Country risk assessment models and their application to Ukraine

Ukraine -- Country Risk Assessment

With the emergence of globalization, economic agents were presented with the opportunity of territorially expanding their operations into other regions. The endeavor allowed them increased access to resources, including all labor force, commodities, technologies and capital, but also a wider access to international consumer markets. The success of these global operations depended directly on the managerial abilities to assess the risks and opportunities in each country and adapt to the unique characteristics of each international market. The most important tool in this instance is given by the analysis of the country risk.

Theoretical Underpinnings

In a most simplistic formulation, the country risk can be defined as the totality of challenges faced when investing in a foreign country. There are five such risks:

Political risk

Exchange rate risk

Economic risk

Sovereign risk, and Transfer risk (the possibility that the financial investments in the respective country will be blocked through governmental action).

An inadequate analysis of these risks could lead to a conclusion that the initial estimations have no way of coming closer to the true results; also, this could materialize in significant financial losses. Managers have to assess the risk in each country and based on the intensity of each challenge, they must develop and implement the proper course of action (Investopedia, 2009).

The Country Risk Model is the most popular tool used to assess the country risk of a given state. Basically, it covers the sovereign risk, the currency exchange risk and the risks adjacent to the banking sector. The model conducts analyses on various countries and allows investors to compare the figures across states; the United States is often considered a low (and desirable) benchmark as its country risks are relatively reduced. The Country Risk Model is applied to 100 countries in six global regions (Americas, Asia and Australasia, Eastern Europe (including Ukraine), Middle East and North Africa, Southern Europe and finally, Sub-Saharan Africa). The model addresses 13 different categories of risk, as follows: current account -- current and accumulative account deficit, direction and magnitude of current account, influences of consumption and investment on the current account deficit, reliance on a single export commodity and the annual growth rate; debt structure; exchange-rate policy; fiscal policy; financial structure; global climate; growth / savings; liquidity; monetary policy; political efficacy; political stability; regulatory policy and trade policy (the Economist).

OECD, the Organization for Economic Cooperation and Development proposes the CRAM as the most adequate risk assessment tool. The Country Risk Assessment Model is based on the measurement of the country's credit risk through the quantitative analysis of three primary indicators -- the payment experience of the participants, the country's financial status and third, the country's economic situation. Once the figures are retrieved, they are qualitatively compared to the findings in other countries (Organization for Economic Cooperation and Development).

Other country risk models may refer to hybrid neutral network models, Kohonen network models, models based on discriminant analyses, logit and probit models, ANN models, hybrid ANN country risk models, cluster techniques or models of hierarchical cluster analysis (Yim and Mitchell, 2005). The basic feature that has to be remembered about country risk models is that the specialized literature presents the investors with a wide selection of tools. However, not all the existent models will best apply to the unique characteristics of a respective country and the most adequate ones have to be selected through objective processes. Additionally, it is often advisable to combine several country risk tools in order to ensure high clarity of the results obtained.

4. Conclusions

Ultimately, Ukraine can be described as follows -- a country much under the influence of Russia, which has gained its independence only in 1991 with the fall of the Soviet Union, but which has made, and continues to make, intense progress in becoming aligned with the developed European countries (BBC News). The primary risks Ukraine reveals revolve around economic instability materialized in increased inflation rate and an increased dependence on Russia -- one of the toughest players in the international scene. Despite these however, Ukraine is to be praised for its progresses. Additionally, the status of emergent economy that will welcome foreign investors and might even offer them several incentives, would determine the foreign investor to open operations in the Eastern European state.

References:

Yim, J., Mitchell, H., January 2005, Comparison of Country Risk Models: Hybrid Neutral Networks, Logit Models, Discriminant Analysis and Cluster Techniques, Expert Systems with Applications, Vol. 28, Issue 1

2001, a New Database on Foreign Direct Investment, World Bank, http://www1.worldbank.org/economicpolicy/globalization/data.html last accessed on April 11, 2009

June 5, 2008, Ukraine: No Safe Haven for Refugees, Amnesty International, http://www.amnesty.org.au/news/comments/14132 / last accessed on April 11, 2009

April 1, 2009, Country Profile -- Ukraine, BBC News, http://news.bbc.co.uk/1/hi/world/europe/country_profiles/1102303.stm last accessed on April 11, 2009

2009, Country Risk, Investopedia, http://www.investopedia.com/terms/c/countryrisk.asp last accessed on April 11, 2009

2009, the World Factbook, Central Intelligence Agency, https://www.cia.gov/library/publications/the-world-factbook/rankorder/2001rank.html last accessed on April 11, 2009

Country Risk Classification, Organization for Economic Cooperation and Development, http://www.oecd.org/document/49/0,2340,en_2649_34171_1901105_1_1_1_1,00.html last accessed on April 11, 2009

Country Risk Model -- an Interactive Tool for Analyzing Country Risk, the Economist, Retrieved from http://a330.g.akamai.net/7/330/2540/20051026153304/graphics.eiu.com/files/ad_pdfs/2005CountryRiskModel.pdf on April 11, 2009