Exogenous shocks

As I write this, Twitter is going berserk with news of Malaysian Airlines Flight 17 from Amsterdam to Kuala Lumpur with 280 passengers and 15 crew having gone down in Ukrainian airspace. There is video and photo footage of the wreckage. And my heart goes out to friends and family of those onboard because they are learning about the tragedy via the media in a very confused and haphazard way.

From what I have seen and heard, it is clear that flight controllers lost contact with the aircraft 50 to 60 kn from the Russian border at an altitude of 10km. Some are saying that the plane has been shot down. And I am also hearing that Ukrainian officials believe separatists they call “terrorists” used a Buk ground-to-air missile to bring the plane down. I am also hearing that the US government now believes that the Russians shot down a Ukrainian cargo plane on Monday.

It is hard to make any judgment calls about what is going on with the limited information we have now. We don’t even know if the plane was shot down. But what seems clear to me is that the Ukrainian crisis has taken a serious, unexpected and negative turn. It’s hard not to believe there will no diplomatic or military consequences from the shooting down of a civilian jet airliner passing through Ukrainian air space.

When the Dubai World default worries occurred in November 2009, no one could know it would lead to a European sovereign debt crisis but that was the most serious consequence of that event. Here, we can’t know where this will lead. But there will be serious consequences.

This is a truly exogenous shock. Yes, there has been military conflict in Ukraine. However, no one could have predicted something like this. And so the question is where do the vulnerabilities lie in the real economy and in the financial world. It is not necessarily Ukraine or Russia where the locus of economic crisis could occur. We could get something completely unrelated fro this event – like a wholesale repricing of risk.

In any event, that is the nature of exogenous shocks. It is the butterfly effect that rules with unpredictable consequences. Watch economies and markets that are vulnerable: Europe, European sovereign bonds, oil, leveraged loans.

I will leave it there and have more to say as events unfold. But I think this is a very big deal.

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