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Question 1

Summarize the globalization debate. What are the major interest groups in the world economy? How are they affected by different elements of globalization?


Globalization is an idea whose time has come. From obscure origins in French and American writings in the

1960s, the concept of globalization finds expression today in all the world’s major languages (Stiglitz, 2002).

Yet, it lacks precise definition. Indeed, globalization is in danger of becoming, if it has not already become,

the cliché of our times: the big idea which encompasses everything from global financial markets to the

Internet but which delivers little substantive insight into the contemporary human condition.

Clichés, nevertheless, often capture elements of the lived experience of an epoch. In this respect,

globalization reflects a widespread perception that the world is rapidly being moulded into a shared social

space by economic and technological forces and that development in one region of the world can have

profound consequences for the life chances of individuals or communities on the other side of the globe. For

many, globalization is also associated with a sense of political fatalism and chronic insecurity in that the

sheer scale of contemporary social and economic change appears to outstrip the capacity of national

governments or citizens to control, contest or resist that change. The limits to national politics, in other

words, are forcefully suggested by globalization.

Although the popular rhetoric of globalization may capture aspects of the contemporary zeitgeist, there is a

burgeoning academic debate as to whether globalization, as an analytical construct, delivers any added

value in the search for a coherent understanding of the historical forces which, at the dawn of the new

millennium, are shaping the socio-political realities of everyday life. Despite a vast and expanding literature

there is, somewhat surprisingly, no cogent theory of globalization or even a systematic analysis of its

primary features. Moreover, few studies of globalization proffer a coherent historical narrative which

distinguishes between those events that are transitory or immediate and those developments that signal

the emergence of a new conjuncture; that is, a transformation of the nature, form and prospects of human



Globalization may be thought of initially as the widening, deepening and speeding up of worldwide

interconnectedness in all aspects of contemporary social life, from the cultural to the criminal, the financial

to the spiritual, that computer programmers in India now deliver services in real time to their employers in

Europe and the USA, while the cultivation of poppies in Burma can be linked to drug abuse in Berlin or

Belfast, illustrate the ways in which contemporary globalization connects communities in one region of the

world to developments in another continent. But beyond a general acknowledgement of a real or perceived

intensification of global interconnectedness there is substantial disagreement as to how globalization is best


conceptualized, how one should think about its causal dynamics, and how one should characterize its structural consequences, if any. A vibrant debate on these issues has developed in which it is possible to distinguish three broad schools of thought, which we will refer to as the hyperglobalizers, the sceptics, and the transformationalists. In essence each of these schools may be said to represent a distinctive account of globalization an attempt to understand and explain this social phenomenon.

For the hyperglobalizers, contemporary globalization defines a new era in which peoples everywhere are increasingly subject to the disciplines of the global marketplace. By contrast the sceptics, such as Hirst and Thompson, argue that globalization is essentially a myth which conceals the reality of an international economy increasingly segmented into three major regional blocs in which national governments remain very powerful. Finally, for the transformationalists, chief among them being Rosenau and Giddens, contemporary patterns of globalization are conceived as historically unprecedented such that states and societies across the globe are experiencing a process of profound change as they try to adapt to a more interconnected but highly uncertain world (Kedia & Mukherji, 1999). Interestingly, none of these three schools map directly on to traditional ideological positions or worldviews. Within the hyperglobalist’s camp orthodox neoliberal accounts of globalization can be found alongside Marxist accounts, while among the skeptics conservative as well as radical accounts share similar conceptions of, and conclusions about, the nature of contemporary globalization. Moreover, none of the great traditions of social enquiry liberal, conservative and Marxist has an agreed perspective on globalization as a socio-economic phenomenon. Among Marxists globalization is understood in quite incompatible ways as, for instance, the extension of monopoly capitalist imperialism or, alternatively, as a radically new form of globalized capitalism (Callinicos et al., 1994; Gill, 1995; Amin, 1997). Similarly, despite their broadly orthodox neoliberal starting points, Ohmae and Redwood produce very different accounts of, and conclusions about, the dynamics of contemporary globalization (Kedia & Mukherji, 1999). Among the hyperglobalizers, sceptics and transformationalists there is a rich diversity of intellectual approaches and normative convictions. Yet, despite this diversity, each of the perspectives reflects a general set of arguments and conclusions about globalization with respect to its


causal dynamics

socio-economic consequences

implications for state power and governance and

historical trajectory.

It is useful to dwell on the pattern of argument within and between approaches since this will shed light on the fundamental issues at stake in the globalization debate.



An interest group simply can be said to be a group of people who work together for similar interests or goals. These groups of people have an objective or objectives for which they agree to come together (Peng,


The world economy generally refers to the economy of all of the world's countries. It can be evaluated in various kinds of ways. For instance, depending on the model used, the valuation that is arrived at can be represented in a certain currency, such as US Dollars. It is inseparable from the geography and ecology of earth, and is therefore somewhat of a misnomer, since, while definitions and representations of the "world economy" vary widely, they must at a minimum exclude any consideration of resources or value based outside of the Earth. For example, while attempts could be made to calculate the value of currently unexploited mining opportunities in unclaimed territory in Antarctica, the same opportunities on Mars would not be considered a part of the world economy, even if currently exploited in some way and could be considered of latent value only in the same way as uncreated, such as a previously unconcealed invention, (Wikipedia).

The major interest groups in the world economy are:

1. Multinational Enterprises (MNEs) such as Wal-Mart and Exxon,

2. Transnational Corporations (TNCs) such as DANIDA,

3. Transnational Media Organizations (TMCs) such as BBC and CNN,

4. Non-Governmental Organizations (NGOs) such as Friends of the Earth etc


Much as globalization has perspectives, dimensions and views, it has elements that deserve much attention lest; they pose threats to the success of the concept of globalization and even to the interest groups in the world economy. Globalization comprises of three inter-connected elements as postulated by Woods, (2000). They are referred to as the core elements and are: The expansion of markets; Challenges to the state and institutions; and the rise of new social and political movements. Trans-border capital, labour, management, news, images and data flows are also some of the elements globalization.


The expansion of markets

A first core aspect of globalization is the transformation of global economic activity. Technological change and government deregulation have permitted the establishment of transnational networks in production, trade and finance. Some have gone so far as to call this the new `borderless world.


The new `production' network describes firms and multinational enterprises (MNEs) who use advanced means of communication, and new, flexible techniques of production so as to spread their activities across the globe.

In trade, globalization refers to the fact that the quantity and speed of goods and services traded across the

globe has increased, and so too the geographical spread of participants, the strength and depth of

institutions which facilitate trade, and the impact of trade on domestic economic arrangements.

Finally, in finance, globalization has been facilitated by new financial instruments which permit a wider range of services to be bought and sold across the world economy. Overall financial globalization is characterized by an increasing speed, quantity, geographical spread, and impact of international finance - the creation of what can rightly be called a global financial system. It is that national currencies - for so long thought of as a corner-stone of sovereignty - have become deterritorialized leaving governments to compete in a global marketplace of currencies for control and usage of their currency.

It is important to recall that technology alone has not driven this expansion in global markets. Rather

technological advances, hand-in-hand with governments' policies have produced the effects noted above. For example, the increased globalization of finance which occurred in the 1970s was made possible by state decisions to grant more freedom to market operators and to abolish postwar capital controls. Equally

importantly, at this time states chose to refrain from imposing more effective capital controls.

The transformation of politics

A second element of globalization is political. At the extreme, some argue that a new `global politics' is

emerging which, like the `borderless world economy', is characterized by a global political order in which states' political boundaries become much less important. In the old system, sovereign states interacted with each other according to rules which they - as states - agreed upon. In the new interconnected global political

order, political power and political activity are said to extend across the boundaries of nation-states. Without accepting the `global politics' version of political change, several changes can be noted in political power and authority which have occurred not just as a result of technological advances in communications, but also as governments and other actors have altered their perceptions of their interests and their legitimate realm of authority.

In the first place, `global issues' have emerged which require states to coordinate policy-making at levels

above the nation-state. These issues include human rights, environmental degradation, and nuclear safety. Furthermore, the same technologies and policies which make new kinds of economic activity possible also facilitate the spread of transnational crime, weapons, drugs and illegal immigrants. All of these issues are

such that no one state can effectively regulate on its own. And likewise, economic globalization adds another range of regulatory issues. For this reason, the globalization of politics describes a shift in the locus

of decision-making up to either the regional or the international level. At the regional level, the past decade


has seen a flourishing of regional arrangements, in trade for example; virtually every country in the world is now part of some regional trade arrangement. So too, at the international level, increasing `institutionalization' has taken place, with an increase not just in the number of institutions, but also in the depth and breadth of issues they are being required to address. These shifts in decision-making do not necessarily imply an erosion of existing state power and authority. Rather, what has changed is the way (and the fora) in which states use their power and authority - with states now choosing to participate in regimes in which they make decisions in coordination or cooperation with other states.

Accompanying the increase in regional and international decision-making, is a change in the way governments interact. Modern communications systems mean that national (or even sub-national) decision- makers can interact horizontally with officials in other countries. Where previously international linkages were made either at the top or through diplomatic channels, officials may now communicate directly across borders with one another, across an ever-wider range of issues. This is likely both to strengthen and to reflect strong regional ties - as in the European case.

It is not only governments that are interacting horizontally. A multitude of non-state actors are interacting in

a similar way, including multinational enterprises, non-governmental organizations, and sub-national groups such as trade unions or indigenous minorities. The increasing linkages among these groups have strengthened their international presence, making these non-state actors another aspect of globalized politics.

Finally, it has been suggested by many, that globalization is inducing not just a shift in decision-making upwards towards regional and international fora, but at the same time a shift downwards to sub-national fora. In other words, globalization is inducing not just an increase in supranational decision-making, but at the same time a decentralization of decision-making within countries. The example I have invoked elsewhere is that of Europe where sub-national regions have gradually increased their status within the institutions of the European Union. In the context of the EU, recognizing sub-national regions has been an important part of democratic representation and accountability. Similarly, the World Bank and other multilateral development banks have pursued more accountable and participatory programs in the developing world, through a more decentralized approach, encouraging local levels of governance.

The emergence of new social and political movements

Globalization affects more than markets and states. It is altering the lives of people across the globe and affecting their culture and values. New communications systems mean that media, music, books, international ideas, and values can all disseminated in a global and virtually instantaneous manner. This is producing what some describe as a `global culture'. Such a description, however, ignores the way in which globalization is simultaneously producing very different kinds of reactions and cultures. For example, whilst Western values and ideas (along with food chains) have spread into Russia and the Middle East, in both


these regions of the world there has also been a strong reassertion of `counter' national or religious identity - with strong nationalism in Russia and a dramatic rise in political Islam in the Middle East. These `reactions' and `rebellions' against Westernization are in turn assisted by the new technologies which make communication and networking across borders possible - such as the transnational networks built up around political Islam.

Common to both the westernization and reactions against it are groups and movements organizing themselves using new technology and new ways of connecting across borders. As argued in chapter seven, one of the ramifications of this is the emergence of what could be described as a `global civil society'. More modestly, what is new are social movements that can emerge with much less regard for territory. Territorial location, territorial distance and territorial borders have lost their determining influence. Modern technology means that people can connect in a space unbounded by territory in the sense that distance can be covered in effectively no time and territorial frontiers present no particular impediment. As a result, transnationally organized groups can identify in a new way, forming around a premise of supraterritorial solidarity instead of within national bounds whether it be around class, gender, religious faith, or profession.

Common to all elements of globalization is the sense that activities previously undertaken within national boundaries can be undertaken globally or regionally - to some extent ‘deterritorialized’. This is equally true of: firms' research and development; the usage of national currencies; some global political issues; and social movements. The central question this raises is: upon who do these changes impact? Globalization entails both positive and negative consequences: it is both narrowing and widening the income gaps among and within nations, intensifying and diminishing political domination, and homogenizing and pluralizing cultural identities.


1. Kedia B. & Mukherji A. (1999) Global Managers, JWB, 34: 230-251;

2. Peng M. W. (2009) Global Business; International Student Edition; Canada; South Western Cengage Learning.

3. Stiglitz J. (2002). The commanding Heights (p. 385), New York; Norton.

4. Toyne B. & Martinez Z. (2004), The meaning of international management, MIR, 44: 195 215

5. Woods N. (2006), ‘The Political Economy of Globalization Macmillan’ Borrowers Cornell University Press.


Question 2

Who benefits and who loses from a shift in job to low-wage economies? Consider this question from the perspective of consumers, labour, technological change, firms, nation-state. Are the net benefits likely to be positive?



An economy is the sum total of all ‘commercial activities.’ It includes buying, selling, distributing, giving,

taking and such other activities. It does not include activities such as reading a book. But if you were reading

the book after paying a certain fee then this will be a part of economic activity. Similarly while gazing

soulfully at a landscape is not a part of the economy, it does become one if it is part of a paid tour.

But economy deals with things on the large scale. Economy would not concern itself with one person gazing

at a landscape, but it would concern itself with the tourism industry which facilitates such gazing.

A country’s economy is a fundamental pillar of its society. Its health is indicative of the country’s prosperity

and power (Einhorn & Jessica, 2001).


Minimum wage is the lowest hourly, daily or monthly wage that employers may legally pay to employees or

workers. Equivalently, it is the lowest wage at which workers may sell their labor. Although minimum wage

laws are in effect in a great many jurisdictions, there are differences of opinion about the benefits and

drawbacks of a minimum wage. Supporters of the minimum wage say that it increases the standard of living

of workers and reduces poverty. Opponents say that if it is high enough to be effective, it increases

unemployment, particularly among workers with very low productivity due to inexperience or handicap,

thereby harming lesser skilled workers to the benefit of better skilled workers.



It is assumed in this scenario that two economic situations are being dealt with. Furthermore, it is assumed

that the scenario is referring to jobs being shifted from high wage economy to a low wage economy. When

this happens there is the likelihood that a lot will be affected either positively or economy to a low-wage

economy would mean that workers will have to adjust to a new characteristic economy with low minimum

wages, salary, low business activities, poverty etc.

According to Williamson (1985), who loses or benefits in the change of economic environment from a high-

wage situation to a low-wage situation will be self judging. Therefore, a look at how they consumers, labour,

technological change, firms and the nation are likely to fair individually under a low-wage economy is




One of the characteristics of low-wage economies is that salaries are low. Labour movement from a high- wage economy means workers will have to earn wages and salaries that are not exactly commensurate with their expense. In addition, there will be pressure on even the already existing labour in the low-wage economy because they are surely will be outclassed in expertise and technical abilities.


A shift in jobs form a high-wage to low-wage economy means that workers will also have to shift with all

their expertise. When this happens consumers will now be enjoying a more quality goods and services than they used to enjoy and this will lead to improvement in living standards and even health etc. it will mean that highly trained people will now be available in the economy (low-wage) with their professionalism that will reap to the benefits of the consumer.

Technological Change

A shift in jobs from one economy to another that is likely to be under utilizing technology means that

technology will not be of too much use and much appreciated.

To say whether technology will benefit or not is a very dicey situation. In a low-wage economy, technology can also be appreciated due to how willing the economy is to advance in technology. However, technological shift from a high-wage economy to a low-wage one will impliedly mean that technology itself will have to adjust in order to suit the new situation.


Firms and businesses are likely to be embracing of this change. Reaching the fact that workers must shift will all their technical abilities, expertise and professionalism to an economic that lacks such characteristics, firms will gain the services of those who can deliver quality (skilled labour) and bring to the firm improvement due to new ideas of going about business and manufacturing. They are also likely to benefit from technological changes and advancement. However, the question will also remain that, can firms reward these experts commensurately?


Nation or states in a low-wage economy are likely to be appreciative of the influx of jobs shift from a high wage economics. The shift in job means highly skilled professional, other than those workers already in the economy. The improvement of the economy due to improved way of going about business activities will benefit the state too. The nation benefits and grows as aspects in it also improve. In conclusion, the question as to who benefits or loses depends what one considers or regards as benefits or loses.



Whether the net benefits are likely to be positive can well be elaborated the implications of the shift in jobs

from a high-wage economy to the low-wage economy, and, in the context of consumers, labour,

technological change, firms and nation states. To consider benefits, it is prudent to consider the pluses and

the minuses of this shift on the economy. Once the pluses outweigh the minuses, the net benefits are

positive and vice versa. In this regard, consumers are likely to benefit of quality goods and services but in

some cases, must be ready or willing to pay a bit more. Labour is likely to suffer stiff competition from a high

skilled personnel, technology change is likely to be positive, firms are likely to high the services of

professionals and skilled labour but, must also be willing to pay more. Unskilled labour faces stiff

competition creating unemployment. Whatever happens to the root apart from the state is likely to affect

the state; therefore, one can somehow safely say that the net benefits are likely to be positive.


1. Acs, G. and Austin N. (2007), Low-Income Workers and Their Employers, Characteristics and

Challenges. Washington, DC: The Urban Institute.

2. Einhorn, Jessica. “The World Bank’s Mission Creep,” Foreign Affairs, September/October 2001. To

order the full article, visit www.foreignaffairs.org.

3. Peng M. W. (2009) Global Business; International Student Edition; Canada; South Western Cengage


4. Williamson O. (1985) The Economic Institutions of Capitalism (p. 1-2), New York: Free Press.

Question 3

Identify and evaluate the sources of conflict between pressures on companies to operate globally and the desire of governments to regulate companies and activities within their borders.



Traditionally global business according to Peng (2009) is a business (firm) that engages in international

(cross-border) economic activities and or the action of doing business abroad.

Doing business abroad does not run smoothly as business men would like it. It always take place with strict

or full regard to international laws of the various countries that engage in business be it country to country

business or an organization in one country with another in another country. Apart from the numerous


problems and barriers a companies face when trying to go global or international, government regulatory policies regarding international trade are also sources of worry for the companies (Peng, 2009). However, in the face of all these there is likely to be conflicts.

A conflict can simple be said to be a misunderstanding between two groups of people or persons with

opposing interest. Government regulation on the other hand in this context, is policies formulated or

existing that regulate how not to go about business as far as information trade is concerned.

Problem of international trade

Trade barriers are a general term that describes any government policy or regulation that restricts international trade. The barriers can take many forms, including the following terms that include many restrictions in international trade within multiple countries that import and export any items of trade:

tariffs, import licenses, import quotas, subsidies, non-tariff barriers to trade, voluntary export requirements, local content requirements etc.


Most trade barriers work on the same principle: the imposition of some sort of cost on trade that raises the price of the traded products. If two or more nations repeatedly use trade barriers against each other, then a trade war results.

Economists generally agree that trade barriers are detrimental and decrease overall economic efficiency, this can be explained by the theory of comparative advantage. In theory, free trade involves the removal of all such barriers, except perhaps those considered necessary for health or national security. In practice, however, even those countries promoting free trade heavily subsidize certain industries, such as agriculture and steel.

Other trade barriers include differences in culture, customs, traditions, laws, language and currency.

Free trade refers to the elimination of barriers to international trade. The most common barriers to trade are tariffs, quotas, and nontariff barriers.

A tariff is a tax on imports, which is collected by the federal government and which raises the price of the

good to the consumer. Also known as duties or import duties, tariffs usually aim first to limit imports and

second to raise revenue.

A quota is a limit on the amount of a certain type of good that may be imported into the country. A quota

can be either voluntary or legally enforced.

The effect of tariffs and quotas is the same: to limit imports and protect domestic producers from foreign competition. A tariff raises the price of the foreign good beyond the market equilibrium price, which


decreases the demand for and, eventually, the supply of the foreign good. A quota limits the supply to a certain quantity, which raises the price beyond the market equilibrium level and thus decreases demand.

Tariffs come in different forms, mostly depending on the motivation, or rather the stated motivation. (The actual motivation is always to limit imports.) For instance, a tariff may be levied in order to bring the price of the imported good up to the level of the domestically produced good. This so-called scientific tariff which to an economist is anything but has the stated goal of equalizing the price and, therefore, “leveling the playing field, between foreign and domestic producers. In this game, the consumer loses.

A peril-point tariff is levied in order to save a domestic industry that has deteriorated to the point where its very existence is in peril. An economist would argue that the industry should be allowed to expire. That way, factors of production used by that inefficient industry could move into a new one where they would be better employed.

A retaliatory tariff is one that is levied in response to a tariff levied by a trading partner. In the eyes of an economist, retaliatory tariffs make no sense because they just start tariff wars in which no one-least of all the consumer-wins.

Nontariff barriers include quotas, regulations regarding product content or quality, and other conditions that hinder imports. One of the most commonly used nontariff barriers are product standards, which may aim to serve as “barriers to trade.” For instance, when the United States prohibits the importation of unpasteurized cheese from France, is it protecting the health of the American consumer or protecting the revenue of the American cheese producer?

Why go international

According to Baggs & Brander (2006) companies do not go international just for the sake of it but, for various reasons. Among some of these reasons are:


Many companies look to international markets for growth. Introducing new products internationally can expand a company's customer base, sales and revenue. For example, after Coca-Cola dominated the U.S. market, it expanded their business globally starting in 1926 to increase sales and profits.


Companies go international to find alternative sources of labor. Some companies look to international countries for lower-cost manufacturing, technology assistance and other services in order to maintain a competitive advantage.



Some companies go international to locate resources that are difficult to obtain in their home markets, or that can be obtained at a better price internationally.


Companies go international to broaden their work force and obtain new ideas. A work force comprised of different backgrounds and cultural differences can bring fresh ideas and concepts to help a company grow. For example, IBM actively recruits individuals from diverse backgrounds because it believes it's a competitive advantage that drives innovation and benefits customers.


Some companies go international to diversify. Selling products and services in multiple countries reduces the company's exposure to possible economic and political instability in a single country.



Influence of Domestic Policy

Domestic policy can be subdivided into two groups of actions that affect trade and investment. The first affects trade and investment indirectly the second directly.

The domestic policy actions of most governments aim to increase the standard of living of the country citizens, to improve the quality of life, to stimulate national development, and to achieve full employer. Clearly all of these goals are closely intertwined. For example, an improved standard of living is likely to contribute to national development. Similarly, quality of life and standard of living are interlinked. Also, a high level of employment plays a major role in determining standard of living. Yet all of these policy goals also indirectly affect international trade and investment. For example, if foreign industries becomes more competitive and rapidly increase their exports, employment in importing countries may suffer, likewise, if a country accumulates large quantities of debt, which at some time must be repaid, present and future standards of living may be threatened.

Policy affects trade and investment in more direct ways too. A country may pursue policy of increased development that mandate either technology transfer from abroad or the exclusion of foreign industries to the benefit of domestic firms. Also, governments officials may believe that import threaten the culture, health, or standard of living of the country citizens and thus the quality of life. As a result, nations develop regulations aimed at protecting their citizens.


Influence of Foreign Policy

Nations also institute foreign policy measures that, while designed with domestic condemns in mind, are explicitly aimed at exercising influence abroad. One major goal of foreign policy is national security. For example, nations may develop alliances, coalitions, and agreements to protect their boards or their spheres of interest.

Similarly, nations may take measures to enhance their national security preparedness in case of international conflict. They may even take action to restrict or encourage trade and investment flows in order to preserve or enhance the capability of industries that are important to national security.

Another goal of foreign policy may be improve trade and investment opportunities. To develop new markets abroad an increase their sphere of influence, for instance, nation may give foreign aid to other countries. Such aid may be long-term, such as the generous Marshall plan funds awards by the United States for the reconstruction of Europe, or may serve as emergency measures. The United States is the world largest single-country donor of foreign aid, providing $23.5 billion in 2006. In recent years, debt forgiveness has played a major role in helping developing countries make advanced repayment of external public debt. For the heavily indebted poor countries, the debt levels of 2006 are estimated to have come down to half the level of five years ago.

Conflicting Policies

Each country develops its own domestic and foreign policies, and therefore policy aims vary from nation to nation. Inevitably, conflicts arise. For example, full employment policies in one country may directly affect employment policies in another. Similarly, the development aims of one country may reduce the development sap ability of another. Even when health issues are concerned, disputes arise. One nation may argue that is regulations are in place to protect its citizens, while other nations interpret domestic regulations as market barriers. As described in the case that opens this chapter, U.S. Tariffs on Chinese steel import aim to protect American steel producers by limiting a multi-billion dollar industry in china.

Ongoing disagreement between the U.S. Europe and china over the safety of Chinese produced toys is another example. While the U.S. claims that levels of lead found in toys make them too dangerous for children to play with china counters that the U.S. uses overly stringent safety standards to restrict imports.

Conflicts among national policies have always existed but have come into prominence only in recent decades. The reason lies in the changes that have taken place in the world trade and investment climate. These changes are discussed next.

Conflicts between global business activities or international trade have always existed but have come into pronounce only in recent decades. The reason lies in the changes that have taken place in the world or global trade and investment climate, and the desire of government to protect its citizen in every aspects of


life, which is its responsibility, but it is worth noting that the degree of government role in global trade can

or nay be decided by the system of economic (pure market, Pure command and mixed economics) of that



1. Baggs J. & Brander J. (2006). Trade liberalization, profitability, and financial leverage, JIBS, 37: 196-


2. Vernonn R. (1996) International Investments and international trade in product life cycle, QJE, May:


3. Czinkota et al (2009), Fundamentals of International Business, 2 nd edition, Wessex Inc. Bronxville, NY

Question 4

Account for the existence of counter trade in the world economy and explore the view that its influence will continue as a solution to the problem developing countries face when attempting to export to western markets?



Counter Trade means exchanging goods or services which are paid for, in whole or part, with other goods or

services, rather than with money. A monetary valuation can however be used in counter trade for

accounting purposes. In dealings between sovereign states, the term bilateral trade is used. It also refers to

the reciprocal and compensatory trade agreements involving the purchase of goods or services by the seller

from the buyer of his product, or arrangements whereby the seller assists the buyer in reducing the amount

of net cost of the purchase through some form of compensatory financing.

Countertrade is the practice in international trading of paying for goods in a form other than by hard

currency (Oxford, 2002). It can also be described as an alternative means of structuring an international sale

when conventional means of payment are difficult, costly, or nonexistent (Hill, 2006).

In most cases counter trading takes place where a company in a country that has little foreign currency

wants to purchase goods from a company in another country. As the company cannot obtain the

appropriate currency to purchase the goods it wants, it offers goods in return for the goods it needs (Leader

et al, 1990).

Countertrade transactions are on the increase. According to West (2002), countertrade makes up an

estimated 20 percent of all world trade. Hence, a significant amount of international transactions now


involve some form of countertrade agreement. This is especially so in the communist countries and also emerging markets where the availability of acceptable hard currency is poor (Reynolds, 2006).

Studies highlight the role that countertrade may play in helping foreign firms develop relationships with developing countries. Developing business relationship in such countries may be hindered by their lack of cash or poorly convertible currency. Foreign firms, however, may be keen to enter rapidly to gain first mover advantages (Bridgewater et al, 2002).

According to Cateora et al, (2006), countertrade is a pricing tool that every international marketer must be ready to employ, and the willingness to accept a countertrade will often give the company a competitive advantage. If a company is unwilling to enter a countertrade agreement, it may lose an exporting opportunity to a competitor that is willing to make a countertrade agreement.

Given the problems that many emerging markets have short of hard currency to pay for their purchases and they want to pay with other items instead of cash, countertrade may be the only option available when doing business in emerging markets. However, the drawbacks of countertrade agreements are substantial.

The main disadvantage in a countertrade transaction is that firms often find themselves handling products with which they are not familiar. In addition to this, countertrade can be expensive and time-consuming because of requirement of an in-house trading department to dispose of products profitability.

Countertrade is most attractive to large, diverse multinational enterprises that can use their worldwide network of contacts to dispose of goods acquired in countertrading (Hill, 2006). Unlike large enterprises, small and medium sized exporters should probably try to avoid countertrade deals unless they have no other options because they lack the worldwide network of operations that may be required to profitability utilize or dispose of goods acquired through them (Lecraw, 1989).

With its roots in the simple trading of goods and services for other goods and services, countertrade can be categorized as four distinct transactions: barter, compensation deals, counter-purchase, and buy-back. Barter is probably the oldest and best known example of countertrading, however others have also evolved to meet the requirements of a more sophisticated world economy. Types of countertrade are as follows:

There are four main types of Counter Trade, and they are discussed below.



Barter is the direct exchange of goods between two parties in a transaction (Cateora et al, 2006). This type of countertrade occurs without a cash transaction. Although barter is the simplest arrangement in international commerce, it is not common because the parties needs for the goods of the other seldom coincide and because valuation of the goods may be problematic.




Counter-purchase is also known as offset trade. In this situation, seller receives payment in cash but also signs a second contract to purchase a certain amount of goods from the buyer also in cash. This might be for exactly the same amount as the first deal therefore completely offsetting the cash handed over for the first transaction, or it might only be for a proportion of the value of the first transaction (Reynolds, 2006). This type of countertrade is quite common.

3. Buy-back

This type of agreement is made when the sale involves goods or services that produce other goods and services, that is, production plant, production equipment, or technology. The buy-back agreement usually involves one of two situations: The seller agrees to accept as partial payment a certain portion of the output, or the seller receives full price initially but agrees to buy back a certain portion of output (Cateora et al, 2006).

4. Offsets

This is the form of countertrade that is taking centre stage today. Suppliers of capital equipment such as aircraft and telecommunications equipment, and more especially defence materiel, are obliged to offer offsets in the form of licensing, co-production, joint ventures, technology transfer, training, research and development and so forth, as part of the sales package.

Importance of Countertrading - Countertrade currently makes up approximately 20% of international trade. Thus, exporters who neglect countertrading may be depriving themselves of entry into new markets and expanding their exports to existing markets.

Hennart (1990) differentiated countertrade into two main contracts, each with a different purpose. The first type, barter contracts, are undertaken to avoid using money or to having to set a money-price; while the second type, consisting of offset, buybacks and counter-purchase, uses hard currency and involves reciprocal commitments.

Export Problems

While the concept of countertrade may be simple, its implementation is not. Many problems identified in the literature listed below often result in firms (regardless of size), reluctance to engage in countertrade. In general, problems in countertrade may fall into any one of these categories: attitudinal, managerial, marketing, and economic-political:

Lack of countertrade knowledge and in-house expertise;

An increase in costs, risks, and uncertainties;


Complex and time-consuming negotiations often involving many and varied partners (i.e. either between private firms and/or government agencies or state-owned enterprises, or between two or more private firms);

Legal concerns as two or more contracts have to be drawn;

Added brokerage costs and facilities requirements;

Difficulties in reselling products offered by customers;

Customers can evolve as potential competitors;

Pricing and the determination of product/ service value; and

Lack of control over the quality of the merchandise traded.

More uncertainties and risks thus, exist in countertrade deals than in normal cash or credit trade transactions. The risks, terms, and conditions of countertrade transactions vary on a case to case basis, for example, between a firm that has a proactive countertrade strategy and another with a reactive countertrade strategy.

The countertrade arrangement will also depend on the specific characteristics of the transaction being negotiated i.e. financial arrangements involved, value, and length of time of the deal, and the type of countertrade involved. By being aware of the problems and pitfalls of countertrade, small and medium-size firms can be more judicious in their decision to countertrade, and in planning and developing their countertrade strategy and policy.

Motivations: The motives to countertrade are the driving forces that influence firms to use countertrade to meet their corporate goals and needs. A firm's countertrade behaviour and strategy however, maybe influenced by the broader macro- country countertrade policy e.g. Australia's mandated offset countertrade policy or Indonesia's national countertrade policy, leaving firms no alternative but to use countertrade if they want to trade with the governments of such countries.

To measure countertrade success, small firms should understand the qualitative (or non-quantifiable) motives that go into the decision to countertrade. Measuring countertrade success is difficult for two reasons (Okoroafo 1994). First, some types (e.g. buyback and offset) involve a long time frame (more than a year) hence, a typical determination of yearly performance cannot be made. Second, the long negotiations and costs involved in switching products, transportation and storage of products, and the possibility of unsold goods can cause enormous strain on company resources.

Consequently, those involved in the decision to countertrade should begin with self-examinationof their motivations to countertrade as these are the major determinants of "success or performance" rather than the traditional business success measures such as sales, return-on-investment (ROI), or market share.

Firms' motivations to countertrade are grouped into four motives: strategic, marketing, economic-financial and behavioural / managerial. By classifying micromotives into four groups, the author has expanded an


earlier study (Llanes 1994) using ten "stylised" or proven benefits drawn from perceptions of export firms towards countertrade across five countries: Australia, Canada, New Zealand, South Korea and the United Kingdom.

Strategic motive: drive a firm to integrate countertrade in the overall company strategy as a tool to increase its long-term well-being, gain competitive advantage and maximise its opportunities in the international trade arena. Examples of strategic motives are to increase sales volume, improve competitiveness, and growth/ profit goals". Often acceding to countertrade is the only option in obtaining a sale as in the former CPEs, mostly Eastern European countries, and in most developing countries. In these countries, countertrade is often treated as a "second-best" or last resort international trading mechanism.

In some cases, particularly in buy-back or compensation deals, firms are motivated to obtain long-term, reliable and inexpensive supply of raw materials. This assures firms a fuller use of their productive capacity. While technology transfer is often seen as a specific national goal as opposed to a firm's specific goal, some Western firms find their ability to control the flow of technology and expertise critical in cushioning government's intervention through mandated countertrade in inter-firm trade. Like forward contracts, countertrade shifts the risks arising from fluctuations in exports by reducing uncertainties in export financing and sales, and increasing certainty in the volume and time path of exports.

There are three distinct marketing motives to countertrade:

Market expansion (e.g. to gain access to "close or difficult markets;" small/ stagnant domestic market);

Marketing advantages (e.g. to sell a unique product; to extend sale of declining or obsolete product, conceal a price cut; to dispose surplus) and

Relationship building (e.g. to foster long-term term relationship; to secure government contracts).

Economic-financial motive to countertrade grew out of adverse economic environments to provide solutions to problems (e.g. indebtedness; currency shortage; blocked funds; trade restrictions) that often characterize trade with "close" and less developing countries’ markets. In the 1950s, Eastern European economies used countertrade to redress their lack of foreign "hard" currency needed to import Western goods crucial for their economic development.

Economic-financial motives affect both the firms’ short-term and long-term operations (e.g. impact of non- payment on production schedules and employment); and overall outcomes, the bottom line. Simpson (1995) asserts that the dominating motivations for countertrade deals are economic in nature and other motivations such as export market expansion are related back to liquidity conservation and value maximization.


Behavioural/managerial motives play a role in influencing the extent (or promotion) of countertrade activities of the firm. A positive attitude toward countertrade is important when considering to countertrade, is often dependent on the decision-makersperceptions and expectations of the advantages/ disadvantages of countertrade, and commitment (personal and company resources). This attitude will usually determine the firm’s countertrade strategy i.e. a proactive or a reactive strategy.

The distinction whether the firm is proactive or reactive is important because it identifies the nature of the countertrade decision process, i.e. whether countertrade is entered into because it is mandated, “required” for a sale to be made, or whether it is initiated on a voluntary basis. Being proactive or reactive also indicates the extent the firm's commitment to use its resources to carry through the countertrade arrangement.

In the absence of countertrade literature on the individual characteristics of countertraders, the author borrowed from export literature to hypothesise that a distinct relationship exists between countertraders' characteristics and their countertrade behaviour, i.e. likelihood to countertrade depends on the ability and willingness of firms to countertrade. The rise of countertrade services and specialists, the spread of countertrade information and involvement of more institutions to support countertrade such as banks, lawyers, government agencies (as change agents) have driven many firms particularly SMEs to consider countertrade as an international trading tool.

Small and medium firms thus, could employ countertrade as an innovative strategy to strengthen their competitive advantage in the global business arena. As discussed, there are strong and compelling reasons for firms to take up opportunities in countertrade deals.


Bridgewater, S, and Egan, C. (2002), "International Marketing Relationships", Palgrave, p.231

Cateora, P.R., and Ghauri, P.N. (2006), "International Marketing", European Edition, McGraw-Hill,


Hill, C.W.L (2006), "International Business", 6th Edition, McGraw-Hill, p.546-549

Leader, W.G., and Kyritsis, N. (1990), "Fundamentals of Marketing", 1st Education, p.130

Edition, Hutchinson

Lecraw D.J. (1989), "The Management of Countertrade: Factors Influencing Success", Journal of International Business Studies, Spring, p.41-59

Reynolds, P. (2006), "Lecture Notes"

West, D. (2002), "Countertrade", Business Credit, April, p.48-51


Question 5

Analyze the likely impact on domestic markets of import restrictions via tariffs and quotas respectively. Discuss the dynamic side effects that can arise from import protection



For companies to survive and remain in business in the current global market they must engage in international trade or go global. Going global usually comes with restrictions and problem partially from the government of the country in the business. Among these are imports restrictions through tariffs and quotas.

Import Restrictions

Globally, most countries maintain at least a surface level of conformity with international principles. However, many exert substantial restraints on free trade through import controls and barriers. Some of the more frequently encountered barriers particularly common in countries that face deficit problems are exercise duties, country quotas, advance import deposits, customs surcharges, licensing fears, global quotas among many others. (Czinkota, 2009)

What are Tariffs?

Tariffs are taxes imposed by government, based primarily on the value of goods and services imported.

What are Quotas?

Quotas are restrictions on the number of foreign products that can be imported into a country. This is primarily done to boost domestic production.

Impact of Tariffs and Quotas on the Domestic Market

The impact relatively minimal, one major impact of import restriction via tariffs and quotas on the domestic market is either shortage of supply to consumers caused by quotas or large of patronage due to high prices caused by high tariffs. The impact is usually in the region of costs and lack of the restricted goods and services.

Conclusively, be conceded that, regardless of the various important reasons for restricting importation via tariffs and quotas, the negative impact on the domestic market surpasses the positive.


Import protection is basically the imposition of tariffs that are intended to artificially in flute prices of imports and protect domestic industries from foreign competition.


The Dynamic side effects that Arises from Import Protection

Import protection intended to protect local industries from foreign competition can have positive or negative effects. Among some of those effects are discussed below:

Organization and policy makers are faced with several problems when imports are controlled. First, most of the time such controls in the form of tariffs and quotas exact a huge price from domestic consumers. Import

restriction via tariffs and quotas mean that the most efficient sources of supply are not available. The result

is either second hand products or high cost of restricted supplies which in turn cause customer service

standards to drop and consumers pay significantly higher prices. Even though these costs may be widely distributed among many consumers and are not very obvious, the social cost of these restrictions may be

quite damaging to the economy.

Secondly, tariffs and quotas as means of import controls can result in downstream change in the composition of import. For example, if the importation of aluminum is restricted, via either quota or tariff, the producing countries may opt to shift their production systems and produce copper wire instead, which they can export. As a result, initially narrowly defined protectionist measure may snowball into to protect our downstream in dusty or market after another. Downstream effects can hurt domestic industries and the market environment.

Finally, another effect of import restriction via tariffs and quota is the issue of efficiency. Import controls designed to provide breathing room to domestic industry so it can either grow or recapture its competitive position often do not work. Rather than improve the productivity of an in dusty, such controls may provide it

a level of safety and a cushion of increased income, which cause it to lag even further behind the technological advancement thereby making the benefits to the domestic market zero.

Moreover, corporations can circumvent import restrictions by shifting to foreign direct investment (FDI). The result may be a drop in trade inflow, yet the domestic market or the industry may still be under strong pressure from foreign firms.


Czinkota et al (2009), Fundamentals of International Business, 2 nd edition, Wessex Inc. Bronxville, NY.

Peng M. W. (2009) Global Business; International Student Edition; Canada; South Western Cengage Learning.


Question 6

In the light of the strategic significance of price discrimination between cross-border markets to firms, evaluate the merits of anti-dumping measures



Cross border trade or marketing is involved with a lot of aspects. Starting from the point a business

conceives of or realizing the need to expand beyond local borders, one most important of the aspects apart

from; entry strategy and trade barriers is the issue of price of pricing. Price according to Peng (2009) “refers

to the expenditures that customers are willing to pay for a product.”

Pricing Strategies

The pricing strategy of your small business can ultimately determine your fate. Small business owners can

ensure profitability and longevity by paying close attention to their pricing strategy.

The pricing strategy has been the lowest price provider in the market. This approach comes from taking a

quick view of competitors and assuming you can win business by having the lowest price.

Having the lowest price is not a strong position for small business. Larger competitors with deep pockets and

the ability to have lower operating costs will destroy any small business trying to compete on price alone.

There are many ways to price a product. Below are some of the best policy/strategy in various situations.

Premium Pricing

Use a high price where there is uniqueness about the product or service. This approach is used where a

substantial competitive advantage exists. Such high prices are charge for luxuries such as Canards Cruises,

Savoy Hotel rooms, and Concorde flights.

Penetration Pricing

The price charged for products and services is set artificially low in order to gain market share. Once this is

achieved, the price is increased. This approach was used by France Telecom and Sky TV.

Economy Pricing

This is a no frills low price. The cost of marketing and manufacture are kept at a minimum. Supermarkets

often have economy brands for soups, spaghetti, etc.


Price Skimming

Charge a high price because you have a substantial competitive advantage. However, the advantage is not sustainable. The high price tends to attract new competitors into the market, and the price inevitably falls due to increased supply. Manufacturers of digital watches used a skimming approach in the 1970s. Once other manufacturers were tempted into the market and the watches were produced at a lower unit cost, other marketing strategies and pricing approaches are implemented.

Premium pricing, penetration pricing, economy pricing, and price skimming are the four main pricing policies/strategies. They form the bases for the exercise. However, it is worth noting that there are other important approaches to pricing.

One of the most striking stylized facts of the international economy is the magnitude of cross-border price differentials. First, even in regions with the longest track record of free trade, the empirical evidence shows that the law of one price fails to hold for most types of goods and services. Although this law fails to hold also within national boundaries, the deviations from it are much more dramatic at the international level leading some researcher to talk about a specific ‘border effect’ (i.e. the effect of switching currency across jurisdictions) on prices of tradables. Second, prices seem to respond only mildly, if at all, to changes in the nominal exchange rate. Exchange rate pass-through, quite low for consumer prices, is far from complete also for international prices. To the extent that incomplete pass-through is due to destination-specific markup adjustment by firms with market power, this is evidence of market segmentation. As firms ‘price-to- market’ (henceforth PTM) buyers across national markets face systematically different prices for otherwise identical goods, (Dedola, 2002).

Price Discrimination

Most businesses charge different prices to different groups of consumers for what is more or less the same good or service! This is price discrimination and it has become widespread in nearly every market. This note looks at variations of price discrimination and evaluates who gains and who loses?

Price discrimination especially between cross-border markets occurs when a firm charges a different price to different groups of consumers for an identical good or service.

It is important to stress that charging different prices for similar goods is not pure price discrimination.

We must be careful to distinguish between price discrimination and product differentiation differentiation of the product gives the supplier greater control over price and the potential to charge consumers a premium price because of actual or perceived differences in the quality / performance of a good or service.


Conditions necessary for price discrimination to work

Essentially there are two main conditions required for discriminatory pricing:

1. Differences in price elasticity of demand between markets: There must be a different price elasticity of demand from each group of consumers. The firm is then able to charge a higher price to the group with a more price inelastic demand and a relatively lower price to the group with a more elastic demand. By adopting such a strategy, the firm can increase its total revenue and profits (i.e. achieve a higher level of producer surplus). To profit maximize, the firm will seek to set marginal revenue = to marginal cost in each separate (segmented) market.

2. Barriers to prevent consumers switching from one supplier to another: The firm must be able to prevent “market seepage” or “consumer switching” – defined as a process whereby consumers who have purchased a good or service at a lower price are able to re-sell it to those consumers who would have normally paid the expensive price. This can be done in a number of ways, and is probably easier to achieve with the provision of a unique service such as a haircut rather than with the exchange of tangible goods. Seepage might be prevented by selling a product to consumers at unique and different points in time for example with the use of time specific airline tickets that cannot be resold under any circumstances.


Anti-dumping measures can be referred to as actions that are taken by countries in the form of import duties and tariffs and even quotas to curtail or even eliminate the effects of cheap imports from abroad into the domestic market on the local industries.

Anti-Dumping Actions and Merits Implications

If a company exports a product at a price lower than the price normally charges on its own home market, it is said to be “dumping” the product. Is this unfair competition? Opinions differ, but many governments take action against dumping in order to defend their domestic industries. The WTO agreement does not pass judgments. Its focus is on how governments can or cannot react to dumping it disciplines anti-dumping actions, and it is often called the “Anti-Dumping Agreement.

The legal definitions are more precise, but broadly speaking the WTO agreement allows governments to act against dumping where there is genuine (“material”) injury to the competing domestic industry. In order to do that the government has to be able to show that dumping is taking place, calculate the extent of dumping (how much lower the export price is compared to the exporter’s home market price), and show that the dumping is causing injury or threatening to do so.


GATT allows countries to take action against dumping. The Anti-Dumping Agreement clarifies and expands Article 6, and the two operate together (Czinkota et al, 2009). They allow countries to act in a way that would normally break the GATT principles of binding a tariff and not discriminating between trading partners typically anti-dumping action means charging extra import duty on the particular product from the particular exporting country in order to bring its price closer to the normal value or to remove the injury to domestic industry in the importing country.

There are many different ways of calculating whether a particular product is being dumped heavily or only lightly. The agreement narrows down the range of possible options. It provides three methods to calculate a product’s “normal value”. The main one is based on the price in the exporter’s domestic market. When this cannot be used, two alternatives are available the price charged by the exporter in another country, or a calculation based on the combination of the exporter’s production costs, other expenses and normal profit margins. And the agreement also specifies how a fair comparison can be made between the export price and what would be a normal price.

Anti-dumping measures can only be applied if the dumping is hurting the industry in the importing country. Therefore, a detailed investigation has to be conducted according to specified rules first. The investigation must evaluate all relevant economic factors that have a bearing on the state of the industry in question. If the investigation shows dumping is taking place and domestic industry is being hurt, the exporting company can undertake to raise its price to an agreed level in order to avoid anti-dumping import duty.

Detailed procedures are set out on how anti-dumping cases are to be initiated, how the investigations are to be conducted, and the conditions for ensuring that all interested parties are given an opportunity to present evidence. Anti-dumping measures must expire five years after the date of imposition, unless an investigation shows that ending the measure would lead to injury.

Anti-dumping investigations are to end immediately in cases where the authorities determine that the margin of dumping is insignificantly small (defined as less than 2% of the export price of the product). Other conditions are also set. For example, the investigations also have to end if the volume of dumped imports is negligible (i.e. if the volume from one country is less than 3% of total imports of that product although investigations can proceed if several countries, each supplying less than 3% of the imports, together account for 7% or more of total imports).

The agreement says member countries must inform the Committee on Anti-Dumping Practices about all preliminary and final anti-dumping actions, promptly and in detail. They must also report on all investigations twice a year. When differences arise, members are encouraged to consult each other. They can also use the WTO’s dispute settlement procedure.

From the discussion above anti-dumping measures and actions, have a few merits or benefits to the local market and the industry or the country:



The imposition of import duties on the supposed dumped goods can accumulate revenue for the


2. The market can set any price locally in order to achieve a lot of company and industry objectives

such as growth, Return on Investment (ROI), Profits etc.

3. Stiff competition for local industries is also narrowed and made healthy due to the curtailment of

cheap imports.


It’s worth concluding that dumping is a serious problem for most countries nowadays such that most

industries and companies have collapsed due to unchecked importation cheap goods. This has awakened

most governments today to urgently find means to alleviate the problem for this reason, anti- dumping

measures or actions. Some of these measures however are very strict unpalatable to the exporting

countries, are still beneficial to the importing countries thanks to price discrimination, across borders.


1. Charles W.L. Hill and Thomas Mckaig (2006), Global Business Today, China translation & Printing

Services Ltd, China

2. Czinkota et al (2009), Fundamentals of International Business, 2 nd edition, Wessex Inc. Bronxville, NY

3. Dollar, David, and Aart Kraay. “Spreading the Wealth,” Foreign Affairs, January/ February 2002. To

order the full article, visit www.foreignaffairs.org.

4. Peng M. W. (2009) Global Business; International Student Edition; Canada; South Western Cengage


Question 7

Outline the static and dynamic effects of a customs union and explain why regional integration blocs composed of small economies are unlikely to be economically beneficial.



As businesses have become increasingly dependent on export and overseas trade, it has become ideal and

imperative for countries to form partnerships or integrations based on economics rather than the free trade

Area, Customs Unions, the common Market and the Economic Union are available for countries that may

like to engage one or the other.


Economic integration involves agreement among countries to establish links they say may be weak or strong, depending on the level of integration (free trade area, customs Union, common market and or full economic union).

The discussion will focus on customs Union. Customs Union according to Czinkota et al. (2000) is “collaboration among trading countries in which members dismantle barriers to trade in goods and service s and also establish a common trade policy with respect to nonmembers.”

It is said to be one step further along the spectrum of economic integration and just like members of free trade. Actually, these policies take the form of a common external tariff; imports from non members are subject to the same tariff when sold to any member country. The revenues are then shared among members according to a pre-specified formula. For example the southern African customs Unions is the oldest and most successful of economic integration in Africa.

Effects of customs union

The formations of customs union by countries can both negative and positive effects on member countries. In addition the effect can also be static or dynamic. Below are listed some of these effects:

Static effects of customs union

Trade Creation:

When trade between custom union partners increases, this implies a shift in the Union to more efficient, competitive producers

Trade Diversion:

When imports from the less expensive world market are replaced by imports from a higher cost/less efficient partner country within the customs union

Trade expansion:

When lower market prices in one partner country stimulates total domestic demand which is satisfied by increased foreign trade with another partner country

Effects on Trade (dynamic)

To discover whether this new situation of a customs union has led to trade creation, trade diversion, trade expansion or a combination of the three, it is necessary to define them. Trade creation will occur when there is a shift from a higher cost to a lower cost producer, i.e. in country H demand will shift from the expensive protected domestic product to the cheaper product from the partner country, implying a shift from a less efficient to a more efficient producer (Peng, 2009). Trade diversion will occur when imports from


the efficient or cheap world producer are replaced with imports from a less efficient and higher cost partner country. That country's product can be sold more cheaply in the home country than the world's products because the customs union imposes a protective tariff on the imports from the world, while leaving the imports of the partner country tariff free. Finally, trade expansion will occur if the lower market price in country H stimulates total domestic demand which will be satisfied by foreign trade. In our diagram the increase in total consumption can be seen by the area.

Determinants of gains from Customs Unions

Various factors exist which influence the occurrence of negative and positive effects of a customs union. I will mention five of the most important, the first being the production structure. Two countries can be complementary or competitive. If either country is a potential competitor of the other, specialization in the products which either country can make best and cheapest is probable, and the advantages of a customs union are likely to be relatively important. The opposite is true if the production structures are complementary. The second factor is the size of the union. The more and the larger the countries participating in the customs union, the larger are its share in the total world trade and the smaller the risk of trade diversion. The third factor has to do with the level of the tariffs. If the initial tariffs of the trade partners are higher, the inefficiencies will probably be worse and the welfare effects of the abolition of the tariffs will be greater. Also the introduction of high tariffs against the world producers will reduce the positive effects. The fourth factor is transportation and transaction costs. For increased trade we will need efficient transport systems, the lack of which will replace tariffs as an obstacle for further specialization. Clerical procedures at the frontier and linguistic differences in Europe also tend to make transaction costs higher. Finally, the advantages of forming a customs union are greater if member countries can respond more flexibly to new prospects.

A large Customs Union in the World Economy and Terms of Trade

Assuming the customs union is large there are two considerable implications for the total welfare of the customs union. The larger the customs union, the larger the possibility that the most efficient producers of various goods will be inside the customs union hence, the smaller the potential for trade diverting effects. Secondly, when the large customs union fixes its common external tariff rate then the possibility of it affecting its external terms of trade is increased and thus it can obtain an additional welfare gain.

So far I have assumed that the terms of trade relative to world producers will not be affected by the creation of a customs union but for a large customs union like the EU this assumption is not appropriate. For a large customs union a general tariff imposed on imports can lead to gains in the terms of trade which exceed the negative welfare effects resulting from a decrease in imports to the benefit of the domestic production. This is the rationale for the optimal tariff rates. I will illustrate this in a diagram.


Long Term Restructuring Effects

Restructuring or dynamic effects occur with the creation of a customs union because firms, workers and governments react to new situations and adapt the structure of production and the economy. Firms faced with increased competition will try to lower their costs to stay in the market and increased technical efficiency due to increased competition can have a welfare effect, exceeding many times the limited static effect. An establishment which can produce larger quantities cheaper than smaller ones and is constrained in its outlets by a market of limited size, would profit from the extension of the market, for example, by a customs union. The justification for the creation of a customs union on the point of economies of scale depends on the net effect for the entire customs union and their division between the partners.

Advantages of a customs union internal to the company depend on the size of the company, its growth rate and its learning curve. The larger the company the more efficient is its production and the stronger is its negotiating position. They are also more able to build up stable market positions in export countries. The growth rate of companies tends to have a positive effect on efficiency. Fast-growing firms have the most up to date machinery etc. but they tend to be less flexible in their response to entirely new markets. The learning curve indicates that companies learn to produce more efficiently by the production of greater numbers. Expansion permits producers to offer products of higher quality that are better adapted to specific consumer needs and demand will increase. Also, when a customs union puts a company in a better position, the positive influence is not confined to that company but extends to all related suppliers and buyers. That effect will be greater the better the various parts of the economy are equipped to respond to the impulse.

As barriers such as tariffs, quotas etc. are eliminated; domestic producers have to reduce their price to the level of the partner country. Excess profits will disappear and inefficiencies like overstaffing will have to be reduced. Consumers gain from these price reductions as they obtain more goods at lower prices and producers offset the loss by price reductions.

High Stakes for Europe: The 1992 Challenge

In the integrated Community market post-1992 a dramatically new environment awaits consumers and producers alike. The removal of a whole range of non-tariff barriers, i.e. government protection in procurement markets and a plethora of differing product standards leads to an immediate downward impact on costs. More substantial gains will be generated by completion of the EU internal market. There will be a new and pervasive competitive climate and firms can exploit new opportunities and make better use of available resources.

There are four major consequences which are expected from the combined impact of the removal of barriers and the subsequent boost to competition:

A significant reduction in costs through the reorganization of business and economies of scale


Improved efficiency within companies due to the downward pressure on costs due to more competitive markets

New patterns of competition since real comparative advantages will play a determining role in market success

Increased innovation because new business products will be generated by the dynamics of the internal market

These effects will be spread over differing time spans but the overall effect will be an increase in the competitiveness of business and the general economic welfare of the consumer.

The consumer will no longer be confronted with enormous price differences depending on their country of residence, as is the case in today's Community. Due to the reduction in costs, the level of this price will be on the downward journey. The consumer will also be faced with a wider choice as a result of market integration and increased competition leading to differentiating products as well as economies of scale.

1992 has led to the end of firms relying on the national soft option. Those who are able to scale up their

performance to the demands of increased competition will have an outlook for sales and profits which is

dynamic but for others profits will be clearly squeezed by Europe's competitive renewal.

Strengthening European competitively leads to the reconquering of the European market, but failure to do so will not mean that the challenges of the European market will not be mastered. They will, but not by the Europeans.

EU, GATT and Customs Unions

The basis of the EU according to Article IX of the Treaty of Rome is a customs union. Articles XII to XXIX give

a detailed description of phasing out the internal tariff rates and establishing common external tariffs. In July

1968 a customs union for industrial goods had been realized. The idea of the customs union was to establish

a totally free internal commodity market in the EU. This goal has still not been fully realized due to the use of non-tariff trade barriers such as technical trade barriers, government subsidies, etc. which became

increasingly important in the 1970s.

Customs unions are discriminating trade arrangements and hence violate the rules of GATT. Under GATT's `principle of most favoured nation' member countries have to give each other the same favourable treatment that they give to any other country. Customs unions between a limited number of countries is a clear violation of the principle, but Article XXIV of the GATT treaty gives the right to form regional customs unions if certain conditions are satisfied because the overall aim of GATT is to promote international trade. When GATT was created in 1947, it was the widespread belief that customs unions were a step closer to free


trade and it was


not until later that it became

clear that customs unions could in fact be a form of

The creation of a customs union has some positive and some negative welfare effects. It can only be well founded in economic terms if the former exceeds the latter. The welfare effects of the customs union as a whole are uncertain. Only if it is possible for a customs union to affect the external terms of trade through the optimal tariff is it possible for the union to achieve a gain in net welfare.

In relation to the short term effects which affect consumers, producers and governments, customs unions tend to have more positive effects as production structures are more competitive, initial tariffs are higher and also, as customs unions are larger transaction costs are lower. Competition and economies of scale are long term effects and are better reasons for creating customs unions.

Regional integration Blocs

Regional integration blocs are types of intergovernmental agreements, often past of a regional intergovernmental organization, where regional barriers to trade (especially tariff and non-tariff barriers) are reduced or eliminated among the participating states, (Wikipedia, 2010).

Some of the trade blocs include:

European Union (EU), North American Free Trade Area (NAFTA) and Asia Pacific Economic co-operation (APEC), all of industrial and developing economics.

Central American Common Market (CACM), Latin American Integration Association (LAIA) and Caribbean community and common market (CARICOM), all of Latin American and the Caribbean. Economic community of West African states (ECOWAS)

Southern African Development Community (SACU), all of sub-Saharan Africa. Association of Southern Asian Nations (ASEAN) and Gulf Cooperation Council (GCC), all of Middle East and Asia, (WTO data)

Reasons integration Blocs composed of small economies Lack Economic Benefits:

Regional blocs are formed by countries purposely is for their benefits either economically or politically. However, apart from the benefits attached to the formation of trade blocs’ countries with small economies that come into agreement form a bloc are unlikely to benefit economically in the long-run. Consider the scenario below:

Burkina Faso—Côte d’Ivoire

Regional integration between two small low-income countries may offer some real opportunities for benefits from increased cooperation on economic projectssuch as water management, or development of infrastructure, particularly between coastal and landlocked countries. As far as bargaining power goes, the


main potential benefit is that of “being noticed,” providing that the member countries are willing and able to take a concerted position on world issues. “Lock-in” effects are unlikely to be strong; they require both that the partner is it committed to reform, and that it has political capital to invest in securing reform in the partner country.

Turning to economics, some sectors may benefit from scale and competition effects. Rationalization and removal of inefficient duplication plants is a possible outcome, bringing with it efficiency gains. Market enlargement may also bring an FDI inflow. As usual, these potential gains can easily be frustrated, and it is also possible that even the combined market is too small for scale and competition effects to operate.

Against these gains are the costs. If external tariffs remain high then trade diversion is imminent. Related to this, inward-FDI may be “tariff jumping,” in which case it is not necessarily beneficial. Both these effects will be associated with loss of tariff revenue, likely to be a major source of government revenue.

It is also in relatively closed South-South RIAs that we think that the scope for uneven internal development is greatest, with production concentrating in a few locations. If one region has a head start in manufacturingdue perhaps to its location, endowment of factors of production, or simply due to historythen this region may well expand at the expense of other regions (“Cote d’Ivoire” in table 4.1). Linkages are likely to be strong, because of the paucity of the business infrastructure, and manufacturing as a whole is sufficiently small that it will not run up against the “centrifugal” forces outlined in chapter 3. In this case then, the effects of the RIA will be very different across the members; beneficial for some, but possibly adverse for others.

The above scenario mans that irrespective of the benefits there are to regional integration blocs involving countries with small economics, they are likely to suffer economically, especially when these countries are likely to discriminate against economically vibrant countries that may be of great interims of trade and economic building.

These development countries in agreement, may not be able to compete globally especially economically, because they close their doors to developed economics that they tend to benefit interims of capital, qualify, mutual partnership etc from.

It is therefore, advisable for countries with small economies form blocs or enters into partnership with developed countries whose benefits are immense.


1. Anderson E. & Coughlan A .T. International Market entry and entry and expansion via independent or integrated channels of distribution (1987), American marketing Association, USA



Richard P. (2001), Antitrust Law, Second Edition, University of Chicago Press, Chicago and London

3. Peng M. W. (2009) Global Business; International Student Edition; Canada; South Western Cengage


Question 8

Evaluate the advantages and disadvantages of the joint venture over licensing as a foreign market entry mode. Describe scenarios when licensing might be the preferable one of the two entry modes.



When a firm is going to explore a foreign market, the choice of the best mode of entry will arise in the firm’s

expansion strategy. There are six essentially different entry modes, generally named as exporting, turnkey

projects, licensing, franchising, joint venture with a host country firm, and setting up a wholly-owned

subsidiary in the host country (Hill, 2007). All of them have their advantages for the firm to explore as well

as disadvantages which must be considered by the firm’s top management. In other words, the managers

should make the choice carefully because it directly affects whether the firm will succeed or not in its

foreign expansion. Regarding the choice of entry for a service company, licensing, franchising, joint-venture

with a host country firm or setting up a wholly-owned subsidiary are more suitable for these types of firms.

What’s more, the entry mode theory below is from Hill who wrote the book about foreign market entry

entitled International Businesscompeting in the Global Marketplace. (Hill, 2007)

Joint Venture

According to Hill (2007), a joint venture is a typical entry mode used world-wide. Literally, it means two or

more individual and independent firms join together in an alliance in order to achieve better position in the

market. Often the joint ventures are a 50/50 venture. It is a method that both sides hold relatively the same

percentage of shares in the venture. The joint venture’s operation is separate from both companies, and

often the same role is shared by both managerial teams. It could be possible that one firm invests more in

order to gain the larger percentage of shares and hold tighter control of the joint venture’s operations.

Likewise, a lower investment percentage will usually lead to less control.

A joint venture has a lot of advantages. Firstly, both of the firms share the costs as well as the benefits. Both

sides share the risk as well. By investing into and joining a local firm, the international firm could successfully

explore the foreign market with their assisting jointed firm. The international firm could thereby gain market

knowledge from the local firm. Especially considering the political and economic issues in the international

market today, it is an overwhelmingly popular way to enter foreign markets. The local firm might have a way

to influence the local government, which will smooth the market entry for its joint partner.


The disadvantage is obvious in that the firm might have major conflicts with its partner. Regarding the shareholding of the firms, it is often difficult to maintain a balanced relationship. Once one firm’s expansion strategy is in conflict with the other party, it will by all means bargain about the relative share ownership in order to have more control of the firm. Thus the partner with stronger bargaining power will continue to lead an unsteady joint venture. As for the firm’s international expansion, giving up control of technology could be very risky for the firm.


Licensing involves a licensee and licensor tied together by a certain agreement which stands to benefit both sides. The licensor will sell its know-how right to the licensee, usually for a period of time. The know-how refers to intangible properties such as patens, inventions, formulas, processes, designs, copyrights and trademarks. The licensee needs to pay the royalty fee in order to have the agreement with the licensor (Hill,


Licensing is a primary stage for a firm which plans to enter a foreign market. Due to the uncertainty of the foreign market, the political or economic situation, this instability will arouse the firm to consider developing a licensee agreement. This agreement can help the firm to make their expansion in a more steady way. In this manner the licensor firm, can collect a royalty fee from the licensee; this is especially a big benefit for a licensor who has limited capital to establish full operations in a foreign country.

Thus the firm can decrease its expansion costs via licensing. Moreover, the country barriers make it difficult for the firm to participate in a foreign market, which makes licensing a more suitable entry mode to explore a new market. Last but not least, when the firm doesn’t expect entry into a new market with its intangible property by themselves, having the foreign licensor may help the firm to improve its chance of a successful patent application.

One drawback which is similar to exporting is that licensing gives the firm less central and tight control. For the firm it is difficult to control their licensee through the agreement, except by establishing its own subsidiary. The licensee could be a major disadvantage for the licensor because of the difficulty in coordination. Technical knowhow is a competitive advantage for the firm; whereas by selling the know-how the firm undertakes a huge risk of losing this asset to competitors. Because the licensor will receive the main technology and make full use of it, the licensor loses control by selling it to licensee.



There is joint financial strength in choosing joint venture as a market entry strategy whereby the partnership between companies makes them strong financially as they share ideas and knowledge about financial


management. Licensing on the other hand leaves both the licensor and the licensee independent of each

other and hence, no financial partnership.

Source of supply

Joint venture is able and may be the source of production, distribution and supply of goods and services for

a third country, while in licensing there is the inability to engage in global coordination.

Risk and Technology

Sharing of risk, cost, profit and ability to combine the local in-depth knowledge with a foreign partner with

know-how in technology or process and also the benefits from a local partner’s knowledge of the host

country’s competitive conditions, culture, languages, while licensing faces the risk of nurturing competitors

for itself instead of sharing costs, profits and knowledge.

Means of entry

Joint venture may be the only means of entry into foreign market. In a case where political considerations

make joint ventures the only feasible entry mode and licensing laws very complicated, going into a joint

venture may be the only option.


Capital Recovery

It may be impossible to recover capital if need be in joint venture because of different interests; the case is

different with licensing.


Partners will always disagree due to conflicting interests leading to disagreement on various issues including

third party markets to serve; while in licensing both (licensor and licensee) can choose to expand any time

on their own.


In the case joint venture, partners do not have tight control over subsidies that it might need to realize

experience curve or location economies; while in licensing both the licensor and the licensee have

independent control.





Benefit from local partner

Loss control of technology

Joint Venture

Share cost and risk

No tight control of partner

Political considerations

Conflicts and battles


Lower cost and risk

No tight control


Risk for losing know-how


Partners in joint venture may have different views on expected benefits and this can breed conflicts, whereas, a licensor or a licensee knows what to expect at any time without conflict with anybody.

It must be state however that both market entry modes can be very important individually depending on the choice and convenience of the business and, the kind of market in question also determines which strategy is suitable.


Even though all foreign market entry modes and strategies are left to the discretion and choice of the business, some entry strategies may be preferable to other as the case maybe. There may be situations, and scenarios that will call for the preference of one strategy to the other. Some of the scenarios or situations that will cause Licensing as a mode of foreign market entry to be preferred to joint venture are discussed below:

Risk and Costs Scenarios

There are certain businesses that do not have the capital to develop operations abroad. That is in a case where a does not want to bear the development costs and risks associated with opening a foreign market. In licensing the risk of other the licensor or the licensee is not shared, whereas, in joint venture, the risk is shared.

Time and Competitive Scenarios

Licensing is also preferable when a firm possesses some intangible property that might have business applications, but it does not want to develop those applications itself. Even though licensing is usually considered as nurturing a competitor (i.e. franchise) who may cancel the licensing agreement and operate on its own, it could also be used to the licensor’s advantage. Here, the licensor a who would like to distract a competitor in a market in another country without being noticed and also curtail the amount of threat posed to it locally, can choose to license it mode of operation and technology to a licensee in that country. In this scenario, joint venture is not preferable due to the objectives of the entry by the licensor.

Political Scenarios

Licensing is the most advisable when a firm wishes to participate in a foreign market but is prohibited by doing so by barriers to investment. Disagreement between countries due to political reasons can have great negative effects on companies trying to go international. For example-as it happens in the case of Xerox where the Japanese government prohibited it from wholly owning a subsidiary hence the formation of Fuji- Xerox, where Xerox licensed its know-how to Fuji.


Conflict of Expected Returns Scenarios

It may be preferable to license trademarks and other privileges to a foreign business for a fee in order to avoid conflict of interest as to what to expect as a return on investment. In joint venture, partners in the business may be expecting different refuse base on their own judgment. This can bring confusion when returns do not much individual expectations- on the other hand,

The licensor or the license does not actually have any external influence after the agreement. This situation of interest conflicts makes licensing a choice (better) over joint venture.

Control Scenarios

In order to make your decision count and active, you need total or an appreciable amount of control. In scenarios whereby companies are in business and to make quickly decisions all the time without interruption, the business control and independence from everybody. In licensing, a company in one country only agrees to allow a country in another country to use its manufacturing , processing, trade mark etc. this does not allow for interference what so ever; while in joint venture, two companies share ownership (partial) and control over property right and operation.


Ekeledo, I & Sivakumar, K 2004, ‘International market entry mode strategies of manufacturing firms and service firms: A resource-based perspective’, International Marketing Review, vol. 21, issue 1, p.


Hill, Charles WL 2007, International Business-competing in the global market, McGraw- Hill Peng M. W. (2009) Global Business; International Student Edition; Canada; South Western Cengage Learning

Richard P. (2001), Antitrust Law, Second Edition, University of Chicago Press, Chicago and London


Question 9

International franchising is often regarded as a low-risk foreign market entry strategy. Does this view fully reflect the attraction of international franchising as a market entry mode?



Doing business today has become very competitive. It has taken a shift of paradigm from the old-fashioned

static and local way of production and distribution to a more mobile, relaxed and globalized manner.

Companies and organizations would now have to employ modern and “state of the art” ways of doing

business in order to survive. This has even forced businesses to form alliances and even go international.

Businesses try to expand in order to survive through what is called market entry strategy or mode. Some of

these strategies of entry into foreign markets are: Franchising, direct exports, Acquisitions, Joint Ventures,

Research and Development, Contracts etc.


Franchising is the practice of using another firm's successful business model. For the franchisor, the

franchise is an alternative to building 'chain stores' to distribute goods and avoid investment and liability

over a chain. The franchisor's success is the success of the franchisees. The franchisee is said to have a

greater incentive than a direct employee because he or she has a direct stake in the business, (Wiktionary,


However, it must be noted that, except in the US, and now in China where there are explicit Federal (and in

the US, State) laws covering franchise, most of the world recognizes 'franchise' but rarely makes legal

provisions for it. Where there is no specific law, franchise is considered a distribution system, whose laws

apply, with the trademark (of the franchise system) covered by specific covenants, (franchising.com, 2010)

International Franchising therefore can be said to be the practice of using an international or foreign firm’s

or company’s successful business model. This may come or can be made possible taking into recognition

international franchising laws.

According to Alon, international franchising has grown significantly since the 1960s because of both push

and pull factors. Domestic saturation, increased competition and diminishing profits at home have pushed

franchisors to examine their opportunities abroad, while favorable macroeconomic, demographic and

political conditions abroad pulled them into specific markets. The initial expansion of U.S.-based franchisors

was to culturally-similar, politically stable, and economically rich countries such as Canada and Western

Europe. In recent years, however, opportunities have diminished in these countries as well, and

international franchisors have begun to seek development opportunities in emerging markets.



International franchising always duels on costs and risks as its bedrock. Here the franchising firm (the franchisor) is usually relieved of many of the costs and risks of opening a foreign market on its own. Instead, the franchisee typically assumes those costs and risks. This creates a good incentive for the franchisee to build a profitable operation as quickly as possible. Thus using a franchising strategy, a service firm can build a global presence quickly and at relatively low cost and risk, as McDonald’s has (Hill and Mckaig, 2006).


International franchising according to Peng is an agreement in which the franchisor sells the right to intellectual property such as patents and know-how to the franchisee abroad for a royalty fee. Thus the franchisor does not have to bear the full costs and risks associated with foreign expansion. On the other hand, the franchisor does not have tight control over production and marketing. The franchisor’s fear only is that it might have nurtured a competitor, as Pizza Hut found out in Thailand, thus, its long-term franchisor is in Thailand, having learned the “tricks”, it terminated the franchising agreement and set up its own pizza restaurant chain that tried to eat Pizza Hut’s lunch.

Direct exports entail the sale of products made by entrepreneurial firms in their home country to customers in another country. This strategy treats foreign demand as an extension of domestic demand and the firm is geared toward designing and producing for the domestic market first and foremost. Direct exports may not be optimal when the firm has a large number of foreign buyers. suggest that the firm needs to be closer, both physically and psychologically, to its customers, prompting the firm to consider more intimate overseas involvement such as FDI. However, direct exports may provoke protectionism. For example, in 1981, the success of direct automobile export from Japan led the US government to impose a Voluntary Export Restraint (VER) agreement on Japanese export, (Peng, 2009).

Joint Venture according to Peng is a “corporate child” that is new entity given birth and jointly owned by two or more parent companies.

There are five common objectives in a joint venture: market entry, risk/reward sharing, technology sharing and joint product development, and conforming to government regulations. Other benefits include political connections and distribution channel access that may depend on relationships. Such alliances often are favorable when: the partners' strategic goals converge while their competitive goals diverge; the partners' size, market power, and resources are small compared to the industry leaders; and partners' are able to learn from one another while limiting access to their own proprietary skills.

The key issues to consider in a joint venture are ownership, control, length of agreement, pricing, technology transfer, local firm capabilities and resources, and government intentions. Potential problems include: conflict over asymmetric new investments mistrust over proprietary knowledge performance


ambiguity - how to split the pie lack of parent firm support cultural clashes if, how and when to terminate the relationship. Joint ventures have conflicting pressures to cooperate and compete.

Strategic imperative: the partners want to maximize the advantage gained for the joint venture, but they also want to maximize their own competitive position. The joint venture attempts to develop shared resources, but each firm wants to develop and protect its own proprietary resources. The joint venture is controlled through negotiations and coordination processes, while each firm would like to have hierarchical control.

Acquisition can be said to the most important of the market entry strategies in terms of the amount of capital involved (representing approximately 70% of worldwide FDI), Peng, 2009.

It is a method of investing directly in a foreign country. Two advantages enjoyed by acquisition are; adding no new capacity and faster entry. For example, in less than a decade, two leading banks in Spain with little prior international experience, Santander and Bilbao Vizcaya, became the largest foreign banks in Latin America through some 20 acquisitions. However, acquisition also faces problem of post acquisition integration and even slow entry speed sometimes.

Considering all the above discussion on market entry strategies and modes, it is self explanatory that they all have their advantages and disadvantages, and the fact that much as international franchising is without full risk bearing, joint venture and even some others are also without full risk and therefore, if there is recent attraction for international franchising, it is a matter of convenience and expansion purposes. Moreover, firms in practice are not limited by any single entry choice. For example, IKEA stores in China are joint ventures and its store in Hong Kong and Taiwan are separate franchises. Also, entry modes may change over time. Starbucks, for instance, first used franchising and later switched to joint ventures and, more recently, to acquisitions.


1. Peng M. W. (2009) Global Business; International Student Edition; Canada; South Western Cengage Learning

2. W.L. Hill and T. Mckaig (2006), Global Business Today, China translation & Printing Services Ltd, China

3. Woods N. (2006), ‘The Political Economy of Globalization Macmillan’ Borrowers Cornell University Press


Question 10

Under what circumstances would a BOT system make sense as an international marketing strategy?



International marketing simply as the name implies means performing marketing activities in a country that is outside one’s country borders. Businesses that are involved in international marketing would have to formulate ways and strategies to succeed. One of those numerous tactics and means to employ is a Build- Operate-Transfer (BOT) system.


Build-Operate-Transfer is an option for organizations that want to have their own captive center, but do not possess local expertise or extensive resources necessary to set up near shore operations using do-it-yourself approach.

Build-Operate-Transfer is a project financing and operating approach that has found an application in recent years primarily in the area of infrastructure privatization in the developing countries. For these countries, financial markets are shifting the way in which debt capital is raised to fund the development

This concept is also one of the newest financial schemes for environmental projects, which is being used increasingly worldwide as a project delivery system by which governments obtain the infrastructure projects by private sector after a concession period free of charge.

Addressing medium- and long-term software development needs of businesses that for some reasons find traditional project-based outsourcing model inappropriate, IIT Near shore Sourcing offers its services in establishing near shore captive center in Ukraine by utilizing Build-Operate-Transfer (BOT) model.

It is recognized from the very outset of cooperation that customer's ultimate goal is to have company- owned near shore development center (subsidiary), including leased or bought out separate infrastructure, respective legal business entity and transition of the employees.

Characteristics of a BOT System

The Build Operate and Transfer system is becoming the de-facto choice of many companies that wish to set up IT infrastructures. Many companies are beginning to realize that setting up companies and getting them up and running efficiently requires significant resource and time investment. BOT is hence emerging as a popular choice.

The three stages of a BOT project are:


Build: This stage involves setting up the facilities and infrastructures, staffing the development center, and establishing knowledge transfer.

Operate: In this stage, the offshore organisation is managed. Program Management, Development, QA, maintenance, enhancements, and product support are also part of this stage.

Transfer: It involves registering a new offshore subsidiary for the customer, transferring assets, and handing over operations.

For example, some U.S. and European corporations are moving operational components offshore to India and other locations, in many cases developing their own subsidiaries to better support worldwide operations. This has primarily resulted from the various benefits they draw from such an arrangement. These benefits include: Cost savings compared to third party vendor partnerships, direct control on hiring and retention and ability to retain Intellectual Property Rights.

Unfortunately, many are not realizing their business goals, with some even forced to shut down due to execution problems related to unforeseen, ‘in-country’ challenges. In such a scenario, The Build-Operate- Transfer model offers an attractive alternative.

BOT offers attractive business benefits over the traditional offshore subsidiary path, including:

- Rapid, Seamless scaling of operations.

- Wider service offerings, quickly filling business model gaps.

- Lower infrastructure set-up costs.

- Reduced time of operations through utilization of knowledgeable third party management resources responsible for: real estate and government rules and regulations and Cultural transition.

- IT infrastructure and procurement Security etc.

CIRCUMSTANCES THAT MAKE BOT PREFERABLE AS AN INTERNATIONAL MARKETING STRATEGY Most Governments in the developing countries have resorted to BOT concessions for several reasons, such as: Severe drops in foreign aid and investments in their economies, such as acute shortage of hard currencies, growing national and foreign debt, limited economic and revenue resources, government budget deficits, inefficient and costly state-owned enterprises, lack of modern facilities and technological advances, accelerating demand for infrastructure facilities, bureaucracy, unemployment, and liquidity problems, abounds.

BOT projects provide tremendous benefits to developing economies and their governments, such as:

Attracting and enhancing more foreign investors and lenders;


Transfer of modern facilities, technology, and know-how of advanced countries at minimum costs to governments;

Minimizing government expenditures, financial burdens, and responsibilities;

Meeting the growing needs for the country's infrastructure facilities and development projects at minimum government involvement and costs;

Employment opportunities, workers' training programs, and improving standards of living;

Replacing the inefficient and failing state-owned enterprises, and eliminating their financial burdens on government budgets;

Developing the local and regional markets; and

Guaranteeing continuing government dominance and monopoly of the country's strategic projects by eventual transfer of BOT projects in a good condition to government-ownership

However, BOT schemes carry different types of critical risks. In water and sewerage BOT projects, the World Bank identified major key risks, causes, steps to mitigate, who typically bears the remaining risk, and steps to minimize risks. They are classified into the following categories, each consisting of sub-risks:

Design and development risk (design defects in water or sewerage plant);

Construction risk (cost overrun, delay in completion, and failure of plant to meet performance criteria at completion tests);

Operating risk (operating cost overrun, failure or delay in obtaining permissions, consents, and approvals, and shortfall in water quality or quantity);

Revenue risk (increase in bulk water supply price, change in tariff rates, and water demand);

financial risk (exchange rate, foreign exchange, and interest rate);

Force majeure risk (force majeure, legal and regulatory, and political);

Insurance risk (uninsured loss or damage to project facilities); and

Environmental risk (environmental incidents).

Country experiences and case studies report practical problems that caused BOT projects to fail or be aborted. Tam highlighted the various reasons of success and failure of BOT projects, emphasizing Thailand's painful experience with its transportation projects. Certain countries (e.g., Tunisia) lack experience with BOT


bidding processes, negotiations, legal and technical procedures, project financing, and guarantees for sufficient foreign exchange (Aderson & Coughlan, 1987). Other countries (e.g., Colombia and Hungary) had undertaken multiple BOT projects simultaneously which caused interruptions in construction as well as supply, transportation, manpower, technical, environmental, exchange rate, inflation, maintenance, and security problems. Lu et al. analyzed the BOT model and its complex interrelationships, concluding that the critical success factor for a BOT project is the efficient and effective allocation of project risks and returns among the government, the project sponsors, and the bank syndicate. Negotiations among the three parties can be effective if there is an objective tool for bargaining, and proposed a quantitative model satisfying the need to analyze a BOT project Wang et al highlighted the findings of an international survey on risk management of BOT projects in developing countries, with emphasis on power projects in China. The criticality of foreign exchange and revenue risks, which include exchange rate, convertibility risk, financial closing risk, dispatch constraints risk, and tariff adjustment risk, is specifically discussed. The measures for mitigating each of these risks were also discussed.

BOT Stakeholders and Economic Entities of BOT Projects

The idea of the BOT system is a consortium or syndication of private multinational financiers, contractors and advisors joins together to finance, design, construct, and operate a facility such as a power station or a toll road. The engineering, procurement and construction of BOT projects are usually carried out by local and foreign entities. After a set period of time, typically 25 years, the consortium is expected to have recovered the invested capital and earned a fair return, and the BOT assets are handed in a good condition back to the government authority.

With Binary’s BOT Model, you get the benefit of a trusted local partner to setup your subsidiary efficiently for a time period. After the completion of the decided span, we transfer the assets and handover the operations along with manpower to you. In other words, we create a dedicated offshore development center for your growing business requirements. Added to this, you also get support of innovative and cost- effective solutions for your expansion plans.

Binary with its unparalleled flexibility and scalability has supported its various clients with the BOT model, providing them with a quality package of people, process and technology. They ensure a swift start up of operations in the most cost-effective and proficient method. Your subsidiary has access to amenities and resources that reduces your attrition and increases your security.

Their center will become an extension of one’s business operations wherein you get all the benefits of outsourcing with the option of retaining total control. They will execute one’s operations using the best technology available and when one is ready, they gradually transfer the ownership of the complete operations. One can control the projects and the allocation of skills their skilled and competent


technologists become ones employees, a permanent extension of one’s staff, fully integrated into your corporate culture.


1. Anderson E. & Coughlan A .T. (1987). International Market entry and entry and expansion via independent or integrated channels of distribution, American marketing Association, USA

2. Peng M. W. (2009) Global Business; International Student Edition; Canada; South Western Cengage Learning