Impact of political systems and legal systems between countries in the context of international business

“Country risk and/or political risk refers to the potentially adverse effects on company operations and profitability caused by developments in the political, legal, and economic environment in a foreign country” (Cavusgil, Knight & Riesenberger 2017: p. 11).  There are different types of political systems and different types of legal systems across the globe and they each bring a different aspect to the table with respect to country risk.  A Political System is made up of a formal institutions such as political parties, legislative bodies, lobbying groups, trade unions and other political institutions that constitute a government and also create the political system side to country risk (p. 146).  The other side to country risk factors are the factors from within the legal system.  A Legal System is a system for interpreting and enforcing laws regulations and rules that aim to: ensure order in commercial activities, resolve disputes, protect intellectual property and tax economic output (p. 146).  There are different risks and rewards with respect to international business value chain steps being completed in and between different countries.  The way the Political System interacting with the Legal System of each country and between countries has a large foundational impact on international business activities depends on the type of political system and legal system of the country and/or countries.

Political systems are usually connected with types of economic systems, generally in this pattern: Totalitarian political systems have Command economic systems, Democratic political systems have Market economic systems and Socialist political systems have Mixed economic systems (p. 150).  Briefly summarized, the 3 main political system types work as follows.  Under a Totalitarian Government, “the state seeks to control not only all economic and political matters, but also the attitudes, values, and beliefs of the citizenry” (p. 147).  Under a Socialist Government, the view is that “capital and wealth should be vested in the state and used primarily as a means of production rather than for profit” (p. 148).  Under a Democracy there are two major features, one is Private Property Rights meaning that “individuals can own property and assets and increase one’s asset base by accumulating private wealth” and two is Limited Government meaning that “the government performs essential functions that serve the citizens” (p. 148).

A Command Economy is also called a Centrally Planned Economy and in it the state is “a dominant force in the production and distribution of goods” (p. 150).  Central planners rather than market forces make allocation decisions rather than allowing market forces to cause a required synchronization of supply and demand, which has time and again lead to Command Economies having characteristic shortages and bottlenecks (p. 150).  Most of the means of production are owned by the government in a Command Economy (p.150).

A Market Economy has prices which are determined by the natural synchronization of supply and demand, i.e. “market forces” by businesses in competition with one another for limited resources (p. 150). It is obvious that a Market Economy is connected with Capitalism.  Almost all of the means of production are privately owned and operated in a Capitalist System (p. 150).

A Mixed Economy is a very broad term, but generally connotates an economy that has elements of a Market Economy as well as a Command Economy (p. 150).  What this means in any one country varies.  Most industries are run by private businesses and abide by market forces, while most Mixed Economy Nations have governmental control of an element of all life across industries such as pensions, labor, minimum wage, and other regulations (p. 150).

Democratic Governments with generally Market Economies tend to have very well-developed legal systems that bring the principle of Rule of Law to the forefront and tend to be divided into Civil Law Systems or Common Law Systems (p. 151).  Religious Law is generally a type of legal system that is found in Totalitarian Governments with Command Economies.  Islamic Law is the most commonly thought of type of law of this type (p. 152).  Socialist Governments with Mixed Economies have Mixed Legal Systems and even have two or more legal systems operating together because of the national progression from one system to the next and a hold over of laws and cultural business principles (p. 153).  A good example of this is how Socialist Law having been based on Civil Law containing socialist principles having now come to incorporate much Capitalism and moved in a direction of Civil Law again (p. 153).

Types of Country Risk Produced by Political Systems can include: government takeover of corporate assets, embargoes and sanctions, boycotts against firms or nations, terrorism, war, insurrection and violence (p. 155-156).  These types of political system produced country risks can occur in differing ways in any type of political system, though a few of the more nefarious listed risks above are more likely to be seen occurring inside of political systems like totalitarian regimes with command economies or socialist political systems with mixed economies.  Though terrorism, war and insurrection tend to happen in less democratic countries to a degree that has a more drastic effect on foreign businesses, violence and government takeover can happen across all types of political systems in differing fashions.  Probably government takeover is the most foreign to US Businesses because in the United States we have a basic philosophical framework of natural law and natural rights with a government which is restrained from violating our rights both personally and corporately.  Governments in generally democratic and market economy driven countries can do things that amount to a functional takeover like changing the laws that apply to a specific industry or specific set of business activities (p. 155).

Different Types of Country Risk Produced by Legal Systems can arise either from the Host-Country Legal Environment or they can arise from the Home-Country Legal Environment (p. 157-160).  Country Risk arising from the Host-Country Legal Environment occur because Countries all have their own set of laws by which a business doing business in their Country from another Country must abide.  Examples of Country Risk arising from the Host-Country Legal Environment are: Foreign Investment Laws, Controls on Operating Forms and Practices, Marketing and Distribution Laws, Laws on Income Repatriation, Environmental Laws, Contract Laws, Internet and E-Commerce Regulations, and Inadequate or Underdeveloped Legal Systems (p. 157-158).

Country risk can arise from the opposite direction in International Business situations, i.e. from the Home-Country Legal Environment while a business is engaged in business inside of another Country (p. 159).  The term for the application of Home-Country laws to persons or conduct outside of National Borders is Extraterritoriality (p. 159).  Examples are: The Foreign Corrupt Practices ACT (FCPA), Accounting and Reporting Laws, Transparency in Financial Reporting Laws like Dodd-Frank and Sarbanes-Oxley (p. 160).

The way the interplay of Home and Host Country Political and Legal System Risks work are best encapsulated by looking at how international businesses manage country risk altogether (p. 161).  Proactive Environmental Scanning gives the firm an opportunity to assess potential risks in a business activity in an international business context with an eye towards changing business practices to fit local legal and political rules and settings so as to create a space for business productivity (p. 161).  Strict Adherence to Ethical Standards is a must because it protects the firm from Country Risks that a less ethical firm would encounter and keeps a Host-Government from imposing legal penalties and opens doors for new opportunities in a setting where many other firms lack of ethics bars them (p. 161).  Alliances with Qualified Local Partners is an excellent way of doing business because it builds on the strength of an already operating business in an industry where at least the basic compliance issues are already addressed by business policies already in place (p. 161).  Protection Through Legal Contracts is a main element of any type of business dealing, international business is no exception.  Contracts help us formalize our expectations with business partners and keep us in compliance with Host-Country Laws as well as Home-Country Laws (p. 161).