Political Risk Insurance: What it Means, Examples
Political risk insurance protects investors, financial institutions, and enterprises from potential losses due to political events. It protects against the potential that a government action may cause the insured to suffer a significant financial loss.
Political risk insurance can cover a wide range of scenarios, including expropriation (e.g., government confiscation of property), political violence (e.g., acts of civil unrest or insurrection), the inability to convert local currency and repatriate it, sovereign debt default, and even terrorism and war.
Understanding Political Risk Insurance
While emerging economies might provide excellent opportunities for corporate expansion, they also carry higher risks than mature markets. Political turbulence can cause assets to depreciate significantly or to be destroyed or confiscated, losing their worth entirely. Without political risk insurance, firms would be especially hesitant to engage in emerging nations with above-average levels of political instability, which could jeopardize their assets and capacity to operate efficiently.
Companies that may obtain political risk insurance include multinational enterprises, exporters, banks, and infrastructure projects. Policies are tailored to each client's requirements. They can cover one or more nations, with longer durations and multimillion-dollar coverage amounts.
The capacity to lock in an insurance coverage for several years—up to 15 years, for example, with a single big issuer—is an important element of political risk insurance. Many corporate prospects take years to implement, and political conditions can shift radically in a short period of time. If a company knows it will be insured against political risks for years to come, it can confidently pursue operations that might otherwise be too dangerous.
Examples of Political Risk InsuranceÂ
Political risk insurance can cover physical assets, stock investments, purchase contracts, and international loans. For example, Company ABC, a multinational firm, has a contract to provide drones to a foreign government. Company ABC makes and sends all of the drones, but the government goes insolvent and is unable to pay the remaining sum. In this case, Company ABC's political risk insurance would cover the loss.
Similarly, a new administration takes power and modifies import laws so that the drone shipment cannot enter the country. Again, Company ABC's political risk insurance would provide coverage for the loss.
Another example is Joe's Car Shop, a car manufacturer that established a facility in a developing country and is in risk of losing the plant due to a coup in that country. If, following the coup, the national government proclaims control of all previously private factories, political risk insurance could reimburse Joe's Car Shop for the loss of its facility.