POLITICAL RISK

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POLITICAL RISK
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POLITICAL RISK

• ARISES FROM THE UNCERTAINTY OVER THE CONTINUATION
  OF A GOVERNMENT AND POLICIES THAT IMPACT FOREIGN
  INVESTORS PROFITABILITY.

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Moreover...

• POLCIES, THAT ARE UNPLEASANT, DO NOT CONSTITUTE
  RISK AS LONG AS THEY ARE TRANSPARENT AND ENFORCED
  WITH CONSISTENCY.

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POLITICAL RISKS

• INSTABILITY RISK
• OWNERSHIP RISK
• OPERATIONS RISK
• TRANSFER RISK

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INSTABILITY RISK

• ARISES FROM THE UNCERTAINTY ABOUT STABILITY OF A
  GOVERNMENT.

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OWNERSHIP RISK

• ARISES FROM THE UNCERTAINTY ABOUT A GOVERNMENTS
  DECISION TO REDUCE FOREIGN INVESTORS OWNERSHIP
  IN THEIR INVESTMENTS IN THE COUNTRY.

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CONFISCATION

• IMPOUNDING OF THE PROPERTY OF FOREIGN INVESTORS
  BY THE HOST GOVERNMENT WITHOUT COPENSATION.

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EXPROPRIATION

• PURCHASE OF PROPERTY FROM FOREIGN INVESTORS.

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NATIONALIZATION

• PURCHASE OF PRIVATE BUSINESSES BY HOST GOVERNMENT.

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DOMESTICATION

• PLANNED REDUCTION OF EQUITY HELD BY FOREIGN
  INVESTORS.

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OPERATIONS RISK

• ARISES FROM THE UNCERTAINTY ABOUT HOST
  GOVERNMENTS POLICIES THAT MAY CONSTRAIN FOREIGN
  INVESTORS OPERATIONS IN THE COUNTRY.

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They can change policies regarding...

• PRICES
• TERMS OF COMPETITION
• TAXATION
• PRODUCT SPECIFICATIONS

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• MEASURES CAN BE HIGHLY VARIED AND UNLIMITED
• AND
• THEY CAN BE AS DEVASTATING AS EXPROPRIATION

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TRANSFER RISK

• ARISES FROM THE UNCERTAINTY ABOUT GOVERNMENT
  POLICIES THAT MAY RESTRICT FOREIGN INVESTORS
  ABILITY TO TRANSFER PROFITS OR CAPITAL OUT OF THE
  COUNTRY.

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HOW TO ANALYZE POLITICAL RISKS

• POLITICAL
• SOCIAL
• ECONOMIC

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EXTERNAL THREAT

• QUESTION
• HOW LIKELY IS IT THAT AN OUTSIDE FORCE WILL
  DESTABILIZE THE GOVERNMENT OF A COUNTRY?

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THINGS TO LOOK FOR

• THE WORDS AND ACTIONS OF THE LEADERS OF THE ENEMY
  COUNTRIES
  

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INTERNAL THREAT

• QUESTION
• HOW LIKELY IS IT THAT THE GOVERNMENT WILL REMAIN
  STABLE (ASSUMING THERE IS NO EXTERNAL THREAT)?

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• A COUNTRY WHERE TRANSITION OF POWER FOLLOWS A
  FIXED SCHEDULE AND IS PEACEFUL IS MORE STABLE .
  

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• SUCH A COUNTRY ALLOW ITS PEOPLE TO CHOOSE THEIR
  RULERS AND SPEAK THEIR MINDS.
  

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POLITICAL FREEDOM(ACCORDING TO FREEDOM HOUSE-99)

• FREE PARTLY FREE NOT FREE
• Argentina Armenia China
• Bulgaria Brazil Egypt
• Czech Rep Ghana Indonesia
• Hungary Malaysia Nigeria
• Taiwan Russia Saudi Arab
• S. Africa Turkey Vietnam

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• EXISTENCE OF DEMOCRATIC POLITICAL PROCESS DOES
  NOT ALWAYS ENSURE POLITICAL STABILITY.
  
• OTHER EXAMPLES INCLUDE
• INDIA, ISRAEL, ITALY, TURKEY

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• LIKEWISE, EXISTENCE OF AN AUTOCRATIC GOVERNMENT
  DOES NOT NECESSARILY IMPLY INSTABILITY.
  

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LOOK AT THE SIX ASIAN TIGERS

• CHINA IS A COMMUNIST COUNTRY.
• INDONESIA HAD MILITARY DICTATORSHIP ONE PARTY
  RULE UNTIL RECENTLY.
  
• TAIWAN SOUTH KOREAWERE AUTHORITARIAN STATES
  UNTIL RECENTLY.
  
• SINGAPORE HAS ELECTED AUTHORITARIAN GOVERNMENT

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HONG KONGS COLONIAL GOVERNMENT WAS UNDEMOCRATIC.

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SIGNALS TO LOOK FOR

• SEPARATIST MOVEMENTS
• POLITICAL MOVEMENTS
• RADICAL MOVEMENTS
• ETHNIC TENSIONS
• DISCONTENT

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OWNERSHIP RISKS

• QUESTION
• WILL THE GOVERNMENT ACT IN A WAY THAT WILL
  DEPRIVE A FOREIGN FIRM FROM CONTINUING ITS
  OWNERSHIP IN THE COUNTRY?

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Pay attention to the attitude of the leaders.

• And what they have to say about specific
  countries.

• Anger of the labor toward foreign policies
• toward foreign firms of specific countries
• or firms.

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OPERATIONS RISK

• QUESTION
• WHAT IS THE LIKELIHOOD THAT A GOVERNMENT WILL
  CHANGE POLICIES THAT IMPACT ON FOREIGN FIRMS
  PROFITABILITY.

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THINGS TO LOOK FOR.

• DEBT SERVICE RATIO
• EXTERNAL DEPENDENCE
• LIQUIDITY

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DEBT SERVICE RATIO

• A COUNTRYS ANNUAL DEBT INTEREST AND PRINCIPAL
  LIABILITY AS A PERCENT OF EXPORTS OF GOODS AND
  SERVICES

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How do countries score?

• ACCEPTABLE
• Poland, Malaysia, Thailand
• PRECAUTIONARY 20 BUT
• Chile, India, Mexico, Turkey
• DANGEROUS 30
• Argentina, Brazil, Hungary, Indonesia
• (Data is from 1995)

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It may be all right if a country

• Has highly diversified export base.
• Both products and markets.
• Can reduce imports in a crisis.
• Fraction of total imports that comprise of oil
  and food (over 35 is alarming).
  
• Has long-term capacity to repay debt.
• Total debt/GDP (over 40 is alarming)

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How do these measure up?

• Oil Food Total Debt
• Ratio -94 to GNP-97
• Argentina 07 38
• Brazil 26 23
• Hungary 19 52
• Indonesia Low 62

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EXTERNAL DEPENDENCE

• A COUNTRYS TOTAL EXPORT IMPORT BILL AS A
  PERCENTAGE OF ITS GNP (1998)
  
• Argentina 18
• Brazil 15
• Hungary 107
• Indonesia 55

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LIQUIDITY

• LENGTH OF TIME A COUNTRY CAN CONTINUE TO IMPORT
  AT THE PRESENT LEVEL BY DRAWING DOWN ITS FOREIGN
  EXCHANGE RESERVES.
  

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• 2-3 MONTHS IS PRECAUTIONARYLESS THAN 2 MONTHS IS
  ALARMING
  
• (Data for 1998)
• Argentina 8.5 Months
• Brazil 6.5 Months
• Hungary 4.5 Months
• Indonesia 4.5 Months

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ECONOMIC POLICY

• IS THE COUNTRY INVESTING IN EDUCATION
  INFRASTRUCTURE?
  
• IS IT OPEN TO TRADE?
• IS IT LETTING THE MARKET HAVE ITS WAY?

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• INTERVENTION BY GOVERNMENT BREEDS BUREAUCRACY
  THAT PULLS THE COUNTRY BACKWARDS.
  
• IT BREEDS CORRUPTION AND INEFFICIENCY.

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POLITICAL RISK SCORES

• LOW
• Switzerland
• Norway
• Austria
• Germany
• Netherlands
• Brunei
• Japan

• HIGH
• Liberia
• Somalia
• Sudan
• Iraq
• Myanmar
• Uganda
• Ethiopia

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HOW TO COPE WITH POLITICAL RISK

• Avoidance Approach
• Insurance Approach
• Negotiation Approach

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Insurance Approach

• Political Risk Insurance
• Overseas Private Investment Corporation (OPIC)
• American International Group
• Lloyds of London

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Bargaining Approach

• WHEN THE BARGAINING POWER POSITION OF A FIRM
  RELATIVE TO THAT OF THE HOST GOVERNMENT IS
  STRONG, THE FIRM WILL EXPERIENCE LOW LEVEL OF
  INTERVENTION IN ITS OPERATIONS.

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BARGAINING POWER OF MNCs

• Access to Technology
• Integration in Global Production
• Access to Global Markets
• Access to Foreign Exchange
• Provider of Jobs Capital

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BARGAINING POWER OF COUNTRIES

• Market Size and Growth Potential
• Attractive Resource Base
• Attractive Efficient Infrastructure
• History of Consistent , Flexible, and Fair
  Relations with Foreign Investors
  

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BARGAINING POWER FRAMEWORK

• RELATIVE BARGAINING POSITION OF THE FIRM
• AND
• OUTCOME STAKE FOR THE FIRM

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Low Outcome Stake

• Walk Away
• If Charged, Avoid the Charge

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High Outcome Stake/Low Bargaining Position

• Accede to Demands

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High Outcome Stake/High Bargaining Position

• Negotiate