Political risk

Political uncertainty and exchange rate impact

Can political impact change how investors assess a currency? Which countries do we know of that are either very safe or unsafe?

Read more to understand how certain political factors can influence exchange rates.

Political risk – increased uncertainty and stress

A factor that may highly influence the exchange rate in the short, medium and long term are political unrest. The main reason is that it is difficult to estimate what will happen in a country with political unrest.
It also give questions about how economic policy will look like in the future. As an investors, you probobly have to pay for this kind of concern, which may be reflected in the exchange rate and foreign investment in the country.

Political uncertainty and valuation of assets

Political uncertainty makes it difficult to value assets in the future, since unexpected policy decisions may quickly change the valuation of a currency. In such situations, the exchange rates tend to weakened and be more volatile. At the same time, the willingness of investors to have their money invested in the country fall sharply, because you do not know exactly which politics will be conducted in the future.

As an example of political unrest, we have Venezuela been talking about nationalizing certain assets and later also done that. In such situations, investors are forced to sell their assets, way below market prices. The one only only allowed buyer will be the state. In such situations, many investors escape, thus reducing the demand of the currency and weaken the country’s exchange rate.

Other examples of political concern is when a country changes its government all too often and thus are not consistent with their elections. It creates political uncertainty because you do not know exactly when and how a new government will lead the country.

Around election year there may be some political unrest, especially in countries where the outcome are very uncertain. This may of course lead to volatile exchange rate.

There are also political unrest which are global, such as the Iraq war, September 11, etc. In such cases, smaller currencies tend to be affected adversely because all investors are looking for strong and stable currencies to invest, and in some cases also countries with a strong militarily force. The reason behind are that investors believe such countries provide a good protection for the assets.

Safe heavens

Such safe and miliatary strong countries are known as “Safe Heavens”. One of the best examples may be the U.S. You can see that in situations with political unrest, the U.S. dollar tends to increase in value. The Swiss franc is also counted as a “Safe Heaven”, not because of its military strength but because of its neutrality, which in a way ensures that it will be a neutral and safe haven at political and military disputes in the future.

Countries with relatively high political risk

  • Zimbabwe: Chaos, mass unemployment and hyper inflation have been the latest years track record.
  • Thailand: an increased political uncertainty have developed during 2009.
  • Pakistan: Often considered as a ’safe heaven’ – but only for terrorists, not currencies.
  • Israel: Bombs and explosions are nothing forex traders appreciate when chosing a currency to invest in.
  • Russia: Political unrest and rivality have been common the last decade.

Currencies with relative high political stability

  • European Union (EU)
  • Switzerland
  • USA
  • Japan
  • Norway
  • Australia

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