Global Business Today 3rd Edition Hill Solutions Manual

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CHAPTER 7 ECONOMIC ENVIRONMENT
Chapter Outline
OPENING CASE: POLISH ECONOMIC RESILIENCE

INTERNATIONAL BUSINESS GRADUATE ATTRIBUTES (IBGA)
LEARNING OBJECTIVES
INTRODUCTION
ECONOMIC ENDOWMENTS―NATURAL AND CREATED
Size
Geography
People
Management Focus: Fonterra and the Changing Demand for Dairy Products in the Emerging
Markets of Asia
Infrastructure and Institutions
Productivity and Competitiveness
ECONOMIC PERFORMANCE―MACRECONOMIC STABILITY
Economic Stability
Economic Growth and Employment Fluctuations
Inflation
External Viability and the Balance of Payments
ECONOMIC PERFORMANCE―ECONOMIC DEVELOPMENT
Measures of Economic Development
Broader Conceptions and Measures of Development
ECONOMIC SYSTEMS
Market Economy
Command Economy
Mixed Economy
Economic Systems and Economic Development
Country Focus: India’s Stuttering Economic Transformation
ECONOMIES IN TRANSITION
The Spread of Market-Based Systems
The Nature of Economic Transition
FOCUS ON MANAGERIAL IMPLICATIONS
Benefits
Costs
Risks
Overall Attractiveness
KEY TERMS
SUMMARY
INTERNATIONAL BUSINESS GRADUATE ATTRIBUTES (IBGA): LEARNING AND
ASSESSMENT TASKS
CLOSING CASE: EMBRAER FLIES AS BRAZIL’S EXPORTS HIT HEADWINDS
Opening Case
POLISH ECONOMIC RESILIENCE
Summary
The opening case describes Poland’s economic success story. Poland, unlike most countries in Europe,
survived the recent global recession with little trouble. Decisions made early in the decade and during
the 1990s helped Poland develop a stable economic policy and a stable political system. The country
has benefitted from its free market and free trade policies as well as its efforts to privatise state-owned
Chapter 7 – IRM t/a Global Business Today 3e 1

By Hill, Cronk and Wickramasekera
Copyright © 2014 McGraw-Hill Education (Australia) Pty Ltd
businesses. Today, Poland is working to make the country even more attractive to foreign investors by
simplifying tax laws, reducing tax rates and removing bureaucratic barriers to doing business in the
country. For questions on the case, go the IBGA section 9 at the end of this document.
International Business Graduate Attributes
This chapter’s content, learning resources and case studies provide students with the opportunity to
develop a number of International Business Graduate Attributes, including the following:
• IBGA1 Discipline Knowledge and Skills
• IBGA2 Critical Analysis
• IBGA5 Communication
• IBGA6 Social Interaction
• IBGA7 Global Perspective
Learning Objectives
LO 7.1 Identify and interpret the dimensions describing the economic environment of a country.
LO 7.2 Explain how the economic dimensions of a country impact market potential and international
business location decisions.
LO 7.3 Assess the performance of an economy in terms of economic stability and economic
development criteria.
LO 7.4 Classify economic systems in terms of systemic characteristics and economic performance
measures.
LO 7.5 Outline the transition processes that are currently reshaping the economic systems of many
emerging market economies.
LO 7.6 Examine how a country’s systemic reform and economic performance and system influence the
benefits, costs and risks of doing business in that country.
Chapter Outline with Lecture Notes and Teaching Tips
INTRODUCTION
A) Economic factors are important influences on a firm’s motivation to embark on international

business and they have a profound impact on the benefits, costs and risks of doing business in different
countries.
B) The opening case outlines a sample of these economic factors, namely the extent of the reform to the
economic system in Poland.
Teaching Tip: Ask students in class to brainstorm economic events (e.g. as published in the news
media) that may affect a firm’s decision to conduct business offshore. Ask them to classify these events
as ‘push factors’ (events happening at home with a potentially negative impact on the business) or ‘pull
factors’ (events happening abroad with a potentially positive impact).
ECONOMIC ENDOWMENTS—NATURAL AND CREATED
A) A firm’s preliminary assessment of a country either as a potential market for its products or as a
preferred location or source of production would include its size, its endowments associated with its
geography, its people, its infrastructure and its competitiveness.
Size

B) Two general measures of the size of an economy are its population and the level of national income
and production. Gross national income (GNI) is the value of a nation’s income; that is, the income
earned by the residents of the nation. A related but different measure is gross domestic product (GDP).
C) GNI per capita is a common measure of economic development. Concepts and measures of
economic development are discussed in more detail later in this chapter.
Geography
D) The natural resources and features such as climate, topography and distance affect the level and
patterns of market demand and production in a country.
E) A country’s location itself, either geopolitical or physical, can be a help or a hindrance to business.
The location of Singapore, ASEAN or CER New Zealand, for example, can be a valuable business
resource. Geographic proximity is a factor in the formation of free trade agreements.
Lecture Note: The text refers to the work of Sachs on the impact of geography on economic
development. The United Nations Conference on Trade and Development (UNCTAD) publishes
analysis and economic, social and trade information on thirty-one landlocked developing countries
(LLDC). This information helps to understand the economic development challenges faced by these
countries and their business prospects. Visit the UNCTAD site at http://unctad.org/en/Pages/Home.aspx
and search for dealings with LLDCs.
People
F) Market analyses of population size and growth and population distributions according to age,
gender and location provide general indicators of the potential market size for a firm’s product.
G) A country with a rising GNI per capita signifies the possibility of a growing market for a firm’s
product. The GNI per capita of a country does not indicate how the income is distributed among its
people. Socioeconomic characteristics such as the income distribution, educational distribution and
occupational distribution of the population help identity the size of the population segment that is more
salient to estimating a firm’s potential market for a particular product.
H) An educated and skilled population, an outcome of investment in education and training, represents
part of the human capital of a nation. A skilled labour force is an attractive location factor for many
types of business. Education is as an important determinant of economic development.
Management Focus: Fonterra and the Changing Demand for Dairy Products in the Emerging
Markets of Asia
Summary
Fonterra, the New Zealand-based multinational dairy products business, ranked the number one milk-
processor by volume in the world, relies on Asia for 40 per cent of its global sales. Traditionally, dairy
products such as milk and cheese were not consumed as part of the Asian diet, however, dairy
consumption has been increasing rapidly in Asia as populations and incomes have grown and the
populations have become more urbanised. While the continuing development of economies in Asia
promises significant growth in the demand for Fonterra’s products and ingredients, Fonterra has been
exposed to some of the risks that businesses confront in developing economies, particularly in China
and India.
Suggested Discussion Questions

1. How has economic development in Asia aided Fonterra’s international dairy product sales?
Discussion Points: The markets for dairy products in developed countries such as Australia and New
Zealand were fairly well saturated and cultural factors traditionally had limited the growth of sales of
dairy products in Asia. However, with economic development in Asia came conditions conducive to a
marked increase in the sales of dairy products. Economic development is a multifaceted process. It
provides an increasing number of people with not only increasing average incomes but also social
changes. These social changes reinforce the economic changes. The population becomes more
urbanised, traditions become challenged with a growing willingness to accept new ideas (e.g. Western
diets) and lifestyle changes (e.g. convenience food and supermarkets). Along with some astute product
development and alliances, Fonterra was able to take advantage of the increase in the demand for dairy
products emanating from economic development.
2. China and India are rapidly growing economies with a huge market potential for dairy products
however Fonterra has not yet been able to realise this potential. Why?
Discussion Points: Rising incomes associated with economic development may be a necessary measure
to take into account in assessing the market prospects of a developing country, but as Fonterra has
experienced in China and India, they are not complete measures of market potential. The
underdeveloped supply chain infrastructure for the supply of raw milk in both China and India proved
to be a hurdle too high for Fonterra to surmount. Despite the economic growth of both economies, their
milk supply chains remained fragmented and were not able to guarantee a regular supply of quality
milk. Although not of its own doing, Fonterra could not escape the damage to the dairy industry of the
melamine milk scandal in China. Having suffered in China as the result of supply chain deficiencies and
the scandal, Fonterra pulled its investments out of India where the milk supply chain similarly was
underdeveloped. When assessing the market potential of a developing country one needs to be looking
beyond the narrow aggregate economic measures of development for potential risk factors.
Infrastructure and Institutions
I) Infrastructure refers to the created assets of an economy that facilitate business. It includes the
physical structures such as transport, energy and communications systems.
Teaching Tip: Ask students to compare the infrastructure development in countries. The World Bank
often publishes analysis and data on the situation in the developing economies (www.worldbank.org).
J) As financial systems and legal systems also underpin business establishment and operations, financial
and legal systems may be regarded as part of the commercial infrastructure of an economy. The rule of
law is essential to the operation of financial institutions and its absence affects the economic
performance of a nation. Other institutional components underpinning an effectively functioning
financial sector are financial disclosure laws, accounting standards, accredited financial advisers and
brokers, and a financial press.
Productivity and Competitiveness
K) Competitiveness is a quality specific to a firm that enables it to prosper in the marketplace despite
the actions of its rivals. Two factors determine competitiveness: internal and external. Some of the
sources from within a firm that give rise to its competitive advantage are product differentiation, new
products, process redesign and innovative organisational arrangements. Sometimes the sources are
outside the firm, such as quality infrastructure and country-of-origin effects. Both of these factors
enable a firm to use its inputs more efficiently and effectively to generate output. They raise the ratio of
output produced to the labour and capital inputs used—that is, they raise productivity.
ECONOMIC PERFORMANCE—MACROECONOMIC STABILITY

A) Surveys reveal that business perceives that policy uncertainty and macroeconomic instability in
countries are the major obstacles for realising business and investment opportunities.
Economic Stability
B) Macroeconomic stability is characterised by minor fluctuations in employment levels at or near full

employment, a growing economy with stable prices and a sustainable balance of international payments
and receipts. Recession, high inflation rates, rising interest rates and volatile foreign exchange rates,
among other indicators, are characteristics of macroeconomic instability.
C) Industrialised market economies have tended to pass through cycles of economic expansion and
contraction. Although not entirely random, the business cycle of economic activity is very irregular in
terms of both amplitude and frequency.
D) Using fiscal policy and monetary policy, national governments attempt to combat extreme
fluctuations in economic activity.
Teaching Tip: Students can survey the fiscal and monetary policy actions taken by governments in the
industrialised countries as they sought to stabilise their economies during the Global Financial Crisis of
2007–9. IMF publications provide accounts of the actions taken by governments (www.imf.org).
Economic Growth and Employment Fluctuations
E) A common measure of economic growth is the quarterly or annual percentage change in a country’s
real GDP, ‘real’ meaning that the impact of changing prices on changes in the dollar value of
production has been removed. Real GDP tends to fluctuate at rates of growth above and below the long-
term trend.
F) A related indicator of the level of economic activity is the rate of unemployment. As shown in Table
7.1 in the text, lower levels of economic growth are accompanied by higher rates of unemployment.
G) Sources of economic growth include the availability of more resources, for example the discovery
of new mineral deposits, and factors that lead to the more productive use of those resources such as
increased labour skills, new technologies, innovative products and expanding markets and scale
economies. These are the very same factors that would encourage a business to establish operations in
an economy.
Teaching Tip: Ask students to update and graph over a period of time the macroeconomic indicators of
selected countries as shown in Table 7.1. Students can compare situations and draw out the implications
for doing business in these countries. A useful source of data and explanations of terms for developed
economies is in the site www.oecd-ilibrary.org. Use the search function within this site.
Inflation
H) Inflation is an increase in the general price level over time. Quarterly and annual percentage
changes in the Consumer Price Index (CPI) are common measures of inflation. The CPI in essence is
derived from the average price of a fixed sample or basket of consumer goods and services purchased at
different times. The GDP deflator is another common basis for measuring inflation.
I) In periods of high and volatile inflation rates, expectations of continuing inflation persist and
uncertainty rises. As we saw in Chapter 4, interest rates are likely to rise with inflation and high
inflation can lead to the depreciation in the value of a currency. High rates of inflation can hinder the
long-term development performance of an economy.

External Viability and the Balance of Payments
J) A country’s international financial transactions, that is, the payments and receipts arising from the
transactions between the national economy and the economies of the rest of the world, are summarised
in the country’s balance of payments (BOP) statement.
K) An annual balance of payments summary statement consists of three main accounts, the current
account, the capital account and the financial account. The current account records the ‘current’
expenditures on transactions such as exports and imports, transport services, education services, current
transfers and the repatriation of profits. The capital account records international capital transfers. The
financial account records the financial flows and balances arising from capital transactions, such as
investments that increase or decrease the stock of foreign assets and liabilities, and from financing the
current account transactions.
L) A second set of accounts that records the investment outcome of cross-border transactions and is
related to the BOP is the international investment position (IIP) account.
M) Two measures that are the focus of attention when assessing the macroeconomic stability of a
country are the current account balance from the BOP and the foreign debt position from the IIP. The
Australian and New Zealand economies tend to run a current account deficit.
N) Large and persistent current account deficits and foreign debt may signal financial instability and
will often require some adjustments that are potentially damaging to international business.
Lecture Note: The Economist magazine regularly publishes feature, non-technical articles in its Finance
and Economics section that provide an economic analysis of economies using the indicators discussed
in this section.
ECONOMIC PERFORMANCE—ECONOMIC DEVELOPMENT
A) Economic stability measures focus more on the current circumstances whereas economic
development is concerned more with the long term. Economic development is a more
multidimensional concept than economic growth. It encompasses human and social development issues
in addition to material economic issues. The concept of economic development includes notions of
process, change, inherent dynamism, independence and sustainability. A rising GDP does not
necessarily equate to economic development.
Measures of Economic Development
B) Different countries have dramatically different levels of economic development. One common
measure of economic development is a country’s gross national income per head of population (GNI
per capita).
C) GNI per capita is an income measure of economic development. It may not capture the quality of life
measures that one associates with development such as measures related to the incidence of poverty,
life expectancy, literacy and infant mortality. There does appear however to be a strong correlation
between GNI per capita and quality of life measures.
D) To account for cost of living differences between countries, GNI can be adjusted by purchasing
power. A purchasing power parity (PPP) adjustment allows for a more direct comparison of living
standards in different countries. A drawback of both GNI and PPP data is that they provide only a static
picture of development.
Broader Conceptions and Measures of Development

E) The Nobel Prize-winning economist Amartya Sen has argued that development should be assessed
less by material output and more by the capabilities and opportunities that people enjoy. Sen’s ideas
have been picked up by the United Nations and are reflected in the Human Development Index (HDI)
(a United Nations developed index based on life expectancy, education attainment and whether average
incomes are sufficient to meet the basic needs of life in a country). The index was developed to gauge a
country’s economic development and likely future growth rate.
Teaching Tip: Ask students to draw up a table of a selection of countries that compares the rankings of
these countries according to their GNI per capita measure of development (or similar income measure)
and their HDI. Ask students to offer possible reasons for any differences in the rankings. A useful
resource is the current United Nations Development Programme (UNDP) Human Development Report,
available online at http://hdr.undp.org/en/. Of particular interest is the feature relating income measures
such as GDP per capita to human development measures.
ECONOMIC SYSTEMS
A) Many factors influence the short- and long-term performance of an economy including the nature of
the economic system.
B) An economic system is the set of arrangements by which the society determines 1) what shall be
produced; 2) how it shall be produced, including a) the institutions and instruments to be used and b)
the pattern of resource allocation; and 3) how the resulting personal income and claims to goods and
services shall be distributed (and redistributed) among households.
C) Economic systems can differ according to four systemic features or ‘set of arrangements’. These
systemic features relate to whether or not the locus of economic decision making is centralised or
decentralised, whether central planning or the market system informs and determines resource
allocation and distribution questions, the nature of the incentive system, and property ownership and
control.
Market Economy
D) In a pure market economy all productive activities and resources are privately owned. Owners act
in their own self-interest. The composition of the goods and services that a country produces and the
quantity in which they are produced are not planned by anyone. Composition, price and quantity are
determined by the market forces of supply and demand and the preferences of individuals. For a market
economy to function, there must be no restrictions on either supply or demand—no monopolistic sellers
or buyers.
Command Economy
E) In a pure command economy the goods and services that a country produces, the quantity in which
they are produced and the price at which they are sold are all planned by the government. Resources are
allocated ‘for the good of society’. The government owns most, if not all, businesses.
Mixed Economy
F) A mixed economy includes some elements of each. Certain sectors of the economy are left to private
ownership and free market mechanisms, while other sectors have significant state ownership and
government planning. Not long ago, Australia, New Zealand, Great Britain, France and Sweden were
mixed economies with significant state ownership but extensive privatisation has since reduced the
extent of the state ownership of businesses in all these nations.

Lecture Note: For historical material relevant to this section and the following section on Economies in
Transition, consult the World Bank’s World Development Report, 1996, From Plan to Market
(http://documents.worldbank.org/curated/en/1996/08/16715928/world-development-report-1996-plan-
market-weltentwicklungsbericht-1996-vom-plan-zum-markt). For material on more recent events
occurring in reforming economies, see the World Bank’s web site http://search.worldbank.org/
all?qterm=Economies%20in%20Transition.
Economic Systems and Economic Development
G) What is the relationship between systemic features and economic progress? This question has been
the subject of a vigorous debate among academics and policy makers for some time.
Innovation and Entrepreneurship: The Engines of Growth
H) Innovation is the process through which people create new products, new processes, new
organisations, new management practices and new strategies. There is broad agreement that innovation
and entrepreneurship are the engines of long-run economic growth.
Innovation, Entrepreneurship and the Market Economy
I) It has also been argued that the economic freedom and private ownership associated with a market
economy creates greater incentives for innovation and entrepreneurship than either a planned or mixed
economy.
J) Strong legal protection of private property rights is another requirement for a business environment
conducive to innovation, entrepreneurship and economic growth. Private property is a defining
characteristic of the market economy.
The Required Political System
K) There is a connection between political ideology and economic systems. In countries where
individual goals are given primacy over collective goals, a free market system is more likely to exist. In
contrast, in countries where collective goals are dominant, enterprises may be state-owned and markets
may be restricted.
L) In the West, it is often argued that democracy is good for economic growth. As we saw in the
previous chapter, however, there are examples of totalitarian regimes that have fostered a market
economy and strong property rights protection and experienced rapid economic growth. However,
given all the facts, it seems likely that democratic regimes are far more conducive to long-term
economic growth than a dictatorship, even one of the benevolent kind.
Country Focus: India’s Stuttering Economy Transformation
Summary
This feature describes the changes in India’s political economy since the country gained independence
from Britain in 1947. Until the early 1990s, India followed a mixed economy system that was
characterised by a large number of state-owned enterprises, centralised planning and subsidies. The
system failed to deliver significant growth and in 1991 India’s government implemented a series of
reforms designed to foster increased privatisation, foreign investment and exports. Judged by some
measures, the reforms were successful in stimulating new industries and economic growth, but the pace
of reform has slowed and poverty remains widespread. The rise of China’s exports and the 2007–09
GFC have been exploited by economic and political vested interests to slow the progression towards a
more open, market economy. In late 2012, India was shocked out of its ‘reform complacency’ with the

sudden announcement from the government of a wide range of new economic reforms.
A discussion of the Opening Case can revolve around the following questions as listed for IBGA Task 9.
1. What kind of economic system did India operate under during the period from 1947–90? What kind
of system is it moving towards today? What are the impediments to completing this transformation?
Discussion Points: The economic system that developed in India after 1947 was a mixed economy
characterised by a large number of state-owned enterprises, centralised planning and subsidies. In 1991,
India’s government embarked on an ambitious economic reform program. Much of the industrial
licensing system was dismantled, and several areas once closed to the private sector were opened. In
addition, investment by foreign companies was welcomed, and plans to start privatising state-owned
businesses were announced. With these reforms, India was moving towards a more open market
economic system. While India has posted impressive economic gains since 1991, there are still
impediments to further transformation. Attempts to reduce import tariffs have been stalled by political
opposition from employers, employees and politicians. Moreover, the privatisation program has been
slowed thanks to actions taken by the Supreme Court. Advocates for slowing the pace of reform were
able to exploit the threat from cheap Chinese imports and the 2007–09 GFC. They argued that, by
retaining barriers to trade and investment and a high proportion of state ownership in key industries as
finance, India was able in part to decouple itself from the crisis that racked the rest of the world’s
economies. Many sectors of the economy remain highly regulated and while extreme poverty continues
to plague the country, there will be little political will for dramatic economic reform.
2. How might widespread public ownership of businesses and extensive government regulations have
impacted on: (a) the efficiency of state and private businesses; and (b) the rate of new business
formation in India during the 1947–90 time frame? How do you think these factors affected the rate of
economic growth in India during this time frame?
Discussion Points: The mixed economy that developed in India after 1947 was characterised by
widespread public ownership and regulation. Public ownership not only constrains the growth of the
private sector, but it also lacks the profit incentives and limits the effects of competition that typically
are the drivers of entrepreneurship, efficiency and productivity in a free market system. Over-regulation
limits the production and investment flexibility of private companies, often bogging them down in red
tape as they are forced to comply with regulations requiring them to get government approval for
routine business activities. Production quotas and high import tariffs also stunt the development of a
healthy private sector, as do restrictive labour laws that make it difficult to sack employees. Foreign
exchange restrictions, limitations on foreign investment, controls on land use and managed prices
further exacerbated the situation. It would appear that India’s rate of economic growth was negatively
affected during this time frame. By 1994, India’s economy was still smaller than Belgium’s despite
having a large population. Both GDP and literacy rates were very low, and some 40 per cent of the
population lived in poverty.
3. How would privatisation, deregulation and the removal of barriers to foreign investment affect: (a)
the efficiency of business, new business formation and the rate of economic growth in India during the
post-1990 time period; (b) India’s capacity to withstand the contagion of the 2007–09 GFC; and (c)
from 2012 rising fiscal deficits?
Discussion Points: Under privatisation, self-interest and the profit motive will drive innovation and
efficiency. If state-owned monopolies are replaced by privately-owned companies or if private
companies are permitted to enter businesses once preserved for government-owned enterprises, the
additional competition will drive improved productivity. New private ownership also provides an
additional source of capital investment that would otherwise have been drawn from stretched
government budgets. Deregulation of market entry, prices and wages permit private businesses to
respond more quickly and effectively to changing market conditions. It allows decisions to be made on

commercial grounds rather than political grounds. The response to the reform program in India has been
impressive. Certain sectors of the economy including information technology and pharmaceuticals have
done particularly well. Still, problems persist. Actions taken by the government continue to limit
efficiency gains for private companies. The claims that the barriers to trade and foreign investment and
the residual but large share of state-owned banks and other businesses enabled the Indian economy to
withstand the shocks of the 2007–09 GFC have moderated the will to continue to reform. The argument
goes that the state-owned banks had not over-reached into the more risky but more profitable lending
practices that their profit-seeking private counterparts had. State-owned banks also had the security of
the government as being the lender of last resort. Together with restrictions on capital outflows, state
ownership and restrictive regulations in effect saved the banking sector, by default, from the ravages of
the GFC. However, rising deficits in India since 2012 are causing angst in the respect of a debt
downgrade to ‘junk status’ by rating agencies Fitch and Standard & Poor’s. This means that the Indian
economy is rated negative from stable. This affects investors and government borrowing.
4. India has pockets of strengths in key high-technology industries such as software and
pharmaceuticals. Why do you think it is developing strength in these areas? How might success in these
industries help to generate growth in other sectors of the Indian economy?
Discussion Points: India’s gains in information technology and pharmaceuticals are impressive. The
country has emerged as a vibrant global centre for software development, and India’s pharmaceutical
companies have taken a strong global position by selling low-cost generic versions of drugs that have
come off patent in the developed world. These industries are new industries so were not burdened by
the history of state ownership and control that was pervasive in traditional growth sectors as energy and
steel production. They were also high-tech industries so were the type of industries that the
governments of developing countries would be keen to encourage. The promise of a large and
developing domestic market and the freeing up of private investment, both domestic and foreign,
enabled these industries to prosper. As these industries continue to prosper, other sectors of the
economy should also see the benefit of spillover effects. The training, skills and income generated in
these sectors will benefit other industries as will the effect of being able to demonstrate the dynamism
and can-do character of the Indian economy. These demonstrations of success will in turn prove
attractive to further investment.
5. 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?
Discussion Points: Foreign investment rose rapidly in India post-1991. In fact, foreign investment rose
from US$150 million in 1990 to US$15.3 billion in 2007. However, whether India is an attractive
destination for foreign multinationals selling consumer products remains to be seen. Certainly, the
economy is rapidly growing as measured by the aggregate GDP measure and the large population will
serve to attract some companies, but the fact that per capita income is still low and some 40 per cent of
the population is living in abject poverty will scare other companies away. A foreign company would
need to be able and willing to package and price its products to match the economic reality of this large,
low-income population market sector to succeed. Moreover, it is still not easy to run a company in India
thanks to laws limiting everything from who can be sacked to who can produce which products.
ECONOMIES IN TRANSITION
A) Since the late 1980s there have been two major changes in the political economy of many of the
world’s nations. First, a wave of democratic revolutions swept the world and many of the previous
totalitarian regimes collapsed. Secondly, there has been a move away from centrally planned and mixed
economies towards free markets. Transition economies or emerging market economies are in the
process of transforming their economic systems to market-based systems.
The Spread of Market-Based Systems

B) The rationale for the transformation from centrally planned to market economies has been the same
the world over. In general, command and mixed economies failed to deliver the kind of sustained
economic performance that was achieved by countries adopting market-based systems.
Teaching Tip: Using the Czech Republic as a case study, ask students to identify the changes that have
occurred to the Czech economy. Examples are available at the European Bank for Reconstruction and
Development at www.ebrd.com/search/query.html?qt=Czech+Republic&submit=.
The Nature of Economic Transformation
C) The shift towards a market-based economic system typically involves at least three distinct
activities: deregulation, privatisation and institution development.
Deregulation
D) Deregulation involves removing restrictions on the free operation of product and factor markets.
Privatisation
E) Privatisation transfers the ownership of state property into the hands of private investors.
Privatisation is seen as a way of increasing the economic efficiency of the organisation.
F) Privatisation per se does not guaranteed efficiency gains. The level of competition and the ownership
and management structures are also essential factors.
Teaching Tip: Ask students to trace the history of a privatised former government business enterprise,
for example CSL (www.csl.com.au). Ask students to identify developments in the company that
occurred after the event of privatisation that were unlikely to have occurred if the company had
remained government owned.
Lecture Note: The extent of privatisation in Australia during the 1990s is surveyed in an article by the
Reserve Bank, ‘Privatisation in Australia’ Reserve Bank of Australia Bulletin, December 1997
(www.rba.gov.au/publications/bulletin/1997/dec/2.html).
Institution Development
G) Deregulation and privatisation alone do not ensure a well-functioning market economy. The
transition to a market economy also requires the development of supporting institutions such as a
reliable legal system and a viable financial system.
H) The process of transition to a market economy can be undermined by five institutional weaknesses
according to the World Bank: unpredictable changes in laws and policies, unstable government,
insecurity of property, unreliable judiciary and corruption.
Lecture Note: The extent to which institutional development matters for private sector development is
taken up by a project of the World Bank, the Worldwide Governance Indicators (WGI) project. This
project reports on the aggregate and individual governance indicators of 212 countries and territories
over the period 1996–2006, for six dimensions of governance: Voice and Accountability, Political
Stability and Absence of Violence, Government Effectiveness, Regulatory Quality, Rule of Law and
Control of Corruption. See http://search.worldbank.org/all?qterm=Governance.
I) It could be implied that there exists a particular set of conditions, the right mix of ingredients, ranging
over issues of resources, systems and institutions that enhance the prospects of economic development.

For international business these are essential factors at the national level to consider in assessing the
market and production potential of foreign locations. Of course, one needs to be cautious about
selecting foreign locations based on how they measure up to this ‘one best’ mix of ingredients. What
happened in the past may not be applicable to developing countries now.
FOCUS ON MANAGERIAL IMPLICATIONS
A) The economic environment of a country clearly influences the attractiveness of that country as a
market and/or investment site. The overall attractiveness of a country depends on balancing the likely
long-term benefits of doing business in that country against the likely costs and risks.
Benefits
B) A business can benefit from a foreign country’s resource endowments, both created and natural, and
from its location, either by proximity to its markets or essential resources. Not all the attraction of a
foreign location to a firm necessarily lies in its created resources. The country of origin of a product
influences the perceptions of quality of the product, both negative and positive.
C) A stable and buoyant economy is conducive to optimistic business and consumer sentiment. It is an
attractive market into which to sell products or to choose as an investment location. The record of
macroeconomic stability and the phase of the business cycle can impact the decision to enter and the
timing of the entry to a foreign market.
D) The long-run monetary benefits of doing business in a country are a function of the size of the
market, the present wealth (purchasing power) of consumers and the likely future wealth of consumers.
One needs to consider economic development prospects. By identifying and investing early in a
potential future economic star, firms may be able to gain first-mover advantages (advantages that accrue
to early entrants into a market) and establish loyalty and experience in a country. Three factors that are
reasonably good predictors of a country’s future economic prospects are its economic system, its
property rights regime and the quality of its ‘deep’ institutions.
Costs
E) The level of economic development affects the cost of doing business. It may be more costly
to do business in relatively primitive or undeveloped economies because of the lack of quality
physical and institutional infrastructure and supporting businesses. Macroeconomic instability as
evidenced by high inflation and BOP deficits also can prove costly to business. The instability can
impact both the economic and political environments. Instability impacts the value of money,
international competitiveness, taxes, income distribution and government policy.
F) Diminished purchasing power: Inflation undermines the real value or purchasing power of income.
As a consequence, consumers will alter their level and pattern of demand for goods and services.
G) Reduced international competitiveness: As inflation occurs, the competitiveness of businesses in

countries of relatively high inflation diminishes and remains affected as the costs of doing business rise.
Domestically produced goods and services become more expensive and less competitive on world
markets and imports more competitive in domestic markets. With growing inflationary expectations,
medium- and long-term contracts, for example, those involving wages, interest rates, production and
supply costs, will have built into them the means to compensate for any fall in the value of money.
These expectations add to the costs of doing business.
H) Increased tax burden: The inflation of wages and incomes can move workers into higher marginal
tax brackets. Indirect taxes are often automatically increased in line with inflation. Such consequences
add to the cost of doing business.

I) Income redistribution: With inflation, low-income earners tend to lose while higher-income earners
tend to gain. Greater inequities in income and wealth occur. Growing inequities can be a source of
industrial disputes and more generally political instability.
J) Adverse policy responses: Business can be harmed by attempts by government to combat inflation.
Price and wage controls, tax increases, reduced government expenditures, and interest rate polices can
affect the sales and costs of business.
K) A persistent balance of payments imbalance could be the portent for restrictive government policies
such as an increase in the barriers to trade or the placing of restrictions on the repatriation of profits.
Pressures increase to alter the exchange rate or to depress domestic economic activity in order to reduce
the expenditure on imports and to encourage the export of goods and services.
Risks
L) As with costs, the risks of doing business in a country are determined by a number of political,
economic and institutional factors. Economic risk is the likelihood that economic mismanagement and
economic instability will cause drastic changes in a country’s business environment that adversely
affects the profit and other goals of a business enterprise. Economic risks are not independent of the
political and legal risks discussed in the previous chapter.
M) Two very visible indicators of economic mismanagement are the country’s inflation rate and the
related policy actions of governments, as discussed above, and the level of business and government
debt in the country.
Overall Attractiveness
N) The overall attractiveness of a country as a potential market and/or investment site for an
international business depends on balancing the benefits, costs and risks associated with doing business
in that country. Discussion in this chapter would probably lead to the conclusion that, other things being
equal, the benefit–cost–risk trade-off is likely to be most favourable in politically stable developed and
developing nations that have free market systems and no dramatic upsurge in either inflation rates or
debt.
Key Terms
balance of payments (BOP) p. 335

business cycle p. 330
command economy p. 346
competitiveness p. 327
Consumer Price Index (CPI) p. 334
current account deficit p. 336
debt-service ratio p. 337
deregulation p. 354
economic development p. 338
economic growth p. 331
economic risk p. 361
economic system p. 345
emerging market economies or transition economies p. 353
entrepreneurs p. 348
external economies p. 327
fiscal policy p. 330
foreign debt p. 337

GDP deflator p. 334
GNI per capita p. 321
gross national income (GNI) p. 321
human capital p. 323
Human Development Index p. 343
income distribution p. 322
inflation p. 333
infrastructure p. 326
innovation p. 348
institution development p. 356
international investment position (IIP) p. 336
macroeconomic stability p. 329
market economy p. 346
mixed economy p. 347
monetary policy p. 330
population distributions p. 322
privatisation p. 349
productivity p. 328
purchasing power parity (PPP) p. 339
real GDP p. 331
sources of economic growth p. 331
Summary
The main goal of this chapter is to identify and examine the economic factors and conditions that a firm
would consider in evaluating a country’s potential as a location and source of production and as a
market for its products. The chapter begins by examining the factors and measures to take into account
when assessing a country’s economic endowments—human and physical, natural and created. Included
here is a discussion of the measures of market potential, the sources of productivity and international
competitiveness. (The role of competitiveness in the explanation of international trade was examined in
Chapter 2.) The chapter goes on to discuss a major cause for concern of international business, the
macroeconomic instability of a country. Indicators of the short-term fluctuations of expansion and
contraction in economic activity are identified and explained. The next section takes a longer-term view
of economic conditions and the fundamental changes occurring in an economy during the process of
economic development. This section analyses the nature and measures of economic development.
While countries experiencing sustainable economic development provide business opportunities, so too
do the emerging market economies that have undergone significant reform to their economic systems.
Economic systems are the focus of the next two sections. The first of these two sections compares
different economic systems and their impact on economic outcomes and the second outlines the nature
of the reforms that are being undertaken by economies in transition. The final section investigates the
potential benefits, costs and risks to international business associated with fluctuations in economic
activity, economic development and economic reform.
International Business Graduate Attributes (IBGA): Learning and Assessment Tasks
IBGA1: Discipline Knowledge and Skills
1. Explain why a country exhibiting the five characteristics outlined in Figure 7.5 Ingredients for
Economic Growth and Development would be attractive to international business.
Answer Guide: Mention of the five characteristics would be first: Future Orientation, Global
Engagement, Macroeconomic Stability, Market Allocation and Leadership and Governance.
The economic and political factors identified in Figure 7.5 give a good indication of the market and the

source-of-production potential of an economy. High levels of investment in infrastructure such as roads,
ports and power generation add to the efficiency with which businesses can produce and deliver their
goods and services. The benefits of these long-term investments will continue to flow well into the
future. For new investments to occur, a government needs to be forward thinking. It needs to be
prepared to adjust policies as circumstances change and be less concerned with maintaining the status
quo and serving the current political interests. Macroeconomic stability is essential if business is to have
a degree of certainty over its returns from its business activities.
Inflated prices, wages and interest rates, unexpected exchange rate changes, high unemployment and
declining consumer sentiment are the sort of conditions that are not conducive to business profitability
and investment. An open economy that permits the free flow of products, capital and personnel across
borders is attractive to international business although once established in the country business may not
appreciate the additional competition that an open economy encourages. Price controls, bureaucratic
regulation and high compliance costs, inefficient government-run enterprises and the predominance of
political objectives over economic objectives are hurdles to profitable businesses in an economy where
governments intervene significantly in the workings of a market economy.
Conditions more favourable to business are those created by a free enterprise market economy where
prices and profits guide economic activity and where private property rights are secure. Secure property
rights ensure that the profits that are earned by enterprise and innovation are retained by the property
owner and, in turn, provide the confidence to exploit business opportunities. A government that is not
corrupt and has the confidence of the people provides political and economic stability. If it has
demonstrated success in progressing the economy via wise policies and capable administration it
provides the necessary certainty and confidence for business to invest in the economy.
2. Your firm is sourcing its products from a country that for the foreseeable future is likely to
experience relatively high rates of inflation and increasing current account deficit balances.
Identify the risks to which your firm is exposed and suggest strategies to minimise these
exposures.
Answer Guide: There are risks to the profitability of the business from both the events themselves and
the possible policy responses by the local government. With high inflation, the costs of production in
that country will rise. Wages will rise, and if capital is sourced locally capital costs through higher
interest rates will rise. The price of locally sourced supplies will rise. The products exported from this
country will be less competitive in world markets. Current account deficits may not be a concern unless
the deficits grow significantly and persist for years. If the exchange rate is permitted to fall this would
make exports from the country more competitive in global markets. The down side however is that
there will be a loss of value in the returns from investment in the foreign country as profits are
exchanged into the home currency. Another downside to both inflation and the current account deficit is
the outcome from the policy responses of the local government. The government may increase interest
rates further, raise taxes and cut government expenditures to curb inflation. These actions aimed at
depressing the domestic economy will also reduce the flow of imports. It could also reduce imports by
raising trade barriers. All these actions would possibly raise the costs of doing business in this country
but the extent of the cost hike would depend on such things as the proportion of the business’s resources
that were sourced locally.
In the short term there may be little a business can do to minimise the risk exposures except hedge
against losses flowing from any unexpected exchange rate changes by entering into forward exchange
and swap contracts in the foreign exchange market (see Chapter 4.) In the long term it may have more
opportunities to reduce its risk exposure. It could source its products and resources from an alternative
foreign location if it has that flexibility. It could hedge against inflation by locking prices, wages and
interest rates into long-term contracts if it has the negotiating power to do so.
IBGA5: Communication

3. Design a chart that highlights the difference between a country’s ranking in terms of GNI per
capita and its HDI. Select pairs of those countries in which each of the pair has a similar GNI per
capita but a different HDI. For each pair, place a brief note on the chart giving possible reasons
for the disparity in the rankings.
Answer Guide: A list of countries of the world sorted by their gross national income (GNI) per capita at
purchasing power parity (PPP) can be obtained from http://en.wikipedia.org/wiki/
List_of_countries_by_GNI_(PPP)_per_capita. Data are mostly for 2011. All data are in international
dollars. Rankings shown are those given by the World Bank. Non-sovereign entities or other special
groupings are also in the listing. Similarly, the HDI 2013 report by the United Nations Development
Program was released on 14 March 2013 and calculates HDI values based on estimates for 2012. This is
available at http://en.wikipedia.org/wiki/Human_Development_Index.
4. At current rates of economic growth, how long will it take, if ever, for emerging economies to
surpass the currently three largest Western developed economies—the United States, Japan and
Germany? Graph the projected size of these economies and provide an estimate of how long it
will take China and India to catch up.
Answer Guide: For future HDI projections see http://en.wikipedia.org/wiki/

List_of_countries_by_future_Human_Development_Index_projections_of_the_United_Nations. In
April 2010, the Human Development Report Office provided the 2010–30 HDI projections (quoted in
September 2010 by the United Nations Development Program [UNDP]). These projections were
reached by re-calculating the HDI, using (for components of the HDI) projections of the components
conducted by agencies that provide the UNDP with data for the HDI.
5. The Nobel Prize-winning economist Amartya Sen argues that the concept of development
should be broadened to include more than just economic development. What other factors does
Sen think should be included in an assessment of development? How might the adoption of Sen’s
views influence government policy? Brainstorm within a group the factors that could be included
in the broader notion of development. From the ideas produced, suggest any policy implications.
Debrief the group, identifying behaviours that affected the effectiveness of the brainstorming
process. What worked well? What needs improvement?
Answer Guide: Students need to read ‘Broader Conceptions and Measures of Development’ on page
343 of the text. Sen’s issues focus on:
• the removal of major impediments to freedom: poverty as well as tyranny, poor economic
opportunities as well as systematic social deprivation, neglect of public facilities as well as the
intolerance of repressive states
• ‘democratisation’ of political communities to give citizens an independent voice in the
important decisions made for the community, and
• basic health care, especially for children, and basic education, especially for women.
Sen’s influential thesis was picked up by the United Nations, which has developed the Human
Development Index to measure the quality of human life in different nations. The HDI is a composite
index based on three measures: life expectancy at birth (which is a function of health care); educational
attainment and literacy (which is measured by years of schooling, actual and expected); and whether
average incomes, based on PPP estimates, are sufficient to meet the basic needs of life in a country
(adequate food, shelter and health care).
From here students should be in position to say how the adoption of a development program would
impact on government policy and directives. Issues are likely to centre around why political freedom
and economic advancement are not conjoined.

Sources: Sen, A. (1999) Development as Freedom, New York: Alfred A. Knopf. United Nations Development
Program, Human Development Index, accessed via http://hdr.undp.org/en/statistics/hdi/ on 20 November 2012.
6. Form a small discussion group with six to eight peers. Have all members read the latest
Economic Freedom Report from the politically right-wing US conservative institute, the Heritage
Foundation. Examine the methodology for deriving the Economic Freedom Index, paying close
attention to the indicators ‘Fiscal Freedom’, ‘Government Size’ and ‘Labor Freedom’
(‘Methodology for the 10 economic freedoms’, www.heritage.org/index/pdf/
Index09_Methodology.pdf). Your group’s task is to gain a consensus view on the question, ‘Are
people as a whole in a host country better off with international business and with the economy
unfettered by government intervention?’ Management of the group processes is the responsibility
of the group. Prior to the discussion, assign roles and responsibilities to selected members. Roles
might include leader, recorder, timekeeper, gatekeeper and social–emotional leader. Following
the discussion, evaluate the effectiveness of the roles and the group as a whole. How could the
roles and the group discussion be made more productive?
Answer Guide: There are several tenets to the question, ‘Are people as a whole in a host country better
off with international business and with the economy unfettered by government intervention?’ These
include covering:
1. The economic arguments for intervention—infant industry, strategic trade policy

2. The political arguments for intervention—protecting jobs and consumers, securitisation of
certain industries, retaliatory threats
3. Why governments intervene in FDI—home- and host-country benefits and costs arise here.
Gaining consensus in the light of these issues would be difficult and skewed. Accommodating with
compromise would more likely be the best outcome of the group discussion.
IBGA7: Global Perspective
7. You work for a company that markets top-of-the-range tablet computers. You have been asked
to write a report comparing developing countries that offer market opportunities for your
company’s products, based on the Market Potential Indicators (MPI) of the Michigan State
University Center for International Business Education and Research (MSU-CIBER). See the
globalEDGE site, http://globaledge.msu.edu/resourceDesk/mpi/. In your report, select and justify
the indicators that you consider have significance for your company. Also, as part of your report,
recommend any changes in weights or alternative indicators, if any, that the company should
examine before making a final selection of country.
Answer Guide:
There are eight Dimensions and Measures of Market Potential for 2013 as follows:
Dimension Weight Measures Used
Market Size 10/50 • Urban population (million) – 2011
• Electricity consumption (billion kwh) – 2010
Market Growth Rate 6/50 • Average annual growth rate of primary energy use (%) –
between years 2006–11
• Real GDP growth rate (%) – 2011
Market Intensity 7/50 • GNI per capita estimates using PPP (US Dollars) – 2011
• Private consumption as a percentage of GDP (%)– 2011
Market Consumption 5/50 • Percentage share of middle-class in consumption/income –
Capacity 2010

Commercial 7/50 • Main telephone lines (per 100 habitants) - 2011
Infrastructure • Mobile phone subscribers (per 100 habitants) – 2011
• Number of PCs (per 1000 habitants) – 2012
• Paved road density (km per million people) – 2012
• Internet users (per 100 habitants) – 2011
• Population per retail outlet – 2012
• Percentage of households with TV – 2012
Economic Freedom 5/50 • Economic Freedom Index – 2013
• Political Freedom Index – 2012
Market Receptivity 6/50 • Per capita imports from US (US Dollars) – 2012
• Trade as a percentage of GDP (%) – 2011
Country Risk 4/50 • Country risk rating – 2012
1. The most recent version of the Market Potential Index can be found on globalEDGE at
http://globalEDGE.msu.edu/knowledge-tools/mpi/.
2. The report for previous years can be reached through the Market Potential Index (MPI) Archive table on
the right column.
3. To sort by any dimension, students can click on the name of the dimension.
Market Potential Index (MPI) for Emerging Markets 2013
Overall Country Market Market Market Market Commercial Economic Market Country Overall
Rank Size Growth Intensity Consumption Infrastructure Freedom Receptivity Risk Score
Rate Capacity
1 Singapore 1 86 74 66 80 83 97 100 62
2 Hong 1 44 100 58 100 90 100 92 61

Kong
3 China 100 100 1 70 39 8 4 54 56
4 South 9 40 56 100 87 82 18 65 49
Korea
5 Israel 1 39 65 79 70 78 22 66 43
6 Czech 1 11 45 95 88 88 16 71 43
Republic
7 Poland 3 33 55 82 72 81 8 63 41
8 Turkey 6 73 65 79 52 53 5 49 41
9 India 37 74 28 78 22 52 3 42 41
10 Chile 1 40 48 35 60 100 15 79 38
11 Hungary 1 1 58 88 77 78 20 37 37
12 Malaysia 3 60 29 58 63 52 21 61 37
13 Russia 19 45 36 68 73 17 4 43 36
14 Peru 2 76 40 56 40 70 6 50 35
15 Mexico 9 31 53 49 47 63 21 53 35
16 Indonesia 10 68 28 77 32 54 3 39 34
17 Brazil 18 36 42 37 56 60 1 55 34

Overall Country Market Market Market Market Commercial Economic Market Country Overall
Rank Size Growth Intensity Consumption Infrastructure Freedom Receptivity Risk Score
Rate Capacity
18 Argentina 4 68 49 67 60 45 4 11 33
19 Saudi 4 68 15 0 56 15 14 67 32
Arabia
20 Thailand 3 19 31 66 47 49 17 48 30
21 Egypt 4 33 58 83 47 27 4 10 30
22 Colombia 3 44 42 31 45 62 4 52 29
23 Philippines 4 24 52 58 31 51 5 37 28
24 Pakistan 5 37 66 83 1 32 1 1 25
25 Venezuela 3 40 36 67 44 1 8 10 24
26 South 5 29 40 1 25 66 5 50 22
Africa
8. Write an essay critically examining the proposition that international business is the most
effective means of facilitating widespread peace or, to put it another way, countries that trade
together don’t go to war. As a starting point, visit the sites of the Association to Advance
Collegiate Schools of Business (AACSB), http://www.aacsb.edu/resources/, and Oxfam
(particularly discussion on the role of the private sector, www.oxfam.org.uk/resources/
issues/privatesector/introduction.html).
Answer Guide: The Globalization Resource Center in the AACSB website offers a course on
Globalization of Business Enterprise (GLOBE) for advanced business students. The course materials,
developed by Pankaj Ghemawat, are available for download. Materials include a syllabus, presentations
and other resources.
Readings include:
• P. Ghemawat, The Globalization of Markets, Globalization Note Series, (2010)
• P. Ghemawat, ‘ADDING Value,’ in P. Ghemawat and J. I. Siegel, Cases on Redefining Global
Strategy, Harvard Business Review Press (2011): 1–10
• P. Ghemawat, ‘Differences and the CAGE Distance Framework,’ in P. Ghemawat and J. I.
Siegel, Cases on Redefining Global Strategy, Harvard Business Review Press (2011): 59–69
• P. Ghemawat and S. Reiche, National Cultural Differences and Multinational Business,
Globalization Note Series, 2011
• P. Ghemawat, ‘Adaptation Strategies,’ in P. Ghemawat and J. I. Siegel, Cases on Redefining
Global Strategy, Harvard Business Review Press (2011): 199–210
• P. Ghemawat and T. Hout , Differences in Business Ownership and Governance around the
World, Globalization Note Series (2010)
• P. Ghemawat, ‘Arbitrage Strategies,’ in P. Ghemawat and J. I. Siegel, Cases on Redefining
Global Strategy, Harvard Business Review Press (2011): 437–444
• P. Ghemawat, ‘Aggregation Strategies,’ in P. Ghemawat and J. I. Siegel, Cases on Redefining
Global Strategy, Harvard Business Review Press (2011): 305–313.
Cases:
• P. Ghemawat with J. Mitchell, Grolsch: Growing Globally (2008)
• P. Ghemawat and S. Altman , Indian IT Services Industry in 2007 (2008)
• P. Ghemawat and R. Madhavan, Mittal Steel in 2006: Changing the Global Steel Game (2009).

From this listing and the Oxfam website, students would be able to write a critical report on the merits
or otherwise of IB as a facilitator of global peace.
IBGA1: Discipline Knowledge and Skills; IBGA2: Critical Analysis
9. CASE ANALYSIS Read again the OPENING CASE, ‘Polish Economic Resilience’, and answer
the following questions.
Summary
The opening case describes Poland’s economic success story. Poland, unlike most countries in Europe,
survived the recent global recession with little trouble. Decisions made early in the decade and during
the 1990s helped Poland develop a stable economic policy and a stable political system. The country
has benefitted from its free market and free trade policies as well as its efforts to privatise state-owned
businesses. Today, Poland is working to make the country even more attractive to foreign investors by
simplifying tax laws, reducing tax rates and removing bureaucratic barriers to doing business in the
country. Discussion of the case can revolve around the following questions.
a. How well has the Polish economy performed relative to its European neighbours over the past
few years?
Answer Guide: Poland’s fiscally conservative economic policies have been an important factor in its
ability to prosper during a time when most economies were suffering. Poland avoided the asset bubble
that created so many problems for other countries by keeping a lid on inflation early in the decade and
more recently by keeping public debt levels low and increasing consumer confidence in the economy.
b. How has Poland benefited from location?
Answer Guide: Poland is not a member of the euro currency bloc, having retained its national currency,
the zloty, on joining the EU in 2004. The benefit of joining the European Union has meant easy access
to the large consumer markets of Western Europe. Despite the economic turmoil in the OECD countries
between 2011–3, Poland has achieved stellar success. Part of the reason is due to sound macroeconomic
policy, systemic reforms, a stable political system and some luck.
c. What political-economic changes have occurred in Poland over the past three decades? How
may these changes have affected economic performance?
Answer Guide: In 1989, Poland elected its first democratic government after more than four decades of
Communist rule. Since then, like many other Eastern European countries, Poland has embraced free
market economic policies and free trade, and has privatised many of its state-owned businesses. In
2004, the country joined the European Union, giving it a location advantage as mention in Question b
above.
d. How may Poland have benefited from having its own currency, given the economic turmoil of
the eurozone crisis surrounding it?
Answer Guide: Conditions of Poland’s accession to the European Union (in May 2004) oblige the
country to eventually adopt the euro, though not at any specific date and only after Poland meets the
necessary stability criteria. Serious discussions of joining the eurozone have ensued. However, article
227[1] of the Constitution of the Republic of Poland will need to be amended first,[2] so it seems unlikely
that Poland will adopt the euro before 2019.[3] Public opinion research by CBOS from March 2011
shows that 60 per cent of Poles are against changing their currency. Only 32 per cent of Poles want to
adopt the euro, compared to 41 per cent in April 2010.[4]

Source:
1. Parliament of the Republic of Poland. Constitution of the Republic of Poland of 2nd April
1997, as published in Dziennik Ustaw (Journal of Laws) No. 78, item 483
(www.sejm.gov.pl/prawo/konst/angielski/kon1.htm). Retrieved 25 September 2009.
2. ‘Polish charter must change before ERM-2’. www.fxstreet.com. Retrieved 25 September 2008.
3. Sobczyk, Marcin (18 May 2011). ‘Poland Backtracks on Euro Adoption’. Wall Street Journal.
Retrieved 25 May 2011.
4. ‘CBOS za przyjęciem euro 32 proc. Polaków, przeciw 60 proc.’. bankier.pl. 28 March 2011.
Retrieved 3 April 2011.
e. Given what is now occurring in the Polish economy, do you think the country represents an
attractive foreign investment target? Why?
Answer Guide: Poland has benefited from the economic stimulus in neighbouring Germany. A scheme
to boost demand for German automobiles by giving cash grants to people who exchanged old cars for
new ones (a ‘cash for clunkers’ program) helped Poland, since the country has several automobile
plants and was selling many cars and components to Germany. Germany is Poland’s major trading
partner. However, Poland is far from a model economy. The country still has substantial vulnerabilities
and systemic problems. Economic turmoil in the eurozone has damaged its export sector. Migrant
workers returning from Western Europe have swelled the ranks of the unemployed. In 2009,
unemployment hit 11 per cent and this rate persists today. The tax system is complex and archaic. A
study by the World Bank ranked the Polish tax system 151st out of the 183 countries it surveyed.
Extensive regulations can still make it difficult to do business in Poland: the World Bank ranked Poland
76th in ease of doing business. On the other hand, the Polish government has committed itself to
changing much of this. Steps have been taken to simplify tax laws, reduce tax rates and remove
bureaucratic hurdles and red tape to doing business in the country. These policy initiatives will make it
much easier to do business with and in Poland. Poland’s privatisation push from state-owned enterprise
will be facilitative in this regard.
Teaching Tip: Information on doing business in Poland is available at www.buyusa.gov/

poland/en/doing_business_in_poland1.html.
10. CASE ANALYSIS. Read the CLOSING CASE, ‘Embraer Flies as Brazil’s Exports Hit
Headwinds’, and answer the questions that follow.
Summary
Embraer is headquartered in Sao Paulo, Brazil, and employs around 19 300 people worldwide. It ranks
as one of the most innovative aerospace companies in Brazil and globally. It competes with the
Canadian company, Bombardier, for the rank of the third largest commercial aircraft manufacturer in
the world behind Europe’s Airbus and USA’s Boeing. Embraer operates in four business segments:
commercial aviation, executive aviation, defence and security and aviation services. The company has
also captured nearly 14 per cent of the global executive jet market. Based on the last two years,
Embraer delivers nearly 100 commercial jets and nearly 100 executive jets per year. The company has
manufacturing facilities at one location in China, one in the United States and two in Portugal, as well
as three in Brazil. There are some 60 company-owned and authorised service centres worldwide.
What is notable about Embraer’s success story is that it has transformed itself from a state-owned,
military-controlled enterprise into an efficient privately owned producer of popular jets with suppliers
and customers worldwide. How did they do it? First there were structural changes and reforms which
included government austerity measures such as raising taxes and cutting government expenditure,
liberalising markets and privatisation. Second was technological autonomy: not merely one of a low
value-adding, technologically dependent assembler—a common role in many global production
systems—but one of R&D expertise, technological ‘know-how’, and finance and human resources

expertise required to design and develop the necessary technological requisites and solutions for an
aerospace project.
Along the way, Embraer was able to enter into a number of co-production and licensing agreements
with foreign aircraft manufacturers to assemble aircraft in Brazil, aggressively supported by
government policy where import duties were abolished and private companies investing in Embraer
were given tax concessions. Despite a now long history of collaboration with many of the most
technologically advanced aerospace companies in the world, Embraer, has been able to maintain its
technological autonomy. These capabilities enable Embraer to take a lead role and choose its partners.
With the strategic risk-sharing partnerships in place, Embraer can concentrate on its core competencies
of design, systems engineering, integration capability and aircraft materials technology. It’s a virtuous
cycle. Embraer is an established leading technology player in the global aerospace industry. It has
succeeded, while around it, the performance of Brazil’s manufacturing export sector has been wanting.
A discussion of the closing case can revolve around the following questions as listed for IBGA Task 10.
CLOSING CASE QUESTIONS

a. What are the development benefits to an economy of ‘trade openness’?
Answer Guide: The development benefits to an economy of ‘trade openness’ are said to be broad and
many, and can be categorised around:
Benefits for the domestic government:

• Global and regional political reputation benefits.
• Signals growth and movement towards developed nation policies.
• Helps to secure advancing nation global resources and assistance.
Benefits for developing competitive domestic private enterprise:

• Forces domestic enterprise to compete with imports and operate efficiently.
• Fosters the development of niche products/services.
• Forces enterprises to exploit local and core strengths.
• Enables domestic enterprise to learn from ‘reverse engineering’.
• Enables domestic enterprise to learn from exposure to global ideas and innovative business
models.
• This helps to build domestic knowledge and expertise.
• This fosters the development of competitive local enterprises that can capture first-mover
advantages in international markets.
Benefits for consumers:

• Access to greater range and quality and cheaper priced goods and services.
b. Are there dangers to Brazil’s ongoing economic development of an over-reliance on the export
of commodities as minerals and agricultural products?
Answer Guide: The dangers to Brazil’s ongoing economic development of an over-reliance on the
export of commodities are:
• Finite limitation of natural resources—short-term economic model.

• Limited control of market—commodities are price and demand sensitive as they are subject to
the price and availability of global reserves.
• Can provide an economic comfort zone that weakens incentives for building more strategic
longer-term investment and development strategies.
• Emphasis on lo-value-added industries that limit domestic growth.
• Limits growth and investment in more advanced areas of development such as technology and

knowledge-based industries.
• Limits growth and development of knowledge and skills to its large number of citizens.
c. How might the transformation from military ownership and control to private ownership and
control have contributed to Embraer’s success?
Answer Guide: The transformation from military ownership and control to private ownership and
control have contributed to Embraer’s success through the following:
• New management approach and more efficient use of business management skills, focus,
expertise and command of operations.
• New structure that aligns with commercial business model objectives in contrast with solely
government and military objectives.
• Greater independence from non-business-related government control and political agendas.
• Ability to raise capital and secure investment in a globally strategic industry.
• Improved production methods through the ability to focus on and control core strengths of
design and manufacturing and outsource non-core operations to best providers.
• Ability to trim and streamline labour force and working conditions for greater efficiencies.
• To take a customer orientation in the development of strategic product design and offerings,
rather than a technical one that met prior political and military needs.
• Developed market desirable products not supplied by major competitors, in contrast to products
tailored to politicians and the military.
d. Are import substitution polices the only effective way a government can foster a fledgling high-
tech industry such as aerospace? What are the lessons of the Embraer experience?
Answer Guide: Import substitution policies are generally considered non-competitive policies in a
globally interconnected world, as they are extremely difficult to implement. They also require
justification as to their long-term viability to warrant the investment of large amounts of capital and
resources. This is particularly the case for developing countries that do not have the knowledge and
production capabilities of advanced countries. Therefore, import substitution policies are not an
effective way for a government such as Brazil to foster a fledgling high-tech industry such as aerospace
at this point in time.
Rather, the Embraer experience demonstrates that privatisation, along with identifying, securing and
controlling core intellectual property (IP) as the primary competitive advantage, and outsourcing non-
core production to the best quality international providers, was key to Embraer’s success. Their IP was
further focused on providing competitively priced products based on prior knowledge strengths and that
were not provided by competitors, securing a niche market advantage in the global aerospace market.
Therefore the lessons provided by Embraer are:
1. Build on existing knowledge as primary IP capital and retain as core competency.

2. Identify niche market gap that can be filled with IP capital.
3. Outsource all non-core production to the highest-quality global suppliers.
4. Build a co-dependency within this network on Embraer’s IP and materials.
e. How can it be said that Embraer has been able to retain technological independence and
project leadership when it outsources the manufacture of such a large proportion of the high-
tech, complex aircraft components to some of the most technologically advanced aerospace
companies?
Answer Guide: Embraer has acted in three important ways that has enabled it to retain independence
while capitalising on the outsourcing model.

1. Embraer has captured, retained and built on core valuable knowledge gained over many years
of manufacturing products in the aerospace area and servicing niche needs tailored to
government and military objectives.
2. Embraer has been able to identify, protect and build on this knowledge, and transform it into
valuable IP focused on the design of its niche market aircraft and materials which it provides to
its suppliers. It has done this through an emphasis on research and development as a core
strength, and retains this ‘technology autonomy’ as a core competency.
3. Simultaneously, Embraer has identified and outsourced that which does not require IP control
and protection, and leveraged the core competencies of international component manufacturers
as the suppliers of its product parts and services. In doing this, Embraer has developed an
effective and strategic global supply chain of the best quality ‘partners and networks of
knowledge’ who share risks and profits and provide the latest technology components. This
complex integration of quality networks who are all co-dependent on the successful existence
of each other would be extremely difficult to replicate in the short term.


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OPENING CASE: POLISH ECONOMIC RESILIENCE

POLISH ECONOMIC RESILIENCE

Chapter 7 – IRM t/a Global Business Today 3e 1

International Business Graduate Attributes

Chapter Outline with Lecture Notes and Teaching Tips

A) Economic factors are important influences on a firm’s motivation to embark on international

ECONOMIC ENDOWMENTS—NATURAL AND CREATED

Chapter 7 – IRM t/a Global Business Today 3e 2

Suggested Discussion Questions

Chapter 7 – IRM t/a Global Business Today 3e 3

Infrastructure and Institutions

Productivity and Competitiveness

ECONOMIC PERFORMANCE—MACROECONOMIC STABILITY

Chapter 7 – IRM t/a Global Business Today 3e 4

B) Macroeconomic stability is characterised by minor fluctuations in employment levels at or near full

Economic Growth and Employment Fluctuations

Chapter 7 – IRM t/a Global Business Today 3e 5

ECONOMIC PERFORMANCE—ECONOMIC DEVELOPMENT

Measures of Economic Development

Broader Conceptions and Measures of Development

Chapter 7 – IRM t/a Global Business Today 3e 6

Chapter 7 – IRM t/a Global Business Today 3e 7

Economic Systems and Economic Development

Innovation and Entrepreneurship: The Engines of Growth

Innovation, Entrepreneurship and the Market Economy

The Required Political System

Country Focus: India’s Stuttering Economy Transformation

Chapter 7 – IRM t/a Global Business Today 3e 8

Chapter 7 – IRM t/a Global Business Today 3e 9

The Spread of Market-Based Systems

Chapter 7 – IRM t/a Global Business Today 3e 10

The Nature of Economic Transformation

Chapter 7 – IRM t/a Global Business Today 3e 11

FOCUS ON MANAGERIAL IMPLICATIONS

G) Reduced international competitiveness: As inflation occurs, the competitiveness of businesses in

Chapter 7 – IRM t/a Global Business Today 3e 12

balance of payments (BOP) p. 335

Chapter 7 – IRM t/a Global Business Today 3e 13

International Business Graduate Attributes (IBGA): Learning and Assessment Tasks

IBGA1: Discipline Knowledge and Skills

Chapter 7 – IRM t/a Global Business Today 3e 14

Chapter 7 – IRM t/a Global Business Today 3e 15

Answer Guide: For future HDI projections see http://en.wikipedia.org/wiki/

Chapter 7 – IRM t/a Global Business Today 3e 16

1. The economic arguments for intervention—infant industry, strategic trade policy

IBGA7: Global Perspective

Chapter 7 – IRM t/a Global Business Today 3e 17

Market Potential Index (MPI) for Emerging Markets 2013

2 Hong 1 44 100 58 100 90 100 92 61

3 China 100 100 1 70 39 8 4 54 56

Chapter 7 – IRM t/a Global Business Today 3e 18

Chapter 7 – IRM t/a Global Business Today 3e 19

IBGA1: Discipline Knowledge and Skills; IBGA2: Critical Analysis

b. How has Poland benefited from location?

Chapter 7 – IRM t/a Global Business Today 3e 20

Teaching Tip: Information on doing business in Poland is available at www.buyusa.gov/

Chapter 7 – IRM t/a Global Business Today 3e 21

CLOSING CASE QUESTIONS

Benefits for the domestic government: