New world, New policy: Overcoming the Burden of Foreignness

burden of foreignnessWhy should we worry about misaligned participations in trade? According to the U.S. Department of Commerce, less than 1 percent of U.S. firms export. Tens of thousands of small-business manufacturers and service sector firms could export their goods and services, but do not. These companies often fear the challenges of going overseas. But all firms entering new markets face shortcomings and disadvantages when compared to local competitors. Due to a lack of local knowledge, unfamiliarity with market conditions, insufficient insights into consumer behavior, and newness to political decision making, all new entrants encounter a “burden of foreignness.” Policymakers need to help prospective exporters overcome this burden and successfully access new opportunities overseas.

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New World, New Policy

The changing composition of U.S. trade 
international_trade_2We have often heated discussions on trade policy shifts. To make reasonable arguments, we must consider that the fundamental composition of trade has been changing. For example, from the 1960s to 1990s, the trade role of primary commodities has declined precipitously while in parallel, the importance of manufactured goods has increased. This has meant that those countries and workers who had specialized in commodities such as rubber or mining typically fell behind those that had embarked on strengthening their manufacturing sector. With sharply declining world market prices for commodities and rising prices for manufactured goods, commodity producers were increasingly unable to keep pace. Some commodity-dependent countries realized temporary windfalls as prices of oil, wheat, and corn rose dramatically, only to watch them evaporate as prices dropped in 2009.

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Balance trade by boosting exports through government promotion

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import_tax_0The Trump administration is attempting to lower imports in order to rebalance trade after decades of U.S. neglect toward economic relationships around the world.  Rebalancing should not only be done by applying the stick of import reductions, but also by export promotion.

Exports make a firm’s markets grow and change its home nation’s currency value. When U.S. exports increase, the dollar typically goes up in value.Shrinking exports tend to weaken the dollar. Exports also shape public opinion of globalization and offer the opportunity for economies of scale.Higher production volume often means a lower cost of production.Since high exports also make imports cheaper, a firm may achieve lower costs and higher profits, both at home and abroad, through exports.

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The competitive advantage of nations

The focus of early trade theory was on the country or nation and its inherent, natural, or endowment characteristics that might give rise to increasing competitiveness. As trade theory evolved, it shifted its focus to the industry and product level, leaving the national-level competitiveness question somewhat behind. Recently, many have turned their attention to the question of how countries, governments, and even private industry can alter the condition within a country to aid the competitiveness of its firms.

The leader in this area of research has been Michael Porter of Harvard. As he states:

National prosperity is created not inherited. It does not grow out of a country’s natural endowments, its labor pool, its interest rates, or its currency’s values, as classical economics insists.

A nation’s competitiveness depends on the capacity of its industry to innovate and upgrade. Companies gain advantage against the world’s best competitors because of pressure and challenge. They benefit from having strong domestic rivals, aggressive home-based suppliers, and demanding local customers.

In a world of increasingly global competition, nations have become more, not less, important. As the basis of competition has shifted more and more to the creation and assimilation of knowledge, the role of the nation has grown. Competitive advantage is created and sustained through a highly localized process. Differences in national values, culture, economic structures, institutions, and histories all contribute to competitive success. There are striking differences in the patterns of competitiveness in every country; no nation can or will be competitive in every or even most industries.

Ultimately, nations succeed in particular industries because their home environment is most forward-looking, dynamic, and challenging.

Porter argued that innovation is what drives and sustains competitiveness. A firm must avail itself of all dimensions of competition, which he categorized into four major components of “the diamond of national advantage”:

  1. Factor conditions: The appropriateness of the nation’s factors of production to compete successfully in a specific industry. Porter notes that although these factor conditions are very important in the determination of trade, they are not the only source of competitiveness as suggested by the classical, or factor proportions, theories of trade. Most importantly for Porter, it is the ability of a nation to continually create, upgrade, and deploy its factors (such as skilled labor) that is important, not the initial endowment.
  2. Demand conditions: The degree of health and competition the firm must face in its original home market. Firms that can survive and flourish in highly competitive and demanding local markets are much more likely to gain the competitive edge. Porter notes that it is the character of the market, not its size, that is paramount in promoting the continual competitiveness of the firm. And Porter translates character as demanding customers.
  3. Related and supporting industries: The competitiveness of all related industries and suppliers to the firm. A firm that is operating within a mass of related firms and industries gains and maintains advantages through close working relationships, proximity to suppliers, and timeliness of product and information flows. The constant and close interaction is successful if it occurs not only in terms of physical proximity but also through the willingness of firms to work at it.
  4. Firm strategy, structure, and rivalry: The conditions in the home-nation that either hinder or aid in the firm’s creation and sustaining of international competitiveness. Porter notes that no one managerial, ownership, or operational strategy is universally appropriate. It depends on the fit and flexibility of what works for that industry in that country at that time.

These four points, as illustrated in Figure 3.5, constitute what nations and firms must strive to “create and sustain through a highly localized process” to ensure their success.

Porter’s emphasis on innovation as the source of competitiveness reflects an increased focus on the industry and product that we have seen in the past three decades. The acknowledgment that the nation is “more, not less, important” is to many eyes a welcome return to a positive role for government and even national-level private industry in encouraging international competitiveness. Including factor conditions as a cost component, demand conditions as a motivator of firm actions, and competitiveness all combine to include the elements of classical, factor proportions, product cycle, and imperfect competition theories in a pragmatic approach to the challenges that the global markets of the twenty-first century present to the firms of today.

Interview with Zweites Deutsches Fernsehen (ZDF) , in German

Überlebt Volkswagen?

Es wird eng für VW. Seitdem der Abgas-Skandal publiziert wurde, wollen viele den Konzern finanziell bluten sehen. Milliardenklagen, Milliardenstrafen, Milliardenkosten – gigantische Summen.
Volkswagen ist reich, aber Forderungen dieser Größenordnung sind in der Geschichte einzigartig. Wenige Tage nach den ersten Meldungen von manipulierten Abgaswerten sprach der neue VW-Aufsichtsratsvorsitzende Pötsch von einer „existenzbedrohenden Krise“.

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