International Trade Theory

International Trade Theory Mercantilism The principal assertion of mercantilism was that gold and silver were the mainstays of national wealth and essential to vigorous commerce. At that time, gold and silver were the currency of trade between countries; a country could earn gold and silver by exporting goods. By the same token, there were outflows of gold and silver while a country was importing. The main principle of mercantilism was a country would maintain a trade surplus, to export more than it imported. Consistent with this belief, the mercantilist doctrine advocated government intervention to achieve a surplus in the balance of trade. They saw no virtue in a large volume of trade. Rather, they recommended policies to maximize exports and minimize imports. To achieve this, imports were limited by tariff, and exports were subsidized. The flaw with mercantilism was that it viewed trade as a zero-sum game; that is a game in which one can gain at the cost of another’s loss. The following scenario will depict the flaw – Let us assume England had a balance of trade surplus with France, the resulting inflow of gold and silver would swell the domestic money supply and generate inflation in England. In France, however, the outflow of gold and silver would have the opposite effect. France’s money supply would contract, and its prices will fall. This change in relative prices between France and England would encourage the French to buy fewer English goods as they were becoming more expensive, and the English to buy more French goods as they were becoming cheaper. The result would be deterioration in the English balance of trade and an improvement in France’s trade balance, until the English trade surplus was eliminated. Hence, in the long run, no country could sustain a surplus in the trade balance and so mercantilism doctrine is dead.

Absolute Advantage According to Adam Smith, countries should specialize in the production of goods for which they have an absolute advantage and then trade these for goods produced by other countries. Smith’s basic argument is that a country should never produce goods at home that it can buy at a lower cost from other countries. Smith demonstrated that, by specializing in the production of goods in which each has an absolute advantage, both countries benefit by engaging in trade. Let us analyze the below case –

International Trade Theory Cocoa

Rice

Domestic Exchange

Ghana

10

20

1:2

South Korea

40

10

4:1

International Exchange

1:4

2:1

Let us assume that total resource available is 200 units in each country Production without Trade: If there is no trade, suppose the resources are being utilized in equal amount for the production of both goods by both countries. Cocoa

Rice

Ghana

10

5

South Korea

2.5

10

Total

12.5

15

Production with Specialization: According to the theory of absolute advantage, Ghana will go for specialization in producing cocoa as it has absolute advantage compared to South Korea, and for the opposite reason South Korea will go for specialization in producing rice. Cocoa

Rice

Ghana

20

0

South Korea

0

20

Total

20

20

Consumption after Ghana Trades 6 Tons of Cocoa for 6 Tons of South Korea’s Rice: Cocoa

Rice

Ghana

14

6

South Korea

6

14

Total

20

20

Increase in Consumption after Trade:

Ghana South Korea

Cocoa

Rice

4

1

3.5

4

International Trade Theory Comparative Advantage According to Ricardo’s theory of comparative advantage, it makes sense for a country to specialize in the production of those goods that it produces more efficiently and to buy the goods that it produces less efficiently from other countries, even if this means buying goods from other countries that it could produce more efficiently itself. Cocoa

Rice

Domestic Exchange

Ghana

10

13.33

1:1.33

South Korea

40

20

2:1

International Exchange

1:4

1:1.5

The theory of comparative advantage suggests that trade is a positive-sum game in which all countries that participate realize economic gains.

Let us assume that total resource available is 200 units

Production without Trade: If there is no trade, suppose the resources are being utilized in equal amount for the production of both goods by both countries.

Cocoa

Rice

Ghana

10

7.5

South Korea

2.5

5

Total

12.5

12.5

Production with Specialization: According to the theory of comparative analysis, South Korea will go for specialization in producing rice as it has less comparative disadvantage compared to Ghana, and for the opposite reason Ghana will go for specialization in producing cocoa. Cocoa

Rice

Ghana

15

3.75

South Korea

0

10

Total

15

13.75

International Trade Theory Consumption after Ghana Trades 4 units of Cocoa for 4 units of South Korean Rice: Cocoa

Rice

Ghana

11

7.75

South Korea

4

6

Total

15

13.75

Increase in Consumption after Trade: Cocoa

Rice

1

0.25

1.5

1

Ghana South Korea

Assumptions for the Comparative Advantage Doctrine ¾ In this doctrine only two countries and two goods are assumed. In the real world, there are many countries and many goods. ¾ The transportation costs are not considered here. ¾ The prices of resources are assumed to be same in the same countries. ¾ It is assumed that the resources can move freely from one production to another within a country. ¾ In this doctrine, constant return of scale is considered. ¾ It is assumed that each country has a fixed stock of resources and that free trade does not change the efficiency with which a country uses its resources. ¾ The effect of trade on income distribution within a country is not considered here.

Extension of the Ricardian Model Immobile Resources Resources do not always move easily from one economic activity to another. The process creates friction and human suffering too. While the theory predicts that the benefits of free trade outweigh the costs by a significant margin, this is of cold comfort to those who bear the costs. Accordingly, political opposition to the adoption of a free trade regime typically comes from those whose jobs are most at risk. The pain caused by the movement toward a free trade regime is a short time phenomenon, while the gains from trade once the transition has been made are both significant and enduring.

International Trade Theory Diminishing Returns Diminishing returns to specialization occurs when more units of resources are required to produce each additional unit. Diminishing return implies a convex PPF rather than the straight line. It is more realistic to assume diminishing returns for two reasons. First, not all resources are of the same quality. As a country tries to increase its output of a certain good, it is increasingly likely to draw on more marginal resources whose productivity is not as great as those initially employed. The result is that it requires even more resources to produce an equal increase in output. A second reason for diminishing returns is that different goods use resources in different proportions. Diminishing returns show that it is not feasible for a country to specialize to the degree suggested by the simple Ricardian model outlined earlier. Diminishing returns to specialization suggest that the gains from specialization are likely to be exhausted before specialization is complete. In reality, most countries do not specialize but, instead, produce a range of goods. However, the theory predicts that it is worthwhile to specialize until that point where the resulting gains from trade are outweighed by diminishing returns. Dynamic Effects of Economic Growth Free trade might increase a country’s stock of resources as increased supplies of labor and capital from abroad become available for use within the country. Free trade might also increase the efficiency with which a country uses its resources. Gains in the efficiency of resource utilization could arise from a number of factors. Economies of large scale production might become available as trade expands the size of total market available for domestic firms. Trade might make better technology from abroad available, better technology can increase productivity of resources. Opening an economy for foreign competition might stimulate producers to look for ways to increase their efficiency. The Samuelson Critique The Samuelson model suggests that when a rich country enters into free trade with a poor country, the lower prices that the rich country consumers pay for goods imported from the poor country may not be enough to produce a net gain for the rich country economy if the dynamic effect of free trade is to lower the real wage rates in the rich country.

International Trade Theory Samuelson concedes that free trade has historically benefited rich countries. Also he notes that introducing protectionist measures to guard against the theoretical possibility may harm the rich country in the future may produce a situation that is worse than the disease they are trying to prevent. Some economists note that as a practical matter developing nations are unlikely to be able to upgrade the skill level of their workforce rapidly enough to give rise to the situation in Samuelson model. In other words, they will quickly run into diminishing returns. Link between Trade and Growth Countries that adopt a more open stance toward international trade enjoy higher growth rates than those who close their economies to trade. Higher growth rate will raise income levels and living standards. For every 10% increase in the importance of international trade in an economy, average income level will rise by at least 5%.

Heckscher – Ohlin Theory Heckscher and Ohlin argues that comparative advantage arises not prom the productivity, but from the differences in national factor endowments. By factor endowments they mean the extent to which a country is endowed with resources. The more abundant a factor, the lower its cost. The Heckscher – Ohlin theory predicts that countries will export those goods that make intensive use of factors that are locally abundant, while importing goods that make intensive use of factors that are locally scarce. Relative, not absolute, endowments are important; a country may have larger absolute amounts of land and labor than another country, but be relatively abundant in one of them. A key assumption in this theory is that technologies are the same across countries. The Leontief Paradox Since US is relatively abundant in capital compared to other nations, US would be an exporter of capital intensive good and an exporter of labor intensive goods; as Heckscher – Ohlin theory suggests. But in reality it is opposite, which is called the Leontief Paradox. The probable reason behind this is US has a special advantage in producing new products made with innovative technologies. Such product may be less capital intensive than products whose technology has had time to mature and become suitable for mass

International Trade Theory production. Thus US may be exporting goods that heavily use skilled labor and innovative entrepreneurship.

Product Life Cycle Theory Raymond Vernon argued that most new products were initially produced in US. Apparently, the pioneering firms believed that it was better to keep production facilities close to the market and to the firm’s center of decision making, given the uncertainty and risks inherent in introducing new products. Also, the demand for most new products tends to be based on non-price factors. Consequently, firms can charge relatively high prices for new products, which obviate the need to look for low cost production sites in other countries. Vernon went on to argue that early in the life cycle of a typical new product, while demand is starting to grow rapidly in US, demand in other advanced countries is limited to the high income groups. The limited initial demand in other advanced countries does not make it worthwhile for the firms in those countries to produce the new product, but it needs some exports from US. Over time demand for the new product grows in other advanced countries and it becomes worthwhile for foreign producers to begin producing for their home markets. In addition, US firms might set up production facilities in those advanced countries where demand is growing. Consequently, production within other advanced countries begins to limit the potential for exports from US. As the market in US and other advanced countries matures, the product becomes more standardized, and price becomes the main competitive weapon. As this occurs, cost considerations start to play a greater role in the competitive process. Producers based in advanced countries where labor costs are lower than in US might now be able to export to US. If cost pressure becomes intense, the process might not stop here. The cycle by which US lost its advantage to other advanced countries might be repeated once more, as developing countries begin to acquire a production advantage over advanced countries. Thus, the locus of global production initially switched from US to other advanced countries, and later to the developing countries.

International Trade Theory The New Trade Theory The new trade theory suggests that nations may benefit from trade even when they do not differ in factor endowments or technology. Trade allows a nation to specialize in the production of certain products, attaining scale of economies and lowering the cost of production. Economies of scale are unit cost reduction associated with large volume of output. Economies of scale have a number of sources, including the ability to spread fixed cost over a large volume, and the ability of large producers to utilize specialized resources. New trade theory makes two important points – ¾ Through its impact on economies of scale, trade can increase the variety of goods available to consumers and decrease the average costs of those goods. ¾ In those industries when the output required to attain economies of scale represents a significant proportion of total world demand, the global market may only be able to support a small number of enterprises. Thus, world trade in certain products may be dominated by countries whose firms were first movers in their production. Increasing Product Variety and Reducing Costs In the era of free trade, individual national markets are combined into a larger world market. As the size of market expands due to trade, individual firms may be able to better attain economies of scale. The implication according to the new trade theory, is that each nation may be able to specialize in producing a narrower range of products than it would in the absence of trade, yet by buying goods from other countries, each nation can simultaneously increase the variety of goods available to its consumers and lower the costs of those goods – thus trade offers an opportunity for mutual gain even when countries do not differ in their resource endowments or technology. Trade is mutually beneficial because it allows for the specialization of production, the realization of scale of economies, the production of a greater variety of products, and lower prices. Economies of Scale, First Mover Advantages, and the Pattern of Trade The trade pattern we observe in the world economy may be the result of economies of scale and first mover advantage. First mover advantages are the economic and strategic advantages that accrue to early entrants into an economy. The ability to capture scale economies ahead of later entrants, and thus benefit from a lower cost structure, is an important first mover advantage.

International Trade Theory The new trade theory argues that for those products where economies of scale are significant and represent a substantial proportion of world demand, the first movers in an industry can gain a scale based cost advantage that later entrants find almost impossible to match. Thus the trade pattern we observe for such products may reflect the first mover advantage. Countries may dominate in the export of certain goods because economies of scale are important in their production and because firms located in those countries are the first to capture scale economies, giving them a first mover advantage.

National Competitive Advantage: Porter’s Diamond Classical theories of international trade propose that comparative advantage resides in the factor endowments that a country may be fortunate enough to inherit. Factor endowments include land, natural resources, labor, and the size of the local population. Michael E. Porter argued that a nation can create new advanced factor endowments such as skilled labor, a strong technology and knowledge base, government support, and culture. Porter used a diamond shaped diagram as the basis of a framework to illustrate the determinants of national advantage. This diamond represents the national playing field that countries establish for their industries.

Chance

Firm,strategy,structure and rivalry.

Factor Conditions

Demand Conditions

Related and Supporting Industries

Government

International Trade Theory The individual points on the diamond and the diamond as a whole affect four ingredients that lead to a national comparative advantage. These ingredients are: ¾ The availability of resources and skills ¾ Information that firms use to decide which opportunities to pursue with those resources and skills ¾ The goals of individuals in companies ¾ The pressure on companies to innovate and invest

I. Factor Conditions ¾ A country creates its own important factors such as skilled resources and technological base. ¾ The stock of factors at a given time is less important than the extent that they are upgraded and deployed. ¾ Local disadvantages in factors of production force innovation. Adverse conditions force firms to develop new methods, and this innovation often leads to a national competitive advantage. II. Demand Conditions ¾ When the market for a particular product is larger locally than in foreign markets, the local firms devote more attention to that product than do foreign firms, leading to a competitive advantage when the local firms begin exporting the product. ¾ A more demanding local market leads to national advantage. ¾ A strong, trend-setting local market helps local firms anticipate global trends. III. Related and Supporting Industries ¾ When local supporting industries are competitive, firms enjoy more cost effective and innovative inputs. ¾ This effect is strengthened when the suppliers themselves are strong global competitors. IV. Firm Strategy, Structure, and Rivalry ¾ Local conditions affect firm strategy. For example, German companies tend to be hierarchical. Italian companies tend to be smaller and are run more like extended families. Such strategy and structure helps to determine in which types of industries a nation's firms will excel. ¾ In Porter’s Five Forces model, low rivalry made an industry attractive. While at a single point in time a firm prefers less rivalry, over the long run more local rivalry is

International Trade Theory better since it puts pressure on firms to innovate and improve. In fact, high local rivalry results in less global rivalry. ¾ Local rivalry forces firms to move beyond basic advantages that the home country may enjoy, such as low factor costs.

The Diamond as a System ¾ The effect of one point depends on the others. For example, factor disadvantages will not lead firms to innovate unless there is sufficient rivalry. ¾ The diamond also is a self-reinforcing system. For example, a high level of rivalry often leads to the formation of unique specialized factors.

Government's Role ¾ Encourage companies to raise their performance, for example by enforcing strict product standards. ¾ Stimulate early demand for advanced products. ¾ Focus on specialized factor creation. ¾ Stimulate local rivalry by limiting direct cooperation and enforcing antitrust regulations.

Chances Influencing Competitive Advantage ¾ Acts of pure invention; ¾ Major technological discontinuities (e.g. biotechnology, microelectronics); ¾ Discontinuities in input costs such as the oil crisis; ¾ Significant shifts in world financial markets or exchange rates ; ¾ Surges of world or regional demand; ¾ Political decision by foreign governments; and ¾ Wars.

Environment Economic Environment Markets require buying power as well as people. The economic environment consists of factors that affect consumer purchasing power and spending patterns. Marketers should he aware of the following predominant economic trends. Income Distribution and Changes in Purchasing Power Global upheavals in technology and communications over the 1990s brought about a shift in the balance of economic power from the West towards the East. Official statistics suggest that, by 2010, purchasing power income per head in countries like Singapore and South Korea will exceed that of the United States. Economic growth projections suggest that Europe will drop down the economic rankings. Assuming annual growth in western Europe and the United States of 2.5 per cent, and 6 per cent in Asia as a whole, the share of world grows domestic product (GDP) taken by Asian developing countries, including China and India, could rise to 28 per cent in 2010 from 18 per cent in 1990. Western Europe's share will fall to 17 per cent from 22 per cent, while the United States will drop to 18 per cent from 23 per cent. Although there has been a narrowing of the wealth and living standards gap between the developed western and rising Asian countries in recent decades, the uncertain economic climate in the Asian economies has important implications for international marketers. They must determine how changing incomes affect purchasing power and how they translate into marketing threats and opportunities for the firm. Where consumer purchasing power is reduced as in countries experiencing economic collapse or in an economic recession, value-far-money becomes a key purchasing criterion. Marketers must pursue value-based marketing to capture and retain price-conscious customers during lean economic times, unlike boom periods when consumers become literally addicted to personal consumption rather than offering high quality at a high price, or lesser quality at very low prices, marketers have to look for ways to offer the more financially cautious buyers greater value - just the right combination of product quality and good service at a fair price. Consumers with the greatest purchasing power are likely to belong to the higher socioeconomic groups, whose rising incomes mean that their spending patterns are less susceptible to economic downturns than lower-income groups. So, marketers must determine a population's income distribution. The upper economic group of a society become primary targets for expensive luxury goods, the middle income groups are more careful about spending, but can usually afford some luxuries sometimes, while the lower

Environment group will afford only basic food, clothing and shelter needs. In some countries, an underclass exists – people permanently living on state welfare and/or below the poverty line - which has little purchasing power, often struggling to make even the most basic purchases. Changing Consumer Spending Patterns Generally, the total expenditures made by households tend to vary for essential categories of goods and services, with food, housing and transportation often using up most household income. Marketers also want to identify how spending patterns of consumers at different income levels vary. Some of these differences were noted over a century ago by Ernst Engel, who studied how people shifted their spending as their income rose. He found that as family income rises, the percentage spent on food declines, the percentage spent on housing remains constant (except for such utilities as gas. electricity and public services, which decrease), and both the percentage spent on other categories and that devoted to savings increase. Engel's laws have generally been supported by later studies. Changes in major economic variables such as income, cost of living, interest rates, and savings and borrowing patterns have a large impact on the market-place. Companies watch these variables by using economic forecasting. Businesses do not have to be wiped out by an economic downturn or caught short in a boom. With adequate warning, they can take advantage of chances in the economic environment.

Political Environment Marketing decisions are strongly affected by developments in the political environment. The political environment consists of laws, government agencies and pressure groups that influence and limit various organizations and individuals in a given society. Legislation Regulating Business Even the most liberal advocates of free-market economies agree that the system works best with at least some regulation. Well-conceived regulation can encourage competition and ensure fair markets for goods and services. Thus governments develop public policy to guide commerce - sets of laws and regulations that limit business for the good of society as a whole. Almost every marketing activity is subject to a wide range of laws and regulations. Understanding the public policy implications of a particular marketing activity is not a simple matter.

Environment First, there are many laws created at different levels: for example, in the EU, business operators are subject to European Commission, individual member state and specific local regulations; in the USA, laws are created at the federal, state and local levels, and these regulations often overlap. Second, the regulations are constantly changing - what was allowed last year may now be prohibited. In the single European market, deregulation and ongoing moves towards harmonization are expected to take time, creating a state of flux, which challenges and confuses both domestic and international marketers. They must therefore work hard to keep up with these changes in the regulations and their interpretations. In many developed economies, legislation affecting business has increased steadily over the years. This legislation has been enacted for a number of reasons. The first is to protect companies from each other. Although business executives may praise competition, they sometimes try to neutralize it when it threatens them. So laws are passed to define and prevent unfair competition. Anti-trust agencies and monopolies and mergers commissions exist to enforce these laws. The second purpose of government regulation is to protect consumers from unfair business practices. Some firms, if left alone would make shoddy products, tell lies in their advertising and deceive consumers through their packaging and pricing. Unfair business practices have been defined and are enforced by various agencies. The third purpose of government regulation is to protect the interests of society against unrestrained business behavior. Profitable business activity does not always create a better quality of life. Regulation arises to ensure that firms take responsibility for the social costs of their production or products. International marketers should additionally be aware of regional, country and local laws that affect their international marketing activity. Growth of Public Interest Groups The number and power of public interest groups have increased during the past two decades. The role of public interest groups is as watchdogs on consumer interests and lifted consumerism into a powerful social force. Consumerism

has

spilled

over

to

countries

in

Western

Europe and other developed market economies such as Australia. Hundreds of other consumer interest groups, private and governmental, operate at all levels - regional, national, state/county and local levels. Other groups that marketers need to consider are

Environment those seeking to protect the environment and to advance the rights of various groups such as women, children, ethnic minorities, senior citizens and the handicapped. Increased Emphasis on Ethics and Socially Responsible Written regulations cannot possibly cover all potential marketing abuses, and existing laws are often difficult to enforce. However, beyond written laws and regulations, business is also governed by social codes and rules of professional ethics. Enlightened companies encourage their managers to look beyond what the regulatory system allows and simply to 'do the right thing'. These socially responsible firms actively seek out ways to protect the long-run interests of their consumers and the environment. Increased concerns about the environment have created fresh interest in the issues of ethics and social responsibility. Almost every aspect of marketing involves such issues. Unfortunately, because these issues usually involve conflicting interests, well-meaning people can disagree honestly about the right course of action in a particular situation. Thus many industrial and professional trade associations have suggested codes of ethics, and many companies are now developing policies and guidelines to deal with complex social responsibility issues.

Cultural Environment The cultural environment is made up of institutions and other forces that affect society's basic values, perceptions, preferences and behaviors. A classic definition is provided by Sir Edward Taylor: “Culture is that complex whole which includes knowledge, belief, art, morals, law, custom, and any other capabilities and habits acquired by individuals as members of society”. It is commonly agreed that a culture must have three characteristics: 1. It is learned, that is people over time transmit the culture of their group from generation to generation. 2. It is interrelated, that is, one part of the culture is deeply connected with another part, such as religion with marriage, or business with social status. 3. It is shared, that is, the tenets of the culture are accepted by most members of the group. Another characteristic of culture is it does not stand still, but slowly, over time, changes. This change is partly in response to environmental needs and partly through the influence of outside forces. From the marketer’s point of view, one way of gaining cultural understanding is to examine the following cultural elements within a country.

Environment Material Life: Material life refers to economics, that is, what people do to drive their livelihood. The tools, knowledge, techniques, methods, and processes that a culture utilizes to produce goods and services, as well as their distribution and consumption, are all part of material life. Thus, two essential parts of material life are knowledge and economics. The material life of any given society will fall on a continuum between traditional and industrialized poles. That position indicates a society’s overall way of life and can be analyzed to determine opportunities for the marketers. Social Interactions: Social interactions establish the roles that play in a society and their authority/responsibility patterns. These roles and patterns are supported by society’s institutional framework, which includes, for example, education and marriage. Social roles are also established by culture. For example, a woman can be a wife, a mother, a community leader, and/or an employee. What role is preferred in different situations is culture-bound. Most Swiss women consider household work as their primary role. For this reason, they resent modern gadgets and machines. Behavior also emerges from culture in the form of conventions, rituals, and practices on different occasions such as festivals, marriages, informal get-togethers, and times of grief or religious celebration. The authority of the aged, the teacher, the religious leader in many societies is derived from the culture. The educational system, the social settings, customs and traditions prescribe roles and patterns for individuals and groups. With reference to marketing, social interactions influence family decision making and buying behavior and define the scope of personal influence and opinion. In Latin America and Asia the extended family is considered the most basic and stable unit of social organization. It is the center of all economic, political, social, and religious life, providing companionship, protection, and a common set of values with specially prescribed means for fulfilling them. In contrast, the nuclear family is the focus of social organization in the US. Language: Language as part of culture consists not only the spoken word, but also symbolic communication of time, space, things, friendships, and agreements. Nonverbal communication occurs through gestures, expressions, and other body movements. The many different languages of the world do not literally translate from one to another, and

understanding

communication

the is

symbolic even

and

physical more

aspects difficult

of

different to

cultures’ achieve.

Environment

In addition, meanings differ within the same language used in different places. The English language differs so much from one English speaking country to another that sometimes the same word means something entirely opposite in a different culture. “Table the report” in the US means postponement; in England it means “bring the matter to the forefront”. Language differences can affect all sorts of business dealings, contracts, negotiations, advertising, and labeling. Symbolic communication poses some cross-cultural dangers, too. To be on time for an appointment is an accepted norm in the US. Whereas in many countries, like Bangladesh, 11 AM means about that time, not precise. Greetings vary from culture to culture, encompassing the handshake, kiss, hug, and placing hands in praying position. Lack of awareness concerning a country’s accepted form of greetings can lead to awkward encounters and sometimes offended feelings. Aesthetics: Aesthetics include the art, drama, music, folkways, and architecture endemic to a society. These aspects of a society convey its concept of beauty and modes of expression. The aesthetic values of a society show in the design, colors, expressions, symbols, movements, emotions, and postures valued and preferred in a particular culture. These attributes have an impact on the design and promotion of different products. Likewise, space, and the way that a person occupies it, communicates something about social position in the terms of each culture. A large office on the top floor of building in US means that the person occupying that office is important in an organizational hierarchy. Such a conclusion elsewhere would not always be right. Japanese executives usually share an office. In the US worldly possessions and material things are often used as symbols of success. However, in many countries, it may not be true. Particularly in the Islamic countries, an emphasis on material possessions is frowned upon. Religion and Faith: Religion influences a culture’s outlook on life, its meaning and concept. In general, the religion practiced in a society influences the emphasis placed on material life, which in turn affects the attitudes toward owning and using goods and services. Religious traditions may even prohibit the use of certain goods and services altogether. Religion also influences male-female roles, as well as societal institutions and customs such as marriage and funeral rites. Religion affects patterns of living in various other

Environment ways. It establishes authority relationships, an individual duties and responsibilities both in childhood and as an adult, and the sanctity of different acts such as hygiene. In general, organized religion and faith inevitably motivate people and their customs in numerous ways. The impact of religion is continuous and profound. Consequently, international marketers must be sensitive to the religious principles of each host country. Pride and Prejudice: Cultural pride and prejudice make many nations reject foreign ideas and imported products. But the reverse also occurs; a perception of greatness attributes to another culture may lead to the eager acceptance of things reflecting that culture. For example, the Japanese are proud of their culture and economic achievement and prefer to buy Japanese manufactures. Yet the words “Made in USA” marked on a product communicate quality and sophistication to them. Ethics and More: The concept of what is right and what is wrong is based on culture. To be straightforward and openly honest are considered morally right in the US; even if feelings are hurt. In Latin cultures people avoid direct statements that would embarrass or make another uncomfortable. The differences in mannerisms between the Japanese and the Koreans illustrate this point. The Japanese are formal and reserved; the Koreans are informal and outgoing. A Korean saleswoman puts her hand on a customer’s shoulder as she walks him to the door; a Korean executive invites a business acquaintance home to meet the family. Such

acts

of

familiarity

would

be

very

unusual

in

Japan.

Indirect Export Indirect Export: Indirect export occurs when the exporting manufacturer uses independent organizations located in the producer’s country. In this situation the dependent organization does not actively engage in any international sales activities.

Types of Indirect Export Organization: ¾ International Marketing Organization ™ Home Country Based Merchants Export Merchants Trading Company Export Desk Jobber ™ Home Country Based Agents Export Commission House Confirming House Resident Buyer Broker Export Management Company Manufacturer’s Export Agent ¾ Cooperative Organization ™ Piggyback Marketing ™ Exporting Combinations

Export Merchants ¾ The domestic-based export merchant buys and sells on own account. Generally engaged in both exporting and importing, it operates in a manner similar to a regular domestic wholesaler. ¾ All aspects of the international marketing task are handled by export merchant except for any modification needed for the product itself, packaging, or the quantity included in the unit package to meet any special needs of individual overseas markets. ¾ The export merchant company is free to choose what it will buy, where it will buy, and what prices. The same freedom exists for sales. ¾ The export merchant is a powerful commercial organization, able to exist without the cooperation of any manufacturer, or group of manufacturers. ¾ Potential limitations of using export merchants:

Indirect Export ™ Export merchants are interested in staple commodities, which are generally open market items not subject to a high degree of identification by the producer. ™ Export merchants are reluctant to take considerable amount of sales effort. ™ They are unwilling to allow the manufacturers much more than a manufacturing profit on any merchandise.

Trading Company Type

Rationale for Grouping

General Trading Company (GTC)

Historical

involvement

in

generalized

import/export activities. Export Trading Companies (ETC)

Specific mission to promote growth of exporters

Federated export Marketing Group (FMG)

Loose

collaboration

among

exporting

companies supervised by a third party and usually market specific Trading Arms of Multinational Corporations Import/export and trading activities specific (MNC-ETC)

in parent company’s operations

Bank Based Trading Groups (Bank – ETC)

Extension of traditional banking activities into commercial fields

Commodity Trading Company (TDC)

Long-standing export trading in a specific market, secretive, fast-paced and high-risk activities

Sogo Shosha

Offers financial services, supply-demand oriented, and problem solvers

Three distinct contributions of trading companies: ¾ Lowering transaction cost ¾ Creating new markets and finding new sources of supply ¾ Introducing marketing technology and credit into the local distribution – catalytic contribution

Export Desk Jobber ¾ Export desk jobber is also termed as export drop shipper, and cable merchant. ¾ Primarily they were engaged in the international sales of raw material.

Indirect Export ¾ They never physically acquire the goods that they buy or sell. ¾ The manufacturer using EDJ is responsible for the physical movement of the products to the EDJ’s customer. ¾ EDJs know the sources of supply and markets. They relieve the producers of the risk of determining the reliability of the purchase. ¾ EDJs are not conducive to the establishment of continuous markets for a manufacturer’s product; rather they conduct business too quickly for there to be a permanent market relationship.

Export Commission House ¾ The export commission house (export buying agent) is a representative of foreign buyers who resides in the exporter’s country. ¾ This type of agent is permanently the overseas customer’s hired purchasing agent in the exporter’s domestic market, operating on the basis of orders received from these buyers. ¾ Since the ECH operates in the interest of the buyer, it is the buyer who pays the commission. ¾ The exporting producer is not directly involved in determining the terms of purchase; these are worked out between the commission house and the overseas buyer. ¾ ECH scans the domestic market, and sends out specifications to manufacturers inviting bids. Other conditions being equal, the lowest bidder gets the order. ¾ From exporter point of view, export is easier in a way that prompt payment is guaranteed in the exporter’s home country; the exporter has no responsibility on the physical movement of goods. ¾ On the other hand, exporter has little direct control over the international marketing of its products.

Confirming House ¾ The basic function of a CH is to assist the overseas buyer by confirming orders already placed, so that the exporter may receive payment from the CH when the goods are shipped. ¾ The confirming house interposes its credit between the buyer in the importing country and the exporter in the exporting country. ¾ The confirming house may be involved in making arrangements for the shipper.

Indirect Export ¾ Medium and small-sized companies may be benefited by confirming house, as all contracts between buyer and exporter go through the confirming house.

Resident Buyer ¾ Resident buyers represent all types of overseas buyers and are domiciled in the exporter’s home market. ¾ RBs represent foreign concerns that want to have close and continuous contract with their overseas sources of supply, and either sent to the local market or are local people appointed as representatives. ¾ Because RBs are permanently employed representatives of foreign buyers, the exporter has a good chance to build up a steady and continuous business with foreign markets. ¾ One advantage of an importer utilizing a RB and of the exporter dealing with such a buyer is that any problem that might arise due to language, cultural, and business customs are minimized, if not eliminated.

Broker ¾ The chief function of broker is to bring a buyer and a seller together. Thus a broker is a specialist in performing the contractual function, and does not actually handle the products sold or bought. ¾ For this service the broker is paid a commission by the principal. ¾ The broker commonly specializes in particular products or classes of products, usually staple primary commodities. ¾ Being a commodity specialist, there is a tendency to concentrate on just one or two products. ¾ Because the broker deals primarily in basic commodities, for many potential export marketers this type of agent does not represent a practical alternative channel of distribution. ¾ The distinguishing characteristic of export brokers is that they may act as the agent for either the seller or the buyer.

Export Management Company ¾ EMC is an international sales specialist who functions as the exclusive export department for several allied but non-competing manufacturers.

Indirect Export ¾ Being the export department of several manufacturers, the EMC conducts business in the name of each manufacturer. ¾ Benefits to a manufacturer using EMC – ™ Using EMC is one of the quickest ways for a manufacturer to enter foreign markets. In addition to handling the selling activities, the EMC does research on foreign markets, chooses the best type of channel within an overseas market, and usually does its own advertising and promotion. Also EMC may serve as a shipping and forwarding agent, and may furnish its principals with legal advice. ™ Where a buy-and-sell arrangement is involved, EMC provides the financing assistances to the manufacturers. ™ The EMC offers experience. Being a daily contact with varying conditions in different foreign markets, the EMC knows which markets are receptive to a manufacturer’s products and how to sell them in those markets.

Manufacturer’s Export Agent ¾ The manufacturer’s export agent retains its own identity by operating in its own name. ¾ Also the MEA is paid straight commission and does not engage in buy-and-sell arrangements with the manufacturers represented. ¾ The MEA may be most effectively used when the firm wants to sell small orders to overseas buyers, enter a new overseas market, or sell a product that is relatively new to consumers in overseas market. ¾ Because this type of export agent retains its own identity, it usually desires to maintain the foreign sales representative on a permanent basis. Thus producers are seldom encouraged to establish their own export departments.

Piggyback Marketing ¾ Piggyback marketing occurs when one manufacturer uses its foreign distribution facilities to sell another company’s products alongside its own. ¾ Piggyback marketing is used for products from different companies that are noncompetitive but related, complementary (allied), on unrelated. ¾ Some companies view piggybacking as a way of broadening the product lines that they can offer to foreign markets.

Indirect Export ¾ Other companies engage in this type of operation in order to bolster decreasing export sales. ¾ Sometimes Government encouragement or regulation asks the larger companies to piggyback the smaller ones. ¾ There may be differences concerning which company’s name the product will be sold under. Some company has a policy of using either the actual manufacturer’s name or creating a private label – but never their own name. Other exporting companies have the policy of using the corporate name that is best known, whether its own name or that of its supplier. ¾ Piggyback marketing provides an easy, low-risk way for a company to begin export marketing operations. It is especially suited to manufacturers that are either too small to go directly into exports or which do not want to invest heavily in foreign marketing. ¾ For the smaller company this type of agreement means that the control over the marketing of its products is given up, something that many firms dislike doing at least in the long run.

Exporting Combinations ¾ A manufacturer can export cooperatively by becoming a member of some type of exporting combination, which can be defined as a more or less formal association of independent and competitive business firms, with membership being voluntary, organized for purposes of selling to foreign markets. ¾ There are two types of exporting combinations ™ Marketing cooperative associations of producers or merchandisers that engage in exporting members’ products ™ Export cartels ¾ The first type of exporting combinations is the normal domestic marketing cooperative as is commonly found in certain primary product industries. The export operations of such organizations are essentially the same as the export operations of manufacturers and intermediaries. ¾ A cartel is said to exist when two or more independent business firms in the same or affiliated fields of economic activity join together for the purpose of exerting control over a market. ¾ A cartel may engage in price fixing, restriction of production or shipments, division of marketing territories, centralization of sales, or pooling of profits.

Indirect Export ¾ Three types of international cartels can be distinguished ™ The traditional international cartel formed for the purpose of truly dominating a market of certain products. ™ International Commodity Agreements where both selling and buying countries are parties to the agreement. ™ Cartel type organizations engaged solely in exporting that are formed so that the individual members can compete more effectively in the overseas markets. ¾ Limitations on Cartel ™ The association may become ineffective because the members cannot agree on key matters. Thus cooperation may be missing. ™ If a manufacturer’s products are branded there is a measurable risk that the independent identity of both the firm and its products might get lost.