unit 1international business

8/2/2019 UNIT 1INternational Business

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Introduction & Overviewof

International Business

Unit-1


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Contents

Introduction:

Definition

Features of IB

International business Vs domestic business Why international business?

Advantages of IB

Drivers of growth of IB

Modes of IB Theories of Trade

Classical theories

Modern theories


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What is International business?

IB is all commercial transactionsprivate and governmental betweentwo or more countries.

Business activity may involve:

Transfer of goods,services, resources,knowledge, skillsor informationacrossnational boundaries with a view tosatisfying needs of individuals,organizationsand governments.


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Features of IB

International business relates to transactions involving morethan one country.

Scope of international business is very vast. Scope exists toexchange goods

Services (accounting, legal services, healthcare, managementconsultancy, banking, insurance, transportation, tourism)

Transfer of knowledge( technology, innovation, intellectualproperty rights),

Other resources( materials, capital , people) ,

Skills (managerial skills),

Information,

People.


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Why do companies do IB ?

Domestic market saturated.

Increase market size and extend productlife cycle.

To acquire resources.

To minimize risk.

Economies of scale.Enhance your return on invested capital.

Enhance location advantage for suppliers

n customers.


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IB Vs Domestic Business :

When a company operates internationally,foreign conditions are added to domestic onesmaking external environment more diverse n

complex.i. IMMOBILITY OF FACTORS

ii. DIFFERENCES IN NATURAL ENDOWMENTS

iii. DIFFERENT CURRENCIESiv. BALANCE OF PAYMENT PROBLEM

v. MARKET CONDITIONS

vi. PRODUCT MOBILITY


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IB Vs Domestic Business :

vii. HIGH TRANSPORT COST

viii. SHARING OF GAINS OF TRADE

ix. DIFFERENT TRADE POLICIES

x. DIFFERENT ECONOMIC ENVIRONMENT

xi. LINGUISTIC & CULTURAL DIFFERENCES

xii. SPECIFIC PROBLEMS


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ADVANTAGES OF IB

i. MAXIMISATION OF WORLD OUTPUT

ii. INCREASED FACTOR INCOME

iii. CHEAP IMPORTS

iv. PREVENTS MONOMPOLISTIC EXPLOITATIONv. OPTIMISATION OF CONSUMPTION

vi. WIDENS MARKETS

vii. ENCOURAGES INNOVATION

viii. DEVELOPS INFRASTRUCTURE

ix. PROMOTES INTERNATIONAL COOPERATION

x. PROMOTES ECONOMIC DEVELOPMENT


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Reasons for growth ofIB

Rapid increase in communication & expansionof technology.

Liberalization of cross-border movement of trade

& resources. Development of supporting services.

Consumer pressure.

Increase in global competition.

Large number of trading blocs are adding to thepace of IB.

MNCs : locating their subsidiaries in low wage nlow cost countries to lower production costs.


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Modes of IB

Merchandise exports & imports.

Service exports and imports.

Tourism and transportation

Banking , insurance

Turnkey operations

Management contracts

Use of assets: LICENSING &FRANCHISING (Patents, trademarks,copyrights, etc.)


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Modes of IB

INVESTMENTS

Joint venture

Wholly owned subsidiary ( Greenfieldinvestment, acquisition)

Portfolio Investments


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International trade theories

Why should the business firms of onecountry go to another country, when theindustries of that country also produce

goods?

What is the basis of IB?

A number of theories have beendeveloped to explain the basis of IB.


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1500 1600 1700 1800 1900 2000

MERCANTILISM

ABSOLUTE ADVANTAGE

COMPARATIVE ADVANTAGE

FACTOR PROPORTIONS THEORY

INTERNATIONAL PRODUCT LIFE CYCLE THEORY

NATIONAL COMPETITIVE ADVANTAGE


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CLASSICAL TRADE THEORIES

MERCANTILISM

ABSOLUTE ADVANTAGE

COMPARATIVE ADVANTAGE

MODERN TRADE THEORIES

INTERNATIONAL PLC NATIONAL COMPETITIVE ADVANTAGE


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MERCANTILISM

Between 1600 & 1800, most of WesternEurope pursued mercantilism.

What was mercantilism?

Belief that exports should exceedimports.

Bullionism: belief that the economic

health of a nation was measured by theamount of precious metals ( gold &silver) it possessed.


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MERCANTILISM

Colonialism: colonies were viewed assources of raw materials.

Heavy govt. control of trade, with thegoals of trade being goals ofgovernments.


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MERCANTILISM: CRITICISM

It viewed trade as a zero sum game.

It measured wealth of a nation by stock ofprecious metals, today we measure wealth by

a nations stock of human , man-made andnatural resources, available.

Govt. resort to subsidizing exports and puttingrestrictions on imports to build surplus.


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Theory of Absolute Advantage

Producing a good with fewer , labor,land, raw material etc.) per unit ofoutput than other countries

If input prices are the same in twocountries, the country with an absoluteadvantage in a good will have a lowerunit cost of production for that good.


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ADAM SMITH, The Wealth ofNations, 1776.

A country should produce and export

products in which it has an absoluteadvantage.

A country should import products in

which it has an absolute disadvantage.Theory viewed trade as a positive sum

game.


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..contd.

ASSUMPTIONS

i. It is assumed that countries are driven onlyby maximisation of production &

consumption.ii. The theories assumed that there are onlytwo countries engaged in the production &consumption of just to goods.

iii. It is assumed that there are notransportation costs for shipping goods fromone country to another.


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..contd.

The 2 theories consider that labor is the onlyfactor of production that helps convert rawmaterial into finished goods.

It was also assumed that labor was immobile. It is assumed that specialization in the

production of one particular good does notresult in increased efficiency.


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Spain has absoluteadvantage inproduction of olive oil.

Italy has absoluteadvantage inproduction of shoes.

Thus Spain shouldexport olive oil andimport shoes.

Italy should export

shoes and import oil.

Country Olive Oil Shoes

Spain 2 4

Italy 4 2


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How could Spain enjoy absoluteadvantage in production of olive oil?

How could Italy enjoy absolute advantage

over production of shoes? CLIMATIC CONDITIONS

SKILLED LABOR

DEPOSITS OF NATURAL RESOURCES

What if one of the trading partners has anabsolute advantage in the production ofboth goods, namely oil and shoes?


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What about a country (like the U.S.) thathas an absolute advantage in mostproducts?

How can it possibly produce enough ofeverything to satisfy the whole world?

As production increased, competition for

scarce inputs drive up production costs,taking away many absolute advantages.


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What about a country (Like Nepal) thathas an absolute disadvantage in nearlyall products?

Why should its resources sit aroundunused?

As production falls, prices of inputs would

fall, lowering production costs & creatingsome absolute advantages.


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Theory of Comparative Advantage

Producing a good at a lower opportunitycost than another country.

Inputs used in the production of onegood aren't available for theproduction of other goods.

When a country produces a good,

what does it give up in foregoneproduction of other goods?


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David Ricardo, The Principles of

political Economy and Taxation, 1817.

A country should produce & exportproducts in which it has a comparativeadvantage.

A country should import products in

which it has a comparativedisadvantage.


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Country No. of units oflabor per unit of

cloth

No. of unitsof labor perunit of wine

Exchangeratio between

wine andcloth

ENGLAND 100 120 1 wine=1.2cloth

PORTUGAL 90 80 1 wine=0.88cloth

One Input (Labor)2 goods (Cloth, Wine)2 Countries (England , Portugal)


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Country Olive Oil Shoes

Spain 1 2

Italy 6 3


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Opportunity Cost : The cost of pursuing oneactivity in terms of the foregone return on thenext-best alternative activity.

EXAMPLES: The opportunity cost of going tocollege is what you could have earnedworking full-time instead.

The opportunity cost of using a plant to

manufacture one product is what thecompany could have earned manufacturinganother product at the plant instead.


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.contd.

Even a country at an absolute disadvantage ineverything will have a comparative advantage insomething.

Each country specializes in the production &export of what it does relatively well.

Prices of goods & inputs in a free-marketeconomy will adjust in order to lead to this

outcome. Countries rely on imports to meet consumer

demands for goods in which they dont have acomparative advantage.


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.contd.

Advantages:

A country can achieve consumption levelsbeyond what it could achieve on its own.

Govt. policy can alter free-market outcomes (import tariffs, import quotas, export subsidies,etc.)

Efficient allocation of global resources.

Maximization of global production at the leastpossible cost.

Product prices become more or less equalamong world markets.


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Modern theories of trade

International PLC

National competitive Advantage.


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Firm Specific Theories

Trade theories discussed till now havetrade between countries as mainfocus.

Now the focus is shifting from firmcentricism to firm specificity orcountry centrisim.

SinceMNCs

are dominating IB & aresetting agenda for direction ncomposition of world trade.


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International PLC

International PLC ( RaymondVernon,1966)

Competitive advantage first resides in the

lead innovation nation, which exports toother nations.

Production migrates to other advanced

nations & then developing nations indifferent PLC stages.

First theory to incorporate dynamic changesin patterns of trade. More realistic with trade

in industrial products in 20th century.


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International PLC

Theory identified 3 stages in thelifecycle of a product.

i. New Product Stage

ii. Maturing Product Stage

iii. Standardized product Stage

This approach can be applied to avariety of products.


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International PLC

U.S. and other developing nations maynot always be the lead innovators.

Many new products are now launchedsimultaneously around the world.


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National Competitive Advantage of

Industries- Porters diamond theory

Porter,1990, Studied 100 companies in 10developed countries to learn how a firm canbecome competitive.

A company which enjoys competitiveadvantage is in a stronger position to tradewith firms in other countries.

A firms competitive advantage stems from FACTOR CONDITIONS DEMAND CONDITIONS

RELATED AND SUPPORTING INDUSTRIES

FIRM STRATEGY, STRUCTURE AND RIVALRY


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Industries

Demand Conditions

Factor Conditions

Related and SupportingIndustries

Strategy & Rivalry


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Industries

1. FACTOR CONDITIONS: include land, labor, natural resources and infrastructure.

Sustained competitive advantage comes

from advanced or specialized factors likeskilled labor, capital and infrastructure.

These are created not just inherited.

2. DEMAND CONDITIONS: includes sizeand sophistication of its market .


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Industries

3. RELATED & SUPPORTING INDUSTRIES:these enhance competitive advantage thruworking relationships, joint research andproblem solving, close proximity and sharing of

knowledge and experience.

4. FIRM STRATEGY, STRUCTURE & RIVALRY:Vigorous domestic competition compels the firmto become vibrant n proactive. Structure refers tomgmt. style being practiced by the firm.National policiestend to affect the firmsinternational strategies.


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contd.

Along with 4 elements in the diamond, Porter brings 2more elements : role of govt. and role of chancethat contribute to a firms competitiveness.

Limitations:

Focus more on developed countries.

Natural resources are too important.

Govt. has a role in determining competitiveness.

Chance factors play their role in promoting or

hampering competitive strengths of firms.


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Trade theories: Critique

ASSIGNMENT

unit 1international business

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