Expert Commentary

Is Country Risk Really Rising?

It has become fashionable for political and economic pundits to declare in unison that the world is today a dangerous place, and that the risks associated with conducting cross-border business are rising. But is it? Is cross-border risk really more dangerous to today than it was in, say, 1989 or 2001?

Political Risk
July 2010

Today's risk-averse business climate is not the result of a single event—the titanic collapse of the former Soviet Union or 9/11—both of which significantly altered the long-term global trade and investment landscape. Rather, what got us here is a combination of greed, inadequate regulation of the banking industry, improper regulatory enforcement, inexplicable comfort with obscene amounts of debt on an institutional and individual level, and short memories. The world is now adapting to an evolutionary change in the international banking and credit systems that should result in an improved cross-border trade and investment environment in the long term.

In 1989 and 2001, the world was neither globalized nor interconnected to the extent that it is today, and trade and investment landscapes were more easily defined and categorized. Trade and investment decisions then were based on less information and less sophisticated means of managing risk. Today, cross-border traders and investors benefit from a more level playing field with respect to access to information, more open markets, and a more competitive landscape. More countries want to attract foreign direct investment (FDI), enhance international trade, and be members of the global "club" than ever before. To do so, they must maintain a competitive footing and constantly reinforce their comparative attractiveness as trade and investment destinations. That makes the global trade and investment climate less risky than in recent history.

As will be demonstrated below, foreign investment has notably increased from its 2009 lows—especially among emerging markets—and protectionism remained largely muted throughout the Great Recession. As a result, country risk in general is not rising, but has remained stable throughout the crisis.

FDI in Recovery Mode

Statistics compiled by the World Bank1 show that net FDI flows contracted by approximately 40 percent in 2009, representing the sharpest decline in 20 years, but this was much less than the net decline in private bank lending, which plummeted 134 percent last year. FDI began to improve in the second quarter of 2009 among both developed and developing countries. As noted below, FDI into developed countries fell further than into developing countries from 2008 through 2009, but proportionately, developing countries made up more ground after the first quarter (Q1) of 2009 than did developed countries. If the collective view of foreign investors was that country risk was rising during the period, the FDI statistics would not have demonstrated such strength following the peak of the crisis among either developed or developing countries.

Figure 1: Global Net FDI Flows: 2008–2009

Global Net FDI Flows: 2008–2009

FDI flows are expected to rise up to 30 percent this year, with the lion's share of investment going to developing countries. Private capital flows to developing countries are expected to rise to their late 1990s/early 2000s levels, but are not likely to reach their 2007 levels in coming years. Capital should remain more expensive and less available than before the crisis, meaning traders, investors, and lenders will remain more selective about which transactions they choose to support. Risk aversion should remain elevated for some time and country risk management should take on renewed importance.

Trade Protectionism Largely Absent

According to the WTO and World Bank,2 unlike during the Great Depression, overt acts of trade protectionism were largely absent from the global trade arena during the crisis, but the number of restrictive trade actions taken on the part of governments exceeded those of liberalized trade actions by 10 to 1. This is not surprising, as countries naturally seek to protect domestic industries in times of crisis. As noted in Figure 2 below, the top five countries restricting trade transactions were (in order) India, Argentina, China, the United States, and India.

Figure 2: Trade Measures Taken by the G20: October 2008–February 2010

Trade Measures Taken by the G20: October 2008–February 2010

In spite of this, global trade volumes rose by 21 percent year-on-year in January 2010, both in terms of volume and value. Interestingly, during the period October 2008 to February 2010, the number of antidumping investigations initiated by G20 governments fell by 21 percent. Given the number of restrictive actions taken by governments during the period, new antidumping investigations should have risen considerably, but did not. So, does this point to rising country risk? Again, the answer appears to be no. Having avoided tit-for-tat protectionist measures among the world's major economies, and having seen an impressive rebound in trade during the height of the crisis, country risk has remained stable in my view.

A Transformed Cross-Border Landscape

The International Monetary Fund (IMF) has estimated that developing economies will grow by more than 6 percent this year, with China and India expected to each reach 9 or 10 percent growth. For China, such impressive growth has been consistently high for more than a decade. What is true is that emerging economies are the locomotive of global growth. In the absence of such strength, global growth would be fractional this year, with the United States likely to reach only 2.5 percent growth and Europe perhaps 1 percent.

As a result of the derailing of the global economy since 2007, a dramatic transformation is occurring—perhaps more dramatic than at any time in modern economic history. According to the IMF and Goldman Sachs, the United States expanded its productive capacity by some $4.3 trillion between 2000 and 2009. In second place was China, at $3.5 billion, followed by Germany. But in the second decade of the 21st century, China is expected to add more than $7 trillion to global growth, while the United States is expected to produce less than half that amount. Only the United States, the United Kingdom, and Japan will remain among the top 10 contributors to global output in this decade; newly industrialized and emerging countries will round out the other top 10.

An Evolving Perception of Risk

What all this means is that our perceptions of risk must change. Simple categorization of countries into "good" or "bad," "rich" or "poor," and "risky" or "not risky" no longer captures the scope of risk companies face when investing in today's evolving mosaic of investment climates. Greece is clearly perceived as riskier than India today, but that was not the case just a year ago. Rather than saying the world is a riskier place, it is more accurate to say that, depending on where a company invests and in what sector, a developed country can easily be riskier than a developing country. For example, the country that has been the boldest in taxing mining company profits is not a corrupt, poor, developing country, but Australia. And as a result of the Australian government's recent actions, other mineral-rich countries in the developed and developing world are likely to follow suit.

Gone are the days when the West calls the shots and the rest of the world snaps to attention. Gone also is the time when so many of the good ideas, best risk management practices, and acceptable standards of behavior are automatically derived from the developed world. Countries such as Brazil, China, and India are showing dramatic progress in establishing improved governance, business practices, and advances in technological prowess. If the global economy is akin to a business cycle, then the developed countries are mature markets in the process of gradual decline, while the most dynamic economies of the emerging world have yet to hit their prime.

Country risk management is a function of where one invests, in what sectors, and in what manner. In that regard, country risk is indeed rising, but largely in the developed world, where the price being paid and the ongoing risk of contagion from some of the mistakes that were made over the past decade will linger for several more years. Country risk is, if anything, falling in many parts of the emerging world, where opportunity abounds, governments continue to liberalize foreign investment regimes, and trade and investment volumes continue to outpace that of the developed world.

1"Prospects Weekly: Protectionism muted, FDI plummets in 2009, global oil demand now rising," March 22, 2010,


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