International Trade and Investment Reported by John C.T. Ko August 12, 2006.

International Trade and Investment

Reported by John C.T. KoAugust 12, 2006

International Trade and Investment Presenter: John C.T. Ko Jose Rizal University

US

EU

Australia

China

FDI

GOODS

SERVICES

Trade in a Global Economy


EXPORTS OF GOODS

• Primary Products– Agricultural Products (Food, Raw materials)– Mining Products (Ores, Fuels, Non-Ferrous Metals)

• Manufactures– Iron and Steel– Chemicals– Other semi-manufactures– Machinery and Transport Equipment– Textiles & Clothing– Other Consumer Goods


EXPORTS OF SERVICES

• Transportation (shipment & other)

• Travel

• Other Services – Telecommunications– Non-merchandise insurance– Banking– Other professional services (engineering, legal,

accounting, education, market research etc.)


CONTRACTING

• Licensing– Rights for production and sales of a product– Licensing fee– Territorial restrictions

• Franchising– Pepsi Cola, Shangri La, Burger King

• Turnkey Project– Planning, construction, commissioning, training– Large plant projects

• Sub-contracting (eg. the car sector)


Global-Multinational-Transnational

• Global Company: Company operating globally, e.g.- exporting to many countries

- investing in many countries etc.

• Multinational (MNC): engages in foreign production in three or more countries.

• Transnational (TNC): a corporation with owners in more than one nation.


Global Integration

“The process by which markets and production in different countries are becoming increasingly interdependent due to the dynamics of trade in goods and services and the flows of capital and technology.”

O.E.C.D


Drivers of globalization

• Two key factors seem to underlie the trend towards the increasing globalization of markets and production:

1) the decline of barriers to trade and investment

2) technological change.


Anti-globalization arguments

• It is empowering corporations at the expense of nation/states

• It is not a democratic choice, but an option to suit multinationals

• International institutions such as the WTO and World Bank– are NOT democratic– open the world to the influence of transnational

corporations


Anti-globalization arguments

• Destroys manufacturing jobs in wealthy, advanced countries.

• Wage rates of unskilled workers in advanced countries decline.

• Companies move to countries with fewer labour and environment regulations (“Export of jobs”).

• Loss of sovereignty.


Answers to critics of globalization

• Decisions in WTO and other international organizations are made by consensus of governments

• Globalization is more effective with strong governments and sound institutions

• Globalization benefits both large and small/medium companies


Globalization - Arguments Pro

• Lower prices for goods and services

• Economic growth stimulation

• Increase in consumer income

• Creates jobs– Countries specialize in production of goods and

services that are produced most efficiently

• Unprecedented advances in living standards


USEU

Australia

China

Farm Products

International Trade in Goods & Services

Transportationservices


Recent trend: ”Intra-industry Trade”

• The exchange of the same category of products.

• Reasons:– Trade takes place in differentiated products– Economies of scale(which require a limited

range specialization)


International Prices Trends

• Long-term downward trend in the relative prices of most primary products compared to those of manufactures.

• Average decline of international prices over 1990-2000 of 1%, the net result from: – Decrease in prices of manufactures and non-fuel

primary products– Increase in fuel prices


Recent downward trend in the prices of manufactures

– After decades of steady growth,over 1995-2000 the prices for manufactures have steadily declined, reaching in 2000 their lowest level in 10 years.

– Apparent reasons:• Strong technological innovation and competition in

the high-tech sectors

• Low inflation and the strong US dollar

• Specialization in lowering production costs


Terms of trade

Export price index Terms of trade index= ---------------------- x 100

Import price index

TTI > 100 Favourable TTI < 100 Unfavourable TTI = 100 Unchanged


0

5

10

15

20

25

30

35

40

45

% o

f W

orl

d

1983

2000

Share of World merchandise imports ,by region, 1983, 2000


USEU

Australia

China

International Trade Theory

Comparative

advantage New TradeTheory

Absoluteadvantage

Absoluteadvantage

FACTOR

ENDOWMENTS


Theories of International Trade:Absolute Advantage

• The exporting country holds a superiority in the availability of certain goods. Reasons:

– Climate,quality of land, and natural resources.– Differences in labour, capital, technology and entrepreneurship

Beef Computer Printers (tonnes) (units) Australia 800 200 Japan 400 500• Australia has an absolute advantage in beef, while Japan

has an absolute advantage in printers. .


Theory of Comparative Advantage

• David Ricardo (1817)

• One country has a comparative advantage over another in the production of a certain commodity if its opportunity cost of producing that commodity is lower


Comparative versus Competitive Advantages

• Comparative advantage is a concept based on relative costs of production (and opportunity cost) between nations.

• Competitive advantage is a concept used to compare two company’s ability to compete in the same business.


Factor Endowments(Heckscher and Ohlin)

• Explains differences in opportunity costs

• Factor endowment: A country’s share of factors of production (e.g. land,capital, labour,enterprise).

• Countries will specialize in those goods which make more intensive use of the abundant/cheap factors.– Cheese:land-intensive– Cloth: labour-intensive

• The theory can explain the Australia-Japan trade patterns


Limitations of the Trade Theory

• The theory disregards a number of considerations :– The difficulty in moving resources in the desired

industries– Fluctuations in demand– Trade barriers– Other political restraints


The New Trade Theory

• Began to be recognized in the 1970s.

• Deals with the returns on specialization where substantial economies of scale are present.– specialization increases output, ability to

enhance economies of scale increase.


The New Trade Theory

• Thus firms with first mover advantages will develop economies of scale and create barriers to entry for other firms.

• The commercial aircraft industry is an excellent example (eg. Boeing, Airbus)

• New trade theory does not contradict the theory of comparative advantage, but instead identifies a source of comparative advantage.


Foreign Direct Investment: Practice and Theory

FDI Outflows

FDI Inflows

FDI Outward stock

Sectoral

trends

Geographictrends

The Trojan Horse?


FOREIGN INVESTMENT

• Foreign Direct Investment ( F.D.I.)

– Joint ventures & wholly owned investment

– Effective control; Managerial participation

• Portfolio Investment– Investment income; Capital gains


Foreign Direct Investment (FDI)

• An investment involving management control of a resident entity in one economy (THE HOST COUNTRY), by an enterprise in another economy (THE HOME COUNTRY).

• FDI involves a long-term relationship reflecting an investor’s lasting interest in a foreign entity. The investor=The PARENT firm and the foreign entity/asset= the “affiliate” (“subsidiary”)


Average annual growth rateWorld FDI Outflows, Exports of Goods & Services, GDP

0

5

10

15

20

25

30

35

40

1986-1990 1991-1995 1996-1999

FDI Outflows

Exports of G&S

GDP% p.a


Other FDI concepts

• FDI FLOWS (Outflows, Inflows)• “Greenfield” investment = new investment

made up by setting up a new affiliate overseas• Cross border M&As (Mergers and

Acquisitions)= acquisition of more than 10% equity share of an existing operation overseas.– Mergers=the combining of two or more firms– Acquisition/take-over of an existing operation


Determinants of Foreign Direct Investment

• Trade restrictions (the “Trojan horse").

• Cost/profitability factors

• Investment climate

• Marketing factors


Trade restrictions(the “Trojan horse").

• Barriers to trade

• Preference of local

customers for local products.


Cost/profitability Factors

• Cheaper production costs(labour, materials)

• Cheaper utilities and infrastructure

(electricity, telecom)

• Lower rental costs (commercial, residential)

• Expected higher profits.

• Desire to be near source of supply.


Investment Climate

• Government attitude toward foreign investment (e.g. incentives)

• Political stability• Industrial Clusters• Limitations on ownership• Currency exchange regulations• Stability of foreign exchange• Tax structure


The Top 10 sources of Outward FDI in 2000, % of world total

20.8

3.3

0.0 5.0 10.0 15.0 20.0 25.0

US

UK

France

Germany

Hong Kong

Belgium-Lux

Netherlands

Japan

Switzerlan

Canada


FDI benefits/costs to Host countries

• Benefits:– Capital– Technology– Management– Employment– Exports

• Costs– Adverse effects on competition– Adverse effects on the Balance of Payments– Concerns about national sovereignty


FDI benefits to Home countries

• Improves balance of payments

• Positive employment effects– Export demand can create jobs.

• Increased knowledge from operating in a foreign environment.

• Benefits the consumer through better products and lower prices.


FDI costs to Home countries

• Negative effect on Balance of Payments – Initial capital outflow (offset by

subsequent inflows).– Multinational Enterprise (MNE) uses

foreign subsidiary to sell back to home market.

– MNE uses foreign subsidiary as a substitute for direct exports (loss of export earnings).


FDI and International Trade

• The relationship between trade and FDI in a given product is characterised by a sequential process of internationalization, e.g. trade to FDI or FDI to trade

• Subsidiaries source goods and services from parent companies and can do exports from the host country

• FDI is not only a source of capital but also of new technology, managerial skills and marketing networks.


Instruments of Trade and Investment Policies

International Trade Policies

FREE TRADE PROTECTIONISM

The Trade Policy pendulum


Two groups of trade policyinstruments

• Protection measures (Import Substitution)– Barriers to trade in goods and

services• Export Promotion Measures


Barriers to trade and investment• Tariff barriers• Non-tariff barriers (e.g. quotas, standards,

procurement policies)• Import restrictions• Export restrictions• Barriers to trade in services• Financial limits (e.g. exchange controls, profit

remittance limits)• Limits on FDI entry and operations


Trade Barriers:Tariff Barriers

• Tax imposed on imported physical goods;– Effects of an indirect tax

• Tariffs - oldest form of trade policy– Specific-Ad valorem- Compound duties

• Good for government• Good for producers

– But reduces efficiency

• Bad for consumers


Non-Tariff Barriers: Import Quotas

• Import Quota:– Restriction on the quantity of some good

imported into a country.• Quotas (Quantitative Restrictions)

– Unilateral quotas– Negotiated bilateral or unilateral quota

e.g. “voluntary export quotas”– Tariff quotas– Embargoes/Import bans (“zero imports”)


Other non-tariff barriers

• Anti-Dumping duties; can be used for protection against foreign competition, but can be also justified.

• Measures regarding safety, health, marking, labelling, packaging and technical standards; Generally justified, but can can become protectionist when excessive.

• The Procurement policies


Trade barriers:Export restrictions

• Export Bans– Timber logs (Malaysia)– US Trade with Cuba,Libya

• Export duties/Taxes– Tax on grain exports (Argentina)

• Minimum export prices (e.g. Brazil on coffee)

• Exclusive exports by state-trading enterprises (e.g. India)


Foreign Investment Controls

• Rejection of all foreign direct investment

• Limitations on FDI (Mexico, Malaysia, South Korea)

• Local content regulations

• Export performance (Philippines: 70% export)


Export Enhancement Measures

• Subsidies– export subsidies under agricultural assistance

schemes• Financial Assistance, e.g.

– export credit support;– export credit insurance

• Tax incentives– tax holidays;– tax concessions– indirect-tax concessions


Export Enhancement Measures

• Export processing zones

• Marketing assistance

– marketing support (e.g. TAITRA)

• Trade-related investment measures

– Export performance requirements

– Local equity requirements


Arguments pro-protection

• the ‘infant industry’

• the ‘self-sufficiency’

• the ‘employment’


Arguments against protection

• Inefficient allocation of resources

• Income redistribution

• Well-being reduction


WTO

154 Rue de Lausanne, Geneva

D S B

Quota

CountervailingMeasures

Tariffs Anti-Dumping

The Multilateral Trade and Investment Framework


GATT (The General Agreement on Tariffs and Trade).

• Signed on 30 October 1947 by 23 nations• Entry into force on 1 January 1948• 8 Rounds of multilateral trade negotiations• World Trade Organization established on 1

January,1995


GATT Negotiating Rounds

Round &Year(s) No. of parties

1.Geneva 1947 23

2.Annecy 1949 13

3.Torquay 1950-51 38

4.Geneva 1956 26

5.Dillon 1960- 2 45

6.Kennedy 1964-67 62

7.Tokyo 1973-79 99

8.Uruguay 1986-94 117

9. Doha 2002-2005 144

Value of World trade(US$B)

155575

16251947

3485

6186

0 1000 2000 3000 4000 5000 6000 7000

1963

1973

1979

1985

1990

2000

US$ Billion


GATT: Basic principles

• Trade without discrimination– Most Favoured Nation clause

• Protection only through tariffs– Quantitative restrictions prohibited

• Stable basis for trade– Tariffs bindings

• Special treatment for developing countries– The principle of non-reciprocity


The Uruguay Round Results

• Removal of Quantitative Restrictions– Textile and Clothing restraints under

MFA to be phased out in 4 steps between 01.01.1995-01.01.2005


WTO Doha Round

• The Declaration of Doha (Qatar)in November 2001, set 1 January 2005 as the date for completing all but two of the negotiations.

• 7 negotiating bodies: ( 1) agriculture; (2) services; (3) non-agricultural market access;(4) rules; (5) trade and environment; (6)geographical indications for wines and spirits; (7) reform of the Dispute Settlement Understanding.

• “The risk is that the new round(and so the entire multilateral system ) could collapse under the weight of too many contentious issues”(The Economist).


NAFTA

MERCOSUR

EU

(15)

A F T A

Australia-New Zealand

APEC

F T A A

Regional Economic Integration


Regional Economic Integration

• Agreements among countries in a geographic region to reduce, and ultimately remove, tariff and non-tariff barriers to the free flow of goods, services and factors of production among each other.

• It is estimated that currently there are about 220 regional trade arrangements!


REGIONAL TRADE ARRANGEMENTS

• Exception to MFN Rule• Five levels of regional economic

integration:– Industrial free trade area– Full free trade area– Customs Union– Common Market – Economic Union


Regional Economic Integration:FREE TRADE AREA(FTA)

• NO Tariffs and quotas among members• National tariffs against non-members• Partial(Industrial)FTA and Full FTA

• Bilateral FTA:Australia-New Zealand• Plurilateral FTA: EFTA, NAFTA, AFTA.

Free TradeArea


NO Tariffs and quotas among members

COMMON TARRIFF against non-members

Examples: European community (1968)

Regional Economic Integration:Customs Union

Free TradeArea

Customs Union


•Abolition of restrictions on factor movements

Example:The European “Single Market”(1992)

Regional Economic Integration:Common Market

Customs Union

Free TradeArea

Common Market


Regional Economic IntegrationEconomic Union

Free TradeArea

Customs Union

Common Market

Economic Union Harmonisation and Unification of Economic Policies

Example:European Union


Trade Effects of Integration

• Trade creation– Trade up through lower cost goods and

services• Trade diversion

– Less efficient producers inside the area replace more efficient external producers

• Regional versus Global integration


APEC=ASIA PACIFIC ECONOMIC COOPERATION

Russian Federation

China

Canada

United States

Chile

Australia

New Zealand

Japan

S.Korea

Peru

Hong.Kong

VietnamThailandSingaporeBruneiMalaysia

Mexico

PhilippinesIndonesiaPapuaNG

Chinese Taipei

Members of APEC


Major APEC activities for

the promotion of regional trade&business

• APEC’s Three Pillars :

• Trade and investment liberalisation– by 2010 for industrialised economies,and – no later than 2020 for developing economies

• Business facilitation

• Economic and technical co-operation


ASEAN (10)

• Singapore, Indonesia, Thailand, Malaysia, Philippines• Brunei, Vietnam, Burma, Laos, Cambodia (550

million)• On the Common Effective Preferential Tariff (CEPT)

of AFTA,the 6 founding members agreed (individually) to achieve a minimum of 85% of the tariff lines on their inclusion lists in the 0-5 % range by 2000, covering 90 % of intra-ASEAN trade

• They also brought forward from 2003 to 2002 the date of implementation of the CEPT

• ASEAN + 3


MFN Simple Mean tariffs 1999 versus CEP tariff rates 1999,2003,% in selected ASEAN countries

MFN CEPT

1999

CEPT2003

Indonesia 10.9 5.85 3.71

Malaysia 7.1 3.17 2.06

Philippines 10 4.45 2.06

Thailand 21.6 9.75 4.64

The Balance of Payments

$A $US

¥ $A €

Current Account Deficit Current Account Surplus


The Balance of Payments (BOP)

• Record of the value of all the economic transactions between – residents of one country (e.g. individuals,

firms, governments) and– residents of all other countries during a

given time period.


The Balance of Payments (BOP)

• Double-entry book-keeping system

• For nations with floating currencies,the entire balance of payments by definition must numerically balance, while individual accounts or sub-accounts may not balance.


FIXED EXCHANGE

RATES

F L O A T I N G RATES

I M F

SDR

E M

S

The Global Trade and Investment Environment


Fixed versus Floating exchange rates

• Floating rates are claimed to – give countries autonomy regarding their monetary

policy – facilitate smooth adjustment of trade imbalances

• Fixed exchange rates are claimed to:– impose monetary discipline on a country– avoid speculative pressures– provide more stability to international trade and

investment– promote more stable prices


Exchange Rates in practice-Pegged exchange rates-

• Pegged exchange rates are popular among the world’s smaller nations, as they peg their exchange rate to that of other major currencies.– There is some evidence that a pegged exchange

rate regime does moderate inflationary pressures in a country.


Doing Business in Developing countries


General Features of Developing Countries

• High levels of rural population

• Relatively high population growth rates

• High proportion of population living in absolute poverty

• Not well developed banking/credit facilities


General Features of Developing Countries

• Relative lack of financial capital (esp. FX)

• Relatively low level of infrastructure(roads, telecommunications,education institutions)

• Low marketing facilities(e.g.storage,distribution,)


Trade and Development

• Trade as engine of growth• Import substitution versus Export

Promotion• Development strategies

– Stage 1:Exports of natural resources/Imports of manufactures

– Stage 2:Import substitution– Stage 3:Export-led growth


Export Marketing Issues

• Cultural differences– Language – Cultural restrictions on

consumption/imports

• Price strategies– Differentiated prices– “Price markets”


Export Marketing Issues

• Distribution– Longer distribution channels than in IC's

(Industrialized Countries)

• Promotion– Less spending required compared to IC's– However,growing promotion expenditure in

Asia and Latin America


• Dowling, J. Malcolm, Economic Development of Asia, 2004 Thomson Learning Asia

• Todaro, Michael P. and Smith, Stephen C., Economic Development, 9th Edition, 2006, Pearson Education Limited.

• John Gionea, International Trade and Investment, 1st Edition, 2003, The McGraw-Hill Companies, Inc.

• www.srde.org.uk

BIBLIOGRAPHY

Taipei 101

The tallest building in the world

Thank you!

International Trade and Investment Reported by John C.T. Ko August 12, 2006.

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