Mitigating National Differences in Political & Economic Risks, Exercises of International Business

Download Mitigating National Differences in Political & Economic Risks and more Exercises International Business in PDF only on Docsity! International Business - MGT520 VU © Copyright Virtual University of Pakistan 37 Lesson 14 NATIONAL DIFFERENCES IN POLITICAL ECONOMY Political risk: 1. Political risks are any governmental actions or politically motivated events that adversely affect the long-run profitability or value of firms doing business. 2. An important aspect of the political environment is the phenomenon of ethnicity – a driving force behind the political instability around the world. Managers must understand the ethnic and religious composition of the host country in order to anticipate situations of political and general instability. 3. Nationalization refers to the forced sale of the MNCs assets to local buyers, with some compensation to the firm. Expropriation occurs when the local government seizes the foreign- owned assets of the MNC, providing inadequate compensation, if any at all. 4. Macro political risk events are those that affect all foreign firms doing business in a country or region; e.g., terrorism, the use or threat of use of anxiety inducing violence for political purposes. Micro political risk events are those that affect one industry or company or a few companies. 5. Seven typical political risk events common today are: a. Expropriation without prompt and adequate compensation b. Forced sale of equity to host country nationals, usually at or below depreciated book value c. Discriminatory treatment against foreign firms in applying laws and regulations d. Barriers to repatriation of funds (profits or equity) e. Loss of technology or intellectual property rights f. Interference in managerial decision-making g. Dishonesty by government officials Political risk assessment: 1. Global companies must commit some form of political risk assessment in order to manage their exposure to risk and to minimize financial losses. 2. Risk assessment by multinational corporations usually takes two forms: the use of experts or consultants and the development of internal staff and in-house capabilities. Both means may be used. The focus must be on monitoring political issues before they become headlines. The ability to minimize negative effects on the firm or to be the first to take advantage of opportunities is greatly reduced once developments have been reported in the news. 3. An additional technique for assessing political risk is the use of computer risk modeling. The in- house staff at American Can, for example, uses the PRISM system (Primary Risk Investment Screening Matrix), which creates an index of desirability based on feedback from overseas managers and consultants on over 200 variables. The countries with the most favorable PRISM indices are then considered by American Can for investment. docsity.com International Business - MGT520 VU © Copyright Virtual University of Pakistan 38 4. To analyze their data on potential risks, some companies attempt to quantify variables into a ranking system among countries as input to investment decisions. Scores are based on criteria including the political and economic environment, domestic economic conditions, and external economic relations. An actual risk ranking of selected countries is shown in Exhibit 1.2: Comparative Country Risk Rankings. 5. One drawback to these quantitative systems is that they rely on information based primarily on past events. Still another method that is designed to be more rapidly responsive to and to predict political changes is an early warning system. The early warning system technique of assessing risk involves the use of lead indicators to predict possible political dangers, such as riots, pending import-export restrictions, etc. 6. For autonomous international subsidiaries, most of the impact from political risks will be at the level of ownership and control of the firm. For global firms, the primary risks are likely to be from restrictions (on such things as imports, exports, and currency) with the impact of the local level of the firm’s transfers of money, products, or component parts. Managing political risk: 1. After assessing the potential political risk of investing or maintaining current operations in a country, managers face perplexing decisions on managing political risk. On one level, they can decide to suspend their firm’s dealings with a certain country at a given point – either by the avoidance of investment or by the withdrawal of current investment (by selling or abandoning plants and assets). On another level, if they decide that the risk is relatively low in a particular country or that a high-risk environment is worth the potential returns, they may choose to start (or maintain) operations there and to accommodate that risk through adaptation to the political regulatory environment. That adaptation can take many forms, each designed to respond to the concerns of a given local area. 2. Taoka and Beeman suggested these means of adaptation: a. Equity sharing includes the initiation of joint ventures with nationals to reduce political risks. b. Participative management refers to actively involving nationals, including those in labor organizations or government, in the management of the subsidiary. c. Localization of the operation by modifying the subsidiary’s name, management style, and so forth, to suit local tastes. Localization seeks to transform the subsidiary from a foreign firm to a national firm. d. Development assistance includes the firm’s active involvement in infrastructure development (foreign-exchange generation, local sourcing of materials or parts, management training, technology transfer, securing external debt, and so forth). docsity.com