Country risk and its assessment methods

Expansion of economic space links contributes to the emergence of risks that are inherent in this business in a foreign country. An investor interested in the optimal placement of funds in an unfamiliar market may face an unstable political regime, corruption, defaults and other unfavorable events. All of these factors relate to country risks.

Definition

Country risk is a threat of financial losses in the performance of operations, which, in one way or another, are related to international activities. It is determined by the conditions of the country's development and the degree of their influence on customers, counterparties. For example, imposing restrictions on operations with foreign currency may cause a delay in the fulfillment of obligations. Such a threat is especially characteristic for countries where the convertibility of national monetary units has not historically been preserved.

Hierarchy

Country risk consists of two components: ability and willingness to pay. With the first associated with commercial losses, and with the second - the political regime in the country. Financial costs can be both at the state level (risk of insolvency) and at the company level. Under the second one, it is understood that when carrying out economic policy, the state can limit the transfer of capital. Political country risks include the likelihood of losses due to adverse external factors in the investment region.

Methods of analysis

To reduce financial losses, various methods of assessing the situation in the country were used. The analysis was carried out immediately before investing the funds. If the risk is high, then either the project was postponed, or the premium was added to the cost. But the previously used methods of assessing country risks had one big drawback: they embellished the information received. Now the most popular method is Delphi. The essence of it is that first analysts develop a system of indicators, and then attract experts who determine the weight of each factor for a particular country. The downside of this approach is the subjectivity of evaluations.

Modern methods

Country risk in the West is analyzed by the methodology of scoring. It consists in a quantitative comparison of the main characteristics of different countries and the derivation of the resulting integral indicator, which takes into account all the criteria and ranks the states according to their investment attractiveness. The German BERI index is built on this technique. It is used to assess the investment climate of 45 countries around the world based on 15 criteria with different specific gravity. Each indicator is assigned an score from 0 to 4. The higher the score, the higher the investor's profit potential.

Fortune and Economist journals analyze country risks in Eastern and Central Europe using a simplified methodology that focuses on the prospects for market reforms. The importance of the results is determined by the fact that effective investment directly depends on the intensity of the transformation in countries.

Portfolio investors also use special credit ratings, based on which the optimal object for investment is selected. Based on the method developed by Europe, the reliability of the countries of the world is evaluated twice a year.

Factors

Creating a favorable investment climate is an important condition for the country's economic growth. The active inflow of capital (in the case of Russia) is hampered by factors such as:

1. Lack of a stable legal framework.
2. The growth of social tension is due to the constant worsening of the material situation of the population.
3. Separatist sentiments that take place in some regions of Russia.
4. Corruption in certain spheres.
5. Undeveloped infrastructure - primarily transport, communications, telecommunications, hotel services.

Types

Country and regional risks include threats such as:

1. Refusal to recognize debt or its future services.

2. Revision of repayment terms: the creditor will receive less money, as the borrower has achieved a rate reduction. If under the contract, debt refinancing is initially compensated by penal sanctions, the consequences for the investor are the same as in the case of refusal to pay.

3. In the event of a revision of the maturity of the debt, two options are possible:

• The amount of principal payments is reduced, part of the debt is written off;
• If the borrower achieves a deferment on payments, the rate will not change.

4. Suspension of payments for technical reasons is temporary. The lender should have no doubt that the borrower will fulfill its obligations. The interest rate in this case remains the same.

5. Currency restrictions, when a country lacks a foreign currency unit, impose limits on transfers of funds abroad. At the state level, this threat is transformed into a risk of refusing to service debt.

Evaluation

The premium for a country risk is determined by the yield of government bonds of one country and the debts of another with a similar period of validity. As for Russia, a strong decline was observed in 1998. Then the risk increased faster than the premium for it. That is, investors not only lacked reliable information, but the markets were oriented to ratings of world agencies that missed changes in economic and political factors. The first crisis occurred a few days before the default in 1998 and immediately after it.

The level of country risk strongly affects banks, whose activities are directly related to foreign economic relations. Several factors influence this threat. All of them must be taken into account when analyzing the situation in a particular region.

Country Risk of Russia

Agency Moody's Investor Service has lowered the rating of the Russian Federation to the most speculative. If Standard & Poor's and Fitch assess the country on readiness to repay debts, MIS takes into account the completeness of payments in case of a default. Experts believe that the extremely negative assessment is caused by political reasons. According to the agency's forecasts, capital outflows this year will be 272 billion dollars, GDP will decrease by 8.5%, and inflation will accelerate to 15%. But the Finance Ministry says that Russia has safely survived a severe shock - a 50 percent drop in the price level for oil. Therefore, the agency's country risk is highly overstated. International reserves are accumulated, which are higher than the national debt. There is also a surplus of the current account. These advantages were not taken into account by the agency. But the scores were based on the fact that Russia can get new sanctions because of unpredictable developments in Ukraine.

Effects

Country risk assessment, on the one hand, is adequate. The foreign capital market for Russia is virtually closed. The downgrade affects the cost of borrowing for the country. This happens almost painlessly. However, experts are worried that such a rating of the world agency will force investment funds to zero their investments in Russia. And even after the stabilization of the situation, it is unlikely that these capitals will quickly return to the country. The second threat is that creditors will request early repayment of eurobonds. The decrease in the rating was taken into account by the market in the form of a short and low jump in the dollar to the level of 64 rubles.

The banking sector also suffered

The downgrade led to a deterioration in the investment attractiveness of Moscow, St. Petersburg and 13 regions. Sovereign appraisal of the capital and the Leningrad region was at the level of "Ba1". This is higher than in Bashkortostan, Tatarstan, Samara, Nizhny Novgorod, Belgorod and other regions. The forecast for these regions remains negative. In addition, Russia's country risk has affected credit institutions. The ratings of long-term deposits of Sberbank and VTB in rubles have been reduced to "Baa3" and "Ba1", and in foreign currency - to "Ва1" and "Ва2" with a forecast of negative changes. The same situation is observed in Alfa-Bank, Gazprombank and Rosselkhozbank.

Conclusion

Country risk is formed on the basis of a large number of external and internal factors on which the investment attractiveness of the state depends. Such threats are more typical for regions in which there are restrictions on convertibility of currency. In such countries there is always a currency, transfer and risk of a complete refusal to pay off the debt. Therefore, before investing funds, it is necessary to conduct a thorough analysis of external and internal factors. World rating agencies annually publish their estimates of the investment attractiveness of countries.