Steve Odland: [00:00:00] Welcome to C-Suite Perspectives, a signature series by The Conference Board. I'm Steve Odland from The Conference Board and the host of this podcast series, and in today's conversation we're going to talk about El Niño. How does this weather phenomenon impact enterprise risk management, supply chain resilience, and strategic planning? Lots going on here.

And to join me to answer these questions is Dr. Alex Heil, our senior economist at The Conference Board. Alex, welcome.

Alex Heil: Thanks for having me, Steve. Happy to be here.

Steve Odland: So Alex, the articles that people are publishing on this are pretty scary here. They're talking about once-in-a-lifetime kind of super El Niño. But help us first with what is an El Niño versus a La Niña and all of that.

Alex Heil: That's a good question. I think to set the stage, let me just comment on this the overall phenomenon which is affecting climate and weather conditions on a recurring, regular basis.

The full [00:01:00] name is the El Niño Southern Oscillation, ENSO, and that basically describes a pattern by which El Niño, the warm phase, switches with the cool phase, La Niña, and having a neutral sort of transitional phase in between. And that can happen anywhere between every two to seven years. It depends on the length of the cycle and the frequency is a little variable.

And then an El Niño, the warm phase is essentially anywhere between 12 and 18 months in duration and it was just called in early July. So the measurement then is of the waters in the Eastern Pacific Ocean, and once they are above their sort of longer-term average level, half a degree centigrade or thereabouts, then officially the El Niño phase has begun.

And that's what everybody's [00:02:00] writing about. We're basically now two weeks into it.

Steve Odland: So this is a regular cycle on both of these. It's driven by the ocean currents, right? The warmth of the ocean then in turn affects the warmth of the air and the atmosphere. Is that a good summary?

Alex Heil: Yeah. It's actually caused by the winds. So usually these trade winds, they blow from the east to the west across the Pacific. Those winds in these El Niño pattern, they slow or they reverse completely. And as a result of that, the warm water no longer gets pushed across the Pacific Ocean from the coast of South America over to Asia but stays around along that in sort of a very large blob of warm water at the coast of South America, Middle America.

And that warmer-than-average water-- which usually would be replaced with cooler water from depth of the [00:03:00] ocean, but that doesn't happen in those years-- is then the factor that causes all these variations and phenomenon in terms of weather all over the planet.

Steve Odland: It moves things, you're right, all over. It affects it all over the place. They're normal oscillations but they're calling this one a super El Niño. I've never heard anyone call any of the past El Niños that. So what's so super about this one?

Alex Heil: I think scientists are currently expecting the impacts to be more significant than in a normal year. Several of the reference years go back -- I believe it was the '97, '98, so that's about 30 years ago or something like that. That was a very strong El Niño year and I think the expectation is now that this is even going to be more pronounced weather changes.

That's in part because the overall temperature of the planet [00:04:00] has risen, and so if you overlay these El Niño effects, it makes for greater impact, essentially. But it's hard to forecast this as exactly what's going to happen. The strongest part of the El Niño is expected to be towards the end of this year and into next year.

Let's say anywhere between November and January. So we're really just at the early stages and some of these models that try to, you know, just play out what some of these conditions might be. They suggest based on the data that have been fed in that this might be an extraordinarily strong year, hence the name.

Steve Odland: Hence the name. And that's because the temperature, the warmth of the ocean is expected to be warmer than the normal El Niño year, right?

Alex Heil: Yes. The Eastern Pacific is going to be much warmer than in normal years. For you and me, we wouldn't consider it significant warming if it's two, [00:05:00] two and a half degree centigrade.

But for these kind of climate and weather phenomenon, those are huge changes. So all of a sudden that means that with warmer temperatures, warmer air holds more moisture, has larger impacts on rainfall, on precipitation. And I think it's important to recognize that this is not just a localized weather phenomenon, right?

This is not just something that if you happen to be located in that part of the world it's going to affect you, but it's something that is literally going to travel the globe.

Steve Odland: Yeah, and as you said, 12 to 18 months just started this month, so we're at the very beginning of it. People are going, "Oh we're into it. What's the big deal?" We're not really into it yet but it's coming. So what's coming?

Alex Heil: It's really a variety of different effects and it can take all kinds of different shapes or forms. Depending on where you are on the planet, it might be that there's heavier [00:06:00] rain, there's flooding, there's landslides as a result of this.

There might also be, in some parts of the world, drier conditions. Some of the rains that local residents are expecting, they might be missed or they might be much less in quantity.

For instance, we've written a lot about the American Southwest and the water problems there. Some indication, if this follows prior patterns, that we might actually have wetter conditions in the Southwest of the US, which would be good because of the drought conditions. Generally, we can't really say this will affect different parts of the world, in many cases either by making it drier or making it wetter. It will also potentially soften some of the hurricane conditions in the Atlantic Ocean, so that season is expected to be much milder, fewer storms than what we would find in an average year.

There are some parts of the world that will probably see very few impacts. [00:07:00] Europe, in particular, is a part of the world where El Niño effects by themselves are probably going to be not as pronounced.

But anybody who's been to Europe lately knows that they have a lot to do with the current ongoing heatwave, which is unrelated to this, but certainly, extreme weather events, they're not strangers to. But at the same time, if we're just isolating the El Niño effects, then we'll probably see much less of that in Europe.

However, we're going to see throughout Asia, India Australia, we're going to see severe weather impacts but the exact nature of those will vary depending on where we are.

Steve Odland: So the deserts are not going to turn into rainforests or vice versa based on this effect. But as you're saying, it's either going to be wetter or drier depending on the effect and it can be warmer or cooler based on this effect.

And so once again, you stand back and you go, "All right, so it'll rain in the Southwest. What's the big deal?" And the answer [00:08:00] to that is the delta or the change from what is normal and the infrastructure is set up to handle a certain amount of water and all of that stuff. It can have severe impact, right?

Alex Heil: Absolutely. It's all about volatility. If we're talking about what analysts, what forecasters, what professionals in the business world expect their operating environment from that environmental perspective to be like, it is likely to be the case that those conditions are not going to be as predictable.

They're going to be more volatile, where there's an expectation of severe rain already that might be worsened because of these conditions. And then we're running to these problems of what does this mean for flooding, for water surges, and what they do to infrastructure as well as housing and buildings, any other structures.

So it's generally the takeaway really should be that you have to prepare for greater volatility and for a greater likelihood for [00:09:00] extreme weather events.

Steve Odland: Now, Alex, you're not a meteorologist or a weather person. You're a business economist and a very good business economist. But you're looking at this and you've recently written a paper on this, which our listeners can find at our website, tcb.org, and look under the Economy, Strategy & Finance Center for Alex's paper. But you've written on this because of the potential economic impact.

Alex Heil: Absolutely. We can, on the one hand, talk about these weather effects but that's insufficient. You really need to think about this, what this means from a business and from an economic perspective.

Just to give a sense of the overall level of magnitude here. 30 years ago-- the El Niño in '97, '98-- studies have been done on what the total economic impact has been in terms of damages to crops, in terms of business disruption, in terms of infrastructure costs, and so forth. And that number was estimated at, [00:10:00] I believe, $5.7 trillion globally.

Now, obviously, it's hard to put a specific dollar amount on an event like that, but if we're just considering the overall scale and we're also assuming that this year is going to be stronger than what we had 30 years ago in comparison, then this is going to be a very meaningful event just from an economic cost perspective.

Steve Odland: Did you say $5.7 trillion with a T?

Alex Heil: Yes. With a T.

Steve Odland: And that's the last time. So that's real. That's already happened. And your point is, could be worse.

Alex Heil: It could be worse. A lot of these impacts, for instance, they may not be anticipated, at least, in sort of a first approximation. In the past, and I think we have talked about this as well, for instance, the disruption that can come at the Panama Canal as a result of the level of water in Lake Gatun, the water body that doesn't only serve Panama City when it comes to drinking water but also the [00:11:00] operation of the series of locks that allows vessels to pass from one ocean to the other through the Panama Canal.

So a worse-than-anticipated drought is going to lower water levels in the lake, and as a result of that, it's going to make operating the canal more difficult. It's going to create greater disruption and it's going to really create another bottleneck. And we're talking a lot about bottlenecks to trade these days and resources, but that's going to worsen the bottleneck that in some years has already existed at the Panama Canal.

And it's not something that people in the past have necessarily done, you know, planning for all the time, certainly, outside of that industry, but it's something that might be real this year.

Steve Odland: And you've talked about this in the past, that they have increasingly turned shipping over to these giant super cargo ships, which leave very little room on either side of the canal. And any variation at all can really sideline those [00:12:00] ships. And then you end up having to go around the southern tip of South America. That's not what all these cycles are geared toward.

Alex Heil: Yeah, no, that's very true. I think that we have these impacts that are going to be felt in various industries. Logistics and transportation is certainly one. We can explore some of these further but also certainly heavy impact is expected on agriculture. You can really think about any business and how that business interfaces with markets, either on the consumer side, on the resource side, on the labor side.

And you can see how some of the extreme weather events as a result of a stronger-than-expected El Niño year, how those are going to affect businesses, really in all sectors of the economy and throughout the world.

Steve Odland: We're talking about the current beginnings of the super El Niño. We're going to take a short break and be right back.

Welcome back [00:13:00] to C-Suite Perspectives. I'm your host, Steve Odland from The Conference Board, and I'm joined today by Dr. Alex Heil, our senior economist at The Conference Board.

Okay, so, Alex. We talked about what's an El Niño, what's a La Niña, why is this different. Essentially, it looks like it's going to be a big deal. And you've written a paper which, again, for our listeners, can be found at tcb.org, and look under the Economy, Strategy & Finance Center for this paper.

But Alex, this isn't just a weather event, with maybe a little more rain here and there. It's going to be a business event and it's something that our listeners should start thinking about. Talk about what can happen here.

Alex Heil: Yeah. In our paper, in our research, what we really tried to do was to look at the different sectors of an economy and how those would be affected. If you want to just layer this, we have supply chain effects. And depending on where a business procures materials and then ships [00:14:00] products, disruptions to anything on the transportation and logistics side can be severe.

This may include agricultural commodities-- crops like grains, coffee, cocoa, sugar. Anything along those lines can be directly affected as a result of this. And certainly rainfall, flood events that affect infrastructure have similar effects. We also expect as a result of that, this may affect profitability just because it's going to increase costs and this is not just the cost of dealing with potential damages but the cost to invest in maybe more resilient operations, as long as you have enough time to prepare yourself for that. But that will be tested, the extent to which businesses have been paying attention to resilience.

But it's not only that. It's also the labor component, the worker component, the customer component. Because if we have some of these extreme weather events, that's going to affect the demand for flood infrastructure, for air conditioning. It's [00:15:00] going to affect energy markets in terms of how much electricity's being used, and sometimes because of those damages we'll see outages and blackouts.

This is likely going to be a real, real broad comprehensive set of impacts throughout industries that span the gamut in terms of literally the entire economy, not just a selected group of sectors that is going to be more exposed.

Ch, sure, certain sectors will likely be more exposed than others. Agriculture, for instance, is a big one. Anything logistics, transportation, your infrastructure, those are the ones that will be affected there. But anything on the consumer facing, even consumer goods side, we can expect that those businesses also will have a material increase in cost as a result of some of these events.

Steve Odland: It's a change, too. It's a variation, as you said earlier. So even with consumer products or even food, you've got the supply chain and all [00:16:00] that. But if it's usually hot and dry and then all of a sudden it's cold and wet, the whole mix of consumption and behavior patterns with consumers change. So you have to plan from A to Z on all of your constituents as a business leader.

Alex Heil: Oh, yeah, that's absolutely true. When we're trying to provide some guidance on this because if anybody has been listening to us, they're going to think about, "Oh my God, this is such a broad, wide reaching phenomenon. How can I potentially do anything here to protect myself, my operation, as well as my personal environment?"

First of all, it's most important to really get a sense of your own exposure and your business' exposure. How much risk is actually embedded in your business and to what extent can you mitigate some of that risk, and to what extent do you have to address it, when you still have time right now in the lead up to these kind of events?

Any kind of advice in terms of what to do [00:17:00] certainly comes first with an assessment of what are the pain points? What are the risks? What are the areas that could potentially be choked off as a result of this and where do you expect the greatest impacts?

Steve Odland: Yeah. Now, one of the silver linings in this is what you said earlier, which is that the Atlantic hurricane season should be milder because the warmer air should push those storms away. And so that means that hopefully a positive thing for Florida, the Gulf Coast areas, and up through the Atlantic seaboard, where they usually are at higher risk for hurricane damage.

Now, the flip side of that silver lining is that those areas, through code changes and construction practices over the past 50 years, have actually been reasonably hardened and tested by the various hurricanes. So having a milder winter or year in those areas that are already hardened and pushing [00:18:00] the volatility and the weather to areas that haven't been hardened could actually result in a higher level of damage, infrastructure and otherwise, than normal.

Alex Heil: Yeah, no, that's a very good point. Just to address those two issues separately. If we're looking at the Atlantic hurricane season, some of this is also unprecedented and uncharted territory because the water in that part of the world, that is the food for these storms that materialize toward the fall and early winter in the US. That part of the ocean has been warming for years now, so we will see how El Niño is going to affect that.

But the other point you made is very well taken in that with these impacts that are much more extreme, they're widespread, they'll create much more volatility. It is also likely the case that in many parts of the world, the stakeholders and individuals that are least able to afford to deal with some of these damages are going to be the most affected. And maybe those parts [00:19:00] of the world, they haven't seen some of these extreme weather events before. And all of a sudden an El Niño year that is the strongest on record, strongest in a generation, two generations, however defined, that might just be the trigger for some of these costs to be much more significant than initially experienced.

So I think that we will see some of these variations and we'll see some of these impacts that are going to create different types of costs all over the planet. And certainly, that is a good point, some regions have historically been struggling with some of these impacts and they might be actually better prepared today.

Steve Odland: Now, one of the areas of cost which you talk about is in the insurance markets and the knock-on effect in the reinsurance markets. Again, if it's a normal year, then you hope that you've got hardened areas and the insurance markets are geared towards that, the coverage and so forth. But this is like a 52-card pickup, throw all the cards [00:20:00] in the air. And so for the insurance companies, this could be a year where you get significant claims and, therefore, costs.

Talk about that whole market and then the impact of that market on both consumers and businesses.

Alex Heil: Yeah. We've seen over the last few years how the insurance industry already has been affected by extreme weather events. I mean, if you are an insurance executive, what you hope to have is some predictability when it comes to the probability of events and then also some transparency on what the consequence of some of these events are in order to assess this is my risk, this is my exposure, this is how I need to price my insurance product as a result.

For some of the big events that we've seen over the last few years-- the wildfires in California, now the wildfires in Canada. Some of these flood events in parts of the world, this rain caused flood in, I believe, North Carolina, what was previously dubbed the [00:21:00] climate change-safe part of the country and all of a sudden they had to deal with all kinds of floods caused by rain events.

Unpredictability is the nature of the game. We would expect this to continue just because of the unprecedented nature of this very strong El Niño this year and what this is going to do to some of the probability of events. If you're in insurance, I think that we will be reading a lot of articles toward the end of the year and into next in terms of what happened to insured properties, what happened to uninsured properties, and what these financial consequences for some of these firms are.

Certainly what we've seen in the US, in some states insurance carriers have just simply not been able to weather the storm, no pun intended. But basically deal with the financial consequences and either change their offerings in terms of who and to whom and to what extent they're offering insurance products and also just in some cases just exited [00:22:00] certain markets.

It'll be interesting to observe what is going to happen going forward because this is going to be another one of these real pain points for insurance, not just in the US. Because, as you suggested, the reinsurance market-- the insurance carriers that are basically insuring the frontline property and casualty firms-- those are going to be the ones that are going to have to shoulder a lot of the financial burdens.

And if these forecasts and expectations are correct, we're talking about a very significant financial impact in that sector.

Steve Odland: Yeah, and the reinsurance markets are important because they stand behind all the insurance companies. But this is a global event and as reinsurance is global, Lloyd's of London is an example of that typically.

But that means that they're going to really be maxed out as well and, hence, a lot of the first-dollar costs are going to be shoved back on these insurance companies. So there are liquidity issues around that and the whole finance sector.

If you're in a business or if you're a homeowner in some of these areas where you don't have flood or wind [00:23:00] insurance, it's probably a pretty good idea, first of all, to get some, right? It's expensive but not as expensive as severe damage on your property. That's an example of how you should be thinking differently.

Alex Heil: Yeah, I think that's true. Not every property is able to install protective measures that would, let's say, keep water out in a flood event. Sometimes floods just overwhelm some of these localized defenses as well.

But those are expensive in some cases, especially when you look at what this costs an entire region, when you include infrastructure and so forth, because there's a lot of exposure there and a lot of potential damage. Those are real important issues when we're considering what this means in terms of cost.

There's really several layers to this. There's what one first notices as a result of the economic and financial costs as a result of some of these events. And then how this sort of trickles through the economy, through the insurance sector, and others that are providing some of the backup financial support [00:24:00] and ultimately some of these costs will get picked up there.

And we will see, sometimes it will also be government stepping in with emergency management having to increase budgets and allocations in that space as well, just in order to be able to address some of this damage.

Steve Odland: Yeah. You've recommended in the paper that businesses who normally don't really have to do this kind of scenario planning really step up. And you're recommending everybody globally should do this, not only personally, not only in their businesses, but also personally really think through what could happen here. Look at all your properties, look at your business, look at all the behavioral changes and develop contingency plans.

This is a potential gray swan event, meaning low probability, but it's forecastable and the best-laid plans are to forecast what could happen and then take action now before it does happen.

Alex Heil: Right. This is an El Niño year. So now the uncertainty comes in terms of what is this going to specifically mean [00:25:00] for my business, let's say. And there's uncertainty around that. That's true. What we're recommending is look at different scenarios, try to look at an approach where you plan for different outcomes, and you isolate the factors against which you can protect yourself and strengthen resilience, not just from an asset and infrastructure point of view, but also your relationships, your suppliers, your customers.

What does this actually mean for your business operations in case that there was such an event that would severely affect the way that you're doing business? Don't just look at this as an operating issue for your business but incorporate this into financial planning.

This is an NOI, an enterprise-wide issue that needs to be addressed as such. So if there's room right now-- before this really is likely going to have the strongest, most severe impacts-- if there are ways now by [00:26:00] which you can still put protective measures and strategies and accommodation in place, now is the time to do it.

Steve Odland: Great advice, as always. Dr. Alex Heil, thanks for being with us today.

Alex Heil: Thanks so much for having me, Steve.

Steve Odland: And to our listeners once again, you can find Alex's paper at tcb.org and begin your planning soon, hopefully. Thanks to all of you for listening to C-Suite Perspectives. I'm Steve Odland and this series has been brought to you by The Conference Board.