©2004 Prentice Hall6-1 Chapter 6: International Trade and Investment Theory International Business,...

©2004 Prentice Hall6-1

Chapter 6:International Trade and Investment Theory

International Business, 4th Edition

Griffin & Pustay


Chapter Objectives_1

Understand the motivation for international trade

Summarize and discuss the differences among the classical country-based theories of international trade

Use the modern firm-based theories of international trade to describe global strategies adopted by businesses


Chapter Objectives_2

Describe and categorize the different forms of international investment

Explain the reasons for foreign direct investment

Summarize how supply, demand, and political factors influence foreign direct investment


International Trade

Trade: voluntary exchange of goods, services, assets, or money between one person or organization and another

International trade: trade between residents of two countries


Figure 6.2 Sources of the World’s Merchandise Exports, 2001

37%

12%7%

4%

40%

European UnionUnited StatesJapanCanadaOther countries


The largest component of the

annual $1.5 trillion trade in

international services is

travel and tourism


Classical Country-Based Trade Theories

Mercantilism Absolute Advantage Comparative Advantage Comparative Advantage with Money Relative Factor Endowments


Mercantilism

A country’s wealth is measured by its holdings of gold and silver

A country’s goal should be to enlarge holdings of gold and silver by – Promoting exports

– Discouraging imports


Modern Mercantilism

Neomercantilists or protectionists– American Federation of Labor-Congress

of Industrial Organizations

– Textile manufacturers

– Steel companies

– Sugar growers

– Peanut farmers


Disadvantages of Mercantilism

Confuses the acquisition of treasure with the acquisition of wealth

Weakens the country because it robs individuals of the ability – To trade freely– To benefit from voluntary exchanges

Forces countries to produce products it would otherwise not in order to minimize imports


Absolute Advantage

Export those goods and services for which a country is more productive than other countries

Import those goods and services for which other countries are more productive than it is


Table 6.1 The Theory of Absolute Advantage: An Example

Wine 2 1

Clock radios

3 5

France JapanOUTPUT PER HOUR OF LABOR


Absolute Advantage’s Flaw

What happens to trade if one country has an absolute advantage in both products?

No trade would occur


Comparative Advantage

Produce and export those goods and services for which it is relatively more productive than other countries

Import those goods and services for which other countries are relatively more productive than it is


Differences between Comparative and Absolute Advantage

Absolute versus relative productivity differences

Comparative advantage incorporates the concept of opportunity cost– Value of what is given up to get the good


Table 6.2 The Theory of Comparative Advantage: An Example

Wine 4 1

Clock radios

6 5

France JapanOUTPUT PER HOUR OF LABOR


Comparative Advantage with Money

One is better off specializing in what one does relatively best

Produce and export those goods and services one is relatively best able to produce

Buy other goods and services from people who are better at producing them


Table 6.3 The Theory of Comparative Advantage with Money: An Example

French Made

Japanese Made

French Made

Japanese Made

Wine €3 €8 ¥375 ¥1,000

Clock Radios

€3 €1.6 ¥250 ¥200

Cost of Goods in France Cost of Goods in Japan


Relative Factor Endowments

Heckscher-Ohlin Theory What determines the products for

which a country will have a comparative advantage?– Factor endowments vary among countries

– Goods differ according to the types of factors that are used to produce them


Relative Factor Endowments_2

A country will have a comparative advantage in producing products that intensively use resources (factors of production) it has in abundance– China: labor

– Saudi Arabia: oil

– Argentina: wheat


Figure 6.3 U.S. Imports and Exports, 1947: The Leontief Paradox


Modern Firm-Based Trade Theories

Country Similarity Theory Product Life Cycle Theory Global Strategic Rivalry Theory Porter’s National Competitive

Advantage


Growth of Firm-Based Theories

Growing importance of MNCs Inability of the country-based theories

to explain and predict the existence and growth of intraindustry trade

Failure of Leontief and others to empirically validate country-based Heckscher-Ohlin Theory


Firm-Based Trade Theories

Incorporate additional factors into explanations of trade flows– Quality

– Technology

– Brand names

– Customer quality


Country Similarity Theory

Explains the phenomenon of intraindustry trade– Trade between two countries of goods

produced by the same industry

• Japan exports Toyotas to Germany

• Germany exports BMWs to Japan


Country Similarity Theory_2

Trade results from similarities of preferences among consumers in countries that are at the same stage of economic development

Most trade in manufactured goods should be between countries with similar per capita incomes


Product Life Cycle Theory

Describes the evolution of marketing strategies

Stages– New product

– Maturing product

– Standardized product


Figure 6.4 The International Product Life Cycle: Innovating Firm’s Country


Figure 6.4 The International Product Life Cycle: Other Industrialized Countries


Figure 6.4 The International Product Life Cycle: Less Developed Countries


Global Strategic Rivalry Theory

Firms struggle to develop sustainable competitive advantage

Advantage provides ability to dominate global marketplace

Focus: strategic decisions firms use to compete internationally


Sustaining Competitive Advantage

Owning intellectual property rights Investing in research and development Achieving economies of scale or scope Exploiting the experience curve


Porter’s National Competitive Advantage

Success in trade comes from the interaction of four country and firm specific elements– Factor conditions

– Demand conditions

– Related and supporting industries

– Firm strategy, structure, and rivalry


Figure 6.5 Porter’s Diamond of National Competitive Advantage

Firm Strategy, Structure,

and Rivalry

Related and SupportingIndustries

FactorConditions

DemandConditions


The intense competitiveness

of Japanese market forces

manufacturers to continually

develop and fine-tune new products


Figure 6.6 Theories of International Trade

Country-Based Theories Country is unit of analysis Emerged prior to WWII Developed by economists Explain interindustry trade Include

– Mercantilism– Absolute advantage– Comparative advantage– Relative factor endowments

Firm-Based Theories Firm is unit of analysis Emerged after WWII Developed by business school

professors Explain intraindustry trade Include

– Country similarity theory– Product life cycle– Global strategic rivalry– National competitive

advantage


Types of International Investments

Does the investor seek an active management role in the firm r merely a return from a passive investment?– Foreign Direct Investment

– Portfolio Investment


Figure 6.7 Stock of Foreign Direct Investment, by recipient


Table 6.4 Sources of FDI for the U.S., end of 2002

United Kingdom 283.3

France 170.6

Netherlands 154.8

Japan 152.

Germany 137.0

Switzerland 113.2

Canada 92.0

Luxembourg 34.3

Bermuda, Bahamas, Caribbean islands 32.5

Other European countries 113.3

All other countries 65.0

Total 1,348.0


Table 6.4 Destinations of FDI for the U.S., end of 2002

United Kingdom 255.4

Canada 152.5

Netherlands 145.5

Bermuda, Bahamas, Caribbean islands 98.1

Switzerland 70.1

Japan 65.7

Germany 64.7

Mexico 58.1

France 44.0

Other European countries 217.2

All other countries 349.7

Total 1,521.0


International Investment Theories

Ownership Advantages Internalization Dunning’s Eclectic Theory


Ownership Advantages

A firm owning a valuable asset that creates a competitive advantage domestically can use that advantage to penetrate foreign markets through FDI

Why FDI and not other methods?


Internalization Theory

FDI is more likely to occur when transaction costs with a second firm are high

Transaction costs: costs associated with negotiating, monitoring, and enforcing a contract


Dunning’s Eclectic Theory

FDI reflects both international business activity and business activity internal to the firm

3 conditions for FDI– Ownership advantage

– Location advantage

– Internalization advantage


Table 6.5 Factors Affecting the FDI Decision

Supply Factors Demand Factors Political Factors

Production costs Customer access Avoidance of trade barriers

Logistics Marketing advantages Economic development incentives

Resource availability Exploitation of competitive advantages

Access to technology Customer mobility


Ikea aggressively exports its furniture to

other countries

©2004 Prentice Hall6-1 Chapter 6: International Trade and Investment Theory International Business,...

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