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INTERNATIONAL BUSINESS

ENVIRONMENT(Political Economy of International Business)

Session 5

International Business and National

Business Systems

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Learning goals

Understand the importance of economic analysis of foreign markets

Identify the major dimensions of international economic analysis

Compare and contrast macroeconomic indicators

Profile the characteristics of the types of business systems

Determine opportunity and risk variables a company should consider when deciding whether and where to expand abroad

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COUNTRY ANALYSIS – PURPOSE AND TOOLS

Section 1

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Country analysis - Purpose

Host country's business environment

Potential/attractivenessSize of the economy, growth potential, demography, income distribution, labour

market, ...

RisksPolitical, legal, economic

CostsLabour, transport, transaction, ...

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EIU's business environment rating

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Country attractiveness: M. Porter's diamond

Firm strategy, structure and rivalry

Demand conditions

Related and supporting industries

Factor endowments

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The Global Competitiveness Index

http://www.weforum.org/en/initiatives/gcp/Global%20Competitiveness%20Report/index.htm

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The economic freedom Index

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Various types of country risk

Political riskRisk that political decisions or events

negatively affect a business profitability or sustainability

Economic riskChange in the state of economy that will

result in lower incomes or higher expenditures than expected

Legal riskArises from an uncertainty in legal action or in the applicability or interpretation of

contracts, laws or regulations

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COFACE's country risk rating

Political and institutional instability

Growth vulnerability

Foreign currency liquidity crisis

External over indebtedness

Sovereign financial vulnerability

Banking sector's fragilities

Companies' payment behaviour

French COFACE: http://www.trading-safely.com/

http://www.trading-safely.com/sitecwp/ceen.nsf

Caux Roundtable: http://www.cauxroundtable.org/countryprofilescountries.htm

Ratings: A1 – A2 – A3 – A4 – B – C – D

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COUNTRY RISK AND NATIONAL BUSINESS

SYSTEMS

Section 2

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Political economy and country attractiveness(CW Hill)

The overall attractiveness of a country as a potential market and/or investment site for an international business depends on balancing the benefits, costs, and risks associated with doing business in that country

Other things being equal, the benefit-cost-risk trade-off is likely to be most favorable in politically stable developed and developing nations that have free market systems and no dramatic upsurge in either inflation rates or

private sector debt

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The political economy of nations

The political economy of a nation refers to how the political, economic, and legal systems of a country are interdependent; they interact and influence each

other, and in doing so they affect the level of economic well-being

Political systemSystem of government

Legal systemRules that regulate behaviour and

processes by which they are enforced

Economic systemAllocation of resources and wealth in the

national community

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Political and legal risks in a nutshell

Political and legal environments

Stability TransparencyRespect of

contractual rules

... by private andpublic players

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Various types of political systems (Daniels & Radebaugh)

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Political systems and political ideology

Emphasis of political systems

Individualism

Totalitarianism

Collectivism

Democracy

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Political systems in Europe

All EU-27 MS are representative democracies (Copenhagen criteria)

Greece, Portugal, Spain, Romania are former dictatorships

Central European countries are former totalitarian/socialist regimes .

Other European countries are either democracies or on the way to

democracy.

Belarus remains the only European dictatorship

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Political systems: business implications

Human rights

Product safety

Worker safety

Environmental protection

Corruption and bribes

Government regulations

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Political risks: details (Rugman)

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Example: corruption in Bulgaria

By almost any measure, Bulgaria is the most corrupt country in the 27-member European Union. Since it joined last year, it has emerged as a cautionary tale for

Western nations confronting the stark reality and heavy costs of drawing fragile post-Communist nations into their orbit, away from Russia’s influence.

European Union membership has done little to tame the criminal networks in Bulgaria. […] The European Union, eager to improve the lives of the 7.5 million Bulgarians, has

promised 11 billion euros, or nearly $15 billion, in aid. Far from halting crime and violence, the money effectively spread the corruption. Once Bulgaria’s shady

businessmen realized how much European Union money was at stake, said many of Sofia’s advocates for reform, they moved from buying off politicians to being directly

involved in politics themselves. […]

The nation’s homegrown mobs of men in black — the “mutri,” or mugs — control construction projects in city halls. And questionable business networks have moved

from declining black markets for smuggled cigarettes and alcohol to legal investments in booming real estate.

New York Times, 16 October 2008

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Legal systems

Mixed systems

Theocratic law

Based on religious teaching

Civil law

Based on detailed set of laws organized into

codes

Common law

Based on tradition, precedent, and custom

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The European case

Continental Western European countries' legal systems are based on civil law (Roman-Germanic origin, Napoleonic legacy)

British islands' systems are based on common law

Central European systems are mostly based on civil law but tend to blend elements of common and civil law (mixed systems)

Most European countries are secular, whether de jure (France, Turkey) or de facto (Germany, Britain).

The religion and the Church still play a key political and social role in countries like Ireland, Italy, Poland (Catholic Church), or Greece (Orthodox church)

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Key legal issues for international business

Contract law

Competition law

Employment law

Management and labour relations

Product safety and liability

Property rights (incl. intellectual property)

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Legal risks: details

Contractual risks in overseas markets

Protection of intellectual property

Liability for injuries or defective products, and subsequent litigation

Infringement of data protection requirements

Corruption in dealings with local officials

Specific regulations related to trade, foreign ownership, environment, competition

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Market economy Command economy

Transition economy Mixed economy

Economic systems

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A variety of market economies ...

Laissez-faire

Entrepreneurial, individualistic culture

Limited government intervention in markets

Little state ownership

Social legislation as a "safety net"

Corporate governance based on shareholder

value

Social market

Bureaucratic regulation of business

Significant state involvement in economy

Closed system of corporate control, little takeover

market

Extensive social welfare programmes

Corporate governance based on social priorities

Asian

Bureaucratic regulation of business

Strong state intervention

Corporate culture based on the company as family

Weak welfare-state provisions

Groups of companies, formal and informal, act as

barriers to new entrants and barriers to takeovers

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Economic transition: from plan to market

Since the end of the 1980s, most command economies have experienced the spread of democratic systems and the transformation from centrally-planned into market-based economies, that is :

Deregulation

Remove legal restrictions

Encourage the free play of market systems

Allow establishment and operations of private firms

Privatization

Transfer of ownership of state owned enterprise to private individuals

Provide new private owners with profit incentive

Legal Systems

Laws that protect property rights and contracts

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European economic systems

All EU-27 MS are mixed economies, combining market mechanisms and various levels of government intervention. The role of the government has been diminishing and changing over the last 20 years.

Central European economies are former command economies.

Most other European countries (except for Belarus) are said to be "transitional" economies

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Economic risks

Change in the state of economy that will result in lower incomes or higher expenditures than expected

Economic mismanagement(related to political risk)

Economic downturn

(exogenous vs. endogenous shocks)

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Economic crisis, social and political unrest

Reykjavik, Iceland, 21 January 2009: Protesters burn an effigy of the Icelandic prime minister, Geir Haarde, during a demonstration over the handling of the financial crisis

Kulata, Bulgaria, 27 January 2009: A man walks past a line of trucks as they wait to

cross the border into Greece. Bulgaria requested "urgent help" from the EU the

day before to help reopen border crossings shut for nearly a week by Greek farmers

protesting against low food prices

http://www.guardian.co.uk/world/gallery/2009/jan/31/credit-crunch-protest-europe

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Government and economic management

A government is the body within a community, political entity or organization which has the authority to make and enforce rules, laws and regulations

Economic policies are measures taken by a government that aim to influence the economy in order to achieve various objectives

Economic growth

Full-employment

Price stability

External account balance

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Economic policies

Structural policies aim to influence the long-term conditions of economic activity, generally by means of regulation

Competition policy

Other market regulation policies (financial, labour)

Industrial policy (loans, subsidies)

Education and research policies

Trade policy (see previous sessions)

Macroeconomic policies consists of the triad of fiscal, monetary and exchange rate policy

Fiscal policy: management of government spending and revenues

Monetary policy: management of interest rates and money supply

Foreign exchange policy: exchange rate management (see previous sessions)

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Business implications

Businesses can benefit direct or indirectly from government spending

Monetary policies affect global demand and the cost of investment

Foreign exchange policy affects competition on the domestic and global markets

Government policy can also:

→ Affect demand through product standards

→ Influence rivalry through regulation and antitrust laws

→ Impact the availability of highly educated workers and advanced transportation infrastructure

Governments finally provide support through advisory bodies, especially for small businesses

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Fiscal policy debates

Keynesian multiplier effect : expansionary fiscal policy will have a positive impact on aggregate demand (DY = kDG; k = [1/(1-c)])

Monetarist theory: excess public spending will only fuel inflation (M*V = P*Q)

Ricardo's equivalence: tax cuts or increased public spending will not affect consumers' spending as the money will be saved in anticipation of future tax rise

Crowding out effect: additional government spending will be funded through government borrowing, that will lead to higher interest rates and capital shortage on lending markets

Snowball effect: increased public spending will generate a growing public debt and further public spending

Laffer curve: tax rise (cuts) will negatively (positively) affect tax revenues: "too much tax kills the tax"

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Fiscal policy debates : tax competition

Tax competition is a government strategy aiming to attract foreign direct investment and high value human resources by minimizing the overall taxation level and/or providing special tax preferences, thus creating a national competitive advantage

The consequences of (harmful) tax competition have been subject to debate:

It has been argued that tax competition is carried out at the expense of those countries where high tax levels are used to fund high levels of transfer payments and infrastructure development

Tax competition is also criticised for putting governments under harmonisation pressure and creating a "race-to-the-bottom" context

For tax competition partisans, the pressure exerted on government will push them to "reengineer" national tax systems and make them more efficient.

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Fiscal policy debates : the stimulus dilemma

[…] a purely political headache […] explains some of Europe’s resistance to fresh stimulus plans. Many EU governments face the same sources of pain: rising unemployment and a corresponding rise in welfare bills, falling tax receipts, soaring deficits and public debt. If they are lucky and come up with the right

stimulus packages, this pain could lead to gain, through a return to sustainable growth. But here is the catch: all the sources of pain are national, yet the

potential gains are all international.

Individual EU governments set their own (very different) tax rates and run their own (equally diverse) welfare systems. Unemployment is a national problem.

National public accounts will end up groaning under the weight of public debt. But thanks to the EU’s single market, the gains from a return to growth will not remain within one country’s borders, nor will that growth be controlled by any

one government. Such paradoxes make many national politicians anxious.http://www.economist.com/research/articlesBySubject/displaystory.cfm?subjectid=3856661&story_id=13325391

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The fiscal stimulus dilemma (ctd)

Extra growth Germany

Stimulus package No stimulus package

Other European countries

Stimulus package5

5

2

-2

No stimulus package

-2

2

0

0

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The sovereign debt issue

Loose fiscal policy

Budget deficit

Public debt

Inflation Snowball effect

Payment default

Crowding out effect

interest rates

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Sovereign debt ratings

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Monetary policy debates

A discretionary monetary policy is a monetary policy that is based on the judgments of the policy makers about the current needs of the economy

Monetarist economists believe that fluctuations in the quantity of money are the main source of economic fluctuations and therefore advocate that the quantity of money grow at a constant rate (fixed-rule policy)

Keynesian activists believe that fluctuations in investment are the main source of economic fluctuations: they support the idea of a "feedback-rule" monetary policy that changes money supply or interests rate in response to the state of the economy

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Political vs. economic risk: the Ukrainian case

IMF Ukraine mission chief Ceyla Pazarbasioglu, left, and Ukraine's Prime Minister Yulia Tymoshenko talk during a Kiev news conference in July [2009].

A $10.6 billion bailout from the International Monetary Fund has pulled Ukraine back from what many feared was near-default this spring. But with

fiercely contested presidential elections set for January, the next big economic risk looks to be political as potential candidates fight over economic policy.

http://online.wsj.com/article/SB125244740974493607.html