Political risk is a type of

risk In simple terms, risk is the possibility of something bad happening. Risk involves uncertainty about the effects/implications of an activity with respect to something that humans value (such as health, well-being, wealth, property or the environme ...

faced by

investors An investor is a person who allocates financial capital with the expectation of a future return (profit) or to gain an advantage (interest). Through this allocated capital most of the time the investor purchases some species of property. Type ...

corporations A corporation is an organization—usually a group of people or a company—authorized by the state to act as a single entity (a legal entity recognized by private and public law "born out of statute"; a legal person in legal context) and r ...

, and

governments A government is the system or group of people governing an organized community, generally a state. In the case of its broad associative definition, government normally consists of legislature, executive, and judiciary. Government is a ...

that political decisions, events, or conditions will significantly affect the profitability of a business actor or the expected value of a given economic action. Political risk can be understood and managed with reasoned foresight and investment. The term political risk has had many different meanings over time. Broadly speaking, however, political risk refers to the complications businesses and governments may face as a result of what are commonly referred to as political decisions—or "any political change that alters the expected outcome and value of a given economic action by changing the probability of achieving business objectives". Political risk faced by firms can be defined as "the risk of a strategic, financial, or personnel loss for a firm because of such nonmarket factors as macroeconomic and social policies (fiscal, monetary, trade, investment, industrial, income, labour, and developmental), or events related to

political instability Political decay is a political theory, originally described by Samuel P. Huntington, which describes how chaos and disorder can arise from social modernization increasing more rapidly than political and institutional modernization. Huntington provi ...

(

terrorism Terrorism, in its broadest sense, is the use of criminal violence to provoke a state of terror or fear, mostly with the intention to achieve political or religious aims. The term is used in this regard primarily to refer to intentional violen ...

, riots, coups, civil war, and insurrection)." Portfolio investors may face similar financial losses. Moreover, governments may face complications in their ability to execute diplomatic, military or other initiatives as a result of political risk. The field has historically focused on analyzing political risks predominantly in emerging economies, but such risks also exist in developed economies and liberal democracies as well, albeit in different manifestations. The term is used in the sense of downside risks but political actions or developments can also create upside risks or opportunities for companies and governments. A low level of political risk in a given country does not necessarily correspond to a high degree of political freedom. Indeed, some of the more stable states are also the most

authoritarian Authoritarianism is a political system characterized by the rejection of political plurality, the use of strong central power to preserve the political ''status quo'', and reductions in the rule of law, separation of powers, and democratic votin ...

. Long-term assessments of political risk must account for the danger that a politically oppressive environment is only stable as long as top-down control is maintained and citizens prevented from a free exchange of ideas and goods with the outside world. Understanding risk partly as probability and partly as impact provides insight into political risk. For a business, the implication for political risk is that there is a measure of likelihood that political events may complicate its pursuit of earnings through direct impacts (such as taxes or fees) or indirect impacts (such as opportunity cost forgone). As a result, political risk is similar to an expected value such that the likelihood of a political event occurring may reduce the desirability of that investment by reducing its anticipated returns. There are both macro- and micro-level political risks. Macro-level political risks have similar impacts across all foreign actors in a given location. While these are included in country risk analysis, it would be incorrect to equate macro-level political risk analysis with country risk as country risk only looks at national-level risks and also includes financial and economic risks. Micro-level risks focus on sector, firm, or project specific risk.

Macro-level

Macro-level political risk looks at non-project specific risks. Macro political risks affect all participants in a given country. A common misconception is that macro-level political risk only looks at country-level political risk; however, the coupling of local, national, and regional political events often means that events at the local level may have follow-on effects for stakeholders on a macro-level. Other types of risk include government currency actions, regulatory changes, sovereign credit defaults, endemic corruption, war declarations and government composition changes. These events pose both portfolio investment and foreign direct investment risks that can change the overall suitability of a destination for investment. Moreover, these events pose risks that can alter the way a foreign government must conduct its affairs as well. Macro political risks also affect the organizations operating in the nations and the result of macro level political risks are like confiscation, causing the seize of the businesses' property. Research has shown that macro-level indicators can be quantified and modelled like other types of risk. For example,

Eurasia Group Eurasia Group is a political risk consultancy founded in 1998 by Ian Bremmer. History Eurasia Group reports on emerging markets including frontier and developed economies, in addition to establishing practices focused on geo-technology and ener ...

produces a political risk index which incorporates four distinct categories of sub-risk into a calculation of macro-level political stability. This Global Political Risk Index can be found in publications like ''

The Economist ''The Economist'' is a British weekly newspaper printed in demitab format and published digitally. It focuses on current affairs, international business, politics, technology, and culture. Based in London, the newspaper is owned by The Econo ...

''. Other companies which offer publications on macro-level political risk include

Economist Intelligence Unit The Economist Intelligence Unit (EIU) is the research and analysis division of the Economist Group, providing forecasting and advisory services through research and analysis, such as monthly country reports, five-year country economic forecasts, ...

, DaMina Advisors, iStrategic LLC, IHS Markit, Jane's and The PRS Group, Inc. DaMina Advisors is focused on

frontier markets A frontier market is a term for a type of developing country's market economy which is more developed than a least developed country's, but too small, risky, or illiquid to be generally classified as an emerging market economy. The term is an ec ...

such as Africa. iStrategic LLC is focused on the Middle East and North Africa.

Micro-level

Micro-level political risks are project-specific risks. In addition to the macro political risks, companies have to pay attention to the industry and relative contribution of their firms to the local economy. An examination of these types of political risks might look at how the local political climate in a given region may affect a business endeavor. Micropolitical risks are more in the favour of local businesses rather than international organizations operating in the nation. This type of risk process includes the project-specific government review Committee on Foreign Investment in the United States (

CFIUS The Committee on Foreign Investment in the United States (CFIUS, commonly pronounced "Cifius" ) is an inter-agency committee of the United States government that reviews the national security implications of foreign investments in U.S. companies ...

), the selection of dangerous local partners with political power, and expropriation/nationalization of projects and assets. To extend the CFIUS example above, imagine a Chinese company wished to purchase a U.S. weapons component producer. A micro-level political risk report might include a full analysis of the CFIUS regulatory climate as it directly relates to project components and structuring, as well as analysis of congressional climate and public opinion in the United States toward such a deal. This type of analysis can prove crucial in the decision-making process of a company assessing whether to pursue such a deal. For instance,

Dubai Ports World DP World is an Emirati multinational logistics company based in Dubai, United Arab Emirates. It specialises in cargo logistics, port terminal operations, maritime services and free trade zones. Formed in 2005 by the merger of Dubai Ports Auth ...

suffered significant public relations damage from its attempt to purchase the U.S. port operations of P&O, which might have been avoided with more clear understanding of the US climate at the time. Political risk is also relevant for government project decision-making, whereby government initiatives (be they diplomatic or military or other) may be complicated as a result of political risk. Whereas political risk for business may involve understanding the host government and how its actions and attitudes can affect a business initiative, government political risk analysis requires a keen understanding of politics and policy that includes both the client government as well as the host government of the activity.

Geopolitical risk

In relating to international politics or geopolitics, political risk is called geopolitical risk. In this relation, geopolitical risk consists of possible threats resulting from international competition (or geopolitical competition) between states for natural resources, markets, as well as strategic trade routes (e.g. the 21st Century Maritime Silk Road). Geopolitical risks such as wars, terrorist acts, military attacks, or diplomatic conflicts around the world are of major concern to business, financial market participants, public media, and policy makers.

Macro-level

Micro-level

Geopolitical risk

References

Further reading