Riding the Tiger: Five Risks to Watch in Asia

By Hugo Brennan

After an interlude of Western business dominance, Asia is once again assuming its historical place as a powerhouse of world commerce. Trade and investment have grown exponentially over the past two decades, to the point where the region now occupies a crucial space in the global marketplace. With Asia’s growing economic clout come potential pitfalls for businesses that choose to operate in the region. Events as far-ranging as the rise of Communism to the recent financial crisis serve as examples of tumultuous risks that companies operating in Asia may have to navigate.

New in 2015: Stricter Regulations Yank Supply Chains

Recognition of the business impacts from political events means the political risk sector stands at the forefront of the international agenda for investors in this dynamic region. In light of this, the global risk analytics and strategic forecasting company Verisk Maplecroft analyzes five key risks in Asia that hold potential to change the business environment in the coming year.

Democracy under Strain?

The year ahead looks fairly bleak in terms of governance. Regimes across Asia are expected to turn their backs on liberal democratic reforms, and with them, the principle of transparent governance. In Thailand, the military junta continues its reversal of two decades of intermittent democratic reforms. Thailand’s generals seem in no hurry to relinquish power and acknowledge that their original commitment to hold elections by the end of 2015 will not be met. The military will, in all likelihood, cement some form of permanent political role for itself in the new constitution, which is currently being drafted under army supervision.

Across the border in Myanmar, after much fanfare, the march toward democratic reform has also stalled, and 2015 is unlikely to see any major concessions in this regard. Parliamentary elections due toward the end of the year will likely not be free and fair. Furthermore, constitutional barriers — such as the law barring opposition leader Aung Sung Suu Kyi from becoming president — will ensure the military retains its political dominance. Tentative steps toward democracy are also likely to be challenged in various ways in countries such as Malaysia and Pakistan over the coming months.

A move away from democratic governance is likely to undermine investor confidence, particularly among Western multinationals, as risks of pro-democracy protests and civil unrest increase. Moreover, governments around the region may be more inclined to adopt protectionist policies as a means to quiet domestic unrest.

Integration vs. Protectionism

Competing priorities within Southeast Asian countries will match the prospect of regional economic integration against the specter of protectionism. Closer economic integration between the ten member states of the Association of Southeast Asian Nations (ASEAN) — in the form of the ASEAN Economic Community (AEC) scheduled to be completed by the end of 2015 — carries the potential to alter fundamentally the investment landscape across Asia. And yet rising economic nationalism in some ASEAN countries threatens implementation of the AEC. Cross-party support for protectionist policies in countries such as Indonesia, the bloc’s largest and arguably most important economy, suggests that progress toward integration may face resistance.

Indeed, the halting pace at which certain foreign-ownership caps and nontariff barriers between member states are being removed has raised concerns over the practicality of even completing the AEC project on time. ASEAN’s commitment to noninterference in the internal affairs of member states means there is little possibility of countries being penalized for noncompliance, making the completion of the AEC by the end of the year a challenge.

East Asia: Nationalism on the March

Widening nationalist tendencies will also remain a key geopolitical risk in East Asia. Although the handshake shared by China’s President Xi Jinping and Japan’s Prime Minister Shinzo Abe in April 2015 was much warmer than the frosty affair toward the end of last year, full reconciliation remains a distant prospect. Diplomatic relations between Beijing and Tokyo were strained for much of 2014 because of an ongoing territorial dispute in the East China Sea, adding to a toxic historical legacy stretching back to the Second World War. Given the volatile nature of this relationship, the direction of Sino-Japanese affairs can easily sink back into a negative trajectory.

Significantly, 2015 marks the 70th anniversary of the end of the Pacific war against Japan, known in China as the War of Resistance. High-profile commemorative events planned by Beijing throughout this year have the potential to stoke anti-Japanese nationalism, either intentionally or inadvertently. Such a development would likely lead to a further fall in Japanese FDI into China, as investors look for more stable investment opportunities.

How the Japanese government chooses to commemorate this anniversary will also be crucial for other nations in Asia that were victims of Japanese militarism during the war. Indeed, the South Korean government has expressed its anger with Tokyo’s failure to atone fully. A topic of particular importance for Seoul is Tokyo’s unrepentant stance regarding the issue of Korean “comfort women” — those women forced into prostitution to serve Japanese soldiers. As Abe continues to advocate for a stronger Japan — in an economic, political, and military sense — Tokyo too will have to navigate cautiously East Asia’s geopolitical environment during this highly charged year.

An Arms Race in Asia?

The continuing rise of regional defense spending and military modernization, spurred on by geopolitical tensions and territorial disputes, is another critical issue in the spotlight. Whether this trend constitutes an arms race in its traditional sense is questionable. It could be argued that many Southeast Asian nations are simply reaping the benefits of strong economic growth to upgrade outdated military assets.

Nonetheless, the move for improved surveillance and naval warfare capabilities is apparent, reflecting the role that maritime security is playing on strategic decision making across coastal countries in the region. This trend encompasses states directly embroiled in maritime territorial disputes — such as Vietnam, the Philippines, and China — as well as other nations, including Indonesia, Japan, and India. Asian nations will continue to boost their defense capabilities, with many seeking at least to narrow the vast asymmetry that exists between themselves and China.

As a result, geopolitical tensions will remain high for the foreseeable future, which will in turn increase the incentive to further strengthen military capabilities. While the impact of increasing tensions on business is at present minimal and the prospects for tensions erupting into armed conflict remote, investors will likely remain cautious while governments continue to see the need to pour so many resources into defense. Western defense companies are well placed to benefit from an increased demand for improved military capabilities.

The Threat of Radical Islam

Finally, governments across the region will be increasingly wary of the threat that radical Islamist groups, such as the Islamic State and al-Qaeda, are likely to pose in 2015. The completion of the NATO drawdown in Afghanistan is expected to cause a spike in violence and risks increasing the country’s role as a regional crucible for extremism. Governments in South Asia will have to contend with a new terrorist franchise, al-Qaeda in the Indian subcontinent, alongside the more established threats emanating from groups based in Pakistan. Separately, Beijing fears that nascent links between its own marginalized Muslim Uyghur population in China’s western Xinjiang region and the international jihadist movement could lead to a further increase in domestic attacks.

Southeast Asia, particularly in the Muslim-majority states of Indonesia and Malaysia, has proved a fertile recruiting ground for the Islamic State (IS) in the past year, and as a result, the region faces a rising threat. The authorities fear that radicalized fighters with combat experience returning from Iraq and Syria could carry out domestic attacks in 2015. Indeed, the authorities in Indonesia warned that a chlorine bomb planted in a Jakarta shopping mall in February 2015 bore the signature of IS, although no one was injured in the failed attack.

Enlarging risks posed by terrorism in Southeast Asia could lead to companies being saddled with higher insurance premiums and could somewhat undermine the region’s competitiveness. Observers will monitor closely the measures that individual governments adopt in the coming months, including the prospect of greater multilateral antiterrorism cooperation, to deal with threats posed by radical Islamist groups.

Risk Forecasting’s Crucial Role

Throughout Asia, many of the same risks that have concerned financers and traders since the 16th century still exist. However, the growth of the risk analytics and strategic forecasting industry means that contemporary business leaders are better equipped to deal with today’s ever-shifting environment. Identifying risk and formulating an appropriate mitigation strategy are increasingly seen not as a luxuries, but a necessary first step for businesses seeking to insulate their operations from unexpected events. The businesses that don’t may encounter serious negative impacts on continuity, supply chains, assets, and personnel.

Hugo Brennan is a member the Asia Risk Practice at Verisk Maplecroft, a Verisk Analytics (Nasdaq:VRSK) business.