Geostrategy in the board of directors: The case of banking

This article was originally published in Spanish in the Newsletter #23 of the Esade Center for Corporate Governance. 

Boards of directors are gaining prominence, even in areas previously considered more technical or political. One example of this trend is geostrategy. In various forums (for instance, Esade launched a series of seminars on November 13 focusing on the impact of geopolitics on board agendas), it has been emphasized that this topic should be part of board discussions, regardless of the economic sectors in which companies operate. As with other topics, such as macroeconomic monitoring, it is important to land the ideas into practical issues that boards can discuss and make decisions about. The goal is to approach these matters not as general public concerns but as factors that directly or indirectly influence companies. 

Focusing the debate on the sector in which I serve as a board member—banking—it is worth noting that this concern with geostrategy has also been expressed by the banking supervisor, the European Central Bank (ECB). In its supervisory priorities for 2024-2026, the ECB highlights the impact of geopolitical risks on macroeconomic trends (economic growth, unemployment, inflation, etc.) and the dynamics of financial markets (market issuances, the supply and demand for bank credit, interest rates, etc.), and consequently, on more traditional banking risks (credit, interest rate, market risks, etc.). Based on this, the supervisor concludes that there is a need to strengthen banks' resilience to these impacts. 

Trump's victory 

The most discussed geostrategic issue in recent weeks has been Trump's victory in the US elections. How could this victory impact a Spanish bank? One potential effect stems from the presence of some Spanish banks in countries that may be negatively affected by Trump’s policies, such as trade protectionism and stricter immigration controls. If stock market performance is an early indicator of changes in the real economy, it is worth recalling what happened to the stock price of some Spanish banks the day after the US elections. 

Another possible effect of Trump’s victory on European and Spanish banking relates to the greater regulatory flexibility promoted by the new Trump Administration. On one hand, US authorities are unlikely to reverse their decision to delay the full implementation of Basel III, which could also lead to a delay in the European Union (as suggested in the Draghi report). On the other hand, regulations or supervisory practices related to capital requirements (beyond what remains to be implemented from Basel III) could be eased, including requirements for eligible liabilities to support internal recapitalization (TLAC) in case of insolvency, executives’ variable compensation, and regulatory reporting obligations for banks (including those related to environmental, social and governance ― ESG ― risks). 

One regulatory issue deserves special attention: the Trump administration's relaxation of climate change mitigation regulations. This new approach will impact the stringent regulations that banking supervisors worldwide have adopted on this topic. The European Central Bank (ECB) has designed a demanding roadmap to incorporate environmental risks into governance, routine risk management, credit decision-making processes, and regulatory reporting obligations for all banks. The ECB has repeatedly stated that, before the end of 2024, financial institutions must meet all supervisory expectations set out in 2020, including the full integration of these risks into the internal capital adequacy assessment process (ICAAP) and stress testing. The ECB has not ruled out using stricter supervisory measures, such as fines or additional capital requirements. 

Although costly for the banking sector, this roadmap aims to mitigate physical and transition risks related to climate change that financial institutions face. What might be the European authorities' response to this new political landscape in the United States, where the climate agenda diverges sharply from that of President Biden? 

The stock market response of some US banking giant to Trump’s victory signals the anticipated regulatory easing, which could boost the profitability of American banks. This, in turn, will increase pressure on European financial authorities as the already significant profitability gap between European and US banks widens further. 

The position of a bank's board on regulatory issues often diverges from that of the authorities, as key objectives of capital, liquidity, or bank resolution regulations focus on financial stability, which falls under the jurisdiction of regulatory bodies. Will the Trump administration take into account the negative outcomes of some past deregulatory decisions affecting the US banking sector? An example of this is the non-application of capital and liquidity rules for systemic banks to institutions with balance sheets exceeding $100 billion, which—combined with inadequate bank supervision—contributed to the collapse of a series of mid-sized US banks in 2023. In any case, it is evident that the prudent management of financial and non-financial risks is essential for maintaining an institution's solvency and liquidity—and this is unquestionably part of a bank board's agenda. 

Looking at the recent trend in long-term interest rates in the US, which have risen significantly, markets may be anticipating a larger deficit, higher economic growth, and an inflationary rebound during Trump’s new term. The strengthening of the dollar exchange rate also reflects this sentiment. Trump's critical remarks about the Federal Reserve's independence are a factor to consider, as they may complicate efforts to control potential inflation surges. 

A surge in cryptoassets is also being anticipated following Trump’s victory, as he has previously stated his ambition for the US to become the "crypto capital" of the world. In the EU, a regulatory framework for cryptoassets has already been approved. However, competition with US banks could push European banks to expand their offerings of these products, which are marked by high volatility and significant risks of fraud, money laundering, and terrorist financing. This presents yet another topic for discussion and decision-making within bank boards. 

Return to protectionism 

A second major geostrategic issue is trade protectionism. Bank boards must discuss its potential effects on economic growth and its increasing geographic disparity, which could indirectly impact banking activity. Another possible consequence of reduced globalization is its effect on inflation. Interest rates—key to determining banks' financial margins—will be influenced by the necessary measures to control inflation. 

Since the rise of protectionism signals a retreat from multilateralism, this shift could also affect banking regulation, which has so far been shaped by a predominantly multilateral approach from financial authorities. One service that could be impacted is cloud computing, which is becoming increasingly crucial in banking and is dominated by US tech companies. It would be undesirable for these services to become part of an impending trade conflict. 

China, an economic power 

China's position on the international stage is another key geostrategic issue. Focusing on economic matters, it seems evident that construction—long a major driver of China's economic growth—will not play a prominent role in the coming years. The sector currently faces significant overcapacity and an oversupply of housing. Although the adjustment will likely be slower than in Western countries, it will happen, bringing economic consequences such as a decline in productive activity, rising unemployment, negative impacts on bank balance sheets, and a deterioration in the value of unfinished or unsold properties. 

For a country with a strong industrial base, the Chinese authorities' current strategy for fostering economic growth relies on boosting exports. However, in a context where key global economic regions seek strategic autonomy, China’s export push may face significant obstacles. Geostrategic tensions, particularly with the US, compound these challenges. The alternative of expanding private consumption, if set as a priority, will take time to materialize, as it depends on wage growth and several factors that currently encourage high levels of private savings in China: high housing prices and relatively low levels of social protection. Many experts in the Chinese economy believe that a sustainable growth model requires strengthening domestic demand. 

A critical factor that could impact economic growth, particularly in exports, is the increased "ideologization" of socio-economic decision-making under President Xi Jinping, which involves a stronger role for the Communist Party and reduced private sector initiative. China's economic miracle was built on the opposite approach: significant private sector initiative and ownership across multiple industries, as well as the innovative capacity of private enterprises. The sharp decline in foreign direct investment flows into China—currently at their lowest level in three decades—may be a direct consequence of this strategic policy shift. 

Of course, a slowdown in China’s economic growth will undoubtedly impact the global economy through reduced imports. When combined with China’s need to increase exports, this scenario could lead to trade frictions that would add to existing political tensions. 

Certain sectors are more likely to feel the effects of these frictions. For instance, the massive entry of Chinese electric vehicles into the global market is already causing strain for traditional automakers. This, in turn, affects how banks assess the risk profiles of these companies and, consequently, the terms offered in their financing operations, particularly for medium- and long-term loans. 

Immigration 

Without delving into a political or ideological debate, it is evident that differing perceptions of immigration contribute to political polarization and instability in many countries, which complicates the search for solutions to strategic economic issues. These issues include population aging and its impact on healthcare and pensions, education in an increasingly digitalized world, public finance sustainability, and potential regulations on artificial intelligence—all of which ultimately influence the daily operations of banks. 

What seems clear is that strict immigration restrictions could severely impact labor markets, particularly in aging developed economies, potentially leading to inflationary pressures and reduced economic growth. 

National and international security 

National and international security issues are also at the forefront of geostrategic concerns. A recent example is how an armed conflict—Russia’s invasion of Ukraine—triggered multiple sanctions packages that have particularly impacted banks operating in the sanctioned country or with clients maintaining significant economic ties to it. 

Cyberattacks are another major concern, affecting all banks. According to the European Central Bank (ECB), some states are sponsoring cyberattacks, with banks being a clear target due to their critical role in the financial infrastructure. The increasing sophistication of cybercriminals demands a decisive response from financial institutions. In the EU, banks are implementing the Digital Operational Resilience Act (DORA), which involves significant investments and a substantial strengthening of their cybersecurity risk control frameworks and their management of third-party providers. Achieving greater operational resilience strengthens the long-term sustainability of a bank's business model. 

The European banking supervisor is closely monitoring this issue, conducting cyber resilience stress tests to assess banks' ability to respond to and recover from serious cyberattacks. 

Other international security concerns relate to ongoing armed conflicts, such as those in Ukraine and the Middle East. Some developments in these wars can create significant instability in financial and energy markets. The political and military tension between China and Taiwan is also highly relevant. A significant escalation in this conflict could severely disrupt the microchip sector, with potentially devastating consequences for the global economy. 

Risk management by banks 

Banks have various tools—overseen by their boards of directors—for managing financial and non-financial risks. One of the most important is the Risk Appetite Framework (RAF). This is a dashboard that includes an explicit statement of the institution's risk appetite, establishing target, warning, and limit values for a wide range of financial and non-financial risk indicators. Geostrategic risks are indirectly included in the RAF, insofar as they affect solvency, concentration, credit, market, interest rate, liquidity, and operational risks (such as external fraud, business continuity, technology, cybersecurity, outsourcing, data management, legal matters, etc.), as well as reputational risks. For instance, geostrategic risks can trigger changes in the fair value of fixed-income portfolios, impacting solvency ratios, critical cybersecurity incidents, personal data breaches, or risks related to service outsourcing. 

Throughout this article, the importance of discussing geostrategic risks within bank boards of directors has been highlighted, although many conclusions could also apply to companies in other sectors. The banking sector appears well-equipped to manage these risks, as they tend to manifest through more traditional risk categories—such as solvency, liquidity, credit, and reputation—whose management is a routine part of banking operations. Boards of directors must not only be aware of these risks but must also take the necessary decisions to ensure their effective management.