Competing in the Global Arena

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Competing in the Global Arena

• Dr. A. Sybrandy
• RITI 2005
• V

2
Environmental Hierarchies
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Global Environment

• More complex than domestic environment alone.
  Study three environments
• Home Country Environment
• Foreign (Host) Country Environment
• International Environment
• Two levels of study
• Micro (e.g., individual firms, consumers)
• Macro (e.g., regional or national system)

4
Economic Links
5
Categories of World Trade
6
General Types of Trade Theories

• Descriptive the natural order of trade
• Laissez-faire conditions
• Which products, how much, and with whom a country
  will trade in the absence of restrictions
• Prescriptive questions whether or not
  governments should interfere with the free
  movement of goods and services

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International Economics

• Mercantilism
• Absolute advantage theory (Adam Smith)
• Comparative advantage theory (Ricardo)
• Factor Endowment theory (Heckscher Ohlin,
  Samuelson)
• International Product Life Cycle (Vernon)
• Porters extension of comparative advantage

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Mercantilism (1500-1750)

• The power and strength of a nation increase as
  the amount of gold it holds increases
  (Bullionism).
• Limit imports and promote exports in order to
  create a favorable balance of trade.
• Have the govt control all intl trade to achieve
  the above objective (Nationalism).

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Mercantilism Concepts

• Favorable balance of trade country is exporting
  more than it is importing
• Unfavorable balance of trade country is
  importing more than it is exporting, i.e. a trade
  deficit
• Neomercantilism current term to describe the
  approach of countries that try to run favorable
  balances of trade to achieve some social or
  political gains

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Mercantilism - Problems

• Adam Smiths Invisible Hand (1776) leads to
  laissez-faire policies.
• Gold is a non-productive investment.
• Price-Specie flow theory -- Monetarism
• Still held in a sense witness the discussion
  regarding trade imbalance in trade of U.S. with
  China and others.

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Price-Specie Flow Theory

• The amount of gold in the economy determines the
  price-level.
• M x V k x P
• M Money supply (amount of gold)
• V Velocity (how often the gold changes hands)
• k A constant
• P Price level
• Given k V, M x 2 gt P x 2

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Automatic Adjustment Mechanism

• Suppose Exports gt Imports.
• Amount of gold in the economy increases.
• Thus, price level goes up.
• Higher prices make exports less attractive to
  foreigners, therefore exports decrease.
• More gold makes imports cheaper, therefore
  imports increase.
• I am now moving towards a balanced trade
  situation.

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Absolute Comparative Advantage

• Adam Smith proposed that country A would export
  that good to country B in which it had an
  absolute advantage (cheaper production).
• When A B have absolute advantages in different
  sectors then both will gain from trade.
• Refined by Ricardo, who showed that only
  comparative (relative) advantages are necessary
  for trade to be beneficial.

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Country Specialization

• Under the concept of absolute advantage countries
  could increase efficiency because
• Labor could become more skilled by repeating the
  same tasks
• Labor would not lose time in switching from the
  production of one kind of product to another
• Long production runs would provide incentives for
  the development of more effective working methods

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Natural Advantage

• Countries have inherent advantages
• Climate
• Natural resources
• Labor forces
• Two countries that have opposite natural
  advantages should favor trade with one another

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Acquired Advantage

• Most contemporary trade is manufactured goods and
  services rather than agricultural goods or
  natural resources
• Countries with an acquired advantage produce
  manufactured goods and services competitively
• Product technology
• Process technology

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Absolute Trade Advantage
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Comparative Advantage

• There are still global gains to be made if a
  country specializes in products it produces more
  efficiently than other products
• Regardless of whether other countries can produce
  those same products even more efficiently

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Comparative Advantage

• Sri Lanka costs
• Tea 10
• Wheat 10
• United States costs
• Tea 5
• Wheat 4
• Each has 100 unitsof resources
• Note that U.S. is cheaper for both products!

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Comparative Advantage

• Sri Lanka cost of1 ton of wheat 1 ton of
  tea ? 1/1
• U.S. cost of 1 ton of wheat 1.25 ton of
  tea ? 5/4
• Sri Lanka has a comparative (relative) advantage
  for Tea.

• No trade, half and half allocation of resources
• Sri Lanka
• Tea 5 Wheat 5
• United States
• Tea 10 Wheat 12½
• Total world output
• Tea 15 Wheat 17½

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Comparative Advantage

• Sri Lanka specializes in Tea, it has the
  comparative advantage, and produces 10 units. The
  U.S. now needs to produce 5 units to keep world
  output of tea the same.

• Sri Lanka
• Tea 10 Wheat 0
• United States
• Tea 5 Wheat ?
• Tea takes 5 x 5 25 resources, which leaves 75
  for wheat!
• Wheat 75/4 18.75
• Total world output
• Tea 15 Wheat 18.75
• 1.25 more wheat due to specialization and trade

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Comparative Advantage Basic Assumptions

• Full employment (Hidden unemployment!)
• Economic efficiency is sought (Policy)
• Division of gains (Absolute/Relative)
• Two countries/two commodities (can expand!)
• Transportation costs (May be barrier!)
• Mobility (structural unemployment)
• Statics and dynamics (technology change)
• Services (need factors of production too)
• Country size/variety of resources

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Factor Endowment Theory

• This theory attempts to explain why a country
  would have a comparative advantage in producing
  certain goods.
• Assumption is that different products use the
  factors of production (Capital Labor) in
  different proportions.
• If a country has relatively more Capital, it will
  export capital intensive goods, and vice versa.

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Factor Proportions

• Land-labor relationship
• Labor-capital relationship
• Technological complexities

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Production Possibility Frontier
Y
P
T
P
T
X
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Community Indifference Curve
Y
I2
I1
I0
P
X
P
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Autarky
I2
P
Y
I1
T
I0
P
T
X
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International Trade
Y
Pw
I1
I0
Ay
I1
Export
Cy
I0
Pw
(Ay - Cy) Pw(y) (Cx - Ax) Pw(x) Export
Revenue pays for Imports
X
Imports
Ax
Cx
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Both Countries
I2
Y
I1
Pw
I2
I1
X
Pw
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Assumptions UnderlyingThe Model

• Only two countries, two commodities, and two
  factors of production.
• Production functions are linearly homogeneous.
• There are no factor intensity reversals.
• Both countries are incompletely specialized, both
  before and after trade opens up.
• Factor supplies are given and do not grow.
• Perfect competition in all markets.
• No costs of transportation and information.
• Governments do not interfere with free trade.

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Intraindustry Trade

• Most trade occurs among developed nations (the
  triad), why? (opposite expectation from theory of
  intl trade).
• Costs of information and transportation.
• Governments distorting markets.
• Factor (intensity) reversals (Leontief).
• Marketing (demand) factors.
• Regional Groupings.

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Product Life Cycle Theory

• Production Location
• Market Location
• Competitive Factors
• Production Technology

• Introduction
• Growth
• Maturity
• Decline

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InternationalProduct Life Cycle

• Describes patterns of trade for nations and firms
  as conditions of costs, technology, and demand
  change over time.
• U.S. firms initially produce high-tech products
  for domestic market and export.
• Production starts in other advanced nations, U.S.
  exports decline.
• Production in developing nations starts as
  product becomes standardized, U.S. becomes a net
  importer.

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Limitations of Product Life Cycle Theory

• Products with extremely short PLCs
• Luxury products where cost may be of little
  concern
• Businesses with products that follow a
  differentiation strategy
• Products that require specialized technical labor
  for subsequent generations

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Regional Economic Integration Logic

• Distance goods need to travel between countries
  is short
• Consumers tastes are likely to be similar
• Distribution channels can be easily established
  in adjacent countries
• Neighboring countries may have common history and
  interests

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Looking to the Future

• Protectionist sentiment is growing
• Economies are growing, therefore efficiencies of
  multiple production locations grow
• Flexible, small-scale production methods are on
  the rise (robotics/automation processes)
• Services are growing faster than production in
  industrial countries

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Porters DiamondGlobal Competitive Advantage