Chapter 6 The Political Environment: A Critical Issue

Teaching Objectives
All the cultural elements are important in international marketing but the political element is by far the
most pervasive and must always be examined from both domestic and foreign country perspectives.
Regardless of where a company does business, the political element is always a partner and further, often
an unpredictable one. Governments both encourage and control business and the goal of an MNC is to
take steps to lower its political vulnerability.

While confiscation and expropriation have rarely been imposed in the last decade, they are the most
severe political risk and can always be imposed. Today, most governments encourage foreign investment
but this does not mean that there are no political risks. The teaching objectives of this chapter are to:

1) Stress that government polices and their stability are influenced by political parties and
nationalism.
2) Make the point that the U.S. government is just as important in creating political risks for U.S.
business as are foreign governments.
3) Examine the various types of political risks from the most severe, confiscation, to the less severe.
4) Discuss the various ways governments encourage foreign investment.
5) Explore the means companies have to reduce political vulnerability and protect their foreign
investment.

Comments and Suggestions

1. Even though expropriation and forced domestication that existed in the 1960s and 1970s no longer
loom as major political risks, I still like to discuss these issues in some depth. My purpose is
threefold; first, it is important for students to be aware of the power that a government can have over
a foreign business and a foreign companys relative inability to change government decrees once they
are made; second, while, not perfect, there are ways companies can operate to lessen vulnerability;
and, third, many of the investment decisions and the manner in which business operate routinely
today stem from their experiences during the period when expropriation was more prevalent. Most
foreign investments include local partners rather than trying to go it alone, and efforts to operate in
such a way that they add to the countrys economic and social development beyond their individual
investments albeit much is mandated by the host government. TM 6-1, Political Risks, lists the types
of political risks confronting a firm.
2. One of the types of risks that seem to be on the increase are terrorists acts. Sometimes these acts of
violence are directed against an specific MNC for some alleged crime, in other cases the MNC is
the victim but the violent act is designed to embarrass the government. Airlines have often been the
victim when it is the government the terrorist is targeting. TM 62, International Terrorist Incidents,
1993 By Region and TM 6-3, International Terrorist Incidents, 1993 by Type of Facility illustrate the
severity of this problem.
For the most recent data on terrorist incidents and other information on the extent of international
terrorist activities visit the State Department Web site http://www.state.gov/index.cfm, Patterns of
Global Terrorism: 2000 is an interesting exhibit that can be downloaded to be displayed in class.

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Lecture Outline
The Political Environment: A Critical Concern

Global PerspectiveChiquita Bananas and Prosciutto di Parma, Louis Vitton Handbags, Scented Bath
Oils and Soaps, and BatteriesStrange Bedfellows from the World of Politics.

I. The Sovereignty of Nations

II. Stability of Government Policies
A. Political Parties
B. Nationalism
III. Political Risks of Global Business
A. Confiscation, Expropriation, and Domestication
B. Economic Risks
1. Exchange Controls
2. Local-Content Laws
3. Import Restrictions
4. Tax Controls
5. Price Controls
6. Political Sanctions
C. Political and Social Activists
1. Violence and Terrorism
2. Cyber Terrorism
IV. Assessing Political Vulnerability
A. Politically Sensitive Products and Issues
B. Forecasting Political Risk
V. Reducing Political Vulnerability
A. Good Corporate Citizenship
B. Managing External Affairs
C. Strategies to Lessen Political Risk
1. Joint Ventures
2. Expanding the Investment Base
3. Marketing and Distribution
4. Licensing
5. Planned Domestication
D. Political Payoffs
VI. Government Encourage of Global Business
A. Foreign Government Encouragement
B. U.S. Government Encouragement
VII. Summary

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Discussion Questions
1. Define:
Sovereignty Confiscation
Nationalism Domestication
Expropriation
PSAs

2. Why would a country rather domesticate than expropriate?

Expropriation creates problems with other governments and can cause potential investors to shy away
from investments in their country. Further, if a country domesticates, they are able to achieve almost
all, if not all, the advantages of expropriation without the negative aspects associated with such a
drastic move.
3. A crucial fact when doing business in a foreign country is that permission to conduct business is
controlled by the government of the host country. Comment.
It is extremely critical for a company to examine, evaluate, and comprehend the present and future
policies of the government in a foreign country. To do this, the type of government and the types of
political parties and their basic philosophies toward foreign business must be studied in depth. The
level of economic development and the accompanying political policies are directly correlated with
the attitude of the government toward foreign business. This attitude may or may not change with
changes in government, political parties, economic conditions, etc. Also, the importance of products
to the country is a deciding factor in restricting or encouraging foreign business.
4. What are the main factors to consider in assessing the dominant political climate within a country?
a. Current form of government.
b. Current political party systems.
c. Stability and permanency of government policy.
d. Risks or encouragements of foreign business resulting from political activity.
5. Why is working knowledge of party philosophy so important in a political assessment of a market?
Discuss.
A working knowledge of party philosophies is necessary if there is a possibility that a change in
government policy toward foreign business could result from a change in government or political
parties.
6. How can a change in the political party in Power affect an investor? Discuss and give examples.

Particularly important to the marketer is knowledge of the philosophies of all major political parties
within a country, since any one of them might become dominant and alter prevailing attitudes. In
those countries where there are two strong political parties that typically succeed one another in
control of the government; it is important to know the direction each party is likely to take. In Great
Britain, for example, the Labour Party traditionally has tended to be more restrictive regarding
foreign trade than the Conservative Party. The Labour Party, when in control, has limited imports,
whereas the Conservative Party has tended to liberalize foreign trade when it is in power. A foreign
firm in Britain can expect to seesaw between the liberal trade policies of the Conservatives and the
restrictive ones of the Liberals.

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 Even in Mexico, where a dominant party (PRI) maintained absolute control for seven decades,
knowledge of the philosophies of all political parties is important. Over the years, the doctrines of
opposing parties have had an influence on the direction of Mexican policy. With the recent election of
the PAN party nominee for president, it is even more essential to know the philosophy and direction
of both the PRI and PAN, the two major political parties in Mexico. 1

The election of Vladimir Putin as president of Russia has been favorably received. By all accounts
Russias economy has been stagnant for over 20 years. Corruption, half-baked market policies,
expansion of the ranks of petty civil servants, and a chaotic legal system have produced an economy
that in many ways is as dysfunctional as the old Soviet system. 2 Mr. Putins apparent commitment to
economic reform and his statement that the only dictatorship Russia will obey is the dictatorship of
the rule of law3 are seen as encouraging notes that there will be reform in Russia. However, most
agree that it will take time to unseat an entrenched bureaucracy and a court system infested with low-
paid communist-era judges who are susceptible both to bribery and political pressure.

An astute international marketer must understand all aspects of the political landscape to be properly
informed about the political environment. Unpredictable and drastic shifts in government policies
deter investments, whatever the cause of the shift. In short, a current assessment of political
philosophy and attitudes within a country is important in gauging the stability and attractiveness of a
government in terms of market potential.
7. What are the most common causes of instability in governments? Discuss.
The most common causes of instability in governments are:
a. a change in the form of government this is the most drastic cause because a reform
government is often replacing a government which encouraged foreign business,
b. a shift in political parties the policy of various parties quite often differs concerning
restrictions or encouragements of foreign business,
c. a rise in feelings of nationalism the people may pressure the government or party in control
to negatively influence the extent of trade with foreign countries (i.e., Buy American).
8. Discuss how governmental instability can affect marketing.
Government instability affects marketing because of the risks which are inherent in foreign
marketing. Much can be lost if a company invests money in a plant or operation within a foreign
country and is later subjected to restrictions, controls, or expropriation by the present or new
government.
9. What are the most frequently encountered political risks in foreign business? Discuss.
a. Expropriation the acquisition of a companys property by the host country. The companies
may or may not be compensated.
b. Exchange Controls used to conserve the supply of foreign exchange. Controls may be
levied against foreign companies or types of products.
c. Import Restrictions restrictions on the imports of raw material, parts, etc., are employed to
induce the foreign industry to purchase its supplies locally.
d. Taxes they are sometimes increased despite prior agreements calling for a specific tax rate.
e. Price Controls generally applied during inflationary periods to essential products.
1
Mexican Parties at a Glance, AP Online, July 2, 2000.
2
Putin, Gref Discuss Administrative Reform, Interfax, February 21, 2003.
3
Putin Reaffirms Need to Protect Foreigners Rights, Interfax, January 22, 2003.

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 f. Labor Problems unions may have strong government support which allows special labor
concessions from the foreign business. Companies may be forced to abide by rules set up by
labor unions through the government.
10. Expropriation is considered a major risk of foreign business. Discuss ways in which this particular
type of risk has been minimized somewhat as a result of company activities. Explain how these risks
have been minimized by the activities of the U.S. government.
The risk of expropriation has been minimized by:
a. a change in attitude of foreign governments toward expropriating an industry or company.
b. application of strict economic pressures by the country of the expropriated firm.
c. encouraging the people of the host country to invest in the business venture and work in the
enterprise.
d. The U.S. government also offers support in minimizing political risks by establishing
agencies (such as export-import Bank) to underwrite the investment activities of American
companies. The U.S. government also supplies pressure to countries which expropriate U.S.
firms by cutting off foreign aid via the Hickenlooper amendment.
11. How do exchange controls impede foreign business? Discuss.
Exchange controls are established by a country in order to maintain a specific level of foreign
exchange. They are used especially during periods when the country faces shortages of foreign
currency. This control keeps the company from exchanging its earnings into the currency of its own
country. Also, demand for imported goods may exist, but exchange controls may limit currency and
thus render the demand ineffective.
12. How do foreign governments encourage investment? Discuss.
Foreign governments encourage foreign investment by offering tax exemptions, protection against
competing imports, and unimpeded movement of capital and profits.
13. How does the U.S. government encourage foreign investment? Spell out the implications in foreign
marketing.
The U.S. government encourages foreign investment by attempting to create favorable climates in
foreign countries for investment and by assisting in current operations of the foreign-located firm.
The United States does this by minimizing investment risks. These encouragements by the United
States set the stage for foreign investment. However, it is basically up to the company to combine its
self-interest with that of the host country. By doing so, the U.S. government will probably not be
called upon to apply political or economic pressures.
14. What are the motives behind U.S. government encouragement for foreign investment? Explain.
Governments, both foreign and U.S. encourage foreign investment as well as discourage it. In fact,
within the same country some foreign businesses may fall prey to politically induced harassment
while others may be placed under a government umbrella of protection and preferential treatment.
The difference lies in the evaluation of a companys contribution to the nations interest.

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 The most important reason to encourage foreign investment is to accelerate the development of an
economy. An increasing number of countries are encouraging foreign investment with specific
guidelines aimed toward economic goals 4. Multinational corporations may be expected to create local
employment, transfer technology, generate export sales, stimulate growth and development of local
industry, conserve foreign exchange, or meet a combination of these expectations as a requirement for
market concessions5. Recent investments in China, India, and the former republics of the USSR
include provisions stipulating specific contributions to economic goals of the country that must be
made by foreign investors.

The U.S. government is motivated for economic as well as political reasons to encourage American
firms to seek business opportunities in countries worldwide, including those that are politically risky.
It seeks to create a favorable climate for overseas business by providing the assistance that helps
minimize some of the more troublesome politically motivated financial risks of doing business
abroad. The Department of Commerce (DOC) http://www.doc.gov/ is the principal agency that
supports U.S. business abroad. The International Trade Administration (ITA) http://www.ita.gov/, a
bureau in the DOC is dedicated to helping U.S. business compete in the global marketplace. Other
agencies that provide assistance to U.S. companies include:
15. Discuss measures a company might take to lessen its political vulnerability.
Companies investing in foreign countries can minimize the political and economic risks by:
a. establishing a management of Americans and nationals,
b. employing nationals,
c. selling stock in the company to nationals,
d. sharing the profits and earnings in a fair manner,
e. understanding the traditions of the people in the host country,
f. having the national work with you, not for you.
16. Select a country and analyze it politically from a marketing viewpoint.
A library project.
17. The text suggests that violence is a politically motivated risk of international business. Comment.
Although violence is not generally government initiated, it is a risk that multinational companies must
consider in assessing the political vulnerability of their activities. Violence against government, as
well as against multinational firms, has been on a steady increase during the 1970s. Violence against
multinational companies may have governmental-political overtones since it is frequently directed
toward a multinational in order to embarrass a government. Much of the violence is designed to
disrupt the relationship between a government and a multinational firm forcing the government to
expropriate or force a multinational to leave the country. A recent example would be the experience of
Owens-Illinois Company in Venezuela. The government admitted that their decision to expropriate
Owens-Illinois was directly related to the violence that leftist groups caused against that company.
18. There is evidence that expropriation and confiscation are less frequently encountered today than just a
few years ago. Why? What other types of political risks have replaced expropriation and confiscation
importance?
Risks of confiscation and expropriation have lessened over the last decade because experience has
shown that few of the desired benefits materialized after government takeover. Rather than a quick

4
Tax Incentives Key to Turning Korea Into NE Asian Hub, the Korea Times, July 8, 2002.
5
Matthew Mok, Pooling Best Practices to Woo MNCs, New Straits Times-Management Times, September 5, 2002

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 answer to economic development, expropriation and nationalization often lead to nationalized
businesses that were inefficient, technologically weak, and noncompetitive in world markets. As the
world became more economically interdependent and it became obvious that much of the economic
success of countries like South Korea, Singapore, and Taiwan could be tied to foreign investments,
countries began to view foreign investment as a means of economic growth. Even in Mexico, MNCs
that were heavily restricted until only a few years ago, are now courted for direct investment as well
as a source of much needed capital and technology. Additionally, Mexico has begun to privatize many
nationally owned companies. A national airline was sold to private investors and the nationalized
telephone company was sold to a consortium of investors from Mexico, U.S. and France. The benefits
realized by Mexico of privatizing the national telephone company were almost immediate because the
government received hundreds of millions of dollars of much needed capital from the sale. In
addition, Mexicos antiquated telephone system will be replaced by the latest technology, something
the financially strapped government could not do. A similar scenario is being played out in Brazil,
Argentina, India, and many Eastern European countries.
Although expropriation and confiscation are waning in importance as a risk of doing business abroad,
more frequently international companies are confronted with a variety of economic restraints that are
often imposed with little warning. These economic risks may be imposed under the banner of national
security, protection of infant industry, protection of scarce foreign exchange, or as taxes to raise
revenue. They include such things as exchange controls, local content laws, import restrictions, tax
controls, price controls, and labor problems.
19. You are an executive in a large domestic company with only minor interests in international markets;
however, corporate plans call for major global expansion. Visit the homepage of Control Risks Group
www.crg.com. After thoroughly familiarizing yourself with the services offered by CRG, write a brief
report to management describing how its services could possibly help with your global expansion.
Although CRG is a for profit company and will charge for complete reports, they do provide
summaries of the reports which contain a synopsis of the report. Visiting this site will illustrate the
types of information available to MNCs seeking information on political conditions in countries and
regions. At the time this was written (2001) the following report was available;
RiskMap 2001 provides a critical assessment of global and regional political, security and
business practice issues that will challenge and energize business leaders in 2001 and beyond.
RiskMap 2001 global essays cover issues as diverse as:
the growing threat to business from AIDS;
the powerful politics of hydro-electric construction projects; and
the short- and medium-term effects arising from price changes and technological
developments in the oil sector.
The regional sections include articles on key countries as well as political and security risk ratings for
all countries. A new feature is a map illustrating these risks, suitable for wall display.
Key predictions for 2001
Sub-Saharan Africa
Despite containing most of the worlds Extreme-rated areas, the prospects for subSaharan Africa as a
whole provide some reason for optimism. Gradual political and economic reform is likely, albeit
accompanied by phases of political instability and renewed conflict. Countries such as Tanzania,
Mozambique and Zambia will achieve new successes, while old favorites such as Ghana and Ethiopia
could again hit the spotlight. Areas of concern include Liberia, the Central African Republic, Chad,
Kenya, Zimbabwe, Guinea-Conakry and Equatorial Guinea.

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 Americas
The situation in the Americas is increasingly stable, with star-performing countries like Argentina,
Brazil and Mexico maintaining their commitment to fiscal austerity and attracting the bulk of inward
investment into Latin America. On the negative side, however, Brazil and Mexico will experience
serious crime problems and some of the smaller economies, especially in the Andean region, could
experience continued political volatility and this could undermine investor confidence in the region.
Asia and the Pacific
Both perennial hazards and new areas of uncertainty confront foreign investors in Asia and the Pacific
in 2001. The main areas of concern will remain Pakistan, Indonesia and the Philippines, with
potential for more unrest in the South Pacific countries of Fiji and the Solomon Islands. Basic
political stability in the continents giants, India and China, will not be in question.
Europe and the FSU
In Europe and the Former Soviet Union, new risks, from cybercrime to physical direct action
campaigns, will come to the fore. Although overt gangsterism is declining in most of Eastern Europe,
criminal groups are becoming more sophisticated, engaging in complex economic fraud, cybertheft
and money-laundering. Western Europe, in particular, will witness further episodes of direct action,
while terrorism will remain a specter in countries such as Spain and Greece.
Middle East and North Africa
The Middle East and North Africa will see continued political stability combined with moderate
growth. Israels fragmented parliament will result in weak governing coalitions and further clashes
are likely in the West Bank and Gaza. The power struggle between reformists and conservatives in
Iran will continue to open to foreign investment. An increasingly nationalist political atmosphere in
Turkey may heighten political risk to foreign business.
The successor to Control Risks Outlook series. RiskMap 2001 is an important annual milestone in
the political and security risk assessment process that is now a required part of good corporate
governance.
20. Visit the homepage of Agora www.politicalresources.net . Select the Political Site of the
Week and write a brief political analysis highlighting potential problem areas for a company interested
in investing in that country.
Individual research. Instructor may want to visit the Web site and assign countries for students to
study.
21. Search the Web for information on activities of PSAs outside the United States and write
a briefing paper for international management on potential problems.
Individual research. Most of the large periodical search sources will result in numerous articles about
PSA activities.
22. Discuss ways the companies discussed in the Global Perspective could have minimized their losses in
the Banana Wars.
Opinion. Questions 22 and 23 can be used for a debate or discussion in class
23. Discuss any ethical and socially responsible issues that may be implied in the Global Perspective.
Opinion. Questions 22 and 23 can be used for a debate or discussion in class.

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