the political economy of international business edited

8/7/2019 The Political Economy of International Business Edited

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InternationalBusiness 7e

by Charles W.L. Hill

McGraw-Hill/Irwin Copyright 2009 by The McGraw-Hill Companies, Inc. All rights reserved.


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Chapter 6

The Political Economy ofInternational Trade


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Agricultural Subsidies & Development

Rich Countries provides $300 billion as SUBSIDIES tofarmers in their own countries.

EU has set the price of per ton butter at euros 3,282. If

price falls below that then the EU would compensate thefarmers in the form of SUBSIDY.

The US provides $0.70 to her farmers for every pound ofcotton they harvest.


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This results in surplus production This surplus is then dumped in the world market.

EU provides $4000 per acre subsidies to sugar beetproducers.

EU farmers produce more than the EU market canabsorb

The 6 million tons per year is dumped in the worldmarket.

If EU stopped dumping then sugar price would increaseby 20%.

This would benefit the South American economy by $ 40million from sugar exports.


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US cotton subsidies reduced world cotton price by 50%since the mid 90s

This cost Brazil $640 million in lost revenues.

In 2001 , Mali lost $43 in export revenues more than the$37million it received from the US as foreign aid.

An UN official said, Its no good building up roads,clinics, and infrastructure in poor areas if you do not

give them access to markets and engines forgrowth.


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6-6

Introduction

Free trade occurs when governments do not attempt torestrict what its citizens can buy from another country orwhat they can sell to another country

While many nations are nominally committed to freetrade, they tend to intervene in international trade to protectthe interests of politically important groups


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Instruments OfTrade Policy

The main instruments of trade policy are:

Tariffs

Subsidies

Import QuotasVoluntary Export Restraints

Local Content Requirements

Administrative Policies

Antidumping Policies


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Tariffs

Tariffs are taxes levied on imports that effectively raise the cost ofimported products relative to domestic products

Specific tariffs are levied as a fixed charge for each unit of a goodimported ($3 per barrels of oil)

Ad valorem tariffs are levied as a proportion of the value of theimported good (EU tariff on Banana import from Latin America, 15 to20 % for the first 2.5 million tons)

Tariffs increase government revenues, provide protection to domesticproducers against foreign competitors by increasing the cost of

imported foreign goods, and force consumers to pay more for certainimports

So, tariffs are unambiguously pro-producer and anti-consumer, andtariffs reduce the overall efficiency of the world economy


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Subsidies

Subsidies are government payments to domesticproducers

Consumers typically absorb the costs of subsidies

Subsidies help domestic producers in two ways:

they help them compete against low-cost foreign imports

they help them gain export markets


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Import Quotas And VoluntaryExport Restraints

Import quotas directly restrict the quantity of some good that may beimported into a country (US allows only certain firms to import cheese)

Tariff rate quotas are a hybrid of a quota and a tariff where a lowertariff is applied to imports within the quota than to those over the quota

Voluntary export restraints are quotas on trade imposed by theexporting country, typically at the request of the importing countrysgovernment (Japanese exports of automobiles to the US in 1981 to1.68 million.).Countries agree due to avoid more damaging actions.

Aquota rent is the extra profit that producers make when supply is

artificially limited by an import quota (the Japanese gained $1 billionper year from 1981 to 1985)

Import quotas and voluntary export restraints benefit domesticproducers by limiting import competition, but they raise the prices ofimported goods


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Local Content Requirements

Alocal content requirement demands that some specificfraction of a good be produced domestically

Local content requirements benefit domestic producers,

but consumers face higher prices.(India enforces this oncement import from Bangladesh)


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Administrative Policies

Administrative trade polices are bureaucratic rules thatare designed to make it difficult for imports to enter acountry

These polices hurt consumers by denying access topossibly superior foreign products

Netherlands export of tulip bulbs to Japan suffered asthey were all checked.

France required all imported video tape recorders enterthough a single small entry point which was poorly staffed.


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Antidumping Policies

Dumping refers to sellinggoods in a foreign market below their costsof production, or sellinggoods in a foreign market below their fairmarket value (the US accused EU of dumping Steel)

Dumping enables firms to unload excess production in foreign

marketsSome dumpingmay be predatory behavior, with producers usingsubstantial profits from their home markets to subsidize prices in aforeign market with a view to driving indigenous competitors out of thatmarket, and later raising prices and earning substantial profits

Antidumping polices (orcountervailing duties) are designed to punishforeign firms that engage in dumping and protect domestic producersfrom unfair foreign competition. The US imposed 9% and 4% tariffs ontwo Korean semi conductor exporters.


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The Case For Government Intervention

Arguments forgovernment intervention:

Political arguments are concerned with protecting theinterests of certain groups within a nation (normally

producers), often at the expense of othergroups (normallyconsumers)

Economic arguments are typically concerned withboosting the overall wealth of a nation (to the benefit of all,both producers and consumers)


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Political Arguments ForFree Trade

Political arguments forgovernment intervention include:

protecting jobs

protecting industries deemed important for national

securityretaliating to unfair foreign competition

protecting consumers from dangerous products

furthering the goals of foreign policy

protecting the human rights of individuals in exportingcountries


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Protecting Jobs And Industries

Protecting jobs and industries is the most commonpolitical reason for trade restrictions : Japan imposedImport quotas on Rice to protect jobs in the agriculturalsector.

Usually this results from political pressures by unions orindustries that are "threatened" by more efficient foreignproducers, and have more political clout than the

consumers that will eventually pay the costs .

(The EU applied CAP or Common Agricultural Policy toprotect the politically powerful farmers.)


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National Security

Industries such as aerospace or electronics are oftenprotected because they are deemed important for nationalsecurity.

In 1986 , the US semiconductor manufacturingconsortium of 14 companies , SEMATECH, convinced the

government that their product was vital to defenseindustries and so the US could not rely on foreign suppliesfor these. As a result the government provided $100 million

per year as subsidies. It was withdrawn in 1996 only afterthe rise in demand for personal computers and Intelprocessors.


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Retaliation

When governments take, or threaten to take, specificactions, other countries may remove trade barriers. The USthreatens China to face trade sanctions unless they imposeIntellectual Property Laws. This caused the US millions ofdollars due to piracy. After threats to impose 100% tariff oncertain Chinese imports , China agreed to tighten itsimplementation of Intellectual property laws.

If threatened governments dont back down, tensions canescalate and new trade barriers may be enacted.


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Protecting Consumers

Governments may intervene in markets to protectconsumers.

The US banned import of 58 types of assault weapons to

avoid incidents of shooting in 1998 after such an incidenttook place in Arkansas, home state of the then presidentBill Clinton, that killed four children and a school teacher.

Austria and Luxembourg banned import of Geneticallymodified cotton seeds by Monsanto as they can causegenetic pollution.


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Furthering Policy Objectives

Foreign policy objectives can be supported through tradepolicy

Preferential trade terms can be granted to countries that

a government wants to build strong relations with.(USrelations with Israel)

Trade policy can also be used to punish rogue states thatdo not abide by international laws or norms.(US sanctionsagainst Iran)

However, it might cause other countries to undermineunilateral trade sanctions

The Helms-Burton Act and the DAmato Act, have beenpassed to protect American companies from such actions


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Economic ArgumentsFor Intervention

Economic arguments for intervention include:

the infant industry argument

strategic trade policy


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The Infant Industry Argument

The infant industry argument suggests that an industryshould be protected until it can develop and be viable andcompetitive internationally

The infant industry argument has been accepted as ajustification for temporary trade restrictions under the WTO

However, it can be difficult to gauge when an industryhas grown up

Critics argue that if a country has the potential to developa viable competitive position its firms should be capable ofraising necessary funds without additional support from thegovernment


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The Infant Industry Argument

Brazil had the 10th largest auto industry in the world withprotection for 30 years. But after the protection wasremoved in the 1980s it turned out to be one of the mostinefficient in the world.

But TATA is an example ofgovernment protection beingfruitful.


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Strategic Trade Policy

Strategic trade policy suggests that in cases where theremay be important first mover advantages, governments canhelp firms from their countries attain these advantages.(US govt. gave substantial R & D grants to Boeing whichbuilt the 707 passenger jet following a military plane)

Strategic trade policy also suggests that governmentscan help firms overcome barriers to entry into industrieswhere foreign firms have an initial advantage. (The

Japanese government provided research support in the70s an early 80s to LCD manufacturers who ultimately beatthe Americans who entered the market first.)


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Development OfTheWorld Trading System

How has the current world trade system emerged?


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From Smith To The Great Depression

Until the Great Depression of the 1930s, most countrieshad some degree of protectionism

The Smoot-Hawley tariff was enacted in 1930 in the U.S

creating significant import tariffs on foreign goodsOther nations took similar steps and as the depressiondeepened, world trade fell further


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1947-79: GATT, Trade Liberalization,And Economic Growth

After WWII, the U.S. and other nations realized the valueof freer trade, and established the General Agreement onTariffs and Trade (GATT)

The approach of GATT (a multilateral agreement toliberalize trade) was to gradually eliminate barriers to trade


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1980-1993: Protectionist Trends

In the 1980s and early 1990s, the world trading system was strained

Japans economic strength and huge trade surplus stressed what hadbeen more equal trading patterns, and Japans perceived protectionist(neo-mercantilist) policies created intense political pressures in other

countriesPersistent trade deficits by the U.S., the worlds largest economy,caused significant economic problems for some industries and politicalproblems for the government

Many countries found that although limited by GATT from utilizing

tariffs, there were many other more subtle forms of intervention that hadthe same effects and did not technically violate GATT


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The Uruguay Round And TheWorld Trade Organization

The Uruguay Round of GATT negotiations began in 1986

The talks focused on several areas:

Services and Intellectual Property

-going beyond manufactured goods to address trade issues related toservices and intellectual property, and agriculture

The World Trade Organization

-it was hoped that enforcement mechanisms would make the WTO amore effective policeman of the global trade rules

The WTO encompassed GATT along with two sisters organizations,the General Agreement on Trade in Services (GATS) and theAgreement on Trade Related Aspects of Intellectual Property Rights(TRIPS)


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WTO: Experience To Date

Since its establishment, the WTO has emerged as aneffective advocate and facilitator of future trade deals,particularly in such areas as services

So far, the WTOs policing and enforcement mechanismsare having a positive effect

Most countries have adopted WTO recommendations fortrade disputes


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In 1997, 68 countries that account for more than 90% ofworld telecommunications revenues pledged to open theirmarkets to foreign competition and to abide by commonrules for fair competition in telecommunications

102 countries pledged to open to varying degrees theirbanking, securities, and insurance sectors to foreigncompetition

The agreement covers not just cross-border trade, but

also foreign direct investment

In 2005 , all the quotas on textile and apparel exportsvanished.


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The 1999 meeting of the WTO in Seattle was importantnot only for what happened between the member countries,but also for what occurred outside the building

Inside, members failed to agree on how to work towardthe reduction of barriers to cross-border trade in agriculturalproducts and cross-border trade and investment in services

Outside, the WTO became a magnet for various groupsprotesting free trade


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The Future OfThe WTO: UnresolvedIssues And The Doha Round

The WTO is encouraging members to strengthen the

regulations governing the imposition of antidumpingduties(India , EU and the US benefit from such laws asthey account for half of the antidumping cases between2000-2002)

The WTO is concerned with the high level of tariffs andsubsidies in the agricultural sector of many economies(Agricultural subsidies cover agricultural costs: 64% inJapan, 49% in EU, 24% in the US, 23% in Canada.)


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TRIPS(Trade Related Aspects of Intellectual PropertyRights) obliges WTO members to grant and enforcepatents lasting at least 20 years and copyrights lasting 50years

The WTO would like to bring down tariff rates onnonagricultural goods and services, and reduce the scopefor the selective use of high tariff rates

Th F Of Th WTO U l d


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The WTO launched a new round of talks at Doha, Qatarin 2001

The agenda includes:cutting tariffs on industrial goods and services

phasing out subsidies to agricultural producers

reducing barriers to cross-border investment

limiting the use of anti-dumping laws


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Implications For Managers

Managers need to consider how trade barriers affect thestrategy of the firm and the implications ofgovernmentpolicy on the firm


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Trade Barriers And Firm Strategy

Trade barriers raise the cost of exporting products to acountry

Voluntary export restraints (VERs) may limit a firms

ability to serve a country from locations outside that countryTo conform to local content requirements, a firm mayhave to locate more production activities in a given marketthan it would otherwise.(The Japanese automobile industrysetup manufacturing facilities in the 70s and 80s to

overcome such barriers)All of these can raise the firms costs above the level thatcould be achieved in a world without trade barriers


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Policy Implications

International firms have an incentive to lobby for freetrade, and keep protectionist pressures from causing themto have to change strategies

While there may be short run benefits to havinggovernmental protection in some situations, in the long runthese can backfire and othergovernments can retaliate

the political economy of international business edited

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