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  October 24th, 2016 | Written by

Rising Political Risks in Developed Countries, Particularly Europe

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  • Coface has published a study on the economic effects of rising political risks in Europe.
  • Over the past year, political risks have risen an average of 13 points in Germany, France, Italy, Spain, and the UK.
  • A further political shock on the same scale as Brexit, would affect European growth by -0.5 points.

Periods of economic crisis naturally lead to heightened political uncertainty, a crucial aspect in country risk assessment. Europe has shown clear signs of increasing political risks since 2011. Unemployment, inequality and the repercussions of the financial crisis are among the factors that have spread discontent among voters, note a new report from Coface, the global credit insurer.

All this has destabilized incumbent governments and led to the rise of nationalist and more conservative political parties. The political risk level has moved up a notch following the Brexit vote in June 2016.

From December 2016 to October 2017, the European political calendar will be packed with decisive political events including a constitutional referendum in Italy, the possibility of Spain’s third legislative election within one year, France’s presidential election, and legislative elections in Germany.

A New Political Risk Indicator for European Economies

Coface has expanded its political risk model, formerly focused on emerging markets, to evaluate advanced economies such as Western Europe. The model uses both economic criteria—such as increases in unemployment rates, income inequalities and budgetary balances—as well as political and social criteria, including euro-skepticism, anti-immigration sentiment, fragmentation of the political landscape, and corruption.

Europe’s political risk indicator has increased by 13 points in just under 10 years, with a peak in 2013 during the sovereign debt crisis. Greece currently has the highest score at 64 percent, closely followed by Italy at 60 percent (up from 35 percent and 42 percent, respectively, in 2007). Greece and Italy have the highest score increases due to the immigration crisis, budgetary austerity imposed by Europe, and euro-skepticism.

France is not far behind, with a score of 48 percent (up 13 points since 2007), while Germany is at 35 percent. Although France and Germany have seen less sharp increases, their scores still reflect the underlying economic and social preoccupations in both countries.

A Brexit-type Shock and a Donald Trump Victory Would Damage European Growth

Economic growth and political risks are interconnected. Political risks primarily spread through two channels—market volatility (which weighs on financing conditions within the broader economy) and lower confidence among households and companies (which leads to decisions to consume or invest being postponed.) There are exceptions however, such as Spain, which does not appear to be impacted by its government instability, ongoing since 2015.

To measure the consequences, Coface takes into account the Economic Policy Uncertainty index (EPU).

In the event of major political shock triggering an increase in the EPU index, similar to the UK’s Brexit situation, Coface estimates that the growth impact would be: -0.5 points in the UK; -0.4 to -0.5 points in Germany; -0.7 points in France; -0.2 points in Italy; and -1.2 points in Spain.

Paradoxically, if Donald Trump wins the U.S. presidential elections, the economic shock could be more greatly felt in the European Union than in the U.S. Europe would effectively lose around two growth points after one year, whereas the U.S. would lose 1.5 points.