SESSION 3

THE EXTERNAL ENVIRONMENT OF INTERNATIONAL BUSINESS

WHAT IS A POLITICAL ECONOMY?

Political economy of a nation - how the political,

economic, and legal systems of a country are
interdependent
they interact and influence each other
they affect the level of economic well-being in the
nation
WHAT IS A POLITICAL SYSTEM?

Political system - the system of government in a

nation
Assessed according to
the degree to which the country emphasizes
collectivism as opposed to individualism
the degree to which the country is democratic or
totalitarian
WHAT IS COLLECTIVISM?

Collectivism stresses the primacy of collective goals over

individual goals
can be traced to the Greek philosopher, Plato (427-347 BC)
Today, collectivism is equated with socialists (Karl Marx
1818-1883)
advocate state ownership of the basic means of production,
distribution, and exchange
manage to benefit society as a whole, rather than individual
capitalists
HOW DOES MODERN-DAY SOCIALISM LOOK?

In the early 20th century, socialism split into

1.Communism – socialism can only be achieved through
violent revolution and totalitarian dictatorship
in retreat worldwide by mid-1990s
2.Social democrats – socialism is achieved through
democratic means
retreating as many countries move toward free market economies
state-owned enterprises have been privatized
WHAT IS INDIVIDUALISM?

Individualism refers to philosophy that an individual

should have freedom in his own economic and political
pursuits
can be traced to Greek philosopher, Aristotle (384-322 BC)
individual diversity and private ownership are desirable
individual economic and political freedoms are the ground rules
on which a society should be based
implies democratic political systems and free market economies
WHAT IS DEMOCRACY?

Democracy - a political system in which government is by the

people, exercised either directly or through elected
representatives
usually associated with individualism
pure democracy is based on the belief that citizens should be
directly involved in decision making
most modern democratic states practice representative democracy
where citizens periodically elect individuals to represent them
WHAT IS TOTALITARIANISM?

Totalitarianism - form of government in which one

person or political party exercises absolute control
over all spheres of human life and prohibits
opposing political parties
WHAT IS TOTALITARIANISM?

Four major forms of totalitarianism exist today

1.Communist totalitarianism – found in states where the
communist party monopolizes power
2.Theocratic totalitarianism - found in states where political power
is monopolized by a party, group, or individual that governs
according to religious principles
3.Tribal totalitarianism - found in states where a political party that
represents the interests of a particular tribe monopolizes power
4.Right-wing totalitarianism - permits some individual economic
freedom, but restricts individual political freedom
WHAT IS THE LINK BETWEEN POLITICAL IDEOLOGY AND ECONOMIC
SYSTEMS?

Political ideology and economic systems are

connected
countries that stress individual goals are likely to have
market based economies
in countries where state-ownership is common,
collective goals are dominant
WHAT IS AN ECONOMIC SYSTEM?

There are three types of economic systems

1.Market economies - all productive activities are
privately owned and production is determined by
the interaction of supply and demand
government encourages free and fair competition
between private producers
WHAT IS AN ECONOMIC SYSTEM?

2.Command economies - government plans the goods and

services that a country produces, the quantity that is
produced, and the prices as which they are sold
all businesses are state-owned, and governments
allocate resources for “the good of society”
because there is little incentive to control costs and be
efficient, command economies tend to stagnate
3.Mixed economies - certain sectors of the economy
are left to private ownership and free market
mechanisms while other sectors have significant
state ownership and government planning
governments tend to own firms that are considered
important to national security
WHAT IS A LEGAL SYSTEM?

Legal system - the rules that regulate behavior along with

the processes by which the laws are enforced and
through which redress for grievances is obtained
the system in a country is influenced by the prevailing political
system
Legal systems are important for business because they
define how business transactions are executed
identify the rights and obligations of parties involved in business
transactions
WHAT ARE THE
DIFFERENT LEGAL SYSTEMS?

 There are three types of legal systems

1.Common law - based on tradition, precedent, and custom
2.Civic law - based on detailed set of laws organized into codes
3.Theocratic law - law is based on religious teachings
HOW ARE CONTRACTS ENFORCED IN DIFFERENT LEGAL SYSTEMS?

Contract - document that specifies the conditions under which

an exchange is to occur and details the rights and obligations of
the parties involved
Contract law is the body of law that governs contract
enforcement
under a common law system, contracts tend to be very detailed with all
contingencies spelled out
under a civil law system, contracts tend to be much shorter and less
specific because many issues are already covered in the civil code
WHICH COUNTRY’S LAWS SHOULD APPLY IN A CONTRACT DISPUTE?

The United Nations Convention on Contracts for the

International Sale of Goods (CIGS)
establishes a uniform set of rules governing certain aspects of the
making and performance of everyday commercial contracts between
buyers and sellers who have their places of business in different
nations
Ratified by the U.S. and about 70 countries
but, many larger trading nations including Japan and the U.K. have not
agreed to the provisions of CIGS and opt for arbitration instead
HOW ARE PROPERTY RIGHTS
AND CORRUPTION RELATED?

Property rights - the legal rights over the use to which a resource is put
and over the use made of any income that may be derived from that
resource
Property rights can be violated through
1.Private action – theft, piracy, blackmail
2.Public action - legally - ex. excessive taxation or illegally - ex.
bribes or blackmailing
high levels of corruption reduce foreign direct investment, the level of
international trade, and the economic growth rate in a country
WHICH COUNTRIES ARE MOST CORRUPT?- 2022 CORRUPTION INDEX
RANKINGS
HOW CAN INTELLECTUAL
PROPERTY BE PROTECTED?

 Intellectual property - property that is the product of intellectual activity

 Can be protected using
1.Patents – exclusive rights for a defined period to the manufacture, use, or sale of
that invention
2.Copyrights – the exclusive legal rights of authors, composers, playwrights, artists,
and publishers to publish and disperse their work as they see fit
3.Trademarks – design and names by which merchants or manufacturers
designate and differentiate their products
HOW CAN INTELLECTUAL
PROPERTY BE PROTECTED?

Protection of intellectual property rights differs from country

to country
World Intellectual Property Organization
Paris Convention for the Protection of Industrial Property
To avoid piracy, firms can
stay away from countries where intellectual property laws are lax
file lawsuits
lobby governments for international property rights agreements
and enforcement
WHAT IS PRODUCT SAFETY
AND LIABILITY?

Product safety laws set certain standards to which a

product must adhere
Product liability involves holding a firm and its officers
responsible when a product causes injury, death, or
damage
liability laws tend to be less extensive in less
developed nations
WHY IS PRODUCT SAFETY AND PRODUCT LIABILITY IMPORTANT?

Question:
Does the high cost of liability insurance make home
companies less competitive?
Question:
Is it ethical to follow host country standards when
product safety laws are stricter in a firm’s home country
than in a foreign country?
Question:
Is it ethical to follow host country standards when
liability laws are more lax in the host country?
HOW CAN MANAGERS DETERMINE A MARKET’S OVERALL
ATTRACTIVENESS?

The overall attractiveness of a country as a potential

market and/or investment site for an international
business depends on balancing the benefits, costs, and
risks associated with doing business in that country
Other things being equal, more attractive countries have
democratic political institutions, market based economies, and
strong legal systems that protect property rights and limit
corruption
WHAT DETERMINES A COUNTRY’S LEVEL
OF ECONOMIC DEVELOPMENT?

Gross national income (GNI) per person measures

the total annual income received by residents of a
nation
Japan, Sweden, Switzerland, and the U.S. have high GNI
China and India have low GNI
GNI can be misleading because it does not consider
differences in the cost of living
need to adjust GNI figures using purchasing power parity
(PPP)
WHAT DETERMINES A COUNTRY’S LEVEL
OF ECONOMIC DEVELOPMENT?

Official figures can also be misleading because

they do not account for black economy transactions
In addition, GNI and PPP data are static and do not
consider economic growth rates
So, while China and India are currently categorized as
being poor they are growing more rapidly than many
developed nations and are expected to become among
the largest economies in the world
WHAT DETERMINES A COUNTRY’S LEVEL
OF ECONOMIC DEVELOPMENT?

The United Nations used Sen’s ideas to develop

the Human Development Index (HDI) which is
based on
life expectancy at birth
educational attainment
whether average incomes are sufficient to meet the
basic needs of life in a country
HOW DOES POLITICAL ECONOMY INFLUENCE ECONOMIC PROGRESS?

Innovation and entrepreneurship are the engines of long-run

economic growth
innovation includes new products, new processes, new organizations,
new management practices, and new strategies
entrepreneurs commercialize innovative new products and processes
Innovation and entrepreneurship help increase economic
activity by creating new markets and products that did not
previously exist
innovation in production and business processes result in more
productive labor and capital further boosting economic growth rates
HOW DOES POLITICAL ECONOMY INFLUENCE ECONOMIC PROGRESS?

Innovation and entrepreneurship require a market economy

there is little incentive to develop new innovations in planned
economies because the state owns all means production and
therefore, the gains
There is a strong relationship between economic freedom
and economic growth
the six countries with the highest ratings of economic freedom from
1975 to 1995 were also among the highest for economic growth
 Hong Kong, Switzerland, Singapore, the United States, Canada, and
Germany
HOW DOES POLITICAL ECONOMY INFLUENCE ECONOMIC PROGRESS?

Innovation and entrepreneurship require strong

property rights
without strong property rights, individuals and businesses
risk having their innovations and potential profits stolen
Economist Hernando de Soto claims that
inadequate property protection in many developing
nations limits economic growth
HOW DOES POLITICAL ECONOMY INFLUENCE ECONOMIC PROGRESS?

Democratic regimes are probably more conducive to long-term

economic growth than dictatorships, even the benevolent kind
property rights are only secure in well-functioning, mature
democracies
Subsequent economic growth leads to the establishment of
democratic regimes
South Korea
Taiwan
HOW DOES GEOGRAPHY INFLUENCE ECONOMIC DEVELOPMENT?

Countries with favorable geography are more likely to

engage in trade, and so, be more open to market-based
economic systems, and the economic growth they promote
Jeffrey Sachs studied economic growth rates between 1965
and 1990 and found that
landlocked countries grew more slowly than coastal economies
being totally landlocked reduced a country’s growth rate by 0.7%
per year
tropical countries grew more slowly than countries in temperate
zones
HOW DOES EDUCATION INFLUENCE ECONOMIC DEVELOPMENT?

Countries that invest in education have higher

growth rates because the workforce is more
productive
countries in Southeast Asia have offset their
geographical disadvantages by investing in education
Indonesia, Malaysia, and Singapore
HOW IS THE POLITICAL
ECONOMY CHANGING?

Since the late 1980s, two trends have emerged

1.Democratic revolution (late 1980s and early 1990s)
democratically elected governments replaced totalitarian
regimes
more committed to free market capitalism
2.A move away from centrally planned and mixed
economies
more countries have shifted toward the market-based model
HOW IS THE POLITICAL
ECONOMY CHANGING?

Trend 1: Democracy has spread over the last two decades

many totalitarian regimes failed to deliver economic progress to
the vast bulk of their populations
new information and communication technologies have broken
down the ability of the state to control access to uncensored
information
economic advances of the last 25 years have led to increasingly
prosperous middle and working classes who have pushed for
democratic reforms
HOW IS THE POLITICAL
ECONOMY CHANGING?

Author Francis Fukuyama argues that the new world order

will be characterized by democratic regimes and free
market capitalism
But, political scientist Samuel Huntington argues that while
many societies are modernizing they are not becoming
more Western
predicts a world split into different civilizations
these civilizations will be in conflict with each other
HOW IS THE POLITICAL
ECONOMY CHANGING?

Trend 2: The spread of market-based systems

more countries have moved away from centrally
planned and mixed economies toward the market-
based model
Command and mixed economies failed to deliver
the sustained economic growth achieved in
market-based countries
WHAT IS THE NATURE OF
ECONOMIC TRANSFORMATION?

The shift toward a market-based system involves

deregulation – removing legal restrictions to the free play
of markets, the establishment of private enterprises, and
the manner in which private enterprises operate
privatization - transfers the ownership of state property
into the hands of private investors
the creation of a legal system to safeguard property rights
WHAT DOES THE CHANGING
ECONOMY MEAN FOR MANAGERS?

Markets that were formerly off-limits to Western business

are now open
firms need to explore opportunities in these markets
Despite being underdeveloped and poor, some markets
have huge potential
China -1.2 billion people
India – 1.1 billion people
Latin America – 400 million potential consumers
WHAT DOES THE CHANGING
ECONOMY MEAN FOR MANAGERS?

However, the potential risks are large

will democracy thrive especially in difficult economic
times?
will totalitarian regimes return?
will a multi-polar world of different civilizations
emerge?
will China’s financial system be stable?
WHAT ARE THE IMPLICATIONS OF POLITICAL ECONOMY DIFFERENCES
FOR MANAGERS?

Countries with democratic regimes, market based

economic policies, and strong property rights protection
are more likely to have higher sustained rates of
economic growth
these markets are more attractive to international businesses
the benefits, costs, and risks of doing business in a country are
a function of the country’s political, economic, and legal systems
WHAT ARE THE IMPLICATIONS OF POLITICAL ECONOMY DIFFERENCES
FOR MANAGERS?

The benefits of doing business in a country are a function of

the market’s size
the purchasing power of its consumers
their likely future wealth
By identifying and investing early in potential future
economic stars, firms may be able to gain first mover
advantages (advantages that accrue to early entrants into a
market) and establish loyalty and experience in a country
China
WHAT ARE THE IMPLICATIONS OF POLITICAL ECONOMY DIFFERENCES
FOR MANAGERS?

The costs of doing business in a country are a function of

its
political system
is it necessary to pay bribes to get market access?
economic level
are the necessary supporting business and infrastructure in place?
legal system
it can be more costly to do business in countries with dramatically
different product, workplace, and pollution standards, or where there
is poor legal protection for property rights
WHAT ARE THE IMPLICATIONS OF POLITICAL ECONOMY DIFFERENCES
FOR MANAGERS?

The risks of doing business in a country are a function of

Political risk - the likelihood that political forces will cause drastic
changes in a country's business environment that adversely
affects the profit and other goals of a business enterprise
Economic risk - the likelihood that economic mismanagement
will cause drastic changes in a country's business environment
that adversely affects the profit and other goals of a business
enterprise
Legal risk - the likelihood that a trading partner will
opportunistically break a contract or expropriate property rights
HOW DO CULTURAL DIFFERENCES AFFECT INTERNATIONAL
BUSINESS?

Understanding and adapting to the local cultural is important

international companies
cross-cultural literacy - an understanding of how cultural differences
across and within nations can affect the way in which business is practiced
cross-cultural literacy is important for business success
A relationship may exist between culture and the costs of doing
business in a country or region
MNEs can be agents of cultural change
McDonald’s
WHAT IS CULTURE?

Culture - a system of values and norms that are shared among a group
of people and that when taken together constitute a design for living
• where
 values are abstract ideas about what a group believes to be good, right, and
desirable
 norms are the social rules and guidelines that prescribe appropriate behavior
in particular situations
Society - a group of people who share a common set of values and
norms
WHAT ARE VALUES AND NORMS?

Values provide the context within which a society’s

norms are established and justified and form the
bedrock of a culture
Norms include
folkways - the routine conventions of everyday life
mores - norms that are seen as central to the
functioning of a society and to its social life
HOW ARE CULTURE, SOCIETY,
AND THE NATION-STATE RELATED?

The relationship between a society and a nation

state is not strictly one-to-one
Nation-states are political creations
can contain one or more cultures
A culture can embrace several nations
WHAT DETERMINES CULTURE?

The values and norms of a culture evolve over time

Determinants include
religion
political and economic philosophies
education
language
social structure
WHAT IS A SOCIAL STRUCTURE?

Social structure - a society’s basic social

organization
Consider
the degree to which the basic unit of social
organization is the individual, as opposed to the group
the degree to which a society is stratified into classes
or castes
HOW ARE INDIVIDUALS
AND GROUPS DIFFERENT?

In Western societies, there is a focus on the individual

individual achievement is common
dynamism of the U.S. economy
high level of entrepreneurship
But, creates a lack of company loyalty and failure to gain
company specific knowledge
competition between individuals in a company instead of than team
building
less ability to develop a strong network of contacts within a firm
HOW ARE INDIVIDUALS
AND GROUPS DIFFERENT?

In many Asian societies, the group is the primary

unit of social organization
discourages job switching between firms
encourages lifetime employment systems
leads to cooperation in solving business problems
But, might also suppress individual creativity and
initiative
WHAT IS SOCIAL STRATIFICATION?

All societies are stratified on a hierarchical basis

into social categories, or social strata
individuals are born into a particular stratum
Must consider
1.mobility between strata
2.the significance placed on social strata in business
contexts
WHAT IS SOCIAL STRATIFICATION?

1.Social mobility - the extent to which individuals can move out

of the strata into which they are born
caste system - closed system of stratification in which social
position is determined by the family into which a person is born
change is usually not possible during an individual's lifetime
class system - form of open social stratification
position a person has by birth can be changed through
achievement or luck
WHAT IS SOCIAL STRATIFICATION?

2.The significance attached to social strata in

business contacts
class consciousness - a condition where people tend to
perceive themselves in terms of their class background, and
this shapes their relationships with others
an antagonistic relationship between management and labor
raises the cost of production in countries with significant
class differences
HOW DO RELIGIOUS AND
ETHICAL SYSTEMS DIFFER?

Ethical systems - a set of moral principles, or

values, that are used to guide and shape behavior
Religion and ethics are often closely intertwined
ex. Christian or Islamic ethics
HOW DOES CULTURE
IMPACT THE WORKPLACE?

 Hofstede’s dimensions of culture:

1.Power distance - how a society deals with the fact that people are unequal in
physical and intellectual capabilities
2.Uncertainty avoidance - the relationship between the individual and his fellows
3.Individualism versus collectivism - the extent to which different cultures socialize
their members into accepting ambiguous situations and tolerating ambiguity
4.Masculinity versus femininity -the relationship between gender and work roles
HOW DOES CULTURE IMPACT THE WORKPLACE?
DOES CULTURE CHANGE?

Culture evolves over time

changes in value systems can be slow and painful for a society
Social turmoil - an inevitable outcome of cultural change
as countries become economically stronger, cultural change is
particularly common
economic progress encourages a shift from collectivism to
individualism
globalization also brings cultural change