Measuring Country Risk: A Topic of Renewed Interest

Measuring Country Risk: A Topic of Renewed Interest

Nerea San-Martín-Albizuri (University of the Basque Country UPV/EHU, Spain) and Arturo Rodríguez-Castellanos (University of the Basque Country UPV/EHU, Spain)
DOI: 10.4018/978-1-5225-2716-9.ch003
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Abstract

The concept of “country risk” has once again come under the spotlight. Globalization, the shock-waves of the subprime crisis, manifested in sovereign and private debt crises, and the fear to a “contagion” of risk between market participants are, among others, the reasons that make topical this form of risk. The aim of this chapter is to offer an overview of the factors that influence country risk, and an analysis of the methods most commonly used to measure it, with a discussion of their pros and cons. The conclusion is that none of those methods have offered satisfactory results. In this regard, the authors propose a change in the way to analyze country risk. Rather than attempting to predict debt crises, it is necessary to identify the sources of risk, and accept uncertainty as a feature of the current environment.
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Concept And Types Of Country Risk

As discussed above, it was not until the 1970s that the concept of credit risk and its variant in the international area, country risk began to be seen as being particularly significant. This period coincided with the outbreak of the oil crisis and the collapse of the fixed exchange rate system.

Following pioneering contributions by Harberger (1976) and Krayenbuehl (1985), and the work of the Group of Ten1 in 1982, country risk began to be understood as being

the possibility that a sovereign borrower might not be able or willing to meet its payment obligations for a variety of reasons different to those that commonly arise in all types of loan. Such risks might range from the consequences of official decisions, social and political changes in the debtor countries; the consequences of unforeseen circumstances or events, such as natural disasters or external shocks linked to global phenomena (Linde, 2002, pp. 2-3)2.

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