The Arab Spring and the Euro crisis have shown that political factors and events can make or break markets overnight, making them of increasing importance to commercial actors when investing abroad. Expropriation, sovereign default, societal unrest and terrorism are examples of political risks that have considerable implications for business conditions. They are also societal acts that political scientists have long been analyzing using a diverse toolbox of models, theories and methods.
By Björn Fägersten
The Arab Spring and the Euro
crisis have shown that political factors and events can make or break markets
overnight, making them of increasing importance to commercial actors when
investing abroad. Expropriation, sovereign default, societal unrest and
terrorism are examples of political risks that have considerable implications
for business conditions. They are also societal acts that political scientists
have long been analyzing using a diverse toolbox of models, theories and
methods. However, with a few exceptions, political risk management within
commercial entities – in as far as it takes place at all – seems to rest on
either anecdotal knowledge or crude quantitative macroeconomic data. This
article tries to bridge the gap between risk management and the study of
politics. It starts by analyzing the concepts and methods underpinning commercial
risk management and continues with an investigation of contributions from
relevant fields of political science. The aim is to contribute to the craft of
risk management and the conceptual understanding of political risk.
Keywords:
political risk; business
intelligence; risk management; new institutionalism; international relations
theory
Introduction
Political risk implies that a
commercial or governmental entity’s interests or objectives are potentially
threatened by politically motivated action, in most cases on behalf of a
foreign state. One might think therefore that the concept of political risk
would be one of the defining themes of political analyses carried out by
political scientists, but this is not the case. Instead, political risk is the
latest add-on to the risk management approach that increasingly concurs with
international business practice.
Risk management is an approach to
strategy and decision making that is now widely applied in fields such as
engineering, public health, environmental protection, finance and banking. At
the core of the approach is a recognition that it is important to separate the
likelihood of an event occurring from the consequences that will follow if it
does (Bracken et
al, 2008). Risk is the product of the likelihood and consequences, and
risk management the process of manipulating the likelihood, the consequences or
both in order to reach a more beneficial outcome, and constantly monitoring
one’s performance with these calculations in mind.
As globalization drives
commercial interdependency and important markets can be found in volatile and
unstable countries, commercial and governmental actors increasingly understand
the importance of analyzing and managing the risks in their operating
environments. Traditionally, such risk management has focused on economic risks
caused by markets, customer preferences and commercial competition. The
political environment in which business takes place was seen as a constraint,
but a rather stable albeit unmanageable one. Its eventual impact was often –
like that of the weather – confined to the statistical margin of error.
Politics and economics were long regarded as separate realms, with only limited
interaction between them. Today, however, most businesses recognize that
political actions and decisions have major implications for commercial
operations, and that they are easier to predict than the weather. For example,
the nationalization of foreign direct investment (FDI) can have its roots in
domestic politics, politically motivated terrorists are more likely to target
some foreign companies than others and civil strife does not usually occur
without signals and warnings.
However, when commercial actors
set about analyzing the risks that originate from the political realm, more
often than not they either employ patchy anecdotal knowledge and perceived
‘common sense’ or are astounded by the complexities of the political world (Bremmer,
2005). Little effort has been made to link this nascent art of political
risk analysis to the methods and theories used by political scientists and
academics in the field of International Relations (IR). This ignorance,
however, seems to work both ways. While risk management has spread to a variety
of issue areas, decision makers in the field of IR and national security have
been slow to accommodate systematic thinking about risk (Bracken et
al, 2008). Likewise – and perhaps as a consequence – Jarvis and
Griffiths argue that scholars of IR have been hesitant about utilizing risk
management as a framework for analysis, preferring instead to hold on to their
grand theories (Jarvis
and Griffiths, 2007a, 2007b).
Thus, despite the popularity and sophistication of risk management and the
increasing relevance of international politics to many commercial actors, three
intellectual divides have been suggested: (1) Commercial actors increasingly use risk
managements tools to analyze politics but make little use of theories and
methods from political science, (2) scholars of IR seem to ignore the merits of
risk management when studying and explaining IR, while (3) practitioners of IR
seem to ignore the benefits of risk management as an approach to policy making.
This article addresses the first
two divides and focuses on the possible interaction between risk management and
political science. The aim is to shed light on this development, and to
investigate the extent to which theories and methods of political science are
relevant to the art of political risk management – and what the consequences
might be if the suggested divides were ever bridged.
I start this overview by defining
the three linked concepts under scrutiny – political, risk and management –
and showing how they are used in the risk management literature. I then briefly
discuss how political risk management is conducted in the commercial sector
before examining how theories of political science relate to the notion of risk
management. I conclude with an analysis of how theories and methods can
strengthen policy- and business-relevant risk management.
Political Risk Management: A
Conceptual Overview
This section briefly discusses
the three key concepts under scrutiny in this article. There is little
consensus on the meaning of the specific concepts and even less so concerning
the linked concept of political risk management.
It’s political
The concept of political risk
clearly originates in the political field but, beyond that truism, the views on
what it means vary considerably. It is often negatively defined as ‘non-market’
risks. In practice this means that political risks are the factors that remain
when analysts have considered economic fundamentals such as financial,
currency, competitor and product risks as well as exogenous risks posed by, for
example, extreme weather or natural hazards. This, however, still leaves
considerable space for different interpretations. Usually, the interpretations
of political risk vary with the interests of the specific actor as well as the
context of analysis. In the heyday of neoliberalism and the ‘small government
paradigm’ (the 1980s and the early 1990s), commercial analysts defined
political risk as any government activity that impinged on the objectives of
international business. Shapiro
(1992), for example, defined political risk as a ‘government intervention
into the workings of the economy that affects, for good or ill, the value of
the firm’. In line with the paradigm of the time, this implies that any orderly
and legitimate activity of a government must be viewed as a potential risk.
Three more or less independent developments have rendered this approach
obsolete. First, and on a more general level, it is increasingly acknowledged
that a certain amount of government intervention is benign for the business
climate and increases commercial performance (North,
1990). Second, the increasing impact of non-governmental actors such as
terrorists, local insurgents and international pirates, has widened the focus
beyond just the activities of governments. Third, the ‘failed states’ that
arose after the departure of the superpowers from peripheral areas at the end
of the Cold War created more risk than ‘big government’ ever had. Recent
scholarship usually defines political risks as encompassing more than
government activity. Bremmer
and Keat (2010) suggest that ‘any political event that can (directly
or indirectly) alter the value of an economic asset can be considered a
political risk’ and offer examples such as ‘acts of terrorism, declarations of
war and expropriation of private assets’. They do not, however, define what it
is that makes an event political. Other scholars have turned to quality of
government and state capacity variables, clearly departing from earlier
perspectives. Here it is the lack of government, rather than the actions of
governments, that constitute risk. Still others have stressed that a political
risk must stem from political behavior and thus be actor-driven rather than an
effect of dysfunctional institutions and systemic flaws (McKellar,
2010). In this article, I define political risk as a potential harm to
commercial activities caused by political action or arising from dysfunctional
political systems. The term ‘political action’ implies that a risk is only
political if there are political interests behind it, leaving government
intervention motivated, for example, by monetary policy considerations aside.
Even if this working definition is not clear-cut, it leaves us with a somewhat
more manageable concept of what constitutes the political in political risk.
It’s risky
Compared to the meaning of
political, the definition of the concept of risk is more or less universally
accepted within the management literature. As noted above, risk is understood
as the product of likelihood and consequence (Brackenet
al, 2008) or probability and impact (McKellar,
2010) of a harmful event. These two measurements of risk are seen as
independent of each other, although Brenner and Keat point out that analysts
tend to think that catastrophic events (high impact) occur less often (low
probability) than is statistically the case. More variance can be found in the
literature on the issue of the object of risk. Commonly, political risk is seen
as besetting multinational enterprises or businesses involved in FDI. This is
unsurprising, given that political risk management in the commercial sector
developed during the 1960s and 1970s when expropriations and the
nationalization of foreign assets were common in the newly independent states
of Africa and Latin America (Minor,
2003). Today, it is common to include both government agencies and
non-profit actors that operate on foreign land as potentially subject to
political risk (Bremmer
and Keat, 2010). It is of course arguable that some forms of political
risk, such as nepotism or civil strife, have equally harmful effects on
domestic actors. Although this is certainly true, however, the motivations of
the risk-creator, the nature of the risk and the means by which an exposed
actor can manage risk vary considerably. Hence, political risk is usually seen
as a concept pertinent to the asymmetrical relation between a business interest
and a foreign state (Jarvis,
2004).
A last comment to make on the
nature of risk is that it is more or less exogenous to the exposed commercial
actor. In its most general form, a political risk is common to all actors
operating in a specific environment, such as during a revolution or civil strife.
Other forms of political risk are more closely tied to the specific operations
of a certain actor, often because of controversial activities or the connection
the public makes between a business and its origin. A good example is the
boycott that hit the Scandinavian dairy producer, Arla, in several Middle
Eastern countries during the Danish Cartoons crisis. It is also often the case
that even though a company operates, and potentially misbehaves, on foreign
land, the actual risk is at home – where vigilant regulators can react to
corruption or breaches of established business conduct. Such domestic or even
international reputational damage can be more severe than any local political
risk, as for example Lundin Oil and Shell experienced in Sudan and Nigeria,
respectively.
But it can be managed
Management is perhaps the most
ambiguous of the three linked concepts. While all commercial risk managers
agree that political risk can be managed – hence defending their raison d’être
– it is far from clear from the literature what risk management actually means.
Bracken, Bremmer and Gordon acknowledge that each field has its own frameworks,
vocabulary and distinctions when engaging in risk management. The authors do
not offer a clear definition of risk management, however, instead suggesting
that it involves a ‘conversation’ about the likelihood and consequences that
together constitute risk. They also add that risk management ‘necessarily
involves how risk is perceived, and how it’s processed by individuals, groups,
and organizations’ (Bracken et
al, 2008, p. 4). Mckellar, writing from a more practical viewpoint,
argues that risk management is all too often seen as a reactive,
trouble-shooting approach, when in reality it should be a strategic and
foresighted process. Hence, he defines political risk management according to
its function as ‘enabling the fulfillment of objectives in even high-risk
political environments’ (McKellar,
2010, p. 115). When I discuss political risk management in this article I
follow more general approaches to risk management, which view it as a process
in which a concerned actor identifies, analyzes and in some way responds to a
perceived risk (see for example Raftery,
1994).
Political Risk in Corporate
Risk Management
I now briefly turn to the
practice of risk management, before contrasting this with the science of
politics.
Risk analysis
A crucial part of any risk
management process is identifying and analyzing the development of relevant
risks. Darryl Jarvis argues that political risk analysis has gone through four
more or less distinct phases (Jarvis
and Griffiths, 2007a;Jarvis,
2008). The first generation of risk analysis focused on a set of political
intrusions into what was assumed to be an efficient market. In other words,
political risk was the effect of normal political activity. Risk analysis thus
came down to a tick-box exercise against a list of common governmental
practices that were thought to distort business profitability. This approach
clearly simplified the role of both business and politics, and failed to
understand their complex interaction. The second generation of risk analysis
shifted its focus from specific governmental policies to the role of the
political system at large and its vulnerability to stresses and shocks. The
core assumption was that certain political systems are more prone to some types
of risk than others. By characterizing states according to the system they
belong to, analysts can know more about the sort of risks to which they are
exposed. While this approach can generate interesting general insights into the
risks associated with specific stages of political modernization, it provides
little predictive power or assistance when planning operations in specific
environments. Recognizing these shortcomings, third-generation risk analysts
‘aim less towards grand theoretical correlations and more towards informed
microanalyses that emphasize the importance of context, and focus on
project-level analysis’ (Jarvis
and Griffiths, 2007a, p. 18). This has produced an increase in the use of
qualitative techniques such as interviewing and scenario development, and a
focus on methods rather than theory. Jarvis and Griffiths are, however,
discomfited by this particularistic turn in the epistemology of risk analysis:
‘The holy grail of political risk theorizing – constructing quantitative models
that can provide testable propositions, or the construction of data sets that
can relate accurate probability indices to specific risk events, policy
changes, or country settings – thus remains a highly prized goal, despite its
difficulties’ (Jarvis
and Griffiths, 2007a, p. 18). The authors suggest that the way ahead – the
fourth-generation risk analysis – ‘involves the construction of data sets that
allow analysts to examine the relationship between political and economic
institutions, as well as the interface between domestic norms, actors,
institutions and external influences’ (Jarvis
and Griffiths, 2007a, p. 18).1 Jarvis
and Griffiths see promising work in this vein in the ambitious quantitative
early warning systems that are being developed by NGOs, aid agencies and
universities. These systems are hoped to be able to link institutional and
contextual characteristics to the probability of risk events, and thereby warn
decision makers of impending humanitarian crises and ethnic conflicts. As
technological developments make such early warning systems available to a
larger audience in real time, it is likely that a fifth generation of political
risk analysis will be able to fuse complex qualitative models and scenarios
with big data – for example from social media platforms. The way in which the
2014 Ebola outbreak was analyzed in real time, leading, for example, to
adjustments in commercial supply routes, is indicative of the way the political
risk industry is developing.2
Levels of analysis
Regardless of the method of
analysis and level of theoretical sophistication, it is common among commercial
risk analysts to distinguish between different levels of analysis. Although the
terminology varies, the taxonomy usually implies a scale from a general
birds-eye overview to a fine-grained outlook in which the commercial actor
becomes increasingly endogenous to the analysis. McKellar, for example,
distinguishes between global, country and operational levels of risk. At the
global level, risks cut across all or many regions and affect all relevant
actors. Country-level analysis focuses on risks in a given territory but still
in the absence of specific operations. Operational-level risk analysis relates
to the interaction between a specific business enterprise and its surrounding
political environment (McKellar,
2010, pp. 72–73). Another common, but slightly more crude breakdown is
between macro- and micro-level risks, where macro risks are non-project
specific and affect all actors in a given setting while micro risks are
project- and actor-specific (see for example Minor,
2003). It is not uncommon for macro risks to be habitually equated with
global and/or country risks while micro risks are equated with local risk.
This, however, seems to be analytically flawed as the geographical scope and
the interaction of the specific risk taker and its environment are independent
variables. Thus, for a full taxonomy of risk levels it would be possible to
think of risks in a two-dimensional metric that considers both the scope of the
risk and the extent to which the risk taker has an effect on the development of
risk.3
Causes of risk
Tied to the levels of analysis
are the various causes of risk that actors face in different settings. Starting
at the global and regional levels, Bremmer and Keat introduce geopolitical
risks as ‘the risks posed to economic actors and governments by the relative
rise and decline of great powers and the impact of conventional wars on states
and corporations’ (Bremmer
and Keat, 2010, p. 38). While this is exogenous to most commercial actors,
other global risks, such as international terrorism, clearly pose a greater
threat to some actors than others. At the country level, it can be useful to
distinguish between risks caused by government action, such as sovereign credit
defaults; risks caused by lack of government action or capacity, such as
corruption of politically motivated crime; and risk caused by the fact that the
government is being challenged, such as civil strife or insurgency. Much the
same can be said of risks at the sub-national level, with the difference that
local governments, as well as its contenders, are more prone to intervene and
obstruct specific business enterprises. At the local or project level,
enterprises are also more likely to draw ethical criticisms – which some
analysts term a political risk – simply because this is the level where their
business activities take place.
Over time, the political risks
encountered by commercial actors, as well as those encountered by governments,
have moved from total losses owing to spectacular risk events to more complex
and incremental risks. After the Second World War, the majority of political
risks faced by companies had their roots in post-colonial nationalism and its
effects. Essentially, blunt use of state sovereignty was the risk. In South
America, Africa, the Middle East and South East Asia, Western companies and
governments lost vast amounts of economic assets linked to the nationalization
of private assets (Minor,
2003). By the early 1980s, however, times had changed. Developing
countries, very much urged on by the International Monetary Fund and the World
Bank, now saw the benefits of FDI and realized that expropriation of foreign
capital rarely paid off in the long run (Bremmer
and Keat, 2010; McKellar,
2010). Political risk during the 1980s was still a function of state
control but had its roots in pressing economic developments. Perhaps the most
severe risk was a sovereign debt default on foreign loans, most notably in
Latin America (Minor,
2003). Although risk thus far to a large extent had been a function of the
expression of sovereignty, it now shifted to be more a function of a lack of
sovereignty. The inability of states to sufficiently monitor and regulate their
financial markets was a major cause of the Asian financial crisis of the 1990s.
The end of the Cold War and the withdrawal of great power support resulted in
failed states that incurred risks for both citizens and outsiders. This was a
precursor to the major geopolitical risks that dominated the first decade of
the twenty-first century: international terrorism and its responses. Today, the
global risk map is arguably even more complex, with risks originating from lack
of sovereign control co-located with risks originating from the power of
states. As examples of the failure of states to regulate and control, we see
continuous offshore piracy in the Gulf of Aden, the spread of radical terrorist
groups in the Levant and state failure in Yemen. Examples of the risks
originating from the sovereign decisions of functioning states include a
resurgent Russia threatening its neighbors, Greece contemplating leaving the
eurozone and the United Kingdom contemplating leaving the EU. Interestingly,
political risk – once a term used when investing in emerging markets with
immature political foundations – is now just as relevant a concept in the
Western, capitalist world.
What is at risk?
What, then, is it that businesses
and foreign governments stand to lose in the face of political risks? As noted
above, some scholars state at the outset in their definition of political risk
that it is the economic assets of companies or governments that are at risk.
Other scholars argue for a broader view of the object of risk. McKellar, for
example, argues that companies operating in politically volatile environments
risk their people, reputation and performance. ‘People’ means that staff and
their families are affected by risks. This is serious not only because staff
members are key to business continuity, but also because a company’s way of
looking after its people is vital to its corporate culture. A company’s
reputation can be put at risk in its specific operating environment, at home
and internationally. A reputation can be tarnished by misbehavior, for example,
by choosing the wrong local partners or mismanaging community relations. Local
political actors who orchestrate scandals or strife in order to vilify the firm
can have a similar effect on a company’s reputation. Finally, performance is
simply the execution of business objectives, be it production, sales or
R&D. In the long run performance is largely dependent on people and
reputation, but in the short term it can be seen as an independent asset at
risk (McKellar,
2010, pp. 56–62). McKellar’s typology offers the benefit of being equally
relevant to governments’ foreign businesses and commercial interests, and is
thus utilized in the remainder of this article.
Managing risk
I have discussed above how risk
is analyzed, its causes and its effects. This section discusses the final phase
of the risk management cycle – what companies can actually do about and learn
from risks.
Summarizing the above discussion,
political risk can be understood as the probability and impact of a politically
motivated action or system failure that negatively affects a given company’s
people, reputation of performance. Thus, managing these possibly adverse
effects comes down to either making sure they do not occur or being better
prepared in case they do. Most often a risk management strategy will involve
both of these dimensions. The most extreme measures are directed toward the
probability of risk: avoiding risk or trying to eliminate it. However, avoiding
risk completely often equates to giving up a lucrative market to one’s
competitors, and is usually not an option. At the other end of the spectrum,
eliminating risk is almost impossible. There is little a company can do about
corruption, revolutions or terrorism – even states find this a challenging
option, as the long hunt for Osama bin Laden illustrated (Bremmer
and Keat, 2010, p. 192). Various strategies remain to improve one’s
position in the face of risk. At the strategic level, a company can adjust its
risk exposure by balancing investments and operations in mature and more
volatile markets. It is possible to spread risks by investing in several activities
or adjacent countries rather than a single one. Note, however, that such a
strategy actually increases the possibilities of risk while reducing the
impact. Another approach, more attuned to the operational level, is to manage
risk by taking physical security measures. Bodyguards, fences and bulletproof
cars make it possible to deter some acts of political violence while at the
same time reducing the impact of an attack. Security, however, is a
double-edged sword. While possibly reducing risk to people and performance,
tough security measures might increase the risk to reputation. Security is
often contrasted to relation-building or societal engagement, although they are
in no way mutually exclusive. By investing in infrastructure, public health and
education, companies try to forge strong links with the local society. By doing
so, companies hope to reduce the possibility of being victims of political
schemes while also increasing their resilience in the face of them. Finally,
there are various more technical hedging possibilities available for commercial
actors. A company can form joint ventures with local, politically
well-connected partners, they can forge alliances with powerful international
actors to deter host governments from meddlesome intervention and they can
invest in private or public risk insurance. In general, a successful risk
management strategy must be holistic and address both probabilities and impact
in the long and the short run. It is also worth pointing out that decreasing
impact by way of improving resilience and relations will be useful in relation
to unknown risks, while simply trying to reduce the probability of a specific
risk has no positive externalities.
Political Risk and Political
Science
Having covered political risk
management from a commercial sector perspective, it is now time to turn to
political science to see how it relates to the concept of political risk. As
mentioned above, risk management scholars have addressed the various gaps
between the risk management approach and the study and practice of IR. This
article focuses on risk management in the study of IR and the extent to which
there are possible synergies with the commercial sector’s risk management
approach.
IR and the absence of risk
To what extent do scholars of IR
utilize and relate to the concept of political risk? According to Jarvis and
Griffiths, not much:Risk, or more particularly political risk, is thus a
feature with a long history in International Relations (IR). Yet for such an
endemic characteristic of the international system it has received scant
attention in the academic discipline of IR.
(Jarvis
and Griffiths, 2007a, p. 6)
In another publication, the
argument is slightly different:Put simply. Risk analysis is the singular most
important analytical tool of the modern world in large measure responsible for
much of the economic, technological and social innovations we enjoy today. This
makes it all the more strange that in International Relations (IR) risk has
enjoyed much less attention; its utilization, theorization and application to
understanding state-state relationships or state-market relations, for example,
have remained mostly invisible.
(Jarvis
and Griffiths, 2007b, p. 1)
Consequently, IR scholars – according
to Jarvis and Griffiths – are blind both to the empirical presence of risk as
something that ought to be studied and to risk analysis as a way of organizing
and framing our scientific inquiries. Below, I challenge this view and discuss
how risk exists particularly as an object of study but also as a tool of
analysis within the study of IR.
IR: Risky business
Whatever terms are used, it seems
clear that political risk is one of the main ingredients of IR scholarship. War
and geopolitical discord, and the resulting effects on state–state relations
are what have occupied IR scholars since the birth of the field. Power is no
doubt the defining concept in realist accounts of IR. However, power is only
relevant in its capacity to inflict risk on the system or inhabitants.
Traditional realism made no distinction between the power of an actor and the
level of risk it inferred to other actors in the system. Balancing power thus
became a direct, although crude, risk management strategy. Focus, to use the terms
of modern risk management, was not so much on the probability of discord as the
consequences. Defensive realism, as manifested in the works of Stephen Walt, is
more explicit in its use of risk as the key determinant of state behavior. By
adding factors such as culture and geographical proximity, Walt increased
attention on the probability of discord. His alliance theory is also an
explicit risk management approach, where actors team up to spread risk among
themselves and at the same time increase the risk for any possible aggressor.
In this way, an aggressor may be deterred or defeated – a holistic risk
management approach that addresses both the probability and the consequences of
an attack (Walt,
1990). Two main points separate the realist perspective on risk from that
of the corporate risk management approach. First, realists are predominantly
interested in relations between states and pay little attention to
non-governmental organizations and corporations. Second, realists have a rather
narrow perspective on what is at risk – the survival of the state. To some
extent, this would cover the risk management concept of performance, with less
focus on people and reputation.
The other major IR branch is
equally tied to the concept of risk, but somewhat differently. In contrast to
realists, liberals make utility, rather than power, their guiding concept. From
a neoliberal perspective, however, utility can only be understood in relation
to risk. Indeed, it is the risk management strategies of states – offering them
opportunities to reap the gains of interaction – that constitute the main
contribution of IR liberalism. Liberal scholars depend heavily on neoclassical
economics when analyzing the utility of interactions such as gains in
specialization and gains of scale. The problem for states interacting in an
anarchic system is the lack of any supervising body ready to step in to enforce
agreements, resolve disputes and establish property rights. Essentially,
international interaction is plagued by risk. Liberal scholars, and perhaps
most famously Robert Keohane, have shown how states, even in the absence of a
hegemon or centralized enforcement, can produce mutually beneficial outcomes.
They accomplish this by way of measures that decrease the risks of defection,
manipulation and free riding. In Keohane’s theory, regimes help states to
cooperate by establishing patterns of legal liability, mitigating information
asymmetries and making it costly for states to defect from cooperation (Keohane,
1984). Essentially, Keohane’s regimes decreased the risk of cooperation by
reducing uncertainty about the behavior and preferences of others. Liberal IR
scholars lie closer to the commercial sector’s risk approach than their realist
colleagues. First, they accept that non-state actors are important actors in
IR. Second, they have increased the interest in ‘low-politics’ and economic
issues, the domain in which most commercial sector risks will be located.
Third, they pay more attention to both people and reputation as referents of
risk. Nonetheless, commercial risk analysts would probably argue that the grand
theories of IR are too abstract, too general and too system-oriented to be of
much use in analyzing political risk from a business perspective. However, much
the same can be said about the second generation of commercial risk analysts described
above.
Partly in response to the above
failings of grand theorizing, mid-range approaches have grown in popularity in
the IR field. These perspectives, such as new institutionalism and foreign
policy analysis (FPA), are not as focused on risks pertaining to the
international system, but nonetheless offer insights relevant to risk analysis.
A good example is rational choice institutionalists who, like the IR liberals,
were equally influenced by the field of ‘new institutional economics’ and the
effects of uncertainty. However, unlike regime theorists who foresaw rather
passive and decentralized cooperative arrangements, these scholars of
institutions analyzed cooperative arrangements that functioned as more active
providers of risk management functions. Institutional tasks could, for example,
include monitoring compliance, identifying defectors and conducting research on
developments in the cooperating states (Martin
and Simmons, 1998; Koremenos et
al, 2001; Hawkins et
al, 2006). New institutional scholarship increasingly pays attention to
the particular rather than the general, and has suggested ways in which
specific institutions create risk, as well as opportunity, for the actors
involved. Indeed, new institutional theory in large part responds to Jarvis and
Griffiths’ call for analysts to examine ‘the relationship between political and
economic institutions, as well as the interface between domestic norms, actors,
institutions and external influences’ (Jarvis
and Griffiths, 2007a, p. 18). Another mid-range approach of relevance to
risk analysis is FPA. Recognizing that system-level explanations have failed to
capture the full variety of foreign policy choices, FPA scholars opened up the
state box in order to broaden the analytical toolbox. Although the focus is on
foreign policy output rather than risk management, FPA scholarship has been
successful at synthesizing levels of analysis into coherent models. This is in
stark contrast to the commercial sector’s risk analysis, which often separates
analysis into micro/macro or country/project. Another area where FPA
scholarship is of specific relevance to commercial risk analysis is political
motivations. As Brenner and Keat point out:Unlike financial, economic, or
environmental risks, political risks are usually generated by individuals,
people with particular and identifiable sets of motivations and limitations.
(Bremmer
and Keat, 2010, p. 21)
Although FPA scholars do not deal
with risk per se, they have invested much time and effort in
creating methodologies and theorizing about foreign policy decisions that
create risk. A more rigorous and structured approach to mapping and analyzing
the incentives and constraints facing local decision makers would undoubtedly
benefit commercial risk management immensely.
Finally, while the study of IR is
the main academic theme under scrutiny in this article, other areas of
political science are of relevance to political risk analysis too. Thus far, I
have mainly discussed the literature that focuses on the relation between the
subject and object of risk; that is, the relations aspect of IR. Looking at
political science in general, many of its subfields are of relevance for
understanding the subject or object of risk, even when the relationship between
them is not in focus. Starting with actors that find themselves – or their
investments – at risk, the field of crisis management stands out as
particularly relevant. Here researchers have pinpointed how actors make
decisions under stress, how threats are perceived and communicated within
organizations and what lessons can be learned in the aftermath of a crisis (Eriksson,
2002; Boin et
al, 2006). Concerning the risk itself, or the environment from which it
originates, other areas offer particular insights as well as more general
findings. Different specialized fields offer insights on potential risks, be
they terrorism, corruption, civil wars or monetary unions. Other researchers
have produced more general scholarship on issues of great relevance to
commercial risk analysis, for example on democratization and regime change (Teorell,
2010), the impact of different sorts of regimes on investments (Jensen,
2003; Jensen,
2008) or the relative quality of governing institutions (Holmberg
and Rothstein, 2012), to name just a few.
Aligning Art and Science
The above survey showcases a
rather clear pattern. While risk is not the organizing principle of most
IR-theorizing, it plays an important role in several approaches to explaining
IR. To argue that IR scholars have paid risk scant attention is thus only correct
in a linguistic sense. It is true, although hardly surprising, that IR scholars
have failed to adopt the terminology of commercial risk management.
Nonetheless, as risk and risk management strategies can be found in several IR
approaches, it is all the more surprising that commercial risk analysts have
failed to take up the work of political scientists. To be fair, some commercial
risk analysts have paid attention to work by political scientists in order to
gather indicators and hypotheses on, for example, the reasons for civil wars,
indicators of corruption and the causes of instability and state failure.4 Most
of them have not, however, utilized political science as a way to organize and
direct inquiry, as is discussed below. Perhaps the reason is one of
epistemology. While political scientists often aim to identify general causes
of specific outcomes, which in some cases allows for prediction, risk analysts
are more interested in assigning probability to several outcomes. As
probability levels in a specific case can hardly be falsified in the light of
evidence, risk analysts have seen limited value in more traditional positivist
political science. However, current ontological and epistemological shifts
within political science increase its utility for the art of risk analysis. In
laying out the core of modern institutionalist political science, Peter Hall
argues that it has taken us away from assumptions about ‘causal variables with
strong, consistent, and independent effects across space and time toward ones
that acknowledge more extensive endogeneity and the ubiquity of complex
interaction effects’ (Hall,
2003, p. 387). Political science along these lines will be more relevant to
practitioners of risk analysis. More specifically, I argue that there are at
least four areas, some of which were introduced above, where political science
can be of direct relevance to commercial risk analysis.
First, political scientists have
been rather successful at integrating and synthesizing levels of analysis as
well as structure and agency into more or less coherent analytical frameworks.
This is done within FPA, where individual leaders are connected to systemic
variables by way of cognitive frameworks; it is done within new-institutional
scholarship, where agents and institutions are seen as mutually constitutive;
and it is done within IR theory, where interactions between domestic and
international politics are studied as two-level games. The prospect of a
political risk analysis that spans the commonly used levels of analysis
(global, regional, country, project) and manages to endogenize the actors into
the political environment in which they operate, is especially welcome, given
the current state of the art of risk management.
Second, and also mentioned above,
political science offers numerous ways in which motives, preferences and
beliefs – and the way they affect political behavior – can be analyzed and
theorized. As risk analysts acknowledge that the great majority of political
risks affecting international enterprises are actor-driven and intentional, a
more robust way to study the incentives behind such actions would enrich the
art of risk analysis.
Third, current political science,
especially within the new-institutional field, is increasingly attuned to the
interaction between local institutional characteristics and more general
contextual and structural factors. This sensitivity to political particularity,
while still aiming for ‘bounded generalizations’ about institutional effects,
is especially welcome in cases where risk analysts monitor state failure and
governance problems. It is exactly the risks tied to specific institutional
solutions, in relation to more general exogenous shocks, that risk analysts
need to be able to understand. The ambition to widen institutional research
from traditional Western multilateral organizations to local and regional
institutions will increase the benefit to risk analysis still further (Acharya
and Johnston, 2007).
Fourth, risk analysts have much
to gain from the focus on causal mechanisms that is now widespread within political
science. Recognizing the limitations of proving causation by looking only at
patterns of correlation, scholars from different fields have argued for the
benefits of studying causal mechanisms as a way to infer causality (Elster,
1998;Tilly,
2001; Checkel,
2006). This implies that the researcher specifies – by way of deduction or
induction – the way in which a cause produces an outcome. Rather than
correlation, causality is thus inferred by the link between cause and effect.
From the perspective of risk analysis, causal mechanisms could prove a powerful
tool in assigning probabilities for specific developments as well as for
crafting more robust scenarios. Risk analysis is often employed when there is
plenty of information about the political environment but uncertainty about how
a specific actor will be affected by this environment. In such contextually
rich analysis, causal mechanisms prove their value, as it will be easier to
assign probabilities to possible outcomes when each outcome is tied to the
specific values of other variables and not only to their existence or
non-existence. The effect is that many outcomes that might have looked relevant
from a correlation perspective become improbable when one considers the
specific mechanism by which an outcome is thought to be produced. The utility
of causal mechanisms is even more evident in scenario analysis, where
well-specified mechanisms can be translated into robust indicators that can be
used in turn to estimate which scenario seems to be unfolding.
In sum, there seems to be plenty
that risk management gurus can learn from political scientists. Also, in a
world where security parameters are increasingly uncertain, political
scientists have much to gain from thinking more stringently about risk and risk
management. John Quiggin has argued that risk is to the twenty-first century
what globalization was to the twentieth (quoted in Jarvis,
2004). Compared to the concept of globalization, risk promises to be a more
tangible lens through which to focus inquiry, and research based on risk has
the potential to be of greater policy relevance. However, when engaging in risk
analysis, IR scholars should be well aware, and make full use of the fact, that
risk has been a key underlying concept in much IR theorizing to date.
About The Author:
Björn Fägersten is Senior Research Fellow at UI's Europe Research Programme. He
conducts research on European integration, security policy and international
institutions. Current projects involve European Global Strategy research and
project management, intelligence cooperation within international security
institutions, and the concept of political risk in public and private sectors.
Björn
Fägersten has a PhD in political science from Lund University, Sweden, and has
held research fellowships at Harvard's Kennedy School of Government and at the
European University Institute. He has published in peer-reviewed journals
on European security cooperation and the design of intelligence institutions.
He is a reviewer for the Journal of European Integration and an active commentator on European affairs. Since 2008 Björn Fägersten has also been an elected fellow of the European Foreign and Security Policy Studies Programme of the VolkswagenStiftung, the Compagnia di San Paolo, and Riksbankens Jubileumsfond.
Contact information
bjorn.fagersten@ui.se
tel +46-8-511 768 24
mob +46-70 812 24 38
He is a reviewer for the Journal of European Integration and an active commentator on European affairs. Since 2008 Björn Fägersten has also been an elected fellow of the European Foreign and Security Policy Studies Programme of the VolkswagenStiftung, the Compagnia di San Paolo, and Riksbankens Jubileumsfond.
Contact information
bjorn.fagersten@ui.se
tel +46-8-511 768 24
mob +46-70 812 24 38
Publication Details:
Palgrave MacMillan
Risk Management (2015) 17, 23–39. doi:10.1057/rm.2015.5. This work is licensed
under a Creative Commons Attribution 3.0 Unported License.
Notes
1 Interestingly,
short of the data set, the above sentence is close to identical to the battle
cries of new-institutional scholars within political science proper.
2 For insights on
the management of Ebola from a political risk perspective, see Cytora
analysis (2014). On the integration of complex scenario building and real
time data, see for example Bowman et
al (2014).
3 Here it is
important to note not only that company behavior or culture might affect the
development of political risk but also that risk management practices might
incur a risk for the host country. One example is when a country is publicly
deemed unsuitable for investment, and another when rating agencies become
active parties in the development they aim to analyze.
4 See for example
the methodology behind the Eurasia Group’s Stability Index
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