PowerPoint Slides for Professors Spring 2010 Version

1. PowerPoint Slidesfor Professors Spring 2010 Version This file as well as all other PowerPoint files for the book, “Risk Management and Insurance: Perspectives in a Global Economy” authored by Skipper and Kwon and published by Blackwell (2007), has been created solely for classes where the book is used as a text. Use or reproduction of the file for any other purposes, known or to be known, is prohibited without prior written permission by the authors. Visit the following site for updates: http://facpub.stjohns.edu/~kwonw/Blackwell.html. To change the slide design/background, [View]  [Slide Master] W. Jean Kwon, Ph.D., CPCUSchool of Risk Management, St. John’s University101 Murray StreetNew York, NY 10007, USA Phone: +1 (212) 277-5196E-mail: Kwonw@stjohns.edu

2. Risk Management and Insurance: Perspectives in a Global Economy 17. Political Risk Management Click Here to Add Professor and Course Information

3. Study Points • Modes of foreign market entry • Nature of political risk • Risk analysis and control • Financing the political risk exposure • Political considerations in emerging markets

4. Modes of Foreign Market Entry • Exporting • Use of a domestic intermediary • Foreign direct investment (FDI) • Joint venture • Wholly-owned subsidiary • Branch

5. Political Risk Note on “Expropriation” Depending on the country and jurisdiction, the property owner may receive some compensation but the amount is likely below the market value of the property. • Any governmental action that diminishes the value of a firm operating within the political boundaries or influence of that government • Elements (selected) • Nationalization (taking of property with compensation) • Confiscation (taking of property without compensation for criminal activity) • Expropriation (taking of property without compensation in eminent domain) • Contract repudiation • Currency inconvertibility

6. Political Risk Management • Identification/measurement of loss exposure • Political/legal environment • Socio/ethnical environment • Economic/financial environment • Regional/international environment • Use of external data/analysis • Internal analysis • Frequency and severity of an adverse event • Changes in firm value • Benefit-cost analysis

7. Public Information Sources (Table 17.1)

8. Top 10 News of 2009 by TIME Magazine 1. America's Economic Crisis: Now for the Non-Recovery 2. Afghanistan: Can the U.S. Avoid a Quagmire? 3. Iran's Tumultuous Election and Its Aftermath 4. The Divisive Debate Over Health Care Reform 5. Massacre at Fort Hood: The New Face of Terrorism? 6. The Death of Michael Jackson 7. Pakistan: On the Verge of a Breakdown 8. Mexico's Bloody Drug War 9. H1N1: That's Swine Flu to You 10. The End of Sri Lanka's Cataclysmic Civil War

9. Political Risk Control Techniques Integrative Strategies Defensive Strategies The cost of interference > the cost of letting the firm stay Managerial approaches Joint venture partner from outside the host country Minimum use of host country nationals Use and enforcement of intellectual property rights Financial approaches Source equity/debt financing from within the host country Minimize retained earnings locally • Discourage the host government from interfering with the operation of the firm • Managerial approaches • Increase in communication and tighter relationships (e.g., use of local resources including personnel) • Financial approaches • FDI through joint venture • Fair, accurate and open financial reporting

10. Financing the Political Risk Exposure

11. Financing the Political Risk Exposure • Retention • Insurance • Intergovernmental agencies • Governmental agencies • Private companies

12. Multilateral Export Credit Agencies (Table 17.2) The correct name for the Arabian countries is “Inter-Arab Investment Guarantee Corporation.”

13. The Multilateral Investment Guarantee Agency • Created in 1988 as a World Bank Group member • Promote FDI in emerging economies • Offer political risk insurance (guarantees) • Over $2 billion in capital paid by 163 World Bank member countries

14. The Inter-Arab Investment Guarantee Corporation • Established in 1975 to foster inter-Arab investment flows • Provide coverage for inter-Arab investments and export credits against non-commercial risks • $83 million capital in 2002

15. Overseas Private Investment Corporation • Established in 1971 to help US business investments overseas, foster economic development in emerging markets, and complement the private sector in managing the risks associated with FDI • Previously known as “Overseas Private Insurance Corporation” • Up to $250 million per project against: • Currency inconvertibility, expropriation or political violence • Protection of up to 20 years of equity life or maturity

16. The Export-Import Bank of the U.S. • Finance the export of U.S. goods and services • Does not compete with private sector lenders • Pre-export financing • Commonly one-year transaction-specific or revolving loan • Small Business Multi-Buyer Export Credit Insurance • Commercial losses due to insolvency, bankruptcy and default (up to 95% coverage) • Political losses due to war, revolution, cancellation of an import or export license, currency inconvertibility (up to 100% coverage)

17. Public vs. Private Insurance Public Insurers Private Insurers Private insurers are for profit while avoiding undue risk. These providers are perceived as being more flexible. Their coverages can be more expensive. Traditional actuarial methods are less applicable. They use portfolio management and diversification to assure spread of risks. • They must consider governments’ policy objectives. • They rely more on published rate schedules than do private insurers • Government policy toward a particular country or region heavily influences pricing and coverage availability.

18. The Importance of Monitoring • Circumstances that create political risk in one country may create it in another. • Marketing practices that are effective in a developed country may provoke suspicion and controversy in a developing country. • Managerial practices that are effective in the home country may precipitate labor unrest in a host country.

19. Political Considerations in Emerging Markets • Eastern Europe • Asia • Latin America • Middle East • Africa

20. Case Study: Iran(Not in the book)

21. Background • Persia until 1935 • Became an Islamic republic in 1979 • Religious scholars as political leaders • 1980-1988 war with Iraq • Designated as a state sponsor of terrorism • Nuclear development

22. People • Population 66.5 million • Median age 27 • Urban population 68% • Gender ratio 1.02 male/female • Life expectancy • Male 69.65 • Female 72.27 • Ethnicity • Persian 51% • Azeri 24% • Religion • Muslim (Shia) 89% • Muslim (Sunni) 9% Source: CIA World Factbook(February 2010)

23. Economy • Most economic activities controlled by the state • An economy dependent on oil revenues • Per capital GDP $12,900(purchasing power parity) • GDP real growth 2.6% • Other • Inflation 16.8% • Unemployment 11.8% • Pop below poverty 18% • Labor in services 45% • Managed floating exchange rate since 2002

24. Iran – International Disputes • Coface Rating (February 2010) • D Country rating • C Business climate rating • S&P Do not rate • Moody’s • Withdrew rating action in June 2002 • US government concerns that the rating was “inconsistent” with U.S. sanctions

25. Insurance in Iran • The history • Initially serviced by foreign insurers • 1935 – First, state-owned insurance firm established • 1979 – The industry (with 12 foreign firms) nationalized, leaving only state insurers: Iran Insurance Company, Asia Insurance Company, and Alborz Insurance Company • The regulator • BimehMarkazi (Central Insurance, www.centinsur.ir) of Iran established in 1971

26. Insurance in Iran • The market • The market is closed to the private sector and foreign firms • Third party motor liability insurance is compulsory • Related activities • Social Security Organization (SSO) for workers’ compensation type of coverage • Medical Service Organization (MSO) for medical insurance to anyone who selects not to be insured by Iranian commercial insurer or SSO • Export Guaranty Fund of Iran (ECGD)

27. Insurance Data – Premium

28. Premium Distribution

29. Claims Distribution

30. Loss Ratio

31. Market Players

32. Relative Position of the Country

33. Discussion Questions

34. Discussion Question 1 With increasing internationalization of national economies, would you expect political risk exposures to grow or diminish in importance? Justify your answer.

35. Discussion Question 2 Could political risk exposures of MNCs might be hedged in the capital market? Speculate as to how this might be accomplished.

36. Discussion Question 3 An entire national economy can be exposed to political risks in the sense that the actions of other governments can diminish its collective “value.” How should governments apply sound risk management principles to such exposures? Do government considerations in this respect differ fundamentally from those of firms?

37. Discussion Question 4 Can governmental political risk exposures justify the creation, maintenance and protection of a domestically owned insurance industry? Justify your response.

38. Discussion Question 5 We discussed two strategies for political risk management: an integrative strategy and a defensive strategy. Pick a country (or a political environment) for which an MNC might use an integrative strategy. Pick another country (or an environment) for which an MNC might use an integrative strategy. Support your choice for each with logical explanation. Would your choices of countries, tactics or both change depending on the nature of business?