The misconceptions of political risk

What is political risk? Andrew Underwood, head of political risks at Hiscox, debunks the widely held view that political risk only applies to the emerging markets.

Describing your job as selling insurance is not something I would recommend at dinner parties unless it is a deliberate tactic to fend off unwanted conversation. ‘Political risk underwriter’ usually elicits more interest – and the response is a good litmus test of whether you are dining with someone from the trade finance arena.

At a recent conference I asked the audience for their first thought when asked, ‘What is political risk?’ The answers comprised mention of leaders (both past and present) of various emerging markets, an assortment of ‘wannabes’ and others preferring a lower profile such as Osama bin Laden and a handful of Russian oligarchs.

The point is that there is no correct answer and it will very much depend on factors personal to you. Had the conference been held in Tehran and not London I suspect the answers may have been very different. There they would be considering UK sanctions and export controls and what impact this could have on their trade. Similarly, if you are involved in commodity finance then the issues on your radar may well be ‘regime change’ in South America, power bases in Russia or political violence in Africa, or any permutation of these.

As an insurer of political risk, Hiscox is watching the developments in Venezuela, Bolivia and Ecuador very closely. One of the common themes is that many of these events are politically motivated and may result in claims on political risk insurance policies, for example, confiscation of goods because of a regime change. But what is often less apparent is that when a political risk broker brings an enquiry to the market the insurers will be looking just as closely at the risk of the home government as well as the country of risk itself. The insurer will be looking at political change in the home government or any forthcoming changes in regulation. In the UK this may be changes to the Department of Trade and Industry’s requirements on export licences, for example.

When I consider the question ‘What is political risk?’ I think of US President George Bush and outgoing UK Prime Minister Tony Blair.

Ten years ago and ten days into a new government the then UK Foreign Secretary, the late Robin Cook, gave a speech which included details of Labour’s ‘ethical’ foreign policy. He talked about an ethical dimension and democratic rights for others that we insist on for ourselves. Not unexpectedly he was besieged with questions and a couple of days later had to clarify the government’s position on selling military equipment to Indonesia. He referred to the previous government and made it clear there was a big difference in what Labour would now approve.

Fast forward to the present day and sanctions remain in the toolbox of politicians, though they appear to be applied increasingly selectively, often against individuals, companies and/or industries. However, from a political risk insurer’s point of view, a decision from the UK or another European Union government remains just as potent as a foreign debt crisis or military coup.

So with current UK Chancellor of the Exchequer Gordon Brown poised to emerge from Blair’s shadow, the eyes of the world’s trade financiers will now be firmly focused on what new changes he will bring to the UK’s foreign policy.

The golden rule for trade financiers and their political risk brokers is: consider policy changes in your home government, the government of the country the trade is with and the country where the products are being sourced from. Finally, don’t forget to inform your insurer of all of the above so that you are not left uncovered in the event of a claim.