Country risk: Global risk is as much political as economic

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Against the backdrop of China’s economic troubles, US Federal Reserve interest-rate hikes, depressed commodity prices and the refugee crisis affecting Europe, political risks increased for numerous sovereign borrowers in 2015.

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No fewer than 92 of the 186 countries in Euromoney’s country risk survey succumbed to heightened political-risk perceptions last year, as experts became more concerned by corruption, government stability, policymaking and other relevant indicators.

Sub-Saharan borrowers Burundi and Burkina Faso saw the largest downgrades to their political-risk assessment scores overall in light of their domestic instabilities:

 

Yemen, Moldova and Papua New Guinea featured prominently, while a number of emerging market (EM) investor favourites also evinced worsening political risk.

Russia was one, with legislative elections approaching and foreign policy a concern.

However, its political-risk score was already languishing at a low level due to a range of longstanding concerns such as corruption, and with president Vladimir Putin in control, there was less scope for further falls.

Malaysia on the other hand shed almost four political-risk points in 2015 as the developing corruption crisis at 1MDB, the state investment fund, called into question the credibility of prime minister Najib Razak.

Malaysia’s economic risk score fell, too, but without the heightened concern for government stability and other political-risk indicators the country would not have slipped below Iceland (to 37th) in Euromoney’s global risk rankings, or caused quite as much anguish to global bond investors ascertaining the implications.

Politics dominates Turkey…

Turkey, meanwhile, suffered from uncertainty surrounding the twice-staged parliamentary elections, in June and November, which ultimately delivered a majority to president Recep Tayyip Erdogan’s Justice and Development Party.

The government is in a strong position to pass routine legislation, but Turkish risk remains heightened by the possibility of another snap election should Erdogan fail to gain inter-party support for constitutional change aimed at ushering in a presidential-style political system.

That risks delaying structural reforms on the one hand, and ushering in a more authoritarian style of governance on the other, both of which might affect returns.

Turkey’s political risks extend to its foreign policies, given the recent deterioration in relations with Russia, and the domestic security threats from Kurdish and Islamist terrorists linked to the border conflict in Syria.

…Brazil and Mexico

Brazil also saw its political-risk score wane last year, first in response to a bribery scandal at state-owned oil and gas firm Petrobras tarnishing the reputation of Dilma Rousseff, the nation’s embattled president, whose ability to serve out a full term to 2018 remains an open question.

Rousseff is moreover facing the threat of impeachment charges for allegedly using accounting tricks to massage the budget figures.

She should survive that with sufficient parliamentary support, but must still counter any renewed social instability caused by recession and rising unemployment as Brazil stages the Summer Olympics with an economy mired in crisis.

Bolivia, Chile, Colombia and Peru were other Latin American borrowers which endured a rise in political risk last year, but it was Mexico which unnerved risk experts the most, shedding almost two points from its political-risk assessment score.

Corruption and drug-crime have risen in importance for Mexican investors in recent years, with attacks on politicians vowing a clampdown on drug trafficking increasing with alarming alacrity.

For Mexico, however, it is the regulatory and policymaking environment which is more of a risk than government stability, as questions arise to what extent the government will go to in implementing structural reforms in the telecoms, finance and hydrocarbons sectors, notably in light of the fall in oil prices.

Mexico’s total risk score was increasing before 2013, but has flat-lined for the past two years. Like Malaysia, its risks are more political than economic, undermining its total risk score:

 

Not just EM phenomenon

Oil producers, including Saudi Arabia, have also seen political risks rise as the pressure on domestic policymakers increases to maintain social contracts after years of soaring oil wealth fuelling largesse.

However, it isn’t just EMs where political risk is an important determinant of asset returns, certainly not since the financial crisis had such devastating global effects.

According to Tina Fordham, chief global political analyst at Citi Research, writing jointly with Carnegie director Jan Techau, "the sense that political risks have actually increased in a more globalized and inter-connected world – in number if not in terms of scale – is hard to escape".

Fordham says Citi – a contributor to Euromoney’s country risk survey – spends as much time monitoring non-mainstream party politics in advanced economies as much as EM-based geopolitical risks, and she sees "little sign of this trend of political risk-cutting across advanced and emerging economies reversing".

Euromoney survey data clearly illustrate this fact.

Political risk increased last year in Australia, Norway, Japan, New Zealand and the US, the survey shows.

It also increased in several EU member states.

Among them were France, Finland, Germany, Greece, Italy, the Netherlands, Spain and Sweden.

Political risks were evident, too, in Poland after its elections, which as Euromoney recently remarked upon foreshadowed the shock downgrade from Standard & Poor’s.

Fordham sees the effects of these various political risks rising as they converge, and cites the Syria crisis as an example.

The movement of peoples displaced by the warfare has increased political risk in Europe, and Syria’s problems are likely to be exacerbated by growing tensions between Iran and Saudi Arabia.

This, in turn, will affect European economies, feed into the UK Brexit debate, influence the outcome of elections and affect the EU project as a whole, all of which have the potential to buffet the financial markets.

Monitoring these political-risk events has become a complicated exercise, but one that global bond investors can hardly afford to ignore.

This article was originally published by ECR. To find out more, register for a free trial at Euromoney Country Risk.