On November 11, 2016, Teruaki Kotaka, Senior Economist of the Country Credit Department of the Japan Bank for International Cooperation (JBIC) participated in "Moody's Analytics Workshop: Various Approaches to Country Risk Assessment" held by Moody's Analytics Japan, and gave a presentation with the theme "Methods for Assessment of Political Risks."
This workshop was held to provide an opportunity for experts in country risk assessment to give presentations and exchange opinions with regard to the methods for assessment of political risks, rating methodologies for sovereign, and credit risk management. At the workshop, which was attended by approximately 50 participants from various financial institutions, insurance organizations, research organizations, lively Q&A sessions took place following each presentation.
At the beginning of his presentation, Kotaka, who engages in political risk assessment methodology at the Country Credit Department of JBIC, gave the definition of "political risk" in the assessment of cross-border transactions. While the definition of sovereign risk based on government's debt repayment capacity has been established, there is not yet established definition of political risk in general. However, in his presentation, Kotaka defined political risk for financial institutions and insurance organizations that engage in cross-border operations as "the risk of investors or borrowers engaged in a project going into default regardless of their intention or ability to pay their obligations due to reasons associated with the country, provided that the loans, guarantees, and investments are non-sovereign."
Based on that, while introducing the results of researches of practices by international financial institutions and insurance companies in Europe and the United States, Kotaka stated that the methods and indicators for the assessment of political risk have not yet been standardized, however, analysis on a project basis is important for political risk analysis, unlike in the case of sovereign risk, in accordance with individual risk natures such as risks associated with foreign currency exchange and transfer, exploration/nationalization, and political violence (war, terrorism, etc.).
Next, he picked "risk associated with foreign currency exchange and transfer" up as examples of the analysis of political risk in a project. Firstly, Kotaka explained that such risks are analyzed in two ways: "analysis of likelihood" in which the probability of the occurrence of political risk (such as probability of occurrence of risks associated with foreign currency exchange and transfer) in the subject country is analyzed, and "hedge analysis" in which the degree of mitigation of political risk in the subject project (such as use of an escrow account) is analyzed. He also provided explanations on approaches to comprehensively analyze the degree of risk occurrence in the country from the economic, institutional and policy perspectives, and hedge analysis from the legal framework and practices to solve conflicts and from the project-based risk control perspectives.
In addition, Kotaka provided some tips for the analysis of the likelihood of occurrence of political risk. One such tip was, in assessing the positioning of foreign investment by the subject country, that it is important to judge the basic orientation toward foreign investment in that country based on the dependency on foreign economies, level of commitment to international investment agreements and trade agreements, and governance structures of that country. Another tip was to conduct analysis in light of the occurrence of political risk from the viewpoint of "changes in circumstances."
Kotaka concluded his presentation by talking about the key points for conducting an analysis of "foreign currency exchange and transfer risk," "expropriation and nationalization risk," "political violence risk," and "government's non-observance risk of the contracted obligation," with examples of specific risk events for each case.
JBIC will continue to provide a broad range of information on international economics and finance through these kinds of presentations at seminars in the future.