The European Refugee Crisis: Investment Opportunity or Risk?

Market Notebook - Refugee CrisisNewspaper headlines shout the story: “Mass Migration in Europe is Unstoppable” and “A Mass Migration Crisis, and It May Get Worse.” Despite the near-apocalyptic tone of the press, the actual situation is not as unique as suggested. The humanitarian crisis is heart wrenching; however, we are going to focus on addressing the broader questions of human migration trends, the specific issues facing Europe and what the future might hold, and potential investment implications.

History of Mass Migrations

Mass migrations are an integral part of world history. The first migrations involved the movement of humans out of Africa to Europe, Asia, and the Americas thousands of years ago. Like most migrations, these involved people fleeing climate pressures or political conflicts, seeking new opportunities for a better life. Encyclopedia Britannica summarizes the largest migrations as follows:

“The map of Europe is the product of several major early migrations involving the Germanic peoples, the Slavs, and the Turks, among others. In the course of 400 years-from the late 16th through the 20th century, the Americas, Australia, Oceania, the northern half of Asia, and parts of Africa were colonized by European migrants. The overseas migration of Europeans during this period totaled about 60 million people.

The largest migration in history was the so-called Great Atlantic Migration from Europe to North America, the first major wave of which began in the 1840s with mass movements from Ireland and Germany. In the 1880s a second and larger wave developed from eastern and southern Europe; between 1880 and 1910 some 17 million Europeans entered the United States. The total number of Europeans reaching the United States amounted to 37 million between 1820 and 1980.

From 1801 to 1914 about 7.5 million migrants moved from European to Asiatic Russia (i.e. Siberia), and between World Wars I and II about 6 million more…. Some 13 million migrants became permanent residents of Western Europe from the 1960s through the ‘80s, and more than 10 million permanent immigrants were admitted legally to the United States in that same period.”

Historical Migrations Compared to Today

There are four stark contrasts today with prior immigrations:

  • The movement is taking place in a comparatively short period of time,
  • Underlying economies are weak and deleveraging,
  • The effect of current entitlement programs, and
  • Terrorism risk.

According to the International Organization for Migration, more than one million refugees entered Europe in 2015. This is more than double then annual inflow of most prior periods and shows no signs of slowing down in 2016. According to the United Nations High Commissioner for Refugee, in the first two months of 2016, more than 130,000 migrants and refugees crossed the Mediterranean Sea, of whom 123,000 arrived in EU member Greece.

While past migrations usually were movements from higher density population areas to lower density population areas, today it is the reverse, further heightening the humanitarian aspect of the crisis.

As a result, too many refugees in too short a time are overwhelming registration, living, and work opportunities. Many refugees are unskilled and therefore less able to enhance the growth of the economies. Furthermore, given the relatively stagnant European economy, it will be harder to find permanent jobs. With the added fear of terrorists entering countries, there is a potential backlash of immigrants taking jobs, receiving free services, and resulting in higher taxes. The reaction of local people is quite understandable when they feel their livelihood, lifestyle, and life may be threatened.

What is the Current Situation?

According to the UN High Commission for Refugees, 65% of the estimated one million refugees from 2015 are men. Most come from the Middle East (Syria and Iraq), South Asia (Afghanistan and Pakistan), and Africa (Eritrea and other countries).

Refugees earlier in the year were coming by boat, but more recent arrivals have come over land into Northern Europe through Turkey, the Balkans, and Hungary. Despite the large number moving north, over two million remain in Turkey and millions more are waiting to come. Initially, Europe tried to control the flow by requiring registration at the point of entry into a European country. However, the numbers were overwhelming, and Italy, Greece, and Serbia were not able to hold them back. For the refugees, the perceived attraction of Europe was amplified when German Chancellor Angela Merkel said Germany could take one million immigrants. Her open door policy was a charge to the other European countries to send them through to Germany with minimal documentation. This follows the Schengen Convention, which defines an area of Europe without border controls (26 countries in all). Once an individual is in Europe, they ca
n travel anywhere without border checks.

How Has Europe Responded?

Europe’s response has been mixed. Initial refugees into Greece and Italy were often stranded in poorly run refugee camps. Greece and Italy were not prepared to handle growing numbers who entered earlier in the year. The rest of Europe became involved when migration moved to the land route through the Balkans. The ability of countries to stop the flow of refugees was lost. When barbed wire fences were erected in Hungary, the refugees moved west and entered through Croatia.

What is the Future?

The future for Europe and the refugees could be largely positive, but there are several caveats. In particular, we see four issues and initial concerns:

Changing policies on accepting refugees.

Prior to the Paris attacks in mid-November, Europe had adopted a relocate and resettle policy, including quotas for granting asylum to 164,000 refugees to be spread across Europe, despite an influx of one million people. In 2014 only 184,665 applications to the EU were approved out of 570,000. It is not clear what happens to the migrants who do not receive approval. The intent is to return them to their country of origin or a receptive country such as Turkey. But the country of origin has to be secure, and right now Syria and Iraq are not. Turkey already accommodates over two million refugees and needs to be persuaded by Europe to take more.

Turkey has priced its persuasion as a cash payment of $3.4 billion, visa free travel for its citizens in Europe, and acceleration of talks on Turkey to join the European Union.

Tightening of border security.

Rules in the Schengen Zone prevent countries from systematically vetting European citizens traveling across country borders. But the Paris attacks threw these modest controls out the window, and security has been sharply tightened. Now every traveler coming to Europe will have their name checked against an anti-terror watch list and criminal and security databases. These changes will certainly make travel to Europe more stressful. It is not clear, however, that the new rules can effectively vet the large number of refugees.

Political Ramifications

Europe is turning more conservative with regard to immigration. In Sweden the far right party has made significant gains in the polls. France’s National Front party headed by Marine Le Pen seems poised to see a large increase in political fortunes. Even Germany is experiencing pushback to its open door policy, particularly in Munich where many refugees first arrived. The UK vote scheduled for 2017 to consider remaining in the EU may be more tilted toward a “no.” It is too early to assess what the shift to the right may mean for Europe’s economy. The prospect of a backlash from the immigrant communities similar to what is happening in Israel also seems quite possible.

Prospective Costs and Benefits

Germany has estimated that it costs 12,000 Euros per year to support a refugee before they are assimilated. Assuming one million refugees and with Europe’s GDP of ~$18.5trillion (17.0 trillion), that amounts to about ~0.1% of GDP and ~2% of the population.

A study in the Organization for Economic Cooperation and Development’s International Migration Outlook concluded that migration is “neither a significant gain nor drain for the public purse.” A number of recent studies on the economic impact of migration give evidence that large inflows of immigrants are actually beneficial to economies, not detrimental. These studies do not tell the whole story, however, and the future may not be quite as rosy. So far Germany’s “public purse” seems able to handle the costs. But there are increasing costs to the private sector, including increased security and instruction costs to an untrained work force.

Lebanon, Turkey, and Jordan have significant migrant populations and are showing solid economic growth. The monetary support provided to migrants is immediately spent and may produce short-term benefits to an economy, although studies have shown some displacement of unskilled and part-time labor. It is too early to really know how much of an impact there will be on economic growth. Historically, the long-term benefits of migrants are even greater for economies with shrinking work forces, such as Europe. The unknown risk is how many refugees are still to come and whether it will be a flood or a steady flow. Moreover, will this influx have inflationary effects on local economies through greater demand for goods or, conversely, deflationary effects as excess capacity overwhelms any potential gains in aggregate demand?

Our final question is this: “How does this crisis impact markets?” It is too early to know. We can see the case that shows Europe suffering from further stagnation to one where an orderly integration of refugees is relatively beneficial. Another caveat is that a substantial increase in homegrown terrorist activity could impact consumer confidence and market psychology. To that end, following on our previously-articulated theme, it will continue to pay to be selective in our investment choices. While we currently maintain broad European exposure as part of targeted exposure to developed International equities, we may look to target more specific areas within Europe as we see how immigration ramifications play out.

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