by Roberto Bergami

This is the third part in my series of articles on country risk and customer risk assessment.

To recall, it is important to classify both countries and customers because a rogue customer in a good (from a risk perspective) country is not a much better risk than a good customer in a rogue (from a risk perspective) country.

In this part I will concentrate on the second of four data sets available publicly from the internet.

One of the many wonderful things the Organisation for Economic Co-operation and Development (OECD) does is to measure country risk. They do so using a specifically devised model called the Country Risk Assessment Model (CRAM).

All countries are categorised according to the credit risk they pose, consequently the categorisation is meant to reflect country risk. According to the OECD:

Country risk is composed of transfer and convertibility risk (i.e. the risk a government imposes capital or exchange controls that prevent an entity from converting local currency into foreign currency and/or transferring funds to creditors located outside the country) and cases of force majeure (e.g. war, expropriation, revolution, civil disturbance, floods, earthquakes)

As a result of recent classification criteria changes a number of issues relevant to the OECD classification need to be explained, as shown below.

According to the rules of the Arrangement, two groups of countries are not classified. The first group is not classified for administrative purposes and is comprised of very small countries that do not generally receive official export credit support. For such countries, Participants are free to apply the country risk classification which they deem appropriate.

The second group of countries is comprised of High Income OECD countries and other High Income Euro-zone countries. Transactions involving obligors in these countries (and any countries classified in Category 0) are subject to the market pricing disciplines set out in Article 24c) and Annex XIII of the Arrangement.

All other countries (and a limited number of supranational multilateral/regional financial institutions) are classified into one of eight categories (0-7) through the application of a two-step methodology:

The Country Risk Assessment Model (CRAM) produces a quantitative assessment of country credit risk based on three groups of risk indicators (the payment experience of the Participants, the financial situation and the economic situation).

A qualitative assessment of the CRAM results by country risk experts from OECD members, considered country-by-country to integrate political risk and/or other risk factors not taken (fully) into account by the CRAM. Accordingly, the final country risk classifications are achieved through a thorough discussion amongst experts and a consensus-building process.

The country risk experts meet several times a year. These meetings are organised so as to guarantee that every country is reviewed whenever a fundamental change is observed and at least once a year. Although the meetings and details of the CRAM are confidential and no official reports of the deliberations are made publicly available, the list of country risk classifications is published after each meeting.

CRAM adopts both a quantitative and a qualitative approach to arrive at the best possible classification. Current data and historical data is freely available on the OECD website.

Based on these data, users may be able to do their own country risk assessment, by grouping certain countries using their own criteria. One common approach is to group countries by geographical location, for example Southeast Asia or the ASEAN member nations. These groupings should detect patterns of risk that will reflect the economic status of the country and may also assist in gauging the risk levels of particular areas.

Whilst in these articles I make generalised statements, it is not unusual for certain geographical areas to share some risk commonalities. For example many countries in Africa are categorised a high risk according to CRAM. Consequently, it is likely that doing business in Africa will be comparatively more risky than doing business in parts of Asia or the Middle East. For sellers and buyers alike, the idea is to paint a picture about a country or an area; you may think of this as a quick reference guide or a short-cut to risk management.

Basically, if one knows that a particular area has high risk, you should approach these negotiations differently than negotiations in low-risk area, and your business solutions may also be different or more restricted in choice. For example in risky countries Delivered Incoterms 2010 (DAT, DAP and DDP) may not be desirable options and more secure payment methods may also be required.

Of course, part of the examination of CRAM data is exactly what is required to arrive at our own country or country grouping classification.

It should be remembered that CRAM data, like any other data, is only partially useful in the analysis because of two primary reasons:

1. Events in the world change quicker than the data can be published. For example, CRAM data is typically updated on a six-month basis, but events occur all the time.

CRAM data has limitations, as outlined above. The difficulty with relying on one data set alone is highlighted by the current crisis in Cyprus. CRAM does not report any data for Cyprus because they are an EU member, but this does not mean that Cyprus is currently a highly acceptable risk.

2. It is therefore important to compare a several sets of data to get a much more informed opinion—a more balanced and rounded view, if you like—of nations that we may be interested in doing business with.

I will review another set of data in my next article.