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Defining Political Risk
• In order for an MNE to identify, measure, and manage
its political risks, it must define and classify these
risks.
Country Risk Analysis
• These risks as:
– Firm-specific
– Country-specific
– Global-specific
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Exhibit 16.1 Classification of Political Risks
Defining Political Risks
• Firm-specific are those risks that affect the MNE at the
project or corporate level (governance risk due to the
goal conflict between an MNE and its host government
being the main political firm-specific political risk in
chapter; business risk and FX risk are also in this
category)
• Country-specific are those risks that also affect the
MNE at the project or corporate level but originate at
the country level (e.g. transfer risk, war risk, nepotism
& corruption)
• Global-specific are those risks that affect the MNE at
the project or corporate level but originate at the global
level (e.g. terrorism, anti-globalization, poverty)
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Firm-Specific
Risks
Country-Specific
Risks
• Business risks
• Terrorism & War
• Foreign-exchange
• Anti-globalization
risks
• Governance risks
Global-Specific
Risks
Cultural and
Institutional Risk
Transfer Risk
movement
• Environmental
concerns
• Poverty
• Blocked funds
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•
•
•
•
•
•
Ownership structure
• Cyberattacks
Human resource norms
Religious heritage
Nepotism & corruption
Intellectual property rights
Protectionism
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Exhibit 18.2 Country Risk Ratings
for Selected Countries
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Select Countries in the 2009
Transparency International Corruption
Perceptions Index
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Assessing Political Risk
Firm-Specific Risks
• At the macro level, firms attempt to
assess a host country’s political stability
and attitude toward foreign investors.
• The firm-specific risks that confront MNEs include:
• At the micro level, firms analyze whether
their firm-specific activities are likely to
conflict with host-country goals as
evidenced by existing regulations.
• Governance risk is the ability to exercise effective
control over an MNE’s operations within a country’s
legal and political environment
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– Business risk
– Foreign exchange risk
– Governance risks
• For an MNE, it must be addressed for the individual
business unit as well as for the MNE as a whole
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Firm-Specific Risks
Firm-Specific Risks
• Corporate governance principles include:
• Operating strategies after the FDI decision:
– Accountability (transparent ownership, appropriate
board size, defined board accountability, and
ownership neutrality)
– Disclosure and transparency (broad, timely and
accurate disclosure, use of proper accounting
standards)
– Most MNEs, in their own self-interest, follow a
policy of adapting to changing host-country
priorities whenever possible
– Independence (dispersed ownership, independent
audits and oversight, independent directors)
– The essence of such adaptation is anticipating hostcountry priorities and making the activities of the
firm of continued value to the host country
– Shareholder equity (one share, one vote)
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– Although an investment agreement creates
obligations on the part of both foreign investor and
host government, conditions change and agreements
are often revised in the light of such changes
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Country-Specific Risks:
Transfer Risk
Firm-Specific Risks
• Host countries may look for control of:
• Transfer risk is defined as limitations on the
MNE’s ability to transfer funds into and out of
a host country without restrictions.
– Local sourcing of raw materials and
components
• When a government runs short of foreign
exchange and cannot obtain additional funds
through borrowing or attracting new foreign
investment, it usually limits transfers of foreign
exchange out of the country, a restriction
known as blocked funds.
– Facility location
– Transportation
– Technology
– Markets
– Brand names and trademarks
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Exhibit 16.4 Management Strategies
for Country-Specific Risks
Country-Specific Risks:
Transfer Risk
Cultural and
Institutional Risk
Transfer Risk
• MNEs can react to the potential for blocked
funds at three stages:
Blocked Funds
Ownership Structure
Human Resource Norms
• Preinvestment strategy to
anticipate blocked funds
• Fronting loans
• Joint venture
• Local management & staffing
• Creating unrelated exports
• Obtaining special dispensation
• Forced reinvestment
Religious Heritage
Intellectual Property
• Understand and respect host
country religious heritage
• Legal action in host
country courts
• Support worldwide treaty
to protect intellectual
property rights
Nepotism and Corruption
• Disclose bribery policy to both
employees and clients
• Retain a local legal advisor
Protectionism
• Support government
actions to create
regional markets
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– Prior to making an investment, a firm can analyze
the effect of blocked funds on return on investment,
the desired local financial structure etc.
– During operations a firm can attempt to move funds
through a variety of repositioning techniques
– Funds that cannot be moved must be reinvested in
the local country in a manner that avoids
deterioration in their real value because of inflation
or exchange depreciation
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Country-Specific Risks:
Cultural and Institutional Risks
Country-Specific Risks:
Cultural and Institutional Risks
• When investing in some of the emerging markets, MNEs
that are resident in the most industrialized countries face
serious risks because of cultural and institutional
differences:
• Ownership structure:
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– Many countries have required that MNEs share ownership of
their foreign subsidiaries with local firms or citizens
– This requirement has been eased in most countries in recent
years
– Differences in allowable ownership structures
• Human resource norms:
– Differences in human resource norms
– Nepotism and corruption in the host country
– MNEs are often required by host countries to employ a certain
proportion of host country citizens rather than staffing mainly
with foreign expatriates
– Protection of intellectual property rights
– It is often very difficult to fire local employees due to host
country labor laws and union contracts
– Differences in religious heritage
– Protectionism
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Country-Specific Risks:
Cultural and Institutional Risks
Country-Specific Risks:
Cultural and Institutional Risks
• Religious heritage:
•
• Nepotism and corruption:
Intellectual property rights:
– Intellectual property rights grant the exclusive use of patented
technology and copyrighted creative materials
– Despite religious differences, MNEs have operated
successfully in emerging markets, especially in extractive and
natural resource industries such as oil, natural gas, minerals
and forest products
– Courts in some countries have historically not done a fair job
of protecting these rights
•
– There is clearly endemic nepotism and corruption in many
important foreign investment locations
Protectionism:
– Protectionism is defined as the attempt by a national
government to protect certain of its designated industries from
foreign competition
– Bribery is not limited to emerging markets, as it is also a
problem in industrialized nations such as the US and Japan
– Industries that are usually protected are defense, agriculture,
and infant (emerging) industries
– Protectionism occurs through the use of tariff and non-tariff
barriers
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Exhibit 16.7 Management Strategies for GlobalSpecific Risks
Global-Specific Risks
• Global-specific risks faced by MNEs
have come to the forefront in recent
years:
– Terrorism and war
– Poverty
Terrorism & War
Anti-Globalization
Environmental Concerns
• Support government
efforts to flight terrorism
and war
• Support government
efforts to reduce trade
barriers
• Show sensitivity to
environmental concerns
• Crisis planning
• Recognize that MNEs
are the targets
• Support government efforts
to maintain a level playing
field for pollution controls
Poverty
Cyber Attacks
• Provide stable, relatively
well-paying jobs
• No effective strategy
except internet security
efforts
• Establish the strictest of
• Support government
occupational safety standards
anti-cyber attack efforts
– Anti-globalization
– Cyber attacks
– Environmental concerns
MNE movement towards multiple primary objectives:
Profitability, Sustainable Development, Corporate Social Responsibility
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Illustration of Global-Specific
Risks: The Case of Starbucks
Exhibit 16.8 Arabica Bean Coffee Prices,
1981-2001
US cents/pound
160
• Starbucks found itself an early target of the
anti-globalist movement.
140
120
• The company appeared to be yet another
American cultural imperialist.
100
80
• As global prices for coffee plummeted in the
late 1990’s, companies like Starbucks were
criticized as being unwilling to help improve
the economic conditions of the coffee growers
themselves
60
40
20
0
1981 1982 1983 1984 1985 1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001
Source: International Coffee Organization (ICO), www.ico.org.
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Illustration of Global-Specific
Risks: The Case of Starbucks
Starbucks’ coffee buyers work with coffee wholesalers and directly
with small farmers and farm cooperatives in procurement
• Much of the growing pressure on all multinational
companies for sustainable development and social
responsibility arose directly from consumer segments.
• In response, the company introduced in 1998 coffee
that was cultivated under the canopy of shade trees in
host countries (a practice considered ecologically
sound).
• In addition, in 2000, the company introduced “Fair
Trade” coffee in an effort to improve the living
standards of coffee growers
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Infrastructure, including
schools, clinics, and coffee
processing facilities
Supplemental funding for
farm credit programs to
support farm capital needs
Contributions to CARE,
the non-profit international
relief organization
Shade Grown Mexico Brand
Fair Trade Certified Brand
Partnership formed in 1998, encourages
production of shade-grown coffee using
ecologically sound growing practices to
promote bio-diversity and to financially
support farms employing these practices
(with Conservation International, CI)
Partnership in which Starbucks promises
consumers that the farmers who produced
the coffee beans were paid a guaranteed
minimum price that helps support a better
life for farm families
(with TransFair USA)
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