INTERNATIONAL BUSINESS
MANAGEMENT (BUSI 1346)
REVISION TOPICS
International TradeExports and FDI
Revision Week 2Dr Michael Wynn-Williams, [email protected]
1
INTERNATIONAL TRADE
2
3
DIFFERENT THEORIES OF INTERNATIONAL TRADE Mercantilism Adam Smith and Absolute Advantage Comparative Advantage The Heckscher-Ohlin Framework The Stolper-Sameulson Approach
Factor Price Equalization Theorem Rybzcysky’s approach Bhagwati and Immiserising Growth
4
MERCANTALISM
The Concept: Trade is a zero sum game: one country gains at the expense of others Theory drove the economic expansion in the 17th /18th
centuries Britain, France, Holland, Spain, etc
Imperialism was also in line with naval power Anglo Dutch wars
The Limitations: De-industrialization, brain drain, adverse movement of
factors of production
5
ADAM SMITH AND ABSOLUTE ADVANTAGE
Proponent: Adam Smith- both nations can gain from trade
The concept : Theory of Absolute Advantage suggests that countries should specialize in producing those commodities in which they have a absolute advantage The UK has an advantage in producing “scotch”, while
France has an advantage in “champagne”
Limitations: how to handle situations when the distribution of resources in not equitable. The difference between UK and France on one hand and UK
and Lesotho on the other hand
6
COMPARATIVE ADVANTAGE
Proponent: Ricardo (1817)
The concept : two countries should trade based on specialization in the areas in which they have not an absolute but a comparative advantage
Limitations: again, how to handle extreme situations, predominantly one product economy?
7
HECKSCHER-OHLIN APPROACH
Proponent: Heckscher & Ohlin
The concept : a nation will have a comparative advantage in the production of that good that uses its abundant factor intensively Tries to move beyond efficiency to factor
endowment Are abundant factors necessarily more efficient?
The case of Indian Labour
Limitations:very difficult to handle technical progress over a period of time, the definition of comparative advantage can change
8
THE STOLPER SAMEULSON THEOREM
Proponent: W Stopler & Paul Samuelson (1941)
The concept : an increase in the price of the traded good will increase the return to the factor that is abundant in its use Opening of trade will change the ratio of returns
between scarce and abundant factors of production Even with factor immobility relative price of factors of
production will equalize across countries Free trade is a substitute for factor mobility. Capital Vs
Labour
Limitations: assumption that both markets are clearing mechanisms. Developing countries, institutional constraints and rent seeking behaviour…
9
RYBZCYNSKI’S APPROACH Proponent: Tadeusz Rybczynski (1923-1998).
The concept :The Rybczynski theorem proposes that when the endowment of one of two factors of production is increased there is a relative increase in the production of the good using more of that factor. This leads to a corresponding decline in that good's relative price. In the context of the H/O model, open trade between
regions means changes in relative factor supplies between regions can lead to an adjustment in quantities and types of outputs between regions that would return the system toward equality of production input prices like wages across countries
Limitations: what about primitive capitalist accumulation, that prevents factors from receiving their full share?
10
BHAGWATI’S IMMESERIZING GROWTH Proponent: Jagdish Bhagwati (1958)
The concept : increased trade under some circumstances can lead to reduced welfare. If only one country is growing then the TOT can turn adverse The role of FDI Shifting of capacity on account of environment The role of institutions/ are markets really clearing
mechanisms
Limitations: has not found too much favour with the WTO !
11
THE THEORETICAL FOUNDATIONS OF IB
Theories In brief
Theory Involves--
factor endow efficiency pricesgains from
trade
Mercantilism Trade is a zero sum game no absolute no no
Adam Smith/ Absolute Advantage
trade will benefit if I have absolute advantage
yes absolute no no
Ricardo / Comp Advantage
trade will benefit if I have comparative advantage yes relative no yes
Heckscher Ohlin
country will have comparative advantage in good that uses abundant
factor
yes relative no yes
Stolper Sameuleson
Increase in price of traded good will increase returns to
factor used abundantlyyes relative yes yes
Rybzcynski
increase in factor endowment will increase production of that good
using that factor
yes relative yes yes
Bhagwatinot all trade is good,
sometimes it can lead to lower social welfare
no relative yes sometimes
12
THE GAINS FROM TRADE The limits to specialisation and trade The terms of trade
The import purchasing power of exports: PX/PM
Other reasons for gains from trade decreasing costs differences in demand increased competition trade as an ‘engine of growth’ non-economic advantages
13
PORTER 1990: THE COMP ADVANTAGE OF NATIONS A nation’s competitiveness depends on its capacity
to innovate Much of the innovation is mundane and incremental; :
but important
Competitiveness must be defined in terms of productivity Sustained productivity growth requires that the
economy must continuously re-invent itself
14
THE NATIONAL “DIAMOND”
Factor Conditions
Demand Related Conditions & supp.
industries
Firm strategyStructure and rivalry
15
GOVERNMENT AGENDA….
Focus on specialized factor creation
Avoid intervening in factor and currency markets
Enforce strict product safety and environmental standards
sharply limit direct cooperation between industry rivals
Promote goals that lead to sustained investment
De-regulate competition
Enforce strong domestic anti trust policy
Reject managed trade
16
KEY QUESTIONS: INTERNATIONAL TRADE
What do nations gain through international trade?
To what degree do different trade theories encourage nations to specialise in particular industries?
What are the advantages of industrial specialisation?
What are the disadvantages of industrial specialisation?
EXPORTS &FOREIGN DIRECT
INVESTMENT
17
18
MODES OF FOREIGN ENTRY
Strategic alliances, equity, non-equity (Microsoft Windows and Vodafone)
Franchising (Pizza Hut)
Licensing (Pharma, SKB)
Exports, direct or indirect
FDI FDI- 100% ownership FDI < 100%, JV, different types [26%]
19
PATTERNS OF FDI Product Life Cycle theory
Move overseas to low-labour cost region during the mature and decline phases
Uppsala stage theoryIncremental approachDepends on “psychic distance”
Strategic compulsionTaking the fight to the opposition’s
homelandSqueezed out of home market – Chrysler Following a rival’s lead – eg. Ford-Volvo,
GM-SaabSearch for foreign currency
20
DECISION FRAMEWORK FOR FDI
Transportation costs and import barriers high?
Product as source of the competitive advantage?
Process as source of the competitive advantage?
Management as source of the competitive advantage?
Brownfield FDI
Greenfield FDI
Joint venture FDI
ExportNo
Yes
Yes
Yes
No
No
Yes
UPPSALA STAGE THEORY The strategic theory of FDI acknowledges that
corporate culture has a role Corporate culture can be understood through
behavioural theories The Uppsala Stage Theory illustrates the
manner in which companies progressively explore FDI Stage Commitment
Stage 1 No regular exportNo product adaptation
Stage 2 Exports through agentsSome superficial product adaptation
Stage 3 Overseas sales subsidiariesProduct structurally adapted to local market
Stage 4 Overseas productionLocal design, some reverse imports
CRITICISMS OF STAGE THEORIES They present a rather facile view of FDI – all
business expansions are incremental Stage theories lack sophistication – they do
not detail the mode of entry Operating from an established domestic base,
companies can enter a new market with a mode of entry based on their strongest asset Product led entry – a unique product, a high
technology product etc. Process led entry – production technology,
managerial talent, economies of scale
23
FORMS OF EXPORTING Export Activity may take the following
formDirect exporting
Australian Apples Indirect exporting
Using an intermediary in the home country Arms trade (China-Pakistan-Palestine)
Inter corporate transfers Strategic trade Ford diesel engines Japanese reverse imports (imports from foreign
subsidiaries)
24
Alternate modes of entry
Ownership Control
100%
Rolex Heinz
0% ? KFC Franchisee
100% Exports 100% Local
Exports Vs Local Production
25
TYPES OF FDI Forms of FDI
Purchase of existing assets (brownfield) Quick entry Local market knowledge Eliminate competitor
New Investment (greenfield) No inherited problems Assurance of process quality Brand equity transference
Participation in an international joint venture Shared ownership Swift access to economies of scale Build on local knowledge and culture
26
FOREIGN DIRECT INVESTMENT
First articulated by Stephen Hymer FDI happens when a firm invests directly in
facilities in a foreign country – implies a net capital increase in the country
The investing firm has control The commitment is relatively “long-term” A firm that engages in FDI becomes a multi
national enterprise Factors influencing FDI are strongly
correlated with factors influencing Trade eg. exploiting comparative advantage
27
CHOOSING A MODE OF ENTRY Dunning’s eclectic OLI theory – FDI
when all the following are in placeOwnership advantages
Ownership of assets IPR Competitive advantage in the product
Location advantages Host country’s production facilities Local factor endowments Competitive advantage in the process
Internalisation advantages The minimisation of transaction costs Avoids dangers of opportunism Competitive advantage in management
28
KEY QUESTIONS: EXPORTING AND FDI
Why do firms explore opportunities in overseas markets?
How would a firm choose to first explore overseas markets?
Given that a firm may export 100% or produce locally 100%, and may choose to retain 100% ownership or 0% ownership, give examples of four companies that are pursuing different ownership/export strategies?
What other means are there for entering overseas markets?
For each mode of entry, what are the related risks?