Confiscation, expropriation, and domestication are classified as

 6: The Political Environment: A CRITICAL CONCERN

CHAPTER OUTLINE

Global Perspective: World Trade Goes Bananas

The Sovereignty of Nations

Stability of Government Policies

Forms of Government

Political Parties

Nationalism

Targeted Fear and/or Animosity

Trade Disputes

Political Risks of Global Business

Confiscation, Expropriation, and Domestication

Economic Risks

Political Sanctions

Political and Social Activists and Nongovernmental Organizations

Violence, Terrorism, and War

Cyberterrorism and Cybercrime

Assessing Political Vulnerability

Politically Sensitive Products and Issues

Forecasting Political Risk

Lessening Political Vulnerability

Joint Ventures

Expanding the Investment Base

Licensing

Planned Domestication

Political Bargaining

Political Payoffs

Government Encouragement

CHAPTER LEARNING OBJECTIVES

What you should learn from Chapter 6:

• What the sovereignty of nations means and how it can affect the stability of government policies

• How different governmental types, political parties, nationalism, targeted fear/animosity, and trade disputes can affect the environment for marketing in foreign countries

• The political risks of global business and the factors that affect stability

• The importance of the political system to international marketing and its effect on foreign investments

• The impact of political and social activists, violence, and terrorism on international business

• How to assess and reduce the effect of political vulnerabililty

• How and why governments encourage foreign investment

Global Perspective: WORLD TRADE GOES BANANAS

Rather than bruising Chiquita Bananas, the wrath of politics instead has hammered Prosciutto di Parma ham from Italy, handbags from France, and bath oils and soaps from Germany. These and a host of other imported products from Europe were all slapped with a 100 percent import tariff as retaliation by the U.S. government against European Union banana-import rules that favor Caribbean bananas over Latin American bananas. Keep in mind that no bananas are exported from the United States, yet the United States has been engaged in a trade war over the past seven years that has cost numerous small businesses on both sides of the Atlantic millions of dollars. But how can this be, you ask? Politics, that’s how!

One small business, Reha Enterprises, for example, sells bath oil, soaps, and other supplies imported from Germany. The tariff on its most popular product, an herbal foam bath, was raised from 5 percent to 100 percent. The customs bill for six months spiraled to $37,783 from just $1,851—a 1,941 percent tax increase. For a small business whose gross sales are less than $1 million annually, it was crippling. When Reha heard of the impending “banana war,” he called everyone—his congressperson, his senator, the United States Trade Representative (USTR). When he described his plight to the USTR, an official there expressed amazement. “They were surprised I was still importing,” because they thought the tariff would cut off the industry entirely. That was their intention, which of course would have meant killing Reha Enterprises as well.

In effect, he was told it was his fault that he got caught up in the trade war. He should have attended the hearings in Washington, just like Gillette and Mattel, and maybe his products would have been dropped from the targeted list, just as theirs were. Scores of European products, from clothing to stoves to glass Christmas ornaments, dolls, and ballpoint pens, that were originally targeted for the retaliatory tariffs escaped the tariff. Aggressive lobbying by large corporations, trade groups, and members of Congress got most of the threatened imported products off the list. The USTR had published a list of the targeted imports in the Federal Register, inviting affected companies to testify. Unfortunately, the Federal Register was not on Reha’s reading list.

In that case, he was told, he should have hired a lobbyist in Washington to keep him briefed. Good advice—but it doesn’t make much sense to a company that grosses less than $1 million a year. Other advice received from an official of the USTR included the off-the-record suggestion that he might want to change the customs number on the invoice so it would appear that he was importing goods not subject to the tariff, a decision that could, if he were caught, result in a hefty fine or jail. Smaller businesses in Europe faced similar problems as their export business dried up because of the tariffs.

How did this banana war start? The European Union imposed a quota and tariffs that favored imports from former colonies in the Caribbean and Africa, distributed by European firms, over Latin American bananas distributed by U.S. firms. Chiquita Brands International and Dole Food Company, contending that the EU’s “illegal trade barriers” were costing $520 million annually in lost sales to Europe, asked the U.S. government for help. The government agreed that unfair trade barriers were damaging their business, and 100 percent tariffs on selected European imports were levied. Coincidentally, Chiquita Brands’ annual political campaign contributions increased from barely over $40,000 in 1991 to $1.3 million in 1998.

A settlement was finally reached that involved high tariffs on Latin America bananas and quotas (with no tariffs) on bananas from Europe’s former colonies. But the bruising over bananas continues. Most recently, the issue has shifted to banana bending. That is, bananas from Latin America tend to be long and straight, while those from the non-tariff countries are short and bent. Because the latter are not preferred by the shippers or retailers (the bendier ones don’t stack as neatly and economically), the bananas from the former colonies are still not preferred. And new regulations have been adopted by the European Commission that mandate that bananas must be free from “abnormal curvature of the fingers.” So the bendy banana producers are threatening to renege on the whole agreement. Everyone involved finds this prospect very unappealing.

Sources: “U.S. Sets Import Tariffs in Latest Salvo in Ongoing Battle over Banana Trade,” Minneapolis Star Tribune, March 4, 1999; Timothy Dove, “Hit by a $200,000 Bill from the Blue,” Time, February 7, 2000, p. 54; Sarah Ryle, “Banana War Leaves the Caribbean a Casualty,” The Observer, November 24, 2002; “EU Fights Back over Bendy Bananas Rule,” Irish Examiner, December 26, 2007; Jeremy Smith, “EU Heading for Trade Crunch over Bananas,” Reuters, November 14, 2007.

No company, domestic or international, large or small, can conduct business without considering the influence of the political environment within which it will operate. One of the most undeniable and crucial realities of international business is that both host and home governments are integral partners. A government reacts to its environment by initiating and pursuing policies deemed necessary to solve the problems created by its particular circumstances. Reflected in its policies and attitudes toward business are a government’s ideas of how best to promote the national interest, considering its own resources and political philosophy. A government controls and restricts a company’s activities by encouraging and offering support or by discouraging and banning or restricting its activities—depending on the pleasure of the government.

International law recognizes the sovereign right of a nation to grant or withhold permission to do business within its political boundaries and to control where its citizens conduct business. Thus the political environment of countries is a critical concern for the international marketer. This chapter examines some of the more salient political considerations in assessing global markets.

The Sovereignty of Nations

In the context of international law, a sovereign state is independent and free from all external control; enjoys full legal equality with other states; governs its own territory; selects its own political, economic, and social systems; and has the power to enter into agreements with other nations. Sovereignty refers to both the powers exercised by a state in relation to other countries and the supreme powers exercised over its own members.1 A state sets requirements for citizenship, defines geographical boundaries, and controls trade and the movement of people and goods across its borders. Additionally, a citizen is subject to the state’s laws even when beyond national borders. It is with the extension of national laws beyond a country’s borders that much of the conflict in international business arises. This reasoning is especially true when another country considers its own sovereignty to be compromised.

Nations can and do abridge specific aspects of their sovereign rights to coexist with other nations. The European Union, North American Free Trade Agreement (NAFTA), North Atlantic Treaty Organization (NATO), and World Trade Organization (WTO)2 represent examples of nations voluntarily agreeing to give up some of their sovereign rights to participate with member nations for a common, mutually beneficial goal. As indicated in Exhibit 1.4 (page 24), the United States’ involvement in international political affiliations is surprisingly low (i.e., it is largely sovereign). Indeed, when it comes to participation in international treaty regimes, the United States is ranked near the bottom of the 72 countries included in Foreign Policy magazine rankings, tied with Iran and Israel (at 68th) and ahead of only Hong Kong and Taiwan. Most notably, the Kyoto Protocol3 on global climate change and the International Criminal Court were rejected by the Bush administration, along with lesser known treaties such as the Basel Convention on the Control of Trans-boundary Movement of Hazardous Wastes.4 This apparent lack of international political engagement is particularly hard to understand given the wide acceptance that such agreements lead to peace and mutual understanding.5

Countries that agree to relinquish some of their sovereignty often are subject to a nagging fear that too much has been given away. For example, the WTO is considered by some as the biggest threat so far to national sovereignty. Adherence to the WTO inevitably means the loss of some degree of national sovereignty, because the member nations have pledged to abide by international covenants and arbitration procedures that can override national laws and have far-reaching ramifications for citizens. Sovereignty was one of the issues at the heart of the spat between the United States and the European Union over Europe’s refusal to lower tariffs and quotas on bananas (see the Global Perspective). And critics of the free trade agreements with both South Korea6 and Peru7 claim America’s sacrifice of sovereignty is too great.

Foreign investment can also be perceived as a threat to sovereignty and thus become a rallying cry by opposing factions. The Chinese national oil company’s proposed purchase of Unocal was opposed on such grounds. As American banks struggled to maintain liquidity during the 2008 home mortgage debacle, huge investments from overseas were solicited and received from one class of foreign investors that U.S. politicians particularly disfavored—the so-called “sovereign wealth funds” that entail vast pools of money controlled by foreign governments from China and the Middle East.8 At the same time, members of the U.S. Congress have demanded that China raise the value of its currency, but that would make it even easier for Chinese firms and their government to buy American assets.9 Of course, the Chinese resist the latter political pressure as a threat to their sovereignty. Ironically, Americans have criticized Mexico for hindering similar sorts of American investments. That is, Mexico badly needs privately financed electricity generating plants to meet electrical power demands and to upgrade the country’s overloaded transmission network. The Mexican government entered into an agreement with a Belgian company to build a power plant that would bypass the state electricity monopoly and sell electricity directly to large Mexican manufacturers. But the Mexican constitution limits private ownership of utilities, and any exception requires a two-thirds vote of the legislature. The Institutional Revolutionary Party saw the attempt to open Mexico’s protected energy industry as an assault on Mexican sovereignty and blocked the agreement. What all this conflict highlights is that national sovereignty is a critical issue in assessing the environment in which a firm operates.

Stability of Government Policies

The ideal political climate for a multinational firm is a stable, friendly government. Unfortunately, governments are not always stable and friendly, nor do stable, friendly governments remain so. Radical shifts in government philosophy when an opposing political party ascends to power,10 pressure from nationalist and self-interest groups, weakened economic conditions, bias against foreign investment, or conflicts among governments are all issues that can affect the stability of a government. Because foreign businesses are judged by standards as variable as there are nations, the stability and friendliness of the government in each country must be assessed as an ongoing business practice.

At the top of the list of political issues concerning foreign businesses is the stability or instability of prevailing government policies. Governments might change11 or new political parties might be elected, but the concern of the multinational corporation is the continuity of the set of rules12 or codes of behavior and the continuation of the rule of law—regardless of which government is in power. A change in government, whether by election or coup, does not always mean a change in the level of political risk. In Italy, for example, more than 50 different governments have been formed since the end of World War II. While the political turmoil in Italy continues, business goes on as usual. In contrast, India has had as many different governments since 1945 as Italy, with several in the past few years favorable to foreign investment and open markets. However, much government policy remains hostile to foreign investment. Senior civil servants who are not directly accountable to the electorate but who remain in place despite the change of the elected government continue with former policies. Even after elections of parties favoring economic reform, the bureaucracy continues to be staffed by old-style central planners in India.

Conversely, radical changes in policies toward foreign business can occur in the most stable governments. The same political party, the Institutional Revolutionary Party (PRI), controlled Mexico from 1929 to 2000. During that period, the political risk for foreign investors ranged from expropriation of foreign investments to Mexico’s membership in NAFTA and an open door for foreign investment and trade. In recent years, the PRI created a stable political environment for foreign investment in contrast to earlier expropriations and harassment. Beginning with the elections in 2000, however, a new era in Mexican politics emerged as a result of profound changes within the PRI brought about by then-president Ernesto Zedillo. Since 1929, the Mexican president had selected his successor, who, without effective challenge, was always elected. President Zedillo changed the process by refusing to nominate a candidate; instead he let the nomination be decided by an open primary—the first in seven decades. From a field of four candidates, the PRI selected Labastida Ochoa, and the opposing party PAN13 selected Vicente Fox who, though considered a long shot, won the presidency. Although the PAN had gained strength for several years in the congress and among state governments, its presidential candidates never had a winning chance until the 2000 election.

Political disaster strikes Kenya. In the Nairobi slum of Kibera, supporters of opposition leader Raila Odinga tear up a key railway that ran from the coast to Uganda. They renamed the broken line “Odinga Highway.” As many as 12 people were killed in the associated clashes. Of course, this destruction will do great damage to commerce and progress to all the countries in Eastern Africa. Let’s hope the highway and international airport south of Nairobi stay intact, as they supply all of Europe with flowers from the burgeoning greenhouses in the area, and flower exports are a key source of revenue for the formerly thriving Kenyan economy. (© Carolyn Cole)

Some African countries are unstable, with seemingly unending civil wars, boundary disputes, and oppressive military regimes. Even relatively stable and prosperous Kenya fell victim to political violence in 2008 that greatly disrupted growth in commerce in the entire region.14 Sierra Leone has had three changes in government in five years; the most recent coup d’etat ended the country’s brief experiment with democracy. Shortly after the coup, a civil war erupted, and UN peacekeeping forces have had to maintain peace. Central Africa, where ethnic wars have embroiled seven nations, is one of the most politically unstable regions in the world. Africa is trapped in a vicious cycle. For its nations to prosper, they need foreign investment. But investment is leery of unstable nations, which is the status of most of Africa.15 A recent World Bank study showed that the 47 nations of sub-Saharan Africa were attracting less than $2 billion annually in direct foreign investment—about one-tenth of what a developing nation such as Mexico attracts.

If there is potential for profit and if permitted to operate within a country, multinational companies can function under any type of government as long as there is some long-run predictability and stability. PepsiCo, for example, operated profitably in the Soviet Union when it had one of the world’s most extreme political systems. Years before the disintegration of the USSR’s Communist Party, PepsiCo established a very profitable countertrade business with the USSR. The company exchanged Pepsi syrup for Russian vodka thus avoiding the legally complicated financial transactions of the time.16

Socioeconomic and political environments invariably change, as they have in the Soviet Union and Mexico. There are five main political causes of instability in international markets: (1) some forms of government seem to be inherently unstable, (2) changes in political parties during elections can have major effects on trade conditions, (3) nationalism, (4) animosity targeted toward specific countries, and (5) trade disputes themselves.

Forms of Government

Circa 500 bc, the ancient Greeks conceived of and criticized three fundamental forms of government: rule by one, rule by the few, and rule by the many. The common terms for these forms in use today are monarchy (or dictatorship), aristocracy (or oligarchy), and democracy. About the same time in history Cyrus the Great, monarch of Persia, declared that the purpose of government was to serve the people, not vice versa. Cyrus’s notion is embedded in the constitutions of most modern nations. Following the collapse of colonialism beginning with World War II and communism circa 1990, the world seemed to have agreed that free-enterprise democracy was the best solution to all the criticisms of government since the time of Aristotle, Cyrus, and the others.17

Thus of the more than 200 sovereign states on the planet, almost all have at least nominally representative governments with universal suffrage for those 18 years and over. In about 10 percent of the nations voting is required; in the rest it is voluntary. A few countries have some unusual rules for suffrage: In Bolivia, you can vote at 18 if you are married and at 21 if single; in Peru, police and military personnel cannot vote; in Croatia, you can vote at 16 if employed; in Lebanon, only women with at least an elementary education can vote (though all men can vote); and Saudi Arabia precludes women from voting. The last appears to be the only state still completely in the dark ages with regards to suffrage. Exhibit 6.1 lists a sampling of the countries that are currently taking a different approach to the conventional wisdom of representational democracy. More troubling though is the apparent backsliding of some countries toward autocracy and away from democracy, such as Nigeria, Kenya, Bangladesh, Venezuela, Georgia, and Kyrgyzstan.18 Meanwhile we can all witness perhaps the world’s greatest experiment in political and economic change: the race between Russian “big-bang” reform and Chinese gradualism as communism is left further behind in both countries.19

Exhibit 6.1: A Sampling of Government Types

The Central Intelligence Agency20 claims to have taken a look beyond the facade of constitutions in their descriptors. For example, Iran (modern Persia) is defined as a “theocratic republic,” recognizing that the constitution codifies Islamic principles of government as interpreted from the Koran. Although political parties are allowed to function, they hold little political power. Instead, the Supreme Leader controls all-important decisions of the government, including who is allowed to run for president in Iran.

Eyes on the polls. Portraits of Ayatollah Ali Khamenei (the Supreme Leader) and the late Ayatollah Ruhollah Khomeini loom over Iranian women lined up to vote at a mosque south of Tehran. As mandated by law, women and men waited in separate lines at polling places with more than one ballot box. The current government also specifies the public dress of the women pictured. (© Behrouz Mehri/AFP/Getty Images)

Political Parties

For most countries around the world, it is particularly important for the marketer to know the philosophies of all major political parties within a country, because any one of them might become dominant and alter prevailing attitudes and the overall business climate.21 In countries where two strong political parties typically succeed one another in control of the government, it is important to know the direction each party is likely to take.22 In Great Britain, for example, the Labour Party traditionally has been more restrictive regarding foreign trade than the Conservative Party. The Labour Party, when in control, has limited imports, whereas the Conservative Party has tended to liberalize foreign trade when it is in power. A foreign firm in Britain can expect to seesaw between the liberal trade policies of the Conservatives and the restrictive ones of Labour. Of course, in the United States in recent years, the Democratic Congress has been reluctant to ratify free trade pacts negotiated by the Republican administration in the White House.23

Even in Mexico, where a dominant party (PRI) maintained absolute control for seven decades, knowledge of the philosophies of all political parties is important. Over the years, the doctrines of opposing parties have had an influence on the direction of Mexican policy. With the election of the PAN party nominee for president, it was (and is) even more essential to know the philosophy and direction of both the PRI and PAN, the two major political parties in Mexico.

An astute international marketer must understand all aspects of the political landscape to be properly informed about the political environment. Unpredictable and drastic shifts in government policies deter investments, whatever the cause of the shift. In short, a current assessment of political philosophy and attitudes within a country is important in gauging the stability and attractiveness of a government in terms of market potential.

Nationalism

Economic and cultural nationalism, which exists to some degree within all countries, is another factor important in assessing business climate. Nationalism can best be described as an intense feeling of national pride and unity, an awakening of a nation’s people to pride in their country. This pride can take an anti–foreign business bias, where minor harassment and controls of foreign investment are supported, if not applauded. Economic nationalism has as one of its central aims the preservation of national economic autonomy, in that residents identify their interests with the preservation of the sovereignty of the state in which they reside. In other words, national interest and security are more important than international relations.

Feelings of nationalism are manifested in a variety of ways, including a call to “buy our country’s products only” (e.g., “Buy American”),24 restrictions on imports, restrictive tariffs, and other barriers to trade. They may also lead to control over foreign investment, often regarded with suspicion, which then becomes the object of intensive scrutiny and control. Generally speaking, the more a country feels threatened by some outside force or the domestic economy declines, the more nationalistic it becomes in protecting itself against intrusions.

During the period after World War II, when many new countries were founded and many others were seeking economic independence, manifestations of militant nationalism were rampant. Expropriation of foreign companies, restrictive investment policies, and nationalization of industries were common practices in some parts of the world. During this period, India imposed such restrictive practices on foreign investments that companies such as Coca-Cola, IBM, and many others chose to leave rather than face the uncertainty of a hostile economic climate. In many Latin American countries, similar attitudes prevailed and led to expropriations and even confiscation of foreign investments.