Country Risk: The Bane of Foreign Investors

Country Risk: The Bane of Foreign Investors (by Norbert Gaillard, Springer, July 2020) is an original and innovative research work.

Chapter 1 introduces the key concepts.

Chapter 2 establishes that impediments to international business preceded any mention of the country risk concept. I investigate how country risk has evolved and manifested since the advent of the Pax Britannica in 1816. Four distinct periods are examined: the era of Pax Britannica (1816–1914), the 1914–1945 period, the Cold War (1945–1991), and the globalization years (1991–2016). For each period, I describe the international political and economic environment and identify the main obstacles to foreign investment.

Chapter 3 documents the numerous forms that country risk may take and provides illustrations of them. Seven broad components of country risk are scrutinized in turn: international political risks; domestic political and institutional risks; jurisdiction risks; macroeconomic risks; microeconomic risks; sanitary, health, industrial, and environmental risks; and natural and climate risks. This taxonomy includes some risks that have materialized since 1945. I also discuss how the different country risk components are factored into the business strategies of the 30 companies on which the Dow Jones Industrial Average (DJIA) index is based.

Chapter 4 focuses on what is known as “type-3 country risk” (CR3) – that is, sovereign risk. This emphasis is motivated by the high likelihood of sovereign risk, which is often equated with country risk, exacerbating all the other risks that affect international investors. I present the sovereign rating methodologies used by Moody’s, Standard & Poor’s, Institutional Investor, and Euromoney. Next, I measure and compare these four raters’ performance (i.e., their ability to forecast sovereign defaults). Finally, I identify the strengths and weaknesses of these methodologies and make recommendations.

Chapter 5 studies the various indicators used to assess type-1, type-2, type-4, type-5, and type-6 country risks (i.e., CR1, CR2, CR4, CR5, and CR6) – in other words, the risks likely to affect (respectively) exporters, importers, foreign creditors of corporate entities, foreign shareholders, and foreign direct investors. In doing so, I present the country risk rating methodologies used by six major raters: International Country Risk Guide, Credendo, the Organisation for Economic Co-operation and Development, the Fraser Institute, the Heritage Foundation, and the World Economic Forum. In parallel, I discuss eight types of shocks that reflect the main components of country risk analyzed in Chapter 3 (namely, major episodes of international political violence, major episodes of domestic political violence, expropriation acts, high-inflation peaks, deep economic depressions, significant restrictions on capital flows, sovereign debt crises, and exceptional natural disasters). Each type of shock has occurred a number of times since the early 1980s, resulting in country risk crises. Next, I measure the track records of Euromoney and the six raters in terms of anticipating these crises. Finally, I deliver a critical view of these indicators.

In Chapter 6, I summarize the findings and explain why globalization is now at a crossroads.

Read more in Country Risk: The Bane of Foreign Investors (by Norbert Gaillard, Springer, July 2020).