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International Business Environment

• Overview of International Business

• International business is business across national borders.That is very basic definition – one that glosses over themuch potential for profits and the many pitfalls and

problems that can be encountered. The exchange of goods,services, and capital across countries can be extremelychallenging.

• International business is a necessity in today’s world. Thegains for greater awareness and knowledge of international

business for nations, multinational enterprises, tradingcompanies, exporters and even individuals. To go global, thefirst step would be to understand the international businessenvironment. International business is nothing butextending the areas of activities.



• A company may exist in its four forms:

1. Domestic Company: A domestic company operates in its home

country. The business strategies of such company focus on

domestic market. Domestic market opportunities /threats,

suppliers and customers are the main concerns of domestic

companies.

2. International Company: A company that extends its domestic

business operations into the foreign market is calledinternational company and such business activities are

considered as international business.

3. Multinational Company: If a company wants to establish itself in

the foreign market , it needs to produce goods acceptable to thecustomer across the globe. For this it requires to incorporate

necessary changes in its marketing mix strategy.



4. Global Company: A Global company adopts global marketing

strategies or global strategies. It produces its products in the

home country or in a single country and focuses on marketing

these products globally, or produces these products globally andfocuses on marketing these products domestically.

• Types of International Business

1) Merchandise Export and Imports: Companies may export or

import either goods or services. More companies are involved inexporting and importing than in any other international mode.

This is especially true for smaller companies, even though they

are less likely than large companies to engage in exporting.

•

Merchandise exports are tangible products – goods – sent out of a country, merchandise imports are goods brought into a

country. Because these goods can be seen leaving and entering

a country, they are sometimes called visible exports and

imports.



2) Service Exports and Imports: Service exports and imports

generate non-product international earnings. The company or

individual receiving payment is making a service export. The

company or individual paying is making a service import. Serviceexports and imports take many forms. It includes:

i) Tourism and Transportation

ii) Performance of services

iii) Use of assets3) Investment: Foreign investment means ownership of foreign

property in exchange for a financial return, such as interest and

dividends. Foreign investment takes two forms:

i) Direct Investmentii) Portfolio Investment



• Balance of Payment

• The balance of payments of a country is a systematic record of

all its economic transactions with the outside world in a given

year. It is a statistical record of the character and dimensions of the country’s economic relationships with these of the world.

• Balance of payment of a country is one of the important

indicators for International Trade, which significantly affect the

economic policies of a government. As every country strives tohave a favorable balance of payment, the trends in and the

position of the balance of payments will significantly influence

the nature and types of regulation of export and import

business in particular.



• Components of Balance of Payments

• Current Account

• Current account is typically divided into three sub-categories:

the merchandise trade balance, the service balance and thebalance on unilateral transfers. Entries in this account are

current in value as they do not give rise to future claims. A

surplus in the current account represents an inflow of funds

while a deficit represents an outflow of funds.• Merchandise

• Invisible Exports and Imports

• Capital Account

• The capital account represents transfers of money and othercapital items and changes in the country’s foreign assets and

liabilities resulting from the transactions recorded in the current

account. Flows recorded in the capital account are divided into

three sectors private, banking and official.



1) Private capital: This item include capital transactions of resident

individuals, firms, privately owned non-financial corporate

enterprises and non-bank financial enterprise with non-

residents including international institutions.2) Baking Capital: This item covers changes in the foreign financial

assets and liabilities of deposit money banks, comprising

commercial banks, whether privately owned or state owned and

such co-operative banks which re authorized to deal in foreignexchange.

3) Official Capital: The official capital comprises transactions

affecting foreign financial assets and liabilities of the

Government of India and the Reserve Bank of India.



• Disequilibrium in BOP

• The BOP of a country is said to be in equilibrium when the

demand for foreign exchange is exactly equivalent to the supply

of it. The BOP is in disequilibrium when there is either a surplusor deficit in the BOP. When there is a deficit in the BOP, the

demand for foreign exchange exceeds the demand for it.

• Causes of Disequilibrium in the BOP

• Natural factors: Natural calamities, such as the failure of rains orthe coming of floods may easily cause disequilibrium in the BOP

by adversely affecting agricultural and industrial production in

the country.

•Economic Factors

• The economic factors can be further subdivided under the

following four sub-heads:



i) Cyclical Fluctuations: Business fluctuations induced by the

operation of the trade cycle may also cause disequilibrium in a

country’s BOP. For example, if there occurs a business recession

in foreign countries it may easily cause a fall in the exports and

exchange earnings of the country concerned in a disequilibrium

in the BOP.

ii) Inflationary spiral at Home: An inflationary rise in prices within

the country may also produce disequilibrium in the BOP. The

prices of export items may go up, causing a decline in thevolume of exports from the country concerned.

iii) Capital Movement: The capital movement can also cause

disequilibrium in the BOP of a country. A massive inflow of

foreign capital into a country is followed by an unfavorable BOP.iv) Miscellaneous Factors: The change in the taste, habits, fashions

of the people, the discovery of new substitutes for exports; the

development of alternative source of supply etc may also

produce disequilibrium in the country’s BOP



3. Political factors: The political factors may also produce serious

disequilibrium in the country’s BOP. For example, the existence

of political instability may result in disrupting the productive

apparatus within the country, causing a decline in exports and

an increase in imports.

• Correction Measure in the BOP

1. Monetary policy: Monetary policy may be devised to correct a

deficit in the BOP of a country. The deficit occur because of high

imports and low exports. This is to be reversed. In this regard,

the country may adopt deflationary or dear money policy by

raising the bank rate and restricting credit. Under deflation,

price fall which makes exports attractive and import relatively

costlier.



2. Exchange Depreciation: By exchange depreciation is meant a

decline in the rate of exchange of one country in terms of another.

Suppose the Indian rupee exchange for 30 cents of American

currency. If India experiences an adverse BOP with regard to

America, the Indian demand for American cuurency will rise.

3. Devaluation: It is an alternative to exchange depreciation. It is

suitable under the present IMF system. Devaluation means official

decrease in the external value of currency in terms of foreign

currency or good or SDRs. Suppose 1$ = Rs. 8 and if IndianGovernment puts it as 1$ =Rs. 0 it means a 25% devaluation of the

Indian rupee in terms of the U.S. dollar.

4. Exchange Control: Restrictions on the use of foreign exchange by

the central bank is called exchange control. When exchange

control is adopted, all the exporters have to surrender their

foreign exchange earnings to the central bank. Under exchange

control, the central bank releases foreign exchange only for

essential imports and conserves the rest of the balance.



5. Fiscal Policy: Fiscal policy is another method of correcting

unfavorable BOP. Under budgetary provisions, tariff or import

duties may be imposed so that import becomes dearer and the

propensity to import is checked. As a result, imports are

reduced an the BOP becomes favorable.

6. Import Quotas: Fixing of import quotas is another and perhaps

a better device used for correcting an adverse BOP. Under the

quota system, the government may fix and permit the

maximum quantity or value of a commodity to be importedduring a given period. By restricting imports through the quota

system deficit is reduced or eliminated and thereby the BOP

position is improved.

7. Export Promotion: To correct disequilibrium in the BOP, it isnecessary that exports should be increased. Government may

adopt export promotion program for this purpose. Export

promotion program includes subsidies, tax concessions to

exporters, marketing facilities, incentives for exports etc.



• Macro-Economic Management

• The most important development in the global macro-

economic system over the past several decades has been the

liberalization of international capital markets that got underwayin the 1970s. This change from the Bretton Woods system has

had enormous consequences for both developed and

developing economies.

• One important outcome has been a marked increase in the

volatility of capital movements and asset prices, amplified by

international contagion. Exchange rate fluctuations, in

particular have been highly destabilizing – they are major

transmitters of shocks.

• It is argued that spot rates have no fundamentals in the senseof price or quantity variables that can determine rate levels

when they are permitted to float. The only prices a spot rate

floats against are expected future values of itself and other

asset values.



• In forward market, conventions about the future determine

these expectations. They can shift very rapidly, adding

instability to the system.

•

Foreign Trade• foreign trade means exporting and importing goods and

services from countries across the national borders. That is

exports + imports + foreign trade. In international markets both

imports and exports go on simultaneously as some items are

needed in one country and it is able get them cheaper and of

desired quality outside the country.

• Export is one of profitable and attractive business activities.

Government of India is extending necessary help and incentives

to export more and earn foreign exchange. Government is alsocoordinating the activities in introduction of new technologies

in the exporting units and it provides essential inputs for

production.



• Imports arise out of necessity for domestic consumption and

to help exports. Cheaper materials are imported from outside

national boundaries to add value by manufacturing

•

Importance of Foreign Trade1. Importance of Imports: Import are of great importance for any

country in the following ways:

i) Help in Development of the Economy: Capital goods like

machinery and equipment are required for industrialdevelopment. Industrial development also depends upon

infrastructural facilities like power, transport etc. Agriculture

also requires machines like tractors, harvestors etc, for faster

growth. A developing country does not have sufficient

resources or know-how to produce such goods or even if it isproducing these goods, the production may not be sufficient.

This deficiency can be made by importing these goods.



ii) To meet shortages: Imports can fill the gap between domestic

demand and domestic supply of essential goods like food,

cooking oils, etc.

iii) Imports for Better living Standards: The developing countries

may not be producing non-essential goods like luxury and

semi-luxury items such as television, motorcars, washing

machines etc. the rising income levels in the developing

countries create demand for such goods.

iv) Improving quality of production: The import of goods may

help in improving the quality of domestic production. When

faced with competition from foreign goods, the domestic

producers try to improve the quality of their products.

2. Important of Exports: Exports are important in the followingways:

i) Help in Growth of the Economy: Exports help in the growth of

the economy in the following ways:



a) Exports help in Increasing Production: Exports help in selling

surplus production. For example, in India demand for tea is

less than its potential production. If we had not been

exporting tea, our total production of tea would have been

smaller. Thus export to European markets has helped us to

expand our tea production.

b) Exports helps in employment and income generation

c) Expansion of related industries

d) Overall increase in demand for other goods

e) Better utilization of resources

iii) Source of foreign exchange: Exports are an important source

of earning foreign exchange. Foreign exchange means foreigncurrencies. Any country need foreign exchange to pay for its

imports. This foreign exchange can be earned through exports.



• Trade Theories

• Mercantilism

• The Mercantilism philosophy, which prevailed in Europe during

1500 – 1800, refers to the view of a heterogeneous group of influential people as to how a nation could regulate its

domestic and international affairs so as to promote its own

interest.

• The principle of mercantilism was that a nation’s wealth andprosperity reflected in its stock of precious metals, gold and

silver. At that time, as gold and silver were the currency of

trade between nations, a country could accumulate gold and

silver by exporting more and importing less.



• The ordinary means therefore to increase our wealth and

treasure is by foreign trade, wherein we must ever observe

this rule: to sell more to strangers yearly than we consume of

their’s in value.

• The mercantilism, therefore, argued that Government should

do everything possible to maximise exports and minimise

imports. Imports were to be restricted by such measures as

tariffs and quotas and exports were to be subsidised.

• The importance given to precious metals under mercantilism

resulted in what was referred to as bullionism i.e. government

control of the use and exchange of precious metals – their

export by individuals was prohibited and the governments let

specie leave the country only out of necessity.



• Neo-Mercantilism

• The criticism of mercantilism by economists, it is by no mean

dead. In most trade negotiations, the negotiating countries,

both developed and developing, often press for more tradeliberalisation in areas where their own comparative

advantages are the strongest and to resist liberalisation in

areas where they are less competitive and fear that imports

would replace domestic production.

• Absolute Cost Theory

• Adam Smith, the father of Economics, thought that the basis

of international trade was absolute cost advantage. According

to his theory, trade between two countries would be mutually

beneficial if one country could produce one commodity at an

absolute advantage (over the other country) and the other

country could, in turn produce another commodity at an

absolute advantage over the first.



• Absolute Cost Differences

USA UK

No. of units of

wheat per unit of

labour

10 4

No. of units of

cloth per unit of labour

3 7



• US has an absolute advantage in the production of wheat overUK and UK has an absolute advantage in the production of cloth over US. Hence, according to Adam Smith theory, USshould specialise in the production of wheat and meet its

requirement of cloth through import from UK.• On the other hand, UK should specialise in the production of

cloth and should obtain wheat from US. Such trade would bemutually beneficial.

•

Adam Smith pointed out that the scope for division of labour(i.e., spcialisation) depended on the size of the market. Freeinternational trade, therefore, increase division of labour andeconomic efficiency and consequently economic welfare.

• Comparative Cost Theory

• The Comparative Cost Theory was first systematicallyformulated by the English economist David Ricardo in hisPrinciples of Political Economy and Taxation published in 1817.



• The doctrine of comparative cost maintains that if trade is left

free, each country in the long run, tends to specialise in the

production and export of those commodities in whose

production it enjoys a comparative advantage in terms of real

cost, and to obtain by importation those commodities which

could be produced at home at a comparative disadvantage in

terms of real costs and that such specialisation is to the

mutual advantage of the countries participating in it.

• Ricardo’s illustration of the Comparative Cost Theory, using a

two country-two-commodity model, shows that trade

between nations can be profitable even if one of the two

nation can produce both the commodities more efficiently

than the other nation provided that it can produce one of these commodities with comparatively greater efficiency than

the other commodity.



• The law of comparative advantage indicates that a country

should specialise in the production of those goods in which it

is more efficient and leave the production of the other

commodity to the other country. The two nations will then

have more of both goods by engaging in trade.

• Opportunity Cost Theory

• One of the main drawbacks of the Ricardian comparative cost

theory was that it was based on the labour theory of value

which stated that the value or price of a commodity was equal

to the amount of labour time going into the production of the

commodity.

• Gottfried Haberler gave new a life to the comparative cost

theory by restating the theory in terms of opportunity costs in

1933.



• The opportunity cost of anything is the value of the

alternatives or other opportunities which have to be foregone

in order to obtain that particular thing.

•

For example, assume that a given amount of productiveresources can produce either 10 units of cloth or 20 units of

wine. Then the opportunity cost of 1 unit of cloth is 2 unit of

wine. Thus the opportunity cost approach defines cost in

terms of the value of the alternatives of other opportunities

which have to be foregone in order to achieve a particular

thing.

• According to the opportunity cost theory, the basis of

international trade is the differences between nations in the

opportunity cost for a commodity has a comparativeadvantage in that commodity and a comparative disadvantage

in other commodity.



• Suppose that the opportunity cost of one unit of X is 2 units of

Y in country A and 1.5 unit of Y in country B. Then country A

must specialise in production of Y and import its requirements

of X from B, and B should specialise in the production of X and

import Y from A rather than producing it at home.

• Factor Endowment Theory

• The Factor Endowment theory was developed by Swedish

economist Eli Heckscher and his student Bertil Ohlin. The

factor endowment theory consist of two important theorems,

namely, the Heckscher-Ohlin Theorem and the Factor Price

Equilibrium Theorem.

• Heckscher-Ohlin Theorem

• Heckscher and Ohlin have explained the basis of international

trade in terms of factor endowment. The classical theory

demonstrated that the basis of international trade was

comparative cost difference.



• However, it made little attempt to explain the causes of such

comparative cost difference. The alternative formulation of the

comparative cost doctrine developed by Heckscher and Ohlin

attempts to explain why comparative cost differences exist

internationally. They attribute international differences in

comparative costs to:

1. Different prevailing endowment of the factor of production

2. The fact that production of various commodities requires that

the factors of production be used with different degree of intensity.

• In short, it is difference in factor intensities in the production

functions of goods along with actual differences in relative factor

endowments of the countries which explains internationaldifferences in comparative cost of production.

• Heckscher-Ohlin theory states that a country will specialise in the

production and export of goods whose production requires a

relatively large amount of the factor with which the country is

relatively well endowed.



• Factor Price Equalisation Theorem

• The factor price equlaisation theorem states that free

international trade equalises factor prices between countries

relatively and absolutely and this serves as a substitute forinternational factor mobility.

• International trade increases the demand for abundant factor

and decreases the demand for scarce factors because when

nations trade, specialisation takes place on the basis of factor

endowments.

• According to Ohlin, “The effect of inter-regional trade is to

equalise commodity prices. Furthermore, there is also a

tendency towards equalisation of the prices of the factor of

production, which means their better use and a reduction of

the disadvantages arising from the unsuitable geographical

distribution of the productive factors”.



• Investment Theories

• A number of attempts have been made to formulate a theory

to explain the international investment.

• Theory of Capital Movement• The earliest theoreticians, who assumed in the classical

tradition, the existence of a perfectly competitive market,

considered foreign investment as a form of factor movement

to take advantage of the differential profit.• The validity of this theory is clear from the observation of the

noted economist Charles Kindleberger that under perfect

competition, foreign direct investment would not occur and

that would be unlikely to occur in a world where in theconditions were even approximately competitive.



• Market Imperfections Theory

• One of the important market imperfections approach to the

explanation of the foreign investment is the Monopolistic

Advantage Theory profounded by Stephen in 1960.• According to this theory, foreign direct investment occurred

largely in oligopolistic industries rather than in industries

operating under near perfect competition.

•

Hymer suggested that the decision of a firm to invest inforeign markets was based on certain advantages the firm

possessed over the local firms such as economies of scale,

superior technology or skills in the fields of management,

production, marketing and finance.



• Internalisation Theory

• According to the Internalisation theory, which is an extension

of the Market Imperfections theory, foreign investment results

from the decision of a firm to internalise a superiorknowledge.

• For example, if a firm decides to externalise its know-how by

licensing a foreign firm, the firm (the licensor) does not make

any foreign investment in this respect but, on the other hand,

if the firm decides to internalize it may invest abroad in

production facilities.

• Methods of internalisation include formal ways like patents

and copy rights and informal ways like secrecy and family

network.



• Appropriability Theory

• According to the Appropriability theory, a firm should be able

to appropriate the benefits resulting from a technology it has

generated. If this condition is not satisfied, the firm would notbe able to bear the cost of technology generation and

therefore would have no incentive for research and

development.

• MNCs tend to specialise in developing new technologies which

are transmitted efficiently through their internal channels.

• Location Specific Advantage Theory

• The Location Specific Advantage Theory suggests that foreign

investment is pulled by certain location specific advantage.

• According to Hood and Young, there are four factors which are

pertinent to the Location Specific Theory. They are:



1. Labour costs

2. Marketing factors (like market size, market growth, stage of

development and local competition)

3. Trade barriers4. Government policy

• The above factor have, of course very important bearing on

foreign investment. However, there are also other factors like

cultural factors which influence foreign investment. Further, itis the total cost and not labour cost alone that is important.

• Eclectic Theory

• John Dunning has attempted to formulate a general theory of

international production by combining the postulates of someof the other theories. According to Dunning, foreign

investment by MNCs results from three comparative

advantage which they enjoy, viz,



1. Firm specific advantages

2. Internalisation advantages

3. Location specific advantages

• Product Life Cycle Theory

• Government Influence on Trade

• International trade is affected by a number of factors

including, in particular, the government policies. The economic

policies, in general, may affect the foreign trade. The tradepolicy and regulations have a direct bearing on the trade.

• Protectionism

• One of the most important features of the international

trading environment is the proliferation of the trade barriers.

f



• Reasons for Protection

• The main objectives of imposing trade barriers are protect

domestic industries from foreign competition, to promote

indigenous research and development, to conserve the foreignexchange resources of the country, to make the BOP position

favorable, to curb conspicuous consumption, to mobilise

revenue for the government and to discriminate against

certain countries.

• There are a number of arguments put forward in favour of

protection. Some of these arguments are very valid while

some others are not.

(i) Infant Industry Argument: The infant industry argument

advanced by Alexander Hamilton and others asserts that anew industry having a potential comparative advantage may

not get started in a country unless it is given temporary

protection against foreign competition.

(ii) i ifi i i h di ifi d



(ii) Diversification Argument: It is necessary to have a diversified

industrial structure for an economy to be strong and

reasonably self-sufficient. An economy that depends on a very

limited number of industries is subject to many risks. A

depression or recession in these industries will seriously affect

the economy.

(iii) Improving the Terms of Trade: It is argued that the terms of

trade can be improved by imposing import duty or quota. By

imposing tariff the country expects to obtain larger quantity of imports for a given amount of exports or conversely to part

with a lesser quantity of exports for given amount of imports.

(iv) Improving BOP: This is a very common ground for protection.

By restricting imports, a country may try to improve its BOPposition. The developing countries, especially may have

problem of foreign exchange shortage. Hence it is necessary to

control imports so that the limited foreign exchange will be

available for importing the necessary items.

( ) A i D i P i i l d i



(v) Anti-Dumping: Protection is also resorted to as an anti-

dumping measure. Dumping, certainly can do harm to the

domestic industry, the relief the consumers get will only be

temporary. It is possible that after ruining the domestic

industry by dumping, the foreign firms will obtain monopoly

powers and exploit the home market.

(vi) Bargaining: It is argued that a country which already has a

tariff can use it as a means of bargaining to obtain from other

countries lower duties on its exports.

(vii) Employment Argument: Protection has been advocated also as

a measure to stimulate domestic economy and expand

employment opportunities. Restriction of imports will

stimulate import competing industries and its spread effectswill help the growth of other industries. These, naturally,

create more employment opportunities.

(VIII) N ti l D f E if l i f t d t



(VIII) National Defence: Even if purely economic factors do not

justify such a course of action, certain industries will have to

be developed domestically due to strategic reasons.

Depending on foreign countries for our defence requirements

is rather foolish because factors like change in political

relations can do serious damage to a country’s defence

interest.

(IX) Key Industry Argument: It is also argued that a country should

develop its own key industries because the development of other industries and the economy depends a lot on the

output of the key industries.

(X) Keeping Money at Home: This argument is well expressed in

the form of a remark falsely attributed to Abraham Lincoln: “Ido not know much about the tariff, but I know this much:

when we buy manufactured goods abroad we get the goods

and foreigner gets money. When we buy the manufactured

goods at home we get both the goods and money.

(XI) Th P L b A t Th f thi t i



(XI) The Pauper Labour Argument: The essence of this argument is

that if in the home country the wage level is substantially high

compared to foreign countries, the foreign producers will

dominate the home market because the cheap labour will

allow them to sell goods cheaper than the domestic goods and

this will affect the interests of the domestic labour.

(XII) Size of the Home Market: It is argued that protection will

enlarge the market for agricultural products because

agriculture derives large benefits not only directly from theprotective duties levied on competitive farm products of

foreign origin but also indirectly from the increase in the

purchasing power of the workers employed in industries

similarly protected.

T iff B i



• Tariff Barriers

• There are broadly, two types of trade barriers viz, tariff

barriers and non-tariff barriers. Tariffs in international trade

refer to the duties or taxes imposed on internationally tradedgoods when they cross the national borders.

• India has had one of the highest tariff walls in the World. The

Government, following the recommendation of the Tax

Reform Committee substantially reduced the import duty

levels. However, India is still among the countries with high

customs duties.

• Non-Tariff Barriers

• Non-tariff barriers (NTBs), some of which are described as new

protectionism measures have grown considerably, particularly

since around the beginning of the 1980s. The export growth of

many developing countries has been seriously affected by th

NTBs.

T f NTB



• Types of NTBs

• The NTBs are of two categories. The first category includes

those which are generally used by developing countries to

prevent foreign exchange outflows or result from their chosenstrategy of economic development. These are mostly

traditional NTBs such as import licensing, import quotas,

foreign exchange regulations and canalisation of imports.

• The second category of NTBs are those which are mostly used

by developed economies to protect domestic industries which

have lost international competitiveness and/ or which are

politically sensitive for governments of these countries.

• One of the most important new protectionism measures

under this category is the voluntary export restraint (VER).

• There are different forms of NTBs The NTBs hich ha e



• There are different forms of NTBs. The NTBs which have

significant restrictive effect are described as hardcore NTBs.

These include import prohibitions, quantitative restrictions,

voluntary export restrictions (VERs), variable levies, multi-fibre

arrangement (MFA) restrictions, and non-automatic licensing.

• NTBs and India’s Export

• The problem of NTBs for Indian exports has been growing.

Indian exports of iron and steel, chemicals, textiles, vegetables

and allied categories find market access very difficult in the

developed world, essentially by the imposition of a variety of

NTB; admissible under the present trading regime.

• Some NTBs such as anti-dumping measures countervailing

procedures, sanitary and phytosanitary sanctions, quotarestrictions environmental clause and intellectual property

rights are really garroting exports.

• According to estimates of GOI (2002), about 44% of the total

exports to the US faced some or other form of NTBs.

• Foreign Exchange Management Act (FEMA)



• Foreign Exchange Management Act (FEMA)

• Foreign exchange transactions were regulated in India by the

Foreign Exchange Regulations Act (FERA), 1973. This Act also

sought to regulate certain aspects of the conduct of businessoutside the country by Indian companies and in India by

foreign companies.

• The main objective of FERA, framed against the background of

serve foreign exchange problem and the controlled economic

regime, was conservation and proper utilisation of the foreign

exchange resources of the country.

• There was a lot demand for a substantial modification of FERA

in the light of the ongoing economic liberalization and

improving foreign exchange reserves position. Accordingly, anew Act, the Foreign Exchange Management Act (FEMA),

1999, replaced the FERA.

• Objectives



• Objectives

• The objectives of FEMA are:

– To facilitate external trade and payment.

–

To promote the orderly development and maintenance of foreignexchange market.

• FERA and FEMA – A Comparison

• Important differences between FERA and FEMA have been

summed up as follows:

1. In FEMA, only the specified acts relating to foreign exchange

are regulated; while in FERA, anything and everything that has

to do with foreign exchange was controlled. Also, the aim of

FEMA is facilitating trade as against that of FERA, which was to

prevent misuse.

2. FEMA is a much smaller enactment --- only 49 section as

against 81 of FERA.

3 In the process of simplification many of the “laid down” of the



3. In the process of simplification, many of the laid down of the

erstwhile FERA have been withdrawn.

4. Many provisions of FERA like the ones relating to blocked

accounts, Indians taking up employment abroad, employmentof foreign technicians in India, contracts in evasion of the act,

etc have no appearance in FEMA.

• World Trade Organization (WTO)

•

The global business environment is very significantlyinfluenced by the World Trade Organization (WTO)’s principles

and agreements. They also affect the domestic environment.

• For example, India has had to substantially liberalise imports,

including almost complete removal of quantitative import

restriction.

• The liberalisation of imports implies that domestic firms have

to face an increasing competition from foreign goods.

Liberalisation of foreign investment can result in growing

competition from MNCs.

• These liberalisations on the other hand also provide new



• These liberalisations on the other hand, also provide new

opportunity for Indian firms as the foreign markets become

more open for export and investments.

•

The liberalisation also enables Indian firms to seek foreignequity participation and foreign technology. This could help

them to expand their business or improve competitiveness.

• GATT

•

The General Agreement on Tariff and Trade (GATT), thepredecessor of WTO was born in 1948 as result of the

international desire to liberalise trade.

• The GATT was transformed into a World Trade Organization

(WTO) with effect from January 1995. Thus, after about five

decades, the original proposal of an International Trade

Organization has taken shape as the WTO. The WTO which is a

more powerful body than the GATT has an enlarged role than

the GATT.

• Objective



• Objective

• The primary objective of GATT was to liberalise and expand

trade to bring about all-round economic prosperity. The

preamble to the GATT mentioned the following as itsimportant objectives:

1. Raising standard of living

2. Ensuring full employment and a large and steadily growing

volume of real income and effective demand.3. Developing full use of the resources of the world

4. Expansion of production and international trade.

• The Uruguay Round

• Uruguay Round (UR) is the name by which the eighth and thelatest round of the multilateral trade negotiations (MTNs) held

under the auspices of the GATT is popularly known because it

was launched in Punta del Este in Uruguary, a developing

country in September 1986.

• The complexities of the issues involved and the conflicts of



• The complexities of the issues involved and the conflicts of

interests among the participating countries, the Uruguay

Round could not be concluded in Dec 1990 as was originally

scheduled.

• When the negotiations dragged on, Arther Dunkel, the

Director General of GATT, presented a Draft Act embodying

what he thought was the result of the Uruguay Round. This

came to be popularly known as Dunkel Draft. This was

replaced by an enlarged and modified text which wasapproved by delegations from the member countries of the

GATT on 15th December 1993.

• This Final Act was signed by ministers of 125 governments on

15th April 1994.

• The first six Rounds of MTNs concentrated almost exclusively



• The first six Rounds of MTNs concentrated almost exclusively

on reducing tariffs, while the Seventh Round (Tokyo round:

1973-79) moved on to tackle non-tariff barriers (NTBs). The UR

sought to broaden the scope of MTNs far wider by including

new areas such as:

Trade in service

Trade related aspects of intellectual property (TRIPs)

Trade related investment measures (TRIMs)

• Functions of WTO

• The WTO has the following five specific functions:

1. The WTO shall facilitate the implementation, administration

and operation and further the objectives of the MultilateralTrade Agreements and shall also provide the framework for

the implementation, administration and operation of

plurilateral trade agreement.

2 The WTO shall provide the forum for negotiations among its



2. The WTO shall provide the forum for negotiations among its

members concerning their multilateral trade relations in

matters dealt with under the Agreements.

3. The WTO shall administer the Understanding on Rules andProcedures Governing the settlement of Disputes.

4. The WTO shall administer the Trade Review Mechanism.

5. With a view to achieving greater coherence in global economic

policy making, the WTO shall cooperate, as appropriate withthe IMF and IBRD and its affiliated agencies.

• WTO Principles

• The WTO agreements have three main objectives:

To help trade flows as freely as possible

To achieve further liberalization gradually through negotiation

To set up an impartial mean of setting disputes.

• Trade Policy /EXIM policy



Trade Policy /EXIM policy

• The economic policy which regulates the export-import

activities of any economy is known as the trade policy. It is also

called foreign trade policy or the EXIM policy. This policy needsregular modifications depending upon the economic policies

of the economies of the world or the trading partners.

• The Export-Import policy (EXIM Policy) announced under the

Foreign Trade Act, 1992, would reflect the extent of

regulations or liberalization of foreign trade and indicate the

measures for export promotion. Although the EXIM policy is

announced for a five-year period.

• Objectives of EXIM Policy

1. To establish the framework for globalisation

2. To promote the productivity competitiveness on Indian

industries.

3. To encourage the attainment of high and internationally

accepted standards of quality.

3 To augment export by facilitating access to raw material



3. To augment export by facilitating access to raw material,

intermediate components, consumables and capital goods

from the international market.

4. To promote internationally competitive import substitutionand self-reliance.

• Foreign Trade Policy (EXIM Policy) 2009-2014

• Foreign trade has gained immense importance in India in the

recent years. The EXIM policy of India has laid guidelines forIndia to become a major player in the world trade, an all

encompassing; comprehensive view needs to be taken for the

overall development of the country’s foreign trade.

• The new EXIM policy states that reasonableness and

consistency among trade and other economic policies is

important for maximising the contribution of such policies to

development.

• The EXIM policy of India can be viewed at the website which is



The EXIM policy of India can be viewed at the website which is

updated on a regular basis. The import laws of India are

governed by the foreign trade policy. All exporters/importers

trading from India have to adhere to the Foreign EXIM policies

in order to gain benefits on the tradefront.

• Features of Foreign Trade Policy 2009-2014

1. Extension of concessions for export-oriented units till March

2011

2. Export target of $200 billion set for 2010-11

3. Growth target of 15% for next two years, 25% thereafter

4. Inter-ministerial group to address issues raised by exporters.

5. Obligation under export promotion capital goods schemerelaxed.

6. Permission for tax refund scheme for jewelry sector

7. No fee on grant of incentives to cut transaction costs.

9 Steps to help exporters in reducing transaction costs



9. Steps to help exporters in reducing transaction costs.

10. Plan for diamond bourses in the country

11. Single-window scheme for farm exports.

12. Re-export of unused leather allowed subject to 50% duty13. Minimum value addition for tea reduced to 50% from 100%

14. Export units allowed to sell 90% of goods in domestic market

15. Provision for state-run banks to provide dollar credit

16. 26 new markets added to focus market scheme

17. Zero duty under technology upgrade scheme.

• International Commodity Agreements

•

International Commodity Agreements are inter-governmentalarrangements concerning the production of and trade in,

certain primary products with a view to stabilising their prices.

• Commodity agreements have been tried in different cases for



Commodity agreements have been tried in different cases for

quite some time now. The worsening for primary product

exporters of their terms of trade in the second half of the fifties,

their lagging export earnings, inadequate reserves, mounting

external indebtness and the consequential frustration of plansfor rapid economic developments caused these countries to cast

around for ways of escaping from their predicament.

• Commodity Agreements may take any of the four forms, namely,

quota, buffer stock, bilateral contract or multilateral contract.• Quota Agreements

• International quota agreements seek to prevent a fall in

commodity prices by regulating their supply. Under the quota

agreement, export quotas are determined and allocated toparticipating countries according to some mutually agreed

formula and they undertake to restrict the export or production

by a certain percentage of the basic quota decided by the central

committee or council.

• For instance, Coffee Agreement among the major producers of



For instance, Coffee Agreement among the major producers of

Latin America and Africa limited the amount that could be

exported by each country.

• Buffer Stock Agreement

• Buffer stock agreements stabilize the price by increasing the

market supply by the sale of the commodity when the price

tends to rise and by absorbing the excess supply to prevent a

fall in the price.

• The buffer stock plan, thus requires an international agency to

set a range of prices and to buy commodity at the minimum

and sell at the maximum.

• Bilateral /Multilateral Contracts

• Bilateral contract to purchase and sell certain quantities of a

commodity at agreed prices may be entered into between

major importer and exporter of the commodity.

• In such an agreement, an upper price and a lower price are



In such an agreement, an upper price and a lower price are

specified. If the market price, throughout the period of the

agreement, remains within these specified limits, the

agreement becomes inoperative.

• But if the market price rises above the upper limit specified,

the exporting country is obliged to sell to the importing

country a certain specified quantity of commodity at the

upper price fixed by the agreement.

• On the other hand, if the market price falls below the lower

limit specified, the importer is obliged to purchase the

contracted quantity at the specified lower price.

• Regional Economic Integration (Trade Blocs)

• Economic integration schemes – also referred to as trade

blocs, Regional Integration Agreements (RIAs), Regional Trade

Agreements (RTAs) is an important international business

environment.

• An economic integration scheme is conceived as a building



An economic integration scheme is conceived as a building

block of economic development of the member countries. It

may sometimes become a stumbling block for companies

located outside the bloc. Besides the integration schemes,

their have been other efforts to foster economic cooperation

between countries.

• Types of Integration

• There are different degrees or levels of economic integration.

The important form of integration are outlined below:

• Free Trade Area

• A free trade area is a grouping of countries to bring about free

trade between them. The free trade area abolishes all

restrictions on trade among the members but each member is

left free to determine its own commercial policy with non-

members.

• Custom Union



Custo U o

• A custom union is a more advanced level of economic

integration than the free trade area. It not only eliminates all

restrictions on trade among members but also adopts a

uniform commercial policy against the non-members.

• Common Market

• The common market is a step ahead of the custom union. A

common market allows free movement of labour and capital

within the common market, besides having the two

characteristics of the customs union namely, free trade among

members and uniform tariff policy towards outsiders.

• Economic Union

• A still more advanced level of integration is the economic

union. Apart from satisfying the conditions of the common

market, the economic union achieves some degree of

harmonisation of national economic policies, through a

common central bank, unified monetary and fiscal policy etc.

• Economic Integration



g

• The ultimate form is full economic integration characterised by

the completion of the removal of all barriers to intra-bloc

movement of goods and factors, unification of social as well as

economic policies and all the members bound by decisions of

a supernational authority consisting of executive, judicial and

legislative branches.

• EPZs, EOUs, TPs & SEZs

• As a part of the export promotion drive, Government have

from time to time introduce several schemes to promote units

primarily devoted to export.

• These include Export Processing Zones (EPZs), 100% Export-

Oriented Industrial Units (EOUs) and different categories of

Technology Parks (TPs). In 2000, a scheme of Special Economic

Zones (SEZs) was also introduced.

• Export Processing Zones/EOUs



p g /

• Export Processing Zones (EPZs) are industrial estates which

form enclaves from the national customs territory of a country

and are usually situated near seaports or airports.

• The entire production of such a zone is normally intended for

exports. Such zones are provided with well developed

infrastructural facilities. Industrial plots/sheds are normally

made available at concessional rates. Units in these zones are

allowed foreign equity even up to 100%.

• A Free Trade Zone (FTZ) is different from the EPZ. Goods

imported to a free trade zone may be re-exported without any

processing, in the same form. But goods exported by units in

an EPZ are expected to have undergone some value additionby manufacturing or other processing. A free port is one in to

which imports and from which exports are free from trade

barriers.

• The Kandla Free Trade Zone (KFTZ) set up in 1965, is India’s



( ) p ,

first EPZ. This multi-product zone is located 10Kms away from

the Kandla Port, Gujarat State.

• The second one is the Santa Cruz Electronics Export Processing

Zone (SEEPZ) set up in 1974. This exclusive zone is situated

near Santa Cruz Airport, Mumbai.

• Government also introduced schemes for Electronic

Hardware Technology Park (EHTP) units and Software

Technology Park (STP) units.

• 100% export-oriented unit (EOU) refers to an industrial unit

which offers for exports its entire production, excluding

permitted levels of rejects. EOUs were allowed in industries in

respect of which the export potential and export targets wereconsidered by the relevant Export Promotion Council.

• Thus, the scheme of 100% export oriented units had been



, p

designed to create additional export capacity; units which

results in mere substitution for the existing units production

were not to be permitted.

• Special Economic Zones (SEZs)

• SEZs are specifically described duty-free enclaves, deemed as

foreign territory for the purposes of trade operations and

application of duties and tariffs. SEZs can be set up for

manufacture of goods and the rendering of services, production,processing, assembling, trading, repair, remarking,

reconditioning, re-engineering including making of

gold/silver/plantinum jewellery and articles thereof or in

connection therewith.• Units for generation/distribution of power can also be set up in

the SEZs. Goods going into the SEZ area from Domestic Tariff

Area (DTA) are treated as deemed exports and goods coming

from the SEZ area into DTA are treated as if the goods are being

imported.

• Objectives of SEZ Act



j

• Generation of additional economic activity.

• Promotion of exports of goods and services.

• Promotion of investment from domestic and foreign sources.• Creation of employment opportunities.

• Development of infrastructure facilities.

• Indian Scenario

• The Indian picture has not at all been bright. In 2005-06, the

contribution of SEZs to the total merchandise exports of the

country was only about 5%. When it has reached the threshold

of making a leap forward it is mired in a host of

political/administrative and developmental debates,controversies, conflicts and confusions.

• After the coming into effect of the SEZ Act 2005,although 154



SEZ were notified as of 3rd October 2007, most of them were

of small size; only a few are of more than 1000 hectares in

size, with two of them with more than 2000 hectares each.

• In addition to the notified SEZs, there are a large number

which have received formal approvals and in principle

approvals.

• At the end of August 2007, while there were 142 notified SEZs,

there were 366 with valid formal approvals and 176 with valid

in principle approvals in the country.

• After the coming into effect of the SEZ, Act 2005, although 154



SEZ were notified as of 3rd October 2007, most of them were

of small size; only a few are of more than 1000 hectares in

size, with two of them with more than 2000 hectares each.

• In addition to the notified SEZs, there are a larger number

which have received formal approvals and in principle

approvals. At the end of August 2007, while there were 142

notified SEZs there were 366 with valid formal approvals and

176 with valid in principle approvals in country.

•

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