Political Risks in International Marketing
Assessing the political environment is an important part in any business decision. Laws and regulations passed by either local, regional and central government bodies can affect foreign firms’ operations. Also, firms are comfortable assessing the political climates in their home countries. However, assessing the political climates in other countries is still problematic. Classification and description of political risks When doing international business, the manager may face several types of financial risks.
The major types of financial risks are commercial risks, political risks, exchange rate risks, and other such as inflation-related risks. Thus, political risks are non commercial risks. Political risks are any changes in the political environment that may adversely affect the value of a firm’s business activities. Political risks may occur in any nation, but the risks vary considerably between countries. We may distinguish two types of classification of political risks. A classification based on the characteristic of political risks and a classification or categorization based on the local government actions or control.
Classification based on the characteristics of political risks Characteristics refer to as the facts that are inherent to each political risk. In other terms, their uniqueness or what make them different from one another. There are three types of such characteristics: ownership risks, operating risks, and transfer risks. Ownership risk In which the property of the firm is threatened through expropriation, confiscation or domestication. Ownership risk exposes property and life. The triad will be explained in the second classification. Operating risk In which there is interference with the firm operations.
The ongoing operations of the and/or the safety of its employees are threatened through changes in laws, environmental standards, tax codes, terrorism, armed insurrection or wars, and so forth. Transfer risk In which the government interferes with a firm’s ability to shift funds into and out of the country. Classification based host country actions We can distinguish two types: political risks out of the government control and political risk induced by the government. Political risks out of government control. There are risks or events arise from nongovernmental actions, factors that are outside the government responsibility.
There are wars, revolution, coup d’etat, terrorism, strikes, extortion, and kidnappings. They all derived from some unstable social situation, with population frustration and intolerance. All these risks can generate violence, directed towards firms’ property and employees. We may also have the case of externally induced financial constraints and externally imposed limits on imports or exports, especially in case of embargoes or any economic sanctions against the host country. Political risks induced by the government These risks constitute some laws directed against foreign firms. Some government-induced risks are very drastic.
There are expropriation, confiscation and domestication. Expropriation is the seizure of foreign assets by a government with payment of compensation to the owners. In other terms, it is involuntary transfer of property, with compensation, from a privately owned firm to a host country government. Expropriation may generate some funds for the owners. However, procedures to get paid from the government are sometimes protracted and the final amount remains low. Furthermore, if no compensation is paid, conflicts may erupt between the host country and the country of the expropriated firm.
For instance, the relations between U. S. and Cuba acknowledge such situation, since Cuba does not offer compensation to U. S. firms that have their assets sized. 3(*) Also, expropriation can refrain other companies from investing in the concerned country. Confiscation is another type of ownership risk similar to expropriation, except compensation. It is involuntary transfer of property, no compensation, from a privately owned firm to a host country government. In confiscation, firms do not receive any funds from government. Thereby, it represents a more risky situation for foreign firms.
Some industries are more vulnerable to confiscation than others because of their importance to the host countries and their lack of ability to shift operations. Sectors such as mining, energy, public utilities, and banking have been targets of such government actions. Domestication offers to governments a subtle control over the foreign investments. There is a partial ownership transfer and companies are urged to prioritize local production and to retain a large share of the profit within the country. Domestication can negatively impact the international marketer activities, as well as that of the entire firm.
For example, if foreign companies are forced to hire nationals as managers, poor cooperation and communication can result. If domestication was imposed within a short time p, poorly trained and inexperienced local managers would head the firm operations with possible lost of profits. Other government actions-related risks are less dangerous but more common such as boycott, sabotage. When facing shortage of foreign currency, government, sometimes, attempts to control the movement of capital in and out of the country. Often, exchange controls are levied selectively against certain products or companies.
Exchange controls limit importation of goods so that firms might be confronted with difficulties in their regular transactions. Severe restrictions on import can be a motive for foreign corporate to shut down. Governments may also raise the tax rate applied to foreign investors in order to control them and their capital. Government may implement a price control system. Such control uses to derive from a sensitive political situation. For example, social pressure may result in a kind of price standardization for particular sectors like food, transportation, fuel, and healthcare.
Political risks like arms conflicts, insurrection may affect all firms in the country equally. For that reason they are called macro political risks. Unlike, nationalization, strikes, expropriation may affect only a handful and specific firm, they are named micro political risks. Impact of some political risks Some negative effects of political risks on firm are summarized in the following table. Table 1. Holistic table summarizing the major political risks and their effects on firms TYPES| IMPACT ON FIRMS| Expropriation| Loss of future profits| | | Confiscation| Loss of assets| Loss of future profits| | | Campaigns against foreign goods| Loss of sales| | Increased costs of public relations efforts to improve public image| | | Mandatory labor benefits legislation| Increased operating costs| | | Kidnappings, terrorists threats, and other forms of violence| Disrupted production| | Increased security costs| | Increased managerial costs| | Lower productivity| | | Civil wars| Destruction of property| | Lost sales| | Disruption of production| | Increased security costs| | Lower productivity| | | Inflation| Higher operating costs| | Repatriation| Inability to transfer funds freely| | | Currency devaluations| Reduced value of repatriated earnings| | | Increased taxation| Lower after-tax profits| | | Source, Ricky W. Griffin, International business, 2005, page 73 In long run, and depending on the severity of the risks, action taken by government may decrease income and be detrimental to the host country economy. Strong political risks that are deeply rooted in the country governance habit might be barriers to foreign investment and country prosperity. What is going on in West Africa?