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Home > Business Strategy Best Practice > Political Risk: Countering the Impact on Your Business

Business Strategy Best Practice

Political Risk: Countering the Impact on Your Business

by Ian Bremmer

Executive Summary

  • Business decision-makers must understand the political dynamics within the emerging market countries in which they operate.

  • We can measure a state’s stability—the ability of its government to implement policy and enforce laws despite a shock to the system.

  • Essential to managing any type of risk is the development of a detailed and effective hedging strategy.

  • Companies should not accept too much risk exposure within any one country or region.

  • Rules of the game can change quickly in developing countries, and the cultivation of “friends in high places” isn’t always a strong enough hedge.

  • Operating in some developing countries comes with reputational risks at home.

  • Too many companies have historically relied for insight into local politics and culture on employees who have lived in a particular country for only a short time—or have even merely traveled there.

  • Those doing business in developing states need to have credible emergency response plans in place when events outside their control shut down supply chains, prevent local workers from coming to work, or otherwise disrupt operations.

  • Developing strategies to recruit and train local managers serves several useful purposes.

  • Devoting a share of profits to investment in local schools and universities, infrastructure, and charities can generate stores of goodwill, which is sometimes essential for cooperation with local workers and government officials.

  • In some countries, foreign companies should be wary of transferring proprietary information to local partners or developing it inside the country.

  • A foreign firm must look beyond what its local competitors are capable of producing today. It must anticipate how those capabilities are likely to develop over time.

  • Conditions sometimes force companies to cut their losses and head for the exit. Ensuring that process is as painless and inexpensive as possible forms a crucial part of any sound risk mitigation strategy.

  • Political risk can be managed. It should not be avoided altogether.

 

Introduction

Over the past several years, and across a broad range of companies, corporate decision-makers seeking opportunities overseas have learned that it is not enough to have a knowledge of a foreign country’s economic fundamentals. They also have to understand the forces and dynamics that shape these countries’ politics. This is especially true for emerging markets, where politics matters at least as much as economic factors for market outcomes. Of course, understanding that political risk matters is one thing. Knowing how to use it is another.

Stability

Starting with the basics, when committing a company to risk exposure in an emerging market country, it’s essential to understand how political risk impacts the underlying strength of its government. There are two key elements to consider: stability and shock. Shocks are especially tough to forecast, because there are so many different kinds and because shocks are, by definition, unpredictable. We can’t know when an earthquake will strike Pakistan, an elected leader will fall gravely ill in Nigeria, or a previously unknown group will carry out a successful terrorist attack in Indonesia.

But we can take the measure of a state’s stability, which is defined as a government’s ability to implement policy and enforce laws despite a shock to the system. The global financial crisis, a potent shock, has inflicted heavy losses on Russia’s stock market. But Prime Minister Vladimir Putin has amassed plenty of political capital over the past several years, and President Dmitry Medvedev, his handpicked successor, basks in Putin’s reflected glow. Neither need fear that large numbers of Russian citizens will turn on them anytime soon. In addition, a half-decade of windfall energy profits has generated more than $500 billion in reserves, ready cash that can be used to bail out stock markets, banks, and, if necessary, an unpopular government. That’s why, for the near-term, Russia will remain stable.

Pakistan is a different story. The country’s newly elected government has a range of rivals and enemies. Inflation, power shortages, and a wave of suicide attacks have undermined the ruling Pakistan Peoples Party’s domestic popularity. The financial crisis leaves the country at risk of debt default, forcing the government to negotiate a loan package with the International Monetary Fund that could impose austerity measures—the kind that helped topple civilian governments in Pakistan in the 1990s. The country is less stable than Russia, because it is much more vulnerable to the worst effects of shock.

President Luiz Inácio Lula da Silva has bolstered Brazil’s stability over the past several years by quelling fears of left-wing populism with responsible (and predictable) macroeconomic policies. The Chinese Communist Party’s ability to generate prosperity at home via three decades of successful economic liberalization has helped its leadership to build durable near-term stability.

But Nigeria’s future stability remains at the mercy of President Umaru Yar’Adua’s failing health, as historical tensions between northern Muslims and southern Christians combine with ongoing security challenges in the oil-rich Niger Delta region to prevent his government from building a national reputation for competence, vision, and strength. Iran’s theocrats and firebrand president Mahmoud Ahmadinejad have effectively used the international conflict over the country’s nuclear program to shore up support for the government in the face of high inflation and gasoline rationing. Underlying political factors in all these countries have a substantial impact on stability—and, therefore, on the country’s business climate.

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Further reading

Books:

  • Bracken, Paul, Ian Bremmer, and David Gordon (eds). Managing Strategic Surprise: Lessons from Risk Management and Risk Assessment. New York: Cambridge University Press, 2008.
  • Howell, Llewellyn D. (ed.). Handbook of Country and Political Risk Analysis. 3rd ed. East Syracuse, NY: Political Risk Services Group, 2002.
  • Moran, Theodore H. (ed.). Managing International Political Risk. London: Blackwell Publishing, 1999.
  • Moran, Theodore H., Gerald T. West, and Keith Martin (eds). International Political Risk Management: Meeting the Needs of the Present, Anticipating the Challenges of the Future. Washington, DC: World Bank Publications, 2007.
  • Wilkin, Sam (ed.). Country and Political Risk: Practical Insights for Global Finance. London: Risk Books, 2004.

Articles:

Websites:

  • Eurasia Group, global political risk advisery and consulting firm: www.eurasiagroup.net
  • Multilateral Investment Guarantee Agency (MIGA)’s Political Risk Insurance Center: www.pri-center.com
  • PricewaterhouseCoopers: www.pwc.com. Enter “political risk” in search box to find articles and resources.

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