Page 204 - DMGT549_INTERNATIONAL_FINANCIAL_MANAGEMENT

Unit 12: Foreign Market Entry and Country Risk Management

Some of the more common forms of political risk indicators include: Notes
(i) Stability of the Local Political Environment: The level of political risk for each nation is
analysed here. Measures here take cognisance of changes in the government, levels of
violence in the country, internal and external conflict and so on. Indices of this sort are
intended to assess whether the government in power at a particular point in time will be
there in the future and hence, the extent to which the existing political status can be
expected to continue.
(ii) Consensus Regarding Priorities: This is a measure of the degree of agreement and unity on
the fundamental objectives of government policy and the extent to which this consensus
cuts across party lines.

Example: The host government may support the MNCs and may be friendly towards
the subsidiary, but the people of the foreign country may not be and may avoid purchasing its
goods as a form of protest.
(iii) Attitude of Host Government: A variation of the above may be when the MNC satisfies
the local people but faces the hostile attitude of the host government. The host government
can impose restrictions by charging additional corporate taxes, blockage of funds, funds
transfer restrictions (which affect after-tax cash flows sent to the parent) and so on. Also,
the blockage of funds transfer by the host government would force subsidiaries to undertake
projects that are not optimal, just to make use of funds. The returns here might be inferior
to other uses of funds. Hence, this represents political risk in that it reflects a country’s
political characteristics and in turn influences the MNC’s cash flows.
(iv) War: If a war is possible for the country under scrutiny, the safety of employees hired by
the MNC would be affected. Also, the project cash flows generated from such countries
will be more uncertain due to volatile business cycles.

(v) Mechanisms for Expression of Discontent: This is related to the ability to effect peaceful
change, provide internal continuity and to alter direction of policy without major changes
of the political system. A subsidiary will not necessarily be affected by changing
governments, if the attitude towards the subsidiary remains the same.

Economic Risk Indicators

Along with political factors, economic risk factors should also be considered when assessing
country risk. Some of the economic factors that should be considered are:
1. Inflation Rate: The inflation rate is used as a measure of economic instability, disruption
and government mismanagement. Inflation also affects the purchasing power of consumers
and hence the consumers demand for MNC’s goods.
2. Current and Potential State of the Country’s Economy: A MNC that exports to a country
or develops a subsidiary in a country is highly concerned with that country’s demand for
its product. This demand, in turn, is strongly influenced by the country economy, i.e.,
assessment of current plans for the economy, feasibility of development plans, main
bottlenecks, etc.
As the present state of a country’s economy is dependent on several economic factors, an
MNC should consider all these factors. Some of the important factors include level of
external debt, foreign exchange, current account, balance of payments, GDP growth, interest
rates, etc. Exchange rates can strongly influence the demand for the countries’ exports,
which in turn affects the country’s products and income level. The relationship between
the level of interest payments, the current account and external debt becomes highly
interactive as debt rises. Initially, the current account must be reconciled with the external

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