2.7: Implications of Changing Political Economy Flashcards
Transition to Market-Based Economy
Transitioning to a market-based economic system, particularly in post-communist
Eastern European states, has often been accompanied by economic and political chaos.
Liberalization of economies, privatization, and competition led to some inefficiencies, state support for failing enterprises, budget deficits, and hyperinflation.
Successful Transition Policies
“Shock therapy” economic policies, characterized by quick liberation of prices and trade, tight monetary policy to control inflation, and rapid privatization, were successful in Eastern European states like the Czech Republic, Hungary, and Poland.
These policies correlated with faster economic growth compared to countries that implemented reforms more slowly.
Implications for International Business
The end of the Cold War and the global shift towards free markets and democracy have opened up previously closed markets in Eastern Europe, Latin America, Africa, and Asia.
These markets, though still undeveloped, are potentially enormous and offer significant opportunities for international businesses.
Associated Risks
Despite the potential gains, there are substantial risks involved in doing business in these new market economies. T
he future of democracy in Eastern Europe is uncertain, and there’s a possibility of economic setbacks.
The world may shift from a bipolar to a multipolar structure dominated by different civilizations, leading to conflicts and challenges for international investments.
Companies must consider these risks while exploring opportunities in these markets.
Implications for International Business
The implications for international business from the material discussed in this chapter fall into two main categories.
The first category relates to how a country’s political, economic, and legal environment influences its attractiveness as a market or investment site.
This includes assessing the benefits, costs, and risks associated with doing business in that country.
Attractiveness
A country’s overall attractiveness for international business is determined by balancing the long-term benefits, costs, and risks associated with doing business in that country.
Several factors contribute to these determinants, which affect a company’s decision to enter or invest in a particular market.
Benefits of Doing Business in a Country
The long-term monetary benefits of doing business in a country depend on factors such as the size of the market, the purchasing power of consumers, and the country’s future economic prospects.
While some countries may have a large population, low living standards can limit their economic market size.
However, assessing a country’s future potential is crucial, as rapid economic growth can transform a seemingly impoverished nation into a significant market.
Early Entrants vs. Late Entrants
Early entrants into potential future economic stars may gain advantages such as **building brand loyalty, gaining experience in the country’s business practices, and achieving substantial first-mover advantages. **
In contrast, late entrants may face disadvantages, including the challenge of competing with established players.
Economic System and Property Rights
A country’s economic system and property rights regime can serve as reliable indicators of its economic prospects.
Free market economies with strong property rights tend to experience higher economic growth rates compared to command economies or those with weak property rights.
Therefore, a country’s economic system and property rights, combined with market size, can provide insights into the potential long-term benefits of doing business there.
Political Factors Affecting Costs
In some countries, the costs of doing business can increase due to the need to pay off politically powerful individuals or entities in exchange for market access.
This need to pay essentially bribes is more prevalent in closed totalitarian states compared to open democratic societies.
Economic Factors Affecting Costs
The sophistication of a country’s economy is a critical economic factor influencing the costs of doing business.
Less developed economies may lack necessary infrastructure and supporting businesses, potentially forcing international firms to provide their own, thus raising costs.
McDonald’s Example in Russia
McDonald’s decision to open its first restaurant in Moscow required vertical integration backward to ensure product quality.
The company had to establish its own dairy farms, cattle ranches, vegetable plots, and food processing plants within Russia to meet quality standards, increasing the cost of doing business in Russia.
Legal Factors Impacting Costs
Legal factors influencing the cost of doing business include strict standards and regulations related to product safety, workplace safety, and environmental pollution.
Inadequate business contract laws in some countries can lead to difficulties in resolving contract disputes, resulting in substantial losses for international firms
Additionally, countries with weak intellectual property protection can lead to the unauthorized use or theft of an international business’s intellectual property.
This, in turn, can result in lost income and increased costs for businesses operating in such countries.
Political Factors Affecting Risks
Political risk refers to the likelihood of political forces causing significant changes in a country’s business environment that can negatively impact a business enterprise’s profitability and goals.
Political risk tends to be higher in countries experiencing social unrest, disorder, or factors that increase the likelihood of such unrest
Social Unrest as a Form of Political Risk
Social unrest often manifests as strikes, demonstrations, terrorism, and violent conflicts, all of which can disrupt business operations.
Social unrest is more likely in countries with multiple ethnic nationalities, competing political ideologies, economic mismanagement (e.g., high inflation), or those situated near fault lines between civilizations.
