IMTS INTERNATIONAL BUSINESS MANAGEMENT (International trade management) by IMTS INSTITUTE

I ns t i t ut eofManage me nt & Te c hni c alSt udi e s

I NTERNATI ONALTRADE

MANAGEMENT I NTERNATI ONALBUSI NESSMANAGEMENT www. i mt s i ns t i t ut e . c o m

IMTS (ISO 9001-2008 Internationally Certified) INTERNATIONAL TRADE MANAGEMENT

INTERNATIONAL TRADE MANAGEMENT

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INTERNATIONAL TRADE MANAGEMENT CONTENTS:

Chapter 01 01-12 International business – An overview – Meaning and concepts – Scope and challenges – Clarification of international business – Factors influencing international business – International business environment – Regulation of international business Chapter 02 13-22 Theories of international trade – Economic theories – Modern theories – New Theories Chapter 03 23-31 Globalisation of business – World trade organisation – Origin and development – UNCTAD World trade organisation – Structure – Functions and areas of operations Chapter 04 32-40 Dispute settlement under WTO – Anti dumping duties – Countervailing duties – Environmental aspects in international trade – Trade related aspects of intellectual property rights Chapter 05 41-51 Forms of counter trade – Reasons for growth of counter trade – Foreign exchange market – Swap operations – determination of foreign exchange rates – Exchange control – Objectives of exchange control – Methods of exchange control Chapter 06 52-60 Controllable and uncontrollable factors – Theories of intellectual trade – and economic development – Infrastructure for e commerce – Impact of networking technologies on commerce – TCP / IP internet protocol – Web client and services – Internets intranets and extranets – Web based tools for e- commerce – Business models – selling strategies on the web Chapter 07 61-76 Multinational corporations (MNCs) – Concepts – Strategy and organisation – Marketing Management – Technology and MNCs UN code of conduct of MNCs Chapter 08 77-86 Mergers and acquisitions – Strategic alliance – Third country location – Market segment selection Chapter 09 87-97 Economic integration and training blocks – Structure of various economic agreements such as ASEAN –SAARC – NAFTA- The procedure and impacts on member states

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Chapter 10 98-113 Foreign collaborations and Joint ventures – Industrial policy and foreign direct investment – Kinds of collaborations and joint ventures – Negotiating foreign collaborations / Joint ventures – Drafting of agreement – Restrictive clauses in the foreign collaborations in the joint ventures – UN code of conduct of technology - Indian joint ventures abroad. Chapter 11 114-129 Foreign exchange – Balance of payments – LOC – Export payment – Pre shipment and post shipment inspection – Excise and customs clearance Chapter 12 130-154 Export regulations – Procedures – Packaging – Insurance and documentation - import regulations – Procedures – Documentation – Indian’s trade policy – New export and Import policy

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CHAPTER - 01 INTERNATIONAL BUSINESS ENVIRONMENT STRUCTURE

1.0. OBJECTIVES 1.1. AN OVERVIEW 1.2. MEANING AND CONCEPTS 1.3. SCOPE AND CHALLENGES 1.4. CLASSIFICATION OF INTERNATIONAL BUSINESS 1.5. FACTORS INFLUENCING INTERNATIONAL BUSINESS 1.6. INTERNATIONAL BUSINESS ENVIRONMENT 1.7. QUESTIONS 1.8. SUGGESTED READINGS

1.0. OBJECTIVES After studying this unit, you should be able to understand: 

Meaning and concepts



Scope and challenges



Classification of international business



Factors influencing international business



International business environment



Regulation of international business

1.1. AN OVERVIEW International business may simply be defined as a business activity or transaction that transcends national border. A firm may source inputs internationally or may market its’ products internationally or may do its’ services internationally because of growing competition and liberalisation. International transactions also include sales investment and transportation. st

According to Peter Ducker in his Management challenges for 21 century all institutions have to make global competitiveness a strategic goal, No institution whether a business, a university, or a hospital, can hope to survive, let alone to succeed, unless it measures up the standards set by the leaders in the field, any place in the world”. Thus an organisation should become global. It means that it shall be able to survive global competition. In the current scenario almost all the enterprises whether small or large are inspired and forced to carry on business across the world. It involves either procuring raw materials from foreign suppliers or assembling products from components made in several countries

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or doing services in other countries. Internationalisation of business has benefited many Indian companies such as Ranbaxy Asian paints Wipro etc who do the business internationally. An organisation is facing cut throat competition from local national and international firms. The cross border business is more complex in nature. But in fact International trade is growing faster than world output. International investments are growing much faster than international trade. FDI outflows have also been rising sharply from developing countries. Organisations are growing global to expand sales, to acquire resources and to minimize risk. International business is getting boosted with the rapid increase in technology, liberalisation of cross border movement of trade, development of institutional aids and increased global competition. 1.2. MEANING AND CONCEPTS International business is as old as business itself. But in recent years the volumes of international trade have increased dramatically. Today every nation is buying and selling goods and services in the international market. The number of developments around the globe is also supporting the international business in many ways. As we discussed earlier international business may be understood as those business transactions that involve the crossing of national boundaries. This includes Product presence in the world market Production bases across the world Sourcing human resources globally Doing services like banking advertising etc globally Cross border transactions of intellectual properties. The nature, reasons/purpose of internationalisation differs based on the size and the nature of a firm. The common reasons of internationalisation are profit advantage, growth opportunities, domestic market constraints, competition, consumer pressures, strategic vision and other reasons Profit Advantage: Because of global sourcing and operations a firm may reduce the cost of production as well service at a greater degree. In other words because of globalisation a firm can achieve its economies of scale and thus can survive and compete globally. It is known that several American companies intensively have their assembly operation in the host countries Growth Opportunities and Domestic Market Constraints: When the domestic market is very small or saturated internationalisation is the only way to achieve significant growth. For example only 2% of the revenue is from domestic market to Nestle. Domestic recession and saturation lead the companies to go global. Foreign markets are even more attractive than domestic markets in terms of returns. Competition: Competition is a driving force behind internationalisation. The presence of increased foreign competition is forcing a domestic company to expand its business into international market. Because of

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internationalisation of business all the companies around the world are strengthening their core competitiveness and advantages. Once few companies are exposed to global presence other companies are also induced to do so. Consumer Pressures: The awareness of consumers has been tremendously increased because of communications and innovations in transportation. Thus consumers want a novel differentiated product. The companies that are able to satisfy the consumer expectations are naturally pulled into the market Strategic Vision: Most of the companies set their vision as expanding their business internationally. As the business policy and strategic management stimulate internationalisation companies are growing globally by nature. Many companies around the world have realised now that a major part of their growth will be in the foreign market. Other Reasons: The MNCs from US Europe and Japan have huge assets and these assets are found in the foreign markets. To reduce high transportation cost companies often set their plants in overseas. Firms are also going global to avoid protectionist barriers imposed by local governments. Governments throughout the world are also offering a variety of incentives to attract MNCs.

1.3. SCOPE AND CHALLENGES International marketing is a part of international business. International marketing is according to AMA (American Marketing Association) “the multinational process of planning end executing the conception, pricing, promotion and distribution of ideas, goods and services to create exchanges that satisfy individual and organisational objectives” It may be understood that the word multinational implies that the marketing activities that are being carried out across the nations. “Multinational process” implies that international marketing is not a mere repletion of strategies that are being applied domestically. International trade not only deals with international marketing but also the flow of capital across the national borders. Thus internationalisation is being done by the companies based on the four major characteristics. They are 1. Internationalisation of market presence 2. Internationalisation of supply chain 3. Globalisation capital base 4. Globalisation of corporate mindset. A true global company will score high on the all four dimensions mentioned above. Globalisation of market presence refers to the extent to which a company can expand its’ market across the world. For example giant MNC retailers like Wal-Mart are trying to have their presence in India and other countries across the world.

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Companies are locating themselves around the world to acquire recourses to achieve competitive advantage and cost advantage. For example Toyota produced about 1/3

of itsâ&#x20AC;&#x2122; cars in its affiliates

spread over1 25 countries in America Europe and Asia. Globalisation of capital base refers to the extent to which a company accesses capital sources on a world wide basis. For example China.com Hong Kong based internet service provider has its operations centred locally but got itself listed in the US base market NASDAQ in the year 1999. Globalisation of corporation mind set refers to the extent to which a company and its top level executives have the ability to understand and integrate diversity across cultures and markets. For example GE (General Electric) company has highly globalised human capital. It has collaborative culture and the leadership is diverse in terms of nationalities. International market entry strategies are 1. Exporting 2. Contractual agreements 3. Joint Ventures 4. Manufacturing (ownership) The above terms will be explained in the relevant chapters.

1.3.1. International business Vs domestic business: Though the concept of business is similar in both international as well domestic businesses one can find differences between these functions in the areas of currency, interest rate, inflation, taxation systems, government regulations, language, cultural and economic barriers. International and domestic markets are also different. International markets and fragments and diversified where domestic markets are relatively homogenous. In international business management practises are also to be altered and fine tuned according to the cultural and environmental variables. A firm engaged in global business should adopt the geometric orientation in which mangers should be knowledgeable both locally and globally In international business the managerial decisions are highly influenced by transportation cost and cost of insurance.

1.3.2. Challenges of international trade: The principle of business is same in both the cases i.e. international and domestic businesses what makes the differences is the business environment. The international business should overcome certain impediments Difficulties in distances In general international trade involves very long distances which operate across the national boundaries. It leads to many problems like higher cost of transportation and damage of products. Firms

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involving in packed food products have to ensure hygiene and proper food preservation techniques when the product crosses the long distances between the boundaries. Risk and uncertainties Long distances, dangers of sea transport, changing exchange rates etc., create uncertain environment and hence the risk associated with the international business is higher. Political and legal differences If a company does business in many countries that itself will create complexities. Geometric and region centric approach is very essential to the MNCs. The political and legal environment is not the same in the foreign markets as it is in the domestic market. The complexity naturally increases as the number of companies in which a company does business increases. Cultural differences When a company moves from external to internal handling of operations the need for cultural knowledge is also increasing. For an international manager awareness of business culture in the particular region and race is very essential. One should understand that cultural diversities also exist in the domestic market. However understanding cultural differences among the countries is very important to an international firm. Trade and investment restrictions Every country has its own customs, rules and regulations relating to the demand and supply of foreign exchange. Such control is not there in the domestic trade. So an international manager should aware of host Countries rules and regulation and fulfil the formalities of trade as required by the host country.

Differences in the currency The value of currency varies from country to country. It causes problems of currency convertibility and exchange rate fluctuations. For example because of fluctuation in exchange rates Tiruppur knitting companiesâ&#x20AC;&#x2122; exports and profitability were affected to a greater extent. The monetary systems and regulations also vary from nation to nation. Differences in the marketing infrastructure The nature and availability of marketing infrastructure is varying from nation to nation. For example If Wal-Mart wants to start a retail outlet in the cities in India it has to struggle a lot. The huge in size format of Wal-Mart may not be suitable to India since lack of infrastructure in the cities.

Economic differences The economic environment of the countries is dynamic. An international, manager should understand and aware of economic environment of the foreign markets and demographic details so that he/she can strategise the firms trade activities.

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1.4. CLASSIFICATION OF INTERNATIONAL BUSINESS The different modes of international businesses can be classified as 1. Exports and imports 2. Tourism and transportation 3. Performance of services 4. Use of assets 5. Investments Exports and imports Smaller companies are in general involving themselves more in exporting and importing of goods than any other form of the international trades. Merchandise exports are tangible products sent out of a country. Merchandise imports are goods brought into a country. Services exports and imports are not tangible. International airlines, cruise lines, reservation agencies and hotels are the best examples of service exports and imports. In fact the trade in services is higher than the trade in merchandise exports and imports. Indiaâ&#x20AC;&#x2122;s contribution to world trade is though trivial steadily increasing. The exports from India is more than tripled from 1990-91 to 2000-01

Tourism and Transportation International tourism and transportation are important revenues for airlines, shipping companies, travel agencies and hotels. Countries like Greece and Norway depend on international tourism and transportation for their employment and foreign exchange earnings. All the countries around the world are focussing on tourism to increase their exchange earnings. Performance of operations: It is in the form of fees earned for the services and operations rendered across the national borders. Insurance, banking, rental and management services are the best examples of theses kind of international businesses. These kinds of businesses can Suggested be classified into two major categories as listed below 1. Turnkey operations 2. Management contracts Turnkey operations are the operations that are carried out for foreign customers. For example a company may contract with a foreign customer to design and build certain operation and on completion of the operation it is handed over to the customer who can use the facilities straight a way. At Shuwaik power station kwait 5Ă&#x2014;50 MW gas turbo generators were designed and erected by Tata consulting engineers, India. Management contracts are arrangements in which domestic firm contracts with a foreign firm or government to undertake an entire project for a specific period. For example Disney receives fees from Japan and France for managing their theme parks.

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Use of assets Licensing and franchising are the ways which facilitate companies to allow others to use their assets. From licensing agreement royalties are received. Patents, trademarks, copy rights, technical know how, technology business skills and the like are generally licensed. Since the licence is a local company which can leverage against government actions licensing reduces risk to a larger extent. Franchising is a business mode in which franchiser allows franchisee to use a trade mark that is essential asset for the franchise’s business. Franchising is in the form of franchisee selling franchiser’s products production and marketing techniques. Franchising agreement contains the payment of upfront fee and then a percentage on sales. The franchiser also assists continuously the franchisee by providing components, management services and technology. For example Mc Donald’s and Kentucky fried chicken have used franchisee modes to expand their business across the world. Investments Foreign investment is “acquiring ownership of foreign property in exchange for financial returns such as interest and dividends.” Foreign investments are of two forms 1. Foreign direct investments 2. Portfolio investment Foreign Direct Investments (FDI) FDI is one that gives the investor a controlling interest in a foreign company. Joint ventures and wholly owned subsidiary are the two forms of foreign direct investments When a two or more companies shared ownership of an FDI the operation is a joint venture. The share of ownership between the two parties is generally 50–50. But this proportion may vary.

For

example joint venture between Faugi – Xerox is one of the most successful and enduring. Joint ventures are set up not only by private sectors but also by public sectors and government companies. A company can set up totally a new plant or acquire an established firm in a foreign market. These types of investment are called wholly owned subsidiaries. If a company starts a plant in foreign country from the gross root level that is called a green field investment. If a company acquire an established firm from a foreign market it is called acquisition. Acquiring a firm is quicker than establishing a firm in a foreign market. In general acquisition is cost effective. Portfolio Investment: A portfolio investment is a non controlling interest in a company in a company. It is return motivated. Purchase of debt securities, bonds, interest bearing bank accounts and the like are the examples of portfolio investments. Companies are using such investments for short term gains.

1.5. FACTORS INFLUENCING INTERNATIONAL BUSINESS An international manager should have in addition to knowledge operations, a working knowledge of social sciences, anthropology, economics, geography, demography and national and international laws because these are all the factors that influence international business to a larger extent.

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Figure 1.1 Factors Influencing international businesses 

Political policies and legal practises



Cultural practises



Economic factors

Strategies



Geographical and demographic factors

Means



MNCs Operations Objectives

Competitive environment

Political Policies and Legal Practices: It is oblivion that political leaders control whether and how international business takes place. For example for many years South African team was disallowed from competing international cricket matches in protest over South Africa’s racial policies. For instance recent terrorists’ attacks in Mumbai Taj Hotel may lead international tourists to divert their trips elsewhere. Domestic and international laws directly what an international manager can do. Domestic law includes repletion’s in both the countries (home and host countries) on taxation, employment and the foreign exchange.

International low exists in the form of legal agreements between two or more

countries. These agreements govern how the earnings are taxed by both the countries. International low may also determine how a company can operate in contain country and it also determines whether the company can be operated in the location. In a nutshell companies should understand the domestic law of each country is which they want to operate. Behavioural factors: The study of anthropology, psychology and sociology will help the international mangers to understand and to re act over societal values, attitudes and beliefs concerning themselves and others. For example there is vast difference among countries in the popularity of different sports. In India cricket is liked very much than any other game. Most of Africans prefer Levis costly products whereas Germanians prefer high priced products. Such attitudes beliefs and values influence international barriers at a large. Economic factors: Balance of payment, price level, flow of money, production level etc are regulated by the country. Cash reserve ratio, bank interest rates statutory liquidity ratio etc are also regulated by the company. Such economic factors affect the international business to a layer extent. Economic conditions and the trend of the economy (Boom gloom) will also influence international business. For example MNC’s are

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showing more interest to do business in the developing countries. An international manager should aware of countries economic conditions since it influences more the international trade. Geographical and Demographic Factors: The resources of the world are distributed unevenly. This result in different products and services being produced are offered to different other parts of the worlds. The earth quakes, freezing weather and the like make it riskier to invest in some areas than the others. Distributions and communication are difficult in the regions / countries where thee are high mountains, vast deserts, and inhospitable jungles. The population distribution around the world excert a strong influence on the international business. The impact of human activity on the environment also exerts a strong influence on the international business. For example the demographic advantage of India (More middle aged people) invites many MNCâ&#x20AC;&#x2122;s to have their operational and service points in India for example concern about the destruction of forests may lead to regulations against certain companies, forcing them to charge the place or method of their business activities. Cultural factors: Culture may be referred as the learned norms on attitude, values and beliefs of a group of people culture influences more on international trade because of the following reasons. 1. The practices that are successful in one country, may not that much successful in the other countries because of the existing cultural difference among the countries. 2. The employees of a company encounter distress because of difficulty or inability to accept to foreign culture / behaviour. Since international bevies include, people from different culture, the cultural influences an international business is inseparable.

1.6. INTERNATIONAL BUSINESS ENVIRONMENT International business environment may be referred as the factors / activities those surround the international business. International business environment may broadly be classified as 1. Internal Environment 2. External Environment The constitutes of internal Environment are organization structure, production, finance, Marketing, human resource, R&O etc., External Environment of international business may suggest be classified into two categories as follows. 1. External Micro Environment 2. External Macro Environment All the stakeholders of a company like share holders, creditors, Bankers, competitors etc are the elements of external micro Environment.

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External Macro Environment is categorised as social and cultural factors, technological factors, political factors, economic factors and natural factors. Social and Cultural Environment: Socio cultural factors include attitude of the people, family, marriage, religion, education, ethical values, human relations and social responsibilities and the like. The cultural and social environment of each country is unique and also dynamic. For example prohibition of alcohol is at different degrees in different countries. Employment values are also different for example permanent employment has been the rule of most of the Japanese companies since they value human capital very much. Cross culture and cultural integration is also in place. In India pizza are the flavour of today and in Europe Masala dosa and Hyderabad biryani have became more popular An international Manager should understand the foreign culture as they have carry on business under existing cultures.

Technology environment: Technological advancement definitely helps and boosts international burliness. In other words, international business got significance because of the amazing advancement in technology. Information technology have dissolved rational boundaries and also improved communication in the very fastest way. The world has now striated because of transportation technology. Because of the improvements in transportation communication world has become a global village. Technology and factors are interdependent. The life style of a man is tremendously changed because of technology. The life style has a direct impact with international business. Beyond telephone, fax, email, video conference, email chatting are in place.

Man depends

computer for many of his activities like preparing for a class, or reading a news paper (e-paper), production and selling) e-commerce) ticket booting bantering and all other commercial activities. Global positioning system is in place. One can easily understand technology and international business are interdependent. Technology transfer that is introducing existing technology to other countries is in practice. Companies introduce familiar products is the home mantes to the foreign markets. Technology that is suitable to one country may not be suitable to the other countries because of economic condition of annual imports and exports of the country. Similarly technology that is suitable to one particular company may not be suitable the other because of their financial position. Economic environment: Macro economic factors like growth, inflation, balance of payments affect burliness decisions of international burliness. An international burliness manager should know the present and future economic growth rate of a company, in order to select the right market for the expansion and growth of a company so international

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manager should continuously update the growth rates of different countries on a continuous basis to enhance their markets and to avoid possible failures. Inflation is another important factor that should be carefully watched by the international managers. Inflation affects the interest rates of bank and exchange rates of the domestic country in terms of foreign currencies. Exporting firms are highly affected by high inflation rate of a country whereas the same environment is favourable to the importing firms. Cash flows are better being managed with a help of knowledge in inflation rates. Balance of payment is the other important term which affects the international business. Continuous negative BOP may lead to currency instability. Excessive imports over exports also lead to external debt from countries. So international managers should keenly watch BOP of the country where they operate. Political environment: Political ideologies of a people in a country vary which influence people to form different parties. So the interest of the political parties is also different. Political and economic uncertainties of a country are the causes for many problems in international business. Stable political systems are welcome by MNCs. Though political risk may not be completely eliminated, it can be minimised. Political relationship can stimulate international business. For example doing business with Israel is not preferred by Arab countries. The close and friendly relationship among the countries is a catalyst to the international business.

1.7. QUESTIONS Section - A Short questions 1. What are Turnkey operations? 2. Discuss the term FDI. 3. State the different kinds of International Business 4. How do geometric and demographic factors affect International business? 5. Distinguish international business and domestic business Section â&#x20AC;&#x201C; B Small answer type 1. How do political factors affect international business? Explain 2. What are the advantages of doing international business 3. What are the challenges put forth in international business 4. Describe the different modes of international business

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INTERNATIONAL TRADE MANAGEMENT Section –C Essay type questions 1. Describe the various factors that are influencing international business 2. Discuss International business in the lime light of various environmental factors

1.8. SUGGESTED READINGS 1. Francis Cherunilam – International trade and Export – Himalaya publishing House 1999. 2. Sak Onk visit and John Shaw – International Marketing – Prentice Hall India. 3. John D. Daniels and Lee H. Radebaugh – International business – Pearson education Asia

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CHAPTER - 02 INTERNATIONAL TRADE THEORIES STRUCTURE 2.0. OBJECTIVES 2.1. THEORIES OF INTERNATIONAL TRADE 2.2. ECONOMIC THEORIES 2.3. MODERN THEORIES 2.4. NEW THEORIES 2.5. QUESTIONS 2.6. SUGGESTED READINGS

2.0. OBJECTIVES After studying this unit, you should be able to understand 

Theories of international trade



Economic theories



Modern theories



New theories

2.1. THERIES OF INTERNATIONAL TRADE International trade becomes possible for mutual benefit to the two countries due to the differences in opportunity costs. International trade between two countries can benefit both countries if each country exports the goods in which it has a comparative advantage. However, initially countries used to earn gold through international trade. A number of theories have been developed by the international economists to explain how does international trade takes place. These theories include: 

Mercantilism



Theory of absolute cost Advantage



Comparative Cost Advantage Theory



Comparative Cost Advantage with Money



Relative Factor Endowments / Hukscher-Owen Theory



Country Similarity Theory



Product Life Cycle Theory

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Global Strategic Rivalry Theory



Porter’s National competitive Advantage.

The first theory of International Trade is mercantilism. Now, we shall discuss the mercantilism theory of international trade.

2.2. ECONOMIC THEORIES 2.2.1 Mercantilism: This theory specifies that countries should export more than they import and receive the value of trade surplus in the form of gold from those countries which experience trade deficits. Governments imposed restrictions on imports and encouraged exports in order to prevent trade deficit and experience trade surplus. Colonial powers like the British used to trade with their colonies like India, Sir Lanka etc., by importing the raw materials from and exporting the finished goods to colonies. The colonies had to export less valued goods and import more valued goods.

The mercantilism theory suggests for

maintaining favorable balance of traduce in the form of import of gold for export of goods and services. But the decay of gold standard reduced the validity of this theory. Neo mercantilism proposes that countries attempt to produce more than the demand in the domestic country in order to achieve a social objective like full employment in the domestic country or a political objective like assisting a friendly country. This theory was attacked on the ground that the wealth of a nation is based on its available goods and services rather than on gold. 2.2.2. Theory of absolute cost advantage: Adam smith proposed Absolute cost advantage theory of international Trade (1776) based on the principle of division of labour. According to Adam Smith, every country should specialize in producing those products which it can produce at less cost than that of other countries and exchange these products with other products produced cheaply by other countries. Countries have absolute cost advantage due to the following reasons: 

Suitability of the skill of the labour of the country in producing certain products.



Specialization of labour in producing certain products leads to higher productivity and less labour cost per unit of output.



Economies of scale would reduce the labour cost per unit of output.

Natural advantage: in addition to the skilled labour and specialization advantage, countries do also have natural advantage in producing certain products due to climatic conditions, access to certain natural resources etc., For example, Indian climate suits the production of sweet mangoes, coconuts, cotton and cashew nuts. Acquired advantage: in addition to the skilled labour and natural advantages, countries also acquire advantages through technology and skill development.

Japan acquired advantage in steel

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production through the imports of both iron and coal. The reason for this success is that japan acquired labour saving and material saving technology. Adam Smith proposed the absolute cost advantage theory based on the following assumptions: 

Trade is between two countries.



Only two commodities are traded.



Free trade exists between the countries.



The only element of cost of production is labour.

2.2.3. Comparative cost advantage theory: Assumptions of the Theory: The assumptions of the comparative cost advantage theory include: 

There exists full employment



The only element of cost of production is labour. Production is the subject to the law of constant returns.



There are no trade barriers.



Trade is free from cost of production.

Comparative cost advantage theory states that a country should produce and export those products for which it is relatively more productive than that of other countries and import those goods for which other countries are relatively more productive than it is. The comparative cost advantage theory is based on relative productivity difference and incorporates the concept of opportunity cost. Comparative cost advantage theory is really an improvement over Adam Smith’s theory of cost absolute advantage. This theory is not only an extension to the principles of division of labour and specialization, but applies the opportunity cost concept. Implications of the Theory: the implications derived from this theory are: 

Efficient allocation of global resources.



Maximization of global production at the least possible cost.



Product prices become more or less equal among world markets.



Demand for resources and products among wordld nations will be optimized.



It is better for the countries to specialize in those products which they relatively do best and export them.



It is better for the countries to buy other goods from other countries who are relatively better at producing them.

2.3. MODERN THEORIES 2.3.1. Comparative advantage with money: Modern economy is money economy and almost all the transactions take place in the form of money. Therefore, absolute differences in money prices determine international trade. According to F.W.

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Taussing, comparative differences in labour cost of commodities can be translated into absolute differences in prices without affecting the real exchange relations between products. Criticism: Despite the utility of the comparative cost advantage theory for international trade, there are certain criticisms leveled against it. Now, we shall discuss the criticisms against this theory. 

Two countries: It is assumed that two countries participate in international trade. But, in reality more than two countries participate in international trade.



Transportation cost: It is criticized that the assumption of non-existence of transportation cost does not hold good as transportation cost is part of the process of global trade.



Two Products: In reality many products are involved in international trade. As such the assumption f existence of two products does not hold good.



Full Employment: The assumption of full employment of resources is not a valid assumption as unemployment of resources is a normal feature in many countries.



Economic Efficiency: The goal of the nations in international trade is not necessarily economic efficiency. The other goals include helping the poor nations, trading with friendly nations etc.,



Division of Gains: Though the comparative cost advantage theory indicates that international trade provides gains to the trading nations, it does not provide the ratio at which the gains are shared between the trading nations.



Mobility: it is criticized that this theory does not consider the mobility of resources internationally.

But, globalization of economies provide for the free movement of all

resources internationally. 

Services: Comparative advantage theory deals with products but not services. But trading in services assumes significant share in global business, particularly in recent times.

These criticisms led to the development of other theories on international trade. One among such theories is the Relative Factor Endowments theory. Now, we shall discuss this theory.

2.3.2. Relative factor endowments (or) heckscher-ohlin theory: 4

Eli Heckscher and Bertil onlin – Swedish economists – developed the theory of relative factor endowments.

Factor endowments are land, capital, natural resources, labour, climate etc.

The

observations made by these two economists include. 

Factor endowments vary among countries: If labor is available in abundance in relation to land and capital, in a country, the price of labour would be low and the price of land and capital would b high in that country. The vice-versa is true in those countries where land and capital are available in abundance in relation to labour.



These relative factor costs would lead countries to produce the products at low costs.



Countries have comparative advantage based on the factors endowed and in turn the price of the factors. Countries acquire comparative advantage in those products for which the factors

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endowed by the country concerned are used as inputs. For example, India and China have comparative advantage in labour-intensive industry like textile and tobacco, Saudi Arabia has comparative advantage in oil. 

Land – Labour Relationship: Counties where area of land available is less in relation to the people go for multistory factories and produce light-Wight products.



Labour-capital Relationship: Countries where labour is abundant in relation to capital can be expected to export labour-intensive products, and vice-versa is true in case of capital abundant countries.

Thus, labour abundant countries acquire export competitiveness in

products requiring large amounts labour compared to capital. This theory explains relative advantage of the countries based on the factor – endowments. Thus, the theories discussed so far, are country – based theories rather than firm-based theories. Now, we shall discuss firm – based theories. Firm – based theories include: country similarity theory, product life cycle theory and global strategic rivalry theory. According this theory, the companies that develop new products for the domestic market, export the products to those countries that are at similar level of development after meeting the needs of the domestic market. Most part of the global trade takes place among development countries as opposed to less developed countries as the former countries have acquired advantage and the latter counties have natural advantage particularly in agricultural products. The value of products produced through acquired advantage/technology is significantly higher than those produced through natural advantage. Similarity of location: Countries prefer to export to the neighboring countries in order to have the advantage of less transportation cost. For example, Papua New Guinea’s majority of exports are to Australia and Finland is a major exporter to Russia due to less transportation costs. Similarly, some of the SAARC countries prefer to import from India. Cultural similarity: Countries prefer to export to countries having similar culture. For example, exports and imports among European countries, between the USA and Canada, among Asian countries, and among Islamic countries. Similarly, trade among the UK and its former colonies like India, Pakistan and South Africa and Australia and Papua New Guinea. Nearly 48 percent of foreign trade of Papua New Guinea was with Australia until 2006. Similarity of political and economic interests: Similar political interests close political relations and economic interests enable the countries to enter into agreements for exports and imports. Countries prefer to trade with their politically friendly countries. For example, India used to export to the former USSR and Pakistan prefer to export to USA. The enmity of the USA with Cuba resulted in the USA importing of sugar from Mexico by abandoning sugar import from Cuba.

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Product life cycle theory:

INTRODUCTION

GROWTH

MATURITY

DECLINE

Production Location

In innovating (Usually industrial) country

In innovating and other industrial countries

Multiple countries

Mainly in LDCs

Market Location

Mainly in country, with some exports

Mainly in industrial countries Shift in export markets as foreign production replaces exports in some markets Fast-growing demand

Growth in LDCs

Maily in LDCs

Some decrease in industrial countries

Some LDC exports

Overall stabilized

Number of competitors increases

Number of competitors decreases Price is very important, especially in LDCs

Overall declining demand Price is key weapon

Near â&#x20AC;&#x201C; monopoly position Sales based on uniqueness rather

Competitive factors

Evolving Product Characteristics

Some competitors begin price-cutting

Number of producers continues to decrease

Product becoming more standardized Production technology

Short production runs

Capital input increases

Evolving methods to coincide with product evolution High labour and labour skills relative to capital input

Methods standardized

Long production runs using high capital inputs Highly standardized

Less labour needed

Unskilled labour on mechanized long production runs

skill

Source: John D. Daniels and Lee H. Radebaugh. Op.cit., p.207.

Stage 1: New Product: Firms innovate new products based on needs and problems in the domestic country. Location Of Innovation: Though the innovated product can be produced anywhere in the world and marketed in the domestic market, the firm mostly locates the manufacturing facilities in the domestic country to have immediate market feedback to be able to modify and develop the product accordingly and to save time and cost of transportations. During this stage the firms sell most part of their product in domestic country and a limited part in other countries. Stage2: Growth: Growth results in: i.

Attracting competitors.

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Increased

iii.

Suggested innovation

iv.

Sift manufacturing to foreign countries.

Stage3: Maturity: Maturity results in: i.

Standard products.

ii.

Large Scale production and economies

iii.

Low unit cost of production.

iv.

Shift manufacturing to developing countries.

Stage4: Decline: Decline is characterized by: i.

Location of manufacturing facilities in developing countries.

ii.

Original innovating country becomes net importer.

Limitations of Product Life Cycle (Plc) Theory: Some studies indicate that production movements do not take place as predicted in the PLC theory due to the following limitations. 

Production facilities do not move to foreign countries to achieve cost reductions due to short product life cycle consequent upon very rapid innovations.



Cost reduction has a little concern to the consumer in case of luxury products.



Exports may not be in significant volume where cost of transportation is very high.



Non-cost strategies like advertising may nullify the opportunity to move to foreign countries for cost minimization.



Requirement of specialized knowledge or expertise reduce the chances of locating production facilities in foreign countries.



The rapid technological development may not shift the production to various foreign countries.

2.4. NEW RTHEORIES 2.4.1. Global Strategic Rivalry Theory: Paul Krugman and Kelvin Lancaster have developed the view that firms struggle to acquire and develop some sustainable completive advantage. This theory focuses on firms’ strategic decisions to acquire and envelop competitive advantage in order to compete internationally. Owning Intellectual Property Rights: Firms which own an intellectual property right in the forms of patent, brand name, copy right and trade mark acquire competitive advantage over their competitors. For example, Kodak, LG, Coca-Cola and the like have competitive advantage over their competitors.

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Investing in Research and Development: Investment in research and development would probably result in the development of new products, improvements to the existing products and development of new technologies etc. these developments provide competitive advantage to the firms. Boeing spent US $ 2 billion and developed the 747 jet and the US air spent $ 4.5 billion and developed the 747 aircraft. The firms that gain the competitive advantage through research and development have the first mover advantages. Achieving Large Scale Economies: companies with large scale operations enjoy low cost of production / operations per unit. These companies may enjoy low cost leadership. Exploiting the Experience Curve: Production cost per unit tends to decline with the increase in the experience of the firm in manufacturing in case of certain industries. employees’ experience, expertise and skill.

This is due to increase in

The companies gain global competitive advantage with the

presence of experience curve. Samsung has the lowest cost advantage in manufacturing standardized semiconductor chips. International trade takes place between/among companies based on relative competitive advantage but not countries competitive advantage. 2.4.2. Porter’s national competitive advantage theory: Competitive Advantages: A recent study concluded that competitive superiority is derived from four factors viz., demand conditions, factor endowment, related and supporting industries and firm strategy, structure and rivalry. Presents the determinants of global competitive advantage. This figure is also known as the Porter Diamond. We should understand the combined effect of these factors on the development and continued existence of competitive advantages. All the four factors need not always be favourable for a company to get global supremacy.

But the interactive affect of these four factors need to be favourable if an

industry/company in a country is to gain a global competitive advantage. Companies acquire competitive advantage through: 

Intellectual property.



Investment in R&D



Large Scale economies



Experience curve

Firm Strategy Structure and Rivalry

Factor Conditions

Demand conditions Related and Supporting Industries

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

Factor conditions: Factor conditions include factors of production. Hecksher – Ohlin theory deals with the classical factors viz., land, labour, capital and organization. Porter emphasizes other factors like educational level of labour and quality of the country’s infrastructure.



Demand conditions: The existences of a large number of sophisticated domestic consumers who are economically able and willing to consume create and improve the demand for various products in the country. Companies improve the existing products and develop new products to meet the increasing demand. In addition, domestic companies compete with each other in developing existing and new products.

As such some of the processing

domestic companies would be ahead of the international companies and export to other countries. 

Related and Supported Industries: The emergence and growth of an industry provide the scope for the development of suppliers of raw material, market intermediaries, financial companies, consulting agencies, ancillary industries etc.,



Firm Strategy, Structure and Rivalry: firms continuously improve the quality, product design; invest in R and D in order to compete domestically. Firms also invest in human resource development, technology etc., in the domestic market. These developments result in high quality and lower prices in domestic country which are transferable to international markets.

2.5. QUESTIONS Section – A Short questions 1. What is mercantilism? 2. State the authors of various trade theories 3. State the differences between absolute cost advantage theory and comparative cost advantage theory 4. What are the limitations of product life cycle theory of trade 5. How does similarity of polical and economic interest influence the international business

Section - B Small answer type 1. Discuss comparative cost advantage theory in detail 2. Describe elative factor endowments theory 3. Enumerate the strategies that are adapted in introduction and growth stages of trade.

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INTERNATIONAL TRADE MANAGEMENT Section – C Essay type questions 1. Describe the product life cycle theory in detail 2. Discuss International business in the lime light of various environmental factors

2.6. SUGGESTED READINGS 1. Francis Cherunilam – International trade and Export – Himalaya publishing House 1999. 2. Sak Onkvisit and John Shaw – International Marketing – Prentice Hall India. 3. John D. Daniels and Lee H. Radebaugh – International business – Pearson education Asia

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CHAPTER - 03 INTERNATIONAL TRADE ORGANISATIONS STRUCTURE

3.0. OBJECTIVES 3.1. LIBERALISATION OF TRADE AND WTO 3.2. WTO ORGIN AND DEVELOPMENT 3.3. UNCTAD WORLD TRADE ORGANISATION 3.4. FUNCTIONS AND AREAS OF OPERATIONS 3.5. QUESTIONS 3.6. SUGGESTED READINGS

3.0. OBJECTIVES After studying this unit, you should be able to understand: 

Liberalization of trade and WTO



WTO origin and development



UNCTAD world trade organization



Functions and areas of operations

3.1. LIBERALIZATION OF TRADE AND WTO The World Trade Organization (WTO), (the successor to the General Agreement on Tariffs and Trade---GATT), which came into being on January 1, 1995, is the only international organization dealing with the rules of trade between nations. The global business environment is very significantly influenced by the WTO principles and agreements. They also affect the domestic environment. For example, India has had to substantially liberalize imports, including almost complete removal of quantitative import restrictions. The liberalization of imports implies that domestic firms have to face an increasing competition from foreign goods. The liberalization facilitates global sourcing by Indian firms so that they can improve their competitiveness. Indian suppliers can benefit from global sourcing by foreign firms. Firms will have to be efficient and dynamic to survive the global competition. Inefficient firms may go out of business. Consumers stand to benefit significantly from the liberalization.

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GATT: The General Agreement on Tariffs and Trade (GATT), the predecessor of WTO, was born in 1948 as result of the international desire to liberalize trade. GATT was an agreement signed by the contracting nations which were admitted on the basis of their willingness to accept the GATT, disciplines. The GATT was transformed into a World Trade Organization (WTO) with effect from January, 1995. Thus, after about five decades, the original proposal of an International Trade Organization took shape as the WTO. The WTO, which is a more powerful body than the GATT, has a role enlarged than the GATT. Objectives and Principles: The preamble to the GATT mentioned the following as its important objectives. 1. Raising standard of living. 2. Ensuring full employment and a large and steadily growing volume of real income and effective demand. 3. Developing full use of the resources of the world. Expansion of production

and international

trade. The rules or conventions of GATT required that: 1. Any proposed in the tariff, or other type of commercial policy of a member country should not be undertaken without consultation of other parties to the agreement. 2.

The countries that adhere to GATT should work towards the reduction of tariffs and other barriers to international trade, which should be negotiated within the framework of GATT.

Evolution of GATT: When the GATT was signed in 1947, only 23 nations were party to it. It increased to 99 by the time of the Seventh Round and 117 countries participated in the next, i.e. the Uruguay Round. In July 1995, there were 128 signatories.

3.2. WTO ORIGIN AND DEVELOPMENT Uruguay Round (UR) is the name by which the eighth Round of the multilateral trade negotiations (MTNs) held in September 1986. Because of the complexities of the issues involved and the conflicts of interests among the participating countries, the Uruguay Round could not be concluded in December 1990 as was originally scheduled. Arther Dunkel, the then Director General of GATT, presented a Draft Act embodying what he thought was the result of the Uruguay Round. This came to be popularly known as the Dunkel Draft. Final Act was signed by ministers of 125 governments on April 15, 1994. The results of the Uruguay Round were to be implemented within ten years since 1995. Different time periods were given for effecting the different agreements. Following the UR Agreement, GATT was converted from a provisional agreement into a formal international organization called World Trade Organization (WTO) with effect from January 1, 1995. WTO

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now serves as a single institutional framework encompassing GATT and all the results of the Uruguay Round. It is directed by a Ministerial Conference that will meet at least once every two years and its regular business is overseen by a General Council. The WTO Secretariat is based in Geneva, Switzerland.

The WTO members now account for over 95 per cent of the international trade indicating

the potential of the WTO in bringing about an orderly development of the international trade. At the beginning of May 2009, WTO had 153 members. The WTO’s top level decision-making body is the Ministerial Conference which meets at least once every two years. Below this is the General Council (normally ambassadors and heads of delegation in Geneva, but sometimes officials sent from members’ capitals) which, meets several times a year in the Geneva headquarters. The General Council also meets as the Trade policy Review Body and the Dispute Settlement Body. At the next level, the Goods Council, Services Council and Intellectual Property (TRIPs) Council report to the General Council. Numerous specialized committees, working groups and working parties deal with the individual agreements and other areas such as the environment, development, membership applications and regional trade agreements. All WTO members may participate in all councils, committees, etc., except Appellate Body, Dispute Settlement panels, Textiles Monitoring Body, and multilateral committees. 3.2.1 Development and Trade: Over three quarters of WTO members are developing or least-developed countries. All WTO agreements contain special provision for them, including longer time periods to implement agreements and commitments, measures to increase their trading opportunities and support to help them build the infrastructure for WTO work, handle disputes, and implement technical standards. The 2001 Ministerial Conference in Doha set out tasks, including negotiations, for a wide range of issues concerning developing countries. A WTO committee on trade and development assisted by a sub-committee to least-developed countries looks at developing countries’ special needs. Its responsibility includes implementation of the agreements, technical cooperation, and the increased participation of developing countries in the global trading system. Technical Assistance and Training: The WTO organizes around 100 technical cooperation missions to developing countries annually. It holds on an average three trade policy courses each year in Geneva for government officials. Regional seminars are held regularly in all regions of the world with a special emphasis on African countries. Training courses are also organized in Geneva for officials from countries in transition from central planning to market economies.

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Salient features of UR agreement: The major liberalizations in respect of trade in manufactures, regarding tariffs, are: 1. Expansion of tariff bindings 2. Reduction in the tariff rates 3. Expansion of duty-free access The UR Agreement envisages substantial tariff reductions in both industrial and developing countries.

Developing countries agreed to bind their tariffs on major part of their imports of industrial

products. They also offered to reduce their trade-weighted average bound tariff on imports from industrial countries significantly. Non-Tariff Barriers: In the area of NTBs, the Agreements to abolish Voluntary Export Restraints (VERs) and to phase out the Multi fiber Arrangement (MFA) by the end of 2004 are regarded as landmark achievements for developing countries. Liberalization of Agricultural Trade: The specific agreement, which provides framework for multilateral trade in agriculture, is the Agreement on Agriculture (AOA). The three principal commitments incorporated in the AOA to establish fair and market oriented agricultural trading system and to more operationally effective GATT rules and disciplines are: (i) market access, i.e. the discipline on import restraints and import limitations, (ii) domestic support, i.e. to rationalize the support allowed by the governments to domestic producers and to eliminate trade distorting support, and (iii) export subsidies, i.e., to phase out the support given by governments on agricultural exports. Apart from AoA, a few other Agreements such as the Agreement on Trade Related aspects of Intellectual Property Right (TRIPs) the Agreement on the Application of Sanitary and phytosanitary (SPS) Measures and Agreement on Technical Barriers to Trade influence the agricultural trade in varying measures. 

Tariffication



Tariff binding



Tariff cuts



Reduction in subsidies and domestic support

GATTS: In short, the GATTS covers four modes of international delivery of services. 1. Cross-border supply (transborder data flows, transportation services). 2. Commercial presence (provision of services abroad through FDI or representative offices). 3. Consumption abroad (tourism). 4. Movement of personnel (entry and temporary stay of foreign consultants).

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The framework of GATTS includes basic obligation of all member countries on international trade in services, including financial services, telecommunications, transport, audio visual, tourism, and professional service, as well as movement of workers. Among the obligations is the Most Favoured Nation (MEN) obligation that essentially prevents countries from discriminating among foreign suppliers of services. Another obligation is the transparency requirements according to which each member country shall promptly publish all its relevant laws and regulations pertaining to services, including international agreements pertaining to trade in services to which the member is a signatory. Suggested, each member shall also respond promptly to all requests for specific information, by any other member, pertaining to any aspect of the service covered by the GATT. TRIMs: Trade Related Investment Measures (TRIMs) refer to certain conditions or restrictions imposed by a government in respect of foreign investment in the country. TRIMs were widely employed by developing countries. The Agreement on TRIMs provides that no contracting party shall apply any TRIM which is inconsistent with the WTO Articles. An illustrative list identifies the following TRIMs as inconsistent. 1. Local content requirement (i.e. a certain amount of local inputs be used in products). 2. Trade balancing requirement (i.e. imports shall not exceed a certain proportion of exports). 3. Trade and foreign exchange balancing requirements. 4. Domestic sales requirements (i.e. company shall sell a certain proportion of its output locally).

TRIM was proposed by Dunkel and his proposal is also concerned with the removal of various controls imposed on the inflow of foreign capital into the third world countries. This proposal helps the MNCs as they will b treated as national companies. The TRIMs text provides that the foreign capital would not be discriminated by the member Government. This foreign capital gets equal treatment at par with domestic capital. The significant features of Trims include: 

Abolition of restrictions imposed on foreign capital.



Offering equal rights to the foreign investor equal to those of the domestic investor.



No restrictions on any area of investment.



No limitation or ceiling on the quantum of foreign investment. In other words participation of foreign equity should be allowed up to 100 per cent.



Granting of permission without restrictions to import raw materials and other components.



No force on the foreign investors to use total products or materials. No force on the foreign investors to use total products or materials.



Export of the part of the final product will not be mandatory.



Restriction on repatriation of dividend, interest and royalty will be removed.



Phased manufacturing programme will be introduced to increase the domestic content of manufacture.

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Trade in Services: Trade in services like, insurance, travel, tourism, hotel, banking, maritime transportation, mobility of human resources etc., has been for the first time, brought within the purview of GATT.

The General Agreement on Trade in Services (GATS) provides a multilateral framework of

principles and services. Gats govern trade in services. TRIPs: The protection of intellectual property rights has become an issue of wide and serious discussion with the formation of the General Agreement on Trade related Aspects of Intellectual property Rights (TRIPs) under the Uruguay Round (UR) Agreement. IPRs have been characterized as a composite of ‘ideas’ inventions and creative expression’ plus the ‘public willingness to bestow the status of property’ on them and give their owners the right to exclude others from access to or use of protected subject matter. Copyright and Rights Related To Copyright: The right of authors of literary and artistic works (such as books and other writings, musical compositions, paintings, sculpture, computer programs and films) are protected by copyright, for a minimum period of 50 years after the death of the author. Intellectual Property Rights: Industrial property can usefully be divided into two main areas. One area can be characterized as the protection of distinctive signs, in particular trademarks (which distinguish the goods or services of one undertaking from those of other undertakings)and geographical indications (which identify good as originating in a place where a given characteristic of the goods is essentially attributable to its geographical origin). The protection of such distinctive signs aims to stimulate and ensure fair competition and to protect consumers, by enabling them to make informed choices between various goods and services. The protection may indefinitely, provide the sign in question continues to be distinctive. Other types of industrial property are protected primarily to stimtlate innovation, design and the creation of technology. Inventions (protected by patents), industrial designs and trade secrets fall in this category. Differences Between GATT And WTO GATT

WTO

It is a set of rules and multilateral agreement.

It is a permanent institution.

It was designed with an attempt to establish international Trade Organization.

It is established to serve its own purpose.

It was applied on a provisional basis

Its activities are full and permanent.

Its rules are applicable to trade in merchandise goods.

Its rules are applicable to trade in merchandise and trade in services and trade in related aspects of intellectual property.

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INTERNATIONAL TRADE MANAGEMENT GATT was originally a multilateral instrument, but pluilateral agreements were added at a later stage. Its dispute settlement system was not faster and automatic.

Its agreements are almost multilateral. Its dispute settlement system is fast and automatic.

3.3. ORGANIZATION STRUCTURE OF THE WTO The organization structure of the WTO is designed based on four hierarchical levels.

The

hierarchies from the top to bottom are as follows: 

Ministerial conference



General Council



Councils



Committees and Management Bodies.

Ministerial Conference: Ministerial conference is the highest hierarchical level in the organizational structure. All the member countries of WTO are the representatives of the ministerial conference.

Ministerial conference has the authority to make decisions on all matters relating to

multilateral trade agreements. The ministerial conference meets at least once in two years. Thus, the ministerial conference is the policy and strategy making body.

It gets the policies and strategies

implemented and executed by the next level, i.e., General Council. General Council: General Council is the executive body of the WTO. General council reports its decisions and activities to the ministerial conference.

All the members of the WTO are also

representatives in the General council. The general council has other forms like Dispute Settlement Body and Trade Policy Review Body. 

Dispute Settlement Body supervises dispute settlement procedures. This body is assisted by the dispute settlement panels and appellate body.



Trade Policy Review Body reviews trade policies of individual WTO members regularly. Councils: The third level in the hierarchy is councils. There are three councils, viz.,



Council for Trade in Goods: This council supervises the implementation and functioning of all agreements relating to trade in goods.



Council for Trade in Services: This council overseas the implementation of all the agreements relating to tr4ade in services.



Council for Trade Related Aspects of Intellectual Property rights: This council oversees the implementation and functioning of all the agreements relating to this area. Committee and Management Bodies: The General Council delegates powers, responsibilities and

authorities to these bodies. These committees and bodies include: 

Committees: Various councils specified earlier, constitute committees for administering

the arrangement. Ministerial conference constituted three committees, viz.

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Committee on trade and Development: This committee is concerned with the issues concerning developing countries and particularly least developed countries.



Committee on Balance of Payments: Some WTO member countries resort to trade restrictive measures with a view to cope with their balance of payments problems. Consultations among such countries are arranged by the committee on balance of payments.



Committee on Budget, Finance and Administration: This committee deals with the issues relating to the budget, finance and administration of WTO.



Management Bodies: Plurilateral agreements of the WTO have their management bodies.

These management bodies report to the General Council.

SAome of the

plurilateral agreements having management bodies include: civil air-craft, government procurement, dairy products, bovine-meat etc.,

3.4. FUNCTIONS AND AREAS OF OPERATIONS The World Trade Organization is expected to play its role in the following areas: 

WTO administers the 28 agreements contained in the final Act and a number of plurilateral agreements and government procurement through various councils and committees.



WTO oversees the implementation of the significant tariff cut (averaging 40%) and also reduction of non-tariff measures agreed to in the trade negotiations.



WTO examines regularly the trade regimes of individual member countries. Thus, it acts as a watchdog of international trade.



WTO provides for Disputes Settlement Court in order to adjudicate the trade disputes which could not be solved through bilateral talks between member countries. The disputes are examined by the panel of independent experts in view of WTO rules and provide rulings. This procedure is laid down in order to provide equal treatment for all trading partners and to encourage member countries to live up to their obligation.



WTO acts as a management consultant for world trade. The economists of the WTO observe the pulse of the global economy and provide studies on the main trade issues.



Technical co-operation and training division is established in the WTO’s secretariat in order to help the developing countries in the implementation of Uruguay Round results.



Member countries can use the WTO as a forum for continuous negotiation of exchange of trade barriers in the entire world.



WTO co-operates with other international institutions like IMF, IBRD (World Bank) and ILO involved in global economic policy making.



WTO oversees the national trade policies of member governments.

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3.5. QUESTIONS Section - A Short questions 1. What is GATT? Explain 2. What are the functions of Ministerial conference OF WTO? 3. State the differences between WTO and GATT 4. What are TRIPs? 5. How are intellectual properties Rights regulated by WTO? Section – B Small answer type 1. Describe the origin and development of WTO 2. Describe the features of UR agreement 3. Write short notes on a)TRIMs 4. Explain the structure of WTO

b)copyright and rights related to copyright .

Section – C Essay type questions 1. Describe the importance of WTO and regulations governed by WTO 2. Explain the various functions and operations of WTO

3.6. SUGGESTED READINGS 1. Francis Cherunilam – International trade and Export – Himalaya publishing House 1999. 2.

Sak Onkvisit and John Shaw – International Marketing – Prentice Hall India.

3. John D.Daniels and Lee H. Radebaugh – International business – Pearson edu 4. P.Subbarao – International business – Himalaya Publishing

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CHAPTER - 04 INTERNATIONAL TRADE REGULATIONS AND WTO STRUCTURE

4.0. OBJECTIVES 4.1. DISPUTE SETTLEMENT UNDER WTO 4.2. ANTI DUMPING DUTIES 4.3. ENVIRONMENTAL ASPECTS IN INTERNATIONAL TRADE 4.4. TRADE RELATED ASPECTS OF INTELLECTUAL PROPERTY RIGHTS 4.5. QUESTIONS 4.6. SUGGESTED READINGS

4.0. OBJECTIVES After studying this unit, you should be able to understand: 

Dispute Settlement Under WTO



Anti Dumping Duties



Environmental Aspects In International Trade



Trade Related Aspects Of Intellectual Property Rights



Questions

4.1. DISPUTE SETTLEMENT UNDER WTO The increased rate of globalization enhanced the severity of competition for export of goods, services and capital among the global countries. The competition, in turn, made the countries to adopt win – loss strategies in the foreign trade, which in turn, created disputes between the countries. WTO provides a more powerful mechanism to solve disputes over trade among the member countries.

In fact, WTO felt that trade dispute mechanism is highly essential in these days of

globalisation. This is more so, in case of developing countries as they are emerging as active partners in the global trade. WTO, in one of its recent reports observed that, multilateral dispute – mechanism is used more frequently by the developing countries than the advanced countries. The phenomenon is more prominent th

in WTO compared to that in GATT. Dispute Settlement Body established two panels on 5 March 1996, at the request of Philippines and Costa Rica. Out of the four active dispute settlement panels, three of them are involved in the settlement of disputes of the developing countries. But in case of GATT most of the disputes were among developed countries.

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33 WTO

improved dispute – settlement procedures compared to those of GATT. These improvements include: 

Near automaticity of establishment of panels and adoption of their reports



Precise deadlines for every step of the panel process.

The Director General of the WTO indicated that, WTO is taking steps to evolve a consensuss on controversial and key issues like inclusion of social clause on the trade agenda. According to him, the challenge of the WTO is to build a consensus on the subject of trade and labour standards with a view to avoid this becoming a divisive issue.

The amount of Government procurement opened to international competition is extended by 10 times compared to the earlier agreement. But, this remains only in plurilateral agreement with limited membership. WTO is the only multilateral forum to discuss trade liberalizations and settl3e disputes. WTO acquired the following principles from GATT: 

Non – discrimination through Most Favored Nation (MFN) treatment. A member country, if it offers trade concessions to any one member country it should offer to all other member countries equally. Similarly, imported goods must be treated in the same way of domestic goods.



Reciprocity of trade concessions.



Trade liberalization.



Transparency and predictability in import and export rules an regulations.



Favorable treatment to less developed countries.

4.2. ANTI DUMPING DUTIES Dumping means selling the product at below the on – going market price and/or at the price e below the cost of production. Haberler defines dumping as “the sale of goods abroad at a price which is lower than the selling price of the same goods at the same time in the same circumstances at home, taking account of difference in transport costs.” Types of Dumping: Dumping is of three types, vis., intermittent duping, persistent dumping and predatory dumping. 

Intermittent Dumping: When the production of a product is more than the demand in the home country, the stocks piled up even after sales. In such a case the producer sells the remaining stock in foreign countries at low price without reducing the price in domestic countries.



Persistent Dumping: The monopolist sells the remaining production in foreign countries at a low price continuously. This type of dumping is called persistent dumping.



Predatory Dumping: The monopolist sells the product in a foreign market at a low price initially with a view to drive away the competitors and increase the price after the competitors leave the market. This type of dumping is called predatory dumping.

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Objectives of dumping: The objective of dumping includes: 

To Enter the Foreign Market: The monopolist adopts the dumping strategy to enter a foreign market by eliminating the competitors in the foreign market.



To Sell surplus Production: The producers dump the products in the foreign countries in order to sell their surplus production.



To Develop Trade Relations: The manufacturers sell their output in foreign countries at low price in order to develop trade relations with the foreign countries. Effects of Dumping: Dumping affects both the importing and exporting countries. However, the

effects are more on importing country.

Effects on importing country: 

The industry of the importing country experiences the decline in sales and profits. For example, china dumped its steel in India and consequently Indian steel industry faced the problems of decline in sales and the deflationary conditions.



If the dumping is for longer period, it affects the survival fo the industry and also changes the industrial structure in the foreign country. If the dumping company increases the price s at the alter stage (i.e., after eliminating competition) the importing country would be at loss both in terms of high cost of imports and change in the structure of the domestic industry.



Dumping changes the preferences of the consumers of the domestic county. But, if the dumping is stopped after some time, the country is forced to import at high prices.



Dumping increases the deficit of the balance of payments of the i9mporting country.



The importing country can benefit from dumping by imposing anti – dumping tariffs as Indian Government imposed tariffs on cooking oil dumped by the USA and Malaysia.

Effects on exporting country: 

The consumers of the exporting country pay higher price when the consumers of foreign country enjoy the product at lower price.



The exporting country finds market for the excess production.



The exporting country earns foreign exchange and it contributes for the surplus balance of the balance of payment of payments position. Anti – Dumping Measures: in view of the negative effects of dumping, the importing country

imposes anti – dumping measures like tariff duty, import quota, import embargo and voluntary export restraint. 

Tariff Duty: The importing country imposes high rates of import tariffs on dumping; so that the price of the dumping goods would be wither equal to or more than that of the domestic goods. Then the dumping company finds it uneconomical to dump the goods in a foreign country and stops dumping.

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Import Quota: The importing country in addition to tariff duty restricts the volume of imports. This measure reduces the dumping.



Import Embargo: The importing country bans the import of particular goods or all the goods from the dumping country. This is a retaliatory measure against dumping.



Voluntary Export Restraint: The exporting countries realizing the negative effects of dumping voluntarily come of bilateral agreements to avoid dumping.

Types of Dumping 

Sporadic dumping: Sporadic dumping occurs when an international company sells its unsold inventories in a foreign country to get rid of them.



Predatory dumping: Predatory dumping is selling the product in a foreign market at a loss as a strategy of entering the market. Zenith uses this strategy for selling televisions and computers.



Persistent dumping: Persistent dumping involves consistently selling the product at lower prices in one market than in other markets. Japan sells its electronic products at high prices in Japan and sells the same products consistently at lower prices in the USA and India.



Reverse dumping: Under reverse dumping the product is sold at a high price in international markets and at a low price in the domestic market.

Anti – dumping terms: Dumping adversely affects the domestic manufacturers, suppliers of raw materials, components, labour and other stakeholders of the domestic companies. Suggested, it affects the economic activity in the domestic country and also the government revenue. Hence, the domestic governments ‘importing’ impose anti – dumping terms/measures. Presents the anti – dumping duties imposed by Pakistan. Counter – trade: Counter – trade is an arrangement to pay for import of goods and services with something other than cash. Thus, counter – trade is goods – for – goods deal. Reasons for counter – trade are: 

International debt and liquidity problems



To provide access to the markets of developing countries.



To enable bilateral agreements between governments.

Types of counter – trade: Types of counter – trade include: barter, counter purchase, compensation trade, switch trading offsets and clearing agreements.  Barter Counter – trade: This type of counter trade involves simultaneous exchange of products/services of equal value. For example, Chinese coal was exchanged for the construction of a seaport by the Dutch in China.  Counterpunches: Counter purchase involves two separate cash transactions which are equal in value. Money exchange takes place only in books of accounts. Thus, money does not need to

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change hands. For example, Brazil exports vehicles, steel and farm products to oil producing countries and buys oil in turn from them.  Compensation Trade: Under compensation trade one country exports machinery, builds factories in another country with an agreement to import the goods produced in the factories built by them in the second country.

A Japanese company sold sewing machines to China and

received payment in the from of 300,000 pairs of pyjamas.  Switch Trading: Switch trading involves a triangular trade agreement. When the goods are not wanted by one country, a third party enters the agreement by taking those goods and paying hard currency. For example, India exports software to the USA but needs oil. Therefore, the USA pays US dollars to the United Arab Emirates and enables India to import oil without any cash transaction between India and the UAE.  Offset: Under the offset, the company is allowed to sell its products in a foreign country with a condition to purchase local products. The USA imported oil from the Middle East and exported its defence products to those countries.  Clearing Agreement: It is barter with no currency transaction; but by maintaining clearing accounts in the central banks of the two countries.

4.3. ENVIRONMENTAL ASPECTS IN INTERNATIONAL TRADE There is close associations with the pattern of economic growth and environmental problems. Globalization, by accelerating certain types of economic activities, causing unscrupulous exploitation of natural resources and using ecologically unfriendly technologies and operations, make the problem more serious. Rostow’s theory of economic growth tells us that after a certain stage growth will become ‘self – sustaining’. But the trends of ecological damages associated with economic growth seem to tell us that if the present style of growth is pursued for long, economic growth will become ‘self – defeating’, and not self – sustaining. The seeds of destruction are present in the process of growth itself. Destruction of ecological balance seems to have become a concomitant of rapid growth. The environmental problems become more acute with increase in the level of industrialization, urbanization and intensification of agricultural activities with the modern pollution – prone technology. Population explosion and modern technology are upsetting the ecological balance. The process of economic growth has been functioning as a double – edged weapon. With one edge it has been chocking off future prospects. The modern industrial technology, which enhances human welfare by making available a large variety of goods and services on a massive scale, also takes heavy toll of human welfare by the environmental destruction caused by it.

The agro – chemicals which helped

revolutionise the agriculture, besides poisoning the food crops and causing soil and water pollutions, reduce the original productive capacity of land.

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The fouling of water by industries and other sources cause destruction of fish wealth, thus fouling the daily bread of tens of thousands of poor fishermen. The crop damages caused by air, water and air pollution are severe. Environmental pollution has been regarded as the root cause of most of the diseases. Due to the fouling of the environment, many diseases increase and new ones emerge. If a realistic estimate of the cost of human health and life on account of pollution is made including the loss of life, medical and public health expenditure, loss of production and productivity due to ill health and other associated problems related by pollution, we will get an astounding figure.

As the United States President’s Council on

Environmental Quality rightly points out, the present levels of pollution and environmental degradation result in costs to society in the form of increased health service, lost productivity and direct damage to crops, materials and other properties. The loss of scenic values and recreational areas, destruction of valuable ecological systems and the loss of pleasant surroundings do not enter traditional economic calculus directly but they are no less economic costs. One of the relationships between economic affluence and the fouling of environment is very well implied in the statement that the affluent society has been becoming an ‘effluent’ society. Alvin Toffler in his famous Future Shock characterizes the modern industrial society as ‘the throw away society’. Napkins, towels, non – returnable containers, cans, toys plastic packs, pastry tins, etc., create mounting solid disposal problems. In many developing countries, thee is no effective arrangement for their disposal and this causes a very serious damage to the ecolo0gy and poses an alarming threat to the future generations. Globalization increases these problems because of the indiscriminate increase in the consumption of such throw away categories of product in societies which are environment conscious. The impact of globalization on environment is Suggested indicated in the following sub – sections. As in the case of some other social issues in the fore, the environmental issues raised are mostly those which disadvantage the developing countries, ignoring or relegating to the background several serious issues which hold the developed nations or firm such nations guilty. Some countries prohibit the import of goods which cause ecological damage. For example, the US has banned the import of shrimp harvested without turtle excluder devise because of its concern for the endangered sea turtles. Countries like India are affected by it. Developing countries are affected by the relocation of polluting industries from the developed to the developing ones.

Similarly, several products which are banned in the developed nations are

marketed in the underdeveloped world. The dumping of nuclear and hazardous wastes in developing countries and the shifting of polluting industries to the developing countries impose heavy social costs on them. The exploitation of the natural resources of the developing countries to satisfy the global demand also causes ecological problems.

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When the multinationals employ in the developing nations polluting technologies which are not allowed in the developed countries or do not care for the ecology as much as they do in the developed nations, it is essentially a question of ethics. Another serious problem is that developed nations sometimes raise environmental issues as a trade barrier or a coercive measure rather than for genuine reasons. Trade and environment: The debate has intensified in recent yeas on the links between trade and the environment, and the role the WTO should play in promoting environment – friendly trade.

A central concern of those who

have raised the profile of this issue in the WTO is that there are circumstances where trade and the pursuit of trade liberalisation may have harmful environmental effects.

Three main arguments are

forwarded as to how this might occur. First, trade can have adverse consequences on the environment when property rights in environmental resources are ill – defined or prices do not reflect scarcity. This situation results in production or consumption “externalities” and can lead to the abuse of scarce environmental resources and degradation, which is exacerbated through trade. Some of the pollution can be purely local, such as a very noisy factory. Other pollution can have global repercussions for example, the excessive emission of green – house gases, the destruction of rainforests, and so on. Critics argue that trade liberalisation which encourages trade in products creating global pollution is undesirable. The second argument linking trade and the environment is related to the first one. If some countries have low environmental standards, industry is likely to shift production of environment – intensive or highly – polluting products to such so – called pollution havens. Trade liberalisation can make the shift of “smoke – stack” industries across borders to pollution havens even more attractive. If these industries then create pollution with global adverse effects, trade liberalisation, indirectly, promotes environmental degradation. Worse, trade induced competitive pressure may force countries to lower their environmental standard. The argument, in other words, is that trade liberalisation leads to a ‘race to the bottom’ in environmental standards. The third concern by environmentalists about the role of trade relates more to social preferences. Some practices may simply be unacceptable for certain people or societies, so they oppose trade in products which encourage such practices. These can include killing dolphins in the process of catching tuna, using leg – hold traps for catching animals for their furs, or the use of polluting production methods which have only local effects. On the other hand, it has also been pointed out that trade liberalisation may improve the quality of the environment rather than promote degradation. First, trade stimulates economic growth, and growing prosperity is one of the key factor in societies’ demand for a cleaner environment. Growth also provides the resource to deal with environmental problems at hand – resource which poor countries often do not have. Second, trade and growth can encourage the development and dissemination of environment – friendly production techniques as the demand for cleaner product grows and trade increases the size of the market. International companies may also contribute to a cleaner environment by using the most

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modern and environmentally clean technology in all their operations. T his is less costly than using differentiated technology based on the location of production and help companies to maintain a good reputation. Finally, the costs of meeting environmental regulation often account for only a small fraction of total production costs, so that this factor is unlikely to be at the basis of relocation decisions – other factors such as labour cost and the adequacy of infrastructure are mush more important. A review of literature on the impact of trade on environment suggests that trade may not specifically add in a significant way to environmental problems, beyond those that arise through economic activity generally. But whether this is the case or not, restrictive trade policy will rarely offer an adequate solution to problems of environmental degradation. The solution lies instead in the use of appropriate environmental policies.

4.4. TRADE RELATED ASPECTS OF INTELLECTUAL PROPERTY RIGHTS The world intellectual property Organisation (WIPO) is an international Organisation dedicated to helping to ensure that the rights of creators and owners of intellectual property are protected worldwide and that inventors and authors are, thus, recognized and rewarded for their ingenuity. This international protection acts as a spur to human creativity, pushing forward the boundaries of science and technology and enriching the world of literature and the arts. By providing a stable environment for the marketing of intellectual property products, it also oils the wheels of international trade. With a large staff drawn from around the world, WIPO carries out many tasks related to the protections of intellectual property rights, such as administering international treaties, assisting governments, organizations and the private sector, monitoring developments in the field and harmonizing and simplifying relevant rules and practices. In all that it does, the key words are relevance, efficiency, communication and international cooperation. In the new millennium, WIPO faces many new challenges; one of the most urgent is the need for both the organisation and its member states to adapt to, and benefit from, rapid and wide – ranging technological change, particularly in the field of information technology and the internet.

Under the

leadership of its Director General, Dr. Kamil Idris, and with the close cooperation of its member states, WIPO is confident about meeting those challenges. In working towards its objectives, the organisation will strive to contribute to the good of mankind by creating real wealth for nations, and to enhance the quality and enjoyment of life. WIPO expanded its role and Suggested demonstrated the importance of intellectual property rights in the management of globalised trade in 1996 by entering into a cooperation agreement with the World Trade Organisation (WTO). In 1898, BIRPI administered only four international treaties.

Today its successor, WIPO,

administers 23 treaties (two of those jointly with other international organisations) and carries out a rich and varied program of work, through its member states and secretariat that seeks to: 

Harmonise national intellectual property legislation and procedures.

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

Provide services for international applications for industrial property rights.



Exchange intellectual property information.



Provide legal and technical assistance to developing and other countries.



Facilitate the resolution of private intellectual property disputes.



Marshal information technology as a tool for storing, accessing, and using valuable intellectual property information. The most successful and widely used of these treaties is the Patent Cooperation Treaty (PCT),

which implements the concept of a single international patent application which has legal effect in the countries which are bound by the treaty and which are designated by the applicant. Once such an application is filed, an applicant receives valuable information about the potential patentability of his invention (through the international search report and the optional international preliminary examination report) and has more time than under the traditional patent system to decide in which of the designated countries to continue with the application. Thus, the PCT system consolidates and streamlines patenting procedures and reduces costs, providing applicants with a solid basis for important decision – making.

4.5. QUESTIONS Section - A Short questions 1. What is intellectual property? 2. Explain the term Anti dumping 3. What are the environmental issues that are prevailing in international trade? 4. What is countervailing duty? Section – B Small answer type 1.

Explain anti dumping duties in international trade

2. Describe how intellectual property rights are regulated in the international environment 3. Describe environmental aspects of the international trade. Section - C Essay type questions 1. Describe Environmental aspects of international Trade 2. Describe the process of dispute settlement under WTO 4.6. SUGGESTED READINGS 1. Francis Cherunilam – International trade and Export – Himalaya publishing House 1999. 2. Sak Onkvisit and John Shaw – International Marketing – Prentice Hall India. 3. John D.Daniels and Lee H. Radebaugh – International business – Pearson education Asia

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CHAPTER - 05 EXCHANGE REGULATIONS IN INTERNATIONAL TRADE STRUCTURE 5.0. OBJECTIVES 5.1. FORMS OF COUNTER TRADE 5.2. REASONS FOR GROWTH OF COUNTER TRADE 5.3. FOREIGN EXCHANGE MARKET 5.4. SWAP OPERATIONS 5.5. DETERMINATION OF EXCHANGE RATE 5.6. EXCHANGE CONTROL 5.7. QUESTIONS 5.8. SUGGESTED READINGS

5.0. OBJECTIVES After studying this unit, you should be able to understand: 

Forms of counter trade



Reasons for growth of counter trade



Foreign exchange market



Swap operations



Determination of exchange rates



Exchange control

5.1. COUNTER TRADE The cornerstone of post – war world economic relations has a liberal and multilateral system of international trade and payments. This system, established under the auspices of the Fund and General Agreement on Tariffs and Trade, fostered and increased almost six fold between 1950 and 1984. While the far greater proportion of world trade continues to be conducted with the frame – work of the above mentioned system, in recent years there has been a growing tendency in some countries to resort to trading practices that constitute a retreat from multilateralism. These practices are collectively known as “counter trade”. Counter trade may take a variety of forms, but basically if is a barter or a quasi – barter arrangement that more or less explicitly links import and export transactions.

It involves trading

arrangements between private firms and/or government entities, such as foreign trade organizations by

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which the seller is obligated to accept, as a partial or total settlement for his exports of goods (or in some instances, services, such as technology or industrial licences), specified goods or services from the buyer. On the basis of the types of goods traded, the financial arrangements involved, and the length of time it takes to complete the transactions, counter trade may be of four types. These are barter, compensation, buy – back, and counter purchase. Under a barter arrangement the exporter sells specified goods. This type of transaction involving a limited number of products and without the participation of a third party is a one – time operation and the transaction is completed in a relatively short time. Pure barter is relatively rare because of the difficulties of finding a buyer for the product, which may not be easily marketable exchange of specified goods. Under a compensation arrangement, the exporter agrees to take full or a partial payment in kind for the goods sold, but the exporter transfers the purchasing commitment to a third party who may be an end user of products or a trading house. Compensation. Arrangements are also not very common because it takes time to find a suitable third party to whom the exporter can transfer the purchasing commitment. The third type of counter trade, which is perhaps the most prevalent and involves a relatively large volume of trade, is the buyback arrangement. Under this the exporter (usually and industrial firm) provides plant equipment or technology to an importer (also an industrial firm) and agrees to accept as a partial or full payment, goods to be produced by the importer with the exporters equipment of technology. A variant of this arrangement is trade – related performance requirement, under which foreign investors are requested to export a fixed proportion of the goods produced to ue a fixed value of locally produced inputs in counter purchase arrangements where the value of purchases by the exporter is almost always less than or at equal to the value of exports, the value of buy – back commitment may exceed that of the original export transaction. Moreover, the contract period of buy – back commitment may exceed that of the original export transaction. The counter purchase arrangement is also common and complicated. Under this arrangement the exporter sells goods technology or services to an importer and agrees to purchase from the latter, within a specified period a specific total value of goods selected from a list that excludes those produce by the technology being exported. Unlike barter and compensation arrangements exporters entering into buy – back and counter – purchase arrangement must use a trading firm to market the goods they purchase.

The exporters do not use these goods themselves although under certain buy – back

arrangement they may agree to purchase raw material or pats that could be used in their production processes. It is generally accepted that counter trade has become an increasingly important form of trade between west European and East European countries since the mid 1970’s. the united States also

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appears to have relied on counter trade arrangements to expand its trade with East European Countries. Counter trade has too become a feature of trade between developed and developing countries. Uncertainties in the world trading system have spurred expansion of counter trade, Counter trade or barter in various guises, accounts for between 8 – 10 percent of external trade by member of the General Agreement on Tariffs and Trade (GATT). There is no adequate growth of counter trade among developed and developing countries and the expansion of military sales with “offset” obligations. Counter trade has arisen largely as a means of maintaining international commerce in the face of strains in the multi – lateral trading system and growing uncertainty. While it is expected to continue on the fringes of the multi – lateral trading system, it is not at present a major threat to the system. Counter trade’s growth prospects hinge on the outlook for sustained growth in the world economy, which in turn depends on reduced exchange rate volatility and greater assurance of the adequacy and improved distribution of liquidity. Counter trade may appear to be an attractive way for developing countries to expand their trade of finance long – term development but it can also be completed, expensive and disruptive to the economies of nations using it.

5.2. REASONS FOR GROWTH OF COUNTER TRADE Several factors have contributed to the growth of counter trade. In the case of centrally planned East European countries domestic production can be planned, but exports are not as amenable to central planning, largely because of the difficulty of forecasting foreign demand. Counter trade is, therefore, considered a way of overcoming uncertainty of domestic production plains and at the same time, of achieving bilateral balancing of trade an important objective of foreign trade policy in these countries shortages of convertible foreign exchange and the desire to stimulate foreign technology inflow have also motivated East European countries to enter into counter trade arrangements. In many developing countries certain industrial and foreign trade activities are nationalized and some of the institutional characteristics that apply to counter trade in East European countries particularly those maintaining overvalued exchange rates have resorted to counter trade for the following reasons: (1) balance of payments difficulties arising from sluggish export growth and rising external debt service burden have prompted some to eek new ways of economizing on scarce foreign exchange resources: (2) Emphasis on the growth of manufacturing sectors, aimed at promoting import – substitution, has created overcapacity and has produced pressures to find markets for surplus goods (3) Primary and manufactured products counter trade commit industrial country exporters to purchase a given quantity of products over s specified period are seen as a means of penetrating existing markets or establishing new ones; (4) counter trade in the form of buy – back arrangements is seen – by both industrial and the more developed developing countries as a means of securing reliable sources on essential raw material while exporting equipment and technology that have become outdated at home and (5) for exporters (including

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industrial countries) counter trade may become the only way to overcome the protective trade policies of some countries. As already mentioned, the magnitude of trade conducted under counter trade arrangements is difficult to estimate.

There are several reasons for this.

Where governments engage in such

arrangements, strategic goods may be involved so that detailed trade data are not likely to be published. When trade returns compiled on a commodity basis, they do not usually differentiate between trade conducted under normal trading arrangements and counter trade. Counter trade in the form of buy – back arrangement often extends over several years making it difficult to estimate the annual volume of trade. One frequently mentioned estimate by the OECD is that up to 15 to 20 percent of the trade between East European and West European countries is in the form of counter – trade arrangement. Types of counter – trade: Types of counter – trade include: barter, counter purchase, compensation trade, switch trading offsets and clearing agreements.  Barter Counter – trade: This type of counter trade involves simultaneous exchange of products/services of equal value. For example, Chinese coal was exchanged for the construction of a seaport by the Dutch in China.  Counterpunches: Counter purchase involves two separate cash transactions which are equal in value. Money exchange takes place only in books of accounts. Thus, money does not need to change hands. For example, Brazil exports vehicles, steel and farm products to oil producing countries and buys oil in turn from them.  Compensation Trade: Under compensation trade one country exports machinery, builds factories in another country with an agreement to import the goods produced in the factories built by them in the second country.

A Japanese company sold sewing machines to China and

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5.3. FOREIGN EXCHANGE MARKET The subject of foreign exchange is, in the words of H.E. Evitt, “that section of economic science which deals with the means and methods by which rights to wealth in one country’s currency are 7

converted into rights to wealth in terms of another country’s currency.” As he Suggested observes, it “Involves the investigation of the method by which the currency of one country is exchanged for that of another, the causes which render such exchange necessary, the forms which such exchange may take, and the ratios or equivalent values at which such exchanges are effected.”

There are different interpretations of the term foreign exchange, of which the following two are most important and common: 1. Foreign exchange is the system or process of converting one national currency into another, and 9

of transferring money from one country to another (Dr. Paul Einzing) . 2. Secondly, the term foreign exchange is used to refer to foreign currencies. For example, the Foreign Exchange Regulation Act, 1973 (FERA) defines foreign exchange as foreign currency and includes all deposits, credits and balance payable in any foreign currency and any drafts, traveler’s cheques, letters of credits and bills of exchange, expressed or drawn in Indian currency, but payable in any foreign currency. Functions of foreign exchange market: The foreign exchange market is a market in which foreign exchange transactions take place – In other words, it is a market in which national currencies afe bought and sold against one another. A foreign exchange market performs three important functions: 1. Transfer of Purchasing power. The primary function of a foreign exchange market is the transfer of purchasing power from one country to another and forms one currency to another.

The

international clearing function performed by foreign exchange markets plays a very important role in facilitating international trade and capital movements. 2. Provision of Credit. The credit function performed by foreign exchange markets also plays as very important role in the growth of foreign trade, for international trade depends to a great extent on credit facilities. Exporters may get pre – shipment and post – shipment credit. Credit facilities are available also for importers. The Euro – dollar market has emerged as a major international credit market. 3. Provision of Hedging Facilities. The other important function of the foreign exchange market is to provide hedging facilities.

Hedging refers to covering of export risks, and it provides a

mechanism to exporters and importers to guard themselves against losses arising form fluctuations in exchange rates.

Dealings on the foreign exchange market: A very brief account of certain important types of transactions conducted in the foreign exchange market is given below.

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The term spot exchange refers to the class of foreign exchange transaction which requires the immediate delivery, or exchange of currencies on the spot. In practice, the settlement takes place within two days in most markets. The rate of exchange effective for the spot transaction is known as the spot rate and the market for such transactions is known as the spot market. The forward transaction is an agreement between two parties, requiring the delivery at some specified future date of a specified amount of foreign currency by one of the parties, against payment in domestic currency by the other party, at the price agreed upon in the contract. The rate of exchange applicable to the forward contract is called the forward exchange rate and the market for forward transactions is known as the forward market. Forward exchange rate: With reference to its relationship with the spot rate, the forward rate may be at par, discount or premium. At Par. If the forward exchange ate quoted is exactly equivalent to the spot rate at the time of making the contract, the forward exchange rate is said to be at per. At premium. The forward rate for a currency, say the dollar, is said to be at a premium with respect to the spot rate when one dollar buys more units of another currency, say rupee, in the forward than in the spot market. The premium is usually expressed as a percentage deviation from the spot rate on a per annum basis. At Discount. The forward rate for a currency, say the dollar, is said to be at discount with respect to the spot rate when one dollar buys fewer rupees in the forward than in the spot market. The discount is also usually expressed as a percentage deviation from the spot rate on a per annum basis. The forward exchange rate is determined mostly by the demand for a supply of forward exchange. Naturally, when the demand for forward exchange exceeds its supply, the forward rate will be quoted at a premium and, conversely, when the supply of forward exchange exceeds the demand for it, the rate will be quoted at discount. When the supply is equivalent to the demand for forward exchange, the forward rate will tend to be at par.

5.4. SWAP OPERATION Commercial banks who conduct forward exchange business may resort to a swap operation to adjust their fund position. The term swap means simultaneous sale of spot currency for the forward purchase of the same currency or the purchase of spot for the forward sale of the same currency. The spot is swapped against forward. Operations consisting of a simultaneous sale or purchase of spot currency accompanied by a purchase or sale, respectively, of the same currency for forward delivery, are technically known as swaps or double deals, as the spot currency is swapped against forward.

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5.5. DETERMINATION OF EXCHANGE RATES Purchasing Power Parity Theory: According to the purchasing power parity theory, put forward by Gustav Cassel in the years following the First World War, when the exchange rates are free to fluctuate, the rate of exchange between two currencies in the long run will be determined by their respective purchasing powers. In the words of Cassel, “the rate of exchange between two currencies must stand essentially on the quotient of 10

the internal purchasing powers of these currencies” . The essence of the theory is clearly expressed by Professor S.E. Thomas as follows: “while the value of the unit for one currency in terms of another currency is determined at any particular time by the market conditions of demand and supply, in the long run, that value is determined by the relative values of the two currencies as indicated by their relative purchasing power over goods and services (in their respective countries).

In other words, the rate of exchange tends to rest at that point which expresses

equality between the respective purchasing powers of the two currencies.

This point is called the

purchasing power parity”. Thus, according to the purchasing power parity theory, the exchange rate between one currency and another is in equilibrium when their domestic purchasing powers at that rate of exchange are equivalent. For example, assume that a particular bundle of goods in India costs Rs. 48.00 and the same in USA costs $1. Then the exchange rate will be in equilibrium if the exchange rate is $1 = Rs. 48.00. Once the equilibrium is established, the market forces will operate to restore the equilibrium if there are some deviations. For example, if the exchange rate changes to $1 = Rs. 50 when the purchasing powers of these currencies remain stable, dollar holder will convert dollars into rupees because, by doing so, they can save Rs. 2 when they purchase a commodity worth $1. this will increase the demand for the Indian currency and the supply of dollars will increase in the foreign exchange market and ultimately, the equilibrium rate of exchange will be re – established. A change in the purchasing power of currencies will be reflected in their exchange rates. The index number of prices may be made use of to determine the purchasing power parity. If there is a change in prices (i.e., the purchasing power of the currencies), the new equilibrium rate of exchange can be found out by the following formula. A ER = Er



Pd Pf

Where, ER

= Equilibrium exchange rate

= Exchange rate in the reference period

= Domestic price index

= Foreign country’s price index.

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Balance of payments theory: The balance of payments theory, also known as the Demand and Supply Theory and the General Equilibrium Theory of exchange rate, holds that the foreign exchange rate, under free market conditions, is determined by the conditions of demand and supply in the foreign exchange market. Thus, according to this theory, the price of a currency, i.e., the exchange rate is determined just like the price of any commodity is determined by the free play of the forces of demand and supply. The value of a currency appreciates when the demand for it increases and depreciates when the demand falls, in relation to its supply in the foreign exchange market. The extent of the demand for and supply of a country’s currency in the foreign exchange market depends on its balance of payments position. When the balance of payments is in equilibrium, the supply of and demand for the currency are equal. But when there is a deficit in the balance of payments, supply of the currency exceeds its demand and causes a fall in the external value of the currency; when there is a surplus, demand exceeds supply and causes a rise in the external value of the currency.

5.6. EXCHANGE CONTROL Exchange control is one of the important means of achieving certain national objectives like an improvement in the balance of payments position, restriction of inessential imports and conspicuous consumption, facilitation of import of priority items, control of outflow of capital and maintenance of the external value of the currency. Under the exchange control, the whole foreign exchange resources of the nation, including those currently occurring to it, are usually brought directly under the control of the exchange control authority (the Central Bank, treasury or a specially constituted agency). Dealings and transactions in foreign exchange are regulated by the exchange control authority.

Exporters have to surrender the foreign

exchange earnings in exchange for home currency and the permission of the exchange control authority have to be obtained for making payments in foreign exchange. It is generally necessary to implement the overall regulations with a host of detailed provisions designed to eliminate evasion.12 The allocation of foreign exchange is made by the exchange control authority, on the basis of national priorities. Though the exchange control is administered by a central authority like the central bank, the day – to – day business of buying and selling foreign exchange is ordinarily handled by private exchange dealers, largely the exchange departments of commercial banks.

For example, in India there are

authorized dealers and money changers, entitled to conduct foreign exchange business. (i)

Protection of Balance of Payments. One of the important objectives of exchange control is protection of balance of payments. When the balance of payments deficit of a nation becomes large an chronic an its automatic correction is not possible, certain active measures have to be adopted. In normal times the adverse balance of payments caused value of country's currency to fall and helps in restoring equilibrium. But there are

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conditions under which a fall in the exchange value and currency has no effect on imports and exports. Under such situations, measures are adopted to stabilize the exchange value of currency at level higher than would b possible under free conditions. (ii)

Reducing Burden of Foreign Debt. The exchange value of a currency is sometimes fixed and maintained at higher level to lighten the burden of foreign debts contracted in terms of foreign currencies. By overvaluing currency, the foreign exchange earnings of the country from exports are increased in cases where the demand is inelastic and the prices in terms of the home currency to be paid for essential imports get reduced.

(iii)

Raising the Level of Prices. Sometimes the currency is undervalued to help in raising certain conditions in thought desirable to stabilize the exchange rate at what can be called the equilibrium level, i.e., the level determined by market forces. Short-term fluctuations are eliminated by deliberate action of authorities.

(iv) Elimination of Short-term Fluctuations in Exchange Rate. Exchange regulation in certain conditions is thought desirable to stabilize the exchange rat at what can be called the equilibrium level, i.e., the level determined by market forces. Short-term fluctuations are eliminated by deliberate action of authorities. (v) Prevention of Export of Capital. When the country suffers from exceptionally heavy outflow of capital caused by loss of confidence on the part of nationals of the country or foreigners in the economy of the country or its currency, certain exchange controls over remittances from and the country are necessary. (vi) Economic Planning. Exchange control is an important part of economic policy in any planned economy. Planning involves a very careful use of foreign exchange resources of the country so that only those goods are imported which are essential for the implementation of the plans. Exchange controls are resorted to regular the exports and imports in the light of plans. (vii) Encouragement of Certain Economic Activities. One of the objectives of exchange regulations is to encourage certain economic activities in the country. Certain industries can be developed by reducing the imports of commodities produced by them and restricting the availability of foreign exchange to pay for them. For example tourist traffic in the country is encouraged by making available to the tourists home currency at favourable rates. Different methods are adopted by Governments to ensure that suitable foreign exchange controls imposed and operated for the achievement of the desired objectives. Foreign exchange control was introduced in India in 1939 at the outbreak of World War II-as a measure under the Defence of India Rules. The primary objective of this control was to conserve foreign exchange resources of the country for

obtaining

necessary

raw

materials.

It was taken as a temporary device to meet the situation created by war. But since then the

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country has almost throughout faced the problem of foreign exchange deficit. The authorities, therefore, had to continue with the foreign exchange control. In the year 1947 the Foreign Exchange Regulation Act was passed which has been replaced by Foreign Exchange Regulation Act 1973. (FERA). The exchange regulation and control has acquired a special meaning and significance in the context of planning of India. The imports of capital goods, components and raw materials for the developmental programmes of the country have necessitated large borrowings from other countries to finance them. The growing demand for imports and the servicing of foreign debt have made payment restrictions increasingly important. It is because of this that some system of exchange control to keep our external finance is sound condition is necessary. Control and regulation of old transactions involving foreign exchange, movements of capital from and to the country and exports and imports of currency, bullion, and precious stones have come to acquire a special importance in the economy of the country. There is an elaborate machinery to effectively operate the exchange control and regulation in the country. The machinery comprises the authorities empowered to regulate foreign exchange transactions and to enforce the provisions of Foreign Exchange Regulation Act and to deal with any infringements of the provisions. The dealers authorized to deal in foreign exchange under the control system are also important parts of the machinery. Exchange control in India is administered by the Reserve Bank of India in accordance with the general policy laid down by the Union Government in consultation with the Reserve Bank. Authorized dealers are expected to purchase and sell foreign currencies in accordance with the Regulations. Fixed exchange rates: Countries following the fixed exchange rate (also known as stable exchange rate and pegged exchange rate) system agree to keep their currencies at a fixed, pegged rate and to change their value only at fairly infrequent intervals, when the economic situation forces them to do so. Under the gold standard, the values of currencies were fixed in terms of gold.

Until the

breakdown of the Bretton Woods System in the early 1970, each member country of the IMF defined the value of its currency in terms of gold or the US dollar and agreed to maintain (to peg) the market value of its currency within ± 1 per cent of the defined (par) value. Following the breakdown of the Bretton Woods System, some countries took to managed floating of their currencies while a number of countries still embraced the fixed exchange rate system. Flexible exchange rates: Under the flexible exchange rate system, exchange rates are freely determined in an open market primarily by private dealings, and they, like other market prices, vary from day – to – day. Under the flexible exchange rate system, the first impact of any tendency towards a surplus or deficit in the balance of payments is on the exchange rate. A surplus in the balance of payments will create an excess demand for the country’s currency and the exchange rate will tend to rise. On the other hand, a deficit in the balance of payments will give rise to an excess supply of the country’s currency and the exchange rate will, hence, tend to fall.

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Automatic variations in the exchange rates, in accordance with the variations in the balance of payments position, tend to automatically restore the balance of payments equilibrium. A surplus in the balance of payments increases the exchange rate. This makes foreign goods cheaper in terms of the domestic currency and domestic goods more expensive in terms of the foreign currency. This, in turn, encourages imports and discourages exports, resulting in the restoration of the balance of payments equilibrium. On the other hand, if there is a payments deficit, the exchange rate3 falls and this makes domestic goods chapter in terms of the foreign currency and foreign goods more expensive in terms of the domestic currency. This encourages exports, discourages imports and thus helps to establish the balance of payment equilibrium. Theoretically, this is how the flexible exchange rate system works. 5.7. QUESTIONS Section – A Short questions 1. What is counter trade? 2. What are SWAP operations? 3. State the objectives of exchange control 4. Differentiate fixed exchange rates and flexible exchange rates Section – B Small answer type 1. How do you determine the exchange rates? 2. Discuss the various types of counter trade 3. Briefly describe the various reasons for growth in counter trade Section – C Essay type questions 1. How is foreign exchange market regulated? 2. Discuss counter trade and its regulations in the exchange market 5.8. SUGGESTED READINGS 1. Francis Cherunilam – International trade and Export – Himalaya publishing House 1999. 2. Sak Onkvisit and John Shaw – International Marketing – Prentice Hall India. 3. John D.Daniels and Lee H. Radebaugh – International business – Pearson education Asia

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CHAPTER - 06 NETWORKING TECHNOLOGIES AND INTERNATIONAL TRADE STRUCTURE

6.0. OBJECTIVES 6.1. CONTROLLABLE AND UNCONTROLLABLE FACTORS 6.2. THEORIES OF ECONOMIC TRADE AND INTERNATIONAL DEVELOPMENT 6.3. IMPACT OF NETWORKING TECHNOLOGIES ON COMMERCE 6.4. INTERNET PROTOCOL 6.5. WEB CLIENT AND SERVERS 6.6. INTERNETS AND EXTRANETS 6.7. BUSINESS MODELS 6.8. QUESTIONS 6.9. SUGGESTED READINGS

6.0. OBJECTIVES After studying this unit, you should be able to understand 

Controllable and uncontrollable factors



Theories of Economic trade and international development



Impact of networking technologies on commerce



Internets and extranets



Business models and selling strategies on the web

6.1. CONTROLLABLE AND UNCONTROLLABLE FACTORS Business environment is governed by two factors. (i) Internal factors and (ii) External factors. Internal factors are the ones which are well within the control of the business entity. Therefore they are called "Internal factors." These factors are: 1. Business philosophy and objectives of the enterprise; 2. Business policies and practices; 3. Organization structure; 4. Management's thoughts; 5. The identity of human resources at work with the organisation; 6. Infrastructural facilities of the business possess in the form of physical assets, production capacity,technology, marketing facilities, R&D capabilities, financial strength of the firm etc.

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All these factors influence greatly the business operations. Anyone or some of these factors may disturb the growth of the firm. As they are controllable, the firm can take corrective measures as and when these factors go out of control. External Factors: External factors are categorized as "uncontrollable" and are of two types (i)

Micro environment

(ii)

Macro environment.

"Macro environment consists of the factors in the company's immediate environment." These factors will have impact on the performance of the business firm. The factors are: (i) Suppliers (ii) Marketing agents (iii) Rivals in the business (iv) Consumers and (v) People These factors play their role in their own way. Supplies for production process should be continuous and should be cost-effective. Producers have to maintain alternative supply sources. The inputs like raw material, labour, power etc. should be continuously supplied. Otherwise business activity is affected. Therefore supply management is very essential. "Company purchasing agents are learning how to 'wine and dine' suppliers to obtain favorable treatment during periods of shortages. In other words, the purchasing department might have to 'market' itself to suppliers." But the business should bear these risks and operate successfully.

6.2. THEORIES OF ECONOMIC TRADE AND INTERNATIONAL DEVELOPMENT 6.2.1. Development Theories: Development theories seek to explain how sources of growth can be integrated into a transformation process that produces sustained increases in living standards. The development theories are in the form of: –

Formal economic models – graphical or mathematical

–

Descriptive – stages or structural changes that countries tend to experience as development proceeds

–

Identification and examination of the role of international relations and their impacts on growth prospects of LDCs

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6.3. IMPACT OF NETWORKING TECHNOLOGIES ON COMMERCE E-Commerce: Electronic Commerce (EC) is the paperless exchange of business information using Electronic Data Interchange (EDI) and related technologies. Electronic Mail (E-Mail), computer bulletin boards, facsimile machines (faxes), Electronic Funds Transfer (EFT) are all forms of EC. All EC systems replace all or key parts of paper-based work flow with faster, cheaper, more efficient, and more reliable communications between machines. In today's Defence Department procurement arena, however the most important EC technology to know about is Electronic Data Interchange, or EDI. All these networking technologies turbulently changed the today business scenario. In present scenario E-Commerce is playing very essential role in the online business. Although it is one of the best & cheapest intermediate for reaching out to new customers in the online market, if ecommerce implemented effectively, it also offers a smart way of doing online business & expanding it more. An online business eCommerce podium is planned & implemented to make the most of its reach to potential customers and provide them with a convenient, satisfying & protected shopping experience.

Advantages of E-Commerce To The Online Business: 

E-Commerce helps to Increase the sales revenue to the business



Business people can spend less money and earn high profits with e-commerce



It is very Easier to scale up online



Easily we can track the segment of customers who are happy with purchasing goods through online



Avoid losing sales to competitors who are online



Instantaneous global sales presence in quick time



We can Operate the business in 24 *7 basis



Easily we can increase our business customers



We set up shop anywhere in the world, self-governing of geographical locations



Inexpensive way to turn your Web site into a revenue center



Reduce Customer Support costs via e-mail marketing & customary newsletters



We can create customized mailing list



Easily we can drive free traffic to the website



Instantly we can develop our business across the internet by using various e-commerce strategies



Customers can easily buy their products by using different payment gateways



Develop more shopping carts by using e-commerce



We can easily promote our business website by using various promotional activities such as Search Engine Optimization, Pay Per Click Management, Email Marketing, Social Media Optimization, Online Banner Advertisement, Online Branding and Affiliate Management etc

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E -Commerce in Present Scenario: E-commerce as well known as electronic commerce generally refers to selling your products and services over the Web. Electronic Commerce simply means buying and selling of goods and services across the Internet using web sites. The benefits are often viewed from views such as benefits to organizations, benefits to consumers and benefits to the society at large. The benefits of E-Commerce for your include nominal costs, faster and more efficient processes and expanded markets. By using e-commerce solutions, you can offer customers convenient shopping methods, maintain strong customer relationships, and Stay competitive ahead. This is one of the easier methods to capture online customers. The Asia Pacific is home to two-third of the world’s population presenting a large and lucrative ecommerce market. Some countries in the region have documented this opportunity and have taken the lead role and are now some of the influential in e-commerce from the world outlook. An ecommerce site can be as simple as a telephone index, can range all the way to a real time credit and processing site where customer can purchase downloadable goods and receive them on the spot. The region being so diverse in many aspects presents certain challenges in the implementation of a successful e-commerce strategy. In spite of these challenges there are economies in the region that are so well advanced in the deployment of e-commerce strategies while at the same there are still economies in the region that are yet to fully enjoy the benefits of e-commerce in either the supply and consumption chain. The available evidence suggests that there is indeed a divide emerging between Asia Pacific member countries in so far as e-commerce initiatives are concerned. E-Business is the formation of new, and the Redesigning of obtainable value chains and business procedures by way of the application of information technology. E-Business is actually more than ecommerce. It in turn expands the extent of e-commerce to change the company and the industry itself Electronic data interchange: The term electronic data interchange has many definitions.

American National Standards

Institute (ANSI) has defined it as: “Electronic Data Interchange (EDI) is the transmission, in a standard syntax, of unambiguous information of business or strategic significance between computers of independent organisations”.

Electronic Data Interchange is the transfer of business documents, such as purchased orders and invoices, between computers as per a set of standards.

EDI do not have to change their internal

databases. However, users must translate this information to or form their own computer system formats, but this translation software has to be prepared only once. Thus, EDI is a tool for business – to business communication. In simple terms, EDI is compute – to – computer communication using a standard data format to exchange business information electronically between independent organisations. The goal of EDI is the elimination of paper work and increased response time. E – commerce, on the other hand, is

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a concept reflective of the infrastructure and technology available for conducting business using the electronic media. E – Mail: E – Mail is “the exchange of text message and computer files over a communication network such as a local area network or the Internet, usually between computers or terminals.” It is also defined as “an electronic text message”. Communication is the basis of tall businesses. “The internet breaks into the traditional communication markets. Postal service and telecommunications companies are losing market share to the electronic communication, especially e – mail. E – mail combines the strengths of phone calls and letters. The advantage of a phone call is its immediacy and the letter has the advantage that everything is in written form. The internet enables instant communication in written form, either by 3 – mail or online chat.” “More and more businesses are talking digitally to each other. Other than a phone call, e – mails can contain more than just the text.

It is possible to attach files, which may, for example, contain

formatted documents, presentations, images or sounds. Information can be shared much more easily.” Internet is “the world wide collection of networks and gateways that use the TCP/IP suite of protocols to communicate with one another. At the heart of the internet is a backbone of high – speed data communication lines between major modes or host computers, consisting of thousands of commercial, government, educational and other computer systems, that route data and messages. On or more internet nodes can go off line without endangering the internet as a whole or causing communications on the Internet to stop.”

6.4. INTERNET PROTOCOL The Internet Protocol (IP) is a protocol used for communicating data across a packet-switched internet work using the Internet Protocol Suite, also referred to as TCP/IP. IP is the primary protocol in the Internet Layer of the Internet Protocol Suite and has the task of delivering distinguished protocol datagram (packets) from the source host to the destination host solely based on their addresses. For this purpose the Internet Protocol defines addressing methods and structures for datagram encapsulation. The first major version of addressing structure, now referred to as Internet Protocol Version 4 (IPv4) is still the dominant protocol of the Internet, although the successor, Internet Protocol Version 6 (IPv6) is being deployed actively worldwide. Services Provided By IP: IP can be used over a heterogeneous network, i.e., a network connecting computers may consist of a combination of Ethernet, ATM, FDDI, Wi-Fi, token ring, or others. Each link layer implementation may have its own method of addressing (or possibly the complete lack of it), with a corresponding need to resolve IP addresses to data link addresses. This address resolution is handled by the Address Resolution Protocol (ARP) for IPv4 and Neighbor Discovery Protocol (NDP) for IPv6.

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The design principles of the Internet protocols assume that the network infrastructure is inherently unreliable at any single network element or transmission medium and that it is dynamic in terms of availability of links and nodes. No central monitoring or performance measurement facility exists that tracks or maintains the state of the network. For the benefit of reducing network complexity, the intelligence in the network is purposely mostly located in the end nodes of each data transmission, cf. end-to-end principle. Routers in the transmission path simply forward packets to next known local gateway matching the routing prefix for the destination address.

6.5. WEB CLIENT AND SERVERS In computing, a client-server protocol is a protocol in which there is a single server which listens for connections, usually on a specific port (if this is TCP, UDP, or a similar protocol), and one or more clients which connect to it. Client-Server Protocol is one of three basic groups of NOSs' (Network Operating System). The Protocol enables one machine to be dedicated to resources. The machine had a dedicated NOS optimized for sharing files. The highly specialized OS has an extensive powerful cache to enable highspeed file access. There is an extremely high level of protection and organization that permits extensive control of data. This machine is called a dedicated server. All of the machines that access the server are called clients or workstations.The most current NOS available that most closely adheres to the definition of Client/Server Networks is Novell Netware.

6.6. INTERNET INTRANET AND EXTRANET The term "intranet" is somewhat misleading conceptually, because it invites a contrast to the term "Internet." The real contrast is with the World Wide Web--an important distinction, because "Internet" focuses on physical and technical networks, while the Web focuses on the set of content accessible on that physical and technical infrastructure. When I coined the term "IntraNet" at Amdahl Corp. in the summer of 1994, it did have the connotation of an internal Web rather than just an internal Internet. In fact, the term we used internally before this was the too-cumbersome "Enterprise-Wide Web." So, while the ambiguity of "intranet" was apparent even back then, for lack of a better alternative, it caught on. Internet is "An infrastructure based on Internet standards and technologies that supports sharing of content within a limited and well-defined group." The "infrastructure" referred to the organizational and management infrastructure that created, managed, and shared the content. The only technical constraint was that the physical network be based on the Internetworking Protocol (IP). It is noticed that the definition encompasses what we call extranets today, because the defining factor is a "limited and well-defined group," and does not specify any official organizational affiliation. The Web, in contrast, is an unlimited group.

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An intranet is a set of content shared by a well-defined group within a single organization. An extranet is a set of content shared by a well-defined group, but one that crosses enterprise boundaries. These access distinctions are important, because Web-based content uses the same technical infrastructure regardless of access decisions. This means it is much easier to change access to specific content than it was in the old proprietary world,where making something more widely available often entailed a major conversion effort. As technical infrastructure becomes less of a barrier to accessing specific content, it becomes important to pay attention to how, or if, we want to restrict access. The terms "intranet" and "extranet," as imperfect as they are, provide us with conceptual and pragmatic tools for discussing to whom we want to make specific content available. These terms may continue to evolve in meaning. For now, a set of content accessed by members of a single organization is an intranet, even if the information travels across the public Internet infrastructure.

6.7. BUSINESS MODELS E - Business - Conceptual analysis: E – Business can be divided into three areas.

They are: (a) Within the organisations, (b)

Business – to – business (B2B) dealings and (c) business – to – customer (B2C) transactions. (a) Within the organisations E – Business within the organisation used the Intranet. The intranet uses Internet standards for electronic communication. People on the Intranet are able to see organisation – specific web sites. Because of the firewalls and other security measures outsiders cannot have access to these Organisation – specific Intranet web sites. The intranet web sites allow the employees to obtain information and place orders online. Depending on the security policies of the organisation or company, people may be allowed to connect over the Internet via virtual private networks (VPN) to the Intranet using encryption lines and strong authentication for identification purposes. (b) Business – to – Business (B2B) Dealings: The second area is the business – to – business (B2B) dealings. Business – to – Business (B2B) dealings take p[lace over the Extranet. “The Extranet consists of two Intranets connected via the Internet, whereby two organisations are allowed to see confidential data of another.” Normally, only that much information which is necessary for the business to take place is made available to the partner over the extranet. Business – to – Business networks have existed long before the Internet came into use. Many organisations have had used private networks to deal with their business partners. But maintaining the private networks proved too expensive to the business concerns. Costs of usage of business – to – business solutions trough the Internet have come down dramatically. Use of virtual private networks (VPNs) keeps the costs low at the same time keeping the business transactions private.

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(c) Business – to – Customer (B2C) Transactions: The third are of 3 – business is business – to – customer transactions. This is selling the goods and services through the internet to the4 innumerable customers spread all over the world. In this, business concerns establish virtual shops and offer goods and services to whoever visits their web sites. “Traditionally this is what most people know as 3 – commerce; selling products on the web”. Global business context: Multinational and translational companies by using the operation of e – business can arrange for production of some components/parts in one country and other components in other countries. These production activities in various countries and final assembling of the product in the third country can be co – ordinated more efficiently through e – business operations. In fact, the finished goods or finally assembled products can be shipped directly to the market. E – Business Categories: Electronic business is a super – set of business cases. Commerce is one of the aspects of e – business. Some other important aspects of which are successfully carried through the internet are e – auctioning, e – engineering, e – franchising, e – gambling, e – learning, resource management, e – supply and

E –

e – business,

e – banking, e – directories,

e – mailing, e – marketing, e – operational

e – trading.

Those aspects of business, which are digitized, work well on the Internet. 6.8. QUESTIONS Section - A Short questions 1. What are external factors that influence the international business? 2. What are servers? Discuss its importance in networking 3. How do you do trade through e commerce?

Section - B Small answer type 1. Differentiate intranet and extranet 2. Describe controllable and uncontrollable factors and their influence in the business 3. What are web client and servers? Explain Section – C Essay type questions 1. Describe the impact of technologies in commerce 2. Describe internet protocols in detail

6.9. SUGGESTED READINGS: 1. Francis Cherunilam – International trade and Export – Himalaya publishing House 1999. 2. Sak Onkvisit and John Shaw – International Marketing – Prentice Hall India.

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INTERNATIONAL TRADE MANAGEMENT 3. John D.Daniels and Lee H. Radebaugh – International business – Pearson education Asia

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CHAPTER - 07 MULTINATIONAL CORPORATIONS AND INTERNATIONAL TRADE STRUCTURE 7.0. OBJECTIVES 7.1. MULTI NATIONAL CORPORATION CONCEPTS 7.2. STRATEGY AND ORGANISATION 7.3. MNC AND MARKETING MANAGEMENT 7.4. TECHNOLOGY AND MNC 7.5. QUESTIONS 7.6. SUGGESTED READINGS:

7.0. OBJECTIVES After studying this unit, you should be able to understand: 

Multi national corporation concepts



Strategy and organization



MNC and marketing management



Technology and MNC



UN code of conduct of MNCs

7.1. MULTINATIONAL CORPORATION (MNC) MNC is an organisation doing business in more than one country. 7.1.1. Factors Considered For Growth of MNC: i. Expansion of market territory ii. Market superiorities Up to date information Market reputation Fewer difficulties in marketing Effective advertising iii. Financial superiorities Technological superiorities Product innovation 7.1.2. Advantages of MNC to host country: 

Investment level, employment level and income level will increase

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Level of industrial and economic development



Level of technology



Level of management techniques



More competition



R&D



Foreign culture



Reduction in imports and increase in exports



Foreign exchange

7.1.3. Advantages of MNC to home country: 

Marketing of home country products in the entire world



Employment opportunities both home and abroad e.g. Hyundai



Industry activity fully accelerated



Knowledge of foreign culture



Favourable balance of payments

7.1.4. Disadvantages of MNC to Host Country: 

Functioning of host country Government will be affected I It won’t operate with in national boundary)



MNC will kill domestic products (e.g. Parle products taken over by coke)



The national resources will be exploited quickly



Payment of dividends and royalty to MNCs Economic structure will be affected It will invest in high profit sectors only



Political interference



Technology transfer and implications Not relevant to host country

7.1.5. Disadvantages of MNC To Home Country: 

MNCs transfer capital from home country to other countries



MNCs neglect the industrial and economic development of home country



MNCs may bring foreign culture which may be detrimental to the culture of the country

7.2. ORGANISATION DESIGN AND STRUCTURE OF MNCS Organisations are usually framed to satisfy objectives that can be collectively met Argyris Vertical Differentiation: 

Concerned with where decisions are made. o



Where is decision-making power concentrated?

Two Approaches o

Centralization

Decentralization

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Centralization -Pros: 

Facilitate coordination.



Consistency of decisions.



Easier to make changes.



Avoids duplication.

Centralization -Cons: 

Overburdened top management.



Motivational research favours decentralization.



Decentralization permits flexibility.



Decentralization lets decisions be made closer to the information source.



Decentralization can increase control.

Strategy and Centralization: 

Global strategy - centralization.



Multi-domestic firms - decentralization.



International firms - centralize for core competencies (R&D) and decentralize for operating decisions.



Transnational - use both.

7.2.1 STEPS IN DESIGNING ORGANISATION STRUCTURE Analysis of present and future circumstances and environmental factors -

External environment

Over all aims and purpose of the enterprise

Objectives (Specific aim)

Activities (Functions and how to achieve the objectives)

Decisions

Relationship

Organisation structure and climate

Management style (leadership)

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7.2.2. Approaches to Organisation Structure In MNC

1. Product Organisation Structure CMD / CEO

Head Quarters level managers

Product A

Product B

Product C

Product D

Product E Product F

Advantages a. More appropriate than functional organisation b. Coordination is good c.

No involvement of top management and no delay

d. Responsibility and accountability are clearly fixed Disadvantages a. Unnecessary duplication b. No specialisation (decentralised) c.

Some decisions like pay, promotion, product quality may be inconsistent (no uniformity)

d. Inter developmental conflicts regarding sharing of resources

2. Geographical Organisation structure CMD / CEO

Head Quarters level managers

Africa

Asia Europe

North America

South America

Sales

Australia

Production

Advantages a. Products and services are better designed based on culture and climate b. A geographical structure allows the firm to respond to the technical needs of different areas c.

Opportunity to serve the customers in a better way

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d. To adopt varying legal systems e. To pinpoint the responsibility for profit and loss Disadvantages a. More functional personnel are required b. Duplication of equipments and facilities c.

Coordination of company wide activities would be difficult

d. No uniformity e. Another layer of geographic units 3. Decentralised Business Unit Structure CMD / CEO

Chief Manager X

Product A

Chief Manager Y

Product B

Product C

Chief Manger Z

Product D

HRM

Product E Product F

R&D

Advantages a. Diversification generally managed by decentralisation b. Each unit is managed by entrepreneurially oriented General Manager c.

Each business unit operates as stand alone profit centre

Disadvantages a. Lack of coordination b. No control 4. Strategic Business Unit Structure CMD

Head Quarters level functional managers

Group Manager SBU I

Group Manager SBU II

Group Manger SBU III

Strategically related

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Business Unit A strategic business unit is a grouping of business subsidiaries based on some strategic elements common to each. The common elements may be overlapping set of competitors, strategic mission etc. Advantages a. Reduction of corporate head quarters span of control b. Better coordination c.

Strategic management at all levels

d. Helps to allocate corporate resources e. Business units are organised based on strategically relevant method. Disadvantages a. More distance between head quarters and the division b. Conflicts between strategic business unit managers c.

Corporate portfolio analysis is complicated in this structure

7.3. STRATEGIES IN INTERNATIONAL BUSINESS AND MARKETING MANAGEMENT Profiting from Global Expansion 

International firms can:



Earn a greater return from distinctive skills or core competencies.



Realize location economies by dispersing value creation activities to locations where they can be performed most efficiently.



Realize greater experience curve economies, which reduce the cost of value creation.

When making location decisions: 

Consider trade barriers and transportation costs.



Assess political and economic risks

Experience Curve Economies 

Learning Effects: Labour productivity increases over time as individuals learn the most efficient ways to perform particular tasks.



Economies of Scale: Reductions in unit cost achieved by producing a large volume of a product.



Strategic Significance: Moving down the experience curve allows a firm to reduce its cost of creating value.

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The Experience Curve Unit Costs

Accumulated Output

Note: Moving down the curve reduces the cost of creating value Firms Face Two Conflicting Concepts (Pressures) Overseas 

Reduce costs.



Be responsive to local needs.

Cost Reduction 

Desire to reduce costs by - Mass production - Product standardization. - Optimal location production.



Hard to do with commodity-type products. o

Products serving universal needs.

Also hard where competition is in low cost producing location.

Finally, int’l competition creates price pressures.

Local Responsiveness 

Different consumer tastes and preferences.



Different infrastructure and practice.



Differences in distribution channels.



Government demands.

5 Strategic Choice - Four basic strategies: I. International strategy. II. Multidomestic strategy. III. Global strategy. IV. Tran’s national strategy.

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1. International strategy. 

Go where locals don’t have your skills.



Little adaptation. Products developed at home (centralization).



Manufacturing and marketing in each location.



Makes sense where low skills, competition, and costs exist.

2. Multi-domestic Strategy 

Maximize local responsiveness. o

Customize the product and marketing strategy to national demands.



Skill and product transfer.



Transfer all value-creation activities, no experience curve rewards.



Good for high local responsiveness and low cost reduction pressures.

3. Global Strategy 

Best use of the experience curve and location economies.



This is the low cost strategy.



Utilize product standardization.



Not good where local responsiveness demand is high.

4. Trans national Strategy 

Christopher Bartlett and Sumantra Ghoshal



Core competencies can develop in any of the firm’s worldwide operations.



Flow of skills and product offerings occurs throughout the firm - not only from home firm to foreign subsidiary (global learning).



Makes sense where there is pressure for both cost reduction and local responsiveness.

Advantages and disadvantages of the Strategies Strategy Global International

Multidomestic

Transnational

Advantage Exploit experience curve effects Exploit location economies Transfer distinctive Competencies to Foreign Markets Customise product offerings and Marketing in accordance with local responsiveness Exploit experience curve effects Exploit location economies Customise product offerings and Marketing in accordance with local responsiveness Reap benefits of global learning

Disadvantage Lack of local responsiveness Lack of local responsiveness In ability to realize location economies Failure to exploit experience curve effects Inability to realise location economies Failure to exploit experience curve effects Failure to distinctive competencies to the foreign market Difficult to implement due to organisational problems

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7.3.1. Market entry strategies: 1. Exporting: It means the sale abroad of an item produced, stored or proposed in the supplying firmâ&#x20AC;&#x2122;s home country. It is a convenient method to increase the sales. Passive exporting occurs when a firm receives canvassed them. Active exporting controversy results from a strategic decision to establish proper systems for organising the export functions and for procuring foreign sales. Types of exports a. Indirect exports b. Direct exports c. Intra â&#x20AC;&#x201C; corporate transfers e.g. HLL and Unilever of UK Advantages of Exporting 1. Need only limited finance 2. Less risks 3. Motivation for exporting 2. Licensing: In this mode of entry the domestic manufacturer leases the right to use his intellectual property, copyrights, brand name to a manufacturer in a foreign country for a fee. Here the manufacturer in the domestic country is called licensor and the manufacturer in the foreign country is called licensee. The cost of entering market through this mode is less costly. The domestic company can choose any international location and enjoy the advantages without incurring any obligations of ownership, managerial, investment etc. Advantages 1. Low investment on the part of the licensor 2. Low financial risk to the licensor 3. Licensor can investigate the foreign market without many efforts on his part. 4. Licensee gets the benefits with less investment on research and development 5. Licensee escapes himself from the risk of product failure Disadvantages 1. It reduces market opportunities for both 2. Both the parties have to maintain the product quality and promote the product. Therefore one party can affect the other party through their improper acts 3. Chance for misunderstanding between parties 4. Chance for leakages of the trade secrets of the licensor 5. Licensee may develop his reputation 6. Licensee may sell the product outside the agreed territory and after the expiry of the contract 3. Franchising

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Under franchising an independent organisation called the franchisee operates the business under the name of the franchiser under the agreement and the franchisee pays the fee to the franchiser for franchise. The franchiser provides following services to the franchisee a. Trade marks b. Operating system c. Product reputations d. Continuous support system like advertising, employee training, quality assurance etc. Advantages 1. Low investment and low risk 2. Franchiser can get information regarding the market culture, customs and environment of the host country. 3. Franchiser learns more from the experience of franchisees 4. Franchisee gets benefits of R& D with low cost 5. Franchisee escapes from the risk of product failure Disadvantages 1. It may be more complicating than domestic franchising 2. It is difficult to control the international franchisee 3. It reduce the market opportunities for both 4. Both the parties have to maintain the product quality and promote the product. Therefore one party can affect the other party through their improper acts 5. There is a problem of leakage of trade secrets 4. Contract Manufacturing: Some companies outsource the part of or entire production and concentrate on marketing operations. This practice is called the contract manufacturing or outsourcing. Advantages 1. It can focus on the part of the value chain where it has distinctive competence 2. It reduces the cost of production as the host country’s companies with their relative cost advantages produce at low cost 3. Small and medium industrial units in the host country can also develop as most of the production activities take in these units 4. The international company gets the locational advantages generated by the Host country’s production Disadvantages 1. Host countries may take up the marketing also, hindering the interest of the international company 2. Host country’s companies may not strictly adhere to the production design, quality standard etc. These factors results in quality problems, design problems etc.

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1. The poor working conditions in the country may affect the image. 5. Management Contract The companies with low level technology and managerial expertise may seek the assistance of a foreign company. Then the foreign company may agree to provide technical assistance and managerial expertise. This agreement between these two companies is called management contract. For the assistance and expertise provided by the foreign company it may charge a fee. Advantages 1. Foreign company earns additional income without any additional investment, risks 2. This agreement and additional income allows the company to enhance its image among the investors and mobilise funds for expansion 3. It helps the companies to enter other business areas in the host country. 4. The companies act as dealer for the business of the host country business in the home country Disadvantages 1. Sometimes the companies allow the companies in the host country even to use their trademarks and brand name. The host country companies spoil the brand name of the home country companies 2. The host country companies may leak the secrets of technology

6. Turnkey Project A turnkey project is a contract under which a firm agrees to fully design, construct and equip a manufacturing/ business /services facility and turn the project over to the purchase when it is ready for operation for a remuneration like a fixed price e.g. Nuclear power generation projects. 7. Green Field Strategy It is starting of a company from the scratch in he foreign market. It involves market survey, selection of location, make or buy decision, eructing of the organisation, recruitment of human resource and starts the operations and marketing activities. Advantages 1. The company selects the best location from all view points 2. The company can avail the latest models of the building, machinery and equipment technology 3. The company can also have its own policies and styles of HRM 4. It can avoid the cultural shock Disadvantages 1. The longer gestation period as the successful implementation takes time and patience 2. Some companies may not get the land in the location of its choice 3. The company has to follow the rules and regulations imposed by the host countryâ&#x20AC;&#x2122;s Government

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8. Mergers and Acquisitions A domestic company selects a foreign company and merge itself with the foreign company in order to enter international business. Alternatively the domestic company may purchase the foreign company and acquires the ownership and control it. It provides immediate manufacturing facilities and marketing network. Advantages 1. The company immediately gets the ownership and control over the acquired firm. 2. The company can formulate international strategy and generate more revenues 3. If the industry already reached the stage of optimum capacity level or overcapacity level in the host country. This strategy helps the host country. Disadvantages 1. Acquiring a firm in a foreign country is a complex task involving bankers, lawyers, M&A specialists etc 2. This strategy adds no capacity to the industry 3. Sometimes host countries imposed restrictions on acquisition of local companies by the foreign companies 4. Labour problem and political threat 9. Joint Ventures Two or more firm join together to create a new business entity that is legally separate and distinct from the partners. It involves sharing of ownership, various environmental factors like socio-cultural, political, technical and cultural aspects e.g. Hero – Honda, Maruti – Suzuki, TVS – Suzuki. Advantages 1. Large capital and other resources 2. Risk being spread among all partners 3. Provides skills and knowledge development 4. It makes large projects and turnkey projects feasible and possible 5. Synergy advantage] Disadvantages 1. Conflict may arise between the partners 2. Delay in decision making when dispute arises 3. Lifecycle of a joint venture is hindered by many causes of collapse. 4. Entry of new competitors 5. Changes in business environment may collapse the joint venture 6. Today’s partners may become tomorrow’s competitors 7. Changes in partners’ style

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7.4. TECHNOLOGY AND MNC 7.4.1 Transfer of Technology: One of the important ways by which MNCs can contribute to the development of the host countries is by transfer of technology to them. A general complaint, however, is that the required technology transfer to the developing countries is not taking place. When the technology transfer by the MNCs is internalized it does not help the domestic firms much. Technology transfer is the process by which commercial technology is disseminated. This will take the form of a technology transfer transaction, which mayor may not be a legally binding contract,2° but which will involve the communication, by the transferor, of the relevant knowledge to the recipient. Among the types of transfer transactions that may be used, the Draft TOT Code by UNCTAD has listed the following: (a) The assignment, sale and licensing of all forms of industrial property, except for try marks, service marks al1d trade names when they are not part of transfer of techno transactions; (b) The provision of know-how and technical expertise in the form of feasibility study plans, diagrams, models, instructions, guides, formulae, basic or detailed engineer designs, specifications and equipment for training, services involving technical advise and managerial personnel, and personnel training; (c) The provision of technological knowledge necessary for the installation, operation a functioning of plant and equipment, and turnkey projects; (d) The provision of technological knowledge necessary to acquire install and us e machine equipn1ent, intermediate goods and/or raw materials which have been acquired Purchase’s, lease or other means; (e) The provision of technological contents of industrial and technical cooperate arrangements. The list excludes non-commercial technology transfers, such as those found in international cooperation agreements between developed and developing states. Such agreements may related to infrastructure or agricultural development, or to international cooperation in the fields of reason education, employment or transport. Broadly, there are two forms of TT, viz., internalized and externalized forms of technology transfer. Internalised forms refer to investment associated TT, where control resides with technology transferor. The transferor, normally, holding the majority or full equity owners Externalized forms refer to all other forms, such as joint ventures with local control, license strategic alliances and international subcontracting. The distinguishing feature between- these two modalities of resource transfer is that internalised TT, the transferor has a significant and continuing financial stake in the success of affiliate, allows it to use its brand names and to have access to its global technology and markets networks, exercises control over the affiliate’s investment, technology and sales decisions, a sees the affiliate as an integral part of its global strategy. Externalized forms lack one or all these features, with repercussions on the TT process. Over time, the array of TT arrangements r diversified and particular modes have also become more flexible. Thus, the dividing lines between externalized and internalized modes are becoming less easy to draw

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7.4.2 Levels of TT: A simplified treatment of the subject would suggest four levels of TT. 2" Operational Level: At the bottom levels are the simplest ones, needed for operating a give plant these involve basic manufacturing skills, as well as some more demanding troubleshooting quality control, maintenance and procurement skills. Duplicative Levelâ&#x20AC;&#x2122; At the intermediate level are duplicative skills, which include the investment capabilities needed to expand capacity and to purchase and integrate foreign technologies. Adaptive Level: At this Technological Self-reliance level, imported technologies are adapted and improved, and design skills for more complex engineering learned. Innovative Level: This level is characterized by innovative skills, based on, for all R&D, that are needed to keep pace with technological frontiers or to generate new technologies. 7.4.3. Channels of Technology Flow: The most important channels for the flow of technology are foreign investment and Technology Licence Agreements and Joint Ventures. Foreign Investment: Traditionally, the flow of technology to developing countries has been an integral part of direct foreign investment. Multinational corporations and other firms have resorted to foreign direct investment for a variety of reasons like protection and development of foreign markets, utilisation of local resources (in the host country) including cheap labour overcoming or lessening of the impact of tariff restrictions and tax laws. The flow of sophisticated technology, in particular, has thus been associated with direct investment. Technology Licence Agreements and joint Ventures: Technology transfer has been taking place on a significant scale through licensing agreements and joint ventures. There has been a fairly rapid growth of joint ventures, encouraged by government restrictions on foreign investment and foreign trade or the perceived advantages of such ventures. When foreign capital participation in joint ventures is below 50 per cent, technological agreements assume considerable significance. Methods of Technology Transfer Transfer of technology take a variety of forms depending on the type, nature and extent of technological assistance required. The following are the important methods of technology transfer: I. Training or Employment of Technical Expert: Fairly simple and unattended manufacturing techniques/processes can be transferred by imparting the requisite training to suitable personnel. Alternatively, such technology can be acquired by Employing foreign technical experts. 2. Contracts for Supply of Machinery and Equipment: Contracts for supply of machinery and equipment, which normally provide for the transfer of operational technology pertaining to such equipment, is often quite adequate for manufacturing purposes not only in small scale projects but also in a number of large scale industries where the nature of technology is not particularly complex. 3. Licensing Agreements: Licensing agreements, under which the licensor enters into an agreement with a licensee in another country to use the technical expertise of the former, is an important means for the transfer of technology. Licensing agreements are usually entered into when foreign direct investment is not possible or desirable.

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4. Turnkey Contracts: Transfer of complex technology often takes place through turnkey project contracts, which include the supply of such services as design. creation, commissioning or supervision of a system or a facility to the client, apart from the supply of goods. Many times, a combination of two or more of the abovementioned methods is used. Turnkey contracts, obviously, are the most comprehensive of such combinations. 7.4.4. Issues in Transfer of Technology: Cost, appropriateness, dependence and obsolescence are the four important issues associated with the transfer of technology. In many cases, the developing countries obtain foreign technology at unreasonably high prices. In a number of cases of foreign direct investment associated with technology transfer, the net out flow the capital by way of dividend, interest, royalties and technical fees has been found to be much higher than the corresponding inflow. The appropriateness of the foreign technology to the physical, economic and social conditions of the developing countries is an important aspect to be considered in technology transfer. It has been argued that there are a large number of cases where the foreign technology transferred has been irrelevant or inappropriate to the recipient country’s socioeconomic priorities and conditions. Suggested, heavy reliance on foreign technology may lead to 4. Turnkey Contracts: Transfer of complex technology often takes place through turnkey project contracts, which include the supply of such services as design. creation, commissioning or supervision of a system or a facility to the client, apart from the supply of goods. Many times, a combination of two or more of the abovementioned methods is used. Turnkey contracts, obviously, are the most comprehensive of such combinations.

7.5. QUESTIONS Section - A Short questions 1. What is MNC? State the advantages of MNC to host countries. 2. Explain product organization structure of MNCs 3. How does technology influence MNC companies? 4. Differentiate mergers and acquisitions Section –B Small answer type 1. Write short notes on exporting and licensing 2. Is decentralized organization structure suitable to MNCs.? Justify 3. What is technology transfer? What are the issues in technology transfer? Section – C Essay type questions 1. Describe the strategies in marketing that are practiced by MNCs in International business 2. Describe market entry strategies of MNCs in detail 3. Explain the concept scope and issues of technology transfer in international business

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7.6. SUGGESTED READINGS 1.

Francis Cherunilam – International trade and Export – Himalaya publishing House 1999.

2. Sak Onkvisit and John Shaw – International Marketing – Prentice Hall India. 3. John D. Daniels and Lee H. Radebaugh – International business – Pearson education Asia

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CHAPTER – 08 MERGERS AND ACQUISITIONS IN INTERNATIONAL TRADE STRUCTURE 8.0. OBJECTIVES 8.1. MERGERS AND ACQUISITIONS 8.2. STRATEGIC ALLIANCE 8.3. THIRD PARTY LOCATION 8.4. MARKET SEGMENT SELECTION 8.5. QUESTIONS 8.6. SUGGESTED READINGS

8.0. OBJECTIVES After studying this unit, you should be able to understand: 

Mergers and acquisitions



Strategic alliance



Third party location



Market segment selection

8.1. MERGERS AND ACQUISITIONS A domestic company selects a foreign company and merge itself with the foreign company in order to enter international business. Alternatively the domestic company may purchase the foreign company and acquires the ownership and control it. It provides immediate manufacturing facilities and marketing network. Advantages 1. The company immediately gets the ownership and control over the acquired firm. 2. The company can formulate international strategy and generate more revenues 3. If the industry already reached the stage of optimum capacity level or overcapacity level in the host country. This strategy helps the host country. Disadvantages 1. Acquiring a firm in a foreign country is a complex task involving bankers, lawyers, M&A specialists etc 2. This strategy adds no capacity to the industry

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3. Sometimes host countries imposed restrictions on acquisition of local companies by the foreign companies 4. Labour problem and political threat

8.2. STRATEGIC ALLIANCE Strategic alliances refer to cooperative agreements between potential or actual competitors. Strategic alliances run the range from formal joint ventures, in which two or more firms have equity stakes, to short term contractual agreements, in which two companies agree to cooperate on a particular task.

Advantages of strategic alliances: 

Strategic alliances may facilitate entry into a foreign market.



Strategic alliances also allow firms to share the fixed costs of developing new products or processes.



Alliance is a way to bring together the complementary skills and assets that neither company could easily develop on its own.



It can make sense to form an alliance that will help the firm establish technological standards for the industry that will benefit the firm.

Strategic alliance issues: •

Increasingly popular strategy to develop new product and to expand into new markets

•

However, strategic alliances are very risky and unstable

•

Failure rate of 30% to 60%

•

Even profitable alliances can be torn by conflict

Making Alliances Work: The success of an alliance seems to e a function of three main factors 

Partner selection



Alliance structure



Managing the alliance

Partner selection: A good partner has three characteristics 1.

A good partner helps the firm achieve its strategic goals, whether they are market access, sharing the costs and risks of product development, or gaining access to critical core competencies, the partner must have capabilities that the firm lacks and that it values.

A good partner shares the firm’s vision for the purpose of the alliance. If two firms approach an alliance with radically and will end in divorce,

A good partner is unlikely to try to opportunistically exploit the alliance foe its own ends; that is, to expropriate the firm’s technological know-now while giving away little in return.

Alliance structure:

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Having selected a partner, the alliance should be structured so that the firmâ&#x20AC;&#x2122;s risks of giving too much away to the partner are reduced to an acceptable level. The diagram depicts four safeguards against opportunism by alliance partners.

Managing the alliance: Once a partner has been selected and an appropriate alliance structure has been agreed on, the task facing the firm is to maximize its benefits from the alliance, as in all international business deals, an important factor is sensitivity to cultural differences (see chapter3).many differences in management style are attributable to cultural differences, and managers need to make allowances for these in dealing with their partner. Beyond this, maximizing the benefits from an alliance seems to involve building trust between partners and learning from partners.

Implementing Strategic Alliance Strategy:

Decide where to link in value chain

Select a potential partner

Begin over

NO Is partner acceptable? YES Choose an alliance type

Negotiate an agreement

Build the organisation

Build truest and commitment

Assess performance

Terminate the alliance or check and revise implementation

Meets strategic objectives?

Continue or increase involvement

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8.3. THIRD PARTY LOCATION 8.3.1 Inputs of location: Most of the international companies draw the raw material, human resources, components etc., from different countries and sell the products in specific countries. The location of manufacturing facilities depends upon the factors like nature of the raw materials like weight losing, size and weight, transportation facilities, ability to withstand transportation, freshness, availability of cheap labour, etc Some of the international companies locate their assembling facilities in order to take advantage of cheap labour. It is costlier to transport these employees to a foreign country than establishing the assembling facility close to them. The inputs like wires, beads and coils can be easily transported with less cost than that of labour. Therefore, the industries manufacturing electronic equipment locate their manufacturing facilities to labour.

8.3.2. Concentrated and dispersed location: The international business firms may locate their manufacturing facilities in a few places or spread them throughout the globe wherever they have markets. The former one is called concentrated location whereas the latter is called the dispersed location. Concentrated location: The international business firm locates its manufacturing facilities in a few places and distributes the products to its warehouses or market intermediaries located in various parts of the world. International business houses adopt this strategy due to the following benefits. Benefits of Concentrated Location: Efficiency or productivity can be maximized Products can be standardized The company can enjoy large scale economies. The cost of production per unit can be minimized. The administrative system can be simplified due to uniform procedures. Dispersed Location: The needs and preferences of customers vary from one country to another country. Therefore the global company prefers to produce the products based on the customer preferences and also in the locations close to customers. The benefits of this strategy include: 1. Adaptation of product, marketing etc based on the local conditions 2. The company can be flexible 3. When inputs vary from one supplier to another, producing different qualities of products is feasible. 4. Company can go for customization in production and marketing.

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8.3.3. Location decisions: Location decisions can be studied under the following approaches: 1. Country – Related Issues 2. Product – Related Issues 3. Government Policies 4. Organizational Issues Country – related issues:

Various factors relating to the country affect the location decisions. These include availability of raw materials and other inputs, cost of these resources, infrastructure etc. India attracted a number of information technology firms. 2. Product – Related Issues: The important product related issues are: 

Product value to weight ratio



The required production technology



Importance of customer feedback

3. Government Policies Government policies towards foreign companies like allocation of land, tax concessions, incentives, reducing or eliminating bureaucratic procedural formalities, establishment of export processing zones, foreign, trade zones, and stability of these policies influence the location decision. 4. organizational issues The organizational factors may also affect the location decision. The firms with low cost leadership strategy select the locations where the cost of production can be the lowest. On the other hand the company looks for quality select the location irrespective of the cost factor.

8.4. MARKET SEGMENT SELECTION 8.4.1. Market segmentation: Market segmentation refers to identifying distinct groups of consumers who purchasing behaviour differs from others in important ways. Markets can be segmented in numerous ways; by geography, demography (sex, age, income, race, and educational level), sociocultural factors (social class, values, etc.,) and psychological factors. Because different segments exhibit different patterns of purchasing behaviour, firms often adjust their marketing mix from segment to segment. Thus, the precise design of a product, the pricing strategy, the distribution channel used, and the choice of communication strategy

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may all be varied from segment to segment. The goal is to optimize the fit between the purchasing behaviour of consumers in a given segment and the marketing mix, thereby maximizing sales to that segment. Automobile companies, for examples, use a different marketing mix to sell cars to different socioeconomic segments. Thus, Toyota uses its Lexus division to sell high-priced luxury cars to highincome consumers, while-selling its entry level models, such as the Toyota Corolla, to lower income consumers. Product attributes: A product can be viewed as a bundle of attributes. For example, the attributes that makeup a car include power, design, quality, performance, fuel consumption, and comfort; the attributes of a hamburger include taste, texture and size. BMW cars sell well to people who have high needs for luxury, quality and performance, and precisely because BMW build those attributes into its cars. If consumer needs were the same, the world over, a firm could simply sell the same product worldwide. However, consumer needs vary from country to country depending on culture and the level of economic development. A firm’s ability to sell the same product worldwide is Suggested constrained by country’s differing product standards. Cultural Differences: Countries differ along a whole range of dimensions, including social structure, language, religion, and education.

These differences have important implications for marketing strategy, for example

“hamburgers” do not sell well in Islamic countries where the consumption of ham is forbidden by Islamic law. The most important aspect of cultural differences is probably the impact of tradition. Tradition is particularly important in food stuffs and beverages.

For example, reflecting differences in traditional

eating habits, the Findus frozen food division of Nestle, the Swiss food giant markets fish cakes and fish fingers in Great Britain, but beef bourguignon and cog au vin in France.

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Differences Between Countries The legal circumstances of various countries are always varying. The political interest of countries are also differing.. Th4 philosophies of the citizens of countries and cultural back round are all differing and hence segmentation should be made keeping this entire pointsin mind. The

three

main

Manufacturer inside the Country

Manufacturer outside the Country

Import Agent

Wholesale Distributor

Retail Distributor

Final Customer

differences between distribution systems are retail concentration, channel length and channel exclusivity. Retail concentration:

In some countries, the retail system is very concentrated, but it is

fragmented in other countries. In a concentrated system, a few retailers supply most of the market. A fragmented systems is one in which there are many retailers, no one of which has a major share of the market. Many of the differences in concentration are rooted in history and tradition. In the United States, the importance of the automobile and the relative youth of many urban areas have resulted in a retail system centered around large strores or shopping malls, to which people can drive. This has facilitated systems concentration. Channel length: Channel length refers to the number of intermediaries between the producers and the consumer. If the producer sells directly to the customer, the channel is very short. If the producer sells through an import agent, a wholesaler, a long channel exists. The choice of a short or long channel is in part a strategic decision for the producing firm. However, some countries have longer distribution channels than others. The most important determinant of channel length is the degree to which the retail system

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is fragmented. Fragmented retail systems tend to promote the growth of wholesalers to serve retailers, which lengthens of channels. Channel exclusivity: An exclusive distribution channel is one that is difficult for outsiders to access. For example it is often difficult for a new firm to get access to shelf space in supermarkets. This occurs because retailers tend to prefer to carry the products of long established manufacturers of foodstuff with national reputations rather than gamble on the products of unknown firms. 8.4.2. Market Selection Strategies of MNCS: Target Market Selection: Target marketing tailors a marketing mix for one or more segments identified by Market Segmentation.. Target marketing contrasts with mass marketing, which offers a single product to the entire market. Two important factors to consider when selecting a target market segment are the attractiveness of the segment and the fit between the segment and the firm's objectives, resources, and capabilities.

Attractiveness of A Market Segment: The following are some examples of aspects that should be considered when evaluating the attractiveness of a market segment: 

Size of the segment (number of customers and/or number of units)



Growth rate of the segment



Competition in the segment



Brand loyalty of existing customers in the segment



Attainable market share given promotional budget and competitors' expenditures



Required market share to break even



Sales potential for the firm in the segment



Expected profit margins in the segment Market research and analysis is instrumental in obtaining this information. For example, buyer

intentions, sales force estimates, test marketing, and statistical demand analysis are useful for determining sales potential. The impact of applicable micro-environmental and macro-environmental variables on the market segment should be considered. Note that larger segments are not necessarily the most profitable to target since they likely will have more competition. It may be more profitable to serve one or more smaller segments that have little competition. On the other hand, if the firm can develop a competitive advantage, for example, via patent protection, it may find it profitable to pursue a larger market segment.

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Suitability of Market Segments to the Firm: Market segments also should be evaluated according to how they fit the firm's objectives, resources, and capabilities. Some aspects of fit include: Whether the firm can offer superior value to the customers in the segment The impact of serving the segment on the firm's image Access to distribution channels required to serve the segment The firm's resources vs. capital investment required to serve the segment The better the firm's fit to a market segment and the more attractive the market segment, the greater the profit potential to the firm. Target Market Strategies There are several different target-market strategies that may be followed by the MNCs. Targeting strategies usually can be categorized as one of the following: Single-segment strategy - also known as a concentrated strategy. One market segment (not the entire market) is served with one marketing mix. A single-segment approach often is the strategy of choice for smaller companies with limited resources. Selective specialization- this is a multiple-segment strategy, also known as a differentiated strategy. Different marketing mixes are offered to different segments. The product itself may or may not be different - in many cases only the promotional message or distribution channels vary. Product specialization- the firm specializes in a particular product and tailors it to different market segments. Market specialization- the firm specializes in serving a particular market segment and offers that segment an array of different products. Full market coverage - the firm attempts to serve the entire market. This coverage can be achieved by means of either a mass market strategy in which a single undifferentiated marketing mix is offered to the entire market, or by a differentiated strategy in which a separate marketing mix is offered to each segment.

8.5. QUESTIONS Section - A Short questions 1. What are the advantages of Mergers? 2. Which are all the drivers of strategic alliance? 3. What are the advantages of strategic alliance? 4. What is target market selection? Section â&#x20AC;&#x201C; B Small answer type 1. What are the issues in strategic alliance? Discuss briefly 2.

Explain the process of location selection of a MNC.

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INTERNATIONAL TRADE MANAGEMENT 3. How markets are segmented by MNCs? 4. Describe the issues in location selection Section – C Essay type questions 1. Describe the implementing process of strategic alliance by MNC in detail 2. Discuss the process and issues of market segmentation in international business

8.6. SUGGESTED READINGS 1. Francis Cherunilam – International trade and Export – Himalaya publishing House 1999. 2. Sak Onkvisit and John Shaw – International Marketing – Prentice Hall India. 3. John D. Daniels and Lee H. Radebaugh – International business – Pearson edu 4. P. Subbarao – International business – Himalaya Publishing

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CHAPTER - 09 INTERNATIONAL TRADE AGREEMENTS STRUCTURE 9.0. OBJECTIVES 9.1. ECONOMIC INTEGRATION AND TRADING BLOCKS 9.2. STRUCTURE OF REGIONAL ECONOMIC AGREEMENTS 9.3. IMPACTS ON MEMBER STATES 9.4. QUESTIONS 9.5. SUGGESTED READINGS 9.0. OBJECTIVES After studying this unit, you should be able to understand: 

Economic integration and trading blocks



Structure of regional economic agreements SUCH AS ASEAN, SAARC,SAFTA and NAFTA



The procedure and Impacts on member states

9.1 ECONOMIC INTEGRATION Some countries create business opportunities for themselves by integrating their economies in order to avoid unnecessary competition among themselves and also from other countries. Economic integration among countries takes several forms. It covers different kinds of arrangements between or among countries by which two or more countries link their economies closer either in part of totals. They maintain the cohesiveness among or between the countries through tariffs. They discriminate against the other countries, which are not parties to the agreement, through tariffs. They also discriminate against the goods produced by other countries. Economic integration varies in degree. Different Kinds of Economic Integration: Economic integration among the world economies varies in degree. They are: Free Trade Area: If a group of countries agree to abolish all trade restriction and barriers among or charge low rates of tariffs in carrying out international trade, such a group is called, ‘free trade area.’ These countries impose trade barriers and restrictions with regard to trade with countries other than the members of the group independently. Customs Union: The member countries of the customs union have two basic features. They are: (i) The member countries bolish all the restrictions and barriers on trade among themselves or charge low rates

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of tariffs and (ii) they adopt a uniform commercial policy of barriers and restrictions jointly with regard with the non-member countries. Thus, customs union is advanced in degree compared to a free trade area. Common Market: Common market has three basic characteristics. They are: (i) all member countries abolish all the restrictions and barriers on trade among themselves or charge low rates of tariffs. (ii) They adopt a uniform commercial policy of barriers and restrictions jointly with regard to the trade with the nonmember countries. (iii) They allow free movement of human resources and capital among the member countries. Thus, common market is superior to custom union. Economic Union: Economic union has four basic characteristics. They are (i) All member countries abolish all the restrictions on trade among themselves or charge low rates of tariffs. (ii) They adopt a uniform commercial policy of barriers with regard to trade with the member countries. (iii) They allow free moment of human resources and capital among themselves and (iv) They achieve uniformity in monetary policy and fiscal policy among the member countries. Thus, economic union is superior to common market. Regional Approach: As we have discussed, economic integration takes different forms like free trade area, customs union, common market and economic union. The member countries of the group adopt a system of preferential tariffs like lower rates of duty on imports. For example, the UK and its common wealth countries operated a system of reciprocal tariff preferences after 1919. In a free trade area, the members charge low rates of tariff or abolish them regarding the trade among themselves and different countries charge different rates to non-members. European Free Trade Association is an example. As stated earlier, the members charge uniform rates of tariffs with regard to non-member countries. The 19thcentury German Zollverein is an example of customs union. The approach towards regional integration has been increasing throughout the globe. Economic integration results in grouping up of smaller economies into a larger and single economy and market. Economic integration minimizes the economic consequences of politically independent countries and political boundaries. Advantages of Integration: The economic integration of the countries of the same region or areas increases the size of market, aggregate demand for products and services, quantity of production, employment and ultimately the economic activity of the region. Suggested, the people of the region get a variety of products at comparatively lower prices. This factor, in turn, enhances the purchasing power and living standards of the people. The resources of the region are pooled. In other words the factors of production of the countries are combined. The pooling increases efficiency of output or productivity due to large-scale economies. Suggested, it enables to have economies of division of labour and specialization. Rapid technological innovations and development and consequent large size operation demand heavy investment. Economic integration enables the group of countries to pool required financial

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resources for the large-scale operations. Internal reallocation of financial resources takes place based on the reallocation of manufacturing facilities and consumption pattern. The elimination or reduction of tariffs and barriers reduces the import duties and thereby reduces the prices of the products/ services. Customer gets the advantage of having the product at lesser price.

9.2. STRUCTURE OF VARIOUS REGIONAL ECONOMIC AGREEMENTS 9.2.1. Asean (Association Of South-East Asian Nations): A group of six counties, viz., Singapore, Brunei, Malaysia, Philippines, Thailand and Indonesia, agreed in January 1992 to establish a common Effective Preferential Tariffs (CEPT) plan. This plan helped to create an Association of South-East Asian Nations (ASEAN) free trade area in 15 years with effect from January 1993. The CEPT allows for tariffs cut ranging from 0.50 per cent to 20 per cent beginning with 15 products. The emergence and successful operation of EEC and NAFTA gave impetus for the forming of ASEAN. The ASEAN member countries have developed economically at a fast rate in the globe. Their strength lies is well educated and skilled human resources. This strength enabled them to achieve faster industrialization. Suggested the ASEAN member countries are rich in oil, mineral resources, agricultural goods and modern industrial products. These countries invite and allow the free-flow of foreign capital. The charts relating to subsidiary bodies of the ASEAN committees, the Machinery of ASEAN Economic Co-operation and New organizational structure of ASEAN. The common historical and culture background made the member countries to maintain their unity and solidarity by establishing a trade block. ASEAN countries have the determination to develop south-east Asia a nuclear weapons free area and a Zone of peace, freedom and neutrality. The formation of ASEAN enabled the member countries to have close cohesiveness, share their economic and human resources and achieves synergy in the development of their agricultural sectors, industrial sectors and service sectors. The following table presents the ASEAN organizational structure. Organization Structure of Asean

ASEAN Ministers

Economic

ASEAN Ministers

Foreign

Other Ministers

ASEAN

Standing committee Meeting of ASEAN DGs

ASEAN Secretariat

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KEY _____Formal Linkage -------Communication lines

Committee Budget

ASEAN Committees with Dialogue Countries and International Organisations 1.ASEAN- Australia (Camberra) 2.ASEAN- NZ (Wellington) 3.ASEAN-Japan (Tokyo) 4.ASEAN-EC (Brussels,Bonn,Geneva,London, Paris) 5.ASEAN-U.S. (Washington) 6.ASEAN-Canada (Ottawa) 7.ASEAN-UNDP

9.2.2. Asean Free Trade Area (AFTA): The ASEAN countries are vigilant of the developments in the international environment like the formation NAFTA, SAARC and the introduction of Euro. In view of these developments, the ASEAN countries formed the Asean Free Trade Area (AFTA) in September 1994. The AFTA initially set to function for 10 years in order to develop inter ASEAN trade. The Objectives of the AFTA are: 

To encourage inflow of foreign investment into this region.



To establish free trade area in the member countries.



To reduce tariff of the products produced in ASEAN countries. 405 value additions in the ASEAN countries to the product value are treated as manufactured in ASEAN countries.

9.2.3. European Free Trade Association (EFTA) The European Free Trade Association (EFTA) was formed in 1959. The member countries EFTA include: Austria, Norway, Portugal, Sweden and Switzerland. The associate member countries are; Finland and Iceland, Great Britain and Denmark. The Objectives of EFTA are: 

To eliminate almost all tariffs among member countries.



To abolish the trade restrictions regarding imports and exports of good among member countries



To enhance economic development, employment, incomes and living standards of the people of the member countries



To enable free trade in Western European. The EFTA achieved most of its objectives during its 40 years of existence. EFTA does not

regulate the agriculture and economy of the member countries and members trade outside the EFTA. The EFTA is managed by a council. Each member country is represented by its representative to the EFTA council. The EFTA council makes policy decisions of the organization. Secretary General implements the policies. Latin American Integration Association (LAIA): Latin American Free Trade Association (LAFTA) on the lines of EFTA was formed in 1960. The countries signed the LAFTA agreement were Argentina, Brazil, Chile, Mexico, Paraguay, Peru, Uruguay,

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Colombia, Ecuador, Venezuela and Bolivia. Latin the Latin American Integration Association (LAIA) replaced LAFTA. The Objectives of (LAIA) are: 

To eliminate restrictions on trade among the member countries, and



To reduce the customs and tariffs and eliminate them gradually.

9.2.4. South Asian Association for Regional Co-Operation (SAARC): The successful performance of EEC, NAFTA and other trade blocks in the economic development of the member countries and in improving the employment opportunities, incomes and living standards of the people of the region gave impetus for the formation of South Asian Association for Regional Co-operation (SAARC). India, Bangladesh, Bhutan, Pakistan, the Maldives Nepal and Lanka established SAARC on December 8,1985. Afghanistan joined SAARC in April 2007. The Objectives of SAARC are: 

To improve the quality of life and welfare of the people of the SAARC member countries.



To develop the region economically, society and culturally.



To provide the opportunity to the people of the region to live dignity and to exploit their potentialities.



To enhance the self-reliance of the member countries jointly.



To provide conductive climate for creating and enhancing mutual trust, understanding and application of one another’s issues.



To enhance the mutual assistance among member countries in the area of economic, social, cultural, scientific and technical fields.



To enhance the co-operation with other developing economies.



To have unity among the member countries regarding the issues of common interest in the international forums.



To extend co-operation to other trade blocks.

Organisation Structure: The Council of the SAARC is the highest policy making body. The Council is represented by the heads of the Government of the member countries. The Council meets once in two years. This council is assisted by the ‘council of Ministers. The Council of Ministers is represented by the foreign minister of member governments. It formulates policies, reviews the functioning and decides the new areas of cooperation, establishes additional mechanism, decides the issues of general interests to the SAARC member countries. The Council meets twice a year and more times, if necessary. The Council of Ministers is assisted by the standing committee. Standing Committee consists of foreign secretaries of member government. The functions of the standing committee include: 

Monitoring and coordinating the programmes.

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Determining inter-sectoral priorities.



Mobilizing co-operation within and outside the region.



Formulating the modalities of financing.

Standing committee is expected to meet as and when necessary and submits the report to the Council of Ministers. This committee sets up action committee for the project implementation. The standing committee is assisted by the programming committee. Programming Committee includes the senior officials of the member government. The functions of the programming committee are: 

Scrutinizing the budget of the secretariat.



Carrying out the activities assigned by the standing committee.



Analyzing the reports of the technical committees and SAARC regional centers and submitting them to the standing committee along with its comments.

Technical committees comprise the representative’s of all member countries. Their functions include: 

Formatting projects and programmes in their respective area.



Monitoring and implementing the projects.



Submitting the reports to the standing committee through the programme committee.

The technical committees of the SAARC include: 

Agriculture



Environment



Rural development



Tourism and transport.



Communications



Health and population activities



Science and technology All the secretarial work is done by the SAARC secretariat, which is located in Nepal. The activities

of the secretariat include:  Co-ordinating, monitoring and implementing SAARC activities.  Serving the meetings of the SAARC.  Serving as communication link between SAARC and other international forums.

9.2.5. North American Free Trade Agreement (NAFTA): The North American Frere Trade Agreement (NAFTA) came into being on January 1, 1994. The most affluent nations of the world, i.e. the USA and Canada along with Mexico- a developing country joined together to form a trade block. A free trade agreement was signed by the USA and Canada in 1989. This was extended to Mexico in 199. NAFTA is expected to eliminate all tariffs and trade barriers among these countries by 2009. However, internal tariffs on a large number of product categories were removed already.

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NAFTA has a population of 363 million and hence it is one of the significant trading areas in the globe. Objectives: The objectives of the NAFTA include: 

To create new business opportunities particularly in Mexico.



To enhance the competitive advantage of the companies operating in the USA, Canada and Mexico in wider international markets.



To reduce the prices of the products and services by enhancing the competition.



To enhance industrial development and thereby employment through our the region.



To provide stable and predictable political environment for the investors.



To develop industries in Mexico in order to create employment and to reduce migration from Mexico to the USA.



To assist Mexico in earning additional foreign exchange to meet its foreign debt burden.



To improve and consolidate political relationship among member countries.

Measures: The measures as per the agreement of NAFTA include: 

Opening up of Government procurement markets in each member country of NAFTA.



Residents of NAFTA countries can invest in any other NAFTA countries freely.



Protection of intellectual property rights of the NAFTA member countries.



Simplification and harmonization of product standards in all the member country to NAFTA.



Free flow of employees and business people from one member country to another. Prevention of non-Mexican firms assembling goods in Mexico.



Avoidance of re-export of the products imported by any member country from the third party. This condition is not applicable, in case certain percentage of manufacturing costs is incurred in the importing country. This percentage is 50 in case of the USA and Canada and 80 in case of Mexico.



Pollution control along the USA- Mexico border.

Critical Appraisal: It was felt that the emergence of NAFTA enables Suggested development of the USA and Canada and for the significant development of Mexico. Suggested, the free flow of capital and human resources enables achieving equilibrium in the regional development. From the U.S. and Canadian government’s point of view, NAFTA was an opportunity to respond to the growing threat of the large European Union trading block. From the Mexican Government point of view, the agreement was a way to secure future foreign investment. A number of companies in the automotive industry, large agribusiness, telecommunications, high technology manufacturing, and big grain import industries have benefited from NAFTA. However, twelve

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years after it went into effect, a variety of research efforts have found that NAFTA has not lived up to the promises of its backers. Despite its mixed results, free traders continue to try and sell a “successful” NAFTA and present it as a model and minimum baseline for other U.S. trade agreements. NAFTA is not responsible for all of the economic and social and social ills in North Amercica. But in Mexico, it has caused an acceleration and locking- in of policies that had already failed to bring prosperity. An evaluation of NAFTA’s results is essential as the U.S. seeks to negotiate new NAFTA- style agreement at a record pace.

9.2.6. Saarc Preferential Trading Arrangement (SAPTA): The council of Ministers have signed the SARRC preferential Trading Arrangement agreement on April 11, 1993. Objective of SAPTA The objectives of SAPTA are: 

To gradually liberalize the trade among member countries of SAARC.



To eliminate trade barriers among SAARC countries and reduce or eliminate tariffs.



To promote and sustain mutual trade and economic co-operation among member countries.

Administration of SAPTA: SAARC Preferential Trading Arrangement agreement would be administered on the following lines. 

The benefits to the member countries would be accorded on equitable basis of reciprocity and mutuality.



The Agreement would be improved step by step through mutual negotiations.



The Agreement has taken the special needs of the less developed countries into consideration.

Product Area: All raw materials, semi- finished products and finished products are included for mutual concessions. Tariffs: Concession would be given in tariffs, Para- tariffs, non-tariffs and trade measures. Special treatment for the least developed countries would be providing in the following ways: 

Providing technical assistance, established of industrial and agricultural projects in order to boost up their exports .



Enhancing their exports by eliminating non- tariff and Para-tariff barriers, providing duty free access, etc.



Establishing training facilities in the area of export trade.



Providing export credit insurance and market information.



Entering into long-term contracts.

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Balance of Payment: If the concessions enhance the imports resulting in serious balance of payment problem, the importing country can suspend the concessions. 

Provision for information, consultation and dispute settlement are provided.



Extension of concessions: the concessions would be extended to all member countries (expect those meant for least development countries)



Non- application of the provision: if the benefits similar to those stated in the provisions of this agreement are already granted by one member country to another through any other arrangement, the provisions in this agreement are not applicable to the same case distribution of benefits among member countries equitable.



Modification and withdrawal of concessions: Concessions provided under this agreement can be withdrawn or modified through the mutual committee on economic Co-operation (CEC) will monitor these aspects.



Withdrawal from SAPTA: member countries by giving six months’ notice to SAARC Secretariat and committee on Economic Co-operation can withdraw from the SAPTA.

9.3. IMPACTS IN THE MEMBER STATES 9.3.1. Impacts in the United States: 

The trade surplus (exports exceed imports) with Mexico before NAFTA has turned into a massive trade deficit (imports exceed exports), which has eliminate 1,015,291 U.S. jobs since NAFTA took effect in 1994. Most displaced workers find jobs in other sectors, such as in the service industry, where wages are much lower.



Because the U.S. tends to import goods produced by lower-skilled workers, increased openness to trade has forced employers to complete by reducing the wages of lower –skilled workers relative to other workers in the U.S.



U.S. workers feel more insecure about their economic future as both wages and union activity are increasingly constrained by threats from employers to move overseas.

9.3.2. Impacts in Mexico: Since 1994 foreign investment in Mexico has boomed, exports to the U.S. have surged, and employment in the export- oriented manufacturing companies know as maquiladoras has doubled. But a closer look shows a not-so-rosy reality. 

Half the foreign direct investment under NAFTA has been concentrated in the maquiladoras the overwhelming majority of which are U.S.-owned.



Although Mexico’s exports have been significant, nearly all of the components of those exports are imported goods. For decades, the domestic in[put of components and packaging in the maquiladora industry has been less than 3 percent, limiting the development of secondary industries in Mexico that would create more jobs and reduce the number of imports needed.

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Although Mexico’s trade deficit with the U.S. has dropped since 1994, the country carries a growing trade definite with Asia and Europe, which increased by 600 percent and 400 percent respectively.



Between 1994 and 2003 an estimated 9.3 million people entered the labot force, while only three million jobs were created, forcing people to scrape together informal work or migrate North



Growth has slowed to 1 percent on a per capita basis (from 3.2 percent during 1948-73), income disparities between the U.S. and Mexico have grown by 10.6 percent, and real wages have been falling at a rate of 0.2 percent a year.



The agricultural sector has been decimated by the 240% increase in imports of subsidized U.S. corn, causing the price of corn to drop more than 70% which displaced an estimated 1.7 million farmers.



In 1990, there were 2 million undocumented Mexicans working in the U.S. by 2004, there were 6 million.

9.4. QUESTIONS Section - A Short questions 1. What is economic integration? 2. State the objectives of NAFTA 3. What are the functions of technical committees of SAARC ? 4. What are the advantages of economic integration ? Section – B Small answer type 1. Describe economic integration methods 2. Discuss the objectives and measures of ASEAN 3. Enumerate the impacts of economic integration in the member states 4. Appraise the functions of NAFTA Section – C Essay type questions 1. Explain the structure and functions of a) SAARC

b) NAFTA

2. Describe any two economic integrations in detail

9.5. SUGGESTED READINGS 1. Francis Cherunilam – International trade and Export – Himalaya publishing House 1999. 2. Sak Onkvisit and John Shaw – International Marketing – Prentice Hall India.

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INTERNATIONAL TRADE MANAGEMENT 3. John D.Daniels and Lee H. Radebaugh – International business – Pearson education Asia

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INTERNATIONAL TRADE MANAGEMENT

CHAPTER - 10 FOREIGN COLLABORATIONS AND REGULATIONS STRUCTURE

10.0. OBJECTIVES 10.1. FOREIGN COLLABORATIONS AND JOINT VENTURES 10.2. INDUSTRIAL POLICY AND FOREIGN DIRECT INVESTMENT 10.3. KINDS OF COLLABORATIONS AND JOINT VENTURES 10.4. NEGOTIATION AND DRAFTING OF FOREIGN COLLABORATIONS 10.5. RESTRICTIVE CLAUSES OF FOREIGN COLLABORATIONS 10.6. INDIAN JOINT VENTURES ABROAD 10.7. QUESTIONS 10.8. SUGGESTED READINGS

10.0. OBJECTIVES After studying this unit, you should be able to understand: 

Foreign collaborations and joint ventures



Industrial policy and foreign direct investment



Kinds of collaborations and joint ventures



Negotiation and drafting of foreign collaborations



Restrictive clauses of foreign collaborations



Indian joint ventures abroad

10.1. Foreign Collaborations and Joint Ventures: Collaboration is a recursive process where two or more people or organizations work together toward an intersection of common goals - for example, an intellectual endeavor that is creative in natureby sharing knowledge, learning and building consensus. Collaboration does not require leadership and can sometimes bring better results through decentralization and egalitarianism. In particular, teams that work collaboratively can obtain greater resources, recognition and reward when facing competition for finite resources. get James Taylor's albums. Foreign collaboration is the collaboration made between the companies of a domestic country and a foreign country. The term joint venture is most commonly used to describe an arrangement where two (or more) businesses create a separate joint venture business.

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A joint venture (often abbreviated JV) is an entity formed between two or more parties to undertake economic activity together. The parties agree to create a new entity by both contributing equity, and they then share in the revenues, expenses, and control of the enterprise. The venture can be for one specific project only, or a continuing business relationship such as the Fuji Xerox joint venture. This is in contrast to a strategic alliance, which involves no equity stake by the participants, and is a much less rigid arrangement. The phrase generally refers to the purpose of the entity and not to a type of entity. Therefore, a joint venture may be a corporation, limited liability company, partnership or other legal structure, depending on a number of considerations such as tax and tort liability.

Motives for Collaborative Arrangements: General: In this section, we’ll explain the reasons why companies collaborate with other companies in either domestic or foreign operations: to spread and reduce costs, to allow them to specialize in their competencies, to avoid or counter competition, to secure vertical and horizontal links, and to learn from other companies. Spread and reduce Costs: To produce or sell abroad, a company must incur certain fixed costs. At a small volume of business, it may be cheaper for it to contract the work to a specialist rather than handle it internally. A specialist can spread the fixed costs to more than one company. If business increases enough, the contracting company then may be able to handle the business more cheaply itself. Companies should periodically reappraise the questions of internal versus external handling of their operation. Specialize in Competencies: The resource – based view of the firm holds that each company has a unique combination of competencies.

A company may seek to improve its performance by

concentrating on those activities that best fit its competencies and by depending on other firms to supply it with products, services, or support activities for which it has lesser competency. Large, diversified companies are constantly realigning their product lines to focus on their major strengths. This realigning may leave them with products, assets, or technologies that they do not wish to exploit themselves but that may be profitably transferred to other companies. Avoid or Counter Competition: Sometimes markets are not large enough to hold many competitors. Companies may then band together so that they do not have to compete with once another. Secure vertical and Horizontal Links: There are potential cost savings and supply assurances from vertical integration. However, companies may lack the competence or resources needed to own and manage the full value – chain of activities. Horizontal links may provide finished products or components. For finished products, there may be economies of scope in distribution – for example, sales reps may be able to offer a full line of products., thereby increasing the sales per fixed cost for a visit to potential customers.

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Gain locations – specific Assets: Cultural, political, competitive, and economic differences among countries create barriers for companies that want to operate abroad.

When they feed ill –

equipped to handle these differences, such companies may seek to collaborate with local companies that will help manage local operations. Overcome Governmental Constraints: Many countries limit foreign ownership. For example, the United States limited foreign ownership in airlines that service the domestic market and in sensitive defense manufactures. Mexico limits ownership in the oil industry. China and India are particularly restrictive, often requiring foreign companies either to share ownership or make numerous concessions to help them meet their economic and sovereignty goals. Thus, companies may have to collaborate if they are to serve certain foreign markets. Other legal factors may influence the company’s choice. Diversify Geographically: By operating in a variety of countries (geographic diversification), a company can smooth its sales and earnings because business cycles occur at different times within the different countries. Collaborative arrangements offer a faster initial means of entering multiple markets. Moreover, if product conditions favor a diversification rather than a concentration strategy, there are more compelling reasons to establish foreign collaborative arrangements. However, these arrangements will be less appealing for companies whose activities are already widely extended or those that have ample resources for such extension. Minimize Exposure in Risky environments:

companies worry that political or economic

changes will affect the safety of assets and their earnings in their foreign operations.

One way to

minimized loss from foreign political occurrences is to minimize the base of assets located abroad – or to share them.

A government may be less willing to move against a shared operation for fear of

encountering opposition from more than one company, especially if they are from different countries and can potentially elicit support from their home governments.

Another way to spread risk is to place

operations in a number of different countries. This strategy reduces the chance that all foreign assets will encounter adversity at the same time. 10.2. POLICY ON FOREIGN DIRECT INVESTMENT 1. India has among the most liberal and transparent policies on FDI among the emerging economies. FDI up to 100% is allowed under the automatic route in all activities/sectors except the

following,

which

require

prior

approval

the

Government:-

Sectors prohibited for FDI 2. All activities/ sectors would require prior government approval for fdi in the following circumstances: 3. Proposals in which the foreign collaborator has an existing financial/technical collaboration in india in the same field.

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4. Proposals for acquisitions of shares in an existing indian company in financial service sector and where securities and exchange board of india (substantial acquisition of shares and takeovers) regulations, 1997 is attracted. 5. All proposals falling outside notified sectoral policy/CAPS under sectors in which FDI is not permitted. Most of the sectors fall under the automatic route for FDI. In these sectors, investment could be made without approval of the central government. The sectors that are not in the automatic route, investment requires prior approval of the Central Government. The approval in granted by Foreign Investment Promotion Board (FIPB). In few sectors, FDI is not allowed. After the grant of approval for FDI by FIPB or for the sectors falling under automatic route, FDI could take place after taking necessary regulatory approvals form the state governments and local authorities for construction of building, water, environmental clearance, etc. Procedure under Government Approval: FDI in activities not covered under the automatic route require prior government approval. Approvals of all such proposals including composite proposals involving foreign investment/foreign technical collaboration are granted on the recommendations of Foreign Investment Promotion Board (FIPB). Application for all FDI cases, except Non-Resident Indian (NRI) investments and 100% Export Oriented Units (EOUs), should be submitted to the FIPB Unit, Department of Economic Affairs (DEA), Ministry of Finance. Application for NRI and 100% EOU cases should be presented to SIA in Department of Industrial Policy and Promotion. Application can be made in Form FC-IL. Plain paper applications carrying all relevant details are also accepted. No fee is payable. The guidelines for consideration of FDI proposals by the FIPB are at Annexure-III of the Manual for FDI. Procedure under Automatic Route: FDI in sectors/activities to the extent permitted under automatic route does not require any prior approval either by the Government or RBI. The investors are only required to notify the Regional Office concerned of RBI within 30 days of receipt of inward remittances and file the required documents with that office within 30 days of issue of shares of foreign investors. PROHIBITED SECTORS

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The extant policy does not permit FDI in the following cases: i.

Gambling and betting

ii.

Lottery Business

iii.

Atomic Energy

iv.

Retail Trading

Agricultural or plantation activities of Agriculture (excluding Floriculture, Horticulture, Development of Seeds, Animal Husbandry, Pisiculture and Cultivation of Vegetables, Mushrooms etc., under controlled conditions and services related to agro and allied sectors) and Plantations (other than Tea Plantations)

General Permission of RBI under Fema: Indian companies having foreign investment approval through FIPB route do no require any Suggested clearance from RBI for receiving inward remittance and issue of shares to the foreign investors. The companies are required to notify the concerned Regional Office of the RBI of receipt of inward remittances within 30 days of such receipt and within 30 days of issue of shares to the foreign investors or NRIs. Industrial Licensing: With progressive liberalization and deregulation of the economy, industrial license is required in very few cases. Industrial licenses are regulated under the Industries (Development and Regulation) Act 1951. At present, industrial license is required only for the following: 1. Industries retained under compulsory licensing. 2. Manufacture of items reserved for small scale sector by larger units. 3. When

the

proposed

location

attracts

locational

restriction

The following industries require compulsory license: I. Alcoholics drink II. Cigarettes and tobacco products III. Electronic aerospace and defence equipment IV. Explosives V. Hazardous chemicals such as hydrocyanic acid, phosgene, isocyanides and diIsocynates of hydro carbon and derivatives

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FOR

103

OBTAINING

INDUSTRIAL

LICENSE

Industrial license is granted by the Secretariat for Industrial Assistance in Department of Industrial Policy and Promotion, Government of India. Application for industrial license is required to be submitted in Form FC-IL to Department of Industrial Policy and Promotion. Small Scale Sector: An industrial undertaking is defined as small scale unit if the capital investment does not exceed Rs. 10 million (approximately $ 222,222). The Government has reserved certain items for exclusive manufacture

the

small-scale

sector.

Non small-scale units can manufacture items reserved for the small-scale sector if they undertake an obligation to export 50% of the production after obtaining an industrial license. Location Restrictions: Industrial undertakings to be located within 25 kms of the standard urban area limit of 23 cities having a population of 1 million as per 1991 census require an industrial license. Industrial license even in these cases is not required if a unit is located in an area designated as an industrial area before 1991 or non-polluting industries such as electronics, computer software, printing and other specified industries. Environmental Clearances: Entrepreneurs are required to obtain Statutory clearances, relating to Pollution Control and Environment as may be necessary, for setting up an industrial project for 31 categories of industries in terms of Notification S.O. 60(E) dated 27.1.94 as amended from time to time, issued by the Ministry of Environment and Forests under The Environment (Protection) Act 1986. This list includes petrochemicals complexes, petroleum refineries, cement, thermal power plants, bulk drugs, fertilizers, dyes, papers etc., However, if investment in the project is less than Rs.1 billion (appox. $ 22.2 million), such Environmental clearance is not necessary, except in cases of pesticides, bulk drugs and pharmaceuticals, asbestos and asbestos products, integrated paint complexes, mining projects, tourism projects of certain parameters, tarred

roads

Himalayan

areas,

distilleries,

dyes,

foundries

and

electroplating

industries.

Setting up industries in certain locations considered ecologically fragile (e.g. Aravalli Range, coastal areas, Doon Valley, Dahanu etc.) are guided by separate guidelines issues by the Ministry of Environment and Forests. GUIDELINES FOR THE CONSIDERATION OF FOREIGN DIRECT INVESTMENT (FDI) PROPOSALS BY THE FOREIGN INVESTMENT PROMOTION BOARD (FIPB) The following Guidelines are laid-down to enable the Foreign Investment Promotion Board (FIPB) to consider the proposals for Foreign Direct Investment (FDI) and formulate its recommendations.

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1. All applications should be put up before the FIPB by the SIA (Secretariat of Industrial Assistance) within 15 days and it should.4 be ensured that comments of the administrative ministries are placed before the Board either prior to/or in the meeting of the Board. 2. Proposals should be considered by the Board keeping in view the time-frame of 6 weeks for communicating Government decision (i.e. approval of IM/CCFI or rejection as the case may be). 3. In cases in which either the proposal is not cleared or Suggested information is required in order to obviate delays presentation by applicant in the meeting of the FIPB should be resorted to. 4. While considering cases and making recommendations, FIPB should keep in mind the sectoral requirements and the sectoral policies vis-a-vis the proposal(s). 5. FIPB would consider each proposal in totality (ie. if it includes apart from foreign investment. technical collaboration/industrial

license)

for

composite

approval

or,

otherwise.

However,

the

FIPB's

recommendation would relate only to the approval for foreign financial and technical collaboration and the foreign investors will need to take other prescribed clearances separately. 6. The Board should examine the following while considering proposals submitted to it for consideration. (i) Whether the items of activity involve industrial license or not and if so the considerations for grant of industrial license must be gone into; (ii) Whether the proposal involves technical collaboration and if so (a) the source and nature of technology sought to be transferred, (b) the terms of payment (payment of royalty by 100%subsidiaries is not permitted); (iii) Whether the proposal involves any mandatory requirement for exports and if so whether the applicant is prepared to under take such obligation (this is for Small Industry Units, as also for dividend balancing and for 100% EOUs/EPZ Units). (iv) Whether the proposal involves any export projection and if so the items of export and the projected destinations.

10.3. KINDS OF JOINT VENTURES There are basically two types of joint venturesâ&#x20AC;Ś.the Insider Joint Venture and the Outsider Joint Venture. Both kinds are profitable the difference is who the partners in the agreements are: 1. Insider Joint Venture 2. Outsider Joint Venture The insider joint venture agreement allows all parties to it access to the same private areas of the business such as the administration panel, accounting, sales records, and other insiderâ&#x20AC;&#x2122;s knowledge. The product or service that is the focus of the agreement is usually developed as a joint effort by the parties to the agreement. Ownership of the product or service is jointly held. The Outsider Joint Venture is the kind that is most common in the Internet marketing arena. In this kind of joint venture, there are no common administration panel, accounting or sales records. Each entity remains separate. Usually an individual or company has developed a product or service but has no

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customer base to market it to. The individual or company will approach an established marketer who does have a customer

But any kind of collaboration with another company could be described as a joint venture. For example: 

contractual arrangements such as entering into a distribution agreement



setting up a separate joint venture company to carry out a specific (and often finite) project such as development of a new product



forming a partnership



merging two businesses Joint

ventures

generally

involve

some

sharing

resources

and

risks.

One option is to agree to co-operate with another business in a limited and specific way. For example, a small business with an exciting new product might want to sell it through a larger company's distribution network. The two partners could agree a contract setting out the terms and conditions of how this would work. Another option is to set up a separate joint venture business, possibly a new company, to handle a particular contract. A joint venture company like this can be a very flexible option. The partners each own shares in the company and agree how it should be managed. In some circumstances, other options may work better than a limited company. For example, you could form a business partnership or a limited liability partnership. You might even decide to completely merge your two businesses. For more information, see the guide on legal structures: the basics. Two or more firms join together to create a new business entity that is legally separate and distinct from its parents.

Joint ventures are established as corporations and owned by the funding

partners in the predetermined proportions. American Motor Corporation entered into a joint venture with Beijing automotive Works called Beijing Jeep to enter Chinese market by producing jeeps and other vehicles. Joint ventures involve shared ownership. Joint ventures are common in international business. Various environmental factors like social, technological, economic and political encourage the formation of joint ventures. Joint ventures provide required strengths in terms of required capital, latest technology required human talent etc. and enable the companies to share the risks in the foreign markets. Joint ventures involve the local companies. This act improves the local image in the host country and also satisfies the governmental requirements regarding joint ventures. In fact, support of the host country’s Governments is essential for the success of the joint venture. Massey – Ferguson entered into a 51% joint venture in Turkey to produce tractors. It planned to produce 50,000 engines per year and called the Government to provide facilities for an additional

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production of 30,000 tractors a yea. Massey – Ferguson failed to understand economic, political and Governmental factors in the country. The company needed government support for its successful operation.

The venture is terminated as the Government of Turkey did not provide support to the

company. Life cycle of a joint venture: The first stage of the life cycle of a joint venture begins with exploratory stage. During this stage the prospective partners start making: 

Alliances



Project Collaborations



Feasibility Studies.

After making alliances, the growth phase of the joint venture takes place. If the interests of the parties vary at this stage, they will lead to collapse of the joint venture in this phase itself. If the partners work together, this phase leads to stability of the joint ventures. Even in the stability stage, the joint venture may collapse. If not, the changed interests of the parties force them to renegotiate regarding their interests and shares. If the renegotiation is not successful, the joint venture may collapse. The reasons for collapse include: 

Entry of new competitors



Changes in Business Environment



Changes in partners’ strengths



Today’s partners may become tomorrow’s competitors,



Changes in partners’ interests.

Partners in the Joint Ventures: Different types of partners join the joint ventures. They include: Host country’s Governments: Host country’s governments normally act as local partners in joint ventures. These are most effective joint ventures in developing and socialistic pattern or countries. This type of joint venture is called public – private venture. Public – private venture: Public – private joint venture involves partnership between a government and a private company. This type of joint venture is created under the following circumstances:

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When the priority of the government for development matches with the competence of a private company. Government of Ivory Coast formed a joint venture with Ranger Oil Limited of Canada and Gulf Canada to explore and develop prospective oil fields in the country. 

When a country allows entry of foreign companies only through joint ventures with the government.



Firms enter centrally controlled economies like china and Sweden only through joint ventures with the government.

For example, Alcatel’s joint venture with the Ministry of Posts and

Telecommunications, Shanghai Bell, China. Private Partners: Many companies would like to have joint venture with private companies. Local private partners provide marketing knowledge, cultural know – how, information regarding financial companies, creditors, employee work culture, trade unions etc.

Active partners participate in ownership and

management. Silent partners provide local acceptance and local knowledge. Joint Ventures Between Multinational Companies: These types of joint ventures are quite common. Joint ventures are formed with the special skills of the two multinational companies. 10.4. NEGOTIATION AND DRAFTING OF FOREIGN COLLABORATIONS It is indicated that joint ventures mostly fail due to potential problems and cultural variations. Harrigan suggests the following measures to make the joint ventures successful: 

Don’t Accept a joint venture agreement too – quickly, weigh the pros and cons.



Get to know a partner by initially doing a limited project together, if a small project is successful, bigger projects are more feasible.



Small companies are vulnerable to having their expertise lost to larger joint venture partners; small companies must structure such deals with great care and guard against potential losses.



Companies with similar cultures and relatively equal financial resources work best together; keep this in mind when looking for an appropriate partner.



Protect the company’s core business through legal means, such as unassailable patents’ if this is not possible, don’t let the partner learn your methods.



The joint enterprise must fit the corporate strategy of both parents, if this is not the case, there will inevitably be conflicts.



Keep the mission of the joint enterprise small and well – defined, ensure that it does not compete with the parents.



Give the joint enterprise autonomy to function on it own and set up mechanisms to monitor its results, it should be separate entity from both parents.

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Learn from the joint enterprise and use this in the parent Organization.



Limit the time frame of the joint enterprise and review its progress frequently.

108

Drafting: Generally a Memorandum of Understanding or a Letter of Intent is signed by the parties highlighting the basis of the future joint venture agreement. A good Joint Venture agreement is one which provides a comprehensive road map of the duties and obligations of both the parties. It minimizes complications when a dispute arises. However, many a time’s people neglect to pay attention while drafting an Joint Venture agreement. Before finalizing an Joint Venture Agreement, the terms should be thoroughly discussed and negotiated to avoid any misunderstanding at a later stage. Negotiations require an understanding of the cultural and legal background of the parties. A Memorandum of Understanding and a Joint Venture Agreement must be signed after consulting lawyers well versed in international laws and multi-jurisdictional laws and procedures. Before signing a Joint Venture Agreement the following must be properly addressed: 

Applicable law.



Force Majeure



Holding shares



Transfer of shares



Board of Directors



General meeting.



CEO/MD



Management Committee



Important decisions with consent of partners



Dividend policy



Funding



Access.



Change of control



Non-Compete



Confidentiality



Indemnity



Assignment.

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Break of deadlock



Termination



Security and confidentiality



Legal compliance



Fees and payment terms



Proprietary rights



Auditing rights



Events of Defaults and Addressing



Dispute Resolution Mechanism



Time limits



Location of Arbitration



Number of Arbitrators



Interim measures/Provisional Remedies



Privacy Agreement



Non-compete Agreement



Confidentiality Agreement



Rules Applicable



Appeal & Enforcement



Be aware of local peculiarities



Survival terms after the termination of the Joint Venture agreement.

109

The Joint Venture agreement should be subject to obtaining all necessary governmental approvals and licenses within specified period. Every Joint Venture agreement should be modified as applicable under different circumstances. One brush should not paint all the painting. International Joint Venture could be is a legal minefield and many companies are not aware of the problems it causes. 10.5. RESTRICTIVE CLAUSES IN FOREIGN COLLBORATIONS 1. Sectors prohibited for FDI: i. Retail trading (except Single Brand Product retailing) ii. Atomic energy iii. Lottery business iv. Gambling and Betting

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2. ALL ACTIVITIES/ SECTORS WOULD REQUIRE PRIOR GOVERNMENT APPROVAL FOR FDI IN THE FOLLOWING CIRCUMSTANCES: i.

where provisions of Press Note 1(2005 Series) are attracted;

ii.

Where more than 24% foreign equity is proposed to be inducted for manufacture of items reserved for the Small Scale sector.

3. As per existing policy, lottery business, gambling and betting are not open to foreign investment, which applies to FDI, FII portfolio investment, NRI/OCB portfolio investment, NRI/OCB investment on nonrepatriation basis and investment by foreign venture capital investors. i. Government has been receiving queries from certain State Governments, prospective investors, technology providers, franchise / trademark / brand name licensors, management consultants, etc. as to whether FDI is permissible in Government / private lotteries, online lotteries, casinos, etc., and also whether foreign technology collaboration, including licensing of franchise / trademark / brand name, management contract, etc., are permitted in the lottery business, gambling and betting sector. 4. It is clarified that both foreign investment and foreign technology collaboration in any form are completely prohibited in the lottery business, gambling and betting sector.

10.6. INDIAN JOINT VENTURES ABROAD Unlike joint ventures in India, Joint venture undertakings are established abroad by the Indian entrepreneurs for building up an export potential for their products manufactured through foreign collaboration in the developing countries where there is a favourable political climate and a demand for the Indian products. For this purpose, the Government offers the following opportunities: (i)

Opportunities to increase the export potential of the Indian company;

(ii)

Facility of repatriation to India of capital and dividend and royalty and remuneration earned

outside India from joint ventures; (iii)

Incentives under the Income-tax Act.

(iv)

Compliance with requirements for setting up joint ventures.-The following requirements will have

to be complied with for setting up joint ventures abroad: (a)

Under Companies Act.-Since the Governmentâ&#x20AC;&#x2122;s policy is to encourage only the corporate

bodies to invest

in joint ventures abroad

application should be made to the Central Government,

Department of Company Affairs under section 372 (4) if the Companies Act, 1956 in Form

34-B

prescribed under the Companies (Central Governmentâ&#x20AC;&#x2122;s) General Rules and Forms, 1956 (b)

Under FERA.- Section 27 of Foreign Exchange Regulation Act, 1973, requires that persons

resident in India including firms and companies (other than foreign nationals) should obtain permission of the Government of India to associate

prior

themselves with, or participate in, whether as

promoters or otherwise, any concern outside India engaged in, or intending to engage in, any activity of

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a trading, commercial or industrial nature, whether such concern is a body corporate or not. The application has to be made in the prescribed Form PFCE (c)

Approval of Reserve bank.-An application has to be made to the Reserve Bank of India in the

prescribed Form GRI/EP (Form Nos. 2 and 3 below) for export of plant and machinery and other capital goods or equipment from India towards the Indian collaborator’s contribution to the ventures abroad. (d)

For sending representatives.-If the Indian company sends its representative abroad for purposes

of the overseas venture, application has to be made to the Reserve Bank of India for exchange in the prescribed Form (e)

Remittance of cash.-If the Central Government permits remittance of cash towards

equality

participation on the overseas concern, application for release of foreign exchange will have to be made in the prescribed Form (f)

Holding shares and securities abroad

(g)

Holding shares and securities abroad –An application has to be made in the prescribed Form

FADI (Form No. 6 below) to the Controller, Exchange Control Department, Reserve Bank of India, Central Office (Foreign Accounts Division) Bombay-1 for licence to hold the shares or securities abroad. (ii)

Tax concessions under Income-tax Act.-The following tax concessions and incentives are

provided by the Income-tax Act in respect of joint venture abroad: (a)

Deduction of 50% (25% up to 31.3.1987) of profits and gains from projects outside India.-Section

80 HHB of the Income-tax Act, inserted w.e.f. 1.4.11983, provides for a deduction of 50% (25% up to 31.3.1987) of profits and gains of an Indian company or a non-corporate resident assesses derived from the business of execution of a foreign project –undertaken by the assesses in pursuance of a contract entered into with the Government of a foreign State or any statutory or other public authority or agency in a foreign State or a foreign enterprise if the following conditions are fulfilled: (a)

The foreign project must be a project for construction of any buildings, road, dam, bridge or

other structure outside India or the assembly or installation of any machinery or plant outside India, or the execution of such other work (b)

which may be prescribed.

The consideration for the execution of the foreign project is payable in convertible foreign

exchange. (c)

The assesses keeps separate accounts of such profits and gains from the foreign project. Where

the assesses is a person other than an Indian company or co-operative society, the accounts are audited by an accountant, and a report of such audit in the prescribed form and signed and verified by such accountant is furnished along with his return of income. (d)

An amount to equal 50% of such profits and gains is debited to the profit

(c)

The assesses keeps separate accounts of such profits and gains from the foreign project. Where

the assesses is a person other than an Indian company or co-operative society, the accounts

are

audited by an accountant, and a report of such audit in the prescribed form and signed and verified by such accountant is furnished along with his return of income.

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An amount equal to 50% of such profits and gains is debited to the profit and loss account of the

previous year of the assessee and credited to a reserve account

is to be

utilised by the assessee

during a period of five years next following for the purpose of its business. It should not be distributed by way of dividend or profits. (e)

An equal amount of 50% of such profits and gains is brought by the assessee into India in

convertible foreign exchange in accordance with the provisions of the Foreign Exchange Regulation Act. 1973, within six month from the end of the previous year. Where the amount brought into India in convertible foreign exchange falls short of 50% , deduction allowed will be limited to the amount credited or brought into India. (b)

Deduction of 50% of royalties, commission, etc., received from foreign enterprises.-Under Section

80-O of the Income-tax Act, a deduction of an amount equal to 50% of income by way of royalty, commission, fees or any similar payment received by an Indian company from the Government of a foreign State or a foreign enterprise in consideration for the use outside India of any patent, invention, model, design, secret formula or process, or similar property right, or information concerning industrial, commercial or scientific knowledge, experience or skill made available or provided or agreed to be made available or provided to such Government or enterprise by the assessee, or in consideration of technical services rendered or agreed to be rendered outside India to such Government or enterprise by the assessed, is allowed.

10.7. QUESTIONS Section â&#x20AC;&#x201C; A Short questions 1. What are the advantages of joint ventures? 2. What are the sectors prohibited from FDI? 3. State the different kinds of joint ventures 4. What are factors that are to be considered while drafting an agreement in joint ventures? Section â&#x20AC;&#x201C; B Small answer type 1. Explain the different kinds of joint ventures 2. Discuss Indian joint ventures abroad with suitable examples 3.

What is FDI? Explain the any two restrictive regulations in terms of FDI

Section - C Essay type questions 1. Describe Industrial policy of Indian Government in FDI 2. Describe the process of negotiation and drafting of a joint venture

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10.8. SUGGESTED READINGS 1. Francis Cherunilam – International trade and Export – Himalaya publishing House 1999. 2. Sak Onkvisit and John Shaw – International Marketing – Prentice Hall India. 3. John D.Daniels and Lee H. Radebaugh – International business – Pearson education Asia

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CHAPTER - 11 FOREIGN EXCHANGE REGULATIONS STRUCTURE 11.0. OBJECTIVES 11.1. FOREIGN EXCHANGE 11.2. BALANCE OF PAYMENTS 11.3. LETTER OF CREDIT 11.4. EXPORT PAYMENT 11.5. PRE AND POST SHIPMENT 11.6. QUESTIONS 11.7. SUGGESTED READINGS

11.0. OBJECTIVES After studying this unit, you should be able to understand: 

Foreign exchange



Balance of payments



Letter of credit



Export payment



Pre and post shipment

11.1. FOREIGN EXCHANGE The importing country pays money to the exporting country in return of goods either on its domestic currency or in hard currency. This currency which facilities the payment to complete the transaction is called Foreign exchange. This foreign exchange is the money in one country for money or credit or goods or services in another country. Foreign exchange includes foreign currency, foreign cheques, and foreign drafts. Foreign exchange is bought and sold in foreign exchange markets. The components of foreign exchange market include: the buyers, the sellers and the intermediaries. Foreign exchange market is not restricted to any place or country. In fact, foreign exchange in recent times is traded through on-line (internet0. Foreign exchange market is the market for currencies of various anywhere in the globe, as the financial centers of the world are united as a single market.

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The market intermediaries of the foreign exchange market include: 

Exchange Banks dealing in Foreign Exchange: these banks discount and sell foreign bills of exchange, issue bank drafts, effect travelers cheques and telegraphic transfer.



Bill brokers: they help sellers and buyers to come together.



Acceptance houses: they accept the bills of exchange on behalf of customers.



Central Bank of the country: it also deals in foreign exchange.

Exchange Rate Determination: The transaction in the foreign exchange market, viz., buying and selling foreign currency take place at a rate, which is called “exchange rate” Exchange rate is the price paid in the home currency for a unit of foreign currency. The exchange rate can be quoted in two ways, viz., 

One unit of foreign money to a number of units of domestic currency.



For example; 1 US $ = Rs. 50 or Re. 1 = US $n 0.02 Exchange rate in a free market6 is determined by the demand for and the supply of exchange of

a particular country. The equilibrium exchange rate is the rate at which demand for foreign exchange and the supply of foreign exchange are equal. Ragnar Nurske defined the equilibrium exchange rate as, “that rate which over a certain period of time keeps the balance of payment in equilibrium. “Equilibrium exchange rate can be determined by two methods: 

The exchange rate between US dollars and Indian Rupees can be determined by demand for and supply of US dollars in India or by Indians. The price of US $ is fixed in Indian Rupees.



The exchange rate between Indian Rupees and Us dollars can also be determined by demand for and supply of Indian Rupees by Americans or in the USA. The price of Indian Rupees is determined in US dollars. The prices are the same in both these methods.

Demand for Foreign Exchange: The demand for foreign exchange is determined by the countries: 

Imports of goods and services.



Investment in foreign countries (flow of capital to other countries), i.e., establishment of an industry by Indians in the USA.



Other payments involved in international transactions like payments of Indian Government to various foreign governments for settlement of their transactions.



Other types of outflow of foreign capital like giving donations etc. the demand curve indicates the amount of foreign exchange demanded (for example, US dollars).

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

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The demand curve is shown below: Excess Supply

Excess Demand

Amount of US Dollars supplied and demanded

Supply of Foreign Exchange: Supply of foreign exchange of a particular country (i.e., U.S. dollars) indicates the availability of foreign currency of a particular country to the country concerned (i.e., india ) in its foreign exchange market. The supply of foreign exchange includes: 

Country’s exports of goods and services to foreign countries.



Inflow of foreign capital.



Payments made by the foreign government to Indian government for settling their transactions.



Other types of inflow of foreign capital like remittances by the Non-resident Indians, donations received etc.

The supply curve of foreign exchange is shown by ‘SS’. The equilibrium exchange rate is determined at ‘p’ where the demand curve ‘DD’ intersects the supply curve ‘SS’ .Both the supply of foreign exchange and demand for foreign exchange is ‘OQQ” and the exchange rate is ‘OP’. At price (exchange and demand for foreign exchange ‘b’ is in excess of demand , for the same(i.e).,’ab’). At the price ‘op1’the demand for foreign exchange ‘d’ is in excess of supply ‘c’ (i.e.,’cd’). Increase in demand for foreign exchange, when the supply of the same is constant (or increase in demand is greater than that of supply) resulting in increase in price 11.2. BALANCE OF PAYMENT A balance of payment is a double entry system od record of all economic transactions between the residents of a country and the rest of the world carried out in a specific period of time. Balance of payments Statement presents a classified record of:

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All receipt on account of goods exported



Services rendered



Capital received by residents



Payment made by the residents due to goods imported and services received from



Capital transferred to non-residents/ foreigners.

117

The IMP publication on, “Balance of Payments Manual”, describes the concept of balance of payments as: The balance of payment is a statistical statement for a given period showing” 

Transactions in goods and services and income between an economy and the rest of the world.



Changes of ownership and other changes in that country’s monetary gold, SDRs, and claims onand liabilities to the rest of the world, and unrequired transfersand counterpart entries that are needed to balance, in the accounting sense, any entries for the forgoing transactions and changes which are not naturally off setting.

Balance Of Trade and Balance Of Payments The balance of trade is a narrow term. It takes into account only merchandise exports and imports. Thus, balance of trade takes into account only the transactions arising out of the export and import of visible items. In other words, balance of trade does not take into account the exchange of invisible items like services of banking sector, insurance sector, transport sector, tourism industry, interest payments and receipts, dividend payments and receipts and such other payments or receipts. The balance of payment takes into account the export and import of both the visible and invisible items. In other words, it takes into consideration, the export and import of goods of all kinds including consumer goods, consumer durables, fast moving consumer goods, capital goods, machinery, technical equipment and services like banking, insurances, tourism, transportation etc. and payment of salaries, benefits, interests, dividends etc. Thus, balance of payment is a much wider term as compared to balance of trade. Balance of payments presents an account of comprehensive economic and financial transactions of a country with the rest the globe. Components of Balance of Payment: As indicated earlier, these are several items in the balance of payments. These items can be classified as hereunder: 

Current Account



Capital Account



Unilateral payment Accounts



Official settlement Account.

Current Account:

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The Current account includes visible exports and imports and invisible items like receipts and payment for various services like banking, insurances, transportation, tourism, travel and the like. Current account contains credits and debits. Credits of current account include: merchandise exports (money income from sale of goods) and invisible exports (income from services). Invisible exports consists of transport services insurances, foreign tourist services and other services sold abroad and /or to foreigners and income received on loans and investment abroad.

Capital Account: Capital account is dived into three parts, (i) private capital (ii) banking capital and (iii) official capital. Private capital is suggested divided into long-term and short-term. Long-term private capital is with the maturity period of more than one year and short-term capital is with the maturity period of one year or less. Long-term private capital includes: 

Foreign investment- both direct and portfolio



Long-term loans



Foreign currency deposits



Estimated portion of the unclassified receipt allocated to the capital account. Banking capital covers movements in the external financial assets and liabilities of commercial and co-operative banks authorized to deal in foreign exchange.

Unilateral Transfers Account: Unilateral transfers are ‘giving the gifts.’ These include government grants, reparations, private remittances, disaster relief etc. India gave grant to Uganda in 1998. This item would be on the debit side of India’s balance of payment and credit side of the Uganda’s balance of payment. Unilateral transfers account basically consists of credit and debits. Credits include private remittances received from abroad (like savings of Indians working in various countries).pension payments received from abroad and government grants received from abroad. Debits include private remittances to abroad. Pension payments to abroad and government grants to various countries.

Official Settlement Account: Official settlement account represents the official sales of foreign currencies and other reserves to foreign countries or official purchase of foreign currencies or other reserves from foreign countries. Credits of this account are the money received from official sale of foreign currencies and offer reserves in foreign countries. Debits of this account include official purchase of foreign currencies and other assets.

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11.3. LETTER OF CREDIT A letter of credit is an instrument issued by a bank wherein the bank promises the exporter to pay upon receiving the proof that the exporter completed all the necessary formalities specified in the document. This guarantees the exporter regarding payment and hence, the payment is free from risk. The importer bank does this work by collecting a fee from the importer and also after obtaining a security to this effect.

11.4. EXPORT PAYMENT There are several basic methods of receiving payment for products sold abroad. As with domestic sales, a major factor that determines the method of payment is the amount of trust in the buyer's ability and willingness to pay. For sales within our country, if the buyer has good credit, sales are usually made on open account; if not, cash in advance is required. For export sales, these same methods may be used; however, other methods are also often used in international trade. Ranked in order from most secure for the exporter to least secure, the basic methods of payment are: 

cash in advance,



letter of credit,



documentary collection or draft,



open account, and



other payment mechanisms, such as consignment sales Since getting paid in full and on time is of utmost concern to exporters, risk is a major

consideration. Many factors make exporting riskier than domestic sales. However, there are also several methods of reducing risks. One of the most important factors in reducing risks is to know what risks exist. For that reason, exporters are advised to consult an international banker to determine an acceptable method of payment for each specific transaction.

Cash In Advance: Cash in advance before shipment may seem to be the most desirable method of all, since the shipper is relieved of collection problems and has immediate use of the money if a wire transfer is used. Payment by check, even before shipment, may result in a collection delay of four to six weeks and therefore frustrate the original intention of payment before shipment. On the other hand, advance payment creates cash flow problems and increases risks for the buyer. Thus, cash in advance lacks competitiveness; the buyer may refuse to pay until the merchandise is received. Documentary letter of credit and drafts The buyer may be concerned that the goods may not be sent if the payment is made in advance. To protect the interests of both buyer and seller, documentary letters of credit or drafts are often used. Under these two methods, documents are required to be presented before payment is made. Both letters of credit and drafts may be paid immediately, at sight, or at a later date. Drafts that are to be paid when presented for payment are called sight drafts. Drafts that

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are to be paid at a later date, which is often after the buyer receives the goods, are called time drafts or date drafts. Since payment under these two methods is made on the basis of documents, all terms of sale should be clearly specified. For example, "net 30 days" should be specified as "net 30 days from acceptance" or "net 30 days from date of bill of lading" to avoid confusion and delay of payment. Likewise, the currency of payment should be specified as "US$XXX" if payment is to be made in U.S. dollars. International bankers can offer other suggestions to help. Banks charge fees - usually a small percentage of the amount of payment - for handling letters of credit and less for handling drafts. If fees charged by both the foreign and local banks for their collection services are to be charged to the account of the buyer, this point should be explicitly stated in all quotations and on all drafts. The exporter usually expects the buyer to pay the charges for the letter of credit, but some buyers may not accept terms that require this added cost. In such cases the exporter must either absorb the letter of credit costs or lose that potential sale.

Letters Of Credit: A letter of credit adds a bank's promise of paying the exporter to that of the foreign buyer when the exporter has complied with all the terms and conditions of the letter of credit. The foreign buyer applies for issuance of a letter of credit to the exporter and therefore is called the applicant; the exporter is called the beneficiary. Payment under a documentary letter of credit is based on documents, not on the terms of sale or the condition of the goods sold. Before payment, the bank responsible for making payment verifies that all documents are exactly as required by the letter of credit. When they are not as required, a discrepancy exists, which must be cured before payment can be made. Thus, the full compliance of documents with those specified in the letter of credit is mandatory. Often a letter of credit issued by a foreign bank is confirmed by a local bank. This means that the local bank, which is the confirming bank, adds its promise to pay to that of the foreign, or issuing, bank. Letters of credit that are not confirmed are advised through a local bank and are called advised letters of credit. Exporters may wish to confirm letters of credit issued by foreign banks not only because they are unfamiliar with the credit risk of the foreign bank but also because there may be concern about the political or economic risk associated with the country in which the bank is located. An international banker can help exporters evaluate these risks to determine what might be appropriate for each specific export transaction. A letter of credit may be either irrevocable (that is, it cannot be changed unless both the buyer and the seller agree to make the change) or revocable (that is, either party may unilaterally make changes). A revocable letter of credit is inadvisable. A letter of credit may be at sight, which means

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immediate payment upon presentation of documents, or it may be a time or date letter of credit with payment to be made in the future. See the "Drafts" section of this chapter. Any change made to a letter of credit after it has been issued is called an amendment. The fees charged by the banks involved in amending the letter of credit may be paid by either the exporter or the foreign buyer, but who is to pay which charges should be specified in the letter of credit. Since changes can be time-consuming and expensive, every effort should be made to get the letter of credit right the first time. An exporter is usually not paid until the advising or confirming bank receives the funds from the issuing bank. To expedite the receipt of funds, wire transfers may be used. Bank practices vary, however, and the exporter may be able to receive funds by discounting the letter of credit at the bank, which involves paying a fee to the bank for this service. Exporters should consult with their international bankers about bank policy. A Typical Letter of Credit Transaction: Here is what typically happens when payment is made by an irrevocable letter of credit confirmed by a local bank: 

After the exporter and customer agree on the terms of a sale, the customer arranges for its bank to open a letter of credit. (Delays may be encountered if, for example, the buyer has insufficient funds.)



The buyer's bank prepares an irrevocable letter of credit, including all instructions to the seller concerning the shipment.



The buyer's bank sends the irrevocable letter of credit to a local bank, requesting confirmation. The exporter may request that a particular bank be the confirming bank, or the foreign bank selects one of its local correspondent banks.



The local bank prepares a letter of confirmation to forward to the exporter along with the irrevocable letter of credit.



The exporter reviews carefully all conditions in the letter of credit. The exporter's freight forwarder should be contacted to make sure that the shipping date can be met. If the exporter cannot comply with one or more of the conditions, the customer should be alerted at once.



The exporter arranges with the freight forwarder to deliver the goods to the appropriate port or airport.



When the goods are loaded, the forwarder completes the necessary documents.



The exporter (or the forwarder) presents to the local bank documents indicating full compliance.



The bank reviews the documents. If they are in order, the documents are airmailed to the buyer's bank for review and transmitted to the buyer.



The buyer (or agent) gets the documents that may be needed to claim the goods.



A draft, which may accompany the letter of credit, is paid by the exporter's bank at the time specified or may be discounted at an earlier date.

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Drafts: A draft, sometimes also called a bill of exchange, is analogous to a foreign buyer's check. Like checks used in domestic commerce, drafts sometimes carry the risk that they will be dishonoured. Sight Drafts: A sight draft is used when the seller wishes to retain title to the shipment until it reaches its destination and is paid for. Before the cargo can be released, the original ocean bill of lading must be properly endorsed by the buyer and surrendered to the carrier, since it is a document that evidences title. Air waybills of lading, on the other hand, do not need to be presented in order for the buyer to claim the goods. Hence, there is a greater risk when a sight draft is being used with an air shipment. In actual practice, the bill of lading or air waybill is endorsed by the shipper and sent via the shipper's bank to the buyer's bank or to another intermediary along with a sight draft, invoices, and other supporting documents specified by either the buyer or the buyer's country (e.g., packing lists, consular invoices, insurance certificates). The bank notifies the buyer when it has received these documents; as soon as the amount of the draft is paid, the bank releases the bill of lading, enabling the buyer to obtain the shipment. When a sight draft is being used to control the transfer of title of a shipment, some risk remains because the buyer's ability or willingness to pay may change between the time the goods are shipped and the time the drafts are presented for payment. Also, the policies of the importing country may change. If the buyer cannot or will not pay for and claim the goods, then returning or disposing of them becomes the problem of the exporter. Exporters should also consider which foreign bank should negotiate the sight draft for payment. If the negotiating bank is also the buyer's bank, the bank may favor its customer's position, thereby putting the exporter at a disadvantage. Exporters should consult their international bankers to determine an appropriate strategy for negotiating drafts. Time Drafts and Date Drafts: If the exporter wants to extend credit to the buyer, a time draft can be used to state that payment is due within a certain time after the buyer accepts the draft and receives the goods, for example, 30 days after acceptance. By signing and writing "accepted" on the draft, the buyer is formally obligated to pay within the stated time. When this is done the draft is called a trade acceptance and can be either kept by the exporter until maturity or sold to a bank at a discount for immediate payment. A date draft differs slightly from a time draft in that it specifies a date on which payment is due, for example, December 1, XXXX, rather than a time period after the draft is accepted. When a sight draft or time draft is used, a buyer can delay payment by delaying acceptance of the draft. A date draft can prevent this delay in payment but still must be accepted.

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When a bank accepts a draft, it becomes an obligation of the bank and a negotiable investment known as a banker's acceptance is created. A banker's acceptance can also be sold to a bank at a discount for immediate payment. Credit Cards: Many exporters of consumer and other products (generally of low value) that are sold directly to the end user accept Visa and MasterCard in payment for export sales. International credit card transactions are typically placed by telephone or fax, methods that facilitate fraudulent transactions. Merchants should determine the validity of transactions and obtain proper authorizations. Open Account: In a foreign transaction, an open account is a convenient method of payment and may be satisfactory if the buyer is well established, has demonstrated a long and favorable payment record, or has been thoroughly checked for creditworthiness. Under open account, the exporter simply bills the customer, who is expected to pay under agreed terms at a future date. Some of the largest firms abroad make purchases only on open account.

Open account sales do pose risks, however. The absence of documents and banking channels may make legal enforcement of claims difficult to pursue. The exporter may have to pursue collection abroad, which can be difficult and costly. Also, receivables may be harder to finance, since drafts or other evidence of indebtedness are unavailable. Before issuing a pro forma invoice to a buyer, exporters contemplating a sale on open account terms should thoroughly examine the political, economic, and commercial risks and consult with their bankers if financing will be needed for the transaction. Consignment Sales: In international consignment sales, the same basic procedure is followed as in the local market. The material is shipped to a foreign distributor to be sold on behalf of the exporter. The exporter retains title to the goods until they are sold by the distributor. Once the goods are sold, payment is sent to the exporter. With this method, the exporter has the greatest risk and least control over the goods and may have to wait quite a while to get paid. When this type of sale is contemplated, it may be wise to consider some form of risk insurance. In addition, it may be necessary to conduct a credit check on the foreign distributor. Suggested more, the contract should establish who is responsible for property risk insurance covering merchandise until it is sold

and

payment

received.

Foreign Currency: A buyer and a seller in different countries rarely use the same currency. Payment is usually made in either the buyer's or the seller's currency or in a mutually agreed-on currency that is foreign to both parties.

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One of the uncertainties of foreign trade is the uncertainty of the future exchange rates between currencies. The relative value between the local currency and the buyer's currency may change between the time the deal is made and the time payment is received. If the exporter is not properly protected, devaluation in the foreign currency could cause the exporter to lose money in the transaction. One of the simplest ways for an exporter to avoid this type of risk is to quote prices and require payment in local currency. Then the burden and risk are placed on the buyer to make the currency exchange. Exporters should also be aware of problems of currency convertibility; not all currencies are freely or quickly convertible into local currency. If the buyer asks to make payment in a foreign currency, the exporter should consult an international banker before negotiating the sales contract. Banks can offer advice on the foreign exchange risks that exist; Suggested, some international banks can help one hedge against such a risk if necessary, by agreeing to purchase the foreign currency at a fixed price regardless of the value of the currency when the customer pays. The bank charges a fee or discount on the transaction. If this mechanism is used, the fee should be included in the price quotation. Counter trade and Barter: International counter trade is a trade practice whereby a supplier commits contractually, as a condition of sale, to undertake specified initiatives that compensate and benefit the other party. The resulting Linked trade fulfils financial (e.g., lack of foreign exchange), marketing, or public policy objectives of the trading parties. Not all suppliers consider counter trade an objectionable imposition; many exporters consider counter trade a necessary cost of doing business in markets where exports would otherwise not occur. Simple barter is the direct exchange of goods or services between two parties; no money changes hands. Pure barter arrangements in international commerce are rare, because the parties' needs for the goods of the other seldom coincide and because valuation of the goods may pose problems. The most common form of compensatory trade practiced today involves contractually linked, parallel trade transactions each of which involves a separate financial settlement. For example, a counter trade contract may provide that the exporter will be paid in a convertible currency as long as the exporter (or another entity designated by the exporter) agrees to export a related quantity of goods from the importing country. Exporters can take advantage of counter trade opportunities by trading through an intermediary with counter trade expertise, such as an international broker, an international bank, or an export management company. Some export management companies offer specialized counter trade services. Exporters should bear in mind that counter trade often involves higher transaction costs and greater risks than simple export transactions. Decreasing Credit Risks through Credit Checks: Generally, it is a good idea to check a buyer's credit even if credit risk insurance or relatively safe payment methods are employed. Banks are often able to provide credit reports on foreign companies, either through their own foreign branches or through a correspondent bank.

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Private credit reporting services also are available. Several services compile financial information on foreign firms (particularly larger firms) and make it available to subscribers. Reliable evaluations can also be obtained from foreign credit reporting services, many of which are listed in The Exporter's Guide to Foreign Sources for Credit Information

Collection Problems: In international trade, problems involving bad debts are more easily avoided than rectified after they occur. Credit checks and the other methods that have been discussed can limit the risks involved. Nonetheless, just as in a company's domestic business, exporters occasionally encounter problems with buyers who default on payments. When these problems occur in international trade, obtaining payment can be both difficult and expensive. Even when the exporter has insurance to cover commercial credit risks, a default by a buyer still requires time, effort, and cost. The exporter must exhaust all reasonable means of obtaining payment before an insurance claim is honored, and there is often a significant delay before the insurance payment is made. The simplest (and least costly) solution to a payment problem is to contact and negotiate with the customer. With patience, understanding, and flexibility, an exporter can often resolve conflicts to the satisfaction of both sides. This point is especially true when a simple misunderstanding or technical problem is to blame and there is no question of bad faith. Even though the exporter may be required to compromise on certain points - perhaps even on the price of the committed goods - the company may save a valuable customer and profit in the long run. If, however, negotiations fail and the sum involved is large enough to warrant the effort, a company should obtain the assistance and advice of its bank, legal counsel, and other qualified experts. If both parties can agree to take their dispute to an arbitration agency, this step is preferable to legal action, since arbitration is often faster and less costly. The International Chamber of Commerce handles the majority of international arbitrations and is usually acceptable to foreign companies because it is not affiliated with any single country.

11.5. PRE AND POST SHIPMENT Transporting the goods by ship is cheaper compared to that by air. In addition, physical size of the products creates hurdles for transporting by air. Regarding shipment, the exporter has to contact shipping companies for space, after getting the confirmed order. Sometimes getting the space in ships is easy through agents as they have information of alls shipping companies throughout the world. The shipping company may issue shipping advice o shipping order, depending upon the requirement of the exporter. In case of shipping advice, the shipping company has no obligation to accept the cargo as the shipping advice is only providing information of availability of space at the time of

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issue of the acceptance. But in case of shipping order, the shipping company has the obligation to accept the cargo. 

Customs Clearance: The exporter has to get custom clearance of the goods before; they are loaded on the ship.

Customs authorities accord their formal approval after

scrutinizing complete set of shipping documents, copies of shipping bill etc.

these

documents include.



Proforma invoice in original and duplicate

GR – 1 Form (in duplicate)

AR – 4 form (in original and supplicate)

Export License (if required)

Letter of credit covering the export order, export contract or order in original

Certificate of inspection (where necessary)

Form of declaration (in duplicate)

Shipping bill (five copies)

Quality Control inspection Certificate (if required)

Original contract wherever available

Packing list

Letter of Registration Certificate (if applicable).

GR – 1 Form: This form is an exchange control document required by the Reserve bank of India. The exporter has to realize the proceeds of the goods exported within 180 days from the date of the shipment from India. This form is not necessary in case of export to Nepal and Bhutan.



Shipping Bill: This is an exchange document needed by the customs official for granting permission for shipment. This bill contains the following information. o

Name of the Exporter/shipper including his address and IEC number.

Description and quantity of goods to be shipped

Value of goods

Number of packages and marking on them

Amount of drawback claimed (drawback duty is allowed when the goods are produced in India).



Port of destination.

Names of the ship and its agent.

Export License: Export license is necessary for certain categories of goods. Export license can be obtained from the Joint Director General of Foreign Trade (JDGFT).

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Carting Order: Once the goods are ready of export and the shipping order is available, the exporter has to approach the Superintendent of the concerned Port Trust for the latter’s permission to move the goods physically inside the port area. The superintendent of the Port Trust issues the order for moving the goods in to the port area after verifying the shipping bill and shipping order. This order given by the superintendent is called the caring order. After getting the carting order his exporter physically moves the goods into the port area.

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Customs Examination of Cargo at Docks: The customs authorities after checking the documents check the products to be exported at the docks. The exporter can arrange for the physical check of the products in his factory or warehouse. Applications for this facility can be made to the assistant collector of Customs. The customs Applications for this facility the consignment will seal the packages, after his satisfaction. Such packages are normally not checked again at the Port, unless the bonafides of the exporter are doubtful.

The customs authorities accord formal approval for export, once they are satisfied with the products and documents. After obtaining the approval from the customs authorities, the exporter can make the arrangements for loading the cargo on a ship. 

Let ship: After getting the approval from the customs officials, the exporter arranges for loading the products on the ship. Before loading takes place, the exporter’s forwarding agent has to get the permission from the Preventive Officer of the customs department. This permission is called the ‘Let ship order’. Let ship order authorizes the shipping company to accept the cargo on board the vessel. The goods are to be loaded on the ship in the presence of customs officials after obtaining let ship order.

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Mate’s Receipt: After the goods are loaded on the ship, the captain of the ship furnishes a document to the Port Superintendent. This document is called ‘Mate’s Receipt’, which certifies the loading of the cargo. This document provides the details of the products, condition of the products at the time of loading, etc.

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Port Trust Dues: The Port Trust Authorities after receiving the ‘Mate’s Receipt’, from the captain of the ship, issues the ‘bill o lading’ to the exporter.

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Bill of Lading: The Exporter’s forwarding agent collects the ‘Mate’s Receipt’ and submits the same of to the authorities and in turn collects the bill of lading from the port authorities.

The exporter’s forwarding agent provides the following documents to the exporter at this final stage. They are: o

A copy of the invoice duly attested by the customs

Drawback copy of the shipping bill

Export promotion copy of the shipping bill

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Full set of ‘clean on board’ bill of lading together with the non – negotiable copies

The original letter of the credit.

Customer’s order or contract

Duplicate copy of the AR – 4 form.

Shipping by Other Modes of Transport All the goods are not transported through ship. Other modes of transport like air and land

are also used for exporting the goods. o

Shipping by Air: Mostly perishable goods, goods of less weight and goods which are needed by the importer urgently are transported by air.

Shipping by Post: Certain goods of less weight are exported by post. The emergence of ‘e – commerce’ increased the export trade by post. Postal Notice rd

No. 13. dated 3 December 1973 regulates the export trade by post. o

Shipping by Land: Export of the excisable goods to the nearby countries is similar to the one laid down for export by sea. AR – 4 form is different for export by land.

The excisable goods are presented to the Frontier Customs

Officer/Border Examiner along with form 4A. After the goods are exported, the exporter is interested in getting payment for the exports made. We shall discuss the payment procedure. Documents: The exporter submits the relevant documents to his banker for getting the payment for the goods exported. Submission of relevant documents to the bank and the process of getting the payment from the bank is called “Negotiating the Documents”, through the bank. These documents are called ‘Negotiable Set of Documents’. This set normally includes. o

Bill of lading

Commercial Invoice together with the packing slip and bill of exchange

Certificate of origin

GR – 1 form (in duplicate)

Marine Insurance Policy (in duplicate)

Letter of credit (in original).

The letter of credit is opened by the importer through his bank authorities drawing a bill of exchange. Payment will be made against this bill of exchange by the importer bank. The exporters bank realizes the export proceeds and pays to the exporter. 

Aligned documentation System: Government of India appointed a committee to recommend on the documentation regarding export trade. Government of India accepted the recommendations of the committee and introduced standardized documents with st

effect from 1 October 1981, which is known as ‘the Aligned Documentation System’.

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INTERNATIONAL TRADE MANAGEMENT This system is based on the UN layout key.

129 Standardized documents for Indian

exporters based on the Aligned Documentation system include: o

Invoice

Exchange Control Declaration (GR) form

Shipping Bill (Dock Challan/Duty Draw back and Port Truest Copy)

Bill of Lading.

11.6. QUESTIONS Section - A Short questions 1. What is balance of payment? 2. How do you determine the exchange rate? 3. What is open account? 4. State negotiable set of documents Section – B Small answer type 1. Explain the term letters of credit 2. Write short notes on consignment sales and drafts 3. Explain the components of Balance of Payment Section – C Essay type questions 1. Explain the shipment procedures of international trade 2. Describe how the payment is made in international trade.

11.7. SUGGESTED READINGS 1. Francis Cherunilam – International trade and Export – Himalaya publishing House 1999. 2. Sak Onkvisit and John Shaw – International Marketing – Prentice Hall India. 3. John D.Daniels and Lee H. Radebaugh – International business – Pearson education Asia

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CHAPTER - 12 EXPORT IMPORT REGULATIONS STRUCTURE 12.0. OBJECTIVES 12.1. EXPORT REGULATIONS AND PROCEDURE 12.2. PACKAGING AND INSURANCE AND DOCUMENTATION 12.3. IMPORT REGULATIONS 12.4. INDIAN TRADE POLICY 12.5. NEW EXPORT IMPORT POLICY 12.6. QUESTIONS 12.7. SUGGESTED READINGS

12.0. OBJECTIVES After studying this unit, you should be able to understand: 

Export regulations

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Procedure for packaging

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Insurance and documentation

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Import regulations

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Indian trade policy

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Questions

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