Conceptualization of Political Risk by International Business Scholars

Students of international business have generally associated political risk with exogenous factors, especially those that stem from governmental activities that distort market conditions.⁵³ They have aimed at explaining the host country non-economic risks international investors should be aware of and should take account of in the investment decision making process. There are diverse approaches to the concept of political risk within the international business scholarship. A significant group of international business scholars explain the concept of political risk on the basis of governmental interference with efficient markets.⁵⁴ They conceive political risk as unwanted consequences of political activity for foreign firm or firms operating

47 Ibid., 132.

48 Tan, ‘Risky Business’, 178.

49 Ibid.

50 Baker and Simon (eds.), Embracing Risk, p. 27; Tan, ‘Risky Business’, 178.

51 Baker and Simon (eds.), Embracing Risk, p. 33.

52 Tan, ‘Risky Business’, 178-9; Brian J. Glenn, ‘Risk, Insurance and the Changing Nature of Mutual Obligation’

(2003) 28 Law and Social Inquiry 295–314 at 299.

53 Jarvis, ‘Conceptualizing, Analyzing and Measuring Political Risk’, 3.

54 Jarvis and Griffiths, ‘Learning to Fly’, 10-1.

107

in or wishing to operate in a country’s market.⁵⁵ Weston and Sorge’s⁵⁶ definition of political risk is representative of this approach:

"Political risks arise from the actions of national governments which interfere with or prevent business transactions, or change the terms of agreements, or cause the confiscation of wholly or partially foreign owned business property.”

This approach represents an effort to categorize the multifarious series of non-financial and non-market risks such that they might be described, assessed and mitigated.⁵⁷ For instance, Hasmi and Guvenli surveyed the leading U.S. multinational corporations and concluded that there are 14 major governmental activities and political processes in host countries that constitute political risk.⁵⁸ From highest risk to lowest risk, according to their results, these are import restriction; unexpected currency devaluation or revaluation of non-floating currencies;

delays in profit repatriation; currency inconvertibility; terrorism; unfair tax laws; labor strikes and trade union power; production or export restrictions; contract repudiation; calling off guarantees;restrictions on local market access; expropriation or nationalization; confiscation of property; and restrictions on information flow.⁵⁹ Jarvis defines this approach loosely as the catalogue school due to the dominance of lists of possible activities of governments in host countries that detract value and profitability from business operations.⁶⁰

Critics of this approach generally test it for its analytical utility to decision makers at multinational corporations and argue that the approach does not meet the basic performance criteria that would make it possible to develop models informing probable future outcomes.⁶¹ Kobrin concludes in his review of the political risk literature that the emphasis on negative consequences of government interference for the market has an implicit normative dimension that may not be universally valid.⁶² This approach entails a simplistic assumption about markets. It assumes that markets are self-regulating and function nearly perfectly as they are prone to equilibrium. “The notion of imperfect markets, poor transparency, and activities such as monopoly practices, organizational self-preservation and collusion are excluded from the

55 Ibid.

56 J. Fred Weston and Bart W. Sorge, International Managerial Finance, The Irwin series in finance, 4. pr (Homewood, Ill.: Irwin, 1976), p. 60.

57 Jarvis and Griffiths, ‘Learning to Fly’, 11.

58 M. Anaam Hashmi and Turgut Güvenli, ‘Importance of Political Risk Assessment Function in U.S.

Multinational Corporations’ (1992) 3 Global Finance Journal 137–44.

59 Ibid., 142.

60 Jarvis, ‘Conceptualizing, Analyzing and Measuring Political Risk’, 20.

61 Ibid., 36-7.

62 Kobrin, ‘Political Risk’, 69.

108

theoretical purview” of such an approach.⁶³ This approach further implies that markets are independent from the functioning of states or from the broader societal polity which potentially hinders efficient market operation.⁶⁴ The emphasis on the independence of markets from non-market actors artificially isolates non-markets from their socio-political contexts and conceives all political activity as detrimental to the otherwise efficient business operations.⁶⁵ Representatives of this approach conclude that political risk can be removed only through limiting the power and regulatory range of government.⁶⁶

Critics of the approach, thus, emphasize the role of states as enabling agents of market operation and their regulatory power that insures the transmission of market information and transparency.⁶⁷ Economic historians have long recognized that it is rather the absence of regulatory actors that increases the extent of political risk.⁶⁸ For example, as the 1997 Asian financial crises has shown, weaker political systems and regulatory bodies create conditions that expose participants to risk.⁶⁹ The role of the state and adequacy of institutional capacity is emphasized also by leading international agencies like the International Monetary Fund and the World Bank in supporting “the operation of financial markets, market transparency and probity” and in providing “administrative and legal corridors for the transfer of assets, debt, and debt settlement”.⁷⁰

Nevertheless, the neoliberal approach that points to governments as the source of risk to foreign investment has been the dominant approach to the concept of political risk ever since the emergence of the literature in the 1950s.⁷¹ Haendel explains this with the dominance of business professors in the political risk literature and suggests a more comprehensive approach:

“Most of the literature on political risk has been produced by business professors, published in academically oriented business journals, and geared primarily to other business professors.

Even though some businessmen have benefited from some of this literature, the business community as a whole has had little exposure to the ‘political’ aspect of political risk.

Furthermore, much of this literature has viewed political risk primarily from the perspective of

63 Jarvis and Griffiths, ‘Learning to Fly’, 11-2.

64 Ibid.

65 Ibid.

66 See Weston and Sorge, International Managerial Finance, p. 60; David W. Conklin, ‘Analyzing and Managing Country Risks’ (2002) 66 Ivey Business Journal 37–41.

67 Jarvis, ‘Conceptualizing, Analyzing and Measuring Political Risk’, 24.

68 Ibid.

69 Ibid.

70 Ibid.

71 Jarvis and Griffiths, ‘Learning to Fly’, 10-1.

109

the MNEs. Although practitioners hired by MNEs are rightly concerned with the MNEs’ point of view, political risk can and should also be viewed from the perspective of other key institutions, such as the host country, the U.S. government, and the insurance industry.”⁷² 1.4. A Governance-Based Approach to Political Risk

Traditionally, the investor-host state relationship is addressed with particular attention to host country policies toward foreign enterprises. Raymond Vernon’s obsolescing bargain model has deeply influenced the research on the interaction between a foreign investor and a host state.⁷³ According to Vernon, whereas the initial bargain favors a foreign investor, investment arrangements deteriorate for the investor once the investor commits resources to a host country.⁷⁴ Assuming that investors have limited influence on the investment climate in the host country after the investment is installed, researchers focused more on the impact of host country politics on the investment decisions of foreign investors.⁷⁵

Nevertheless, researchers have recently turned to the political function of investors in host countries⁷⁶ and studies on risk management by multinationals and the overall impact of foreign investors on host country policies have become increasingly prevalent.⁷⁷ It has been concluded for quite some time now that the multinationals have to engage in active management of political risks in the host country through methods, such as strategic alliances with local partners and alliances with other investors, staged entry and incentive alignment with local actors, the use of home governments and international organizations to lead discussions and the tactical allocation of proprietary technology and international finance.⁷⁸

72 Haendel, Foreign Investments and the Management of Political Risk, p. 73. MNE stands for multinational enterprise.

73 Jensen, Biglaiser, Li, Malesky, Pinto, Pinto and Staats, Politics and Foreign Direct Investment, p. 16.

74 Raymond Vernon, Sovereignty at Bay: The Multinational Spread of US Enterprises (New York: Basic Books, 1971) and Raymond Vernon, ‘The Obsolescing Bargain: A Key Factor in Political Risk’, in M. B. Winchester (ed.), The International Essays for Business Decision Makers (New York: AMACOM, 1980), pp. 282–6.

75 Jensen, Biglaiser, Li, Malesky, Pinto, Pinto and Staats, Politics and Foreign Direct Investment, p. 16.

76 See for instance, Amy J. Hillman and Michael A. Hitt, ‘Corporate Political Strategy Formulation: A Model of Approach, Participation, and Strategy Decision’ (1999) 24 Academy of Management Review 825–42; Lorraine Eden, Stefanie Lenway and Douglas A. Schuler, ‘From the Obsolescing Bargain to the Political Bargaining Model’, in R. Grosse (ed.), International Business and Government Relations in the 21st Century (Cambridge:

Cambridge University Press, 2005), pp. 251–73; Alvin G. Wint, ‘Has the Obsolescing Bargain Obsolesced?

Negotiating with Foreign Investors’, in R. Grosse (ed.), International Business and Government Relations in the 21st Century (Cambridge: Cambridge University Press, 2005).

77 Jensen, Biglaiser, Li, Malesky, Pinto, Pinto and Staats, Politics and Foreign Direct Investment, p. 119.

78 Ibid., p. 119; Witold. J. Henisz and Bennet A. Zelner, ‘Political Risk Management: A Strategic Perspective’, in T.

H. Moran (ed.), International Political Risk Management: The Brave New World (Washington, DC: World Bank and Multilateral Investment Guarantee Agency, 2013), pp. 154–70. See also, Jean J. Boddewyn and Thomas L.

Brewer, ‘International-Business Political Behavior: New Theoretical Directions’ (1994) 19 The Academy of Management Review 119–43; Lorraine Eden and Maureen Appel Molot, ‘Insiders, Outsiders, and Host Country

110

Consequently, the dominant business-oriented political risk approach has been enriched, if not challenged, by a purportedly legitimacy-based approach that focuses on the multinational firms’ impression in the eyes of host and home governments and societal groups.⁷⁹ In this approach, the reasons that have potentially led to certain acts of a government and the intentions of the government regarding these acts are considered to be crucial for defining political risk.

The focus of this approach is to ensure profitability of investment and to increase its endurance by increasing its acceptability by societal groups and/or host government. That is, legitimacy denotes acceptability of the investment and the investor. Basically, this approach is an attempt to highlight the role of firm actions in the occurrence of political risk events. By doing so, it also designates a certain role to firms to mitigate political risks which is reminiscent of

“corporate good governance”.⁸⁰ In that sense, the approach is primarily business-centered.

The governance-based approach draws on studies of the changing nature of host government-multinational firm relations. It is often discussed that the conflictual-adversarial dynamics in the host government-multinational firm relations have increasingly shifted toward cooperative-complementary dynamics.⁸¹ In this context, the traditional bargaining power model is found to be ill-equipped to explain the building blocks of the new form of relationships.⁸² Unlike most political risk studies that focus on the ability of the host government to intervene in the operation of foreign investment, the focal point of this approach is the motivation behind government intervention.⁸³ The argument goes on to assert that the short-term shifts in bargaining power leading to a government intervention would counter the government’s own

Bargains’ (2002) 8 Journal of International Management 359–88; John M. Stopford, Susan Strange and John S.

Henley, Rival States, Rival Firms: Competition for World Market Shares, Cambridge studies in international relations, 1. publ (Cambridge u.a.: Cambridge University Press, 1991), vol. 18; Witold. J. Henisz and Andrew Delios, ‘Information or Influence? The Benefits of Experience for Managing Political Uncertainty’ (2004) 2 Strategic Organization 389–421; Pablo M. Pinto, ‘Domestic Coalitions and The Political Economy of Foreign Direct Investment’, University of California (2004); Pablo M. Pinto, Partisan Investment in the Global Economy:

Why the Left Loves Foreign Direct Investment and FDI Loves the Left (Cambridge u.a: Cambridge Univ. Press, 2013); Ravi Ramamurti, ‘The Obsolescing ‘Bargaining Power’? MNC-Host Developing Country Relations Revisited’ (2001) 32 Journal of International Business Studies 23–39; Yadong Luo, Oded Shenkar and Mee-Kau Nyaw, ‘Mitigating Liabilities of Foreignness: Defensive versus Offensive Approaches’ (2002) 8 Journal of International Management 283–300.

79 Charles E. Stevens, En Xie and Mike W. Peng, ‘Toward a Legitimacy-Based View of Political Risk: The Case of Google and Yahoo in China’ (2015) 37 Strategic Management Journal 945–63.

80 Larry C. Backer, ‘Multinational Corporations as Objects and Sources of Transnational Regulation’ (2008) 14 ILSA Journal of International and Comparative Law 499–523.

81 J. H. Dunning, ‘Governments and Multinational Enterprises: From Confrontation to Co-operation?’ (1991) 20 Millennium - Journal of International Studies 225–44; Yadong Luo, ‘Toward a Cooperative View of MNC-host Government Relations: Building Blocks and Performance Implications’ (2001) 32 Journal of International Business Studies 401–19 at 401.

82 Ibid., 402.

83 Stevens, Xie and Peng, ‘Toward a Legitimacy-Based View of Political Risk’, 946.

111

goals that include attracting foreign capital.⁸⁴ Instead of intervening based on short-term shifts in bargaining power, a government takes account of the attributes and activities of the foreign firms over time and evaluates whether they are consistent with the government’s long-term economic, political, and social goals.⁸⁵ If a government perceives that they are in consistency, the acceptability of these firms in the eyes of government increases.⁸⁶

In fact, assessment by governments or government actors of foreign firms’ acceptability is a common practice.⁸⁷ How the government perceives a firm’s acceptability “can be a matter of life and death for an organization.”⁸⁸ Since government agents have direct influence on the performance and the very existence of industries and organizations, firm’s impression in the eyes of government actors is a “commonly studied type of legitimacy.”⁸⁹ Many studies connect firm’s acceptability directly to the political risks the firm faces. Kostova and Zaheer notes that

“the political processes or negotiations between MNEs and host governments … could affect the legitimacy of firms directly -in the regulatory domain-or indirectly- through the social construction engaged in by political interest groups.”⁹⁰ Luo asserts that MNEs can reduce their political risk if they can build legitimacy in the eyes of the host government through trustworthy behaviors, social capital, and investments of resources that are valuable and rare in the host economy.⁹¹ Henisz and Zelner also assert that MNEs’ tenure allows them to build legitimacy and acceptance in the host environment, thereby reducing political risks over time.⁹² These scholars suggest that firms should focus predominantly on building “legitimacy” as opposed to building power to mitigate political risks.⁹³ Some suggest corporate social responsibility as a

84 Luo, ‘Toward a Cooperative View’.

85 Witold. J. Henisz and Bennet A. Zelner, ‘Legitimacy, Interest Group Pressures, and Change in Emergent Institutions: The Case of Foreign Investors and Host Country Governments’ (2005) 30 Academy of Management Review 361–82.

86 Stevens, Xie and Peng, ‘Toward a Legitimacy-Based View of Political Risk’, 947; T. Kostova and S. Zaheer,

‘Organizational Legitimacy Under Conditions of Complexity: the Case of the Multinational Enterprise’ (1999) 24 Academy of Management Review 64–81; Marquis C. and Qian C., ‘Corporate Social Responsibility Reporting in China: Symbol or Substance?’ (2014) 25 Organization Science 127–48; M. Suchman, ‘Managing Legitimacy:

Strategic and Institutional Approaches’ (1995) 20 Academy of Management Review 571–610.

87 Stevens, Xie and Peng, ‘Toward a Legitimacy-Based View of Political Risk’, 948; J. Baum and C. Oliver,

‘Institutional Linkages and Organizational Mortality’ (1991) 36 Administrative Science Quarterly 187–218; D.

Deephouse, ‘Does Isomorphism Legitimate?’ (1996) 39 Academy of Management Journal 1024–39; Marquis C.

and Qian C., ‘Corporate Social Responsibility Reporting in China’; B. Naughton, The Chinese Economy:

Transitions and Growth (Cambridge, MA: MIT Press, 2007); H. Rao, ‘Institutional Activism in the Early American Automobile Industry’ (2004) 19 Journal of Business Venturing 359–84.

88 A. Bitektine, ‘Toward a Theory of Social Judgments of Organization: The Case of Legitimacy, Reputation, and Status’ (2011) 36 Academy of Management Review 151–79 at 152.

89 Ibid., 156.

90 Kostova and Zaheer, ‘Organizational Legitimacy’, 65-6.

91 Luo, ‘Toward a Cooperative View’.

92 Henisz and Zelner, ‘Legitimacy, Interest Group Pressures, and Change’.

93 Ibid.

112

means of increasing acceptability and mitigating political risks. Marquis and Qian find that “by taking action in accordance with government policies, positions, and regulations … firms and their executives maintain their legitimacy in the eyes of the government.”⁹⁴

In addition to actions by the firm itself, a firm’s country of origin plays a significant role in the perceived legitimacy of the firm in the eyes of the host government. It is argued that host governments’ interventions will be affected by the perceived legitimacy of a firm’s home country government.⁹⁵ In other words, the country from which a firm originates may strengthen or weaken a host government’s motivation to intervene.⁹⁶ Kostova and Zaheer argue that the host government’s perception of an MNE “may arise from long-established, taken-for-granted assumptions” about the MNE’s home country in general, or that country’s government more specifically.⁹⁷ They take up the case of Cargill in India that eventually retreated from India due to social and political friction since its investment in India was equated with the British colonialism.⁹⁸

A firm’s legitimacy is constantly assessed by various sets of social groups and stakeholders including interest groups, competitors, the media, NGOs, financial institutions, employees, customers, “elite” members of society, and other members of civil society.⁹⁹ These actors also have a direct influence in the operation of an organization, i.e. they can provide or withhold their social license for a firm to operate, depending on their perception of the firm’s legitimacy.¹⁰⁰ It is, therefore, crucial for firms to build long-lasting relations with such stakeholders.¹⁰¹ The political risk literature is criticized for overlooking the acceptance of firms by such stakeholders, or in short, for being “undersocialized”.¹⁰²

Such social groups and society in general affect indirectly the operation of a firm through their impact on policy. It is argued that a firm’s legitimacy in the eyes of a host government

94 Marquis C. and Qian C., ‘Corporate Social Responsibility Reporting in China’, 132.

95 Stevens, Xie and Peng, ‘Toward a Legitimacy-Based View of Political Risk’, 9.

96 Ibid.

97 Kostova and Zaheer, ‘Organizational Legitimacy’, 74.

98 Ibid.

99 M. Bucheli and E. Salvaj, ‘Reputation and Political Legitimacy: ITT in Chile, 1927-1972’ (2013) 87 Business History Review 729–55; Suchman, ‘Managing Legitimacy’.

100 I. Thomson and G. Boutilier, ‘Modelling and Measuring the Social License to Operate: Fruits of a Dialogue Between Theory and Practice’, in Proceedings, International Mine Management (Queensland, Australia, 2011);

W. Henisz, S. Dorobantu and L. Nartey, ‘Spinning Gold: The Financial Returns to Stakeholder Engagement’

(2014) 35 Strategic Management Journal 1727–48; J. Prno and D. Slocombe, ‘Exploring the Origins of ‘Social License to Operate’ in the Mining Sector: Perspectives from Governance and Sustainability Theories’ (2012) 37 Resources Policy 346–57.

101 Henisz, Dorobantu and Nartey, ‘Spinning Gold’.

102 Stevens, Xie and Peng, ‘Toward a Legitimacy-Based View of Political Risk’, 952.

113

increases when the public perceives the firm’s attributes and actions to be desirable, proper, or appropriate.¹⁰³ Which members of society are most influential may vary according to the nature of the political system in question.¹⁰⁴ While more authoritarian governments tend to be responsive to a smaller circle of politically connected elites,¹⁰⁵ more democratic governments may be responsive to a larger set of interest groups, including the media, industry lobbyists and the broader civil society.¹⁰⁶ Conversely, a government may signal to the public its support to a firm by providing resources and favorable policies.¹⁰⁷ The degree of a government’s influence on the public’s perception of a firm’s legitimacy depends on the legitimacy of the government in the eyes of the public, other governments and international organizations.¹⁰⁸

The legitimacy-based approach focuses also on a home government’s role in the operation of foreign firms. While it is generally considered that the home government’s role would be supportive,¹⁰⁹ some assert that the home government may also represent a source of political risk.¹¹⁰ Similarly, a firm’s legitimacy in the eyes of the home society and international public is crucial for its operations abroad. Stevens et al. raise the case of Yahoo in China that cooperated with the Chinese government with respect to the government’s censorship program.¹¹¹ While cooperation increased Yahoo’s legitimacy in the eyes of the Chinese government, it likely decreased its legitimacy in the United States where NGOs, the media, and the general public raised concerns.¹¹² Even though these stakeholders were not directly affected

103 Ibid.

104 Ibid.

105 Bucheli and Salvaj, ‘Reputation and Political Legitimacy’; D. Langevoort, ‘Resetting the Corporate

Thermostat: Lessons from the Recent Financial Scandals About Self-Deception, Deceiving Others and Design of

Thermostat: Lessons from the Recent Financial Scandals About Self-Deception, Deceiving Others and Design of

Im Dokument The Law of Foreign Investment Insurance (Seite 112-0)