The time has come to place the Newday Impact branding on the monthly commentary.
Country Ranking Trends
Part of our research involves updating conditions from the past. Here is an example.
During 2016 thieves stole $81 million from Bangladesh and laundered the money through Philippine casinos. The thieves exploited well-known weaknesses in the governance of the Philippines. As part of our follow up, Newday Impact updated its assessment of the relevant components of the country’s governance. Banking supervision has improved but market integrity has deteriorated instead of getting better. Overall, the score for the Philippines increased by a small amount, though the upgrade was not sufficient to change the country’s rank among the investible countries of the world.
Will Germany’s Much-Needed Optimistic Scenario Happen?
The German parliament is debating a draft law on financial regulation aimed at addressing shortcomings that came to light following last year’s collapse of the electronic payments company, Wirecard. The company filed for insolvency in June after disclosing that €1.9bn of its reported corporate cash did not exist. The sudden demise has led to multiple investigations into the company, its auditor (Ernst & Young), and regulatory oversight across a decade. Wirecard had received multiple unqualified audits going back to 2008, but a recent parliamentary investigation found numerous shortcomings in those audits.
The proposed law would enhance auditor independence by limiting a firm’s ability to sell consulting services to auditing clients. The law also would change the rules for auditor liability, with firms and individual auditors facing potential unlimited liability in cases of gross negligence. Under the proposed legislation, the regulator, BaFin, would also be given more powers to launch investigations into suspected accounting fraud. Some, however, have expressed concern about the impact on smaller auditing firms where adapting to the proposed new laws would be more difficult. An unintended consequence of the changes could be gains by the already-dominant Big Four auditing firms.
Implications: Depending on whether auditing reforms are implemented, as well as the specifics of the reforms, Germany could receive an upgrade in the area with its weakest score. Meaningful improvement to German auditing could move the country from sixth to first place, ahead of Canada.
When combined with the upcoming German elections, the reforms may be an interesting inflection point. The optimistic, and preferred, scenario is a clear winning party with a strong position, not necessarily a majority but a commanding plurality. This would allow Germany to reassume leadership in moving the EU forward in addressing its existential issues. The proposed auditing reforms would strengthen governance and help provide confidence to German citizens as well as the investing community beyond its borders, a confidence that the country retains good economic and investment opportunities.
The pessimistic scenario is a muddled election with a new leader lacking the strength and authority of Angela Merkel. Germany struggles to manage its issues and does not have the capacity to lead the EU through required changes. Further, a lack of meaningful auditing reforms could breed a cynicism similar to that felt here in the aftermath of this century’s Great Financial Crisis.
Reform in Russia is Unlikely to Happen
The Biden administration has announced a series of new sanctions and diplomatic expulsions as retaliation for Russia’s recent malicious activities. The administration blamed the Russian Foreign Intelligence Service (SVR) for the massive SolarWinds hacking attack. In the attack, hackers gained access to networks, systems and data by infecting network management software installed in thousands of American government entities and private firms. While such intelligence gathering operations are not uncommon, the Biden administration argued that a response was necessary because of the broad scope and high cost of the intrusion on private companies.
Sanctions were placed on 32 Russian entities and individuals for carrying out Moscow’s interference in the 2020 presidential election. Ten diplomats, believed to be intelligence officers, were also expelled from the Russian Embassy in Washington. The sanctions included tighter restrictions on American banks’ ability to hold Russian government debt. Starting on June 14, the banks will be barred from purchasing any newly issued Russian government ruble-denominated bonds. Since 2019 U.S. banks have been barred from participation in the primary market for non-ruble sovereign bonds. Given comments by administration officials about seen and unseen responses, covert actions likely will be used as well.
Implications: The deteriorating U.S.-Russia relationship is part of a complex situation for Russia. Its economy is dependent on exporting commodities where weak prices hurt the balance of payments, contributing to economic weakness. Russian President Vladimir Putin pursues military adventures in an attempt to make his nation look like a superpower. The cost of these adventures is significant. The many challenges Putin faces crowd out any opportunity for reforming the weak governance in Russia. Given that Putin and his colleagues profit from the corruption made possible by this weak governance, it is not clear how concerned Putin is with the distractions preventing much needed reforms.
India Provides Perfect Environment for COVID Catastrophe
India is in the grip of a tremendous second coronavirus wave, recently setting a global one-day record of more than 300,000 new infections. The surge highlights the precarious state of the world since the global pandemic began more than a year ago. Following a harsh, months-long nationwide lockdown, India appeared to have been successful in its battle against the virus. Infection numbers began to fall in September, to a low of about 11,000 new cases a day, compared with the previous peak of nearly 100,000. A sense that the country had triumphed over the virus led to complacency, and cases began to rise again in mid-February. Restrictions on large gatherings had been lifted and Hindu festivals and political rallies for local elections went forward, with millions of people, people not wearing masks, gathering closely together. India is a major vaccine producer, but so far only a tiny fraction of the Indian population has been vaccinated. They are trying to ramp up inoculations, with all adults eligible May 1. However, even with a moratorium on vaccine exports, supply shortages persist. At current vaccination rates it is estimated it will be the end of 2022 before 70% of their population is fully vaccinated.
Implications: Along with weak governance, India has a weak healthcare system. That system is overloaded to the point where people are dying in and around hospitals due to a lack of resources. Losing control of infections in a country with more than a billion people is a mammoth logistical challenge. The situation likely will worsen before it gets better.
Prime Minister Narendra Modi will need to focus on the growing COVID crisis. It will be tougher for him to pursue the diplomatic opening with Pakistan, much less reforms required to improve the country’s governance.
Is “Groundhog Day” in Israel Approaching an End?
At the end of March Israel held its fourth election in two years. It ended in the same way as the previous three: with a stalemate where there is neither a clear parliamentary majority nor a clear path to a sustainable governing coalition. Prime Minister Benjamin Netanyahu’s Likud party again had the largest number of seats; the Israeli president, Reuben Rivlin, gave Netanyahu the first chance at forming a government. The opposition to Netanyahu is significant, due to issues related to his leadership along with corruption charges pending against him. This results in leaders of other political parties unwilling to join any coalition with him.
The United Arab List, known by its Hebrew acronym Ra’am, flirted with joining Netanyahu’s coalition. The addition of Ra’am could have been enough achieve a majority (61) in the Knesset when combined with other members of Netanyahu’s coalition. However, other far-right religious parties, whose support Netanyahu also would need, said they would not stay in a coalition that relies on cooperation with Arab Israeli parties. Hope for any cooperation between Likud and Ra’am was further diminished when Ra’am voted against Netanyahu’s bloc in a key Knesset vote. This gave anti-Netanyahu forces a majority on the committee that has interim control of the legislative agenda in the new parliament while a new government is formed.
Netanyahu and his supporters have suggested holding a special election next month to directly elect the next prime minister. Unfortunately for Netanyahu, when his bloc lost control of the legislative agenda, his opponents gained the political power to stop such a move. Netanyahu’s mandate to form a government ends May 4th, and it is unlikely he will manage to form a government in time. There now are rumors that Naftali Bennett, head of the New Right party (Yamina), might defect from Netanyahu’s coalition to form a unity government with Yair Lapid of the center-left Future (Yesh Atid) party. Assuming Netanyahu is unable to complete a miracle and form a government, on May 4th Rivlin will ask Yesh Atid to form a government. At that time, we will see whether the unity government can be formed.
Implications: Netanyahu faces indictment as soon as he leaves office, thus making him desperate. The fragmented parliamentary system in Israel, when combined with the reluctance of Arab Israelis to join Jewish parties in a government coalition, makes the formation of a government complex under the best of circumstances. The four successive votes have resulted in similar outcomes. Will a unity government be formed, or will there be a fifth election?
As mentioned in previous commentaries, Israel retains a relatively low country governance score when compared to other countries in the developed markets. Reforms to improve governance during a time without a functioning government are unlikely.