Semester 1 Flashcards
What is globalisation
Drivers of globalisation
Technological advances in, for example:
- Communications – the internet;
- Computing;
- Financial flows.
Containerisation
Reduced trade barriers:
- E.g. lower tariffs
Cross-border political co-operation.
interdependence vs disconnectedness
Interconnected
* Intertwined - Connected at
multiple levels.
* Transnationality of commodity cultures.
* Countries opening up their borders.
Interdependence
* Mutually dependent – reciprocal relationship.
* Actions of two or more countries impact the actions of another or each other.
* Global value chains
What is Gross Domestic Product
GDP
corresponds to the total income of everyone in a country
GDP = C + I + G + NX
Real GDP?
Nominal GDP?
GDP per capital?
Aggregate GDP?
Real GDP is the
value of final goods and services produced in a given year valued at constant (base year) prices
Nominal GDP is
the value of final goods and services produced in a given year valued at the same year’s prices
Dividing GDP by
the population = GDP per capita - the average income of people in a country.
Aggregate GDP = total demand for goods and services
produced in a country
Economic development
how far a country has grown economically, technologically, environmental quality and hazards and the quality of life.
Quality of life include:
Diet
Nutrition
Fresh water supply
Family/friends
Education
Health
Level of happiness
Security
Freedom
Gross National Income
Gross National Income (GNI) (World Bank’s income-based country classification) – Total domestic and foreign output earned by residents of a country, consisting of GDP plus factor incomes earned by foreign residents, minus income earned in the domestic economy by non-
residents.
GNI per capita – the average income earned per person (monetary growth of GNI per capita minus the rate of inflation).
GNI per capita comparisons may be exaggerated by the use of official foreign-exchange rates to convert national currency figures to U.S. dollars.
To correct for this we use purchasing power parity (PPP) instead of exchange rates as conversion factors. PPP is calculated using a common set of international prices for all goods and services.
Holistic measures of living levels and capabilities (HDI)
Human Development Index (HDI) – United Nations Development Programme (UNDP)
Commonly used to compare status of socioeconomic development
Ranks countries on a scale of 0 (lowest human development) to 1 (highest human development) based on three goals of development:
- A long and healthy life – measured by life expectancy at birth;
- Knowledge – measured by a combination of average schooling attained by adults and expected years of schooling for school-age children;
- Decent standard of living – measured by real per capita GDP adjusted for differing purchasing power parity
Consumer choices
determine how industries and financial markets operate
Laissez-faire capitalism
individual freedom to carry out enterprise activities with minimum state interference
‘invisible hand’ (Adam Smith)
guiding the economy, but still a need for regulation, e.g. to tame monopolies that become dominant and distort competition
Social market model:
Social justice dimension, including social protections.
Extensive state ownership.
High human development rankings, but also high costs for business
Government primary aims for the economy
Full employment
* People who are willing and able to work can find employment.
* Economically inactive – people that
do not want to or are unable to work (e.g. children, retired, those in full-time education).
* Full employment is not actually 0%
unemployed.
Price stability
* Ensures greater economic certainty
* Prevents the country’s products
from losing international competitiveness
* Common target is a stable inflation rate of 2%.
Economic Growth
* Increased output in the short run.
* In the long run sustained productive potential
* Producing more goods and services can raise people’s
living standards
Redistribution of Income
* By taxing and spending.
* Money raised is spent directly on
the poor by means of benefits – e.g.
housing benefit or unemployment
benefit
* Money raised is spent on education
and health, particularly to benefit
the poor.
Balance of payments
stability
* Value of exports to equal the value of imports.
TOTAL FACTOR PRODUCTIVITY
(TFP) measures that portion of output that is not explained by the amount of capital and labour used in production (Solow, 1957)
factors of production + Total factor productivity (efficiency and intensity) = Output of goods and services
It captures the effects of other determinants of efficiency and intensity
of production e.g.:
* Government policy
* Political unrest
* Weather shocks
* Investment in research and development (technological progress)
How do we measure
productivity?
A measure of the efficiency and intensity with which capital and labour are combined to produce more with the same level of factors of production.
Total output (Y) is measured by real GDP;
Capital (K) is the monetary worth of all machinery, equipment and buildings used to produce goods and services;
Labour (L) is a measure of labour productivity measured by total number of workers divided by hours worked in the period;
Total factor productivity (A) is that portion of total output that is not explained by the amount of labour and capital used in production of goods and services.
𝒀 = 𝑨 + 𝑲 𝜶 + 𝑳(𝟏− 𝜶)
= output elasticity of capital (determines how much output increases by contribution of
capital).
= output elasticity of labour (determines how much output increases by labour productivity).
Absolute poverty
-A state in which a person or family is highly deprived of the basic human needs
-Level of income needed to fulfil basic needs
-Remains consistent overtime
-Poverty line differs by country
Relative poverty
-A condition when a person or family is unable to reach the minimum average standard, in the society
-Economic status of others in society
-Changes overtime
-Measure by Gini coefficient and Lorenz curve
Wealth vs income
Wealth:
Accumulates assets minus liabilities
Such as savings & pensions, Real estate, stock
Income: New earnings that are consistently being added to the pile of wealth
Sector or Industry
Economy as a whole is divided into broad areas called sectors.
Sectors are divided into more specific groupings which we call industries.
4 main sectors
Primary
* Extraction of raw materials
* Fishing
* Farming
Secondary
* Manufacturing
* Utilities
* Construction
Tertiary
* Retail
* Financial Services
* Hospitality
Quaternary
* Research & Development
* Social Media
* Information & Communication Technology
Markets ?
Commodities ?
- Markets are where buyers and sellers come together to get information and exchange commodities.
- Commodities are those tangible things that have value and can be exchanged goods and services.
- The market is a process and can exist in one place or in several places. It can also be virtual.
- It is an economic system that determines the pricing of goods and services.
Perfect competition
Firms in perfect competition face a price set by market supply and demand;
They are price-takers that cannot fix their own price;
Firms can sell what they like at the market equilibrium price but cannot raise their price;
If they raise their price, demand for their goods or service would fall to zero as consumers would switch to one of the many other firms in the industry.
MonopolyMonopoly
Industry comprises one firm;
The firm’s position is protected by barriers to entry into the industry (including high costs of setting up a new firm);
The monopolist firm is not likely to be efficient in producing its output;
Monopolies may outperform competition – e.g. investing profits in research and development or more productive machines.
Some monopolies are protected by law to give firms
incentives to develop new products
- Patents – the sole right to produce a good or service
(normally lasts for a fixed period
Monopolistic competition
A hybrid of monopoly and perfect competition;
Many firms – competition is strong, consumer switching may take place because of the availability of substitutes.
Freedom of entry and exit.
Firms product differentiated products – consumers perceive that there are non-price differences among products
Each firm determines the price of their product and the units of output produced – they are ‘price-makers’ NOT ‘price-takers
Not very allocatively or productively efficient industries.
Contestable markets
One or more dominant firms with significant market power.
Key Conditions:
-Absence of sunk costs
-Access to all available tech
-Low rate of existing consumer loyalty
-low barriers to entry
Oligopoly
Industry dominated by a few large firms (an industry with 2 firms is a duopoly);
Interdependence of firms – companies will be affected by how other firms set price and output.
Barriers to entry (though less than monopoly) – e.g. brand loyalty or economies of scale.
Differentiated products – firms compete on non-price competition
Why industry analysis?
A business function completed by a firm, investors and governments to assess the current business environment.
This analysis helps firms, investors and governments to understand the political and socio-economic factors within the market and how they may be used to gain a competitive advantage.
Industry analysis also considers the industry’s business cycle to help understand whether the industry is growing, reaching a plateau or declining.
Governments conduct industry analysis to understand the role and impact of government regulation and taxation on the industry and market.
PESTLE
A strategic framework used to evaluate the external business environment:
Political
Economic
Social
Technological
Legal
Environmental
- Can be an effective framework when making strategic decisions.
- You can use the results of a PESTLE to identify threats and weaknesses (SWOT
analysis).
SWOT Analysis
Strengths, Weaknesses, Opportunities and Threats.
An analysis technique for assessing the four basic aspects of the internal business environment.
How does the firm distinguish itself from its competitors?
Used to decide how to make the most of what the firm has, to its advantage;
- Reducing failure by understanding what they lack;
- Eliminate hazards that would otherwise catch the firm unaware.
STRENGTHS
What do you do well?
What unique resources can you draw on?
What do others see as
your strengths?
WEAKNESSES
What could you improve?
Where do you have fewer resources than others?
What are others likely to see as your weakness?
OPPORTUNITIES
What opportunities are open to you?
What trends could you take advantage of?
How can you turn your strengths into opportunities?
THREATS
What threats could harm you?
What is your competition doing?
What threats do your
weaknesses expose you to?
Porter’s Five Forces
Porter’s ‘Five Forces’ model provides a framework to analyse industry attractiveness.
It is often used in
combination with the
PESTLE model.
Includes:
-threat of new entrants
-bargaining power of suppliers
-bargaining power of buyers
-threat of substitute products/services
-competitive rivarlry
Threat of new entrants
Depends on the nature and level of barriers to entry:
absolute cost barriers
product differentiation
economies of scale
excess capacity
reaction of established firms
extent of vertical integration
contracts with suppliers or customers
Bargaining power of buyers
Buyers have high bargaining power (can bargain
away industry profits by pushing down industry
price) when:
there are low switching costs
products are undifferentiated (substitutes
available)
they are able to produce the product
themselves
Bargaining power of suppliers
Suppliers have high bargaining power (can bargain
away industry profits by pushing up supply prices)
when:
suppliers are small number of firms
suppliers sell differentiated products
industry players have high switching cost (of switching
suppliers)
industry players unable to integrate vertically backward (or
supplier able to integrate forward)
firms are not important customers to suppliers
Threat of substitute products
Goods or services:
Produced by a different industry
Carrying out the same function for customers
But providing the service in a different way
Some examples:
Trains and cars substitutes to airline industry products (i.e. flights)
Tin cans and plastic containers to glass bottles
Music downloads to CDs
Schumpeter’s “creative
destruction”
Creative destruction lies at the heart of capitalism: Schumpeter
* Consists of new technologies replacing the old.
* Brings about new products, new ways of production and new forms of organization.
Is the large organization better than the small entrepreneur in promoting
ground-breaking changes?
* The large firm tends to become bureaucratic and can also become monopolistic.
Technological advances now occur at increasingly shorter intervals.
What is innovation?
From creative destruction to innovation waves.
Innovation covers activities which seek improvements and new ways of doing things.
An invention is a new product or process, making a qualitative leap forward from existing
technology.
Technology is the methodical application of scientific knowledge to practical purposes.
Scientific knowledge plays a crucial role in technological innovation.
Companies invest in research and development (R&D) to extend knowledge and
generate new products and applications
least cost theory
Alfred Weber developed a least cost theory of industrial location, which attempts to explain the location pattern of industries.
The least cost theory suggests, industries will try to locate where:
Transportation charges are the barest minimum, in terms of both availability of resources and place of consumption;
Labour costs are at its lowest;
There are clusters of similar enterprises.
Geographic mobility
Firms’ locations decision is often context specific and complex and
influenced by various behavioural, social and location characteristics
Spatial patterns of industry may be determined by:
Location of essential scarce factor of production;
Skill embedded in labour force;
Income that could be derived from capital rents.
Utility the firm can obtain from relocation;
Trade costs;
Capital relocation costs;
Technology costs;
Economies of scale.
Classical Theory
-Firms have complete
information about decision parameters
-Firms act rationally based on a cost benefit analysis
-Weber, 1929; Predӧhl, 1928
Neo-classical Theory
Firms have complete information about decision parameters
Firms act based on an
analysis of market
competition, revenue,
internal economies of scale, effect of varying
combinations of production factors
Behavioural Paradigm
Firms’ location decision is part of a strategic investment decision
Firm acts based on multiple factors including the cost of production, risk minimisation and growth
Firm focused on profit
sufficiency rather than profit
maximisation
Pred, 1967; van Noort and
Reijmer, 1999
New Economic Geography
Views the firm as a system of networks. Each network link incurs a transaction costs
Firms relocate to reduce these transaction costs and gain economies from clusters, specialised labour markets and diffusion of knowledge
Marshal 1920, Krugman 1991, Coase
Non-Equity Modes
Exporting
* Market and direct scale of domestically- produced goods in another country.
Licensing
* Permits a company to use the property of the licensor, e.g. trademarks, patents and production techniques.
* Licensor benefits from licensee’s distribution network and access to the local market.
Franchising
* Franchisor grants the franchisee the right to develop, establish and duplicate the operations of the franchisor’s business.
* An extensive legal relationship that includes a license.
Equity Modes
Joint Venture
* Five common objectives:
* Market entry;
* Risk/reward sharing;
* Technology sharing and joint product development
* Conforming to government regulations
Direct Investment
* Direct ownership of
facilities in target country.
Indirect Investment
* Purchasing stakes or units in
foreign companies that trade on a foreign stock exchange.
* Also referred to as foreign portfolio investment (FPI).
* Includes trading in stocks and bonds
AD/DIS of exports
AD
* Low initial investment
* Reach customers quickly
* Benefit of learning for future expansion
Dis
* Potential costs of trade barriers – Tariffs and quotas
AD/DIS of licence
AD
* Avoid trade barriers
* Access to local knowledge
* Easier to respond to customer needs
Dis
* Lack of control over operations
* Difficulty in transferring tacit knowledge
* Creating a competitor
AD/DIS franchising
AD
* Avoids the costs and risks of opening up a foreign market
* Firms can quickly build a global presence
DIs
The geographic distance of the firm from franchisees can make it difficult to detect poor quality
AD/DIs of joint venture
ad
* Access to local partners’ knowledge
* Sharing development costs and risks
* Politically acceptable
Dis
* Divergent goals and interest of partners
* Difficult to coordinate globally
AD/DIS Wholly owned subsidiary
AD
* Protection of technology and know-how
* Complete equity and operational control
* Ability to coordinate globally
* In the case of acquisitions, entry speed is fast.
DIS
* High costs and risks.
* Potential political problems and risks
* In the case of Greenfield (building from scratch), entry speed is low.
AD/DIS portfolio investment
ad
* Time, effort and expertise to select the best funds are provided by the managed solution fund manager.
* Easier to track investment through a single portfolio.
* Regulated.
dis
* Underlying instruments of the selected fund sometimes cannot be easily seen and monitored or even understood.
* Risk that the manager may get it wrong.
greenfield investment
- Direct investment in new facilities/expansion of existing facilities
- Objective to create new production capacity, jobs, transfer technology and know-how
- Profits from production may not feed back into the local economy of the host country
Mergers & Acquisition (Brownfield)
- Purchase an existing company in the host country
- Assets and operation of firms from different countries are combines to establish a new legal entity
- Control of assets and operations is transferred to foreign company by its local affiliate company
Greenfield ad/dis
AD
* Normally feasible
* Avoids risk of overpayment
* Avoids problem of integration
* Retains full control
DISADVANTAGES
* Slower to start up
* Requires knowledge of foreign management
* High risk
* High commitment
brownfield ad/dis
AD
* Access to target’s local knowledge
* Control over foreign operations
* Control over own technology
* Both parties have some performance incentives
dis
* Uncertainty about target’s value
* Potential loss of proprietary knowledge
* Potential conflicts between partners
* Neither partner has control
Determinants of FDI
Firm Factors (Resource-based view)
* Uniqueness of products
* Strategic goals
* Other
Host Country Factors
(institutional-based view)
* Formal rules
* Informal norms/culture
* Economic orientation
Home Country
market-centred view
* Market failures
* Domestic vs foreign demand
* Supply industries
* Competitive rivalry
12 Pillars and FDI Modes
Market-Seeking FDI
* Institutions
* Infrastructure
* Goods market efficiency
* Market Size
* Business sophistication
Efficiency- seeking FDI
* Technological readiness
* Innovation
* Higher education and training
* Labour market efficiency
Resource- seeking FDI
* Infrastructure
* Institutions
* Business sophistication
Strategic asset- seeking FDI
* Mergers and acquisitions
* Higher education and training
* Business sophistication
* Institutions
* Macroeconomic environment
PHYSICAL FACTORS
Accessibility and Infrastructure:
* How easy or not is it to access raw materials or
export finished products?
* What is the level of local and international
communication links?
* Are there adequate and reliable transport routes, e.g.
motorways, railways, airports, ports?
Land:
* What is the topography of the land?
* Is it going to cost more to transport, goods, services and people to and from the location?
* Is there a limitation on foreign ownership of property?
Power:
* Sources of energy could restrict where industries
could locate.
* How close is it the national grid? How reliable is the
power source?
SOCIO-ECONOMIC (HUMAN) FACTORS
Government policy:
* Are there any tax incentives?
* Government regulation of the industry.
* Political system and political risks
Legal policy:
* Legal forms
* Potential for profit repatriation
Labour supply:
* Particularly for labour-intensive industries.
* The skills of the labour force.
* Health of the labour force.
* Access to labour within close proximity or access to transport to get labour in.
Markets:
* Sophisticated consumers?
* Established retail industry?
* Market Size
* Customer segments
Assessing the which, when and how -
Porter’s National Diamond (PND)
Firm Strategy, Structure and Rivalry
* Market structure
* Competition level
Factor Conditions
* Land
* Labour
* Capital
* Infrastructure
* Knowledge stock
* Financial systems
Demand Conditions
* Core group of demanding local customers
* Sophisticated domestic demand
Related and Supporting Industries
* Efficient supporting/related industries
* Industry clusters
What are the five principles of accounting?
The revenue recognition principle – states that revenue for the firm is earned and recorded at the point of sale.
The expense principle – a.k.a. expense recognition principle, states that an expense occurs at the time at which the firm accepts goods or services from another entity.
The matching principle – states that you should match each item of revenue with an item of expense.
The cost principle – state that you should use the historical cost of an item in the books, not the resell cost.
The objective principle – states that you should only use factual, verifiable data in the books, never a subjective measurement of values. Even if the subjective data seems better than the verifiable data, the verifiable data should always be used.
Accounting standards - IFRS
IFRS (International Financial Reporting Standards) a set of international accounting standards issued by the International Accounting Standards Board (IASB) specify exactly how accountants must maintain and report their accounts.
Established to have a common accounting language.
120 countries have adopted IFRS.
Qatar has adopted the IFRS Standards, but the Qatar Exchange (stock exchange) has
permitted some Islamic Financial Institutions to use accounting standards by the
Accounting and Auditing firm for Islamic Finance Institutions (AAOIFI) with the IFRS.
Accounting standards - GAAP
GAAP (Generally Accepted Accounting Principles) is a common set of accounting principles, standards and procedures issued by the Financial Accounting Standards Board (FASB).
Focused on the accounting and financial reporting of U.S. companies.
Aims to improve clarity, consistency and comparability of the communication of financial information.
Public companies in the U.S. must follow GAAP.
What is sustainability?
Sustainability has gained increased attention among social and economic actors (Rosa, 2010).
Sustainable development is defined as meeting today’s needs without creating a threat for the needs of future generations (Rosa, 2010; Katrinli et. al., 2011).
Sustainability and economic development
Economic development of countries differ significantly across the world.
Advancements in technology, easy transfer of financial sources and technology and financial liberalisation are some factors that affect economies and their levels of development.
There is also an increased interest in the environmental and social consciousness of stakeholders, especially consumers.
As a result the evaluation of firm’s performance and their orientation ability should be based on not only financial information and financial results.
Closer scrutiny of firm operations
Firms are monitored more closely and are now required to offer more information for transparency.
Companies are responsible for meeting the needs of both shareholders and all other stakeholders to continue their existence (Aras and Crowther, 2008).
Firm competitiveness is closely correlated with their skills of adaptation to new social, environmental and economic conditions (Porter, 2003).
When firms move towards expanding their capacity to compete, it is necessary for them
to:
- Consider the impact of their operations on economic, environmental and social structures AND
- Report these effects when the firm’s stakeholders demand to be informed
Is traditional financial reportingsufficient?
Traditional reporting systems deal only with the financial results of firm operations.
The information systems providing data for reporting are also configured in parallel with the production of financial results.
The data on social and environmental impacts of activities are typically excluded from the system (Saravanamuthu, 2004).
Recent developments reveal the need for a new reporting system that indicates economic, social and environmental impacts of firm operations as a whole.
This new requirement means new responsibilities for accounting and accounting professionals.
How do we integrate sustainability into
corporate decision-making?
The role of accounting has become more crucial:
Customers and other stakeholders are attaching increasing importance on the environmental and social effect of the goods and services they consume and want to know how these products contribute to the community (ACCA, 2008; Closs et al., 2011).
Sustainability implies consuming limited resource without jeopardising the survival of future generations AND in parallel efficient and productive utilisation of resources (Yazici, 2010).
Corporate sustainability implies that firms take a sustainable development approach aimed at minimising the economic, social and environmental effects of their operations, to secure life on earth.
Achieving corporate sustainability necessitates the firm internalising the management of these risks’ effects as part of their corporate strategy.
Corporate sustainability and the
Stakeholder theory
Stakeholder refers to persons or institutions that are affected by the actions or inactions of firms in the past, present and future.
Corporate accountability theory defines the structure of the relationship between firm managers and the rest of the society (Wilson, 2003).
Stakeholder theory states that corporations have a responsibility not only toward their shareholders but also, and primarily, toward customers, suppliers, employees and
society:
- Firms work towards the target of corporate sustainability.
- This could mean that firms acquire the best results for themselves AND produce benefits for their stakeholders.
Firms in market economies
The main priority of firm in market economies is to maximise their shareholders’ value within the legal and related arrangements that are related to social and environmental issues.
Firms focus on the relationship with their stakeholders.
Competitive strategies are aimed at improving these relationships (CSR Quest, A Multi-Dimensional, 2011).
The challenge is to harmonise the firm’s operations with sustainability through more complex solutions beyond just the reduction of environmental pollution (Isaksson and Steimle, 2009).
Effective global sustainability firm strategies are expected to produce positive results in various areas:
Strengthening people and communities worldwide by ensuring improved working conditions in compliance
with legal regulations; and
Enhancing long-term global viability by both securing limited resources such as water and raw materials
and reducing waste.
In the long-run improving the efficiency and profitability of the firm (Closs et al. 2011)
New management model
Conventional management model is based on growth and profit maximisation (Signitzer and Prexl, 2007; Wilson, 2003).
The new model not only accepts that growth and profitability are important but also necessitates that firms
should attempt more seriously to achieve social objectives, such as environmental protection, social equity and justice and economic development.
Stakeholders will be informed of all important firm operating results through reports and the most prominent one is the financial report.
Financial reports are the most visible accounting products, and these reports provide the most important means for a firm to communicate its operating results although they report results only in financial terms.
Corporate sustainability reports on the firm’s social and environmental impact
Criticism of typical accounting
Being a sustainable corporation refers to recognising economic, environmental and social results of the firms’ activities as performance indicators to increase long-term shareholder value.
How to achieve this is a problem to be overcome by accountants (Banerjee, 2002).
Typically involving adopting a set of implicit assumptions about the primacy and desirability of the
conventional firm agenda have been met with criticism for:
Drawing attention to the defects of accruals, consistency and prudence conventions in terms of
their use for evaluation of corporate activities which have ecological impacts
Using money as a common unit of accounting
Cost and management accounting have been criticised because of:
The arbitrary use of cost allocations,
The dominance of financial accounting rules,
The narrow focus on manufacturing costs and
A focus on short-term decisions rather than strategic decisions.
Non-financial reporting-Triple Bottom Line reporting
Information on social and environmental
sustainability is considered voluntary disclosure.
Adopting a TBL approach enables managers to use reports as an instrument for balancing economic growth with social and environmental needs.
Financial reports (required) indicate a firm’s profitability created by using, protecting and managing the sources and assets of the firm efficiently.
Alternatively, environmental and ecological reports are annual or seen as complementary to financial reports
The role of accounting and accountants
in sustainability
Financial and non-financial reports are used to evaluate the impact of a firm’s operations and decisions.
To manager any issue related to a firm, it has to be measurable.
Accounting enables the evaluation of a firm operations and their results.
Traditional accountings systems are limited when reflecting activities of contemporary business models and their consequences.
Accounting information systems and accountants need to evolve to respond to sustainability, including:
- Developing sustainability accounting standards, and national and sectoral sustainability reporting standards.
- Establishing the connection between non-financial and financial values of corporations.
- Reporting the results and interactions of firms’ activities related to the planet and society.
- Making corporate sustainability traceable and manageable.
- Having a role in informing and educating related parties
Trends in world trade
Exports – domestically produced goods and services leaving the country to be sold abroad.
Imports – foreign goods and services brought into the country to be sold domestically.
Net exports (NX) – the trade balance is equal to the value of exports minus the value of imports (X- M)
Historically, developed countries are the main trade forces, but the focus is now shifting to developing countries.
Developed countries account for half of merchandise trade globally, and two-thirds of trade in services.
Over two-thirds of world trade is in intermediate goods, crossing borders (often more than once), to be incorporated into finished products in other locations.
Variables that influence net exports
- consumer preferences
-price (domestic vs Foreign)
-income
-exchange
-government polices
trade surplus
excess of exports over imports
trade debit
an excess of imports over exports
balanced trade
export = import
Tools of government trade policy
Closed economies – do not interact with other economies in the world
Open economies – interact freely with other economies around the world.
Protectionism can be implemented through both direct and indirect trade barriers:
- Tariffs (duties) on imports or exports – apply directly.
- Import quotas.
- Voluntary export restraints (VERs).
Non-tariff barriers, such as local content requirements – an indirect barrier.
Subsidies to local producers out of public funds.
- Export subsidies distort world markets.
The flow of capital
Net capital outflow (NCO)
- Also referred to as net foreign investment.
- Domestic residents’ purchase of foreign assets MINUS foreigners’
purchases of domestic assets.
NCO measure the imbalance in a country’s trade in assets:
- When NCO > 0, “capital outflow” – domestic purchases of foreign assets exceed foreign purchases of domestic assets.
- When NCO< 0, “capital inflow” – foreign purchases of domestic assets exceed domestic purchases of foreign assets
Capital inflow – foreigners taking capital into the country to buy assets in our country.
Capital outflow – residents are taking capital out of the country to buy assets in another
country
Variables that influence NCO
-Real interest rates paid on foreign assets
-Real interest rates paid on domestic assets
-Perceived risks of holding foreign assets
-Government policies affecting foreign ownership
The rise of developing countries in
world trade
Countries with low costs and abundant labour have promoted economic growth based on export-oriented manufacturing.
Participation in supply chains has been aided by attracting FDI, notably in electronics and textiles:
China has been the most successful example of this development model.
As China’s economic growth has slowed, other emerging countries, such as India, have increased manufacturing for export.
The United States is the leading merchandise importer, but has a huge trade deficit.
International trade theories
Adam Smith – theory of absolute advantage.
A country can produce a good or service in greater quantity for the same cost or the same quantity at a lower cost more efficiently than its competitors.
David Ricardo – theory of comparative advantage.
A country’s ability to partially specialise in products at a lower opportunity cost than their trading partners.
Raymond Vernon - product life cycle theory (links trade and FDI).
Paul Krugman – new trade theory
Focused on globalised production, especially for complex products.
Economies trade and specialise to take advantage of increasing returns and lower costs (economies of scale).
First-mover advantages
International regulation of trade: GATT and WTO principles
GATT (General Agreement on Tariffs and Trade) legal agreement between countries;
Overall purpose was to promote international trade by reducing or eliminating trade barriers such as tariffs or quotas.
Principles which form the basis of the world trading system, carried through to the World Trade Organisation (WTO).
Most-favoured nation principle (MFN) – equal tariff treatment among member states.
National treatment – imported goods treated the same as domestic.
Principles of fairness in trading practices.
Anti-dumping agreement – allows an importing country to impose duties on goods from a country which is exporting them at prices below those charged domestically
The World Trade Organisation and Multilateral agreements
The WTO (successor to the GATT) came into existence in 1995.
Co-ordinates multilateral trade agreements among member states.
Operates a dispute settlement procedure for resolving trade disputes.
Doha round of trade negotiations revealed tensions between developed and developing countries, especially on issues of agriculture and farm subsidies in developed countries.
Multilateralism in crisis
The disappointment of the Doha round revealed friction between developing, emerging and developed countries.
The WTO has prioritised trade liberalisation, but other concerns such as social goals, loom large in national interests.
Rising nationalism and populism in key countries (e.g. China, the U.S., India, Brazil) have placed strain on international institutions such as the WTO.
Trade tensions between the US and China have further highlighted the marginalisation of the WTO.
Bilateral agreements (generally lopsided, ad with ISDS clauses) are common, and are favoured by the U.S.
Regional trade agreements
Free trade area – agreement to remove trade barriers among member states.
Customs union – free trade area plus a common set of trade rules for external trade of member states.
(e.g. Mercosur – established by Treaty of Asunción in 1991 and Protocol of Ouro Preto in 1994 – Argentina, Brazil, Paraguay, and Uruguay).
Common market – free movement of goods, labour and capital among member states.
(e.g. NAFTA, North American Free Trade Agreement signed by Canada, Mexico and the US created a trilateral trade bloc in North America came into force 1 January 1994 and superseded the 1988 Canada – US Free Trade
Agreement).
Economic union – higher level of integration, with unity of member states’ monetary policy.
(e.g. European Union)
Political union – transfer of sovereignty to supranational institutions.
(e.g. ASEAN – Association of Southeast Asian Nations a political and economic union of 10 member states of Southeast Asia, promoting intergovernmental cooperation and facilitating economic, political, security, military, educational and socio-cultural integration. Brunei, Cambodia, Indonesia, Laois, Malaysia, Myanmar, Philippines, Singapore, Thailand, and Vietnam)
Regional integration: Europe
The European Union
The single market aimed to dismantle internal barriers, but many persisted.
Economic union has been partial: the eurozone has common monetary policy, but not fiscal policy.
European Free Trade Area (AFTA) non-EU European countries.
European Economic Area (EEA) – free trade area of the EU and EFTA.
The Americas
The Andean Community – a free trade area.
Mercosur – a common market, with four members: Argentina, Brazil,
Paraguay and Uruguay.
North America
The North American Free Trade Agreement (NAFTA) between the U.S., Canada
and Mexico – a free trade zone, established since 1992.
NAFTA now superseded by the US-Canada-Mexico Free Trade Agreement
(USMCA) agreed in 2019.
The USCMA maintains significant elimination of tariffs, but not free movement of people
Asia and Africa
Both regions have diverse economies and political systems.
Association of South East Asian Nations (ASEAN) a free trade area.
Asia-Pacific Economic Co-operation Group (APEC) a co-operative grouping of 21 member countries.
Africa has less regional integration than other world regions.
Economic Community of East African States (ECOWAS) – a customs union of currently 15 member countries – Benin, Burkina Faso, Cabo Verde, Cote d’Ivoire, The Gambia, Ghana, Guinea, Guinea-Bissau, Liberia, Mali, Niger,
Nigeria, Senegal, Sierra Leone, and Togo.
East African Community (EAC) a common market of six countries in Eastern Africa and Northern Africa – Burundi, Kenya, Rwanda, South Sudan, Tanzania, Uganda
Gulf Cooperation Council
Officially launched January 2008.
United Arab Emirates, Saudi Arabia, Qatar, Oman, Kuwait and Bahrain.
A political and economic union.
Aimed at creating one market, raising production efficiency and optimising the use of resources.
A customs union already existed (movement of GCC citizens is unrestricted, which means that no visa formalities are required).
All GCC citizens have the right to work in all government and private institutions in any member state; buy and sell real estate; invest; move freely between member countries; and receive education and health benefits.
Industrial inputs are exempted from customs duties, although some tariff protection is maintained for certain GCC industrial products.
There is no unified law for FDI, given natural resources and land ownership issues.
Government’s primary aims for
the economy:
Full employment
* People who are willing and able to work can find employment.
* Economically inactive – people that do not want to or are unable to work (e.g. children, retired, those in full-time education).
* Full employment is not actually 0% unemployed.
Price stability
* Ensures greater economic certainty
* Prevents the country’s products from losing international competitiveness
* Common target is a stable inflation rate of 2%.
Economic Growth
* Increased output in the short run.
* In the long run sustained productive potential
* Producing more goods and services can raise people’s living standards
Redistribution of Income
* By taxing and spending.
* Money raised is spent directly on the poor by means of benefits – e.g. housing benefit or unemployment benefit
* Money raised is spent on education and health, particularly to benefit the poor.
Balance of payments stability
* Value of exports to equal the value of imports.
fiscal policy
-changes in government spending
-changes in taxations
monetary policy
-changes in money supply
-changes in interest rates
The gold standard system – 1870s to 1914.
Currencies were ‘pegged’ to gold – there was a conversion rate for each currency. Pegging a currency can stabilise the exchange rate between countries (long-term predictability).
System depended on central banks adhering to external convertibility.
No restrictions on international gold flows.
Marked the emergence of a global financial order.
The system broke down at the outset of WWI, when governments restricted movements in gold markets.
The Bretton Woods system
Dates from the aftermath of WWII – it lasted 1944 to 1971.
Currencies pegged to the U.S. dollar.
But some flexibility for countries in setting the value of their currencies.
National capital controls allowed.
The International Monetary Fund (IMF) and the World Bank Organisation (WB) date from the agreement.
The Bretton Woods system collapsed,
change rate system
Overseen by the IMF.
Provides guidelines to governments on managing their currency.
Currencies can range from fixed rate to free floating.
Pegged exchange rate – pegged to another currency, such as the US$.
The peg is adopted to provide stability, and is favoured by developing and emerging economies.
Governments can come under pressure to devalue.
The IMF warns against accumulating vast currency reserves, but many countries do hold large reserves, e.g. China.
The IMF and World Bank
Both are involved in economic development policies for member countries.
Both are influential institutions: they attach conditions to loans, which have followed the “Washington Consensus”.
The World Bank focuses on development programmes.
The IMF focuses on broader development issues and financial stability; it has been crucial in national financial crises.
The IMF is a co-ordinating institution of the G20 group of countries (which includes a number at risk of financial instability)
The Washington Consensus
(John Williamson)
- fiscal discipline - reduce large deficits
- reordering public spending priorities towards pro growth and pro poor
- tax reform
- liberalising interest rates
- a comp exchange rate
- trade liberalisation
- liberalisation of inward FDI
- privatisation
- deregulation
- property rights
After Bretton Woods
Issues of global financial stability.
IMF seeks to maintain exchange rate flexibility.
Currency pegs can be more flexible, moving in bands.
If currency is undervalued, benefits flow to the country’s exporters.
Free-floating currencies are “reserve” currencies – include the $U.S. and the Euro.
The growing importance of China recognised by designating the yuan as a reserve currency
International capital markets
MNEs raise capital by offering shares to investors (equity funding), and by borrowing (debt financing).
Capital markets – flows of capital, including equity and debt markets.
The financial environment has become highly globalised, due largely to advances in computing; characterised by:
Growing cross-border finance and investment.
Growth in global financial services.
Growing role played by governments – sovereign wealth funds have become large global investors.
International capital markets
Equity markets
Shares in listed companies are traded on stock exchanges, launched by an IPO (initial public offering).
China has overtaken New York in the number of new listings of companies.
Global companies often seek listings outside their home countries.
In new markets where there is investment potential.
In countries where regulation and costs are more advantageous.
Institutional investors, such as pension funds and investment funds, have become major investors in capital markets.
Debt financing
A bond is a loan instrument which promises to pay a fixed sum on a fixed date, and to pay interest to the lender.
Companies and governments both use bonds.
Sovereign debt, or government debt, has grown to huge proportions.
Derivatives – financial instruments that have facilitated the securitization of debt.
Hedge funds – investment funds active in bond markets.
- They are known for their speculative behaviour.
Private equity funds – investment funds which focus on buyout activities, often financed by debt.
National financial crises
- National financial systems can become vulnerable through a currency crisis, especially when banks are exposed to debt in foreign currency.
- Some causes of national financial crises:
- Openness to volatile global financial flows.
- Accumulation of too much debt: government, corporate and household debt.
- Falling currency and dollar-denominated debt.
- Argentina – sovereign debt default and failed restructuring of bond debts.
- Russia – currency crisis in 1998.
The Asian financial crisis
Started in Thailand in 1997, and contagion spread to three other Asian countries – Indonesia, South Korea, Malaysia.
Investment boom and huge inflows of capital preceded the crisis.
Risks of the pegged currency: the government struggles to maintain the peg, risking running out of reserves.
The currency crisis caused investors to flee.
IMF rescue packages ensued, but one-size-fits-all market solutions were criticized as contributing to further economic hardship in these societies
The global financial crisis of 2008
- Low interest rates and glut of borrowing preceded crisis.
- Growth in derivatives trading carried risks, especially mortgage-backed securities.
- Banks became active in derivatives markets, using debt to fund further lending – a risky strategy.
- The crash of the US housing market led to an abrupt halt in lending.
- Failure of Lehman Brothers bank in the US – a watershed event.
- Repercussions around the globe, especially affecting globalized banks
Aftermath of the crisis 2008
- UK government bailout of two banks (RBS and HBOS) – RBS had become over-extended by global acquisitions.
- Scandals involving the rigging of the inter-bank lending rate (LIBOR).
- Banks have also faced fines for mis-selling financial products.
- Quantitative Easing (QE) – in the US and UK: intended to inject money into the financial system.
- However, an outcome has been to see money pumped into equities, which have led to stock market surges
Global markets for corporate control
- Mergers and acquisition: M&A activity.
- A merger is the coming together of two or more companies to form a new company.
- An acquisition or takeover involves one company buying out another.
Often paid for through borrowing.
If the board of the target company does not approve the takeover, it becomes hostile, and is submitted for shareholder approval. - In some sectors, such as energy and chemicals, there has been considerable consolidation.
Global finance: Towards sustainability?
The assumption that free markets are self-regulating was shattered by the financial crisis.
A challenge is to reform banking and finance to a more sustainable footing, taking in stakeholder interests.
How to combine an enterprise culture and a sense of responsibility?
A more sustainable financial system would feature:
A stakeholder focus.
Regulatory reform to introduce greater accountability of bankers who have caused
their banks to fail.
A more responsible approach to corporate governance.
The political sphere
Politics is about the processes by which power is exercised in a social group.
Public and private spheres:
Public: institutions of state, government structures and the individuals who play roles in decision-making.
Civil society: private sphere in which people can pursue their own goals, including freedom to join groups such as political parties and trade unions.
Pluralism: existence in society of a multiplicity of groups and interests
institutions
Institutions are the rules of the game and can provide certainty and stability in transactions between the buyer and seller
The “rules of the game” - North, D. (1991) – “humanly devised constraints that shape human interaction” (p. 477)
Norms, rules of conduct and generally accepted ways of doing things.
They are created by people.
They regulate human, business and state interactions. (They become the “durable system of established and embedded social rules that structure social interactions” Hodgson, G.M (2004).
They can be formal (e.g. laws and regulations) or informal (e.g. norms derived from repeated human behaviour).
Why do we study institutions?
To apply economic theory to reality, we have to have a sense of
economic and political institutions.
Institutions are laws, common practices, and organisations in a society that affect the economy, firm performance and social interactions.
Institutions differ significantly among nations.
They sometimes seem to operate differently than theory predicts
Transaction costs
Transaction costs – all costs necessary for buyers and sellers to buy and sell goods or services.
Transaction costs include:
Legal fees;
The costs of negotiations;
The cost of monitoring and enforcing a contract;
The cost of finding information (scoping/analysing the market);
The cost of labour to produce and deliver a good or service to the market;
The cost of disposing of inventory or capital.
Transaction costs could be financial, time related or just the inconvenience of undertaking an activity
Institutions and Transaction Costs
Institutions add certainty to transactions:
Secure private property;
Provide clarity;
Enforce contracts.
Institutions can make certain kinds of interactions or transactions more generally attractive or easy;
Supporting worker productivity;
Provide incentives for certain transactions;
Limit rent-seeking behaviour;
Reduce risk of doing business;
Direct resources toward innovation rather than protecting rights.
Nation-states
The nation-state (or just state) is the basic unit into which the world’s people are divided; its characteristics:
Sovereignty – supreme law-making authority over inhabitants of its territory.
Monopoly over the legitimate use of coercive force within its territory.
Government – institutions by which laws are made and implemented in the state.
States recognize the sovereignty of each other.
Sovereignty vs actual exercise of power – The dictator exercises power, but without legitimacy.
Legal Risk
Every sovereign state has its own legal system, through which laws are made, applied and enforced.
Legal systems exist in a country’s social, political and cultural environments.
Legal risk for the MNE arises in any situation where business takes place across national borders.
Risks include:
lack of transparency;
bias in the legal system, where the judiciary is not independent.
possible government or political interference.
National legal systems:
Western legal systems
Civil law tradition – based on comprehensive codes that set out the basic law.
Have become models for new legal systems around the world.
Common law tradition –
Originated in England.
Based on a body of judge-made law through decided cases.
Both types of legal system are now heavily supplemented by legislation, to cover new situations and evolving business practices, such as digital advances.
National legal systems:
Non-western legal systems
Customary law predates western systems in many countries.
Religious law – Islamic, Hindu, Chinese.
Shari’a – Islamic law
Affects business transactions in Muslim countries, e.g. Saudi Arabia.
Financial instruments must be compliant with Shari’a law.
Both western and non-western systems have evolved as global business has expanded.
Cross-border transactions
UN harmonization has helped to facilitate cross-border contracts; Convention on Contracts for the International
Sale of Goods (CISG) –
Formation of contract
Obligations of the parties
Remedies
UNIDROIT Principles of International Commercial Contracts
Set of terms which parties can apply, adapting them to their needs
Wider application than CISG; applies to a range of contracts
International law
International law covers the body of rules, laid down in treaties, which are recognized by signatory states.
Treaties may be bilateral (between 2 countries) or multilateral (between numerous countries.
Enforcement depends on co-operation by sovereign states.
International law has expanded with globalization, especially in the area of human rights.
Although international law does not apply directly to businesses, it has become recognized as setting standards.
Political ideology
Political ideology focuses on cultural identity and the nature of the community.
Often asserts the group’s moral supremacy and denies the legitimacy of other groups.
Nationalism - ideology based on the cultural identity of the nation or people, asserting its moral superiority.
Populism – ideology or movement based on restoring power to ‘the people’
Often nationalist, and hostile to establishment ‘elites’.
Appeal especially to low-income citizens affected by globalization and de-industrialization
Political risk
Political risk – the uncertainties associated with the exercise of governmental power both within a country and from external forces.
Internal factors
Violent conflict within the state
Social unrest
Corruption
External factors
Wars and conflicts with other states
Terrorism (which can have internal or external causes)
What is labour?
Labour is a factor of production or input.
Firms use labour (L) and capital (K), given the available technology (A) to produce output (Y).
𝒀 = 𝑨 + 𝑲 𝜶 + 𝑳(𝟏− 𝜶)
= output elasticity of capital (determines how much output increases by contribution of capital)
.= output elasticity of labour (determines how much output increases by labour productivity).
What is the labour market?
The labour market includes:
Supply of labour by households (refer to the circular flow of income).
Demand for labour by firms.
The labour market is where there is an exchange between the supply of and demand for labour.
This is a factor market.
There is no single labour market.
Wages represent the price of labour:
An income to households.
A cost to firms.
Governments and trade unions can exert influence on wage levels (frictions/imperfect labour markets)
What is demand for labour?
Demand for labour refers to the firm’s requirement for labour as an input to the production process.
The demand for labour reflects the demand for the output of final goods and services.
In a perfectly competitive labour market, an individual firm is a wage-taker; it takes the market wage rate as given.
Demand for labour is derived from the demand for the final goods and services produced in the economy:
Demand for labour is not direct demand.
For example, if there is an increase in demand for new housing, it will lead to an increase in the demand for labour in the construction sector, including engineers, architects, builders, electricians, etc.
What is supply in labour?
Supply of labour is the number of individuals willing and able to work, multiplied by the hours they are willing and able to work.
Households supply labour in the labour market.
In a perfectly competitive labour market, workers are wage-takers; they take the market wage rate that they receive as given.
Higher wages will usually encourage workers to supply more labour, because work is more attractive compared to leisure (the opportunity cost of leisure increases).
Workers are not homogenous (alike; comparable);
Workers differ in physical capacities and education and training.
The personal stock of a worker’s know-how, and skills determines productivity and the ability to earn income
Labour market equilibrium
Equilibrium in a competitive labour market requires that supply equals demand (workers are employed at wage of ).
In equilibrium, everyone who is looking for work at the going wage can find a job.
Workers prefer to work when the wage is high; AND
Firms prefer to hire when the wage is low.
Labour market equilibrium “balances out” the conflicting desires of workers and firms and determines the wages and employment in the labour market
Determinants of labour demand
Price of labour - A rise in wage rates which is greater than a rise in productivity will raise labour costs and contract demand for labour.
Productivity - As output per worker increases the more attractive labour becomes.
Price of substitutes - If capita become cheaper firms may wish to substitute labour with machinery.
* Technological progress – rise of automation (innovation)
Supplementary labour costs - Increasing national insurance contributions will lead to a fall in demand for labour.
The supply of labour
Individuals offer their labour services in
return for payment (wages and salaries).
Each individual has one decision to make:
Enter the labour market; OR
Leisure
In making this decision between leisure or working, the individual faces two constraints:
They are limited to twenty-four hours per day for work.
Their income is limited by the market wage rate.
Determinants of labour supply
The higher the wage, the more labour is supplied.
A worker’s wage, along with any bonus, provides the main pecuniary (monetary) benefit from working.
Changes in preferences for work:
Changes in the “cost of working” (e.g. subsidised childcare or non-wage benefits of working).
Net advantages of non-pecuniary (non-monetary) advantages of work (e.g. working conditions, job security, holiday entitlement, promotion prospects and other psychological benefits of work).
Migration (migrants tend to be of working age).
Barriers to entry (e.g. strict requirement for qualifications).
Trade unions:
Can attract workers into the labour market because of the benefits of becoming a member.
Can exert control over the labour supply by limiting working hours or going on strike.
Influencing wages through collective bargaining.
Tax and benefit incentives and disincentives.
Labour subsidies:
Government subsidies for workers to look for work, or (re)train
The labour force
- Employed and unemployed together make up the labour force.
- In principle, individuals who are neither employed nor unemployed (outside the labour force) are not part of the labour supply).
- Traditionally the labour force
supports those outside the labour force. - Labour force participation is a key for economic growth and development.
Shifting world demographics
The working population is the number of people of working age: 15 to 64 defined by OECD (2021). Working age population (indicator). (accessed November, 2021).
The world’s population is ageing.
Youth inactivity rate is rising.
Increase in volunteer work, unpaid trainee work and own-use production work.
Growth of the informal economy in some regions.
Increased immigration.
Labour supply and migration
Immigration affects the labour supply.
Depends on the skills of migrants
Depends on the skills of existing workers
Depends on the characteristics of the host economy.
Migrants tend to be of working age.
Migration may increase competition for existing jobs in certain occupational sectors or create new jobs.
In the short-term immigration’s effect on wages or employment of existing workers depends on:
Whether migrant workers have skills that substitute or complement those of existing workers (Borjas, 1995)
Unemployment
The standardised definition of an unemployed person given by the International Labour Organization (ILO):
Someone who is without a job and who is willing to start work within the next two weeks and either has been looking for work in the past four weeks or was waiting to start a job.
Unemployment rate (u-rate):
% of the labour force that is unemployed:
Labour force participation rate:
% of the adult population that is in the labour force
frictional unemployment
this occurs naturally when workers are between jobs or have just graduated and are looking for work for the first time
Workers have different tastes and skills and jobs have different requirements.
How do we match workers with appropriate jobs?
Sectoral shifts are changes in the composition of labour demand across industries or regions of a country:
Such shifts displace some workers, who must search for new jobs appropriate to their skills and tastes.
The economy is always changing, so some frictional unemployment is inevitable
cyclical unemployment
The economy regularly goes through ups and downs when it enters a recession, more people become unemployed
structural employment
when there is a mismatch between the skills people have learned and the skills the job market requires, this causes structural unemployment
Occurs when there are not enough jobs.
Occurs when market wage is kept above equilibrium.
Minimum wage – may exceed the equilibrium wage for the least skilled or experienced worker.
Trade Unions
Exerting power to negotiate higher wages for workers
Efficiency wages
The theory of efficiency wages – firms voluntarily pay above-equilibrium wages to boost workers’ productivity.
Different versions of the efficiency wage theory suggests different reasons why firms pay high wages.
Cyclical unemployment vs the natural rate of unemployment
There is always some unemployment, though the u-rate fluctuates from year to year.
Natural rate of unemployment refers to the normal rate of unemployment around which the actual unemployment rate fluctuate.
Cyclical unemployment refers to the deviation of unemployment from its natural rate associated with the business cycle.
Common challenges of international
business
Several ways a business can be international:
Produces goods domestically and sells both domestically and internationally;
Produces goods in a different country but sells domestically;
Produces goods in a different country and sells both domestically and internationally.
Example of 5 common challenges of international business:
Language barriers.
Cultural differences.
Managing global teams.
Currency exchange and inflation rates.
Nuances of foreign politics, policy and relations.
Stakeholder theory and the firm
Freeman’s (1984) set the agenda for what is now known as stakeholder theory.
Stakeholder theory is the idea that for a business to be successful it has to create value for customers, suppliers, employees, communities and financiers, shareholders, banks and others.
Businesses cannot consider its self interests in isolation, but has to also consider the interests of others that may be impacted by its decision
Social responsibility and the firm
-Corporate social responsibility (CSR) rests on the role of the firm in society, involving obligations to all stakeholders.
-Individualist countries tend to focus on the economic role of the firm, but this is too narrow a view.
-Markets underestimate human, community and environmental values.
-Global companies so large as to dwarf national economies: these firms should recognize the responsibility that accompanies economic power.
-Focus on shareholder value (purely economic) contrasted with a focus on stakeholder concerns (CSR).
Theories of CSR
A weak theory of CSR focuses on philanthropy as a add-on to business activities.
Associated with the concept of corporate citizenship, which entails minimal legal obligations that an individual citizen would owe.
Stakeholder theory – focuses on the many groups and interests that affect the company.
Carroll’s model of CSR –
* Recognizes four levels of CSR: economic, legal, ethical and philanthropic
* Focuses on stakeholder interests as the social dimension
Carroll’s CSR Pyramid
top to bottom
Philanthropic responsibilities - be a good corporate citizen ( contribute resources to the community improve quality of life)
Ethical responsibilities - Be ethical (obligation to do what is right, just and fair. Play by the rules of the game)
Legal Responsibilities - Obey the law (Law is society’s codification of right and wrong. Play by the rule of the game )
Economic responsibilities - Be profitable (the foundation upon which all others rest)
The MNE and social responsibility
Social responsibility (CSR) means that the firm acts in a manner that not only maximises shareholder value, but also benefits society.
To achieve this end, firms should adopt policies that promote the well-being of society and the environment, while lessening negative impacts.
A growing number of consumers actively look to buy goods and services from socially responsible
companies, impacting profitability.
The International Organisation for Standardisation (ISO) emphasises that a critical factor for operating efficiently and effectively is the ability of the firm to maintain a balance between pursuing economic performance while adhering to societal and environmental issues (ISO 26000 is the recognised international standard for CSR)
primary stakeholders
-shareholders in parent company
-employees of parent company
-lenders to the company e.g. bondholders
-companies contracted to manufacture the MNE products
-customers and consumers of its products and services
secondary stakeholders
-workers in supply chains that make the MNE products
-trade unions representing the above workers
-communities where the MNE products are made
-governments
-NGOs
-communities
-the natural environment
How do MNEs measure CSR?
Contingent valuation
* A method of valuation used in cost-benefit analysis and environmental accounting (OECD).
* A survey based method of analysis.
* Respondents are asked to value the businesses’ non- market resources, such as environmental preservation.
Conjoint analysis
* Used to discover consumers’ value different attributes of a good or service.
* A form of statistical analysis.
* Results can be used to determine how
much value the consumer places on the businesses’ social impact as part of their decision in purchasing/using the business’ goods or services.
Corporate social performance
* Principles, practices and outcomes of businesses’ relationships with people, organisations, institutions, communities, societies and the earth.
* Consists of three elements – social responsibility, mode of social responsiveness and social issues of stakeholders.
The Balanced scorecard
* Used to identify and improve internal business functions and their external outcomes.
* Common among companies in the U.S., U.K., Japan and Europe.
* Measures four aspects of the business – learning and growth, business process, customers and finance.
CSR in practice
The ‘business case’ for CSR – Business goals will be met more successfully in the long term through a CSR approach, rather than a narrow view of economic goals (short- termism).
The sustainable business model – taking into account climate change and environmental impacts.
Voluntary codes of practice – relating to CSR, ethical and environmental practices the firm aspires to achieve.
Third-party verification – a stronger approach than the voluntary code.
ESG reporting – takes in environmental, social and governance reporting.
Work relationships – obligations and
rights
Balance of power in the work relationship is tipped towards the organization that takes on the worker.
In many situations, especially in developing countries, work is informal, with little legal protection for workers.
Employees with formal work contracts are protected by employment laws and health & safety laws, but many workers fall outside these protections:
The zero-hours contract – flexibility for the employer, but insecurity for the worker.
Service contracts.
Workers in the gig economy classified as self-employed.
International standards
OECD Guidelines for MNEs – latest revision 2011
Highlights MNE roles in supply chains
Addresses human rights
Environmental issues, such as ‘green growth’ and sustainability
ILO principles
Employment practices, training, work conditions, industrial relations
Recognize the right of workers to join an independent trade union, and the right of
collective bargaining
The UN Global Compact – between governments, companies and NGOs
CSR and corporate governance
A company’s corporate governance reflects its corporate culture and its assumptions about the company’s role in society.
Company directors owe fiduciary duty to act in the best interests of the company as a whole.
Where ownership is concentrated in a few individuals, they dominate decision-making, and ordinary shareholders have little influence.
Excessive remuneration of executives: relies on board oversight and also legislation in some countries
How accountable are directors?
Although most boards have one or more independent (non-executive) directors, their monitoring role tends to be weak.
The posts of Chairman of the board and CEO are often combined, amounting to concentration of control.
Board committees, such as the remuneration committee, tend to be dominated by insiders.
Spiralling executive remuneration has occurred in the last decade, far outstripping the pay of ordinary workers.
Ordinary shareholders typically have little say in choosing candidates for seats on the board
Social enterprise
The social enterprise lies between the for-profit and non-for-profit organization.
It makes profits and uses them for social purposes.
Some operate in areas akin to government services.
Can be a registered charity, or a community interest company (CIC).
- In the UK, the CIC is a limited company which must adhere to social purposes.
Social enterprise offers opportunities for the innovative entrepreneur, and many have sprung up in emerging economies.
Ethics and CSR: the sustainable business
The sustainable business sees its purpose in terms of all stakeholders.
For most MNEs, however, the vista is limited to dominant owners and the imperatives of national laws.
A result is that millions of workers endure conditions that offend human dignity, and many societies are damaged by corporate activities that bring more harm than benefit.
MNEs face pressures to revise business goals towards a CSR perspective
