For most macro investors, the economy moves in predictable patterns, from inflation to recession and back to recovery.  In today’s reality, however, many unpredictable factors can alter how macroeconomic conditions evolve. One powerful factor is political influence. 

The typical pattern in the economic cycle depicts the expected natural progression of business activities in a free market economy where there is minimal influence from the government. But the extent of government intervention in today’s economies has arguably become more prominent, making it more critical for investors to strongly consider the political risks in the sectors and countries they seek to invest within.

Macro Economics & Politics

The prevailing macroeconomic conditions in any economy are a reaction to powerful global and national political forces. Without a solid understanding and interpretation of how political events and government decisions shape economies, your macro-investing strategy would be incomplete.

Government policies shape the business environment in which companies in any country operate within. As such, the individual performance of a business and its stock largely depends on the current policies and government sentiments towards the company, its sector, or critical partners in its value chain. 

There are various instruments that a government utilizes to regulate the economy and business activities of its country.

Labor & Business Regulations

In specific industries, the government of a country is responsible for regulating the activities of companies within that space. This means that the government can step in at any moment to implement new legislation, whether against or in favor of the businesses and investors in that sector. A classic example is the banking sector where the government in most countries sets the cash reserves requirement for every bank. However, there is currently an expansion of the role of government in regulating businesses with increasing public awareness and concern over health and safety, consumer privacy, environmental impact, and labor conditions of corporate organizations.

Monetary Policies

Monetary policy is a common way for governments to regulate the money supply in the economy. When an economy is facing a recession, its government can stimulate business activities by lowering the central bank interest rates to ease access to consumer loans and corporate credit. Lower interest rates allow businesses to drive their profitability up as operational costs reduce and consumer spending increases. On the other hand, a government can correct an overactive economy by raising the cost of borrowing. Other monetary policies include buying and selling securities to increase or reduce money circulation, and currency devaluation to discourage imports and boost competitiveness in the international market.

Fiscal Policies

Fiscal policies involve adjusting tax rates and government budgets to stimulate or slow down public spending. A government might decide to lower tax rates or introduce tax incentives to alleviate the economic burden of its citizens and promote economic prosperity. Additionally, a government can increase its spending by investing in major infrastructure projects like road construction or affordable housing to boost business opportunities in that sector. For a country experiencing mounting inflation and an overactive economy, its government can raise its tax rates and cut down the federal budget to slow down public spending and consumption.

Assessing Political Risk in Investing

Political risk can be difficult to analyze as it is the most unpredictable factor influencing the macroeconomic environment. However, with a mix of qualitative and quantitative examination methods, there are effective ways to predict the level of political risk exposure in a market.

Political Stability Indices

Using a political risk index can provide a reliable quantitative framework for analyzing the political risk exposure in a market. Many risk analysis firms and the World Bank provide political risk indices based on certain variables that contribute to the political stability of a country like security threats, policy continuity, and social stability.

The limitation of a quantitative political risk analysis is that it may exclude significant non-quantifiable data about an economy’s political environment. We recommend going a step further in your market analysis by applying qualitative judgment to identify sources of political risks and their likely impact on business concerns.

Current Governments

The current political leadership of a country is a key player in the economic direction of a market as it is responsible for enacting policies and regulations that can impact business. A thorough qualitative examination of the political philosophies and legislative priorities of the President and elected officials can be effective in interpreting the political atmosphere in a country or making forecasts about future policies that may affect macroeconomic conditions. Most recently, in the United States, for instance, the foreign policies of the Trump and Biden eras have systematically restricted trade between China and the United States. These sanctions have caused many American companies to pull investments out of China, with some who depend heavily on China for certain supplies having to make critical decisions to sustain their business.

Public Sentiments

The public directly influences the political events in any country and can pressure governments to make certain decisions. Understanding current public opinion and concerns give a better understanding of the state of an economy.  A thorough political risk assessment should include an examination of growing public sentiments in the form of protests, petitions, and momentous conversations across public forums is a strategic way to forecast the political direction of a country. A great example is the increasing global conversations on climate change and carbon emissions reductions which has led to decreased investments in the global oil and gas industry as the ESG begins to drive more investing decisions. 

International Politics

Global politics is a crucial driver of financial and business decisions within a country. As part of a qualitative assessment of political risk, it is important to analyze evolving international relations and developing political sentiments between countries. It is also wise to stay on top of news about world leaders, and the political changes occurring in powerful markets across the world. This can give you strategic foresight into future events that could impact financial markets. A very recent example is Russia’s invasion of Ukraine which caused great disruption in the oil markets, with the price of oil skyrocketing from around $76 to $110 per barrel.

Stay Updated on Political Indicators with Anahit

While many investors only consider political risks as a major factor in international investing, the reality remains that political forces can equally impact domestic asset performance and should be a strategic priority in any type of investment. The best way to assess and manage political risk is to stay updated and educated on the political issues in the country and economy where you have chosen to invest.

Anahit makes political risk assessment easier for investors by utilizing artificial intelligence to analyze select markets based on political indicators such as news and social sentiment. Anahit's AI algorithm processes real-time data from news outlets and social platforms to give you an understanding of the current and potential future events that can impact your assets.

Try political risk analysis with Anahit Today. Visit Anahit.ai to get started.