Unfortunately, the traditional financial and contractual mechanisms that firms use to assess and mitigate business risks have limited value. And a 2009 survey by the Multilateral Investment Guarantee Agency and the Economist Intelligence Unit found that multinational enterprises considered breach of contract, restrictions on the transfer and convertibility of profits, civil disturbance, government failure to honor guarantees, and regulatory restrictions all to be more significant risks than the potential seizure of assets. A World Bank study in 2004 revealed that 15% to 30% of the contracts covering $371 billion of private infrastructure investment in the 1990s were subject to government-initiated renegotiations or disputes. A 2001 PriceWaterhouseCoopers study concluded that an opaque policy-making environment is equivalent to at least a 33% increase in taxation.

Other recent data are consistent with the finding that policy risk has increased greatly. Minor, “The Demise of Expropriation as an Instrument of LDC Policy, 1980–1992,” Journal of International Business Studies 25 (1994): 177–88. Source: Seizure data (left side) from M.S. The Changing Face of Risk in Emerging Markets (See the exhibit “The Changing Face of Risk in Emerging Markets.”) Press mentions of actual seizures have also increased somewhat since 2001, but that does not reflect a broad-based resurgence in seizures. However, as interest in emerging markets has soared, host countries have learned, according to George Chifor at the University of Windsor in Canada, “that more value can be extracted from foreign enterprises through the more subtle instrument of regulatory control rather than outright seizures.” The risk that a government will discriminatorily change the laws, regulations, or contracts governing an investment-or will fail to enforce them-in a way that reduces an investor’s financial returns is what we call “policy risk.”Īlthough the data on policy risk are less clear-cut than the hard numbers on direct seizures, press mentions of policy risk (using terms such as “political risk,” “political uncertainty,” “policy risk,” “policy uncertainty,” “regulatory risk,” and “regulatory uncertainty”) indicate that it has risen dramatically as seizure risk has fallen. Stronger international law and the symbiotic nature of growth in emerging and developed economies reduced asset seizures to nearly zero during the 1980s. Today, this risk has largely disappeared.

The chief concern was “expropriation risk,” the possibility that host governments would seize foreign-owned assets. Historically, the biggest risks faced by foreign investors were in developing countries with immature or volatile political systems. The multinational firms best able to anticipate and manage the related risks and opportunities will have the strongest competitive edge. Broader domestic economic concerns-for example, protectionist sentiment in response to the realignment of economic power in favor of emerging nations such as China and India-will inevitably affect the debate as well. Politicians will struggle to balance popular demands to punish those perceived as responsible against fears of stymied innovation and the flight of human and financial capital. The differences will only become more pronounced as discussions about the appropriate near-term policy response to the crisis give way to debates about who should pay and how much. Issues such as taxation of executive compensation, the proper scope of financial regulation, and international M&A have come to the foreground in the wake of the crisis, and stark international differences in opinions and policies on these matters are already evident. The interplay of these forces-and the implications for the political choices that multinational firms make-will become especially prominent as national governments chart an uncertain course toward stabilization following the global financial meltdown. Elections and other political events, economic crises, and changing societal attitudes can disrupt the best-laid plans in both emerging and advanced economies. But no matter how good the apparent fit between what foreign companies offer and what host countries need, success is far from assured. When a firm with a value-generating technological or managerial capability invests abroad, its shareholders and the host country’s citizens both stand to benefit.

Hidden business problems