06/01/2012 06:16 GMT

Economies Face 'Black Swan' Risk, Think Tank Says

Governments and businesses are unprepared for "high impact, low probability" (HILP) events, such as earthquakes, tsunamis and volcanic eruptions, according to a new report by Chatham House.

Drawing lessons from the Eyjafjallajökull volcanic eruption, which spread an ash cloud across Europe, disrupting flights, the think tank warned that the globalisation of supply chains and the economic linkages between countries means that crises have effects that branch out around the world, and are often not fully built into normal risk management models.

"What we have found in this research is that because of the interconnected nature of the global economy, the impacts of most disasters no longer remain local," Bernice Lee, research director for energy, environment and resources governance at Chatham House, said in a recorded discussion accompanying the release.

"That means that any disruption in major production hubs, in major transport hubs, would have spillover effects across the world."

So-called "black swan" events, have had devastating economic effects in recent years. The Japanese tsunami in 2010 cost Japan up to 10% of its capital stock, the report noted, while the 2003 Sars outbreak in Asia cost businesses $60bn.

Global manufacturing businesses, such as carmakers and computer hardware companies, have seen their supply chains disrupted first by the tsunami in Japan, and then by floods in Thailand, as factories were forced to halt production.

Currently, contingency planning across government and business is weak, and often assumes a rapid return to normal conditions, the report said. Recent experience suggests that the direct and indirect effects of crises tend to be more long lasting and more unpredictable, the report said.

While governments and many businesses are currently cash-poor and running operations that are as lean as possible, they may struggle to justify the additional capital expenditure of preparing for events that are, by their nature, low probability.

"Cash is always scarce. What we find is that if you don't prepare for these low probability, worst case scenarios, they can come back to haunt you," Lee said.

"Look at what happened in Japan last year, the sea walls were built to withstand tsunami, but they weren't built for the worst case scenario. The devastation that ensued is a living example of why it is important for us to prepare for these worst cases, even though it may seem as though you are spending more money up front."