Political Science 354

Political Risk Analysis

Week 1: Lectures 1 & 2
Introduction to the Module
What is your understanding of Political Risk Analysis?
 A bit of theory, mostly practical.
 Dates:
o Quiz - opens 2 October 13:00. Assessed on everything up until that
day. Closes next day at 17:00 (03 October). Multiple choice and
written. Do the readings prior. One attempt.
o Essay - macro political risk identification. Tutorial on this will be had.
Due 17 October at 17:00.
o 24 October sit down test @ 17:30.
 Potential risks and how to analyse them/determine what they are.
 Must be able to take a step back and critically analyse free of bias.
 Avoid tunnel vision for this context.
 Not just regurgitation - critical reading and analysis.
 Risk is not only negative.
 Possible to be wrong.
 Forecast high probability or low probability that certain events may or may not
occur.
What is risk/political risk and why does it matter?
 "...Reports that say that something hasn't happened are always interesting to
me, because as we know, there are known knowns; there are things we
know we know. We also know there are known unknowns; that is to say we
know there are some things we do not know. But there are also unknown
unknowns – the ones we don't know we don't know. And if one looks
throughout the history of our country and other free countries, it is the latter
category that tend to be the difficult ones..."
 Known known.
 Known unknown.
 Unknown known - intuition/fight or flight.
 Context/history of a country.
  Not right/wrong, but level of risk of thing happening (example of land
confiscation in South Africa - current law does not provide for this, so there
would be low risk unless the law changes).
 Political events that have changed the way the world works:
o 9/11.
o Fall of Berlin Wall.
o Donald Trump election.
o South Africa end of apartheid.
Risk
 Uncertainty versus risk.
 Risk:
o Probability that undesired event will occur.
o Set of unknown outcomes.
o Possibility for change.
o NB: also a function of perspective.
 Uncertainty: inadequate information about probability.
 Inherent risk versus residual risk:
o Assess inherent risk.
o Evaluate effectiveness of existing controls or mitigation efforts.
o Determine the resulting residual risk.
o Evaluate the residual risk against the risk appetite.
o Residual risk = inherent risk offset by controls or mitigation.
 Bouchet et al 2018: "…Risk management means "looking over the hill and
around the corner…".
Political risk
 "…Newspapers and politicians pay little heed to what they are told by
professors of politics. But they take very seriously - sometimes far too
seriously - what they are told by economists…" - Susan Strange, 1972.
 "...Political risks arise from the actions of national governments which interfere
with or prevent business transactions, or change the terms of agreements, or
cause the confiscation of wholly or partially foreign owned business property".
(Weston and Sorge in Kobrin, 1979).
 Only actors of national governments?
  Risk - probability that any event will turn into measurable loss.
 Probability - how likely is it that will occur?
 Impact - if risk does occur, how big will impact be?
 Instability versus risk:
o "...(Instability) Political Fluctuations which do not change the business
environment significantly do not represent risk for international
business..." (Kobrin, 1979:68).
o "...Conventional wisdom used to dictate that because everyone else is
investing in a given country, it must be the right place to invest, the idea
being that strength lay in numbers, and surely, not everyone could be
wrong..." (Daniel Wagner, CEO of Country Risk Solutions).
Sources of risk
 How have the sources/origins of political risk changed since 1979?
 Future political instability will be fuelled by economic inequality, and political
and socio-economic discontent, which social media is giving fresh impetus to."
Andrew Hammond.
 Post-pandemic world: diminished capacity to absorb external shocks and
internal challenges.
"Fat tails and black swans"
 "…events that appear highly unlikely to occur but that are earth-moving when
they do…these kinds of events occur more often than we think…risk
managers too often fail to include these kinds of events in their risk models…"
 Do they still exist?
Risk generators
 Political risks used to be mostly driven by the actions of governments.
o Modern risk generators operate on five levels:
 (1) The individual.
 (2) Local organisations and governments.
 (3) National governments.
 (4) Transnational organisations.
 (5) Supra-national and international institutions.
Week 2: Lectures 3 & 4
Political Risk Drivers and Factors and How do we measure risk?
What is political risk?
 Measuring political risk means assessing a country's political stability.
 Political risk can be of a political, social, security, or climatic nature.
 Global trade: 4 major political risks .
o (1) Government interference.
o (2) War, civil unrest, and terrorist attacks.
o (3) Embargoes and sanctions.
o (4) Climate risks.
Regional political risk
 Political risk analysis historically used nation-state as principal unit of analysis.
 However, as a result of globalisation and regionalism, political risk should be
assessed on a regional scale.
 Unit of analysis should move from the nation-state to include the regional unit.
 The conflict in the Niger Delta, southern Nigeria, and the effect this conflict
has on the Gulf of Guinea.
Table 1: Regional risk index
Qualitative model.
Traditionally, use the nation state as unit of analysis.
Most important actor with risk assessment process.
1. Political stability or lack of political will, and law and order.
2. War and armed insurrection.
3. Ethnic, religious, and/or political and radical tension, social conflict and deep
ideological cleavages.
4. Authoritarianism, undemocratic measures to retain power and generals in
power.
5. Religious fundamentalism, radical religious forces and religion in politics.

Political War and Ethnic, Authoritarianis Religious

stability, armed religious m, fundamentalis
(lack of) insurrectio and/or undemocratic m, radical
 political n political measures to religious
will, and and radical retain power forces and
law and tension, and generals in religion in
order social power politics
conflict
and deep
ideological
cleavages

Extrem There is The region One or An authoritarian Within a

e risk major is in a state more ethnic and/or military country,
political of war. One groups or regime is in religious forces
instability or more ideologically place. There is are in power
and the countries motivated major discontent and are
widespread are organisation and democratic shunning
occurrence involved s are ideals are business.
of political and involved in suppressed.
violence. sustained a liberation
Furthermor attacks are struggle or
e, the future widespread are
of . motivated to
government change the
s is incumbent
uncertain. government
Governmen . Violence is
ts are widespread
indifferent to and
their ethnically or
populations ideologically
and political based.
will is non-
existent.

High Politically A country in Governmen There is a major Religious

risk the region is the region ts and threat that the fundamentalism
very is politics are military may take is experienced
unstable. embroiled ethnically power and/or throughout the
Civil unrest, in based. that an country or
politically continuing Ideological authoritarian region. Western
motivated insurgency and ethnic regime may be business, in
violence with attacks tensions are established. particular, is
and being evident and severely
lawlessness widespread unrest is affected.
are evident. . widely
Governmen experienced
ts perform and felt.
 poorly as
almost no
political will
is evident.

Mediu Previous In the past Ethnic and In the past Religious

m risk political war and or authoritarianism fundamentalism
instability armed ideological and/or military plays a small
but no insurrection tensions rule was evident. role in a
recent were were Currently, the country.
regime evident experienced country is Business is not
change with although no in the past democratic and directly affected.
minor civil serious but there is little
unrest. The threat currently evidence of
government currently there are reverting back to
s' exists that only military or
performanc violence sporadic authoritarian
e is may flare outbreaks rule.
acceptable. up again. of tension,
but not to
the
detriment of
business.

Low The region The region No ethnic or The countries There is no

risk is politically is stable as ideological within the region religious
stable with government tensions are not fundamentalism
the rule of s do not exist within authoritarian and within a country
law being indulge in countries. there are or the region.
upheld. arbitrary Governmen currently no Business is not
Regime violence, ts cater for generals in affected, at all.
legitimacy is directly or the needs power.
evident. indirectly, of all Democracy is
Governmen against equally. entrenched.
ts within the their own
region are populations
performing .
well and
political will
is evident.

Risk Types and Ratings Explained

 Outlook for the business risk environment in each country on a ten-point
scale.
  The score is a composite risk score that factors in Control Risks' political,
security, operational, regulatory, cyber, and integrity risks, including a range of
ESG-related risks.
 Control risk map - link on sunlearn Week 2.
 Based on what happened in previous year, and what will happen in the next
year.
 What happened in year of 2024, and what factors contributed to these risks?
 Regions important due to spillover effect (e.g. Scandinavia as a region).
 Not measure of democracy, more so of political stability.
Cyber and Digital Risk
 This rates the level of cyber and digital threats affecting on organisation's
operations and/or personnel in a given country.
 Our ratings reflect the overall capabilities and intent of state-sponsored,
criminal, and activist threat actors operating in or targeting the country.
Political Risk
 Political risk assesses the degree to which businesses operating or investing
in the country are likely to be affected by the nature and stability of the
government and policy-making at international, national, and sub-national
levels.
Regulatory Risk
 Assesses the degree to which businesses are likely to be affected by the
transparency and predictability of the regulatory environment, the pace,
and nature of regulatory change and regulatory enforcement.
Security Risk
 Assesses the exposure of people and operations to physical security
threats including unrest, terrorism, and criminality.
Operational Risk
 Assesses the security and reliability of inputs and infrastructure critical to
operational resilience such as energy sources and labour.
o South Africa:
 Electricity (low resilience).
 Union power, unskilled labour, migrant labour (high levels).
Integrity Risk
  Assesses the quality of governance in the business environment, and the
extent to which businesses operating or investing in the country might impact
exposure to reputational and compliance risk.
Sources of political risk
 Outliers: do not have to originate from government - example of Chinese
hacker in Russia attacking USA elections.
 Organised groups for example environmental groups or NGOs.
 Political actors: individual or group that holds formal or informal power.
 Kliem 2022.
o "Looking into the future requires anticipating potential threats and
opportunities and the trigger events that could reflect their existence"
(6).
o "Political risk management is, therefore, understanding context,
accumulating facts and data, assessing situations, and responding
effectively to political behaviour in a manner that minimises loss and
maximises gain".
 Resilience: ability to withstand external (or internal) shocks.
 Look at past events and study them. Risk identification. Study.
 Present events (look at for essay). Risk analysis. Understand .
 Future events. Risk response. Anticipate.
 Political actors can include individuals/groups with informal/formal power.
Political Risk Management
 Management.
o Probability.
o Impact.
o Priority.
o Response.
 Enterprise.
o What are the drivers that enterprises want to understand and manage
related to political risks?
Sign up for essay tutorial.
Quiz: Kliem article important.
Political risk drivers conceptualised here.
Written assessment: critique of political risk factors. What should be
reconceptualised, or leave it as is?
Religious fundamentalism discussion.
Review, reflect, evaluate.
Oil and gas industry (next week class).
Three articles to read for next week Monday.
Working with them on Wednesday class in terms of assessment.

Operationalisation - how we measure.

Week 3: Lectures 5 & 6
Industry specific political risk
 Macro-political risk factors/triggers that have ability to affect various sectors of
society.
 Environmental risks for example. Impacts business no matter where you
operate.
 Micro-risks - industry specific.
Micro versus macro political risk (Alon & Herbert)
 Macro:
o Economic related.
 Global economic recessions.
 Inflation.
 Investment by foreign country in host country.
 Disruptions to supply chain - can spill into industry specific risk
factors.
 Sanctions and embargos.
o Society related - building blocks of society.
 Nationalism.
 Populism.
 Apartheid/segregation.
 High levels of xenophobia.
 Scepticism towards international actors.
o Government related.
 War and conflict.
o Host country: e.g. China.
 Why is this distinct between host and home country important?
 Relationship between them/foreign policy has an impact.
 e.g. French companies in West Africa being ousted.
  Example of Trump wanting to ban Huawei - nationalist ideas and
threat to West capital production.
 Trade war between US and China.
 Micro:
o Home country.
o Industry.
o Firm.
o Project.
 Why? Authors state that the fact that if you operate in a
particular industry, you have a higher level of political risk.
 Anything related to resources.
 Natural resources are finite.
 Extraction industry.
o Guest firm: e.g. US firm in China.
 Overlap with one another.
 (according to diagram).
 Macro risks have varying factors related to matters feeding into it.
 Micro political risks feeding into one another.
Conceptualisation
 Micro risks are more prevalent: investors are subject to micro risks with
greater regularity than macro risks.
o Different industries are affected by different political risk variables.
o Due to nature of the nature and nature of the business they function in.
 However, the types of investments that are affected by micro risks differ
considerably from industry to industry, region to region, state to state, or
nation to nation.
 What can we observe in society to notice micro risks? - political risks must
originate in political realm (NB!).
o e.g. consumer-facing companies: related to environment; example of
local government policies in relation to Airbnb in Cape Town; travel
restrictions - immigration (affected by more nationalist policies for
example Germany).
  Alon et al 2006: The nature and scope of political risk changes with respect to
specific time, home and host countries, and organisations involved.
 Above mentioned aspects of micro risk essential for selection of sector
specific micro risk factors.
 Isolation of industry specific risk factors contribute to development of micro
political risk analysis.

 Consumer-facing companies.
o Cruise lines, restaurants, hotels (reputational risks).
 Extractive industries.
o Oil and gas companies.
 Manufacturing companies.
o Apparel companies.
o H&M example - high risk appetite so many factors will not really make
a dent in sales.
 Entertainment companies.
 Difference in political risk?
 What can companies do to limit industry specific risk?
o Utilise risk analysts suited to particular company/industry.
o Nairobi and moat around hotel to mitigate terrorist threats by local
groups.
Higher political risk
 "Mining and petroleum operations tend to be the "most sensitive of all
international corporate activities" because the resources are a country's
"national patrimony", and such projects can impact a country more than other
activities through the attendant wealth, internation prestige, and power
(Moran, 1998: 70). Not surprisingly, "foreign investment in infrastructure or
natural resources tends to provoke nationalist sentiment" (Markwick,
2001:39)" in Alon et al 2006:631.
 Firms in this industry - mining/extraction - are willing to accept a high degree
of risk if they foresee that they can sufficiently manage the risk to ensure
profitability.
o Will accept these risks.
o Niger delta.
 o Kidnap and ransom risks - oil companies implemented insurance for
this.
o Chevron - "republic of chevron".
o Environmental degradation in Niger delta.
 What is the firms risk appetite?
 "Among the political risk variables mentioned previously, variables such as
war, terrorism, labour unrest, political instability, corruption, and the like
are macrovariables that affect almost all sectors, although in varying degrees.
Factors such as energy vulnerability, oil embargoes, environmental
activism, and restrictions on oil exports can be identified as micro- or
industry-specific variables that solely affect the energy sector. Hence, it is
vital that, even as companies in this sector monitor the macrovariables, they
also lay special emphasis on the specific microvariables that may affect them
to a greater degree" (Alon et al 2006:633).
 "Having analysed the impact of five different types of political instability - civil
war, changes in government policy, corruption, disputes with neighbouring
states, and social unrest - we found that certain potential political risks than
some of their rivals in the past. By considering political risk to be firm-specific,
Shell's or Elf-Aquitaine's willingness to invest in Nigeria may be partly
explained on the basis of their respective firm-specific risk, or rather their
ability to reduce risk" (Frynas and Mellahi, 2003:559).
 Will discuss this article in Wednesday class.

Class discussion
 Critical assessment of five main arguments presented in the introduction,
discussion, and conclusion - (1) extraction of articles arguments.
 Introduction:
o Risk appetite.
o Companies in Niger Delta have high risk appetite in these regions.
o Hypothesis that nature of the oil and gas industry carries high levels of
political risk.
o These companies are prepared to stay in these volatile reasons due to
(1) resources and (2) capabilities of the firm.
o Due to capabilities and resources, political risks can become an
advantage.
o Home-host country relationship matters.
 o Need to change focus/unit of analysis. Not only focus on nation state
but also industry and firm-specific risks.
o Actors in political risk/system - not mere bystanders (MNC's).
o Have the resources and capabilities to influence host-country
environment.
o Corporate-social responsibility.
o Diplomacy - statesman-like approach/behaviour.
o Political instabilities in Nigeria.
 Are these arguments confirmed or disputed during the analysis of the
different types of instability and is this still relevant today? - (2) critical
judgement (what do authors say about hypotheses/arguments?)
o Practical examples (from the text why it is confirmed or disputed).
o Political instabilities in Nigeria:
 Civil war:
 Companies remained stable during duration of the civil
war.
 Offshore oil companies had an advantage.
 Resources of offshore and onshore.
 Focus on offshore production helped to insulate both
Chevron and Mobil from other political risks - gave them a
competitive advantage.
 Diversified their portfolio.
 "business as usual".
 Changes in government policy:
 Had little impact on operations of the oil industry.
 Nationalisation and expropriation of their assets in 1970s.
 Changes in taxation policy/changes in environmental
legislation.
 Nationalistic policies aimed at increasing Nigeria's direct
control over oil resources.
 Shell's political influence in Nigeria considerably smaller
than in the 60s - rise of private indigenous oil interests -
influence should not be underestimated.
 Example of the Gupta's (current day).
 Corruption:
 Transparency International (Corruption Perceptions
Index).
 Key political risks throughout.
 Firms had to pay for preferential access to government
officials to obtain contracts or other political favours - put
foreign investors at a disadvantage with local firms.
 Dependence on foreign investors' expertise, capital, and
access to foreign markets, corruption in oil industry did
prejudice the Nigerian state.
 Page 554: elimination of corruption in allocating term-
contracts would mean less political risk in general, but it
would also erode the competitive advantage of specific
foreign firms.
 Disputes with neighbouring countries:
 Territorial disputes.
 Question of delimitation of international boundaries in
vicinity of Lake Chad.
 Oil companies: most important dispute is Nigeria's
disagreement with Cameroon over land and maritime
boundaries.
 Home-host country relationships: French companies were
more prepared to invest in areas subject to boundary
disputes than other oil majors. - former French countries.
 No longer the same - due to reclamation of identity within
these African countries, French companies therefore
have less power/influence.
 Foreign support and military support shielded them from
these disputes.
 The availability of protective shield against political risks
distinguished Elf-Aquitaine and Total from their
international competitors, as the same was unavailable to
British/US rivals.
 Resulted in competitive advantage for French firms.
 Social unrest:
 Main political threat to oil company operations came from
formation of Movement for the Survival of the Ogoni
 People (MOSOP) under leadership of Ken Saro-Wiwa -
protests targeted Shell.
 Felt they should receive greater benefits from oil
operations in their communal areas.
 Received little economic benefits from government and
were marginalised politically.
 Environmental degradation - left many communities more
impoverished than before due to destruction of crops,
fish, and community lands.
 Top-down approach (building schools, communities, and
then left). Did not ask community what they needed.
Projects were abandoned.
 Bottom-up approach (Norwegian oil and gas company):
Statoil BP alliance. New avenues of appeasing village
communities. What do you need?
 Continuation of project (how can they benefit, and how do
we make it sustainable?).
 Provided helicopters and arms to governments to
manage the protests.
 Monopoly over the use of force and violence.
 Discussion and conclusion:
o At firm level.
o Political risk may have certain benefits to some firms.
o Competitive advantage for some firms.
o Treat firms more like active actors in political and social arena (not
"helpless victims" of changes).
 (3) context of today - original article from 2003.