POLITICAL UNCERTAINTY & INVESTMENT DECISIONS: Development Policy Implications

1. POLITICAL UNCERTAINTY & INVESTMENT DECISIONS:Development Policy Implications September 18th , 2006 Mona Hammami

2. MOTIVATION • WDR 2005: “Creating a climate in which firms and entrepreneurs of all types- local and multinational- have opportunities and incentives to invest productively, create jobs, and expand, and thereby contribute to growth and poverty reduction is a necessity” • The need to remedy/reform some of the uncertainties and risks created by fickle policies. • FOCUS: Political Risk and Uncertainty and their effect on investment behaviour

3. BASIC ARGUMENTS • Political Risk is a dynamic, non-generalizable, complex notion of day to day occurrences. Perception of risk, its assessment and its management is a function of the structure of the industry and polity • Investors engage in political economy alliances and coalitions (risk-reducing trinity). The choice of coalitions depends on the sources of risk and its possible implications. • Under politically uncertain conditions investors still enter. However, their choice of entry undermines their ‘ability’ and ‘willingness’ to fully deliver the development benefits in terms of transfer of know-how (technology and managerial skills) usually associated with foreign investment.

4. BASIC ARGUMENTS • The World Bank’s interest in political risk could be expanded beyond MIGA. • The World Bank’s research needs to expand to focus on legal contracts and non equity arrangements of investments (especially in services) • Case Study analysis not only on a country levelbut also on an industry level could lead to better policy recommendations

5. SITUATION-STRUCTURE-PERFORMANCE (SSP) • Situation: Inherent characteristics of an industry- physical/non-physical characteristics that determine the degree of interdependence required by different agents • Structure: Political Structure- relationships that define relative available choices. • Performance: Outcome of an investment decision- a reflection of who has the power to use the system/structure to manage uncertainties and further ones own goals

6. MNEs Government Domestic Firms The presence of insurance agencies, credit rating agencies, and other national, regional, and global agreements affects the behaviour of all players and shapes their perception of risk and uncertainty The ‘Possible Trinity’ MNEs Domestic Firms MNE and state are involved in a bargaining game with each trying to pursue power in a conflictive yet cooperative manner. The rules of the game evolve over time Government MNEs Mode of entry could be geared towards making use of a local partner’s political power, cultural background and other strategic moves. Domestic players might use the MNEs power for financing purposes, political shield and other reasons too. MNEs Domestic Firms Government Political elites might be involved in business relations. Domestic firms are affected by legal, economic and political decisions. The political power granted to local firms depends on the availability of external rents to the government involved. Government Domestic Firms

7. SITUATION

8. POLITICAL STRUCTURE

9. RISK REDUCING TRINITY: Strong Public-Private Bonding Foreign Firm Government Domestic Firms

11. BASIC CONCLUSIONS • IMPLICATIONS TO DEVELOPMENT • Quality rather than level: Mode of entry and transfer of know how • Large ‘un-captured’ non-equity component • Room for policy intervention depending on source of political uncertainty • ROLE OF THE WORLD BANK • Focus on Non-equity forms of investments. More research on contractual arrangements and their implications to the transfer of know how • Expansion of the definition of political risk to include political uncertainty. Going beyond MIGA • Focus on case study approach both on micro and macro levels