© Ram Mudambi, Temple University, 2007 1 Int’l Bus Strategy Lecture 3: The Global Business Environment.

© Ram Mudambi, Temple University, 2007 1

Int’l Bus Strategy Lecture 3: The Global Business

Environment


Learning Objectives

Understanding the historical evolution of the international trade theories

Understanding the politics and economics underlying the international business environment

International Trade Theory Introduction and illustrations Theories of international trade

Mercantilism Absolute Advantage Comparative Advantage Heckscher-Ohlin Theory Product Life Cycle Theory New Trade Theory Porter’s Diamond

Ram Mudambi, Temple University, 2001

Through 1700s

1776, Smith

1817, Ricardo

1920s

1966, Vernon

1980s

1990s


Definitions Output per capita = GDP divided by

population Standard of living depends on (among other

things) the evolution of output per capita. Purchasing power parity (PPP) = adjustment

when comparing output figures across countries. The Penn World Tables


A Growth History of the World

$0

$1,000

$2,000

$3,000

$4,000

$5,000

$6,000

0 500 1000 1500 2000

Date

Re

al I

nc

om

e p

er

Pe

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n

Industrial revolutionIndustrial revolution

TechnologyTechnology

Large-scale ocean-borneLarge-scale ocean-borne

TradeTrade

Ou

tpu

t p

er c

apit

aO

utp

ut

per

cap

ita


1st British African colony to win independence and richest country in Sub-Saharan Africa - 1957

Relatively good infrastructure Education, judicial institutions Developed resources – cocoa, gold

Nkrumah espoused pan-African socialism High tariffs, anti-exporting policy


Outward oriented, but not a totally free market economy 1950s – import substitution; education, infrastructure 1960s – heavy govt. intervention 1970s – H-C-I period 1980s – gradual reduction of quotas and subsidies

1950s 1990sEmployment in

agriculture 77% 20%

Manufacturing share of GNP

10% 30%


The Impact of Trade Policies Ghana 1970

GNP/capita • $250

1997 GNP/per capita

• $370 GNP Growth/year

• 1.5% (1997) Shift from comparative

advantage uses (cocoa) to non-comparative advantage uses (subsistence agriculture).

Korea 1970

GNP/per capita • $260

1997 GNP/per capita

• $10,550 GNP Growth/year

• 5.1% (1997) Shift from non-comparative

advantage uses (agriculture) to comparative advantage uses (labor-intensive manufacturing).


The Impact of Trade Policies Korea 1970

GNP/per capita • $260

1997 GNP/per capita


• 5.1% (1997) Specific policies for export

sector. Strategic policy continuity

Brazil 1970

GNP/per capita • $1,145

1997 GNP/per capita


• 1.1% (1997) Blanket policies for the

entire economy Policy characterized by

crisis management


Growth in Modern Times


An Overview of Trade Theory Free Trade occurs when a government does not

attempt to influence, through quotas or duties, what its citizens can buy from another country or what they can produce and sell to another country.

The Benefits of Trade allow a country to specialize in the manufacture and export of products that can be produced most efficiently in that country.

Some patterns of international trade are easy to understand (Saudi Arabia / oil or Mexico / labor intensive goods). Others are not so easy to understand (Japan / cars).


Mercantilism: mid-16th century A nation’s wealth depends on accumulated

internationally valued assets - gold and silver

To maximize its wealth, anation should

Maximize exports through subsidies.

Minimize imports through tariffs and quotas.

Trade is a “Zero-sum game” Implement ‘beggar thy neighbor’ policies


Theory of Absolute Advantage Adam Smith: Wealth of Nations (1776).

Production efficiencies vary across countries.

Produce only goods where you are most efficient, trade for those where you are not efficient. Trade between countries is, therefore, beneficial.

Ghana / cocoa.


Theory of Comparative Advantage

David Ricardo: Principles of Political Economy (1817).

Countries specialize in products where they have the largest comparative advantage.

Implication: Trade can be beneficial even between countries where one has an absolute advantage in ALL goods.


The Production Possibility Frontier*

Coco

a

Rice0

PPF2

PPF1

*Diminishingreturns meanthat the PPF is curved

Production point = Consumption point


The Influence of Free Trade on the PPF

Coco

a

Rice0

PPF2

PPF1

Production point

Consumption point

Import

Export


Is the mercantilist theory still valid?

A qualified Yes. Equate political power with economic

power and economic power with a trade surplus.

Japan, China


Product Life-Cycle Theory(Raymond Vernon, 1966)

Article in the Quarterly Journal of Economics. As products mature, both location of sales and

optimal production changes. Affects the direction and flow of imports and

exports. Globalization and integration of the economy

makes this theory less valid.

International Product Trade Cycle Model

1 2 3 4 5 6 7 8 9 10 11 12 13 14 15

1 3 4 5 6 7 8 9 10 11 12 13 14 15

1 2 3 4 5 6 7 8 9 10 11 12 13 14 15

High Income Countries

Medium Income Countries

Low Income Countries

Time

Stages of Production DevelopmentNew Product Standardized ProductMaturing Product

Quantity

production

consumption

2

Exports Imports

Imports

Exports

Exports

Imports


The New Trade Theory

Typically, in industries with high fixed costs, world demand will support few competitors

Competitors may emerge because “they got there first” – first mover advantages economies of scale and experience curve

effects Some argue that it creates a role for govt.

intervention and strategic trade policy


First-Mover Advantage

Founded 1915 by William Boeing Largest commercial airplane manufacturer Over 9,000 commercial jetliners in service


Government-supported entry

Established 1967 Western Europe buying 25% of aircraft ,but

selling only 10%. France, Germany, Great Britain, Spain,

Italy By 2002: 4,632 orders - 3,127 deliveries


Boeing vs. AirbusNet plane ordersNet plane orders


Porter’s Diamond

The Competitive Advantage of Nations. Looked at 100 industries in 10 nations.

Thought existing theories didn’t go far enough.

Question: “Why does a nation achieve international success in a particular industry?”

Porter’s DiamondDeterminants of National Competitive Advantage

Related and Supporting Industries

Factor Endowments

Key items:•Skilled labor•Technology

Firm Strategy,Structure and

Rivalry

•Creation andorganizationof firms•Antitrust

Demand Conditions

•Economies ofscale•Discerningcustomers


GovernmentGovernment

Company Strategy,Structure,

and Rivalry

DemandConditions

Relatedand Supporting

Industries

FactorConditions

ChanceChance

Two external factors that influence the four determinants.

Policy and Luck

New Trade Theory vs. the Diamond New trade theory provides a role for government

in supporting ‘national champions’

Porter’s diamond argues that such support is counter-productive

Airbus seems to provide evidence for New Trade theory

The computer industry seems to provide evidence for Porter’s diamond Groupe Bull (France), Siemens (Germany),

Olivetti (Italy), ICL (The UK)World Trade


The Political Economy of Trade

The role of politics in trade policy Trade wars

Policy tools through which political factors impact international trade Instruments of trade policy


EU-US and GMO 1989 - EU bars growth hormone treated beef. US exports decline form $231m in 1988 to $98min 1994. US exports of GM corn targeted in 1998. With other countries, US files complaint to WTO. 1998 - WTO Panel declares ban to be illegal. EU reluctant to comply and appeals, but loses the appeal. 1999 - US threatens to raise tariffs on hundreds of EU products. 2005 - WTO rules in favor of US again, allowingpunitive tariffs of hundreds of millions of euros


US Targets EU

Beef Pork Sausages Corned Beef Roquefort Cheese Chocolate Products Mustards Chewing Gum

Soups and Broths Truffles Mineral Water Cut Flowers Yarn Electric Hair Clippers Motorcycles and

Mopeds


Trade Policy and Politics

Protecting jobs and industries: emerging industries.

Increasing exports. National security. Retaliation. International product domination:

New trade theory and subsidies.


Instruments of Trade Policy

Tariffs Subsidies Quotas and voluntary export restraints

(VERs) Local content requirements (LCRs) Anti-dumping policies Administrative policies


Instruments of Trade PolicyTariffs

Tariffs - oldest form of trade policy Specific ad valorem

Good for government Good for producers

But reduces efficiency

Bad for consumers


Instruments of Trade PolicySubsidies

A payment to a domestic producer. Cash grants low-interest loans tax breaks government equity participation in the company

• Airbus

Subsidy revenues generated from taxes.


Instruments of Trade Policy Import Quotas and Voluntary Export Restraints (VERs)

Import Quota: Restriction on the quantity of some good

imported into a country.

Voluntary Export Restraint (VER): Quota on trade imposed by exporting country,

typically at the request of the importing country.


Instruments of Trade PolicyLocal Content Requirements - LCRs

Requires some specific fraction of a good to be produced domestically. Percent of component parts. Percent of the value of the good.

Initially used by developing countries to help shift from assembly to production of goods.

Developed countries (US) beginning to implement. For component part manufacturer, LCR acts the

same as an import quota. Benefits producers, not consumers.


Instruments of Trade Policy Anti-dumping Policies

Defined variously as: Selling goods in a foreign market below

production costs. Selling goods in a foreign market below fair

market value. Result of:

Unloading excess production. Predatory behavior.

Remedy: seek imposition of tariffs.


Dumping: GATT and the U.S.

GATT:Sale of an imported product at ‘less than fair value’ and causes ‘material injury to a domestic industry’.

US: An unfair trade practice that results in injury, destruction, or the prevention of the establishment of an American industry.


Instruments of Trade PolicyAdministrative Policies

Bureaucratic rules designed to make it difficult for imports to enter a country.

Japanese ‘masters’ in imposing rules. Unit inspections

• Tulip bulbs

• Cars


Summary Both theory and practice indicate that

international trade and engaging with the world economy have enormous wealth creating potential

Industries are internationally mobile and generally this mobility creates efficiency

National politics has a powerful influence on trade policies and generally leads to the erection of trade barriers of various kinds

These barriers generally create inefficiencies

© Ram Mudambi, Temple University, 2007 1 Int’l Bus Strategy Lecture 3: The Global Business Environment.

Documents

temple university

trade output

gnpper capita

international trade

benefits of trade

impact of trade policies

impact of trade policies

s heavy