*{WORKSHOP ON SECURITY AND POLITICAL RISK [http://www.weforum.org/pdf/Atelier/SecurityAndPoliticalRisk.pdf]

GENEVA, 24-25 OCTOBER 2001

REPORT}

*partie=titre The New Geopolitics *partie=nil

An opening presentation was made based upon the findings of Global Trends 2015. *{1} In the report, seven key drivers of security are identified for the coming decade: demographics, natural resources and environment, the global economy and globalization, science and technology, national and international governance, future conflict and the role of the United States. The report's four major scenarios concerning the future of globalization and the course of international relations had three main assumptions as their basis: a 15-year expansion of economic growth, the increasing role of Asia based upon the emergence of China and the rise of India. These assumptions make Asia the most likely region of major power confrontation in the coming decades and an anti-globalization movement which would not endure as a major political force.

*{1 Global Trends 2015: A Dialogue About the Future With Non-Government Experts. National Intelligence Council, Washington, D.C. 2000. The National Intelligence Council is a coordinating body for research within the United States intelligence community.}

After the attacks of 11 September, however, an already slowing global economy has become a global economic downturn. Furthermore, the new international cooperation against terrorism has shifted – at least in the short-term – the trajectory of the US-Russia and US-China relationships. Additionally, the longevity of the anti-globalization movement had been underestimated, in addition to the high potential for further fundamentalist terrorism. The presentation ended with consideration of whether the events of 11 September would lead to a doctrinal shift in United States deterrence policy to include non-traditional or asymmetric threats.

The participants agreed that as businesses increasingly appreciate that political stability is critical to their growth, they must construct global political and economic scenarios which do not ignore the potential for systemic discontinuities such as 11 September, and the impact such events can have on the private sector.

Participants collectively further identified and elaborated on developments which have serious implications for global peace and stability in the coming decade:

In inter-state politics:
a shift towards opportunistic cooperation ("coalitions of the willing") as a result of the September 11 attacks may have a stabilizing impact on the international system;
the shift in geo-strategic focus to East Asia, driven by China's ambition to replace the US as the dominant Asian power, poor economic performance in Japan, chronic instability in Indonesia and uncertainty on the Korean peninsula;
the growing demand for multilateral solutions to global challenges, where effective cooperation is more likely when the interests of the private sector and civil society are integrated by the international public sector in the identification of viable policy responses to security challenges.

Concerning socio-economic equity:
the benefits of global economic growth remain concentrated among the industrial and emerging market economies, driving the growing wealth disparity between the most and least developed countries;
low levels of direct investment and trade in the poorest regions delay much needed economic development;
the demographic imbalance represented by the "youth bulge" in many developing regions such as the Middle East and difficulty in reconciling wealth distribution with rapid population growth is a major cause of unemployment;
the depth of social despair provides a “reservoir of discontent” for fundamentalist or radical movements, and is nurtured by anti-Western sentiment and even the antiglobalization movement.

With respect to the environment and natural resources:
population growth puts increasing pressure on the already diminishing agricultural resources of fresh water and arable land;
the exploitation of precious minerals by paramilitaries, secessionist groups and rebels fuels several major civil conflicts;
global warming through greenhouse gas emissions is already a cause of meteorological catastrophes and massive dislocation of populations, though future risks emanating from changes in the global eco-system have yet to be fully assessed.

The relevance of state failure was highlighted because:
the systemic failure of governments unable to cope with the forces of globalization leads to the incapacity to provide for populations and opens the door to violent competition among local interests;
so-called "failed states", which were regional linchpins for the US or Soviet Union during the Cold War, have been abandoned as they are not strategic and have become "pockets of instability" from which violence is exported, making them hazards for the regions in which they are located and beyond;
the disintegration of political institutions leads to the privatization of violence through the rise of private military companies and the spread of small arms, often triggering costly humanitarian emergencies.

Increasingly, governments must pay attention to their ability to cope with and deter asymmetric threats, especially as:
the events of 11 September demonstrated collective vulnerability to the intent and willingness of terrorist groups to use massive violence against civilians, and as terrorism remains a means to confront global powers in an unconventional way, future large-scale terrorist attacks through biological weapons or cyber-terrorism may cause similar casualty tolls and widespread economic insecurity;
weak and corrupt governance allows the pervasive and degenerative effects of organized criminal activity to become visible across industry sectors, exposing the growing links between terrorist organizations and organized crime and creating a vicious circle of disincentives for legal business to enter such markets.

As multinational corporations increasingly play a role in defining this new geopolitical framework (in addition to functioning within it), the role of the private sector can impact national and international security, especially:
defence industry arms sales, when executed without an adequate assessment of human rights records or potential arms races, can be regionally destabilizing (evidenced by the fact that surplus arms from the Cold War are responsible for 90% of the overwhelming civilian casualties of wars in the 1990s);
investments and dealings with corrupt governments, which make the financial sector a target for criticism (it is estimated that US$ 1.5 trillion is laundered annually worldwide through safe havens and major financial institutions);
revenues generated from extractive sector involvement in mining and energy, which often support failing states' governments and rely on the protection of assets through local militaries which may abuse human rights, and in turn lead to attempted sabotage or exploitation by rebels (according to a recent World Bank study, as the percentage of GDP derived from the extractive sector grows, so too does the likelihood of civil war);
the upstream and downstream linkages in supply chains, which make manufacturing and consumer goods firms an integral part of economic life in many developing countries, but can be easily permeated by organized criminal networks who create black markets which undercut economic and social stability.

A non-governmental participant stated that a better understanding is needed of the political properties of these trends and phenomena, and a methodology needs to be developed to capture the inter-relationships of these factors within a complex context. Integrating such factors into country-level analysis of political risk requires a multidisciplinary approach – even partnership – combining the expertise of academia, macroeconomic research, credit risk agencies, research oriented risk consultancies and non-governmental actors.

*partie=titre Political Risk Analysis *partie=nil

The convergence of the aforementioned trends requires the private sector to take appropriate measures to understand and manage its interests in a new and increasingly complex environment. The workshop participants agreed that multinational corporations are increasingly perceived as having greater reach, more power, influence and visibility than their own governments. The global presence of international business therefore means increased risk in unstable regions. Furthermore, greater volumes of capital are at risk in the current complex international political environment – there is quite simply more at stake.

Despite these realities, one business participant noted that political risk had long taken a back seat to economic, market and operational risk assessments in country analyses provided by ratings agencies. In addition to risk insurance, the largest multinational companies, especially in the extractive sector, have traditionally relied upon their financial clout to protect themselves against political instability. Furthermore, during the 1990s, the practical distinction between commercial and political risk insurance was not clear, even as new public and private insurers emerged to service the market.

*partie=titre Emerging Markets *partie=nil

A presentation made on political risk insurance cited a Multilateral Investment Guarantee Agency (MIGA) survey of five factors influencing the location of new investment, in which the second most important factor, after market access, was a stable political environment in the host country. In 1998, Business Week noted that "political stability is as important as economic opportunity when investing in societies striving to make the difficult transition to capitalism and democracy."

As businesses increasingly compete in new markets to outpace competition and enhance profits, they are pushed into politically volatile areas. Nonetheless, the presentation continued, there is ample evidence that developing markets, despite all risks, hold great potential for profit:

The global proceeds from privatization have increased from US$ 36 billion in 1988 to over US$ 141 billion in 1998, underscoring the increasing importance of the private sector.

The World Bank estimates that Europe's trade with emerging markets could rise to 50% of its total trade by 2020, up from 25% now.

Demand for infrastructure financing over the next ten years is estimated at US$ 1 to 2 trillion.

Despite these promising signs, FDI and sources of capital for high-risk investment began to recede in the late 1990s due to the Asian financial crisis and large investment insurance pay-outs of claims by Export Credit Agencies (ECA) and private insurers. Subsequently, capital markets and commercial banks have become more risk averse, particularly with respect to emerging markets. As was the case in East Asia, capital flight can indeed trigger social and political tension. As several participants pointed out, the increasing investor emphasis on stable political environments places a premium on sound political risk assessment.

*partie=titre Political Risk after 11 September 2001 *partie=nil

The events of 11 September represented a discontinuity in the situational risk environment.

One private sector representative noted that threats from terrorism have immediate ramifications for business in terms of protection of physical and informational business assets and infrastructure as well as personal security issues in high-risk areas and in business-related travel, all of which complicate the maintenance of client, supplier and distributions network relationships.

According to a presentation by a senior director from a multilateral agency, the increasing awareness of political risk triggered by 11 September will likely result in the following trends in political risk insurance in the coming months:

Reinsurance capacity will be greatly reduced, and its terms and conditions circumscribed to exclude terrorism.

Greater clarity will emerge in the definition of political risk and the distinction between commercial and political risk, especially in cases of devaluation, expropriation and inconvertibility.

Demand for PRI will increase, but coverage will carry significantly higher premiums. Public insurers and governments will be left to cover much of the PRI market, especially in the world's poorest countries, as the private sector demands the support
of export credit agencies.

More and more countries as well as multilateral development banks will enter the political risk insurance market.

Given the inverse relationship between investment insurance premiums and FDI, cooperation between public and private insurers will need to continue in order to promote investment in high-risk countries.

Private insurers will have to contend with the exorbitant and unforeseen claims resulting from business interruption and property-casualty insurance plans.

Increasing costs related to project insurance will reduce the number of investments with adequate return on investment margins, which will have negative effects particularly on FDI flows to emerging markets. (Private capital flows to emerging markets are already projected to decline to US$ 106 billion this year from US$ 167 billion last year. *{2})

*{2 Capital Flows to Emerging Market Economies. Institute for International Finance, September 20, 2001.}

The potential downward spiral of increasing political risk and project costs, decreasing FDI and resulting socio-economic tensions and violence can only be reversed through coordinated policy approaches by the public and the private sector.

The current debate between the insurance industry and governments concerning the latter's role as a "reinsurer of last resort" raises serious questions about public and private roles in investment promotion and protection. To achieve a settlement, industry and government must actually agree on what constitutes "terrorism" and "war". Participants debated the potential for a greater role for the public sector in the insurance market, concluding that market failure could result if the insurance industry is collectively unwilling or unable to finance heavy claims from continued terrorism, forcing government intervention – perhaps as a backstop to new "Pool Re" arrangements. In the long run, however, the aftermath of 11 September may actually strengthen the financial position of insurers due to market consolidation and revenues from higher premiums for catastrophe insurance.

*partie=titre Strategies for Enhancing Social Stability *partie=nil

Though the global business community has been the engine and face of globalization over the last decade, it has focused primarily on security as a private good in terms of protecting its own operations. Many participants felt that business must now "invest in international security." As the spearhead of globalization and the spread of liberal democratic capitalism, the corporate community has good reason to contribute to risk reduction in its own enlightened self-interest.

Participants gave numerous examples and suggested several frameworks for advancing private sector involvement in contributing to social stability.

*partie=titre Financing for Development *partie=nil

According to one participant, "recognizing the social context of operations is the first step." Non-governmental research shows that revenue-sharing agreements and community reinvestment schemes strengthen corporate reputation, employee loyalty and help local markets to grow. While bearing in mind that social objectives must be balanced with obligations to shareholders, there is a potential long-term market reward for such engagement.

*partie=titre Preventing State Failure and Investing in Institution Building *partie=nil

One analyst stated that "preventing state failure should be a policy priority for both governments and the private sector." Even as governments declare that levels of official development assistance (ODA) must drastically increase, humanitarian assistance is not a substitute for political action. Governments must reassert leadership in addressing the fundamental question of how to create a minimum sense of security in communities. An academic participant recommended that business leaders should increasingly encourage governments to support and utilize the many institutions of the growing international public sector (multilateral institutions, regional development banks, etc.) which have begun to take on security functions in some regions. Companies can also advocate greater foreign aid and professionalism in foreign policy and diplomacy.

One observer noted that companies are most influential before entering a market and most vulnerable once they have invested substantially. Though the private sector is not equipped to substitute for weak governance, their contributions in expertise and financial support can be essential to international efforts to rebuild war-torn societies and maintain stability in teetering markets. A business participant suggested that governments and international organizations need to take the lead in creating an enabling environment for first steps by the banking and insurance industries, the natural leaders in financing.

*partie=titre Human Rights *partie=nil

A former government representative presented a case study of multi-stakeholder collaboration leading to concrete business engagement: the US/UK Voluntary Principles on Security and Human Rights, an effort led by the US Department of State and British Foreign Office. These principles represent a voluntary, self-regulated framework which balances the security needs of energy and mining companies with the human rights interests of non-governmental actors. It addresses critical issues such as risk assessment factors, corporate security arrangements with national militaries and corporate usage of private security providers. The participation of both NGOs and private companies creates a sense of cooperation whereby NGOs give companies time to implement but remain engaged non-confrontationally.

*partie=titre Anti-corruption and Money Laundering Prevention *partie=nil

According to a presentation made by a fellow from a leading research institute, public-private coordination in narrowing the opportunities for money laundering can go a long way towards cutting the flow of funds which supports global organized crime. A balance of rules and principles for the private sector in these efforts include: 
broadening the principle of “knowing your customer”, as opposed to a “no questions asked” approach, with public sector spending records made available to investors;
supporting anti-money laundering initiatives (such as the Financial Action Task Force), avoid blacklisted havens for laundered money and support "name and shame" campaigns;
for multinationals, implementing a coordinated policy of uniform standards throughout the supply chain and subsidiaries;
if already operating in states with a poor governance record, provide full transparency and accountability to public monitoring agencies.

To both raise the opportunity cost of illegal business and add incentives for business to make a positive contribution to social stability, governments should undertake to:
expand “name and shame” campaigns to a broader array of industries;
establish preferential relationships with firms known for good corporate behaviour;
implement international monitoring of compliance, and reduce incentives for rent-seeking behaviour by less intrusive regulation.

Corporate survival in complex societies will require companies to accommodate local interests and work together with various actors of the international community to promote stability and security. The private sector should take the opportunity – in balance and cooperation with governments – to establish and maintain a safe world for its operations.