Country Risk
Country Risk
• MNCs must constantly assess business environment of companies
they operate/wish to operate in
• Both, public and private, investors assess countries which can provide
them sound investment returns through country risk analysis
• In order to assess economic risks, it is essential to analyze political risk
which can be done through analysis of political economy i.e.,
interaction of politics and economics
• Non-bank firms analyze country risk to determine investment climate
in various industries whereas banks are interested in knowing
country’s ability to service foreign debt
THE MEASUREMENT OF POLITICAL
RISK
• MEASURING POLITICAL RISK: Although expropriation is most obvious and extreme form of
political risk, other form of political risks like government currency control, tariffs, taxes, labor
laws etc. also adversely affect value of firm
Note: Expropriation here means nationalization by government with or without compensation
• Overseas Risk faced by Convergys
Expansion of our existing international operations and entry into additional
countries will require management attention and financial resources. There are
certain risks inherent in conducting business internationally including: exposure to
currency fluctuations, lower payment cycles, greater difficulties in accounts
receivable collection, difficulties in complying with a variety of foreign laws,
changes in legal or regulatory requirements, inflation, political instability,
compliance with anti-bribery and anti-corruption legislation, and potentially
adverse tax consequences. To the extent we are adversely affected by these risks,
our business could be adversely affected and our revenues/earnings could be
reduced.
THE MEASUREMENT OF
POLITICAL RISK
A. Political stability: measured by
a. Frequency of government changes.
b. Level of violence.
c. Number of armed insurrections.
d. Conflict with other states.
THE MEASUREMENT OF
POLITICAL RISK
B. Economic factors
a. Rampant inflation.
b. Balance of payment deficits
c. Slowed growth of per capita GDP.
THE MEASUREMENT OF
POLITICAL RISK
C. Subjective factors: general perception of country’s attitude
toward private enterprise: Ease of doing business
• An index that tries to incorporate all economic, social and political factors
into overall measure of business climate, including political environment is
called Ease of Doing Business rankings, produced by International
Finance Corporate, part of World Bank
Ease of doing Business Rankings: 2020
Economy EDB Starting a Dealing with Getting Registering Getting Protecting Paying Trading Enforcing Resolving
(Rank) Business Construction Electricity Property Credit Minority Taxes across Contracts Insolvency
Permit Interest borders
New Zealand 1 1 7 48 2 1 3 9 63 23 36
Singapore 2 4 5 19 21 37 3 7 47 1 27
Hong Kong 3 5 1 3 51 37 7 2 29 31 45
U.S. 6 55 24 64 39 4 36 25 39 17 2
U.K. 8 18 23 8 41 37 7 27 33 34 14
Malaysia 12 126 2 4 33 37 2 80 49 35 40
Taiwan 15 21 6 9 20 104 21 39 61 11 23
Russia 28 40 26 7 12 25 72 58 99 21 57
China 31 27 33 12 28 80 28 105 56 5 51
India 63 136 27 22 154 25 13 115 68 163 52
Somalia 190 188 186 187 153 186 190 190 166 116 168
Source: Doing [Link]
THE MEASUREMENT OF POLITICAL
RISK
• D. Political Risk and Uncertain Property Rights
• Political risk refers to uncertainty over property rights
• If government can expropriate either legal title to property or stream of
income it generates political risk exist
• Political risk also exist if property owners are constrained in the way they use
their property
• Each such actions of government affects corporate cash flows and hence
value of firm
THE MEASUREMENT OF
POLITICAL RISK
E. Capital flight
• Definition: the export of savings by a nation’s citizens because of fears
about capital safety
• Measurement: use the balance-of-payment account to analyze capital
flows
• Causes of capital flight
• Inappropriate economic policies: high inflation, government regulations, controls and
taxes, low return on domestic investments
• Expectation of devaluation.
• High political risk: unstable political regimes
ECONOMIC AND POLITICAL FACTORS Underlying Country
Risk
• Economic and Political Factors, termed as country risk, that
contribute to the general level of risk in a country as a whole are:
1. Fiscal irresponsibility
2. Monetary instability
3. Controlled exchange rate system: currency usually overvalued
4. Wasteful government spending: inability to service foreign debt
5. Resource Base: stable political system, flexible labor market and free
market economy
6. Country risk and adjustment to external shocks
• What are the impacts of external shocks?
• How well a nation responds varies.
7. Amount and Extent of Corruption
ECONOMIC AND POLITICAL FACTORS
• Key Negative Indicators of country risk:
1. Large government deficit relative to GDP
2. High rate of Money expansion especially with fixed exchange rate
3. Substantial government expenditure leading to low returns
4. Price controls, trade restrictions, rigid labor laws
5. High tax rates that destroy incentive to work, save and invest
6. Vast state owned enterprises
7. Pervasive corruption
8. Amount and extent of corruption
ECONOMIC AND POLITICAL
FACTORS
• Key Positive Indicators of economic health
A. Structural incentives: that reward risk taking in productive
ventures
B. Legal structure: that stimulate development of free markets
C. Clear incentives to save: property rights are secure, low taxes
on returns and political stability
D. Open economy: that strengthens rule of law and competition
E. Stable macroeconomic policies: led by stable monetary policy
reduces economic risk and leads to lower inflation and interest
rates that results in higher savings and willingness of
entrepreneurs to invest and stimulate growth