Political Economy and Economic Development

Transcription

1 Political Economy and Economic Development Learning objectives Explain what determines the level of economic development of a nation. Identify the macro-political and economic changes taking place worldwide. Describe how transition economies are moving towards market based systems. Explain the implications for management practice of national differences in political economy. 3 This chapter discusses differences in national political, economic, and legal systems, highlighting the ways in which managers in global settings need to be sensitive to these differences. Political differences are described along two dimensions: collectivist vs. individualist and democratic vs. totalitarian. Economic systems are explored in terms of market characteristics: market economies, command economies, and mixed economies. Legal systems are discussed in terms of the protections they offer for business: intellectual property, product safety, liability and contracts. The opening case describes the recent revolution ending a decades old autocratic regime in Egypt. Today the country is holding elections and embracing market based economic reforms. The closing case explores how Japan fell from its economic superpower status in 1989 to its currents state of seemingly perpetual economic malaise. 3-1

2 OUTLINE OF CHAPTER 3: POLITICAL ECONOMY AND ECONOMIC DEVELOPMENT Opening Case: Revolution in Egypt Introduction Differences in Economic Development Broader Conceptions of Development: Amartya Sen Political Economy and Economic Progress Innovation and Entrepreneurship are the Engines of Growth Innovation and Entrepreneurship Require a Market Economy Innovation and Entrepreneurship Require Strong Property Rights The Required Political System Economic Progress Begets Democracy Geography, Education, and Economic Development Country Focus: Emerging Property Rights in China States in Transition The Spread of Democracy The New World Order and Global Terrorism The Spread of Market-Based Systems The Nature of Economic Transformation Implications of Changing Political Economy Country Focus: India s Economic Transformation Implications for Managers Benefits Costs Risks Overall Attractiveness Summary Critical Thinking and Discussion Questions Closing Case: Japan s Economic Malaise 3-2

3 CLASSROOM DISCUSSION POINT Ask students if they have ever knowingly purchased a counterfeit product perhaps a purse or a wallet or maybe a watch for example. Then ask students to discuss the implications for their purchase decision for the real company as well as for the entrepreneur selling the counterfeit product. Topics to consider include: Why is there a market for counterfeit goods? How does this market benefit sellers? What does it mean for the company producing the real product? Where was the counterfeit product likely to have been made? How do counterfeit products help an economy? How do they hurt it? Next, ask students to consider how decisions like theirs could influence new product development policies at companies. Finally, ask students to consider how a legal system that protects property rights could changes their responses. OPENING CASE: Revolution in Egypt Summary The opening case explores the recent revolution in Egypt, why it occurred and what might happen next. Decades of corruption, inflation, and a huge gap between rich and poor led to a revolt in Young Egyptians called for an end to the Mubarak regime which while referred to as a democracy was actually an autocratic government. Now, elections are being held to determine who will lead the country in the future and what type of government will be established. Discussion of the case can revolve around the following questions: 1. How might the general trends towards democracy, market based economic reform, and stronger property rights influence the government system in Egypt? What challenges is the country likely to face as it makes its transition to a new form of government? 2. How would a more democratic system of government affect levels of foreign direct investment in Egypt? How would a more favorable business environment foster economic growth in the country? 3. Discuss the tremendous gap between rich and poor in Egypt. What are the implications of this gap for business? What risks does it pose to companies considering doing business in the country? Another Perspective: For more on the revolution in Egypt go to { 3-3

4 LECTURE OUTLINE This lecture outline follows the Power Point Presentation (PPT) provided along with this instructor s manual. The PPT slides include additional notes that can be viewed by clicking on view, then on notes. The following provides a brief overview of each Power Point slide along with teaching tips, and additional perspectives. Slide Determinants of Economic Development Differences in economic development across countries are often linked to differences in their political, economic, and legal systems. Economic development can be measured by gross national income per head of population (GNI) (rather than GNP) and purchasing power parity (PPP) which is GNI per capita adjusted for cost of living. The Nobel prize-winning economist Amartya Sen has argued in his theory of social development that development should be assessed less by material output measures such as GNI per capita/gdp per capita and more by the capabilities and opportunities that people enjoy. Sen s influential thesis has been picked up by the United Nations, which has developed the Human Development Index (HDI) to measure the quality of human life in different nations. Slides Political Economy and Economic Progress A country s economic development is a function of its economic and political systems. Economic freedom associated with a market economy creates greater incentives for innovation and entrepreneurship than either a planned or a mixed economy. Innovation and entrepreneurship require strong property rights. Without strong property rights protection, businesses and individuals run the risk that the profits from their innovative efforts will be expropriated, either by criminal elements or by the state. There is debate on the kind of political system that best achieves a functioning market economy with strong protection for property rights. People in the West tend to associate a representative democracy with a market economic system, strong property rights protection, and economic progress. Building on this, we tend to argue that democracy is good for growth. However, some totalitarian regimes have fostered a market economy and strong property rights protection and have experienced rapid economic growth. Four of the fastestgrowing economies of the past 30 years South Korea, Taiwan, Singapore, and Hong Kong had one thing in common at the start of their economic growth: undemocratic governments! 3-4

5 While it is possible to argue that democracy is not a necessary precondition for a free market economy in which property rights are protected, subsequent economic growth often leads to establishment of a democratic regime Slides Geography, Education, and Economic Development In addition to political and economic systems, geography and education are also important determinants of economic development Slides States in Transition Two trends are evident: first, during the late 1980s and early 1990s, a wave of democratic revolutions swept the world; second, totalitarian governments collapsed and were replaced by democratically elected governments that were typically more committed to free market capitalism than their predecessors had been. These changes were most dramatic in Eastern Europe, where the collapse of communism bought an end to the Cold War and led to the breakup of the Soviet Union, but similar changes were occurring throughout the world during the same period. Across much of Asia, Latin America, and Africa there was a marked shift toward greater democracy. Another Perspective: To explore the recent changes in the Middle East, consider { and also iglobe What Political Models Might Shape The New Libya, Tunisia? There are three reasons for the spread of democracy: First, many totalitarian regimes failed to deliver economic progress to the vast bulk of their populations. Second, new information and communication technologies have broken down the ability of the state to control access to uncensored information. Third, the economic advances of the past quarter century have led to the emergence of increasingly prosperous middle and working classes who have pushed for democratic reforms. Another Perspective: The U.S. State Department produces a number of reports that are helpful to understanding the conditions in other markets, as well as information regarding visas and other relevant issues. The site is { Paralleling the spread of democracy since the 1980s has been the transformation from centrally planned command economies to market-based economies. 3-5

6 Slide 3-23 The Nature of Economic Transformation These changes have involved: Deregulation - removing legal restrictions to the free play of markets, and allowing the establishment and operations of private enterprises. Privatization - transferring the ownership of state property into the hands of private individuals, frequently by the sale of state assets through an auction. Privatization - a way to unlock gains in economic efficiency by giving new private owners a powerful incentive the reward of greater profits to search for increases in productivity, to enter new markets, and to exit losing ones. Slides Implications of Changing Political Economy Markets that were formerly off-limits to Western business are now open. China with its 1.2 billion people and India with its population of 1.1 billion are especially important. However, just as the potential gains are large, so are the risks. Democracy may not thrive in some countries. Managers need to focus on two broad areas: First, the political, economic, and legal environment of a country influences the attractiveness of that country as a market and/or investment site. The benefits, costs, and risks associated with doing business in a country are a function of that country s political, economic, and legal systems. Second, the political, economic, and legal systems of a country can raise important ethical issues that have implications for the practice of international business. The long-run benefits of doing business in a country are a function of the size of the market, the present wealth of consumers in that market, and the likely future wealth of consumers. There are three types of costs involved in international business: political costs, economic costs, and legal costs. There are three types of risk involved in international business: political risk, economic risk, and legal risk. Slide Overall Attractiveness The overall attractiveness of a country as a market and/or investment site, depends on balancing the likely long-term benefits of doing business in that country against the likely costs and risks. 3-6

7 CRITICAL THINKING AND DISCUSSION QUESTIONS QUESTION 1: What is the relationship between property rights and economic progress? How important are ant corruption efforts in the effort to improve a country s level of economic development? ANSWER 1: Innovation and entrepreneurship are widely recognized as important to long run economic growth. Innovation and entrepreneurship flourish in environments that are free of corruption and where proprietary property is protected. Support for companies and individuals is important to this process. Individuals or companies that must pay bribes to obtain licenses or face other types of corrupt behavior are less likely to carry out the activities necessary for economic growth and progress. Similarly, companies and individuals are likely to shy away from environments where property rights are not well protected. QUESTION 2: You are a senior manager at a U.S. automobile company with the job of deciding whether to invest in production facilities in China, Russia, or Germany. These facilities will serve local market demand. Evaluate the benefits, costs, and risks associated with doing business in each nation. Given your answer here, which country seems to be the most attractive target for foreign direct investment? Why? ANSWER 2: Responses to this question will vary by student. Many will probably suggest that China s low cost labor and large potential domestic market make it an attractive destination for the investment. Other students however may raise questions about the legal environment in the country and whether proprietary property would be adequately protected. Similarly, may students might wonder whether despite Russia s privatization efforts, the high level of corruption in the country would offset any opportunities the market might offer. Some students might favor Germany with its stable government and strong history as a key player in the global auto industry as well as its easy access to other European Union markets. QUESTION 3: Reread the Country Focus feature on India and answer the following questions: a. What kind of economic system did India operate during 1947 to 1990? What kind of system is it moving toward today? What are the impediments to completing this transformation? b. How might widespread public ownership of business and extensive government regulations have impacted (i) the efficiency of state and private businesses, and (ii) the rate of new business formation in India during the 1947 to 1990 time frame? How do you think these factors affected the rate of economic growth in India during this time frame? c. How would privatization, deregulation, and the removal of barriers to foreign direct investment affect the efficiency of business, new business formation, and the rate of economic growth in India during the post-1990 time period? 3-7

8 d. India now has pockets of strengths in key high-technology industries such as software and pharmaceuticals. Why do you think India is developing strength in these areas? How might success in these industries help to generate growth in other sectors of the Indian economy? e. Given what is now occurring in the Indian economy, do you think the country represents an attractive target for inward investment by foreign multinationals selling consumer products? Why? ANSWER 3: a. From 1947 to 1990, India operated under a mixed economy that included several large state-owned enterprises, central planning, and subsidies. Today, the country is moving towards a market economy. Already a number of economic reforms have been implemented allowing for more privatization of key industries and attracting more foreign investment. However, tariffs are still high and efforts to lower them are meeting with opposition from companies that fear lower tariffs will bring in too much competition. Antiquated labor and manufacturing laws are also making it difficult for firms to operate competitively. b. Many students will probably agree that introducing privatization at a much earlier date could have led to greater corporate efficiency and generated more economic growth in India. Extensive government regulations also hampered the efforts of businesses to expand prior to In fact, it was India s lack of growth that forced the government to implement the reforms in 1990 that have been responsible for prompting the economic turnaround the country is currently experiencing. c. Since 1990, India has been much more open to foreign investment, and extensive privatization of numerous industries has introduced a new level of competition to the market competition that forces firms to become more efficient. Foreign investment in the county is up from just $150 million in 1991 to $36.7 billion in 2007, and the overall economy has grown at a much quicker rate. Growth rates from 1994 to 2004 were about 6.3 per year, but about 9 percent per year from 2005 to d. India s information technology sector and pharmaceutical sector have been particularly successful in recent years. For example, in 2007, India s software development sector had sales of $50 billion as compared to just $150 million in Many students will probably attribute much of the country s success in these sectors to a combination of factors including a well-educated, low-cost workforce, and the country s growing middle class. Students will probably note that success in these industries should have a spillover effect for other sectors of the economy. 3-8

9 e. Many students will probably suggest that despite the many recent changes in India, consumer products manufacturers could still face significant challenges in the country. India s laws make it difficult for private companies to operate efficiently, companies are limited in their ability to manufacture some products, and may also find it hard to fire workers. Still, the country s new prosperity and large potential market could make it attractive to many companies. Another Perspective: Information on doing business in India is available at { es.asp}. CLOSING CASE: Japan s Economic Malaise Summary The closing case explores the economic malaise that has gripped Japan for the last two decades. In 1989 Japan was viewed as an economic superpower and a major threat to the United States. However, the country s boom times had been financed with easy money and when the stock market collapsed banks reacted with contracted lending. Today, the country is mired in a seemingly perpetual state of economic deflation with no clear way out. A discussion of the case can revolve around the following questions: QUESTION 1: In the 1980s Japan was viewed as one of the world s most dynamic economies. Today it is viewed as one of its most stagnant. Why has the Japanese economy stagnated? ANSWER 1: Japan s economy reached its high point in 1989 with companies gobbling up U.S. assets, property prices soaring, and the Nikkei index reaching its all time high. However, when the sock market collapsed and property prices plunged, banks sharply curtailed the easy lending practices that had helped to finance the boom. Consumers, scared by their shrinking net worth, stopped spending pushing the country into a recession. Today, the country is still in the throes of the deflation that has gripped Japan for nearly 30 years. Consumers and businesses expect prices to continue to fall and so continue to delay their purchases despite newly lowered prices pushing the cycle forward. So far, government efforts to stimulate the economy have been ineffective. Today, the mood in Japan is largely pessimistic. QUESTION 2: What lessons does the history of Japan over the last 30 years hold for other nations? What can countries do to avoid the kind of deflationary spiral that has gripped Japan? 3-9

10 ANSWER 2: Many students will probably note the similarities between the situation in Japan that led to its economic collapse and continued malaise to the situation that led to the recession in the United States and its continued fallout today. Students may wonder if a lack of sufficient regulation led to the easy money lending practices that financed Japan s boom years and whether more control could have prevented the situation. Some students may also express concern over the government s attempt to spend its way out of its economic slump. With Japan s debt now at 200 percent of its GDP the country has few options left to get back on track. QUESTION 3: What do you think would be required to get the Japanese economy moving again? ANSWER 3: Despite very low interest rates and large investments in public infrastructure Japan s economy has continued to stagnate. Much of the population and especially younger people have little expectation that things will change for the better. Students may suggest that the country needs to take a new approach to growing the economy. Many students will probably focus on innovation and recommend that the government make it a national priority by supporting entrepreneurs and think tanks. Students taking this perspective will probably point out the connection between innovation and economic growth. Other students might suggest that the country open its doors to immigrants. Doing so would expand the market and help support Japan s aging population. QUESTION 4: What are the implications of Japan s economic stagnation for the benefits, costs, and risks of doing business in this nation? ANSWER 4: Japan s economic malaise offers both opportunities and challenges for companies interested in doing business in the country. On one hand money is cheap and wages are relatively low. On the other hand, consumers are unwilling to spend money and the future government policies to spark economic growth could make could make it more difficult for businesses. QUESTION 5: As an international business, which economy would you rather invest in, that of Japan or that of India (see Country Focus Feature on India in this chapter)? Explain you answer. ANSWER 5: Responses to this question will differ by student. Some students will probably suggest that despite some problems with laws governing business in India, the country s long term potential makes it a more attractive destination for investment. Other students however, might suggest that Japan s problems cannot continue indefinitely and that now is a great time to gain a competitive advantage in the market and be in a position to capture even more market share when the economy begins to grow again. In addition, 3-10

11 students may note that Japan is likely to pose fewer political and legal risks as compared to India making it a more attractive investment location. Another Perspective: To learn more about Japan s economic difficulties and their effect on business go to { INTEGRATING iglobes There are several iglobe video clips that can be integrated with the material presented in this chapter. In particular, you might consider the following: Title: Peru Nurtures Growth Amid Economic Uncertainty Run Time: 9:54 Abstract: This video explores the recent growth in Peru s economy, and its growing position within the international market place. Key Concepts: globalization, international trade, foreign direct investment, trade agreements, political risk, global economy Notes: Peru may well be Latin America s new rising star. The country currently boasts one of the region s strongest economies and it is poised for significant future growth. Analysts are predicting that Peru s economy will grow by some six percent in Much of the nation s economic success can be attributed to strong demand from China for raw materials including mined minerals and precious metals as well as agricultural products and manufactured goods. In fact, even during the recent global recession, demand for Peru s exports was strong. Peru s commitment to maintaining both a stable currency and a stable government have also been important to the country s growth. Peru s president, Alan Garcia, maintains a pro-business government dedicated to attracting new investment. Garcia hopes that by opening the door to foreign direct investment, Peru will benefit from capital investments that will boost productivity and efficiency as well as higher employment and wages. Peru s path to economic prosperity has not been an easy one. Ironically, Garcia was also president at two decades ago when the country was in the midst of an economic slump. It was at the end of his first administration that Peru ended trade restrictions that limited the country s ability to grow and made a commitment to limit government spending and to keep inflation levels low. During the 1990s, Peru focused on improving its infrastructure to facilitate growth, and then in 2006, signed a free trade agreement with the United States. Today, Garcia is building an economy centered around strong exports, a stable currency, and limited government involvement. 3-11

12 The benefits of Peru s recent policies are clear. Citizens like Wilmer Gonzalo note that there is more prosperity and less hunger in Peru today. The country s seaports and farms are active, and new skyscrapers house foreign companies. Still problems persist in the country. Many Peruvians still live at or below the poverty level, and former President Alejandro Toledo claims that Peru s policies are benefiting the rich, but not the poor. Toledo believes that it is important for the business sector to help Peru s poor. He feels that failing to reach out to those who have not shared in the nation s recent rise will lead to social turmoil. If his predictions are accurate, this could create instability in the economy, raise interest rates, and ultimately raise the cost and risk of doing business in Peru. Some investors also note that Peru lacks a well-skilled workforce and point out that the country needs to make investments in education, training, and healthcare a priority. Carlos Monge of Revenue Watch Institute suggests that even a moderate increase in business taxes would go a long way to helping Peru improve the lot of its poor. For now though, President Garcia is optimistic about the future of Peru and is looking ahead to the prospect of even greater growth thanks to the Interoceanica project designed to link Peru with Brazil. Discussion Questions 1. How have foreign direct investment and free trade agreements helped Peru become an economic success story? What impact has foreign direct investment had on Peru s productivity and efficiency? 2. Why is it important for Peru to maintain a stable currency and stable government? How do these policies help attract foreign investment? What other steps is Peru taking to make the country more attractive to business? 3. What challenges face Peru today? Comment on the value of continued investment in Peru s infrastructure. How can improvements in infrastructure facilitate the country s ability to compete in the global market place? 4. Peru and Brazil are currently working to develop a transoceanic highway linking the two countries. How might further integration between Brazil and Peru change the political and economic power structure in the region? 3-12

13 INTEGRATING VIDEOS There are also several longer video clips that can be integrated with the material presented in this chapter. In particular, you might consider the following from International Business DVD Volume 6: Title: Iran Internet Censorship Learning Objectives The purpose of this video is to help you: Understand how the political systems of countries differ. Examine the basic elements of a totalitarian regime. Recognize the impact of technology on political systems. Explore the ethical issues involved in protecting and promoting human rights. Key Words Globalization Political economy Totalitarianism Human rights Ethics Synopsis A small town in Oklahoma is playing an important role in Iran. Since the Iranian government blocked popular web sites like Twitter and YouTube, protesters in Iran have been forced to utilize proxy servers in order to communicate with each other, and indeed with the rest of the world. These proxy servers act as go betweens linking one computer with another. One such computer belongs to Anthony Papillon of Miami, Oklahoma. Anthony Papillon, a self-described techie with an activist s heart has turned his home computer into a proxy server that allows protesters in Iran to get around government censors by redirecting their web traffic. Proxy servers allow users to hide their real online destinations by effectively rerouting Internet traffic to sites that are unknown to government censors. This critical ability allows demonstrators in Iran to utilize blocked sites like Twitter to 3-13

14 communicate with each other and coordinate protest efforts. For example, a recent Twitter posting calls for freedom loving Iranians to join together in Haft-e-Tir Square to protest against the country s repressive regime. According to Anthony Papillon, by helping to facilitate access to the Internet he is making a difference on a global scale. Anthony Papillon is not alone in his efforts. Another individual who is helping the Iranians is Shiyu Zhou. Now a computer scientist in the United States, Shiyu Zhou shares a special bond with the protesters in Iran, as he was part of the protests in Tiananmen Square some twenty years ago. Today, he strongly supports the efforts of the Iranian protesters claiming that it is important to help people in closed societies by maintaining their access to the Internet and the outside world. Shiyu Zhou is part of a group of Chinese exiles who have created Freegate. Freegate is computer software that was originally designed to help people in China dodge Internet censorship, but that is now being used by some 400,000 people per day in Iran. Indeed, traffic to the platform from Iran now exceeds traffic from China. The Iranian government appears to be frustrated by the attempts of individuals like Anthony Papillon and Shiyu Zhou to support the efforts of Iranian citizens to stand up for their rights. In fact, Anthony Papillon s proxy server was recently blocked by the government. He notes though, that the Internet has effectively changed the rules of the game. Another individual will take his place providing Iranian citizens with another gateway to the rest of the world. In today s global economy, technology is putting everyone on more equal footing.. Discussion Questions 1. Discuss the differences in political systems. How do human rights differ under a totalitarian regime as compared to a democracy? Which type of political system is present in Iran? 3. Reflect on the role that individuals like Anthony Papillon and Shiyu Zhou are playing in promoting human rights in politically repressive countries and spreading democratic ideals. How could their efforts increase the rate of economic development in these countries? 4. What is the responsibility of democratic countries like the United States to push for reform in totalitarian states? Should countries use trade policy as a mechanism for change? Explain. 3-14

15 INCORPORATING globaledge EXERCISES Use the globaledge site { to complete the following exercises: Exercise 1 Increased instability in the global marketplace can introduce risks in a company s daily transactions which can be unanticipated. As such, your company must evaluate these commercial transaction risks for its foreign operations in Argentina, China, the Czech Republic, India, Indonesia, and the United Arab Emirates. A risk analyst at your firm indicated that you could evaluate both the political and commercial risk of these countries simultaneously. Provide a commercial transaction risk overview of all six countries for top management. In your evaluation, indicate possible corrective measures in the countries with considerably high political and/or commercial risk. Exercise 2 Managers at your firm are very concerned about the influence of terrorism on its longterm strategy. To counter this issue, the CEO has indicated you must analyze the countries in which terrorism and political violence is minimal. As this will provide the basis for the development of future company facilities, a detailed analysis for these countries is required. Once completed, include recommendations which justify locating future operations to specific countries with little risk of terror activities. Answers to Exercise Questions Exercise 1 The data can be accessed by searching for the term commercial transaction at Ducroire Delcredere Country Risks is the only source in this search. Go to the right side of this resource s webpage to select specific countries. This resource is found under the globaledge category Research: Rankings. Be sure to click on the Resource Desk link to search this area of the globaledge website. Search Phrase: Commercial Transaction Resource Name: Ducroire Delcredere Country Risks Website: globaledge Category: Research: Rankings 3-15

16 Exercise 2 The data can be accessed by searching for the term terrorism at AON Insurance and Risk Management Company is the only source in this search. You can download the 2011 Terror and Political Violence Map from the resource s webpage after free registration. This resource is found under the globaledge category Research: Rankings. Be sure to click on the Resource Desk link to search this area of the globaledge website. Search Phrase: Terrorism Resource Name: AON Insurance and Risk Management Company Website: globaledge Category: Research: Rankings 3-16