INTERNATIONAL RISK

MANAGEMENT
MEANING

❖ International risk management refers to the practice of identifying, assessing,

and mitigating potential risks and uncertainties faced by businesses operating
in a global environment.

❖ It involves understanding the various types of risks that can affect

international operations and developing strategies to manage and minimize
these risks.

❖ Effective international risk management is crucial for businesses to navigate

the complexities of global markets and ensure their long-term growth and
sustainability.
TYPES OF INTERNATIONAL RISK

Legal And
Political Commercia Financial Economical Market
Regulatory
Risk l Risk Risk Risk Risk
Risk
Political Risk
■ Political risks stem from changes in government policies, regulations, or political
instability in foreign countries.
■ Political risk is the risk that a firm could lose money to political events that take
place in a foreign country in which it operates.
■ Government actions and political unrest in that country can all impact a firm’s
operations and profitability by making it more expensive, more difficult, or even
impossible to reach its original objectives.
■ Political risks can substantially affect the operations and profitability of
international businesses, making it essential for companies to monitor political
developments and have contingency plans in place.
■ Example: India has had armed conflict Pakistan and with China and there is
always the small chance that hostilities to escalate again the future. Border
disputes are not fully resolved between the countries.
Classification
of Political Risk

Macro Level Risk Micro Level Risk

Types of Political Risk
Government Expropriation

Nationalisation

Forced Divestiture

Asset Confiscation

Gradual Expropriation

Sanctions

Currency Restrictions

Terrorism, War and Unrest

Commercial Risk
• Commercial risks pertain to uncertainties in business transactions, such as non-
payment by buyers, breach of contract, or supply chain disruptions.
• These risks can be amplified in international trade due to differences in legal
systems, cultural norms, and communication challenges.
• Effective contract negotiation, due diligence, and relationship management are
crucial in mitigating commercial risks.
• It is important to take into account the trading partner's possible insolvency or
unwillingness to pay
• Examples of how commercial risks can become reality:
• Your trading partner cannot deliver or pay the products/services as agreed.
• Your trading partner does not want to act in accordance with the agreement.
• You have differences in interpreting the trade agreement.
A few examples of commercial risk include the following:
• Compliance risks - involves penalties and fines because of failure to
comply with regulations.
• Security risks - refers to data breaches, fraud, and other types of criminal
activity.
• Reputation risks - pertains to a reputation crisis due to a customer’s
negative experience with your business.
• Operational risks - includes accidents, natural disasters, and other
unforeseen events that halt your business operations.
• Competitive risks - the danger of competition getting a majority of the
market share, causing the business to lose revenue.
FINANCIAL
RISK

Fluctuations in
Economic
currency
exchange rates
conditions

Interest rates
ECONOMIC
Inflation
RISK Unemployment
rates

Income
Recession
inequality
■ Market Risk: Market risk, also known as systematic risk, refers to the
potential for losses due to adverse movements in financial markets. It
encompasses factors that affect the value of investments, such as stock
market declines, interest rate changes, and commodity price fluctuations.
■ Legal and Regulatory Risk: Legal and regulatory risk involves uncertainties
related to compliance with foreign laws, regulations, and legal systems.
Differences in legal frameworks, contract enforcement, intellectual
property protection, and employment regulations can all pose challenges
for international business activities.
Risk Management
Risk management involves four different approaches toward identified risks:

Risk Acceptance Risk Transference Risk Avoidance Risk reduction

The risk is In this process

The risk is transferred to once you’ve
accepted and The risk is avoided completed your
another entity. The
by also avoiding a risk analysis, you
no further most common way
step or action that
to do this is to get take steps to
action will be brings the risk with reduce either the
an appropriate type
taken towards of commercial risk
it. likelihood of a risk
it. event happening
insurance.
or the impact
should it occur.
EXCHANGE RATE FLUCTUATIONS

■ Exchange rate fluctuations can expose businesses, individuals, and even governments
to various risks and uncertainties.
■ Foreign exchange risk arises mainly due to currency differences in a company’s
assets & liabilities and cash flow differences.
■ This risk arises because of foreign currency cash transactions, foreign exchange
trading, investments denominated in foreign currencies and investments in foreign
companies
Understanding the Concept of Exposure
Exposure is the sensitivity of changes in the real domestic currency value of assets,
liabilities or operating incomes due to unanticipated change in exchange rates. Thus as
per the definition:
a. It measures the extent to which the value of something in term of domestic
currency is changed due to the unanticipated change in exchange rate.
b. It takes into account inflation adjusted value.
c. It also takes a change in both stock items such as balance sheet as well as flow
item such as operating incomes.
d. It exists on both domestic as well foreign assets because unanticipated change in
exchange rate can affect the value of both the domestic and foreign assets and
liabilities, and.
e. It concerns only for unanticipated changes rather than anticipated changes as such
changes are already incorporated in the prices of assets and liabilities
Measurement of Exposure
The value of foreign currencies denominated assets and liabilities change their values
because of fluctuations in foreign currencies.
These changes are primarily unanticipated and it may cause by variations in short-term
interest rates, inflation, tax, equity market return, expectation etc.
✓ Change in the real domestic-currency value of an item: ΔV
✓ Spot Exchange rate, expressed as number of rupee per US$: S
✓ Unanticipated change (appreciation or depreciation of rupee) in the value of the
risk factor: ΔSU
Any appreciation or depreciation of rupee has its impact on the domestic currency value
of the item (V). In other words, there is a functional relationship between ΔV and ΔSU.
Generally companies are exposed to three types of foreign exchange risk

Economic
Translation Transaction (operational,
(accounting) (commitment) competitive or
exposure exposure cash flow)
exposure.
Strategies To Manage Exchange Rate
Exposures

ASSET AND
LEADING
PRICING LIABILITY
NETTING MATCHING AND
POLICY MANAGEME
LAGGING
NT
Factors determining exchange rate
• Inflation : https://www.rateinflation.com
• Interest rates
• Government Debt/Public
• Political Stability
• Economic Recession
• Terms of Trade
• Current account deficit
• Confidence and speculation
• Government intervention : Shaktikanta Das also spoke about other measures like international
trade settlement in rupee to make the Indian currency widely acceptable as a tool of international trade
settlements. (MONEYCONTROL NEWS MAY 24, 2023 / 11:59 AM IST)
• The stock markets
Risk of Non-Payment in Foreign Trade

FOREIGN INTELLECTUAL COUNTRY AND

CREDIT SHIPPING
EXCHANGE PROPERTY POLITICAL
RISK RISK
RISK RISK RISK
•Thoroughly Evaluate Potential Buyers
•Establish Clear and Concise Contract Terms
Measures to •Conduct Risk Assessment and Insurance
reduce risk of •Utilise Secure Payment Methods
non payment •Leverage Trade Finance and Export Financing
•Regular Communication and Relationship
Building
•Conduct Periodic Credit Reviews
Exchange Control Restrictions on Remittance of different Tax Systems
■ Exchange control restrictions refer to the regulations and policies that a country's
government imposes on the movement of its currency.
■ These restrictions are put in place to manage:
Balance of payments
Stabilize its currency's value
Stability of its financial system
■ Exchange Control Restrictions:
Outward Remittance Restrictions
Inward Remittance Restrictions
Capital Controls
Import and Export Controls
Exchange Control Restrictions on Remittance of different Tax Systems
■ Impact on International Transactions
– Reduced Trade (Discourage businesses from International trade)
– Foreign Investment (Capital controls)
– Black Market Activities (Individuals and businesses trade currency illegally)
– Macroeconomic Stability (Manage inflation)
■ Government Goals
Balance of Payments ( to achieve a favourable balance)
Currency Stability
Financial Stability

■ Governments often implement various remittance schemes to regulate and incentivize the movement of
funds across borders.
Foreign Direct Investment (FDI) Incentives
Export Promotion Schemes
Remittance Taxation and Regulations (Introduce regulations or stringent regulations can discourage
remittances)
Dual Exchange Rate Systems (Fixed official exchange rate and a separate floating rate applied to
specified goods & services
Exchange Control Restrictions on Remittance of different Tax Systems

■ Governments often implement various remittance schemes to regulate and incentivize the
movement of funds across borders.
▪ Inward Investment Incentives (Attract foreign investment by providing reduced customs duties, or
exemptions)
▪ International Financial Centres: (Governments establish international financial centres with
favourable regulations and tax structures)
▪ Trade Agreements and Free Trade Zones
▪ Flat Tax System
▪ Territorial Tax System
▪ Double Taxation Agreements (DTAs)