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Strategy

‘Dismal science’: economic projections are unreliable. Build resilience to future-proof your business

Published 14 February 2023 in Strategy • 5 min read

Better-than-expected economic data has raised hopes the world economy will avoid recession this year, but risks abound. To offset these risks, company bosses should be building resilience — my management trend of 2023 — into their operations and finance.

Is the global economy at a turning point? It depends on who you ask. The IMF has upgraded its forecasts to reflect the opening up of the Chinese economy and falling European energy prices. It now expects the global economy to expand 3.2% through 2023, a big improvement on last year. “We are well away from any global recession,” Pierre-Olivier Gourinchas, IMF chief economist, said.

But there is little sign of a consensus, with the World Bank warning the economy is fragile and could grow by just 1.7% this year. “The world’s economy is on a razor’s edge and could easily fall into recession if financial conditions tighten,” said Ayhan Kose, a World Bank economist.

For business leaders, these sharply contrasting views highlight the unreliability of economic forecasts, known as the “dismal science”. Oracles such as the Washington-based IMF and World Bank have a patchy record, especially during the pandemic which caused huge gyrations in GDP.

The year ahead is a wild card; everything is possible. Meta’s chief executive Mark Zuckerberg has called 2023 the “year of efficiency” as he grapples with the economic slowdown and makes big headcount reductions. But my watchword for 2023 is different: in my view, resilience is the management theme to watch.

In an uncertain world, business leaders should be finding ways to guard against future disruptions, which cannot be predicted.   

To be sure, there are reasons for optimism. Financial markets have rallied in recent weeks around expectations that central banks are near the end of their interest rate-raising cycles. The Fed has adopted a more dovish tone, signaling the US was winning its battle against inflation as it shifted to a slower pace of monetary tightening. Eurozone headline inflation has also fallen more than expected, though core inflation remains high.

For all the positive signals, business leaders should beware of complacency. There are still several risks still to contend with, from the pandemic in China to the energy crisis to war in Ukraine and geopolitical tensions – exemplified most recently by the US’s decision to shoot down a Chinese spy balloon that traversed American airspace, in a blow to efforts to stabilize relations between the world’s two largest economies.

No one can predict the future, so company bosses need to cope with being somewhat ignorant. But there are steps they can take today to help their organization deal more effectively with the unknown.  

Centralize decision making

In my IMD programs, I call this a “crisis management mindset”, or having the right culture, processes, and structures in place to react quickly and neutralize threats. There are several apparently remote possibilities in the medium term, from a conflict between the US and China over Taiwan, to Russia using nuclear weapons in Ukraine, to a big corporate default in the West.   

For corporate executives, there are three components to a culture, management structure and financial position that will enable their organization to prepare for more turbulence.

The first part of the equation is having centralized – as opposed to decentralized – decision making to improve responsiveness in times of turmoil. The response is more coordinated and agile, and there are fewer inconsistencies because the decision is the same across the company.

In a crisis, put company values up front

The second component is having clear values which, in the absence of a strategy, can be your “North Star”. In a crisis, the situation will be changing daily, if not hourly, meaning that pre-existing strategies are often made redundant. Consider how the pandemic upended retail and many other sectors, causing mass store closures and snarling global supply chains.

Without a strategy, it falls to your company’s core values to guide you through decisions, particularly difficult ones. When an Icelandic volcano eruption in 2010 shut down flights, stranding millions of passengers, companies which put their customers first dealt with it better. The added benefit is that values help all members of the organization to work together as a team, which can be pivotal in a company’s long-term survival. In a crisis, values are more valuable than ever.    

Cash (flow) is king in a recession

As well as clear, uncompromising values and centralized power structures, the third component of building a truly resilient organization is a healthy financial position. With interest rates and inflation going up and consumer spending slowing down, many companies are likely to experience cash flow problems as the era of cheap money ends, customers tighten their belts, and operating costs soar.

The importance of effective and efficient cash flow management, the lifeblood of any business, has therefore increased. The CFOs I work with are placing a sharper emphasis on their cash flow and working capital management. But this does not mean simply building larger piles of cash and hoarding it for a rainy day; it means preserving the ability to generate cash in a sustainable way. This could entail, for example, renegotiating your financial conditions and striking better terms with suppliers.  

Firms also need to put their cash pile to work, particularly with inflation so high, or risk it being eroded in real terms. So, strategic investment for the longer term should be a priority, whether that means purchasing a supplier or another business, as long as the company does not overextend itself. Energy groups are facing this dilemma, having made record profits last year after oil and gas prices soared following Russia’s invasion of Ukraine – giving them surplus organic free cash flow, even as governments levied windfall taxes on their profits.

Many companies are clearly grappling with specific macroeconomic challenges and opportunities. But to improve their ability to build resilience into their operations, and prepare better for external shocks that can carry huge negative impact, they must focus on their cash position and put the right processes and culture in place to be more agile and responsive. Above all, they should take economic projections with a pinch of salt.

Authors

Arturo Bris - IMD Professor

Arturo Bris

Professor of Finance at IMD

Arturo Bris is Professor of Finance at IMD. Since January 2014, he has led the world-renowned IMD World Competitiveness Center. At IMD, Bris directs the Strategic Finance and Navigating Fintech Innovation and Disruption programs. He also previously directed the flagship Advanced Strategic Management program between 2009 and 2013.

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