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What is Regulatory Risk?

Felicia Dye
Felicia Dye

Regulatory risk refers to the chance that a government or institutional change will have a negative impact on an investment, a particular business, or an entire industry. There are several negative effects that can be experienced if new regulations are proposed or implemented, including profit losses, operational difficulties, and decreased investor interest. Investors and businessmen are not the only individuals who consider regulatory risk. Legislators and politicians may also prioritize these concerns because new policies, or even the threat of them, can have a major impact on important societal factors, such as the economy or the political landscape.

People are currently conducting business or operating according to certain standards. If a government or the head of an establishment considers making a change, individuals who interact with the businesses that will be affected by the new policies may begin to consider the regulatory risk. This could affect the behavior of those associates, even before any policy change is implemented.

Man climbing a rope
Man climbing a rope

Good examples of the effects of regulatory risk can be seen when new lawmakers or government administrations take office. Speculation can lead many investors to withdraw their resources or to refrain from making certain types of investments. The reason for this, generally, is that investors fear the impact that new policies can have. A change of regulations could cause financial losses or outlaw previous practices.

There are several types of regulatory risks. If changes are made to the way business is conducted, profits could be affected because the cost of operations in a certain industry may increase. The increase could be due to new taxes that are imposed or it may become necessary to invest in expensive materials for the sake of compliance. This effect can result in others feeling the impact, such as workers who must be laid off due to stressed finances or consumers who are subjected to higher prices.

A second type of regulatory risk is that operations could become complicated. In some cases, a change of regulations could result in individuals who formerly acted in a certain capacity becoming unqualified. It may be necessary for specialists to be hired or for specialized services to be commissioned. It is common for governments or senior management to develop new policies that seem effective on paper or in boardrooms. When those requirements are passed along to those who need to implement them, however, it may be discovered that putting them into practice is problematic.

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