Chap 2

THE NATIONAL DIFFERENCES

IN POLITICAL ECONOMY
Ghemawat P., (2007). Managing Differences: The central challenge of global
strategy. Havard Business Review, 85(3), 58-68.
What are the differences
among countries?
CAGE DISTANCE FRAMEWORK

Administrative and
Cultural distance
political distance

National
differences

Geographic distance Economic distance

Ghemawat, P. (2001). Distance Still Matters. The Hard Reality of Global

Expansion. Harvard Business Review, 79(8), 137-147.
 LEARNING OBJECTIVES
Understand how the political economy
Chap 2 systems of countries differ

Recognize how the economic systems of

countries differ
THE
NATIONAL Understand how the legal systems of countries
differ
DIFFERENCES
IN POLITICAL Explain what determines the level of economic
development of a nation
ECONOMY
Explain the implications for management
practice of national differences in political
economy
THE POLITICAL ECONOMY?
Political
The political economy of a nation refers to how the system
political, economic, and legal systems of a country
are interdependent:
Legal Economic
systems system
§ they interact and influence each other

§ they affect the level of economic well-being in

the nation
1. POLITICAL
SYSTEMS
 Assessed according to 2 dimensions:
POLITICAL
SYSTEM
the degree to which they emphasize

“
collectivism as opposed to
individualism
01
refers to the system of
government in a nation
the degree to which they are 02
democratic or totalitarian.

.”
COLLECTIVISM
§ Stresses the primacy of collective goals over individual goals
§ The need of societies as a whole are generally viewed as being more important
than individual freedoms.

Socialism
Karl Mark (1818-1883)

Collectivism
Plato (427-347 BC) § advocate state ownership of the basic
means of production, distribution, and
exchange
§ manage to benefit society as a whole,
rather than individual capitalists
INDIVIDUALISM The central message
Individual economic and
political freedom are the
based on two key concepts: ground rules on which a society
should be based
(1) individual freedom and self-
expression are guaranteed

(2) people are allowed to pursue

their own self-interest in order International companies
to achieve the best overall good
Individualism and its free market
for society.
economics is important for
creating a favorable business
environment.
INDIVIDUALISM
20th century

17th – 18th century

British
16th century philosophers:
British Adam Smith,
philosophers: David Hume,
Adam Smith, John Stuart Mill
The Protestant
trading nations David Hume,
of England and John Stuart Mill
Aristotle
(384-322 BC) the Netherlands
DEMOCRACY § usually associated with individualism
§ pure democracy: based on the belief that
a political system in which
citizens should be directly involved in
government is by the people,
decision making
exercised either directly or through
§ representative democracy: citizens
elected representatives
periodically elect individuals to represent
them.

TOTALITARIANISM
a form of government in which one Major forms:
person or political party exercises § Communist totalitarianism
absolute control over all spheres of § Theocratic totalitarianism
human life and prohibits opposing § Tribal totalitarianism
political parties § Right-wing totalitarianism
 TOTALITARIANISM

permits some individual communist party

economic freedom, but monopolizes power.
restricts individual political Right-wing Communist
totalitarianism totalitarianism E.g. North Korea, Cuba.
freedom (E.g. Singapore,
Philippine, South Korea,
Indonesia)

political power is
a political party that monopolized by a party,
represents the interests group, or individual that
of a particular tribe Tribal Theocratic
totalitarianism totalitarianism governs according to
monopolizes power religious principles
e.g. Zimbabwe and E.g. Iran, Saudi Arab
Tanzania
CASE: GOOGLE IN CHINA
2. LEGAL
SYSTEMS
LEGAL SYSTEMS
refers to the rules that regulate behavior along with the processes by
which the laws are enforced and through which redress for grievances is
obtained

In business, laws:
1. regulate business practices
2. define the manner in which business transactions are to be executed
3. set down the rights and obligations of those involved in business
transactions
LEGAL SYSTEMS
There are three types of legal systems

Common law Civil law Theocratic law

§ based on tradition, § based on detailed set § based on religious
precedent, and of laws organized into teachings
custom codes § Islamic law is the most
§ found in most of Great § found in over 80 widely practiced
Britain's former countries, including § Many Muslim countries
colonies, including Germany, France, have legal systems that
the United States Japan, and Russia are blend of Islamic law
and a common or civil
law systems
LEGAL SYSTEMS

Contract law

Property rights and corruption

How laws systems
could protect
businesses? The protection of intellectual property

Product safety and product liability

Contracts in Different Legal Systems
§ A contract is a 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
§ What is difference of contract law under common law systems and civil law
systems?
Common law system Civil law system

contracts tend to be very detailed contracts tend to be much shorter

with all contingencies spelled out and less specific because many
issues are already covered in the
civil code
Many countries have ratified the United Nations Convention on Contracts for the International
Sale of Goods (CIGS) which 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.
Property
rights
Can be violated through:

“ § Private action – theft, piracy, blackmail

the legal rights over the § Public action:

use to which a resource - legally - ex. excessive taxation (e.g.
is put and over the use Chavez did in Venezuela)
made of any income - illegally (corruption)- ex. bribes or
that may be derived blackmailing
from that resource

.”
 How does high levels of corruption affect to foreign direct
investment, level of international trade, and economic growth
rate in a country?
How does high levels of corruption affect to foreign direct investment,
level of international trade, and economic growth rate in a country?

high levels of corruption reduce foreign direct investment, the level of

international trade, and the economic growth rate in a country
Intellectual
Property Patents Copyrights Trademarks

“
property that is the exclusive rights exclusive legal design and names
for a defined rights of authors, by which
product of intellectual period to the composers, merchants or
activity manufacture, use, playwrights, manufacturers
or sale of that artists, and designate and
invention publishers to differentiate their

.”
publish and products
disperse their work
as they see fit
Harry Potter goes to China
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
Product Product
safety laws liability

“
When product safety laws are
stricter in a firm’s home “
country than in a foreign involves holding a firm
set certain standards to
country, or when liability laws and its officers
which a product must
are more lax, the firm has to responsible when a
adhere
decide whether to adhere to product causes injury,

.” home country or host country death, or damage

.”
standards
2. ECONOMIC
SYSTEMS
THE ECONOMIC ENVIRONMENT

Considering an environmental analysis at the initial stages of a firm’s planning activity

involves:

§ scanning the economic environment

§ focusing on the main factors potentially influencing the demand for a firm’s output

§ focusing on the primary economic factors influencing the costs and risks of doing
business in different countries.
TYPES OF WORLD ECONOMIES
§ The world economy is not homogeneous.
§ It was grouped into three major sub-divisions in the last quarter of the 20thcentury.
o First World -non-socialist industrial economies
o Second World -socialist economies
o Third World -developing countries.
o More recently, the World Bank classifies economies using gross national income
(GNI) per capita, in US. dollars. Economies are divided into four income groupings:
low, lower-middle, upper-middle, and high.
o GNP per capita -World Bank
o https://datatopics.worldbank.org/world-development-indicators/stories/the-classification-of-countries-by-
income.html
§ These classifications provides a good framework for companies seeking international
trade.
TYPES OF WORLD ECONOMIES - RECENT DEVELOPMENTS

§ In recent years, most nations within the

Second World framework have liberalised
their economies and have incorporated What are the major emerging economies?
more market-oriented operations. Have you heard of BRICS grouping? Why do
you think BRICS is of significance to
§ Many Third World countries are
international trade?
experiencing increased economic growth,
and several have ceased being identified as
developing countries.

What are the four Asian Tigers? What kind of

economic growth has taken place in these
countries? Can you think of a globally well
know firms that evolved from these
countries?
Key economic characteristics an international firm should look at:

§ General economic framework/system of the country, the size of the economy, (GNI
and GDP), population and income -income levels (per capita GNI).

§ Quantity, quality and availability of factors of production;

§ Size of the market; income distribution

§ Country’s infrastructure, transport and communications;

§ Country’s economic policies, economic stability, growth, inflation; its international

financial position -balance of payments, trade patterns, international debt,
exchange rate stability, banking and financial sector.
 § Successful firms continuously monitor the
TAKE HOME LESSON interaction of their policies with the economic
environment.
§ Successful firms looks at important economic
indicators and past, present and projected
economic trends
 The three major world economies in which the multinational
enterprise operated contain three major economic systems

Market Command Mixed

2
1

3
GLOBAL economy economy economy
ECONOMIC
SYSTEMS

What is more useful from a IB perspective is:

§ The manner in which resource allocation and
control is carried out
§ The system of property ownership
Market § Demand exceeds supply=>prices rise, produce more
§ Supply exceeds demand=>prices fall, produce less
economy
An economic § A supply restriction occurs when a single firm
system in monopolized a market => prices rises, properly bad for
which the
consumers and welfare of society
interaction of
supply and § A monopolist has no incentive to search for ways to lower
demand production cost => be come increasingly inefficient
determines the
quantity in § encourages free and fair competition
which goods
§ Outlaw monopolies and restrictive business practices
and services
are produced designed to monopolize a market
MARKET ECONOMIES
Advantages Disadvantages
§ Consumers pay the highest price they want § Due to the fiercely competitive nature of a
to, and businesses only produce profitable free market, businesses will not care for the
goods and services. There is a lot of incentive disadvantaged like the elderly or disabled.
for entrepreneurship. This leads to higher income inequality.
§ This leads to the most efficient use of the § Since the market is driven solely by self-
factors of production since businesses are interest, economic needs have a priority over
very competitive. social and human needs like providing health-
care for the poor. Consumers can also be
§ Businesses invest heavily in research and
exploited by monopolies.
development. There is an incentive for
constant innovation as companies compete
to provide better products for consumers.
Command § All businesses are state-owned
Governments allocate resources for “the good
economy
§
Characteristics of society”
§ Little incentive to control costs and be efficient
=> tend to stagnate
An economic
system in which
government
plans the goods
and services § Do not create economic values
that a country Recession of § No incentive for economic development
produces, the command
quantity that is economy § Do not achieve expected progression
produced, and § Do not satisfy consumer needs
the prices
COMMAND ECONOMIES
Advantages Disadvantages
§ If executed correctly, the government can § It is hard for the central planners to
mobilize resources on a massive scale. provide for everyone’s needs. This forces
This mobility can provide jobs for almost the government to ration because it
all of the citizens. cannot calculate demand since it sets
prices.
§ The government can focus on the good of
the society rather an individual. This focus § There is alack of innovation since there is
could lead to a more efficient use of no need to take any risk. Workers are also
resources. forced to pursue

Can you think of an economy that has a mix of market and command economic strategies?
Mixed
economy § Certain sectors of the economy are left to private
ownership and free mechanisms

§ other sectors have significant state ownership and

Can be found
between market government planning
economies and
command § governments tend to own firms that are considered
economies. important to national security

§ Common through out much of the world

MIXED ECONOMIES
Advantages Disadvantages
§ Less government intervention than a command § Criticisms from both sides – too
economy. Private businesses can run more efficiently much government intervention and
and cut costs down than a government entity might. or thre isn’t enough.
§ The government can intervene to correct market § State run industries are often
failure. (Break up large companies if they abuse market subsidized by the government and
power – monopolies, taxation of harmful products like run into large debts because they are
cigarettes) uncompetitive.
§ Governments can create safety net programs like
healthcare or social security.
§ Governments can use taxation policies to redistribute
income and reduce inequality.

Can you think of an economy that has a mix of market and command economic strategies?
What is the relationship between political systems
and economic systems in a country?
GOVERNMENT’S INVOLVEMENT IN ECONOMIC ACTIVITY

§ In most countries, governments generally undertake to develop and maintain armed forces.

§ Most governments are also committed to promoting and maintaining social equity and hence
invest in public housing, welfare programs, education and health.

§ Governments usually set broad objectives and goals for the economy and do not get directly
involved in the setting of production levels or targets.

§ However, to promote the attainment of the nation’s economic goals, a system of financial
incentives and preferences is often invoked to influence the allocation of resources and to
attract foreign investment.
§ Examples -free trade zones in Malaysia, Trade Development Zone in Darwin.
GOVERNMENT’S INVOLVEMENT IN ECONOMIC ACTIVITY

§ Generally, planned economies are associated with

totalitarian political systems and market-based What other countries are
economies with democracies. However, this is not always categorized as democratic
so. socialist?

§ Totalitarian states can possess mixed economies which

are essentially capitalistic in nature. This especially so
with the planned economies becoming ‘pseudo-command’
economies. i.e. Russia, China and Vietnam.
§ Countries with democratically elected governments may
also exercise a high degree of control of the economy.
§ The mix of democracy with public ownership and control of
the economy is termed democratic socialism. A good
example of such democratic socialism is France.
SCANNING THE ECONOMIC ENVIRONMENT -IMPLICATIONS FOR IB

§ The on-going scanning of the economic environment is a critical aspect of an overall

international business strategy (includes specific plans for functional areas such as
marketing, production, finance and human resource management).
§ When scanning the economic environment, the MNE needs to identify those characteristics
of an economy that are relevant to its business objectives. i.e.Mass products and middle-
income earners, consumption pattern etc.
§ A firm that is interested in the extraction of natural resources will be more concerned about
the availability of resources and the costs of extracting and transporting these. It will be less
concerned with demographic trends, changes in the level of consumer demand or the income
of the population.
§ Sector analysis
SCANNING THE ECONOMIC ENVIRONMENT - IMPLICATIONS FOR IB

§ It is important to identify the general factors that affect and

influence the demand (or revenue) and cost relationships facing
the firms.
§ Demand related factors that a MNE needs to consider:
o Average income -current and projected
o Existence of substitutes and complementary goods
o Barriers and incentives to international business Take home lesson
o Demographic considerations
MNEs should consider
§ Cost-related factors a MNE needs to consider: demand related factors
o average wage rates and cost related factors
when entering foreign
o labour productivity markets.
o taxation and government regulation
4. STATES IN
TRANSITION
How Is The Political Economy Changing?
Since the late 1980s, two trends have emerged:
1. Democratic revolution (late 1980s and early 1990s)
§ 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

2. A move away from centrally planned and mixed economies

§ more countries have shifted toward the market-based model
The Nature of Economic Transformation
The shift toward a market-based system involves:

Deregulation Privatization A strong legal

system

removing legal transfers the To safeguard

restrictions to the free ownership of state property rights
play of markets, the property into the and provide
establishment of hands of private contract
private enterprises, investors enforcement
and the manner in
which private
enterprises operate
6. IMPLICATION
TO MANAGERS
What are implications of national differences to
international business activities?
Implication of changing political economy for managers

Benefits Cost
Corruption
Size of economy
Lack of infrastructure
Economic growth
Legal cost
Overall
attractiveness

Risks
Political risks: Social unrest/anti-business trends
Economic risks: economic mismanagement
Legal risks: failure to safeguard property rights
Implication of changing political economy for managers?

Costs of doing business in a foreign market:

§ Sometimes, companies have to make payments to the host government just
to be allowed to operate in a country.
§ There may also be costs associated with the economic systems of the
country.
§ 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
Implication of changing political economy for managers?

Managers must consider:

1. 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
2. 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
3. Legal risk - the likelihood that a trading partner will opportunistically break
a contract or expropriate property rights
How Can Managers Determine A Market’s Overall
Attractiveness?

§ Depends on balancing the benefits, costs, and risks associated with

doing business in that country.
§ Other things being equal, the benefit-cost-risk trade-off is likely to
be most favorable in:
• politically stable nations
• free market systems
• Stable macro-economic indicator
Summary of Chapter 2
1. What is political economy?
2. Political system
3. Three types of economics systems?
4. Three main types of legal systems?
5. How to measure level of economic development?
6. Relationship between political economy and level of economic
development?
7. Changes in political economy since 1980s?
8. Implications to managers?