What Is Political Risk Insurance?
Risks in Emerging Markets Can Be Difficult to Predict
Many American companies grow by expanding their business into emerging markets. While these markets may offer economic advantages, they also create political risk. This term refers to government decisions, social changes, economic policies, and other factors that can negatively impact a company's financial condition. Political risk can affect manufacturers, exporters, lenders, investors, and non-profit organizations. Such businesses can protect themselves against financial losses by purchasing political risk insurance.
A business may suffer a loss of income if it is forced to shut down all or part of its operations due to political violence or acts by the government.
Types of Political Risk
Political risk may be created by acts of governments or by social or political unrest. It includes the following types of events:
- Expropriation, Nationalization or Confiscation. Both expropriation and confiscation mean the taking of private property by a government for public use. For instance, a government seizes a building owned by a business and uses it to house public employees. The terms differ in that the owner of expropriated property is compensated while the owner of confiscated property is not. Nationalization occurs when a government takes ownership of private assets or an entire industry. For example, a government assumes ownership of an oil drilling operation owned by a U.S. company.
- Inconvertible Currency. Governments may declare the local currency inconvertible, meaning it can't be exchanged for any other currency or transferred out of the country.
- Embargoes on Imports or Exports. A government may impose an embargo barring the import or export of certain goods or prohibiting trade with a specific country.
- Political Violence. This term means violent acts committed by a government or individuals for political purposes. Examples are strikes, riots, civil commotion, war, insurrection, and terrorism.
- Breach of Contract. A government might fail to fulfill the terms of a contract, rescind the contract or force a business to renegotiate its terms. Alternatively, a government might refuse to pay damages awarded to a business as a result of an arbitration proceeding.
Events like these can be difficult to predict but can cause devastating losses. For this reason, any company considering expanding into an emerging market should consider buying political risk insurance.
Political risk insurance (PRI) covers financial losses that result from the types of risks outlined above. It covers losses resulting from events, like confiscation of assets or nationalization of property, which occur during the policy period. It will not protect a business against events that have already taken place.
PRI policies are typically written to cover a specific project or activity. Thus, the duration of the policy depends on the length of the project. Policies may apply for a month or two or several years. There is no standard PRI policy form so it's important to read the wording carefully. Policyholders should review all sections of the contract, including the conditions, definitions, and exclusions.
When shopping for PRI, be sure the policy you select applies in the country where you are doing business.
Sources of Coverage
PRI is available from large multiline insurers like Zurich and AIG, specialty insurers like STARR and XL Catlin, and Lloyds' of London. Another source of coverage is the Overseas Private Investment Corporation (OPIC).
OPIC is a U.S. government agency created in 1971 to facilitate the growth of U.S. direct investment in developing countries. It sells PRI to businesses based in the U.S. that are majority-owned by U.S. citizens or corporations. It also offers coverage to companies based outside the U.S. if they are at least 95 percent owned by U.S. citizens or corporations. Businesses can apply for political risk insurance by completing an application on the OPIC website.
Businesses that purchase PRI represent a wide range of industries and operate in many different countries. Some PRI applicants are very large companies while others are small. Because PRI buyers are so varied, insurers analyze each one carefully before deciding whether to provide coverage. Here is some information you may be asked to provide when seeking a PRI policy:
- A complete description of your business
- Type of legal entity (corporation, partnership, etc.)
- Company ownership (breakdown of shareholders equity)
- Name of foreign enterprise
- Reasons you are seeking PRI
- A complete description of the foreign project or activity
- Details of any host government involvement in your project
- Locations where you will operate
- Amount of investment to be insured
- Details of any previous disputes with the host government
- Risks to be covered and term of coverage
Overseas Private Investment Corporation, OPIC Mobilizes Private Capital to Help Solve Critical Development Challenges, accessed October 28, 2019.
Overseas Private Investment Corporation, Eligibility, accessed October 29, 2019
Overseas Private Investment Corporation, Application, Accessed October 29, 2019