Today's article turns the spotlight on political risk as THE rising star of corporate facing risks in today’s global trade environment, and looks at what businesses with an international footprint can do to navigate it.
by Evelyne Legaux on 14-09-2023
Truth is up until 2022, political risk was barely discussed in corporate boards meetings because considered a low-probability evil by many global businesses. The ongoing war in Ukraine however dramatically changed that perception, thus bringing political risk and its potentially devastating impact to business operations & finances to the fore.
Historically, political risk has been compared to that of natural disasters, that is a type of risk that is highly unlikely to materialise but severely damaging whenever it does happen. This is the reason why Credit insurance products used to typically treat political risk as a catastrophe risk in essence.
In 2022 however, the unexpected irruption of a military conflict in Europe triggered a powerful shock. The war suddenly became part of our advanced economies’ reality again & forced many businesses to cease operations & trade in Russia, Belarus and even Ukraine itself, either due to international sanctions, difficulty to generate Cash Flow or else new operational risks, thus resulting in a significantly negative financial impact.
But the shift caused by the war in Ukraine breaking out as the world was dealing with the aftermath of the global pandemic crisis, was actually much broader than just exiting a specific geography, whether voluntarily or not. Instead, the conflict triggered a cohort of other challenges for businesses including an exacerbated geostrategic competition between the US & China and unprecedented energy & food crisis mostly in Europe & Africa respectively, to name a few… Crucially, it also changed the way business leaders used to perceive the vital relationship between the world’s two largest economies.
As a direct consequence over the past year, a significant number of businesses were faced with an actual political risk loss – related to currency transfer, political violence, sanctions, sovereign default, etc… - &/or had to suddenly enhance their understanding of political risk and management capabilities thereof, which represented a significant change compared to previous years. Interestingly, those losses occurred not only in Russia, Belarus & the usual high-risk countries but also in China, the BRICs, the US & the UK… and across most sectors.
The horizon unfortunately is not looking particularly rosy nor serein from a political risk perspective, with a geopolitical sky expected to darken instead. Businesses must therefore prepare to operate in an increasingly hostile world bringing more disruption, fast-changing trading conditions & the emergence of new risks.
To illustrate this, let’s have a look at what the near future has in store:
The recent shift of geopolitical risk from emerging to advanced economies & the sudden realization that war has become our reality again, have fostered the need for businesses to put the management of political risk at the core of business strategy.
While this is a complex & volatile topic by nature, there is a range of actions that corporates can take to mitigate its impact.
Whatever course of action companies might take, it’s all about building adequate capabilities to identify & mitigate risk, bringing expertise in-house and placing political risk at the heart of Enterprise Risk Management strategy.
As more & more companies now opt for political risk transfer solutions, key is for companies to understand where the insurance market is at in terms of risk appetite, coverage capacity & premium levels.
The good news is that, despite a significant rise in claims submissions & losses incurred by insurers in 2022, insurance capacity appeared to have substantially increased, including for long tenors, as a combined result of bigger line sizes offered by existing players in the market & new ones entering it. This is testimony to the ongoing strength & resilience of the overall Credit insurance market.
Interestingly, in 2022 the demand for insurance cover appears to have been the strongest in advanced economies with the US & UK ranking on top, a trend that resonates with the rise of populism, political instability, social unrest & sovereign debt levels in the Western world. As far as industry, the public sector ranked second behind financial services and was closely followed by the energy & commodities sectors.
Although higher than in 2021, claims levels remained much lower than the previous 10 year average, partly thanks to the multitude of pandemic related governmental support schemes. This said, losses related to sovereign payment defaults represented a majority of losses incurred not only in certain African markets but increasingly in Russia or Belarus, a trend that is set to continue into 2023 & 2024…
Understanding & taking action to identify, prioritise & mitigate political risk is critical for internationally trading businesses to anticipate & minimize its potentially devastating impact. Whenever going for a risk transfer solution, companies should work with their broker to avail of insurance cover where still available.
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