Intrnational business environment

ODM COMPUTER MGT.EDUCATION

INTERNATIONAL BUSINESS ENVIRONMENT & MANAGEMENT

Unit-IInternational Business : An overview-types of international business; the external environment; the economic and political environment, the human cultural environment; influence on trade and investment patterns; recent world trade and foreign investment-trends, country risk.

Qu1. Define International Business? What are the types of International business?Ans : business is increasingly becoming international or global in its competitive environment, orientation, content and strategic intent. This is manifested or necessitated or facilitated by following :(a) The competition can be in a firm local, national or foreign-now encounters, in many cases, is global, i.e. besides the competition from the domestic it has to competitive with products manufactured in India by foreign firms and imports.(b) Because of liberalization, a firm has the challenging opportunity to improve its competitiveness and scope of business by global sourcing of technology, material, finance, human resources etc.(c) Globalisation is facilitating globalization of operations management to optimize operations and to improve competitiveness. Global value chain management is indeed a key factor of success.(d) The universal liberalization and the resultant global market opportunities are taken advantage of by the firms to consolidate and expand of business. Growing competition at home pushing many companies overseas. (e) The global orientation of an increasing number of companies I evident from their mission statements and corporate strategies.Types : International business is divided into following :(a) Trading : Import and exports of goods and services have been very fast. In countries like Japan, there are international trading houses, which transact enormous volume of business. The export house, trading house, stare trading houses and superstar trading houses are merchant exporters they buy and resell goods. They are comparatively small in size from giant trading house of Japan.(b) Manufacturing and Marketing : The manufacturing exports are those who export goods manufactured by them. Many MNCs and other firms both small and large do manufacturing and marketing(c) Sourcing and Marketing : There are many MNCs and firms which outsource their products which they market at home and abroad.(d) Global Sourcing for Production : There are many firms that outsource globally their raw material, intermediates etc required for their manufacturing.(e) Services : Services is an enormous and fast growing sector of international businesses. There is a large variety of services rendered internationally. The broad segment includes tourism and transportations, IT, banking, insurance, consultancies etc.(f) Investments : International portfolio investment has been growing fast, as a result of globalization. FDI are associates with establishment of manufacturing or marketing facilities abroad.


So, in short we can say that every business in today’s world is growing internationally and world is coming closer and with this there are greater chances of revenue generation.

Qu. 2What is economic environment? Explain different kinds of economic system and their influence on international business.

Ans. Apart from the political and legal environment, the economic environment also influences international business decision. This is because the decision to trade or locate manufacturing operations varies from one host country to other, depending upon the form of economic system existing there and various economic parameters prevailing there, for example, level of income and inflation, health of industrial, financial and external sector and many others.Types : There are three types of economic system :(a) Centrally Planned Economy : It is an economy where production and distribution system is owned by the Government. The Govt designs the investments and coordinates the activities of different economic sectors. Ownership of the means of production and the whole process of production lies in the hands of Govt. the former USSR and other Eastern countries were examples of these types of economic system. In international trade, normally the state trading corporation participates that highly influences the consumers and business.(b) Market Based Economy : It is an economy where the decision to produce and distribute goods is taken by individual firm based on the forces of demand and supply. They take such decision for the purpose of maximising profit or wealth. Consumers are free to decide what they want to buy. The United States of America and Western European countries are example of market based economy. In market based economy, trade is handled by individual firms that affect the international business.(c) Mixed Economy : It is a compromise between CPE and market based economy where private and public sectors exist side by side. There is no country that represents any of the two systems in its purest form. Indian economy system represents mixed economic system. Economic activities that are fraught with social considerations are owned and regulated by the Govt. The others are owned and performed by private sectors.

Qu. 3Write note on Political environnent.Ans. The political environment is an important factor that influences the international business, especially when it is different between the home and host country. Political setup vary widely between the two extremes :(a) Democracy : A democratic political system involves citizens directly or indirectly, in the policy formulation of a country.(b) Totalitarianism : It is a political system , where political power lies in few hands with virtually no opposition. Constitutional guarantees are denied to the citizens. Germany under the rule of Hitlor and Stalin;s Soviet Union were historical examples of totalitarianism regime. Myanmar is the example of totalitarianism Government.Political Risk : Political risk is unexpected changes in political set up in the host country leading to unexpected discontinuities that bring about changes in very business


environment. For example, if a rightist party wins election in the country and the policy towards the foreign investment turns liberal, it would create appositive impact on the operation of MNCs. On the other hand, if a left party comes in power in the host country, it will have a negative impact on the operation of MNCs. Types of Political Risk : Stephen Kobrin classifies political risk as :(1) Macro Risk : It is also called country specific risk that affects all foreign firms in the country. (a) Expropriation : It means seizure of private property by the Govt. it involves payment of compensation. The reason behind expropriation has mainly been political turmoil. In the post war period, foreign and domestic firms were nationalized in China in 1960. The Swedish Govt nationalized the ship building industry at a time when this industry was hit by world wide recession. an estimate revels that around 12 % of all foreign investment made in 1967 was nationalised within less than a decade.(b) Currency Inconvertibility : Sometimes the host Govt enacts law prohibiting foreign companies from taking their money out of the country or exchanging the host country currency for any other currency. The reason is both economic and political. The Govt of Nigeria imposed such restrictions a couple of decades back in order to serve its economic and political objectives.(c) Credit Risk : Credit risk is refusal to honour a financial contract with a foreign company or foreign debts. For example when Khomeini came into power in Iran, the Iranian Govt refuse to pay its debts on grounds that loans were taken during Shah’s regime. (d) Ethnic, Religious or Civil Strife : Macro political risk arises on account of war and violence and racial, ethnic, religious and civil strife within a country. Recent example of these risks is slaughter in Bosnia and Herzegovina, breakdown of local authority in Somalia and Rwanda, the upsurge of Islamic fundamentalism in Algeria and Egypt. Such risks become major political risks for MNCs operating in these countries.(2) Micro Risk : The micro or firm specific risk affecting a particular industry or firm. The micro risks are : (a) Conflict of interest : The host Govt desires to have a sustainable growth rate, price stability, comfortable balance of payment, and so on, but the policy of MNCs operating there is to maximize corporate wealth. For example, transfer of funds by MNCs may influence the money supply and may cause inflation or deflation. MNCS may adopt transfer pricing techniques that may cause loss of tax revenue. It is not simply economic issues that cause conflicts but also non-economic issues like national security. The US Govt did not permit the Japanese purchase of Fairchild Industries on the grounds of national security.(b) Corruption : It is endemic in many countries, as a result MNCs have to face serious problems. Foreign firms in Kenya had to sell a part of equity to powerful politician. Transparency International has surveyed 85 countries and has brought about the corruption perception index. Many countries rank high in the index. In 1999 34 countries, including OECD members and five other signed a convention to ban bribery of foreign public officials in international business transaction.Evaluation of Political risk : Assessment of political risk is first step before a firm moves to abroad. It is because if such risks are very high, the firm would no like to operate in that country. If the risk is moderate or low, the firm will operate in that country but with a suitable political risk management. There are two ways of risk assessment:(a) Qualitative Approach : It involves inter-personal contacts. Person may come from within the enterprise or may come from out side the firm. Those persons are often


well acquainted with the political structure of a particular country or region. Kraar has cited the example of Gulf Oil, which hired person in Govt since and from universities to find out whether investment in Angola would be safe.

Sometimes company sends a team of experts for on-the spot study of the political situation of a particular country. This step is only taken after a preparatory study yields favorable features. This method always gives a more reliable picture subject to availability of correct information from the local people.

This approach also involves the examination and interpretation of diverse secondary facts and figures. For this purpose, companies maintain an exclusive risk analysis division.(b) Quantitative Approach ; Quantitative tools are also used to estimate political risk. American Can uses a computer programme known as primary risk investment screening matrix involving about 200 variables and reducing them to two numbers. It represents an index economic variability as also an index of political stability. The variables includes, in general, frequency of change of Govt, level of violence in the country, number of armed insurgencies, conflicts with other nations and economic factors such as inflation rate, external balance deficit, growth rate of economy and so on.Management of political Risk : The political risk management strategy depends upon the types of the risk and the degree of risk the investment carries. It also depends upon the timing of the steps taken. There are two types of strategies :(a) Management Prior to Investment : there are five ways to manage it :

(i) Capital budgeting: in this method , the factor of political risk is included in the very process of capital budgeting and the discount rate is increased.(ii) By Reducing the Investment Flow : The risk can be reduced by reducing the investment flow from the parent to the subsidiary and filling the gap through local borrowing in the host country. In this strategy, it is possible that the firm may not get the cheapest fund, but the risk will be reduced.(iii) Agreement : The political risk can also be reduced by negotiating agreements with the host Govt. prior to making any investment.(iv) Planned Divestment : It is yet another method of reducing risk. If the company plans to orderly shifting of ownership and control of business to the local shareholders and it implements the plan, the risk of expropriation will be minimal.(v) Insurance of Risk : The investing firm can be insured against political risk. Insurance can be purchased from governmental agencies, private financial service organisation or from private property-centred insurers.

(b) Risk Management during the Life Time of the Project : Management of risk during pre-investment phase reduces the intensity of risk, but does not eliminate it. There are four ways to handle the risk in this phase :

(i) Joint Venture and Concession Agreement : In a joint venture agreement, the participants are local shareholders who have political power to pressurize the govt to take a decision in their favour or in favour of enterprise. The govt is interested in earning from the venture and so it does not cancel the agreement(ii) Political Support : Risk can be managed with political support. International companies act sometimes as a medium through which the host govt fulfills its political needs.(iii) Structured Operating Environment : Political risk can be reduced by creating a linkage of dependency between the operation of the firm in high risk country and the operations of other units of the same firms in other countries.


(iv) Anticipatory Planning: It is also a useful tool in risk management. The company should take necessary precautions quite in advance. For example, during Marco’s regime in Philippines, the foreign countries begin to foresee the fall of Marco regime and they took necessary measures well in advance.

Risk Management following Nationalisation : Despite care taken by international companies for minimizing the impact of political risk, there are occasions when nationalisation takes place. There are many ways to minimise this effect :(a) Negotiation : The investing company negotiates with the host govt on various issues and shows its willingness to support the policy and programmes.(b) Political and Economic Pressure : On failure of negotiations with the host govt, the investing company tries to put political and economic pressure. (c) Arbitration : If nationalisation is not reversed through negotiations and politico-economic pressure, the firm goes for arbitration. It involves the help of a neutral third party who mediates and asks for payment of compensation.(d) Court of Law : when arbitration fails, the only way out is to approach the court of law. The international law suggests that the company has, first of all, to seek justice in the host country itself. If it is not satisfied with the judgment of the court, the company can go to international courts of justice for fixation of adequate compensation. However, there are occasions when the host govt failed to honour the verdict of court. For example, the Cuban Government failed to pay compensation to US companies expropriated during 1959-1961.

Qu. 4 Write note on recent world trade and foreign investment trends.

Ans. World Trade : For quite a long time, global trade has grown faster than word output and the trend is likely to continue in future. Exports of developing countries have been growing faster than those of the developed. The growing faster means growing proportion of the national output is traded internationally.

For more than two and half decade until the oil stock of the early 1970’s there was a tremendous of world trade propelled by the progressive trade liberalization and high growth rates of output. There after there has been a substantial growth of non-tariff barriers and a fall in the growth rates of the developed economies causing a slow down of the pace of trade growth. However, the growth of the world trade has been significantly higher than that of the world output.

A trade growth continued to exceed output growth, the ratio of the world trade in goods and services to world GDP reached 29% in 2000. Since, 1990, this ratio has been increased 10% points, more than in two preceding decades combined.

The first rank in terms of the value of exports had been occupied by US, with Germany and Japan in second and third position respectively, followed by France, UK and Italy in that order. An important aspect of global trade is the large intra-regional trade. India’s share in global exports was 0.4% in 1980. Since around the mid 1980’s there has been a slightly improvement.

Export of developing countries, as a group, has been growing faster than those of the developed countries. As a result their share in the global exports increased very significantly so that their share in world trade exports today is merely 30% while their share in global GNP is about 20%. Many countries have been marginalized by global trading system. The share of the 50 least developed countries (LDC) in the global trade is very dismal about 0.5%. A major part of this is the contribution of a small number among them.


In short, developing countries present a mixed picture of trade performance. On the one side there is a picture of spectacular performance of some countries and on the other there is a dismal presented by many. One is therefore tempted to draw a hypothesis that trade performance has something to do with the domestic economic factors, including the development and trade strategies.Foreign Investment : Foreign investment takes two forms :(1) Foreign Portfolio Investment : It is an investment in the share and debt securities of companies abroad in the secondary market nearly for sake of returns and not in the interest of the management of the company. It does not involve the production and distribution of goods and services. It simply gives the investors, a non-controlling interest in the company. Investment in the securities on the stock exchange of foreign country or under the global depository receipt mechanism is an example.(2) Foreign Direct Investment : It is very much concerned with the operations and ownership of the host country. It is an investment in the equity capital of a company abroad for the sake of the management of the company or investment abroad through opening of branches. It is found inform of :(a) Green-field Investment : It takes place either through opening of branches in foreign countries or through foreign financial collaboration. If the firm buys entire equity shares of a foreign company, the later is known as wholly-owned subsidiary of the buying firm. In case of purchase of more than 50% shares, the later is known as subsidiary of the buying firm. In case of less than 50%, the later is known as equity alliances. General Motors of USA has 20% shares in the equity of the Italian firm Fiat and Fiat maintains 5% shares in equity of General Motors.(b) Merger and Acquisition : M &A are either out right purchase of running company abroad or an amalgamation with a running foreign company. There are three forms of M & A :

(i) Based on corporate structure : Acquisition, where one firm acquire or purchase another firm. Amalgamation, in this two merging firms lose their identity into a new firm that comes into exist representing the interest of the two.(ii) Based on Financial Relationship: It can be vertical, horizontal and conglomerate. In horizontal, two or more firms are engaged in similar lines of activities join hands. Horizontal m & A helps to create economies of scales in occurs among firms involved in different stages of production of a single final product. If oil exploration and refinery firms merge, it will be called a vertical integration. Conglomerate merger involves two or more firms in unrelated activities. There are financial conglomerates where a company manages the financial function of other companies in the group. Similarly, there are managerial conglomerates combining the management of several companies under one roof. (iii) Based on techniques : M & A are either Hostile or Friendly. In the hostile takeovers, the time devoted to negotiations is minimized as much as possible because it is just the discreet purchase of shares of the target company. In friendly takeovers, there are a lot of negotiations. The takeover deal is not disclosed until it is finalised. To this end, the acquiring company signs the confidentiality letter whereby it promises not to disclose the fact to third party. Finally, after the announcement is made to the press, a contract is signed.

Motivation of Merger & Acquision : There are following motives behind M & A :


(a) M & A provides synergistic advantages. For example, when the fixed costs in firm A does not cross the relevant range even after it acquires firm B, the combination will lead to saving of fixed costs that firm B was previously incurring.(b) It enables the overnight growth of firm. At the same time very risk of competition reduces after merger.(c) It reduces financial risks through greater amount of diversitification. More particularly in case of conglomerates, assets of completely differently risk classes are acquired and there are possibilities of negative correlation between the rates of return.(d) It leads to diversification, which raises the debt capacity of the firm. It helps the cost of capital to move downward and raises the value of corporate wealth.(e) The tax savings sometimes leads firms to combine.

In international business, M & A are very common now a day because of above said reasons. However, international M & A sometimes becomes an essential step when the domestic market is saturated and firm is desirous of further expansion for reaping gains from external economies.

Unit – II

Balance of payment accounts and macro economic management; theories and institutions; trade and investment ; govt. influence on trade and investment.

Qu. 5. Define Balance of Payments?

Ans Balance of payments is a statement showing a country’s commercial transaction with rest of the world. It shows outflow and inflow of foreign exchange. The system recordings are based on the concept of double entry book keeping, where the credit side shows the receipt of foreign exchange from abroad and debit side shows payment in foreign exchange to foreign resident.Types : There are three types of payments :(a) Current account Transaction : Current account is a part of BOP statement showing flow of real income or foreign exchange transactions on account of trade of goods and invisibles. The current account records the receipt and payments of foreign exchange in the following way :Current Account receipt (i) Export of goods : The export of goods effect the inflow of foreign exchange into the country. (ii) Invisibles such as services, unilateral transfers and investment income.(iii) Non-monetary movement of gold : This is for industrial purpose and shown in current account, either separately from, or along with, trade in merchandise.Current account Payments(i) Import of Goods import of goods cause outflow of foreign exchange from the country.(ii) Invisibles such as services, unilateral transfers and investment income.(iii) Non-monetary movement of gold : This is for industrial purpose and shown in current account, either separately from, or along with, trade in merchandise.

The debit and credit side of two account are balanced. If the credit side is greater than the debit side, the difference shows the current account surplus. On the contrary, the excess of debit side over the credit indicates current account deficit.


(b) Capital account Transactions : Capital account is a part of BOP statement showing flow of foreign loans / investment and banking funds. Capital account transactions takes place in following ways :Capital account Receipt :(i) Long term inflow of funds(ii) Short term inflow of fundsCapital account Payments ;(i) Long term Outflow of funds(ii) Short term outflow of fundsErrors and Omission : It is also termed as ‘statistical discrepancy’. It is an important item on BOP statement, and is taken into account for arriving at overall balance. Following are some reasons:(a) It arises because of difficulties involved in collecting balance of payment data. There are different sources of data, which sometimes differs in approach.(b) Movement of funds may lead or leg transaction that funds are supposed to finance. For example goods are shipped in march, but the payments are received in April. In this case figures complied on 31 March, will record the shipment that has been sent, but the payment would be recorded in the following year.(c) Certain figures are derived on the basis of estimates. For example, figures for earning on travel and tourism accounts are estimated on the basis of sample cases. If the sample is defective, there is every possibility of error and omission.(d) Errors and omission are explained by unrecorded illegal transaction that may be either on the debit side, or on credit side, or on both sides. Only the net amount is written on the balance of payments. When the country is politically or economically stable, credit balance is normally found because unrecorded inflows of funds occur. The experience reveled that when Iraq invaded Kuwait, the US balance of payments witnessed such flows on credit side.Accommodating Capital Inflows : After the errors and omission is located, the overall balance of payments is arrived at. If the overall balance of payment is surplus, the surplus amount is used for repaying the borrowings from IMF and then the rest is transferred to the official reserve account. On the contrary, if the balance is found in deficit, the monastery authorities arrange for capital inflows to cover up the deficit. Accommodating of capital flow is the inflow of foreign exchange to meet the balance of payments deficit, normally from the IMF.Autonomous capital flow : It refers to flow of loans / investments in normal course of a business. A foreigner paying back the loan or the inflow of foreign direct investment is an apposite example of such inflow. These account goes ‘above-the-line’ while accommodating capital account inflow goes ‘below-the-line’.(c) Official Reserve Account : Official reserve are held by the monetary authorities of a country. They comprise of monetary gold, SDR allocations by the IMF and foreign currency assets. Foreign currency assets are normally held in the form of balance with foreign central banks and investment in foreign government securities. The surplus of balance is transferred to this account. But if the overall balance of payment is in deficit, and if accommodating capital is not available, the official reserve account is debited by the amount of deficit.EQUILIBRIUM, DISEQUILIBRIUM AND ADJUSTMENTEqulibrium : since the BOP is constructed on the basis of double entry book keeping, credit is always equal to debit. If debit on the current account is greater than the credit side, funds flow into the country, which are recorded on the credit side of capital account.


The excess of debit is wiped out. Thus the concept of BOP is based on the concept of accounting equilibrium, that is :Current account + capital account +0The accounting balance is ex post concept that describes what has happened over a specific past period.Disequilibrium : In economic terms, BOP equilibrium occurs when surplus or deficit is eliminated from the balance of payments. In real such equilibrium is not found, rather disequilibrium in the BOP which is a normal phenomenon. There are external economical variables influencing the BOP and giving rise to disequilibrium. Some important variables are :(i) National Output and Spending : If the national income exceeds spending, the excess amount will be invested abroad, resulting in capital account deficit. Excess of spending over income causes borrowings from abroad, pushing the capital account into surplus zone.(ii) Money Supply : Increase in money supply rises the price level and export turn uncompetitive. Fall in export earnings leads to deficit in current account. The higher price of domestic goods makes the price of imported commodities competitive and import rise, leading to enlargement in the current account.(iii) Exchange Rate : If the currency of a country depreciates, export becomes competitive. Export earnings improve. On the other hand import becomes costlier. If as a result import is restricted, the trade account balance will improve. But if imports are not restrained, deficit will appear in the trade account. The net effect depends upon how far the demand for export and import is price elastic.(iv) Interest Rate : The increase in domestic interest rate causes capital inflow in lure of higher returns. Capital account runs surplus. The reverse is the case when the interest rate falls.Adjustments : Disequilibrium becomes a cause of concerns when it is associated with the current account. This is because current account represents shift in real income and at the same time any adjustments in this account is not very easy. If balance of trade is in surplus, its correction is not difficult. The surplus amount is used in meeting the deficit on invisible account or it may be invested abroad. But if the balance of trade is in deficit and the deficit is large, so as not to be covered by invisibles trade surplus, current account deficit will occur. If the deficit on the current account continues to persist, official reserve will be eroded. If a country borrows large amount to meet the deficit, it may fall to a vicious debt trap. This is why adjustment measures are primarily aid at correcting disequilibrium in the trade account.

Qu. 6 Explain theory of Trade and Investment.

Ans. There have been a number of theoretical explanations on international trade and investment.TRADE THEORY : Following are the trade theories: Classical theory : there are two classical theories :(i) Theory of Absolute Cost Advantage : Adam Smith compounded this theory of international trade in 1976. He was of the opinion that productive efficiency differed among different countries because of diversity in natural and acquired resources possessed by them. The theory explains that a country having absolute cost advantage in the production of a product on the account of greater efficiency should specialize in its


production and export. For example, suppose country ‘A’ produces 1 kg of rice with 10 units of labour or it produces 1 kg of wheat with 20 units of labour. Country ‘B’ produces the same amount of rice with 20 units of labour and same amount of wheat with 10 units of labour. Each of countries has 100 units of labour. Equal amount of labour is used for the production of two goods in the absence of trade between them. But when the trade is possible between two countries, ‘A’ will produce only rice and exchange a part of rice output with wheat from country ‘B’. Similarly country ‘B’ will do. The total output of both the countries will rise because of trade.(ii) Theory of Comparative Cost Advantage : This theory is compounded by David Ricardo. The theory explains that a country should specialize in the production and export of a commodity in which it possesses greatest relative advantage. For example, Bangladesh and India, each of the two has 100 units of labour. In Bangladesh, 10 units of labour are required to produce to produce either one kg of rice or one kg of wheat. On the contrary, in India, 5 units are required to produce one kg of wheat and 8 units are required to produce one kg of rice. From the viewpoint of absolute cost advantage, there will be no trade as India possesses absolute cost advantage in the production of both the commodities. But Ricardo is of the view that from the viewpoint of comparative cost advantage, there will be trade, because India possesses comparative cost advantage in the production of wheat. This is because the ratio of cost between Bangladesh and India is 2:1 in case of wheat, while it is 1.25: 1 in case of rice. Because of this comparative cost advantage, India will produce 20 kg of wheat with 100 units of labour and export apart of wheat to Bangladesh. On the other hand, Bangladesh will produce 10 kg of rice with 100 units of labour and export apart of rice to India. The total output of foodgrain in the two rises because of trade.Limitations : Despite of being simple, the classical theory of international business suffers of following limitations :(i) It takes into consideration only one factor of production that is labour. But in real world, there are other factors that play a decisive role in production.(ii) The theory assumes the existence of full employment, but in practical, full employment is not possible.(iii) Theory stress too much on specialization that is expected to improve efficiency. But it is not always the case in real life.(iv) Classical economist feel that resources are mobile domestically and immobile internationally. But neither of the two assumptions is correctSummary : The Classical theory holds good even today insofar as it suggest how a nation could achieve the consumption level beyond what it would in absence of trade.Factor Proportions Theory or Heckschar and Ohlin Model

The theory was compounded by two Swedish economists, Eli Heckscher and Bertil Ohlin. The theory explains that a country should produce and export a commodity that primarily involves a factor of production abundantly available in the country. For example, country ‘A’ has large population and large labour resources. Thus it will be able to produce the goods at a lower cost using a labour intensive mode of production. Country ‘B’ has abundance of capital but is short of labour resources and will specialize in goods that involve a capital intensive mode of production. After the trade, both the countries will have two types of goods at the lest cost. Mr. Samuelson went a few steps ahead saying that in this way the prices of factors of production tend to equalize among different countries. Leontief found in his empirical study that the USA being the capital abundant economy, exported labour intensive goods. But he was of this view that such possibilities


could not be ruled out because the USA was able to produce labour intensive goods in a capital intensive fashion.Neo-Factor proportion Theory

Extending Leontief’s view, some of the economist emphasis on the point that it is not only the abundance of a particular factor, but also the quality of that factor of production that influences the pattern of international trade. The quality is so important in their view that they analysis the trade theory in a three-factor framework :(a) Human capital : It is the result of better education and training. Human capital should be treated as a factor input like physical labour and capital. A country with human capital maintains an edge over other countries with regards to the export of commodities produces with the help of improved human capital.(b) Skill Intensity : The skill intensity hypothesis is similar to human capital hypothesis as both of them explain the capital embodied in human beings. It is only empirical specification that differs.(c) Economies of Scale : It explains that with rising output, unit cost decreases. The producers achieve internal economies of scales. A country with large production possesses an edge over other countries with regards to export. However, a small country can reap such advantages if it produces exportable in large quantities. National Competitive Advantage

The theory is compounded by Porter. This theory explains that countries seek to improve their national competitiveness by developing successful industries. The success of targeted industries depends upon a host of factors that are termed the diamond of national advantage. The factors are :(a) Factor Conditions : It show how far the factors of production in a country can be utilised successfully in a particular industry. This concept goes beyond the factor proportion theory and explains that an availability of the factor of production per se is not important, rather their contribution to the creation and upgradation of products is crucial for competitive advantages.(b) Demand Condition : The demand for the product must be present in the domestic market from the very beginning of production. Porter is of view that it is not merely size of the market that is important, but it is intensity and sophistication of demand that is significant for competitive advantage.(c) Related and Supported Industries : The firm operating along with its competitors as well as its complementary firms gathers benefit through a close working relationship in form of competition or backward and forward linkage.(d) Firm Strategy, Structure and Rivalry : The firm’s own strategy helps in augmenting export. There is no fixed rule regarding the adoption of a particular strategy. It depends on the numbers of factors present in the home country or the importing country.Limitations : There are various criticism put forth against Porter’s theory :(a) There are cases when absence of any factors embodied in Porters diamond does not affect the competitive advantage. For example, when a firm is exporting its entire output, the intensity of demand at home does not matter.(b) If the domestic supplier of input is not available, the backward linkage will be meaningless. (c) Porter’s theory is based on empirical findings covering 10 countries and four industries. A majority of countries in the sample have different economic background and don’t necessarily support the findings. (d) Availability of natural resources, according to Porter are not the only conditions for attaining competitive advantage. And there must be other factors too for it. But in 1985,


some Canadian industries emerged on the global map only on the basis of natural resources.(e) Porter feels that sizable domestic demand must be present for attaining competitive advantage. But there are industries that have flourished because of demand from foreign sales.Summary: Nevertheless these limitations do not undermine the significance of Porter’s theory.INVESTMENT THEORYThere are a number of investment theories. Except for MacDougall hypothesis, investment theories are primarily based on imperfect market conditions. A few of them are based on imperfect capital market.MacDougall-Kemp Hypothesis: Assuming a two-country model- one being the investing and other being the host country and the price of capital being equal, the investment flows from abundant economy to a capital scare economy until the marginal productivity of capital in both the countries are equal or till the returns from investment is greater than the loss of output in home country.Industrial Organisation Theory : The theory is based on oligopolistic or imperfect market in which the investing firm operates. Market imperfection arises in many cases, such as product differentiation, market skills, proprietary technology, managerial skills, better access to capital, economies of scales, government imposed market distortion and so on. Such advantages confer MNCs an edge over their competitors in foreign locations and thus helps in compensate the additional cost of operating in an unfamiliar environment. It refers to technological and similar other advantages possessed by a firm that enable it to produce new and differentiated products.Location Specific Theory : This theory is compounded by hood and Young. It refers to advantages like cheap labour, abundantly available raw material, and so on for the production of a commodity to be established in a particular location or country. Since real wage cost varies among countries, firms with low cost technology move to low wage country. Product Cycle Theory : Raymond Vernon feels that most product follow a life cycle that is divided into three stages :(a) Innovation Stage: It is a stage in the product cycle when the product is in demand because of its new and improved quality, irrespective of its price. The product is manufactured in the home country primarily to meet the domestic demand but a portion of the output is exported to the other developed countries.(b) Maturing Product Stage : At this stage, the demand for the new product grows and it turns price elastic. Rival firms in the host country begin to supply similar product at a lower price owing to lower distribution cost, whereas the product of innovator is costlier as it involves transportation cost and tariff that is imposed by the importing government. Thus to compete with the rival firms, innovator decides to set up a production unit in host country itself which would lead to internationalization of product.(c) Standardised Product ; It is the stage in the product cycle when technology does not remain the exclusive possession of innovator and competition turns stiffer. At this stage price competitiveness becomes even more important and the innovator shifts the production to a low cost location, preferably a developing country where labour is cheap.(d) Denaturing Stage : It is the stage when development in technology or in consumer’s preference breaks down product standradisation. Cheap labour does not


matter at this stage as sophisticated model involves a capital intensive mode of production.Internalization Approach : Buckley and Casson too assumes market imperfection, but imperfection in their view, is related to transaction cost that is involved in intra-firm transfer of intermediate product such as knowledge or expertise. It is internalization benefit is cost free intra-firm flow of technology development by the parent unit.Currency Based Approaches : It is compounded by Aliber. Such theories are normally based on imperfect foreign exchange and capital market. The theory postulates that internationalization of firms can best be explained in terms of the relative strength of different currencies. Firms from strong currency country moves to a weak currency country. In a weak currency country, income stream is fraught with greater exchange risk. As a result the income of strong currency country firm is capitalized at a higher rate.Politico-Economic Theories : These theories concentrate on political risk. Political stability in the host country leads to foreign investments. Similarly, political instability in the home country encourages investment in foreign countries.Modified theories for Third World Firms : Developing country MNCs posses firm specific advantages in form of modified technology. They move abroad also to reap advantages of cheap labour and abundance of natural resources. These firms have long been importing technology from industrialized countries. But since imported technology is mainly designed to cope with a large market, firm export a part of their output after meeting their domestic demand. Unit- III

World financial environment-tariff and non-tariff barriers, forex market mechanism, exchange rate determination, euro-currency market; international institutions (IMF, IBRD, IFC,IDA, MIGA) NBFC’s and stock markets.

Qu. 7 Explain various types of tariff and non-tariff barriers. What are the objectives of these barriers?Ans. International trade is affected by a number of factors including government policies. The government endeavor to promote export and import in many countries are hit by protectionism and trade barriers.Types : There are two types of barriers :(a) Tariff Barriers : Tariff in international trade refers to the duties or taxes imposed on the import traded goods when they cross the national borders. After Second World War, there has been a reduction in the average level of Tariffs in the advanced countries. Tariff rates are generally high in developing countries. With the recent economic liberalization across the world, many developing countries have reduced the tariff as a part of their trade liberalization. in most economies and organisation like WTO prefers tariff to non-tariff barriers because tariff are transparent and less regressive than non-tariff barriers. The developed countries tariff continues to be very strenuously loaded against the developing ones.Characteristic:

Tariff applied on to consumer goods are often higher than on the cheaper goods of luxury version.

There is also tariff escalation, when tariff increases with degree of processing involved in the product.


(b) Non-Tariff Barriers : Non-tariff barriers are new protectionism measures that have grown considerably, particularly since around the beginning of 1980s. The export growth of many developing countries has been seriously affected by non-tariff barriers.Categories of NTBs : (i) Those which are generally adopted by developing countries to prevent foreign outflow or result from their chosen strategy of economic development. These are mostly traditional NTBs like import licensing, import quotas, foreign exchange regulations and canalization imports. (ii) Those which are mostly used by developed countries to protect domestic industries which have lost international competitiveness or which are politically sensitive for government. For example Import Prohibition, Quantitative Restrictions, Variable Levi’s, Multi-Fiber Arrangements, Voluntary Export Restraint and Non-Automatic Licensing. Example of NTBs excluded from the group includes technical barriers (including health and safety restriction and standards), Minimum Pricing Regulations and Use of Price Investigation and Pricing Surveillance.

Qu. 8 Explain the theories of exchange rate determinants.

Ans The theories of exchange rate are divided into following categories :DETERMINANTS OF EXCHANGE RATE IN SPOT MARKET There are following two theories under this category :(a) Process of determination : It is the interplay of demand and supply that determines the exchange rate between two countries in a floating rate-regime. For example, the exchange rate of Indian rupee and the US dollar depends upon the demand for the US dollar and supply of dollar in Indian foreign exchange market. The demand for foreign currency comes from individuals and firms who have to make payments to foreigners in foreign currency, mostly on account of import exchange result, services and purchase of securities. The supply of foreign exchange results from the receipt of foreign currency, normally on account of export or sale of financial securities to the foreigners.

In the following figure, the demand curve slopes downwards to the right because the higher the value of US dollar, the costlier the imports and the importers curtails the demand for higher value of the US dollar makes export cheaper and thereby, stimulates the demand for export. The supply of US dollar increases in the form of export earnings. This why, the supply curve of US dollar moves downwards to the right with a rise in its value. The equilibrium exchange rate arrives where the supply curve intersects the demand curve at Q1. This rate, as shown in the figure, is Rs 40/US $.

S Rs/US$ S1 42 40

D1

D


Q1 Q2 Q3Demand for and supply of US$

If the demand for import rises owing to some factors at home, the demand for the US dollar will rise to D1 and intersect the supply curve at Q2. The exchange rate will be Rs 42/US$. But if the export rises as a result to decline in value of rupee and supply of the dollar increase to S1, the exchange rate will again be Rs 40/US$. So the frequent shifts in demand and supply condition cause the exchange rate to adjust to a new equilibrium.(b) Purchasing Power Parity Theory (PPP) : This theory was compounded by Cassel in 1921. There are two version of this theory :(i) Absolute Version ; The theory suggest that at any point of time, the rate of exchange between two currencies is determined by their purchasing power. If e is the exchange rate and Pa and Pb are the purchasing power of the currencies in the two countries, A and B, the equation can be written as :

e = Pa / Pb

This theory is based on the theory of one price in which the domestic price of any commodity equals its foreign quoted in the same currency. For example, if the exchange rate is Rs 2/US$, the price of a particular commodity must be US $ 50 in the USA if it is Rs 100 in India.

US$ price of commodity x price of US$ = Rupee price of the commodityThe exchange rate adjustment resulting from inflation may be explained further. If the Indian commodity turns costlier, its export will fall. At the same time, its import from the USA will expand as the import gets cheaper. Higher import will raise the demand for the US dollar raising, in turn its value vis-à-vis.Limitation : however this theory holds good if the same commodity are included in the same proportion in the domestic market and world market. Since it is normally not so, the theory faces a serious limitation as it does not cover non-traded goods and services, where the transaction costs are significant.(ii) Relative version : To overcome the limitation of absolute version, this theory has evolved. This version of PPP theory states that the exchange rate between the currencies of two countries should be constant multiple of the general price indices prevailing in the two countries. In other words, the percentage change in the exchange rates should equal the percentage change in the ratio of price indices in the two countries. For example, if India has inflation rate of 5% and the USA has a 3% rate of inflation and if the initial exchange rate is Rs 40/US$, the value of the rupee in two years period will be

e2 = 40[1.05/1.03]2 or Rs 41.75/US$

The theory suggests that a country with a high rate of inflation should devalue its currency relative to the currency of the countries with lower rate of inflation.Assumption : The theory holds good if :

Changes in the economy originate from the monetary sector. The relative price structure remains stable in different sectors in view of the fact

that change in the relative price of various goods and services may lead differently constructed indices to deviate from each other.

There is no structural change in the economy, such as change in tariff, in technology and in autonomous capital flow.


Limitation of PPP : A number of studies have empirically tested the two version of the PPP theory. There are three factors why this theory does not hold good in real life :

The assumptions of this theory do not necessarily hold well in real life. There are other factors such as interest rate, governmental interference and so on

that influences the exchange rate. In 1990, some of the European Countries experienced a higher inflation rate than in the USA, but their currency did not depreciate against dollar in view of high interest rate attracting capital from the USA.

When no domestic substitute is available for import, goods are imported even after their prices rise in the exporting countries.

DETERMINANTS OF EXCHANGE RATE IN FORWARD MARKET Forward exchange rates are normally not equal to the spot rate. There are two

theories :(i) Interest Rate Parity Theory (IRP): The determination of exchange rate in a forward market finds an important in the theory of Interest Rate Parity (IRP). The IRP theory states that equilibrium is achieved when the forward rate differential is approximately equal to the interest rate differential. In other word, the forward rate differs from the spot rate by an amount that represents the interest rate differential. In this process, the currency of a country with lower interest rate should be at forward premium in relation to the currency of a country with higher rate of interest rate. On the basis of IRP theory, the forward exchange rate can easily be determined. One has simply to find out the value of the forward rate (F) in the equation. The equation should be :

F = S/A [1 +rA/1+rB -1] +S

For example, suppose interest rate in India and the USA is, respectively, 10% and 7%. The spot rate is Rs 40/US$. The 90-days forward rate can be calculated as follows :

F = 40/4[1.10/1.07-1]+40

= Rs 40.28/US$

it means a higher interest rate in India will push down the forward value of the rupee from 40 a dollar to 40.28 a dollar.

(ii) Covered Interest Arbitrage : This theory states that if interest rate differential is more than forward rate differential, covered interest arbitrage manifests in borrowing in a country with low interest rate and investing in a country with high interest rate so as to reduce the interest rate differential. For example, suppose the spot rate is Rs 40/US$ and three month forward rate is Rs 40.28/US$ involving a forward differential of 2.8%. Interest rate is 18% in India and 12% in the USA, involving an interest rate differential of 5.37%. Since the two differentials are not equal, covered interest arbitrage will begin. So long as the inequality continues between the forward rate differential and the interest rate differential, arbitrageurs will reap profit and the process of arbitrage will go on. However, with this process, the differential will be wiped out because:

Borrowings in USA will raise the interest rate there. Investing in India shall increase the invested funds and thereby lower the interest

rate there.


Buying rupees at spot rate will increase the spot rate of rupee Selling rupee in forward will depress the forward rate of rupee.

Limitation : The study of Martson shows that the theory held good with greater accuracy in the Euro-currency in view of the fact that there exist ed complete freedom from controls and restrictions. But there are some limitations that as follows:

Since different rates prevails in bank deposits, loans, treasury bills, and so on, the short term interest rate can not be specific and chosen rate can hardly be the definite rate of formula.

Marginal rate of interest applicable to borrowers and lenders differs from the average rate of interest in view of the fact that interest rate changes with successive amount of borrowing.

The investment in foreign assets is more risky than that of domestic assets. There are cases when interest rate parity is disturbed owing to the play of

extraordinary forces which leads to speculation. It is basically the market expectation of future spot that influences the spot rate that influences the forward the forward rate.

The proponents of modern theory feel that it is not only the role of arbitrageurs but of all participants in foreign exchange market, such as traders, hedgers and speculators that influences the forward rate.

Qu. 9 Write short note on Euro-currency, IMF, IDA and IBRD.

Ans. Euro-currency : The growth of Euro-currency market, also known as Eurodollar market, is one of the significant development in the international economic shape after world war-II. Its phenomenon development, though poses problem for the national monetary authorities and international monetary stability, has helped the growth of international trade, transnational corporation and economies of certain countries.Scope : The scope of Euro-currency is as follows :(a) These are financial assets and liabilities denominated in US dollar but traded in Europe. US dollar still predominates the market and most of transactions in the money market of Europe, especially London. But today the scope of market stretches far beyond the Europe and the dollar in the sense that the “Euro-dollar’ transactions are also held also in money markets other than European and currencies other than the US dollar. Interpreted in a currency deposited outside the country of issue. Thus any currency internationally supplied and demanded and in which a foreign bank is willing to accept liabilities and loan assets is eligible to become Euro-currency. It is interpreted this way that dollar deposited with banks in Montreal, Toronto, Singapore, Beirut, etc are also Euro-dollar, so are the deposits denominated in European currencies in the money markets of USA and the above centers.(b) Euro-currency market would be the appropriate term to describe this expanding market. The term Euro-dollar came to be used because the market had its origin and earlier developments with dollar transactions in the European money markets. Despite the emergence of other currencies and the expansion of market to other area, Europe and the dollar still hold the key to the market. Today this term is in popular use.(c) The Euro-currency market, the commercial banks accept interest bearing deposited denominated in a currency other than the currency of the country in which they operate and re-land these funds either in the same currency of a third country. The acquisition of dollars by banks located out side the USA, mostly through the taking of deposit, but also to some extent by swapping other currencies into dollar, and the re-


landing of these dollars, often after redepositing with other banks, to non-bank borrows any where in the world.(d) The currencies involved in Eurodollar market are not in any way different from the currencies deposited with banks in the respective home countries. But the Euro-dollar is out side the orbit of this monetary policy whereas the currency deposited with banks in the respective home country is enveloped by the national monetary policy.INTERNATIONAL MONETARY FUND (IMF)It was created in 1945 to help and promote the health of world economy. It has its Headquarters in Washington DC. It is governed by and accountable to the governments of 184 countries. It was conceived at a United Nations conference in Bretton Woods, New Hampshire, US in July 1944. the 45 countries govt represented at that conference and sought to build a framework for economic cooperation that would avoid a repetition of the disastrous economic policies that had contributed to great depression in 1930s.About IMF :

Current membership : 184 countries Staff : approximately 2680 from 139 countries. Total Quotas : $321 Billion (as of 31/8/2005) Loans Outstanding: $71 billion to 82 countries, of which $10 billion to 59 on

concessional terms. Technical Assistance provided: 381 person year during FY 2005 Surveillance consultations concluded: 129 countries during FY-2005, of which

118 voluntarily published information on their consultation.Responsibilities of IMF : The main responsibilities of IMF as per article 1 of ‘Article of Agreement’ are as follows :

To promote international monetary cooperation. Facilitating the expansion and balanced growth of international trade To promote exchange stability. Assisting in the establishment of multilateral system of payments. T make its resources available to members experiencing balance of payments

difficulties.IMF Activities : (a) Promote Global Growth And Economic Stability : The IMF works to promote global growth and economic stability and thereby prevent economic crisis by encouraging countries to adopt sound economic policies. (b) Help In Recovery : Whenever member countries experience difficulty to finance their balance of payments, the IMF is the fund that can be tapped to help in recovery.(c) Reduce Poverty : The IMF is also working actively to reduce poverty in countries around the globe, independently and in collaboration with World Bank and other organisations.(d) Poverty Reduction strategy Papers : In most low-income countries, these papers are prepared by country authorities in consultation with civil society and external development partners to describe comprehensive economic, structural and social policy framework that is being implemented to promote growth and reduce poverty in the country.IMF Governance and Organisation : The IMF is accountable to the governments of its member countries. At apex of its organizational structure is its Board of Governors that consists of one Governor from each of the IMF’s 184 countries. All Governors meet once each year at IMF-World Bank Annual Meeting, 24 of Governors sit on The International Monetary and Finance Committee (IMFC) and meet twice each year. The day-to-day


work of the IMF is conducted at Washington DC headquarters by its 24-members Executive Board. This work is guided by the IMFC and supported by the IMF’s professional staff. The Managing Director is Head of IMF staff and Chairman of Executive Board and assisted by three Deputy Managing Directors.INTERNATIONAL DEVELOPMENT ASSOCIATION (IDA)It is an affiliate of IBRD. It was established in 1960 to provide assistance for the same purpose as the IBRD, but primarily in the poorer developing countries and on terms that would bear less heavily on their balance of payments than IBRD loans. IDA’s assistance is therefore concentrated on the very poor countries.

The funds used by IDA, called credits to distinguish them from IBRD loans, come mostly in the form of subscriptions, general replenishment from IDA is more industrialized and developed members and transfers from the net earnings of the IBRD.

The term of IDA credits that are made to governments only, are ten years grace period, fifth year maturities and no interests. The IDA provides soft loans to member countries. Its object is to provide loan to member countries on liberal terms in so far as these relate to the rate of interest and the period of repayment. Another attraction of Ida loans is that they can be repaid in currency of member countries.

Developing countries can avail themselves of IDA loans on very liberal terms for projects which are not eligible for assistance from the World Bank either because loans for such projects do not carry the guarantee of the government of the borrowing country or because such projects do not contribute directly and immediately to the productive capacity of the borrowing country. IDA Credit Approval : In approving an IDA credit following criteria are observed :(a) Poverty Test : IDA’s assistance is limited to poorest countries and which continue to face such severe handicap as excessive dependence on volatile primary product market, heavy debt servicing burdens and often rate of population growth that outweighs the gains of production.(b) Performance Test : Within the range of difficulties of establishing objectives standards of performance, these factors serve as the yardstick for an adequate performance test. Satisfactory overall economic policies and past success in project execution.(C) Project Test : The purpose of IDA is to advance soft loans , not finance soft projects. IDA projects are appraised according to the same standard as that applied to bank projects. The test essentially requires that the proposed projects yield financial and economic returns, which are adequate to justify the use of scare capital.IBRD OR WORLD BANK The international Bank for Reconstruction and Development (IBRD) or the World Bank, one of the Bretton Woods Twin, was established in 1945. The IBRD has two affiliates the International Development Association (IDA) and International Finance Corporation (IFC). The IBRD whose capital is subscribed by its member countries, finance its lending operation primarily from its own borrowings in the world capital market. A substantial contribution to the bank’s resources also comes from its retained earnings and the flow of repayments on its loan. IBRD loans generally have a grace period of five years and are repayable over twenty years, or less. They are directed towards developing countries at more advanced stages of economic and social growth. The interest rate that IBRD charges on its loan is calculated in accordance with a guideline to its cost borrowing.Purpose : The purpose of banks as laid down in its articles of agreement, are as under :

To assist in reconstruction and development of the territories of the member countries by facilitating the investment of capital for productive purpose.


The restoration of economies destroyed by war, the reconversion of productive facilities to peace time needs and the encouragement of the development of productive facilities and resources in less developed countries.

To promote private foreign investment by means of guarantee or participation in loans and other investments made by private investors.

When private capital is not available on reasonable terms, to supplement private investment by providing on suitable conditions.

Finance for productive purposes out of its own capital funds raised by it and other resources.

To promote the long range balanced growth of international trade and the maintenance of equilibrium in the balance of payment, by encouraging international investment of the productive resources of members, thereby assisting in raising productivity, the standard of living and conditions of labour in the territories.

Policy : The bank is guided by certain policies which have been formulated on the basis of the article of Agreement :(a) The bank should properly assess the repayment prospects of the loans. For this purpose it should consider the availability of natural resources and existing productive plant capacity to exploit the resources and operate the countries past debt record.(b) The bank should lend only for specific projects, that are economically and technically sound and of a high priority nature. As a matter of general policy, it should concentrate on lending for projects which are designed to contribute directly to productive capacity, normally does not finance projects that are primarily of social character such as education, housing etc.(c) The bank lends only to enable a country to meet the foreign exchange content of any project cost, it normally expects the borrowing country to moblise its domestic resources.(d) The bank does not expect the borrowing country to spend the loan in a particular country, in fact it encourages the borrowers to procure machinery and goods for bank finance in the cheapest possible market consistent with satisfactory performance.(e) It is the banks policy to maintain continuing relations with borrowers with a view to check the progress of projects and keep in touch with financial and economic developments in borrowing countries. This also helps in the solution of any problem that might arise in the technical and administrative fields.(f) The bank indirectly attaches special importance to the promotion of local private enterprises.

Unit-IV

Regional blocks and trading agreements; global competitiveness; global competition, HRD development, social responsibility; world economic growth and physical environment.

Qu.10 What do you mean by regional blocks? Explain trading agreements between different countries.Ans. There has been a proliferation of regional economic integration schemes or trade blocks, designed to achieve economic, social and political purposes. The term economic integration is commonly used to refer to the type of the arrangements that removes artificial trade barriers, like tariffs and quantitative restrictions, between the integrating


economies. More than one third of world trade already takes place within the existing RIAs. There are also a number of other international cooperation schemes.Benefit : The expected benefits from RIA includes :(a) Efficiency improvements due to economies of scales arising out of enlarged market. (b) Enhanced bargaining strength of members in multilateral trade negotiations. (c) Promotion of regional infant industries.(d) Prevention of further damage to trading strength due to further trade diversion from third countries.(e) Ensure increased security of market access for smaller countries by forming regional trading blocks with larger countries.(f) To peruse non-economic objectives such as strengthening political ties and managing migration flows.Types : It is used to refer the types of arrangements that removes artificial trade barriers, like tariffs and quantitative restrictions between integrating economies. Following are the few types of integration :(a) Free trade Area : in this free trade is carried out among members.(b) Custom Union : Beside free trade among members, common external commercial activities are also occurs in this type.(c) Common Market : Free trade, common external commercial activities and free mobility within the market.(d) Economic Union : Free trade, common external commercial activities, free mobility within the market and harmonized economic policy.(e) Economic Integration : Free trade, common external commercial activities, free mobility within the market, harmonized economic policy and supranational organizational structure.Examples : Industrial and Developing economies such as European Union (EU), The North American Free Trade and Agreement (NAFTA) and Asia Pacific Cooperation (APEC). Latin American and Caribbean.

Qu. 11 What is global competitiveness? What factors determines the competitiveness of a country?

Ans. Global competitiveness is defined as “the ability of a national economy to achieve sustained high rates of economic growth on the basis of suitable policies, industrial and other economic characteristics”.Factors Determining Competitiveness : Following are some factors that determines the global competitiveness of a country :(a) Openness : This factor measures openness to foreign trade and investments, foreign direct investment and financial flows, exchange rates policy and ease of exporting.(b) Government : This factor measure the role of the state in the economy. This includes the overall burden of govt expenditure, fiscal deficit, rates public saving, marginal tax rates and the overall competence of the civil service.(c) Finance : Finance measures how efficiently the financial intermediaries channels savings into productive investments, the level of competition in financial market, the perceived stability and solvency of key institutions, level of national saving and investment and credit ratings given by outside observers.(d) Infrastructure : It measures the quality of roads, railways, ports, telecommunications, cost of air transportation and overall infrastructure investments.


(e) Technology : This factor measures computer uses, the spread of new technology, the ability of the economy to absorb new technologies and the level and quality of research and developments.(f) Management : Management measures overall management quality, marketing, staff training and motivation practice, efficiency of compensation schemes and the quality of internal financial control system.(g) Labour : This factor measures the efficiency and competitiveness of the domestic labour market. It combination of the level of country’s labour costs relative to international norms, together with measures of labour market efficiency, the level of basic education and skills and the extent of distortionary labour taxes.(h) Institutions : This factor measures the extent of business competition, quality of legal institution and practice, the extent of competition and vulnerability to organised crime.


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INTERNATIONAL BUSINESS ENVIRONMENT & MANAGEMENT

Intrnational business environment

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