Political risk transpires when a country’s government unexpectedly changes its policies, which now negatively affect the foreign company. These policy changes can include such things as trade barriers, which serve to limit or prevent international trade. Some governments will request additional funds or tariffs in exchange for the right to export items into their country. Tariffs and quotas are used to protect domestic producers from foreign competition. This also can have a huge effect on the profits of an organization because it either cuts revenues from the result of a tax on exports or restricts the amount of revenues that can be earned. Although the amount of trade barriers have diminished due to free-trade agreements and other similar measures, the everyday differences in the laws of foreign countries can influence the profits and overall success of a company doing business transactions abroad.In general, organizations engaging in international finance activities can experience much greater uncertainty in their revenues. An unsteady and unpredictable stream of revenue can make it hard to operate a business effectively. Despite these negative exposures, international business can open up opportunities for reduced resource costs and larger lucrative markets. There are also ways in which a company can overcome some of these risk exposures. For example, a business may attempt to hedge some of its foreign-exchange risk by buying futures, forwards or options on the currency market. They also may decide to acquire political risk insurance in order to protect their equity investments and loans from specific government actions. What a company must decide is whether the pros outweigh the cons when deciding to venture into the international market.
It refers to the risks imposed by interlinkages and interdependencies in a system or market, where the failure of a single entity or cluster of entities can cause a cascading failure, which could potentially bankrupt or bring down the entire system or market. It is also sometimes erroneously referred to as "systematic risk".
Exposure in international finance
Exposures in International Finance Presented By :Anu Mishra M.B.A 3rd Sem B.U
Meaning of International finance:• The economic interaction among different nations involving the monetary payments and the exchange of currency.• A summary of international trade undertaken by a particular nation is given with the balance of payments.
Meaning of Exposure in International Finance• Exposure is a measure of the extent to which a person faces foreign exchange risk• In general, there are two types of exposure: accounting and economic – Economic exposure is more important •
• Transaction exposure: – “A transaction involving purchase or sale of goods or services with the price states in foreign currency is incomplete until the amount in dollars necessary to liquidate a related payable or receivable is determined”• Accounting exposure is: – Of concern to MNCs that have subsidiaries in a number of foreign countries – Important to people who hold foreign securities and must prepare dollar-based financial reports.
Economic Exposures:• Economic exposure measures the risk that the value of a security will decline due to an unexpected change in relative foreign exchange rates• Security analysts should include expected changes in exchange rates in forecasted cash flows
Exposure in International Finance:• Political risk• Financial risk• Economic risk• Market risk• Exchange rate risk• Operational risk• Legal risk• Hedging risk• Systemic risk
• Market risk The risk that the value of a portfolio, either an investment portfolio or a trading portfolio, will decrease due to the change in value of the market risk factors. The four standard market risk factors are stock prices, interest rates, foreign exchange rates, and commodity prices.• Legal risk The risks that counterparty are not legally able to enter into a contract. Another legal risk relates to regulatory risk, i.e., that a transaction could conflict with a regulators policy or, more generally, that legislation might change during the life of a financial contract.• Financial risk an umbrella term for multiple types of risk associated with financing, including financial transactions that include company loans in risk of default. Risk is a term often used to imply downside risk, meaning the uncertainty of a return and the potential for financial loss.
• Hedging Risk: A risk associated with the limiting or off setting probability of loss from fluctuations in the prices of commodities, currencies, or securities.• Systemic risk The risk of collapse of an entire financial system or entire market, as opposed to risk associated with any one individual entity, group or component of a system.• Operational risk A risk arising from execution of a companys business functions. It is a very broad concept which focuses on the risks arising from the people, systems and processes through which a company operates. It also includes other categories such as fraud risks, legal risks, physical or environmental risks.
• Banking :Extent to risk.• Finance: Amount that one can lose; generally cash and notes payable.• International Finance: In foreign exchange and futures market trading, the potential for suffering a gain or loss from fluctuations in market prices.