).

Maillard D. (2016) “Les justes inégalités”, Commentaire, Numéro 154, Eté.

Maillard D. (2018) “Réforme des retraites : poser les bonnes questions”, Commentaire, Numéro 164, Hiver.


TO FIND OUT MORE

Maillard D. (2019) “La politique fiscale du Président Macron”, Commentaire, Numéro 165, Printemps.

Paret A.-C. (2017) "Debt sustainability in emerging market countries: Some policy guidelines from a fan-chart approach", Economic Modelling, Elsevier, vol. 63(C), pages 26-45.

Roncalli T. and B. Zeng (2015) “Measuring the liquidity of ETFs: an application to the European market”, Journal of Trading, vol. 9, n°3, pp. 79-)108.

Roncalli T. (2018) “Keep Up the Momentum”, Journal of Asset Management, 19(5), pp. 351-361.

Bolton P., Despres M., Pereira Da Silva L. A., Samama F. and R. Svartzman (2020) “The green swan: Central banking and financial stability in the age of climate change”, BIS / Banque de France / Eurosystème, January.

Stagnol L. (2017) “The Risk Parity Principle Applied to a Corporate Bond Index”, Journal of Fixed Income, 27(1), pp. 27-48.

Stagnol L. (2019) “Extracting Global Factors from Local Yield Curves”, Journal of Asset Management, 20(5), pp. 341-350.

4. A SELECTIVE LIST OF OTHER AMUNDI WORKING PAPERS

A large number of the Working Papers were presented at academic conferences and submitted for publication in theoretical and empirical research reviews. The topics are always related to asset classes and asset management, including long-term issues, portfolio construction, and matters directly related to the activities of our customer segments and particular methodologies. Recent topics of publication have included asset and liability management, pension funds, ESG, SMART benchmarking, factor investing, asset allocation strategies and inflation-indexed bonds, risk premia, climate risk … Around 100 WP have been released since 2010, of which 60 published in academic journals (see above).

Abi Jaber E., D. Benichou and H. Malongo (2016) "The Reactive Covariance Model and its implications in asset allocation", Amundi Working Paper Series, May.

Accominotti O., M. Brière, A. Burietz, K. Oosterlinck and A. Szafarz (2020) "Did Globalization Kill Contagion", Amundi Working Paper WP096-2020.

Bennani L., Le Guenedal T., Lepetit F., Ly L., Mortier V., and T. Sekine (2018) “The Alpha and Beta of ESG Investing”, Amundi Working Paper Series, November, 116 pages.

Ben Slimane M., de Jong M., Fredj H., Sekine T., Srb M., and J.-M. Dumas (2019) “Traditional and Alternative Factors in Investment Grade Corporate Bond Investing”, Amundi Working Paper Series, February, 88 pages.

Ben Slimane M., Le Guenedal T., Roncalli T. and T. Sekine (2019) “ESG Investing in Corporate Bonds: Mind the Gap”, Amundi Working Paper Series, December, 66 pages.

Boon L.-N., M. Brière, C. Gresse and J.M. Werker (2017) "Pension Regulation and Investment Performance: Rule-Based vs. Risk-Based”, Amundi Working Paper Series, February.

Bouchet V. and T. Le Guenedal (2020) “Credit Risk Sensitivity to Carbon Price”, Amundi Working Paper Series, April, 45 pages.

Bourgeron T., Lezmi E. and T. Roncalli (2018) “Robust Asset Allocation for Robo-Advisors”, Amundi Working Paper Series, September, 74 pages.

Cazalet Z. and T. Roncalli (2014) “Fact and Fantasies about factor investing”, SSRN, www.ssrn.com/abstract=2524547.

Chen P., Lezmi E., Roncalli T. and J. Xu (2019) “A Note on Portfolio Optimization with Quadratic Transaction Costs”, Amundi Working Paper Series, December, 25 pages.

de Jong M. (2010) “The Perception of Investment Risk”, Amundi Working Paper Series, June, 24 pages.

de Jong M., Nguyen A., and H. Vannier (2015) “The Asset- and Mortgage-Backed Securities Market in Europe”, Amundi Working Paper Series, March, 19 pages.


TO FIND OUT MORE

De Laguiche S. and G. Pola (2012) “Unexpected Returns: Methodological Considerations on Expected Returns in Uncertainty”, Amundi Working Paper Series, November, 37 pages.

Gonzalvez J., Lezmi E., Roncalli T. and J. Xu (2019) “Financial Applications of Gaussian Processes and Bayesian Optimization”, March, 52 pages.

Gouzilh L., de Jong M., Lebaupain T., and Wu H. (2014) “The Art of Tracking Corporate Bond Indices”, Amundi Working Paper Series, October, 21 pages.

Le Guenedal, T. (2019) “Economic Modeling of Climate Risks”, Amundi Working Paper Series, June, 92 pages.

Le Guenedal T., Girault J., Jouanneau M., Lepetit F. and T. Sekine (2020) “Trajectory Monitoring in Portfolio Management and Issuer Intentionality Scoring”, Amundi Working Paper Series, May, 52 pages.

Lezmi E. (2016) “Forex Markets, the Nuts and Bolts of Carry Investing”, Amundi Working Paper Series, April, 28 pages.

Lezmi E., Jusselin P., Malongo H., Masselin C., Roncalli T. and T.L. Dao (2017) “Understanding the Momentum Risk Premium”, Amundi Working Paper Series, September, 112 pages.

Lezmi E., de Laguiche S., and S. Zhao (2013) “Dynamic Asset Allocation Rebalancing in The Recent Crisis”, Amundi Working Paper, Amundi Working Paper Series, April, 5 pages.

Lezmi E., Malongo H., Roncalli T. and R. Sobotka (2017) “The Quest for Diversification: Why Does it Make Sense to Mix Risk Parity, Carry and Momentum Risk Premia”, Amundi Working Paper Series, September, 20 pages.

Lezmi E., Malongo H., Roncalli T., and R. Sobotka (2018) “Portfolio Allocation with Skewness Risk: A Practical Guide”, Amundi Working Paper Series, June, 40 pages.

Lezmi E., Roche J., Roncalli T. and J. Xu (2020) “Improving the Robustness of Trading Strategy - Backtesting with Boltzmann Machines and Generative Adversarial Networks”, July, 77 pages

Maillard D. (2012) “The Managing of Retirement Savings revisited", Long Term Asset Management conference - HEC Lausanne, Lausanne, January.

Maillard D. (2016) “Asset Allocation under (one’s own) Sovereign Default Risk”, April (AFFI (French Association of Finance) conference, 23-25 May.

Maillard D. (2016) “Modelling Tail Risk in a Continuous Space", International Risk Management Conference, 13-15 June.

Maillard D. (2018) “Tail Risk Adjusted Sharpe Ratio”, Amundi Working Paper Series, April.

Maillard D. (2018) “A user’s guide to the Cornish-Fisher expansion”, SSRN, www.ssrn.com/abstract=1997178.

Maillard D. (2018) “Retirement savings: Asset Allocation and Risk”, Amundi – ESSEC Asset and Risk Management workshop.

Maillard D. (2019) “Residential real estate in an asset allocation”, Amundi – ESSEC Asset and Risk Management chair.

Moussavi J. (2014) “Portfolio capital flows: a simple coincident indicator for emerging markets”, Amundi Working Paper Series, July, 44 pages.

Moussavi J. (2015) “Global Excess Liquidity and Asset Prices in Emerging Markets: Evidence from the BRICS ", Amundi Working Paper Series, April.

Paret A.-C. (2016) "Which lever can enhance sustainability in emerging market countries? A stochastic approach to better grasp public debt dynamics", Amundi Working Paper Series, April.

Paret A.-C. (2015) “Sovereign Default in Emerging Market Countries: A Transition Model Allowing for Heterogeneity", Amundi Working Paper Series, April.

Pola G. (2013) “Managing Uncertainty with DAMS – Asset Segmentation in Response to Macroeconomic Changes”, Amundi Working Paper Series, May, 53 pages.

Richard J.-C. and T. Roncalli (2019) “Constrained Risk Budgeting Portfolios”, February, 44 pages.


TO FIND OUT MORE

Roncalli T., Le Guenedal T., Lepetit F., Roncalli T. and T. Sekine (2020) “Measuring and Managing Carbon Risk”, Amundi Working Paper Series, August, 63 pages.

Stagnol L. (2016) “Designing a Corporate Bond Index on Solvency Criteria”, Amundi Working Paper Series, June, 46 pages.

5. A SELECTIVE LIST OF THE ESSEC – AMUNDI WORKING PAPERS

All the working papers mentioned below were financed or sponsored by the Amundi – ESSEC chair on Asset and Risk Management, and most of them were presented at our annual workshops. The chair is co-headed by Jocelyn Martel (professor of finance at ESSEC), and Philippe Ithurbide (Amundi). Since the beginning of the year, an important part of the output from the chair has dealt with ESG topics, and this segment is under the supervision of Sofia B. Ramos, professor of finance at ESSEC.

Amédée-Manesme C.-O. (2017) “Unsmoothing real estate returns: a comparison of methods relative to higher moments”, Amundi – ESSEC Asset and Risk Management workshop.

Amédée-Manesme C.-O. (2019) “Real estate portfolio allocation and smoothing issues: new insights”, Amundi – ESSEC Asset and Risk Management workshop.

Bach L., Calvet L.E. and P. Sodini (2019) “Rich pickings? Risk, return and skill in household wealth”, Amundi – ESSEC Asset and Risk Management workshop.

Buchwalter B. (2019) “Decrypting cryptoassets: a classification and its implications”, Amundi – ESSEC Asset and Risk Management workshop.

Covachev S. (2019) “The paradox of closing mutual funds to new investors", Amundi – ESSEC Asset and Risk Management workshop.

ESSEC-Amundi Chair (2020) “Green Bonds: Are investors willing to pay the “greenium”?”, Research Letters #1, June.

ESSEC-Amundi Chair (2020) “Carbon Risk and Financial Markets”, Research Letters #2, August.

Feunou B., Lopez Aliouchkin R., Tedongap R. and L. Xu (2019) “Variance Premium, Downside Risk, and Expected Stock Returns", Amundi – ESSEC Asset and Risk Management workshop.

Fulop A. and Z. Kocsis (2019) “News-Based Indices on Country Fundamentals: Do They Help Explain Sovereign Credit Spread Fluctuations?", Amundi – ESSEC Asset and Risk Management workshop.

Fulop A., L. Li and R. Wan (2017) “Parameter Learning, Sequential Model Selection, and Bond Return Predictability”, Amundi – ESSEC Asset and Risk Management workshop.

Galan J. and S. B. Ramos (2019) “Fund efficiency: an analysis of SMART beta, index and actively managed funds”, Amundi – ESSEC Asset and Risk Management workshop.

Lecesne L. and A. Roncoroni (2017) “How does liquidity affect value, risk, performance of energy equity portfolios?”, Amundi – ESSEC Asset and Risk Management workshop.

Lecesne L. and A. Roncoroni (2019) “Optimal Allocation in the S&P 600 under Size-Driven Illiquidity", Amundi – ESSEC Asset and Risk Management workshop.

Lecesne L. and A. Roncoroni (2019) “How Should Funds Behavior and Performance React to Fund Size? The Role of Liquidity Frictions”, Amundi – ESSEC Asset and Risk Management workshop.

Longin F. and E. Santacreu-Vasut (2017) “Introducing gender in finance education in a European Business School: lessons, recommendations and challenges", Amundi – ESSEC Asset and Risk Management workshop.

McCourt M.P. and S.B. Ramos (2019) "Persistence and Skill in the Performance of Mutual Fund Families", Amundi – ESSEC Asset and Risk Management workshop.

Pagliardi G. and P. Poncet (2019) “International Stock Market Co-Movements and Politics-Related Risks", Amundi – ESSEC Asset and Risk Management workshop.

Ramos S. B. (2017) “Lazy investors, lazy fund managers, lousy performance: culture and mutual fund management”, Amundi – ESSEC Asset and Risk Management workshop.


TO FIND OUT MORE

Rombouts J., Stentoft L. and F. Violante (2016) “Dynamics of Variance Risk Premia, Investors’ Sentiment and Return Predictability", Amundi – ESSEC Asset and Risk Management workshop.

Rombouts J.V.K., Stentoft L. and F. Violante (2020) “Pricing Individual Stock Options using both Stock and Market Index Information”, Amundi – ESSEC Asset and Risk Management workshop, Journal of Banking and Finance, Vol. 111, February.

Tedongap R. (2017) “Downside risk and the cross-section of asset returns”, Amundi – ESSEC Asset and Risk Management workshop.

Tedongap R. (2019) “Optimal combination of portfolio and insurance”, Amundi – ESSEC Asset and Risk Management workshop.

Tedongap R. and E. Tafolong (2017) "Illiquidity and Investment Decisions: A Survey", Amundi – ESSEC Asset and Risk Management chair.

Wan R. (2019) “Predictive sytems, real economy, and bond risk premia”, Amundi – ESSEC Asset and Risk Management workshop.

Wei J. (2020) “Environmental, Social and Governance Proposals and Shareholder Activism”, Amundi – ESSEC Asset and Risk Management workshop, Journal of Portfolio Management, Vol. 46, n°3.

6. AMUNDI DISCUSSION PAPERS

While the Discussion Papers usually provide a review on academic literature as regard the topic covered, they do not share the academic angle of the Working Papers. Rather, they offer an in-depth analysis on structural themes with long-term implications and consequences on asset allocation decisions. The topics covered are extremely varied, including macroeconomic issues, geopolitics, crypto-assets, ESG issue, negative rates, inflation, globalisation, megatrends, disruptions, trade wars, emerging markets, cycles, tax optimisation, inequality, food challenge, deep-see mining, human rights, endocrine disruptors, buybacks …

Amundi asset allocation advisory team (2018) “Setting objectives for your asset allocation”, Amundi Discussion Papers Series, DP-32, March.

Bekjarovski F. and M. Brière (2018) “Shareholder activism: why should investors care", Amundi Discussion Papers Series, DP-30, March.

Bennani L., Le Guenedal T., Lepetit F., Ly L., Mortier V., Roncalli T. and T. Sekine (2018) “How ESG investing has impacted the asset pricing in the equity market", Amundi Discussion Papers Series, DP-36, December.

Ben Slimane M., E. Brard, T. Le Guenedal, T. Roncalli and T. Sekine (2020) “ESG investing and fixed income: it’s time to cross the Rubicon”, Amundi Discussion Papers Series, DP-45, January.

Ben Slimane M., J.-B. Dumas and T. Sekine (2020) ”Factor Investing and ESG in the Corporate Bond Market Before and During the COVID-19 Crisis”, Amundi Discussion Papers Series, forthcoming, October.

Berg F., S. De Laguiche, T. Le Berthe, A. Russo and A. Sorange (2014) “SRI and performance: impact of ESG criteria in equity and bond management processes”, Amundi Discussion Papers Series, DP-03, March.

Blanchard C., S. De Laguiche and A. Russo (2014) “Physical real estate in long-term asset allocation: the case of France”, Amundi Discussion Papers Series, DP-05, September.

Blotière E. (2018) “The living wage: towards better industry practices”, Amundi Discussion Papers Series, DP-34, July.

Blotière E., J. Grouillet and A. Renard (2017) “Palm oil the environmental dilemma", Amundi Discussion Papers Series, DP-23, June.

Brière M. and L.N. Boon (2016) “IORP2: a new regulatory framework for pensions”, Amundi Discussion Papers Series, DP-16, July.

Crozat C. (2016) “Coal extraction and mining: sector exclusion or greater selectivity?”, Amundi Discussion Papers Series, DP-19, October.


TO FIND OUT MORE

De Laguiche S. (2014) “Risk-free assets: what long-term normalized return?”, Amundi Discussion Papers Series, DP-02, March.

De Laguiche S. and E. Tazé-Bernard (2014) "Allocating alternative assets: why, how and how much”, Amundi Discussion Papers Series, DP-08, November.

Drei A., Le Guenedal T., Lepetit F., Mortier V., Roncalli T. and T. Sekine (2019) “ESG investing in recent years - new insights from old challenges", Amundi Discussion Papers Series, DP-42, December.

Drut B., Ithurbide Ph., Ji M. and E. Tazé-Bernard (2016) “The emergence of the renminbi as an international currency: where do we stand now?”, Amundi Discussion Papers Series, DP-18, September, 92 pages.

Facchinatto S. and G. Pola (2014) "Managing uncertainty with “DAMS”: from asset segmentation to portfolio management”, Amundi Discussion Papers Series, DP-06, October.

Ithurbide Ph. (2014) “Will the real Janet Yellen stand up?”, Amundi Discussion Papers Series, DP-01, January, 28 pages.

Ithurbide Ph. (2016) “The financial markets today: how to cope with low / negative interest rates”, Amundi Discussion Papers Series, DP-13, April, 24 pages.

Ithurbide Ph. (2016) “Low / negative interest rate environment, secular stagnation... implications for asset management”, Amundi Discussion Papers Series, DP-15, April, 46 pages.

Ithurbide Ph. (2017) “The global trade slowdown: structural or cyclical?”, Amundi Discussion Papers Series, DP-22, May, 32 pages.

Ithurbide Ph. and M. Bellaiche (2017) “Real assets: what contribution to asset allocation, especially in times of crisis?”, Amundi Discussion Papers Series, DP-27, November, 52 pages.

Ithurbide Ph. (2017) “Megatrends and disruptions: consequences for asset management”, Amundi Discussion Papers Series, DP-28, December 64 pages. .

Ithurbide Ph. (2018) “Where will the next financial crisis come from? Are we ready to confront it?”, Amundi Discussion Papers Series, DP-33, July, 44 pages.

Ithurbide Ph. (2018) “Global trade war: where do we stand now? What impacts?”, Amundi Discussion Papers Series, DP-35, November, 80 pages.

Ithurbide Ph. (2019) “Is inflation definitely dead or simply dormant? Consequences for central banks”, Amundi Discussion Papers Series, DP-37, April, 48 pages.

Ithurbide Ph. (2019) “Who will lead the world economy? US vs. EU vs. China / USD vs. EUR vs. RMB“, Amundi Discussion Papers Series, DP-38, April, 60 pages.

Ithurbide Ph. and M. Bellaiche (2019) “How to differentiate emerging countries? New approaches for classification and typology", Amundi Discussion Papers Series, DP-39, June, 68 pages.

Ithurbide Ph. and M. Bellaiche (2019) “Emerging markets: vulnerability and contagion risks... fragile vs. anti-fragile countries", Amundi Discussion Papers Series, DP-40, June, 64 pages.

Ithurbide Ph. (2020) "FX wars, currency wars & money wars - part 1: FX wars vs. currency wars USD vs. EUR vs. RMB vs. …", Amundi Discussion Papers Series, DP-43, January, 48 pages.

Ithurbide Ph. (2020) "FX wars, currency wars & money wars - part 2: fiat money vs. cryptocurrencies private vs. public digital currencies…", Amundi Discussion Papers Series, DP-44, January, 96 pages.

Ithurbide Ph. (2020) “Inequality: what is at stake - Booklet 1 - Inequality and poverty: ongoing challenges”, Amundi Discussion Paper Series (forthcoming).

Ithurbide Ph. (2020) “Inequality: what is at stake - Booklet 2 - Pro-Piketty and Anti-Piketty: A brief overview of the debate”, Amundi Discussion Paper Series (forthcoming).

Ithurbide Ph. (2020) “Inequality: what is at stake - Booklet 3 - Inequality in corporations: gender balance and executive pay”, Amundi Discussion Paper Series (forthcoming).

Lezmi E. (2016) “FOREX markets: the nuts and bolts of the carry factor”, Amundi Discussion Papers Series, DP-14, April.

Mijot E. (2014) “The short investment cycle: our roadmap”, Amundi Discussion Papers Series, DP-07, October.


TO FIND OUT MORE

Mijot E. (2015) “Central banks the first pillar of the investment cycle”, Amundi Discussion Papers Series, DP-12, November.

Mijot E. (2015) “Long cycles and the asset markets”, Amundi Discussion Papers Series, DP-10, May.

Mijot E. (2017) “Cycles and asset allocation: key investment decisions”, Amundi Discussion Papers Series, DP-21, February.

Morel J.-B. (2018) "Aggressive tax optimisation: what is the best ESG approach?", Amundi Discussion Papers Series, DP-31, March.

Navarre M. and H. Lammens (2017) “Opportunities of deep-sea mining and ESG risks", Amundi Discussion Papers Series, DP-24, August.

Navarre M. and Peythieu A. (2017) “Human rights and businesses - how can one assess the corporate responsibility to protect human rights?", Amundi Discussion Papers Series, DP-20, January.

Navarre M., A. Renard and J. Tendeau (2017) “The food challenge: how can one achieve greater transparency?", Amundi Discussion Papers Series, DP-26, October.

Navarre A. and A. Renard (2016) "Endocrine disruptors in ESG analysis”, Amundi Discussion Papers Series, DP-17, September.

Perrier Y. (2015) “Reallocating savings to investment: the new role of asset managers”, Amundi Discussion Papers Series, DP-09, February.

Roncalli T. (2017) “The quest for diversification why does it make sense to mix risk parity, carry and momentum risk premia?”, Amundi Discussion Papers Series, DP-25, September.

Roncalli T. (2017) “Keep up the momentum”, Amundi Discussion Papers Series, DP-29, December.

Russo A. (2014) “Understanding SMART BETA: beyond diversification and low risk investing”, Amundi Discussion Papers Series, DP-04, May.

Russo A. (2015) “Equity factor investing according to the macroeconomic environment”, Amundi Discussion Papers Series, DP-11, November.

Sterling C. and Wane I. (2019) “Buybacks – a multi-perspective review and thoughts on best practices for company buyback policies", Amundi Discussion Papers Series, DP-41, October.



BIBLIOGRAPHY

CHAPTER 1: POST-2008 CRISIS: A DECADE ALMOST LOST

Bernanke B. S. (2015) “The Courage to Act: A Memoir of a Crisis and Its Aftermath”, W. W. Norton & Company.

Blyth M. (2013) “Austerity: The History of a Dangerous Idea”, Oxford University Press.

Cooper G. (2008) “The Origin of Financial Crises: Central Banks, Credit Bubbles, and the Efficient Market Fallacy”, Vintage Ed.

Borio C., M. Erdem, A. J. Filardo and B. Hofmann (2015) “The Costs of Deflations: A Historical Perspective”, BIS Quarterly Review March 2015.

El-Erian M. A. (2016) “The Only Game in Town: Central Banks, Instability, and Avoiding the Next Collapse”, Penguin Random House.

El-Erian M. A. (2008) “When Markets Collide: Investment Strategies for the Age of Global Economic Change”, McGraw-Hill Professional.

Geithner T. F. (2014) “Stress Test: Reflections on Financial Crises”, Crown.

Graeber D. (2011) “Debt: The First 5,000 Years”, Melville House Publishing.

Greenspan A. (2007) “The Age of Turbulence: Adventures in a New World”, Penguin.

Ithurbide Ph. (2018) “Where will the next financial crisis come from? Are we ready to confront it?”Amundi Discussion Papers Series, DP-2018-07.

King M. (2017) “The End of Alchemy: Money, Banking, and the Future of the Global Economy”, W. W. Norton Company.

Krugman P. (2012) “End This Depression Now!”, W. W. Norton & Company.

Krugman P. (2008) “The Return of Depression Economics and the Crisis of 2008”, W. W. Norton Company.

Mandelbrot B. B. (2004) “The (Mis)Behavior of Markets”, Basic Books (first published September 1997).

Rajan R. G. (2010) “Fault Lines: How Hidden Fractures Still Threaten the World Economy”, Princeton University Press.

Reinhart C. M. and K. Rogoff (2009) “This Time Is Different: Eight Centuries of Financial Folly”, Princeton University Press.

Roubini N. (2010) “Crisis Economics: A Crash Course in the Future of Finance”, Penguin Press.

Schiff P. D. (2010) “How an Economy Grows and Why It Crashes”, Wiley.

Stiglitz J. E. (2010) “Freefall: America, Free Markets, and the Sinking of the World Economy”, W. W. Norton & Company.

Taleb N. N. (2005) “Fooled by Randomness: The Hidden Role of Chance in Life and in the Markets”, Random House.

Taleb N. N. (2007) “The Black Swan: The Impact of the Highly Improbable”, Random House.

Taleb N. N. (2012) “Antifragile: Things That Gain from Disorder”, Random House.

CHAPTER 2: LOW RATES, SECULAR STAGNATION, JAPANISATION OF EUROPE, COVID-19: A DECADE OF CONTINUAL REGIME SHIFTS

Albelda R., Duffy M. and N. Folbre (2009) “Counting on Care Work: Human Infrastructure in Massachusetts” Center for Social Policy Publications, Paper 33, University of Massachusetts, September.

Baldwin R. (2020) “The supply side matters: Guns versus butter, COVID-style”, VOX, 22 March.

Backhouse R. and M. Boianovsky (2015) “Secular stagnation: The history of a heretical economic idea”. VoxEU.org. 19 May.

Baldwin R. and B. Weder di Mauro (Ed.) (2020) “Economics in the Time of Covid-19”, VoxEU – CEPR Press.

Barro, R. J. and J. F. Ursúa (2008) “Macroeconomic Crises since 1870”, Brookings Papers on Economic Activity 39: 255-350.


BIBLIOGRAPHY

Barro, R. J., J. F. Ursúa and J. Weng (2020) “The Coronavirus and the Great Influenza Pandemic. Lessons from the “Spanish Flu” for the Coronavirus’s Potential Effects on Mortality and Economic Activity”, NBER working paper 26866.

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Blanchard O. J., D. Furceri and A. Pescatori (2014) “A prolonged period of low real interest rates?”, in Teulings C. and R. Baldwin (Editors) “Secular Stagnation: Facts, Causes and Cures”, CEPR Press.

Blanchard, O. J. (2016) “The US Phillips Curve: Back to the 60s?” Policy Brief PB16-1, Peterson Institute.

Blanchard, O. J. (2018) “Should we reject the natural rate hypothesis?” Journal of Economic Perspectives, 32(1), pp. 97–120, Winter.

Blanchard, O. J. (2019) “Public Debt and Low Interest Rates”, American Economic Association, Presidential Address, January 4.

Borio C., B. English and A. Filardo (2003) “A tale of two perspectives: old or new challenges for monetary policy”, BIS Working Papers, n° 127.

Borio C. and P. Lowe (2002) “Asset prices, financial and monetary stability: Exploring the nexus”, BIS Working Papers, n° 114.

Borio C. (2012) “The financial cycle and macroeconomics: What have we learnt?”, BIS Working Papers No 395, Monetary and Economic Department, December.

Borio C. and A. Zabai (2016) “Unconventional Monetary Policies: A Re-Appraisal”, BIS Working Paper No. 570, July.

Borio C. (2019) “Central Banking in Challenging Times”, BIS Working Paper No. 829, December.

Callon M., P. Lascoumes and Y. Barthe (2014) “Agir dans un monde incertain. Essai sur la démocratie technique”, Le Seuil, Paris.

Case A. and A. Deaton (2020) “Deaths of Despair and the Future of Capitalism”. Princeton University Press.

Chavagneux C. (2020) “Pandémie, finance : les Etats avaient pourtant été prévenus”, Alternatives Economiques, N° 401, Mai.

Claeys G., M. Demertzis and J. Mazza (2018) “A monetary policy framework for the European Central Bank to deal with uncertainty”, Bruegel, Policy Contribution Issue n °21 | November.

Derenne J.-P. and F. Bricaire (2005) “Pandémie : la grande menace“, Fayard, Paris.

Eichengreen B. (2014) “Secular stagnation: A review of the issues”, in Teulings C. and R. Baldwin (Editors) “Secular Stagnation: Facts, Causes and Cures”, CEPR Press.

Ehrmann M., G. Ferrucci, M. Lenza and D. O’Brien (2018) “Measures of underlying inflation for the euro area”, ECB Economic Bulletin, Issue 4.

Frey C. B. (2015) “The End of Economic Growth? How the Digital Economy Could Lead to Secular Stagnation”, Scientific American, Vol. 312, No. 12.

Fullwiler S., S. Kelton and L. R. Wray (2012) “Modern Money Theory: a response to critics”, in “Modern Monetary Theory: a debate”, Political Economy Research Institute, University of Massachusetts Amherst, Working Papers Series N° 279, June.

Goodhart, C.A. E. (2010) “The Changing Role of Central Banks”, BIS Working Paper No. 326, Basel.

Gordon R. J. (2012) “Is U.S. Economic Growth Over? Faltering Innovation Confronts the Six Head-winds”, NBER Working Paper No. 18315.

Gordon R. J. (2014) “The turtle’s progress: Secular stagnation meets the headwinds”, in Teulings C. and R. Baldwin (Editors) “Secular Stagnation: Facts, Causes and Cures”, CEPR Press.

Hansen A. H. (1938) “ Full recovery or stagnation?”, W.W. Norton, New York.


BIBLIOGRAPHY

Holston, K., T. Laubach and John C. Williams (2016) “Measuring the Natural Rate of Interest: Interna-tional Trends and Determinants”, Working Paper Series 2016-11, Federal Reserve Bank of San Francisco.

IMF (2014) “Euro Area – “Deflation Versus Lowflation”, IMF Blog, 4 March.

Ithurbide Ph. (2016) “Low/negative interest rate environment, secular stagnation... implications for asset management”, Amundi Discussion Papers Series DP 15-2016, April.

Ithurbide Ph. and D. Maillard (2020) “COVID-19: the world after: the long-term consequences of the pandemic”, April, 26 pages.

Jackson T. (2018) “The Post-Growth Challenge: Secular Stagnation, Inequality and the Limits to Growth”, CUSP Working Paper No 12. Guildford - University of Surrey.

Kelton S. (2020) “The deficit myth: Modern Monetary Theory and the birth of the people’s economy”, Public affairs.

Koo R. C. (2014) “Balance sheet recession is the reason for secular stagnation”, in Teulings C. and R. Baldwin (Editors) “Secular Stagnation: Facts, Causes and Cures”, CEPR Press.

Mahedy T. and A. Shapiro (2017) “What’s Down with Inflation?” FRB San Francisco Economic Letter, 2017-35 | November 27.

Minsky H.P. (1982) “Can “ it ” happen again: Essays on instability and finance”, Armonk, ME Sharpe.

Nickel C. and D. O’Brien (2018) “The ECB’s measures of underlying inflation for the euro area”, Vox, 20 November.

Pagano P. and M. Sbracia (2014) “The Secular Stagnation Hypothesis: A Review of the Debate and Some Insights”, Occasional paper number 231, Bank of Italy, September.

Rousseau H. P. (2020) “ Covid-19 – Idées de politiques économiques de gestion et de sortie de crise pour le Québec et le Canada ”, Rapport Bourgogne 2020RB-01, CIRANO, Mars-Avril.

Summers L. H. (2014) “Reflections on the ‘New Secular Stagnation Hypothesis”, in Teulings C. and R. Baldwin (Editors) “Secular Stagnation: Facts, Causes and Cures”, CEPR Press.

The Economist (2018) “A debate about central-bank independence is overdue”, Print edition | Finance and economics, October 20.

Wray L. R. (1998) “Understanding Modern Money”, Vermont, Edward Elgar.

Wray L. R. (2000) “The Neo-Chartalist Approach to Money”, CFEPS Working Paper No. 10, University of Missouri at Kansas City, July.

Wray L. R. (2015) “Modern Money Theory: A Primer on Macroeconomics for Sovereign Monetary Systems”, NY: Palgrave Macmillan, New York.

CHAPTER 3: ULTRA-LOW RATES AND QUANTITATIVE EASING: A NEW GENERATION OF CENTRAL BANKERS

Blanchard, O. J. (2016) “The US Phillips Curve: Back to the 60s?” Policy Brief PB16-1, Peterson Institute.

Blanchard, O. J. (2018) “Should we reject the natural rate hypothesis?” Journal of Economic Perspectives, 32(1), pp. 97–120, Winter.

Blanchard, O. J. (2019) “Public Debt and Low Interest Rates”, American Economic Association, Presidential Address, January 4.

Borio C. and P. Lowe (2002) “Asset prices, financial and monetary stability: exploring the nexus”, Paper presented at the BIS Conference on “Changes in risk through time: measurement and policy options”, BIS Working Papers, No 114, Basel, July.

Borio C. and P. Lowe (2003) ”Imbalances or bubbles? Implications for monetary and financial stability”, in W Hunter, G Kaufman and M Pomerleano (eds) Asset Price Bubbles: The Implications for Monetary, Regulatory, and International Policies, MIT press, January, Chapter 17, pp 247-270.

Borio C., B. English and A. Filardo (2003) “A tale of two perspectives: Old or new challenges for monetary policy”, BIS Working Papers, n° 127.


BIBLIOGRAPHY

Borio C. and P. Disyatat (2010) “Unconventional Monetary Policies: An Appraisal”, BIS Working Paper No. 292, January.

Borio C. and B. Hofmann (2017) “Is Monetary Policy Less Effective When Interest Rates are Persistently Low?” BIS Working Paper No. 62, April.

Bullard J. (2010) “Quantitative Easing — Uncharted Waters for Monetary Policy”, Federal Reserve Bank of St. Louis, January.

Buiter W. (2008) “Quantitative easing and qualitative easing: a terminological and taxonomic proposal”, Financial Times, 9 December.

Eichengreen B. (2019) “Critics of quantitative easing should consider the alternative”, The Guardian, 11 June.

Goodhart, C.A. E. (2010) “The Changing Role of Central Banks”, BIS Working Paper No. 326, Basel.

Bordo M. D. (2014) “Exiting from Low Interest Rates to Normality: An Historical Perspective”, Hoover Institution, Economics Working Paper 14110, November.

Ithurbide Ph. (2016) “Low/negative interest rate environment, secular stagnation... implications for asset management”, Amundi Discussion Papers Series DP 15-2016, April.

Ithurbide Ph. (2017) “Real assets: what contribution to asset allocation, especially in times of crisis?” Amundi Discussion Papers Series DP 27-2017, November.

Ithurbide Ph. (2019) “Is inflation definitely dead or simply dormant? Consequences for central banks”, Amundi Discussion Papers Series DP 37-2019, April.

Ithurbide Ph. (2016) “The financial markets today: how to cope with low / negative interest rates”, Amundi Discussion Papers Series DP 13-2016, April.

Ithurbide Ph. (2014) “Will the Real Janet Yellen Stand Up?” Amundi Discussion Papers Series DP 1-2014, March.

Joyce M., D. Miles, A. Scott and D. Vayanos (2012) “Quantitative Easing and Unconventional Monetary Policy – An Introduction”, The Economic Journal, Vol. 122, No. 564 (November 2012), pp. F271-F288.

Reis R. (2016) “Funding Quantitative Easing to Target Inflation,” in “Designing Resilient Monetary Policy Frameworks for the Future,” Proceedings of the Jackson Hole Economic Policy Symposium: Federal Reserve Bank of Kansas City, August 2016, pp. 423–478.

The Economist (2018) “A debate about central-bank independence is overdue”, Print edition, Finance and economics, October 20.

CHAPTER 4: GEO-POLITICS AND GEO-ECONOMICS: ONGOING CHALLENGES

Allison G. (2017) “Destined for War: Can America and China Escape Thucydides’s Trap?”, Houghton Mifflin Harcourt.

Chomsky N. (2016) “Who Rules the World?”, Metropolitan Books / Henry Holt & Co.

Chomsky N. (2004) “Hegemony or Survival: America’s Quest for Global Dominance”, Holt Paperbacks.

Diamond J. (2005) “Collapse - How Societies Choose to Fail or Succeed”, Penguin.

Etzioni A. (2017) “Avoiding War with China: Two Nations, One World”, University of Virginia Press, Charlottesville.

French H. (2017) “Everything Under the Heavens: How the Past Helps Shape China’s Push for Global Power”, Knopf, New York.

Laurent E. and J. Le Cacheux (2015) “Un nouveau monde économique : mesurer le bien-être et la soutenabilité au XXIème siècle”, Odile Jacob, Paris.

Ferguson N. (2012) “Civilization - The West and the Rest”, Penguin Books.

Ferguson N. (2012) “Colossus: The Rise and Fall of the American Empire”, Penguin Books.

Frankopan P. (2015) “The Silk Roads: A New History of the World”, Bloomsbury Publishing.

Frankopan P. (2018) “The New Silk Roads: The Present and Future of the World”, Bloomsbury Publishing.

Fukuyama F. (2014) “Political Order and Political Decay: From the Industrial Revolution to the Globalisation of Democracy”, Farrar, Straus and Giroux.


BIBLIOGRAPHY

Fukuyama F. (2006) “The origins of Political Order: from Prehuman Times to the French Revolution”, Profile Boks.

Fukuyama F. (2006) “The End of History and the Last Man”, Free Press.

Gomart T. (2019) “L’affolement du monde – 10 enjeux géopolitiques”, Tallandier, Paris.

Huntington S. P. (1998) “The Clash of Civilizations and the Remaking of World Order”, Simon & Schuster.

Huntzinger J. (2019) “Le globe et la loi”, Les Editions du Cerf, Paris.

Ithurbide Ph. (2019) “Who will lead the world? US vs. China vs EU – USD vs RMB vs EUR”, paper presented at Seoul International Finance Forum, April 25, 2019. Amundi Discussion Papers Series, DP-38, April.

Kagan D. (1969) “The Outbreak of the Peloponnesian War,” Cornell University Press.

Kagan D. (1987) “The Fall of the Athenian Empire”, Cornell University Press.

Kagan D. (1995) “On the Origins of War and the Preservation of Peace”, Doubleday, New York.

Kagan D. (2009) “Thucydides: The Reinvention of History”, Viking Press, New York.

Kagan D. (2008) “The Return of History and the End of Dreams”, Vintage Ed.

Kaplan R. D. (2012) “The Revenge of Geography: What the Map Tells Us About Coming Conflicts and the Battle Against Fate”, Random House.

Kennedy P. (1987) “The Rise and Fall of the Great Powers: Economic Change and Military Conflict from 1500 to 2000”, Random House.

Keohane R. O. and J. Nye (1973) “Transnational Relations and World Politics”, Harvard University Press.

Keohane R. O. and J. Nye (1977) “Power and Interdependence”, 2011 edition, Longman Classics in Political Science.

Kindleberger C. (1973) “The World in Depression”, Berkeley, University of California Press.

Kissinger H. (2014) “World Order”, Penguin Press, New York.

Keohane R. O. and J. Nye (1973) “Transnational Relations and World Politics”, Harvard University Press.

Keohane R. O. and J. Nye (1977) “Power and Interdependence”, 2011 edition, Longman Classics in Political Science.

Kissinger H. (2014) “World Order”, Penguin Press, New York.

Lévy B.-H. (2019) “The Empire and the Five Kings: America’s Abdication and the Fate of the World”, Henry Holt and Co.

Louis F. (2014) “Les grands théoriciens de la géopolitique”, Belin Major, Paris.

Nye J. (1990) “Bound to Lead: The Changing Nature of American Power”, London: Basic Books.

Nye J. (2011) “The Future of Power”, PublicAffairs.

Nye J. (2015) “Is the American Century Over?” Global Futures, Polity.

Pitron G. (2018) “La guerre des métaux rares - La face cachée de la transition énergétique et numérique ”, Les Liens qui Libèrent, Paris.

Rosanvallon P. (2020) “Le siècle du populisme : histoire, théorie, critique”, collection Les livres du nouveau monde, Editions du seuil, Paris.

Susbielle J.-F. (2006) “ Chine – USA – la guerre programmée. Le XXIème siècle sera-t-il le siècle de la revanche chinoise ? ”, First Editions.

Védrine H. (2012) “Dans la mêlée mondiale (2009-2012)”, Ed. Fayard, Paris.

Vedrine H. (2018) “ Comptes à rebours ”, Fayard, Paris.

Waldron A. (2017) “There is no Thucydides trap”, SupChina, June.

Zakaria F. (2008) “The Post-American World”, W. W. Norton Company.

Zeihan P. (2017) “The Absent Superpower: The Shale Revolution and a World Without America”, Zeihan on Geopolitics, First ebook edition in January 2017.


BIBLIOGRAPHY

CHAPTER 5: US, CHINA, EUROPE, INDIA, RUSSIA, AND OTHER: NEW POWER STRUGGLES

Acemoğlu D. (2012) “Why Nations Fail: The Origins of Power, Prosperity, and Poverty”, Crown Business

Conflits (2018) “Indice de la puissance globale”, Conflits N°17, Avril-Mai-Juin.

Gueniffey P. and T. Lentz (Ed.) (2016) “La fin des empires”, Editions Perrin / Le Figaro Histoire, Paris.

Ithurbide Ph. (2018) “Global Trade War: Where Do We Stand Now? What Impacts?”, Amundi Discussion Papers Series, DP-35-2018, November.

Ithurbide Ph. (2019) “Who will lead the world? US vs. China vs EU – USD vs RMB vs EUR”, paper presented at Seoul International Finance Forum, April 25, 2019. Amundi Discussion Papers Series, DP 38-2019, April.

Ithurbide Ph. (2019) “How to discriminate emerging countries? New approaches for classification and typology”, Amundi Discussion Papers Series DP 39-2019, June.

Kissinger H. (2011) “On China”, Penguin Press, New York.

Mahbubani K. (2018) “Has the West Lost It? A Provocation”, Penguin.

McClory J. (2017) “The Soft Power 30: A Global Ranking of Soft Power, 2017”, Portland.

Miller T., A. B. Kim and J.M. Roberts (2019) “2019 Index of Economic Freedom”, The Heritage Foundation, Washington.

Monocle (2018) “Soft Power Survey 2018/19”, Dec. 2018.

Nye J. (1990) “Bound to Lead: The Changing Nature of American Power”, London: Basic Books.

Nye J. (2011) “The Future of Power”, PublicAffairs.


Pillsbury M. (2015) “The Hundred-Year Marathon: China’s Secret Strategy to Replace America as the Global Superpower”, Henry Holt and Co.

PWC (2017) “The Long View: How will the global economic order change by 2050?”, February.

SIPRI (2018) “2017 SIPRI Military Expenditure Database”, Stockholm International Peace Research Institute.

Tian N., A. Fleurant, A. Kuimova, P. D. Wezeman, S. T. Wezeman (2018) “Trends in World Military Expenditure, 2017”, Stockholm International Peace Research Institute, May.

Valode Ph. (2019) “Histoire des cinq grandes puissances”, Ed. Archipoche, Paris.

Védrine H. (2000) “L’hyperpuissance américaine”, Fondation Jean-Jaurès, Paris.

CHAPTER 6: PROTECTIONISM, DE-GLOBALISATION: WHAT WAY OUT?

Bhagwati J. N. (2005) “In Defense of Globalisation”, Oxford University Press.

Coeuré B. (2018) “The consequences of protectionism” Panel contribution at the 29th edition of the workshop “The Outlook for the Economy and Finance”, “Villa d’Este”, Cernobbio, 6 April.

Carney M. (2018) “From Protectionism to Prosperity”, Speech given at the Northern Powerhouse Business Summit — Great Exhibition of the North, Bank of England, 5 July 2018.

Chavagneux C. (2020) “Une mondialisation de moindre intensité”, Alternatives Economiques, N° 402, Juin.

Cohen D. (2007) “Globalisation and its enemies”, MIT Press.

Cohen D. (1998) “The Wealth of the World and the Poverty of Nations”, MIT Press.

De Gortari A. (2017) “Disentangling global value chains”, WTO Job Market Paper, Working Paper, November.

Gloe Dizioli A. and B. van Roye (2018) “Macroeconomic implications of increasing protectionism”, ECB Economic Bulletin, Issue 6 / 2018.

Ha J. (2018) “China-US Trade Conflict: Causes and Impact”, China Finance 40 Forum, CF40-PIIE Joint Report, June.


BIBLIOGRAPHY

Hufbauer G. and E. Jung (2016) “Evaluating Trump’s trade policies”, VOX CPER Policy, 29 September.

Ithurbide Ph. (2017) “The global trade slowdown: cyclical or structural”, Amundi Discussion Papers Series DP 22-2017, May.

Jean S., Ph. Martin and A. Sapir (2018) “International Trade Under Attack: What Strategy for Europe?”, Les notes du Conseil d’Analyse Economique, French Council of Economic Analysis, N° 46, July.

Lindé J. and A. Pescatori (2017) “The Macroeconomic Effects of Trade Tariffs: Revisiting the Lerner Symmetry Result”, IMF Working Papers Series, WP/17/151.

McKibbin W. J. and A. Stoeckel (2017) “Some Global Effects of President Trump’s Economic Program”, Centre for Applied Macroeconomic Analysis, CAMA Working Paper 53/2017 August.

Noland M. (2018) “US International Economic Policy in the Trump Administration”, East- West Center Working Papers, Innovation and Economic Growth Series No. 12, January 2018.

Noland, M., S. Robinson and T. Moran (2016) “Impact of Clinton’s and Trump’s trade proposals” in Assessing trade agendas in the US Presidential campaign, PIIE Briefing 16-6, Washington: Peterson Institute for International Institute, September.

Rodrik D. (2011) “The Globalisation Paradox: Democracy and the Future of the World Economy”, W. W. Norton Company.

Rodrik D. (2020) “The future of globalisation after the COVID crisis”, Bendheim Center for Finance, May 4.

Sachs J. D. (2008) “Common Wealth: Economics for a Crowded Planet”, Penguin.

Stiglitz J. E. (2003) “Globalisation and its Discontents”, W. W. Norton Company.

CHAPTER 7: USD VS. EUR VS. RMB, FIAT MONEY VS. CRYPTOCURRENCIES: WILL THE US DOLLAR CEASE TO BE THE PRINCIPAL INTERNATIONAL CURRENCY?

Bech M. L. and R. Garratt (2017) “Central bank cryptocurrencies,” BIS Quarterly Review, Annual Report, September.

Bech M. L., U. Faruqui, F. Ougaard and C. Picillo (2018) “Payments Are A-Changin’ but Cash Still Rules” BIS Quarterly Review, March.

Boar C, H. Holden and A. Wadsworth (2020) “Impending arrival – a sequel to the survey on central bank digital currency”, BIS Papers No 107, January.

Carney M. (2018) “The Future of Money”, BIS central bankers’ speeches.

Coeuré B. (2019) “The euro’s global role in a changing world: a monetary policy perspective”, Council on Foreign relations, New York, February 15.

Cœuré B. (2019) “Digital challenges to the international monetary and financial system”, speech at the Central Bank of Luxembourg – Toulouse School of Economics conference on “The future of the international monetary system”, September.

Cœuré B. (2015) “How Binding is the Zero Lower Bound?”, speech at the conference on “Removing the Zero Lower Bound on interest rates”, London, 18 may.

Drut B., Ph. Ithurbide, M. Ji and E. Tazé-Bernard (2016) “The emergence of the renminbi as an international currency: where do we stand now?”, Amundi Discussion Papers Series, DP-18-2016, September.

Efstathiou K. and F. Papadia (2018) “The euro as an international currency”, Policy Contribution Issue n°25, Bruegel, December.

Eichengreen B., Mehl, A. and Chitu, L. (2017) “How Global Currencies Work: Past, Present and Future”, Princeton University Press.

Eichengreen B., A. Mehl and L. Chitu (2019) “Mars or Mercury? The geopolitics of international currency choice”, Economic Policy, forthcoming.

European Central Bank (2018) “The international role of the euro” – Interim report


BIBLIOGRAPHY

Ithurbide Ph. (2019) “Who Will Lead the World Economy? US vs EU vs China - USD vs. EUR vs RMB”, Amundi Discussion Papers Series, DP-38-2019, April.

Ithurbide Ph. (2019) “FX wars, currency wars and money wars - Part 1: USD vs. EUR vs. RMB vs. ...”, Amundi Discussion Papers Series, DP 43-2020, January.

Ithurbide Ph. (2020) “FX wars, currency wars and money wars Part 2: Fiat Money vs. Cryptocurrencies – Private vs. Public (central banks’) digital currencies...”, Amundi Discussion Papers Series, DP 44-2020, January.

Landau J.P. and Genais A. (2018) “Les crypto-monnaies”, Rapport au ministre de l’économie et des finances, July.

Mancini-Griffoli T., M. S. Martinez Peria, I. Agur, A. Ari, J. Kiff, A. Popescu and C. Rochon (2018) “Casting Light on Central Bank Digital Currency”, IMF Staff Discussion Note SDN/18/08, November 2018.


Yu Yongding (2018) “China Should Not Underestimate the Long-term and Complex Nature of Renminbi Internationalization”, China Finance 40, August.

Yin Yong (2018) “Promote the Internationalisation of RMB and Better Serve the New Pattern of All-Round Opening Up”, China Finance 40, July.

CHAPTER 8: MEGATRENDS AND DISRUPTIONS: A REALITY NOW UNAVOIDABLE

BCG (2017) “Global Asset Management 2017: The Innovator’s advantage”, Boston Consulting Group.

Bughin J., E. Hazan, S. Ramaswamy, M. Chui, T. Allas, P. Dahlström, N. Henke and M. Trench (2017) “Artificial intelligence the next digital frontier?”, Discussion Paper, McKinsey Institute, June.

Buisson P. (2017) “Robotic Process Automation”, DigiBook - Competitive Digital Landscape, Digital Business Intelligence Group, Amundi.

Christensen, C.M. (1997) “The innovator’s dilemma: when new technologies cause great firms to fail”, Harvard Business School Press.

Christensen, C.M. (2015) “What Is Disruptive Innovation?”, Harvard Business Review.

Deloitte (2015) “Robo Advisors: Capitalizing on a growing opportunity,” July.

Dru, J.-M. (2016) “The Ways to New: 15 Paths to Disruptive Innovation”, Pearson Ed.

Dugain, M. and C. Labbé (2017) “ L’Homme nu : la dictature invisible du numérique ”, Robert Laffont / Plon Ed., Paris.

Ellis, R. and J. Warren (2016) “The upside of disruption: Why the future of asset management depends on innovation”, SEI Investment Manager Services.

EY (2016) “The upside of disruption: Megatrends shaping 2016 and beyond”, EYQ report.

Haldane, A. G. (2014) “The age of asset management?”, Bank of England, presentation to the London Business School, 4 April.

Harari Y. N. (2017) “Homo Deus: A Brief History of Tomorrow”, Random House UK, 400 pages, January.

Ithurbide Ph. (2017) “Megatrends and Disruptions”, Amundi Discussion Papers Series, DP 28-2017, November, 62 pages (Paper presented at FLAR conference, Cartagena, Colombia).

Manyika J., S. Lund, M. Chui, J. Bughin, J. Woetzel, P. Batra, R. Ko and S. Sanghvi (2017) “Jobs lost, jobs gained: workforce transitions in a time of automation”, McKinsey Global Institute, December.

Manyika J., M. Chui, M. Miremadi, J. Bughin, K. George, P. Willmott and M. Dewhurst (2017) “A future that works: Automation, employment and productivity”, McKinsey Global Institute, January.

Moody’s (2017) “Digital will be second wave of disruption for asset managers”, Moody’s Investors Service, November.

PwC (2017) “Artificial Intelligence and Robotics – 2017: Leveraging artificial intelligence and robotics for sustainable growth”, Price Waterhouse Coopers, March.


BIBLIOGRAPHY

PwC (2017) “Global FinTech Report 2017 - Redrawing the lines: FinTech’s growing influence on Financial Services” Price Waterhouse Coopers.

United Nations (2019) “World Population Prospects – the 2019 Highlights”, UN, June.

Williams, J. (2017) “SEI identifies five key trends in disruptive technology”, Hedgeweek, Special report, January.

CHAPTER 9: CLIMATE CHANGE CHALLENGES: THE COUNTDOWN

Battiston S. (2019) “The importance of being forward-looking: managing financial stability in the face of climate risk”, Financial Stability Review, Banque de France, June.

Bolton P., M. Despres, L. A. Pereira da Silva, F. Samama and R. Svartzman (2020) “The green swan: Central banking and financial stability in the age of climate change”, BIS / Banque de France, January.

Brainard L. (2019) “Why climate change matters for monetary policy and financial stability”, remarks prepared for “The Economics of Climate Change”, a research conference sponsored by the Federal Reserve Bank of San Francisco, San Francisco, California, November 8.

Carney M. (2015) “Breaking the tragedy of the horizon – climate change and financial stability”, Speech by Mr Mark Carney, Governor of the Bank of England and Chairman of the Financial Stability Board, at Lloyd’s of London, London, 29 September

Cedefop - OECD (2015) “Green skills and innovation for inclusive growth”, Luxembourg: Publications Office of the European Union, Cedefop reference series 100.

Coeuré B. (2018) “Monetary policy and climate change”, A speech at a conference on “Scaling up Green Finance: The Role of Central Banks”, organised by the Network for Greening the Financial System, the Deutsche Bundesbank and the Council on Economic Policies, Berlin, 8 November.

De Perthuis C. (2019) “Le tic-tac de l’horloge climatique”, de Boeck Supérieur, Louvain la Neuve.

Diamond J. M. (2005) “Collapse: How Societies Choose to Fail or Succeed”, Penguin Books, New York, 2005.

Ehrlich P. (1968) “The Population Bomb”, Ballantine Books.

Gollier C. (2019) “Le climat après la fin du mois”, PUF, Paris.

Hsiang S. M. and A. S. Jina (2014) “The Causal Effect of Environmental Catastrophe on Long-Run Economic Growth: Evidence from 6,700 Cyclones” NBER Working Paper Series 20352, Cambridge, Mass., National Bureau of Economic Research, July.

ICMA (2018) “Green Bond Principles: Voluntary Process Guidelines for Issuing Green Bonds”, June.

International Energy Agency (IEA) (2019) “World Energy Outlook (WEO) 2019”, November

International Institute for Applied Systems Analysis (IIASA) (2019) “The World in 2050. The Digital Revolution and Sustainable Development: Opportunities and Challenges”. Report prepared by “the World in 2050 initiative”. IIASA, Laxenburg, Austria.

International Renewable Energy Agency (IRENA) (2019) “Global Energy Transformation: A roadmap to 2050”, 2019 edition.

Jancovici J. M. (2015) « Dormez tranquilles jusqu’en 2100 … et autres malentendus sur le climat et l’énergie », Editions Odile Jacob, Paris.

Jobst A. A. and C. Pazarbasioglu (2019) “Greater transparency and better policy for climate finance”, Financial Stability Review, Banque de France, June.

Jouzel J. and P. Larrouturou (2017) « Pour éviter le chaos climatique et financier », Editions Odile Jacob, Paris.

Kolbert E. (2014) “The Sixth Extinction: An Unnatural History”, Henry Holt and Company.

Masson-Delmotte V. and W. Moufouma-Okia (2019) “Climate risks: why each half-degree matters”, Financial Stability Review, Banque de France, June.


BIBLIOGRAPHY

McKibbin W., A. Morris, A. J. Panton and P. J. Wilcoxen (2017) “Climate Change and Monetary Policy: Dealing with Disruption”, CAMA Working Paper 77/2017, Crawford School of Public Policy, Australian National University, Canberra, December.

McKinsey Global Institute (2020) “Climate risks and response: physical hazards nd socioeco-nomic impacts”, January.

Malthus T.R. (1803) “An Essay on the Principle of Population; or, a view of its past and present effects on human happiness; with an enquiry into our prospects respecting the future removal or mitigation of the evils which it occasions”, Oxford World’s Classics reprint.

Mercer (2011) “Climate Change Scenarios – Implications for Strategic Asset Allocation”, Mercer LLC.

Meadows D. L., D. Meadows, Randers J. and Behrens III W. W. (1972) “The limits to growth: A Report for the Club of Rome’s Project on the Predicament of Mankind,”, Chelsea Green Publishing.

Meadows D. L., D. Meadows, Randers J. (1993) “Beyond the Limits: Confronting Global Collapse, Envisioning a Sustainable Future”, Chelsea Green Publishing.

Nature (2011) “The Human Epoch” Vol. 473, May.

New Climate Economy (2018) “Unlocking the inclusive growth story of the 21st century: accelerating climate action in urgent times”, August.

NGFS (2019) “A call for action: Climate change as a source of financial risk”, Network for Greening the Financial System, April.

Peterson E.W.F. (2017) “Is Economic Inequality Really a Problem? A Review of the Arguments”, Faculty Publications: Agricultural Economics. 170.

Rudebusch G. D. (2019) “Climate Change and the Federal Reserve,” FRBSF Economic Letter 2019-09, Federal Reserve Bank of San Francisco, March.

Schoenmaker D. (2019) “Greening monetary policy”, Bruegel Institute, Working Paper 02, 19 February.

Scranton R. (2015) “Learning to Die in the Anthropocene: Reflections on the End of a Civilization”, City Lights Books.

Servigne P. and R. Stevens (2015) “Comment tout peut s’effondrer : Petit manuel de collapsologie à l’usage des générations présentes”, Éd. du Seuil, Paris.

Tainter J. A. (1988) “The Collapse of Complex Societies”, Cambridge University Press.

Total (2018) “Intégrer le climat à notre stratégie”, Septembre.

Toynbee A. (1939) “A Study of History”, volumes 4, 5 and 6, Oxford University Press.

Villeroy de Galhau F. (2019) “Climate change: central banks are taking action”, Financial Stability Review, Banque de France, June.

World Bank (2018) “Groundswell: Preparing for Internal Climate Migration”, Word Bank, March.

CHAPTER 10: INEQUALITY: THE CAUSES AND THE CHALLENGE

Acemoğlu D. and J. A. Robinson (2015) “The Rise and Decline of General Laws of Capitalism”, Journal of Economic Perspectives, Vol. 29, N° 1, Winter., pp. 3-28.

Anand S. and P. Segal (2008) “What do we know about global income inequality?”, Journal of Economic Literature, vol. 46, n°1, March, pp. 57-94.

Auten G. and D. Splinter (2019) “Income Inequality in the United States: Using Tax Data to Measure Long-term Trends”, Working Paper, December 20.

Auten G. and D. Splinter (2019) “Top 1 Percent Income Shares: Comparing Estimates Using Tax Data”, AEA Papers and Proceedings, Vol. 109, May, pp. 307-11.

Auerbach A. J. and K. Hassett (2015) “Capital Taxation in the Twenty-First Century”, American Economic Review, vol. 105 (n°5): pp. 38-42.

Brennan G, G. Menzies and M. Munger (2014) “A brief history of equality”. Working Paper No. 17, Economics Discipline Group, University of Technology Sydney Business School, Sydney.


BIBLIOGRAPHY

Burch D. and N. McInroy (2018) “We need an inclusive economy, not inclusive growth – Policy provocation”, Centre for Local Economic Strategies (CLES), December.

Crédit Suisse Research Institute (2019), “Global Wealth Databook 2019”.

Deaton A. (2013) “The Great Escape: Health, Wealth, and the Origins of Inequality”, Princeton University Press.

De Vos M. (2017) “Les vertus de l’inégalité”, Editions Saint-Simon, Paris.

Diamond J. M. (1997) “Guns, Germs, and Steel: The Fates of Human Societies”, W.W. Norton & Co.

Easterly W. (2001) “The elusive quest for growth”, MIT Press.

Feldstein M. (2017) “Piketty’s numbers don’t add up”, in “Anti-Piketty capital for the 21st century”, Edited by Delsol J.P., N. Lecaussin and E. Martin, CATO institute, Washington, DC.

Furman J. and P. Orszag (2018) “A Firm-Level Perspective on the Role of Rents in the Rise in Inequality” in “Toward a Just Society: Joseph Stiglitz and Twenty-First Century Economics”. Ed. Martin Guzman. Columbia University Press, 2018.

Goes C. (2016) “Testing Piketty’s Hypothesis on the Drivers of Income Inequality: Evidence from Panel VARs with Heterogeneous Dynamics”, Working Paper WP/16/160, FMI, August.

Grusky D. B. and C. Wimer (2010) “Is There Too Much Inequality?”, Stanford Center for the Study of Poverty and Inequality.

International Labour Organization (2018) “New business models for inclusive growth”, Issue brief prepared for the 2nd Meeting of the Global Commission on the Future of Work, 15–17 February.

Ithurbide Ph. (2020) “Inequality: what is at stake - Booklet 1 - Inequality and poverty: ongoing challenges”, Amundi Discussion Paper (forthcoming)

Ithurbide Ph. (2020) “Inequality: what is at stake - Booklet 2 - Pro-Piketty and Anti-Piketty: A brief overview of the debate”, Amundi Discussion Paper (forthcoming)

Ithurbide Ph. (2020) “Inequality: what is at stake - Booklet 3 - Inequality in corporations: gender balance and executive pay”, Amundi Discussion Paper (forthcoming)

Krugman P. (2014) “ Why we’re in a new gilded age ”, The New York Review of Books, New York Times, May 8.

Lecaussin N. (2017) “The sociology of Piketty’s anti-rich stance”, in “Anti-Piketty capital for the 21st century”, Edited by Delsol J.P., N. Lecaussin and E. Martin, CATO institute, Washington, DC.

Maillard D. (2016) “ Les inégalités justes ” Commentaire, numéro 154.

McCloskey D.N. (2014) “Measured, Unmeasured, Mismeasured, and Unjustified Pessimism: A Review Essay of Thomas Piketty’s Capital in the 21st Century” Erasmus Journal for Philosophy and Economics 7 (2): 73–115

McKinsey Global Institute (2016) “Poorer than their parents? Flat or falling incomes in advanced economies”, July.

McKinsey Global Institute (2019) “Inequality: A persisting challenge and its implications”, Discussion Paper, June.

Milanovic B. (2005) “Worlds apart. Measuring International and Global Inequality”, Princeton / Oxford.

Milanovic B. (2015) “Global inequality of opportunity: how much of our income is determined by where we live”, Review of Economics and Statistics”, vol. 97, n° 2, pp. 452-460.

Peterson E. W. (2017) “Is inequality really a problem? Review of the arguments”, University of Nebraska – Lincoln, Faculty Publications: Agricultural Economics. 170.

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Facundo A., L. Chancel, T. Piketty, E. Saez and G. Zucman (2018) “World Inequality Report”, World Inequality Lab.


BIBLIOGRAPHY

Lakner C. and B. Milanovic (2015) “Global Income Distribution: From the Fall of the Berlin Wall to the Great Recession”, The World Bank Economic Review, pp.1-30. August.

Milanovic B. (2016) “Global inequality: A New Approach for the Age of Globalisation”, Harvard University Press.

Milanovic B. (2019) “Capitalism, Alone: The Future of the System That Rules the World”, Harvard University Press.

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CONCLUSION: ASSET MANAGEMENT: THE CHALLENGES OF CONTINUOUS ADAPTATION

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Bennani L., T. Le Guenedal, F. Lepetit, T. Roncalli, T. Sekine, L. Lai and V. Mortier (2018) “How ESG Investing Has Impacted the Asset Pricing in the Equity Market”, Amundi Discussion Papers Series, DP 36-2018, December.

Ben Slimane M., T. Le Guenedal, T. Roncalli, T. Sekine and E. Brard (2020) “ESG Investing and Fixed Income: It’s Time to Cross the Rubicon”, Amundi Discussion Papers Series, DP 45-2020, January.

Drei A., T. Le Guenedal, F. Lepetit, T. Roncalli, T. Sekine and V. Mortier (2019) “ESG investing in recent years: new insights from old challenges”, Amundi Discussion Papers Series, DP 42-2019, December.

Ithurbide Ph. (2016) “Low/negative interest rate environment, secular stagnation... implications for asset management ”, Amundi Discussion Papers Series DP 15-2016, April.

Ithurbide Ph. (2017) “Megatrends and Disruptions”, Amundi Discussion Papers Series, DP 28-2017, November, 62 pages.

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Philippe Ithurbide joined Amundi Asset Management as global head of Research, Analysis and Strategy in July 2010 and is at present senior economic advisor (since November 2019).Philippe Ithurbide has worked at “Caisse de Dépôt et Place-ment du Québec” (Montréal). A member of the Executive Committee and of the asset allocation committee, he was Executive Vice President in charge of fixed income, currency and credit portfolios, and of multi-asset class overlay strategy. He previously worked for Société Générale Corporate and Investment Bank as Head of Research in foreign exchange, fixed income and commodities. Member of the board of SG’s pension fund, he was in charge of asset allocation.Philippe Ithurbide started his career as teacher/researcher. For more than 20 years he taught at several universities, in Bordeaux in particular, and at HEC Paris… He also gave lectures in Spain, in Colombia, in the US... He published theoretical papers on international finance and books such as “The economic status of gold”(Eyrolles Ed.), or “French firms and foreign exchange risk: dollar versus EMS” (Economica Ed.). He also gives lectures at Dauphine University and CNAM.”Philippe Ithurbide holds a PhD in International Economics and Finance from the University of Bordeaux.He is, amongst other activities, member of the board of “OEE”, (L’Obervatoire de l’Epargne Européenne), an institu-tion monitoring the European Savings, and in charge of the Asset Management working group at Finance Innovation, (Paris-Europlace), which published (February 2015) a book entitled “L’innovation au centre des mutations de la ges-tion d’actifs” (Innovation at the center of asset management industry transformations). He is the chief editor of Amundi Discussion Papers and Amundi Working Papers series.

PHILIPPE ITHURBIDE Senior Economic Advisor at Amundi

AUTHOR’S BIOGRAPHY


Job titles at the time of participation in the Amundi World Investment Forum.

AHMADI VafaCIIA, Managing Director, Head of Global Thematic Equities at CPR-AM

ASHTON CatherineFormer EU High Representative for foreign and security policy / Vice President of commission

BAUDSON ValerieCEO of CPR AM and of the ETF, Indexing and Smart Beta Business Line at Amundi

BERNANKE BenFormer Chairman, US Federal Reserve

BERTIAU LaurentDeputy Head Institutional and Corporate Clients Division, Amundi

BILLING MagnusCEO, Alecta

BLANCHARD Olivier J. Former advisor and Chief Economist of the International Monetary Fund

BLANQUÉ PascalGroup Chief Investment Officer, Amundi

BOURQUI ElisabethHead of Pension Management at ABB Group

BREEDEN DouglasManaging Director and Senior Research Consultant, Amundi Smith Breeden

CHOI HeenamChairman & CEO, Korea Investment Corporation

COEURÉ BenoîtExecutive Board of the European Central Bank (2012-2019)

COHEN DanielProfessor Ecole Normale Supérieure, Director of CEPREMAP (Centre Pour la Recherche EconoMique et ses APplications)

DEATON AngusNobel Prize in Economic Sciences 2015, Professor of Economics and International Affairs Emeritus at the Woodrow Wilson School of Public and International Affairs, Economics Department at Princeton University

DESCREUX BernardHead of Asset Management at EDF S.A.

FAYOLLE Ambroise Vice-President, European Investment Bank

FELDSTEIN MartinProfessor of Economics at Harvard University

FISHER JoschkaFormer Vice Chancellor and Foreign Minister, Germany

FRASER SimonFormer Permanent Secretary at the Foreign and Commonwealth - Amundi Global Advisory Board member


AWIF KEYNOTES SPEAKERS AND PANELISTS


FUKUYAMA FrancisSenior Fellow, Freeman Spogli Institute for International Studies, Stanford University Amundi Global Advisory Board member

GABRIEL Sigmar Former Minister for Foreign Affairs, Germany 2017-18

GHOSN Carlos Chairman and CEO of Groupe Renault, Chairman & CEO Renault – Nissan – Mitsubishi Alliance

GORDON Robert Stanley G. Harris Professor in the Social Sciences, Northwerstern University - Bloomberg’s Fifty Most Influential Thinkers 2016

HUISMAN Roel Chief Retail Banking Officer at TMB Bank PLC Thailand

IBBOTSON Roger Professor Emeritus in the Practice of Finance, Yale School of Management, Chairman & CIO, Zebra Capital Management

ISSING Otmar Former Chief Economist and Member of the Board, European Central Bank

ITHURBIDE Philippe Global Head of Resarch, Amundi

JAENSUBHAKIJ Jeffrey Group CIO at GIC

JERFEL Fathi Global Head Retail Clients Division, Amundi

JONSON Liza CEO, Swedbank Robur

JOUZEL Jean Glaciologist and climatologist, and former vice-chair of the Scientific Working Group of the Intergovernmental Panel on Climate Change (IPCC), Amundi Medici Committee

KAHNEMAN Daniel Nobel Prize in Economic Sciences 2002, professor emeritus of psychology and public affairs at Princeton University's Woodrow Wilson School

KERRY JOHN 68th Secretary of State of the United States (2013 - 2017)

KUMAR KHARA Dinesh Managing Director, State Bank of India

KING Mervin Former Governor of the Bank of England

KOCHER Isabelle CEO, Engie Group

KOO Richard Chief Economist, Nomura Research Institute

KRUGMAN Paul Nobel Prize in Economic Sciences 2008, Professor of Economics at the Graduate Center of the City University of New York




KUPFERSCHMID-ROJAS Rina Head of Sustainable Finance, UBS & Society

LETTA Enrico Former Prime Minister of Italy (2013-2014), Amundi Senior Advisor - Amundi Global Advisory Board member

LIPSKY John IMF Deputy Managing Director, 2006-2011

LIQUN Jin Chairman of China International Capital Corporation - CICC (2013-2014), President of the Asian Infrastructure Investment Bank AIIB since 2016

MAHBUBANI Kishore Former Diplomat - Professor in the Practice of Policy National University of Singapore

MARTELLINI Lionel Professor of Finance at EDHEC Business School and Director of EDHEC-Risk Institute

MILLS Philippe Former Chief Executive, Agence France Trésor (2008-2013)

MORTIER Vincent Deputy Chief Investment Officer at Amundi

MUSCA Xavier Chairman of the Board of Directors at Amundi, Deputy CEO of Crédit Agricole S.A.

NORDHAUS WilliamNobel Prize in Economic Sciences 2018, Professor of Economics, Yale University

PHEE Jansen Head of IPS content management APAC, UBS

POUYANNE Patrick CEO of Total, Amundi Medici Committee

REINHART Carmen Minos A. Zombanakis Professor of the International Financial System, Harvard Kennedy School, Former Senior Policy Advisor and Deputy Director at the International Monetary Fund

RIFKIN Jeremy Economist and President of the Foundation on Economic Trends

RODRIK Dani Economist, Ford Foundation Professor of International Political Economy, Harvard Kennedy School

ROGERS Jim International Investor

ROGOFF Kenneth Thomas D. Cabot Professor of Public Policy and Professor of Economics at Harvard University & former Chief Economist at the International Monetary Fund

ROUBINI Nouriel Professor of Economics at New York University’s Stern School of Business

SARGENT Thomas Nobel Prize in Economic Sciences 2011, Professor at New York University

SHILLER Robert Nobel Prize in Economic Sciences 2013, Professor of Economics at Yale University, fellow at the Yale School of Management's International Center for Finance




SIEGEL Jeremy Russell E. Palmer Professor of Finance at the Wharton School of the University of Pennsylvania

STARK Jürgen Former Member of the Executive Board and the Governing Council of the European Central Bank - Amundi Global Advisory Board member

STERN OF BRENTFORD Nicholas Former Chief Economist, World Bank; Former Adviser to the UK Government on the Economics of Climate Change and Development

STIGLITZ Joseph Nobel Prize in Economic Sciences 2001, University Professor, Columbia University

STROBAEK Michael Global Chief Investment Officer and Head of Investment Solutions & Products, Credit Suisse

SUMMERS Lawrence H.Former Secretary of Treasury of the United States and President Emeritus at Harvard University

TALEB Nassim Nicholas Essayist, scholar, statistician, and former option trader and risk analys

TARDITI Alison CIO, Australia Commonwealth Superannuation Corporation

THALER Richard Nobel Prize in Economic Sciences 2017, Professor of Behavioral Science & Economics, University of Chicago Graduate School of Business

TIROLE Jean Nobel Prize in Economic Sciences 2014 - Chairman of the Foundation JJ Laffont-Toulouse School of Economics

VALLA Natacha Deputy Director-General of Monetary Policy, European Central Bank

VEDRINE Hubert Former Minister of Foreign Affairs, France - Amundi Global Advisory Board member

VICEIRA Luis George E. Bates Professor, Senior Associate Dean for Executive Education, Harvard Business School

VILLEROY DE GALHAU FrancoisGovernor, Banque de France

VOLCKER PaulFormer Chairman of the Federal Reserve (1979-1987)

WOOD DavidAdjunct Lecturer in Public Policy, Director of the Initiative for Responsible Investment (IRI), Harvard Kennedy School

YELLEN JanetChair, Board of Governors, Federal Reserve System (2014-2018)

ZINSOU LionelEconomist, Former Prime Minister of the Republic of Benin (2015-2016), Founder & Managing Partner, Southbridge




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ABOUT AMUNDI

Amundi, the leading European asset manager, ranking among the top 10 global players1, offers its 100 million clients - retail, institutional and corporate - a complete range of savings and investment solutions in active and passive management, in traditional or real assets.

With its six international investment hubs2, financial and extra-financial research capabilities and long-standing commitment to responsible investment, Amundi is a key player in the asset management landscape.

Amundi clients benefit from the expertise and advice of 4,500 employees in nearly 40 countries. Created in 2010 and listed on the stock exchange in 2015, Amundi currently manages nearly €1.6 trillion of assets3.

Amundi, a Trusted Partner, working every day in the interest of its clients and society

1. Source: IPE “Top 500 Asset Managers” published in June 2020, based on assets under management as at 31/12/20192. Boston, Dublin, London, Milan, Paris and Tokyo3. Amundi data as at 30/06/2020

Amundi Asset Management, French “Société par Actions Simplifiée” - SAS with a capital of €1,086,262,605 - Portfolio management company approved by the French Financial Markets Authority (Autorité des Marchés Financiers) under no.GP 04000036.Registered office: 90, boulevard Pasteur, 75015 Paris - France - 437 574 452 RCS Paris

www.amundi.com


Documents

AMUNDI 10-YEAR