A Rational Approach to Emerging Markets Risks

Risk Management, April 2005 | Go to article overview
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A Rational Approach to Emerging Markets Risks


The developing economies are truly an alluring place in which to do business. Advances in technology, especially in communications and transportation, have connected businesses with additional sources of labor, importers with exporters and fueled the accumulation of capital in many countries of the developing world. These emerging markets are now doubling their gross domestic product (GDP) roughly every 12 years.

While this growth offers exalting opportunities, it is hard to deny the concurrent risks. Transitional economies can slip into an environment prone to the imposition of currency controls that restrict businesses from converting local currency into hard currency and repatriating converted currency. Of equal concern is the gradual infringement upon trade or investment rights that can result in creeping expropriation of a project, or even the threat of political violence.

Businesses seeking the higher growth opportunities of developing economies may be faced with a set of additional risks that go beyond traditional commercial exposures--risks that may expose a company's balance sheet to catastrophic shocks.

But with a rational approach to risk management that utilizes insurance, companies can protect themselves against the exposures found in emerging markets. Insurance products are highly effective mechanisms that can protect an organization from the risks of expropriation, political violence and inconvertibility, as well as payment defaults caused by financial reasons specific to a local company.

Private-public alliances

Recently, the effectiveness of insurance products has been strengthened by collaboration between private insurers and public agencies. Initially, private insurers brought much-needed capacity to a marketplace where growing demand exceeded coverage for infrastructure projects. Today, changing market demands have prompted stronger cooperation between the public and private sectors.

What was once a rarity--coinsurance and reinsurance arrangements between public and private insurers--is now a paradigm for the market. An added advantage to insureds is the collective diplomacy and clout that these private-public collaborations provide.

A case in point is the 2002 currency crisis in Argentina. There, the Berne Union (an international union of private and public insurers) gained exemptions from Argentinean exchange controls that would have prevented businesses from converting local currency and transferring it to investors or lenders outside the country. More recently, Zurich was instrumental in gaining exceptions to Venezuelan exchange controls for its insureds. Admittedly, the insurers averted losses. But more important, payments from insured companies continued uninterrupted.

Public-private alliances provide enormous benefits to insureds that go beyond their diplomatic missions. Long term, they have bolstered the underwriting process and improved product delivery. Public agencies frequently possess much-prized historical experience, local intelligence and clout that, when added to the private insurers' technical ability, innovation and responsiveness, aids in structuring political risk products that meet the specific needs of investors, exporters or lenders.

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