Growth in international trade and investment, alongside periodic crises, has made investors navigating foreign terrains wish for a “sixth sense” to anticipate and mitigate the dangers inherent in operating in Country X as opposed to Country Y. Country risk analysis, which is the subject of this brief, is the result.
Any consumer of Africa-related country risk analysis should be aware of inherent potential bias/weaknesses built into the practice:
- Data: FDI inflows into Sub-Saharan Africa grew from USD566 million in 2003 to USD6.2 billion in 2013, according to the United Nations Conference on Trade and Development (UNCTAD). Although this is a substantial increase, the region still accounts for only 2% approx. of global FDI stock. For the most part then, the information which shapes country risk analysis (incl. on Sub Saharan Africa), has been drawn from the experiences of this narrow grouping of overseas investors and academia. Moreover, lags in market information, the size of the informal sector, and/or gaps in bureaucratic capacity compound the weakness of an arms-length approach to country risk analysis for Sub-Saharan Africa (though to differing extents by country).
- Home Bias: In this instance we are referring to the analyst’s tendency to assume that institutions/dynamics mirroring that of their home country are low risk and the reverse for those that do not.
- Backward Perspective: There is also a natural tendency to interpret data through the lens of the last crisis e.g. in assessing the security threat from Boko Haram versus Niger Delta militants or Ebola in Liberia, Guinea and Sierra Leone versus Senegal and Nigeria. Finding mechanisms to be open to current dynamics should be an ongoing concern.
Political and Security Risk
Simply put, the purpose of political risk analysis is to measure the manner and magnitude of risk posed by political decision-making.
To the extent that an investor is concerned with dependability of the investment climate, ‘institutional depth’ should be an early consideration. The term refers to an assessment of the shape and robustness of political institutions in the country in question.
Representativeness & Internal Cohesion
Understanding the shape of political institutions and how they function in practice does not mean the job is done. Equally important are representativeness and internal cohesion – measures of the relationship between local interest groups, the extent to which they are included in political decision making, state legitimacy and the implications thereof.
Formal and informal relations between a country, its neighbours and the international community at large are important when considering political risk for a number of reasons.
The objective here is to capture the nature and scale of violent threats to the investment under discussion. It closely borders the question of political risk that there is an argument for merging the two concepts
Legal and Regulatory Risk
Intimately tied to the risks associated with political decision-making are those emanating from the legal and regulatory framework. It is a key component of the country risk analysis process because it projects how the formulation, interpretation and enforcement of the rules of the road will shape investment returns
Transparency, independence and efficiency of the legal system/regulatory environment are all concerned with equity. How clear is the law? Does it address issues of concern e.g. bribery/money laundering? How does it differ in practice? What is the relative power of stakeholders and how do they behave?
Economic, Financial and Operational Risk
Economic and Financial
Africa is diverse. It bears repeating. Descriptions of continental trends will perforce obscure differences in the status and outlook for individual countries. Nevertheless, we have observed that while political topography and the ‘cost of government’ remain the first consideration of investors from outside the region looking in, economic and financial risk are again in the limelight due to the juxtaposition of improved performance since the 2000s e.g. higher and more stable growth (see Figure 2: Real GDP Growth, Sub-Saharan Africa 1973-2014), as against volatility hitting a number of key economies in the region today.
The viability/competitiveness of most modern economic activities rests on the availability of ‘backbone infrasturcture’ i.e. transport, communications, power, infrastructure and human capital. As such, modeling the current operational context and projecting ahead is an essential part of any sound country risk analysis.
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This is an extract taken from our full Country Risk guide.
Many thanks to Songhai Advisory for contributing this guide.