How Political and Economic Risks Impact Market Entry Decisions

Authors: Bödör Sára, Dobos Veronika, Kovács Kata, Lukács Lili, Vitéz Borbála

Introduction

Market entry decisions are the most unbearable strategic choices for businesses, are better known in the circle of an international market, the goal is making it more logical. These decisions are influenced by a variety of factors, where the political and economic risks both have a crucial role. Both can affect business operations and profitability.

Economic risks contain problems such as currency fluctuations, inflation, economic mistakes and market efficiency. To understand these risks, it is beneficial for companies to diminish the number of threats and other risks.

Political risks can majorly affect the business operations by creating an uncertain business environment. For example, government policies have different segments such as: trade restrictions, tariffs, taxation, and foreign direct investment regulations that can either encourage or warn off foreign businesses to join. Moreover, political instability, when the government has lot of changes in their groups, civil commotion, or conflicts, can disrupt business activities and its sectors. Corruption and weak legal institutions may face challenges by increasing operational costs and legal in determinations. Economic risks are equally critical when the market entry decisions are made. The four standard market risk factors are equity risk, interest rate risk, currency risk, and commodity risk. Equity risk is the financial risk; it means having equity investments, especially shares of stock. Interest rate risk refers to the possibility for financial losses due to changes in interest rates. It can affect a firm’s profitability and the value of its assets and liabilities. Currency risk is when the company loses money because of uncertain moves in exchange rates. Currency fluctuations in the marketplace can have a major pressure on an international firm’s value and financials because of the price effect on domestic and foreign goods, same in the value of foreign currency for specify assets and liabilities. When a currency appreciates or depreciates thanks to fluctuation, a firm can be in danger depending on where they are operating and in what currency they are in. Commodity risk refers to the uncertainties and emerging losses caused by fluctuations in the prices of goods.

To avoid these risks, companies often use various kinds of strategies, such as managing along market research, attracting local stakeholders, creating strategic partnerships all around the world, and using risk management tools. Some businesses may also choose entry modes that minimize failure and betrayal, such as joint ventures or franchising, rather than full ownership investments.

Political risks and their impact on market entry decisions

In the modern global economy businesses must control political risks that could have an impact on their operations and financial results. These political risks include government policies, instability, legal problems, and other unpredictable factors. To be able to achieve the long-term success, companies that are operating in unstable or foreign markets need to evaluate and control these risks. A major political risk is government intervention in commerce. Trade restrictions, taxes, and tariffs imposed by governments can either benefit or harm companies. Higher tariffs, for instance, increase costs and decrease the competitiveness of the products. Strict regulations in foreign direct investment (FDI) can also prevent the growth of businesses. For example, U.S. tariffs and China’s stringent FDI policies have forced many businesses to reconsider their strategies.

Businesses are also threatened by political uncertainty. Conflicts, civil instability, and frequent government changes can all disturb the company’s operations. Uncertainty is often caused by the unpredictable policy changes of nations with unstable administrations. Under extreme circumstances businesses may be forced to close, fire employees, or suffer losses. For example, the Arab Spring caused economic upheavals that forced businesses to suspend or discontinue operations.

Corruption and weak legal systems can cause further difficulties. In many growing markets corruption increases expenses and causes legal uncertainties. Companies may face unfair legal decisions, biased contracts, or demands for bribes. The lack of transparency in the legal system’s makes it even harder to resolve disputes, ruining people’s reputations and discouraging investment.

Another risk is expropriation, where governments take corporate assets without providing fair compensation, especially for crucial industries like oil, gas and telecommunications. An example on how political decisions can affect economic operations is how Venezuela’s nationalization of oil companies caused losses for foreign investors under Hugo Chávez. To handle political risks, companies conduct risk assessments, diversify supply chains, and establish strong legal frameworks. Other businesses also obtain political risk insurance to protect themselves against expropriation or contract breaches. Building relationships with local stakeholders and engaging in corporate diplomacy can also help navigate complex political environments.

In conclusion, international corporations are constantly concerned about political concerns. Government policies, instability, corruption, and expropriation all increase the uncertainty. Companies that manage these risks through strategic planning, compliance, and insurance are more likely to succeed. With a proactive approach, businesses can decrease risks and achieve long-term stability in unstable markets.

Economic risks and their impact on market entry decisions

When businesses are ready to enter a new market they should know about certain economic risks which may be threatening their future. Some of these are inflation, currency stability, consumer spending power and growth of the economy. These are therefore factors that can influence the market position and hence the company’s profitability.

One of the biggest challenges that most businesses encounter is fluctuations in the currency. Unstable exchange rates can result in sharp changes in the import and export costs that are in turn directly linked with profits. For instance, companies operating in markets with less stable or newly created currencies may experience unforeseen costs or reduced sales because of exchange rate disadvantages. What is more, inflation and interest rate modifications are also critical factors that can disturb business operations. Since high inflation can escalate production costs, modify wage structures and significantly alter consumer spending behavior. When the purchasing power decreases, companies often struggle to maintain a favorable profit margin which can lead to financial insecurity. create additional challenges for businesses looking to enter new markets. A declining economy typically results in decreased consumer demand, fewer opportunities for investment, and broadening financial risks. This way, a throughout analyzation is inevitable for long-term success. Furthermore, a great pricing strategy is also important when wanting to attract customers.

There are several real-world studies showing us the consequences of not taking these risks into account. Currency devaluation increases import costs and creates financial instability for foreign businesses, as seen in Argentina. Similarly, Zimbabwe’s hyperinflation weakens consumer purchasing power, making operations difficult. International sanctions, like those on Russia, have forced many foreign companies to cut back or completely close. From these examples, it is simple to admit that economic and political factors often come hand in hand. So, when a political crisis happens, it is also prone to trigger economic slowdowns. These economic struggles can lead to political unrest. To avoid these and achieve a successful international expansion, it is inevitable for businesses to defeat potential risks, do thorough market research and prepare contingency plans to handle unexpected changes.

Strategies for managing political and economic risks in market entry

Entering new international markets always bears risks, such as political and economic. To navigate through these while maintaining a company’s success, effective risk management is crucial. With this companies can identify risks and to implement strategies in time to lessen the impact.

One of the most significant concerns for businesses to look out for when entering new markets is political risks. This involves changes in government policies, corruption and civil unrest. Such changes can interrupt operations and lead to unexpected financial losses. To get ahead of the risk’s companies should engage in strategic partnerships with local firms or public-private partnerships, as suggested by Forbes. Local partners can offer valuable insights into the political environment and help companies adapt to changes. Keeping up fruitful relationships with local businesses and government officials can also help companies stay up to date and foresee political disruptions.

Another crucial risk is economic. Inflation, currency fluctuation and economic downturns are the biggest concerns that could impact profitability. Exchange rate discrepancy will increase the cost of imports and exports, while minimizing the profit margins. To get ahead of currency risks companies can use hedging strategies, as highlighted in his analysis of emerging markets by Junaid Mahesar. Evaluating the economic stability of the target market through indicators such as GDP growth and inflation rate is a must before starting the business. Companies should look for markets with stable economic circumstances to reduce the likelihood of sudden cost increases or demand reductions.

Regulatory risks play a vital role in international market entry as well. Variations in labour laws, in environmental regulations and in tax policies may create challenges. Staying up to date in local laws and maintaining a local legal group or with the help of legal experts a company can help mitigate the risks. Intellectual property protection is one of the biggest concerns especially in markets with weak security, as theft and duplication will risk the competitive edge of a company and undermine the credibility.

Supply chain disruptions and infrastructure issues, which are examples of operational risks, can affect business activities in new markets. In new and emerging economies, poor infrastructure such as unreliable power supply or the condition of roads, can create delays in operation. To avoid such disruptions companies should consider setting up warehouses or local production factories and consider developing a contingency plan.

All in all, implementing effective risk management is a must before entering a new market. It requires a comprehensive approach with the combination of local partnership, proactive legal strategies

and financial hedging. By understanding and addressing the risks in time, a company can position themselves successfully in international markets.

Conclusion and future outlook

In conclusion the market entry decisions are crucial and critical strategic decisions which require both political and economic risks. All these risks are significantly influence the operation the profitability and the success of the corporation when enter in a foreign market. The political risks, included the regulations of the government, instability and corruption, can make an unpredictable environment full of challenges. Companies should be aware of how the government policies for example trade restrictions, tariffs can facilitate or hinders market entry. Similarly economic risks such as the exchange rate fluctuations or inflation play a crucial role in determining the financial viability of a market entry. Exchange rate risk affect directly on the costs of imports and exports and influencing the company’s profitability. Inflation can raise the costs of the production and diminish consumer purchasing power. To allay these risks, companies can apply different types of strategies, including broad market research, strategic partnerships with local concerned parties, and use financial instruments to hedge currency and interest rate risks. Those entry modes such as joint ventures, and strategic alliances can help the association to minimize the exposure of political and economic uncertainties. Moreover, taking out political risk insurance, diversifying supply chains and build strong legal frameworks can provide protection against the possible challenges. Lastly, interaction between the political and economic risks highlights the complexity of international market entry decisions. Businesses that proactively manage and appreciate these risks through strategic planning, compliance and emergency measures are more likely to achieve long term stability and success. By understanding the political and economic situation of their target markets, companies can make knowledgeable decisions that not only increase their competitive advantage, but also protect their operations against potential threats. In the dynamic global economy, an expedient approach to risk management is indispensable for businesses that want to maintain international expansion and growth even in a fluctuating environment.

Sources:

Philip R. Cateora-Mary C. Gilly-John L. Graham (2020): International Marketing, McGraw-Hill, New York. Council Post: Strategies For Successful Market Entry And Expansion – Council Post: Challenges To Growth In Emerging Economies: Solutions And Strategies For Market Entry