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For the pessimists, there's enough evidence to suggest the world's progress to hell in a handcart is relentless. Periods of hope, such as that following the dismantling of the Berlin Wall in 1989, tend to be brief.

Recent years have been marked by the Iraq war, mounting concern over the nuclear ambitions of Iran and North Korea, renewed conflict in Lebanon and a more belligerent tone from Russia, whose newly confident mood is supported by wealth from its energy resources.

So is the world steadily becoming more hazardous for business? Certainly, the World Economic Forum's latest report supports the message that we live in a dangerous decade. In January, the independent international foundation announced that 15 categories of global risk, including climate change and terrorism, out of a total of 23 had increased. None had lessened.

Companies seeking to build a presence in the world's fast developing regions recently got further bad news from Alliant Emerging Markets. The political- and credit-risk insurance broker reported that political-risk levels in emerging markets rose sharply in the year ending in February. Its annual political-risk index, which stood at below 68 before the Sept. 11, 2001, attacks, now stands at 76.1, against 72.5 in March 2006.

Alliant cited increased government action against foreign investors in parts of Latin America and Central Asia and also credited risks in Eastern Europe as reasons for the deterioration. Its head, John Minor, said that extreme measures taken by populist leaders, such as Venezuela's Hugo Chavez and Bolivia's Evo Morales, could trigger actions against U.S. companies by governments in other emerging markets.

However, across the Atlantic the situation is regarded as slightly more benign. Aon's London office issued its annual political and economic risk map at the start of the year, based on a poll of underwriters who rated 214 countries and territories. Of these, 17 received upgrades as risks deemed to have improved during 2006. Only two, Libya and the Sudan, received downgrades. What's more, the more upbeat tone tallied with findings from other bodies, including the Organization for Economic Cooperation and Development and French trade and credit underwriter Coface.

Other reasons to be cheerful? Well, despite the well-known problems of Zimbabwe, Aon's assessment suggests the political-risk situation in Africa shows steady, if unspectacular, improvement over the past few years. Fewer countries are now deemed to be high risk; the latest year's assessment included upgrades for Botswana, Oman, Sierra Leone and Zambia.

Some of the world's leading gold producers, including AngloGold Ashanti and Randgold Resources, are sufficiently encouraged to move into previous no-go areas as they seek fresh reserves of the metal. They deem countries such as Liberia and the Democratic Republic of Congo, not long ago the scenes of bloody civil conflict, as making progress toward restoring fair government and law and order.

The steady enlargement of the European Union, which now has 27 members following the addition of Bulgaria and Romania at the start of 2007, is another positive development. Both countries had earlier applications for membership rejected when the previous enlargement round took place in 2004 and subsequently made major efforts to tackle corruption.

Aon now regards the majority of EU countries as low-risk, although Alliant warned in March that companies engaged in trade finance in Hungary, Bulgaria and Georgia faced a growing default risk.

A FORMIDABLE LIST

So what constitutes the political risks faced by companies operating away from their home territory?

According to Elizabeth Stephens, political-risk analyst for broker Jardine Lloyd Thompson Ltd., they include but are not limited to: business interruption; confiscation, expropriation, nationalization and depreciation; contingency; contract frustration; financial risks such as residual value insurance and credit enhancements; lender's interest; exchange transfer and currency inconvertibility; repossession of leased assets and equipment; strikes, riots and civil commotion; terrorism; trade credit; trade disruption; and unfair calling of bonds.

Although companies on both sides of the Atlantic face this formidable list, those based in continental Europe (but not the United Kingdom) operate at something of an advantage. U.S. corporations have experienced a backlash attributable to resentment toward what is perceived as American heavy handedness in international politics and the influence of their economic muscle. Despite this, demand for credit- and political-risk cover in many European countries matches that of the United States and possibly surpasses it in France.

Stephens believes that, overall, political risk has increased in recent years; although, she stresses that the belief in "good" versus "bad" countries when contemplating political risk is largely misplaced. She points out that trade flows to countries deemed high risk, such as Sudan, Angola and Yemen, remain significant, despite the perception that they are risky places with which to do business.

"In reality, political risk is not generic across a region or even within a country," she says. "Foreign investors must analyze the specific environment in the specific region of the country for their specific project, investment or trade."

There has, however, been general concern raised by anti-U.S. and populist governments, such as the Chavez regime in Venezuela. These have used anti-American feeling as a means to legitimate the expropriation of assets. Meanwhile, the war in Iraq has increased the risk of terrorist attacks against U.S. assets and those of its closest allies.

"It's an interesting time; there hasn't been such a level of expropriation and nationalization since the 1970s," says Andrew Underwood, political and enterprise risk underwriter for Lloyd's insurer Hiscox. "The high price of oil has allowed Chavez to pursue the Bolivian revolution. Left-leaning politicos are whipping up nationalist support and are often opposed to foreign investors."

As a result, U.S. corporations no longer regard confiscation cover as a luxury purchase, although corporate budgets have been stretched by the cost of terrorism cover and sharp rate hikes for directors' and officers' liability cover.

Stephens says that soaring commodity prices have triggered a desire among emerging market leaders to take a greater share of revenue from their country's natural resources. This has culminated in the forced renegotiations of existing operating agreements.

"In many ways, it's entirely predictable that a resource-rich nation should use its newfound economic leverage to secure a greater share of money and power associated with its resources," she says.

Underwriters are generally agreed that Russia's recent actions against the oil and gas majors aren't motivated by nationalistic sentiment, but more by a feeling that the country got a raw deal when contracts were negotiated in the wake of the 1998 economic crisis and it was in a weak bargaining position. The trend has nonetheless increased the risk of the expropriation of foreign-owned assets in the natural-resources sector or the forced renegotiation of contracts.

"Scarce resources and high prices are factors for tension if the host government decides that the system is not operating to its advantage," says Julian Barker, political-risk underwriter for Ascot Underwriting in London. "But on the other hand, it will also need to attract foreign companies and their expertise if it wants to make the most of its reserves."

DRIVERS OF GROWTH

Two main avenues are open to companies wishing to cover their political-risk exposures abroad.

One is the public market, made up of government-supported bodies such as the Overseas Private Investment Corporation, the U.K.'s Export Credits Guarantee Department and similar bodies in other countries that offer a degree of support to home companies operating abroad.

The other is the private market, which has been in existence since the early 1970s. Commercially priced cover has long been available from Lloyd's and American International Group Inc., which still account for significant market share. More recent entrants include Chubb and Zurich.

Some Bermudian insurers have also diversified into political risk, offering fairly substantial capacity. They include Lancashire and Sovereign, the latter being a dedicated political-risk insurer. Credit insurer Exportus Insurance has also entered the market.

Lloyd's of London, whose ability to write classes of financial-guarantee cover has been more tightly regulated, relaxed the restrictions at the end of March--a move that could potentially release significantly more capacity into the market.

Despite the hazards, political-risk underwriters regard relatively few countries other than Afghanistan and Iraq as "closed for business."Insurance is often available at a price, although Ecuador, Venezuela and Iran are regarded as unattractive and this is reflected in capacity and pricing.

How about the world's two economic star performers? There is plenty of appetite in the market for political-risk cover in India, reports Francis Law, of broker Marsh's global markets division. However, China is rather more of an unknown quantity--on the investment side it represents a fairly attractive risk, but quantifying the political risk for multinationals operating there is difficult.

Unlike many other classes of insurance, rates for credit and political-risk cover have stayed reasonably flat, not even hardening significantly in the aftermath of Sept. 11, 2001, reports Charles Keville, a director of Aon Ltd. in London and head of its political risk and crisis management division. Capacity was cut back, but recovered fairly rapidly.

He adds that banks are the driving force behind increasing demand for political-risk cover. "Banks are now buying political-risk cover routinely, whereas their interest once tended to be restricted to when they had a particularly bad piece of business to offload," says Keville.

This has been reflected in increased capacity and the availability of prolonged coverage periods; as much as 15 years, for example, will be needed when investment has been made in the development of a new mine.

A further driver of growth is the capital reserve requirements for loan portfolios that are imposed on banks by Basel II. By securing the debt on AA-rated insurance paper, the need to carry large reserves for loans made in risky emerging markets is significantly reduced.

The art of political-risk market underwriting lies in analyzing a company's trade and the sector in which it operates, assessing its counterparties and then developing appropriate solutions, says Keville. But there is always an element of the unexpected.

"Trends such as inflation, interest rates or the price of oil can be monitored, but there are plenty of events that flare up suddenly, such as the episode when a Danish newspaper published cartoons considered insulting to Muslims," he says. "Companies such as the dairy group Arla saw their products suffer from the resulting backlash, and a Danish company selling buses in the Middle East suffered cancellation of its contract."

Other potential dangers are trade embargoes resulting from a bird flu pandemic and another event with similar scale and repercussions as Sept. 11, 2001. But there are also grounds for optimism; as Ascot's Barker points out, as countries become more integrated within the global economy and trade barriers are eroded, new business opportunities will be created for companies to take advantage of.

GRAHAM BUCK lives in England.

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August 1, 2007

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