Prof.

Bhargavi H Tangod

International Business
Module I- Introduction
 Introduction
Any business that involves operations in more
than one country can be called an international
business. International business is related to the
trade and investment operations done by entities
across national borders.
 Firms may assemble, acquire, produce, market,
and perform other value-addition-operations on
international scale and scope. Business
organizations may also engage in collaborations
with business partners from different countries.
 Why a business should go global?
• First-mover Advantage
• Opportunity for Growth
• Small Local Markets
• Increase of Customers
• Discourage Local Competitors
 Advantages
• Business Development
• Financial Benefit
• Technological Benefit
• Production advantages
• Human resource advantages
 Difference between Domestic and International Trade

Point of Domestic Trade International Trade

Difference
Meaning A business is said to be
domestic, when its economic
transactions are conducted
within the geographical
boundaries of the country.
Area of operation Within the country
International business
is one which is engaged
in economic transaction
with several countries in
the world.
Whole World

Deals in Single Currency Multiple Currency

Capital investment Less Huge

Restrictions Few Many

Mobility of factors Free Restricted

of production
Risk Factor Less High
International trade theories

Helps to analyze the patterns of

international trade, its origins, and
its welfare implications.
 Mercantilism: mid-16th century

• Mercantilism was a type of national economic policy designed to

maximize the trade of a nation and especially to maximize the
accumulation of gold and silver. It was dominant in modernized parts
of Europe from the 16th to the 18th centuries.

• A nation’s wealth depends on accumulated treasure

– Gold and silver are the currency of trade
• Theory says you should have a trade surplus.
– Maximize export through subsidies.
– Minimize imports through tariffs & quotas
 Criticism
• It unduly emphasized the importance
of money and over-emphasized the
importance of gold and silver.
• Zero- sum game
• It unduly emphasized the importance
of favorable balance of trade. For the
attainment of this objective, they
discouraged imports by imposing
heavy duties on foreign goods &
provided every possible ways to
minimize exports
 Theory of absolute advantage
(Adam Smith-1776)
• Export those goods & services for which a country is
more productive than other countries
• Import those goods & services for which other countries
are more productive than it is.
• Country should concentrate on production of goods in
which it holds an absolute advantage
• Measures nations wealth by the standard of living of its
people
In country I, one day's labour produces 20x or 10y. The internal exchange rate is 2 : 1.
In country II, one day's labour produce 10x or 20y which gives us the domestic
exchange rate of 1 : 2. Country I has the absolute advantage in the production of X (as
20 > 10) and country II in Y ( as 10 < 20). If these countries enter into trade with the
international exchange of 1 : 1, both countries stand to benefit. Country I will have 1y
for 1x as against 1/2y for 1x within the country. Similarly country II will have 1x for 1y as
against 1/2x for 1y within the country.
 Criticism
• This theory assumed that only bilateral trade could take
place between the nations and only in two
commodities that are to be exchanged.
• This theory also assumed that free trade exists
between the nations. It did not take into account
that protectionist measures (trade barriers) that are
adopted by the nations.
• it considered labor as the only cost of production in
manufacturing goods. It neglected other significant
elements like transportation costs, technological
costs etc.
 4-18

Theory of comparative advantage

• David Ricardo: Principles of Political Economy (1817)

– Countries should specialize in producing those goods of which they are
relatively more efficient producers
• these countries should then trade with the rest of the world to
obtain needed commodities
• If countries do specialize this way, total world production will
be greater
 Assumptions
1. Labour is the only productive factor.
2. Costs of production are measured in terms of
the labour units involved.
3. Labour is perfectly mobile within a country but
immobile internationally.
4. Labour is homogeneous.
5. There is unrestricted or free trade.
6. There are constant returns to scale.
Portugal has advantage of lower cost of production both in wine and cloth. However the
difference in cost, that is the comparative advantage is greater in the production of wine
(1.5 — 0.66 = 0.84) than in cloth (1.11 — 0.9 = 0.21).
 Factor proportions theory

• Heckscher - Ohlin Theory

• One condition for trade is that countries differ with

respect to the availability of factors of production

• In the 2x2x2 model or two countries, two commodities &

two factor model, implies that the capital rich country will
export capital intensive commodity & the labour rich
country will export labour intensive commodity
Factor proportions theory
 Factor proportions theory
Assumptions

• There are two countries involved

• Each country has two factors (labour & capital)
• Each country produce two commodities or goods
(labour intensive and capital intensive)
• There is perfect competition in both commodity
& factor markets
• Factors are freely mobile within a country but
immobile between countries
• Two countries differ in factor supply
 Factor proportions theory

• The theory states that the production patterns and trade

among various countries are determined by the
difference in factor endowments. The country that has
abundant capital will produce and export capital
intensive goods, and the countries with abundant supply
of labour will produce and export labour intensive
commodities.
 Criticisms
• Unrealistic Assumptions: Ohlin's theory assumes no qualitative difference in factors of
production, identical production function, constant return to scale, etc. All these
assumptions makes the theory unrealistic one.
• Restrictive: His theory includes only two commodities, two countries and two factors.
Thus it is a restrictive one.
• One-Sided Theory: According to Ohlin's theory, supply plays a significant role than
demand in determining factor prices. But if demand forces are more significant, a capital
abundant country will export labour intensive good as the price of capital will be high due
to high demand for capital.
• Static in Nature: The theory is based on a given state of economy and with a given
production function and does not accept any change.
• Wijnholds's Criticism: According to Wijnholds, it is not the factor prices that determine
the costs and commodity prices but it is commodity prices that determine the factor
prices.
• Consumers' Demand ignored : Ohlin forgot an important fact that commodity prices are
also influenced by the consumers' demand.
• Haberler's Criticism: According to Haberler, Ohlin's theory is based on partial
equilibrium. It fails to give a complete, comprehensive and general equilibrium analysis.
 The Leontief Paradox

The Test:
Could Factor Proportions Theory be
used to explain the types of goods
the United States imported and
exported?

The Method:
Input-output analysis
 The Leontief Paradox

The Findings:
The U.S. exported labor-intensive
products and imported capital-
intensive products.

The Controversy:
Findings were the opposite of what
was generally believed to be true!
Modern Firm-Based Theories
 Country similarity theory or Intra Industry
Trade Theory
• Swedish economist Steffan Linder developed
the country similarity theory in 1961.

• Linder’s theory proposed that consumers in countries

that are in the same or similar stage of development
would have similar preferences.

• Linder’s country similarity theory then states that most

trade in manufactured goods will be between countries
with similar per capita incomes.
 Product life cycle theory
(Raymond Vernon-1966)
• Products enter the market and gradually disappear
again. According to Raymond Vernon, each product has
a certain life cycle that begins with its development and
ends with its decline.
• There are four stages in a product’s life
cycle: introduction, growth, maturity and decline.
• The length of a Product Life Cycle stage varies for
different products, one stage may last some weeks while
others even last decades
• It is a myth that every product has to go through each of the stages
of the product life cycle.
• For example, the Philips light bulb was a product that found itself in
the maturity stage for decades.
• The duration of each stage depends on demand, production costs
and revenues. Low production costs and a high demand will ensure
a longer product life.
• When production costs are high and there is a low demand for the
product, it will not be offered on the market for a long time and,
eventually, it will be withdrawn from the market via the decline
stage.
 Global Strategic Rivalry Theory
(Paul Krugman & Kelvin Lancaster-1980s)

• The theory focused on MNCs and their efforts to gain a competitive

advantage against other global firms in their industry.

• Firms will encounter global competition in their industries and in order to

prosper, they must develop competitive advantages.

• The critical ways that firms can obtain a sustainable competitive

advantage are called the barriers to entry for that industry.

• The barriers to entry refer to the obstacles a new firm may face when
trying to enter into an industry or new market.
 The barriers to entry include:

• Research and development,

• The ownership of intellectual property rights,
• Economies of scale,
• Unique business processes or methods as well
as extensive experience in the industry, and
• The control of resources or favourable access to
raw materials.
 Investing in research and
development

IBM, world leader in IT, has eight laboratories on three

continents, each with its own personality and
expertise. At its Zurich Research Laboratory around
300 scientists representing over 20 nationalities
concentrate on areas such as microelectronics,
nanotechnology and computer security. Researchers
are judged on the basis of patents and papers. IBM
knows it must add intellectual property to its offerings.
Starting with his invention of the light bulb, Thomas
Edison ignited General Electric’s (GE) spirit of
innovation and discovery. By 1978 itself GE was first
to reach 50,000th patent. GE has more than 3,000
of the best and brightest researchers spread out at
four multi-disciplinary facilities around the world.
Headquartered in New York, it also has facilities in
India, China and Germany. It is delivering the
innovations and breakthroughs that are driving
growth for GE’s businesses and revolutionizing
markets. It believes in, ‘imaginations = innovations’.
Owning intellectual property rights: The term
“intellectual property” denotes the specific legal
rights which authors, inventors and
other intellectual property holders may hold and
exercise, and not the intellectual work itself.
Owning intellectual property rights boosts one’s
worth. It is this difference which works as
strategic rivalry.
 Achieving economies of scale

Achieving economies of scale or scope is

in fact leveraging your existing strengths.
Scale economies help reduce cost, pass
the benefit to consumers and expand
market share. It is very important that your
capacity is fully utilized.
Porter’s national competitive
advantage theory (Diamond model)
 Factor endowments
• Factor endowments:- A nation’s position in
factors of production such as skilled labor or
infrastructure necessary to compete in a given
industry
• Basic factor endowments

• Advanced factor endowments

 Basic factor endowments

• Basic factors: Factors present in a country

– Natural resources
– Climate
– Geographic location
– Demographics
• While basic factors can provide an initial
advantage they must be supported by
advanced factors to maintain success
E.g.
• Choice of tile to meet customer Demand
• Choice of italy as production location
• Wood is less available and expensive than tiles
• Most of the Advanced factors were available within Italy.
 Advanced factor endowments

• Communication
• Skilled labor
• Research
• Technology
• Education
• Italian ceramic E.g. 2
Industry after the • Japan’s knowledgeable
buyers of cameras made
world war II that industry to innovate
• There was a and grow tremendously
postwar housing
E.g. 3
BOOM !!
• Local demand for
• Consumers wanted cellular phones in
cool floors because scandinavia made nokia
and ericson to invest in
of Hot climatic that in other developing
conditions nations.
 Related and supporting industries

• Creates clusters of supporting industries

that are internationally competitive

• Must also meet requirements of other

parts of the Diamond
E.g.
• The enamel production unit was available.
• The glazes production was also favourable.
• These two were the main composition of
producing tiles.
• This reduces the Transportation cost.
 Firm Strategy, Structure and Rivalry

• Competition in the home market drives

innovation and quality
• Protectionism can weaken a market
• Presence of domestic rivalry improves a
company’s competitiveness
• Government can influence on any four components of
the diamond.

• Porter developed this paper based on case studies and

these tend to only apply to developed economies.
THANK YOU