Global Political Risk: 2016 and the New Normal

By Guy Bailey

In the annals of election upsets, border crises, and mass human migrations, 2016 was a year to remember, if not to learn from. Metrics of global political risk prepared by Verisk Maplecroft underscore a bitter lesson: 60 percent of countries worldwide are more likely to witness a decline in government stability by the year 2019. By the same metric, the forecast for the United Kingdom appears even worse, with a 69 percent probability of a decline. Unstable governments can lead to uncertain regulatory environments, undermining investor confidence and carrying serious potential to puncture a company’s bottom line.

Global Political Risk: 2016 and the New Normal

Far from being an exception, 2016 may be a foretaste of things to come. Declining government stability—the result of challenges to executives from their own political parties, other state institutions, or the populace—was at the root of much of the global political risk witnessed over the last year. A new Verisk Maplecroft data set projecting government stability until 2019 suggests the upheaval observed in 2016 was not an outlier but will continue in 2017 and beyond.

From the Brexit vote to the election of Donald Trump, long-held conventions were felled by popular discontent. Dissatisfaction with elites in many regions of the world remains a key driver of political risk. Meanwhile, the impeachments of presidents in Brazil and South Korea, to say nothing of a coup attempt in Turkey, completed a remarkable year. The legacies of all these events have the potential to affect government stability going forward.

All regions of the world are more likely to experience a decrease in government stability than an increase in the next three years (as shown in Figure 1). Developing markets remain the most susceptible to a negative shift. The Middle East and Africa are the most exposed, with a 46 percent and 41 percent chance of deterioration for the average country, respectively. But it’s businesses and investors accustomed to the traditionally stable markets of Europe that will have to adapt the most to this new reality: the average European country faces a 28 percent chance of a decrease in its government stability.

Stability Index Projections

Figure 1: Average probability of change in Government Stability Index Projection score in 2019, by region

The United Kingdom illustrates how the legacy of 2016 will potentially shape the coming years. According to Verisk Maplecroft’s projections data (shown in Figure 2), the UK faces a 69 percent likelihood of deterioration in the level of government stability by 2019. British politics is likely to remain unsettled due to persistent and deep divisions over Brexit within both the electorate and government. The wide spread in the projected scores also highlights how unexpected upheaval following the Brexit vote has created a wide array of potential outcomes in 2019. In practice, this means uncertainty.

Stability Index Projections

Figure 2: The chart illustrates a range of output outcomes for the UK in Verisk Maplecroft’s Government Stability Index Projection for 2019.

France, Germany, and Italy are other major European markets that exhibit a highly uncertain political environment. In each of these countries, a wide range of possible scenarios appears likely in terms of the probabilities associated with them.

These results are driven by the recent election of Emmanuel Macron in France and the upcoming general election in Germany, in which a far-right populist party may continue its advances. In Italy, the government’s defeat in the constitutional referendum has made snap elections highly likely in 2017, in which antiestablishment parties are also likely to perform very well. Taken together, Europe’s four largest economies have become emblematic for a rise in political risk across a region long considered the world’s most stable in this regard.

Implications

Deteriorating levels of government stability can have profound implications for businesses in every sector, simply because this issue underpins the political risk landscape. Stable governments can develop and deliver coherent policy programs, providing the certainty that boosts business and consumer confidence. A lack of stability, conversely, can lead to policy uncertainty or paralysis.

As governments react to challenges from the extreme political left and right—and to placate public anger—we can expect to see them adopting unusual policy positions. The calling of the UK’s referendum can itself be seen as an exemplar of this type. The divided nature of President Hollande’s term in office in France—with 75 percent tax rates in his first two years and a focus on supply-side reforms in the latter half—provides another. In 2017, we can expect centrist governments facing reelection to adopt tougher language around business, particularly with regard to their stances on immigration rules and corporate tax planning, thus fueling the uncertainty experienced in 2016.

Governments that lack the necessary political capital or legislative majorities can find themselves unable to deliver on their agendas. Brazil provides an example of a country where the ongoing political crisis has drained the government’s capacity to deliver necessary economic reforms. Germany’s next government will likely rely on the support of three parties, which will reduce the scope of any coherent policy agenda. Given the country’s vital role, a lack of policy direction in Germany can be expected to reverberate around Brussels, as European Union institutions continue to struggle with the many challenges that confront them.

While the outlook is not unremittingly bleak—many countries around the world are expected to see increased stability in the next three years—the outputs of the model suggest that 2016 was not a one-off. Savvy investors would do well to dust off risk management plans that have typically been reserved for high-risk, high-reward developing markets and begin to apply them in developed markets as well.


Guy Bailey

Guy Bailey is head of analytics at Verisk Maplecroft, a Verisk Analytics (Nasdaq:VRSK) business.