Risk Management - the US Government, the Federal Reserve - Essay Example

? Risk Management Supervisor: May 14, Risk Management Introduction Threats to desired stability are common phenomena and their prevention and management of their effects is an essential aspect of risk management. Risk management is important to the financial sector because of the sector’s sensitive scope that identifies vulnerability to threats. While the course has offered diversified elements of risk management, I considered some lessons and themes more significant. This paper identifies the important themes and makes recommendations to the U.S. government, the Federal Reserve, and large multinational manufacturer of consumer personal care products for coping with risks over the next 1-3 years. Most Significant Themes Risks Associated with Fiscal Issues Fiscal risks are another area that was significant to me because of the government’s role in provision for public utilities and in ensuring a potential to control the economy. The most significant risk that is associated with fiscal issues is the scarcity of sources of funds for the government. The government borrows money through bonds that it creates but the market for such bonds may be stretched. Additional bonds in the market is for example associated with anticipated increased interest rates and this is a challenge because lack of finances is the reason for floating bonds and the increased interest rates may be too unbearable for the government. Inability to fund an economy’s budget and pay for existing debts further worsen the risk of scarce resources. Debt limit under fiscal policies is another significant risk (Malin n.p.). While existence of debt is a significant destabilizing factor, established statutory limits create increases levels of uncertainties among stakeholders such as investors and creditors who may identify future economic instability or the government’s inability to repay its existing debts. Such uncertainties arise because of the role of government borrowings in meeting its debt obligations and ensuring its economic stability. Speculations over debt limits also facilitate uncertainties and reduce confidence among macroeconomic stakeholders. The limitations have also been associated with inefficiencies as resource allocations may not be adequate to meet desired objectives. Government’s ability to advance incentives is another potential risk (Malin n.p.). Diversified policy measures however exist to for preventing the risks from occurring and even managing their impacts in case of occurrence. A review of a fiscal scope that focuses on a wider scope than the budget, debt, and analysis of potential risks in a portfolio are examples. Being strict to operate within predetermined limits is another measure to managing potential exploitation in contracts. Further measures such as analysis of principle fiscal risks and debt sustainability vulnerabilities and review of fiscal inefficiencies and probable liabilities are significant to management of fiscal related risks. Analytical approach to impacts of the fiscal risks is another approach to mitigating effects of the risks (Malin n.p.). Risks of debt limits can also be managed through fiscal policy initiatives. The Federal reserve can for example reduce investments in some public funds and concentrate on demanding needs as a strategy to reducing expenditure and the need for more debt. While sale of debts offers opportunities for reducing debt levels, nonmarketable debts may not be successful and their sale should be suspended. The government can also limit auctions on some securities and even reduce some of its expenditures such as social security benefits payments and advances to some creditors and vendors (Malin n.p.). Foreign Exchange Risk The concept of foreign exchange risk is one of the most significant themes that I derived from the course. Its significance emanates from the increasingly globalized environment that ensure cross border interaction among governments and private sector institutions. The interactions are further associated with different currencies whose values vary across time. This establishes operations in more than one currency and the involved risks in foreign exchange. Risks in foreign exchange arise from different sources such as actual international trade that requires payment in foreign currency, lending and borrowing of money from international agencies and in foreign currency, and internal organizational transaction with a subsidiary in another country. The transactions may take place at a different time from the payment times, the difference may be associated with variation in involved currency values, and potential loss identifies the involved risk. Foreign exchange risk can also occur when an organization, governmental or private sector, converts its balance sheet items into another currency. Significant changes in exchange rates also identify overall change in organizations’ net value and these factors identify the significance of foreign exchange risk in governmental and organizational operations (Lecture week 12). Foreign exchange risk theme was also important because it offered insights into exploring and understanding strategies for managing the risks. Matching balance sheet items in each currency offers a strategy to minimizing the involved risks in foreign exchange by eliminating the concept. Matching income and expenditure that are encountered in an economy as well as assets and debts hedges out the involved risk of value loss. Similarly, making instant payments for cross currency transactions reduces the involved risks of currency variance. Borrowing from local currency and maintaining low credit levels also reduces the exchange risks by mitigating exchange possibilities (Lecture week 12). Political Risks Political risk is another important theme that the course offered. The risk includes unfavorable conditions that arise from political environments that may be influenced by government policies or social forces. The theme of political risk identified the expropriation concept that is a major threat to firms seeking international operations. While globalization facilitates international ventures, policies such seizure of private property by the government threatens foreign direct investments, especially in countries that lack democracy. The acquisition may attract compensation on the actual value but such would not cover an investor’s long-term interest in the lost ventures. Further, the acquisitions are often done on a depreciated historical concepts and this often lead to lower compensations and losses. Political policies that restrict currency transfer across borders are another set of risks and may hinder an organization’s operations in other subsidiaries as well as its participation in international trade such as importation of material. Economy of the country of origin also suffers from the restricted cash flow because it offers outflow but cannot receive inflows in return. Credit risk is another political risk that majorly affects advanced debts to governments. The recipient government may decline to repay a debt because of financial problems or because of political reasons, especially when the debt was acquired by a rival regime (Lecture week 11). Micro economic political initiatives such as government policies to facilitate specific sectors or domestic organization are another identifiable political risk because of its associated effects to foreign firms that may result in competitive disadvantage. Policies that may restrict a foreign organization’s activities such as legislations or judicial pronouncement are also identifiable. In extreme cases, however, especially during international wars, a host government may opt to confiscate assets owed by international organizations from specific countries. The theme is also important because of its awareness towards the need for analytical approach. This facilitates understanding of political environments before deciding on an investment. The involved political risk for example identifies the need for protection from the political risks in foreign countries. Taking care to avoid politically volatile countries or to avoid activities that may cause animosities is another possible strategy to avoiding the risks. Efficient management of the involved political risks also offer diversified benefits diversified evaluation of economies before a business venture that results in informed decisions on economy with the most suitable Political environment. It also reduces exposure to risks besides improving the wider scope of risk management (Lecture week 11). Recommendations Diversified risks exist for both the government and private sector participants in economic activities. Various strategies also exist for managing the risk towards safe economic activities. This paper recommends matching of revenues and payments, and assets and liabilities in similar currencies, avoiding liabilities and borrowing in local currencies as strategies to managing foreign exchange risks by the government and large multinational manufacturers. The paper also recommends evaluation of political environments in foreign countries before ventures and government’s initiatives for political stabilities that can attract foreign direct investments for large multinational manufacturers. Analysis of fiscal risk environment by Federal Reserve, and being analytical stringent to set limits by government bodies are also recommended managing fiscal related risks. These are because risk management offers advantages for overcoming involved risks to different stakeholders. Read More