IB Chapter 5

An Inquiry into the Nature and Causes of the Wealth of Nations- by Adam Smith

A book leading to the Absolute Advantage principle stating that by minimizing imports and maximizing exports, a country wastes much of its national resources by having to produce products it is not suited to produce efficiently. The inefficiencies of mercantilism end up reducing the wealth of the nation as a whole while enriching a limited number of individuals and interest groups.

The Principles of Political Economy and Taxation- by David Ricardo

A book leading to the Comparative Advantage principle explaining why it is beneficial for two countries to trade even though one of them may have an absolute advantage in the production of all products. Demonstrated that what matters is not the absolute cost of production, but rather the relative efficiency with which the two countries can produce the products.

The Competitive Advantage of Nations- Professor Michael Porter

A competitive advantage of a nation depends on the collective competitive advantages of the nation's firms. Over time, this relationship is reciprocal; the competitive advantages the nation holds tend to drive the development of new firms and industries with these same competitive advantages.

Industrial cluster

A concentration of businesses, suppliers, and supporting firms in the same industry at a particular location, characterized by a critical mass of human talent, capital, or other factor endowments.

Internationalization advantages

A firm gains these benefits from internalizing foreign-based manufacturing, distribution, or other value chain activities. Include the ability to control how the firm's products are produced or marketed, greater control of its proprietary knowledge, and greater buyer certainty about product value.

International collaborative ventures (Non-FDI-Based explanation)

A form of cooperation between two or more firms. Collaboration allows the partners to carry out activities that each might be unable to perform on its own. Share the risk of their joint efforts, which reduces vulnerability for any one partner. Can give a company access to foreign partners' expertise, capital, distribution channels, marketing assets, or the ability to overcome government-imposed obstacles.

Dunning's Eclectic Paradigm

A framework to explain the extent and pattern of the value chain operations that companies should own abroad. Specifies three conditions- Ownership-specific advantages, Location-specific advantages, and Internalization advantages.

National industrial policy

A proactive economic development plan a government initiates to build or strengthen a particular industry. Usually, governments design such policies to support high value-adding industries.

Internationalization process model

According to this model, internationalization takes place in incremental stages over a long period. Domestic focus->Pre-export stage->Experimental involvement->Active involvement->Committed involvement

Internationalization theory

An explanation of the process by which firms acquire and retain one or more value-chain activities inside the firm. This minimizes the disadvantages of dealing with external partners and allows for greater control over foreign operations.

New Trade Theory

Argues that increasing returns to scale, especially economies of scale, are important for superior international performance in industries that succeed best as their production volume increases. As a nation specializes in the production of such goods, productivity increases and unit costs fall, providing significant benefits to the local economy.

Competitive Advantage

Assets or capabilities of a firm that are difficult for competitors to imitate. They are typically derived from specific knowledge, competencies, skills, or superior strategies. Help the firm enter and succeed in foreign markets, also known as firm-specific advantage.

Committed Involvement stage

Characterized by genuine interest and commitment of resources to making international business a key part of the firm's profit making and value chain activities. In this stage, the firm targets numerous foreign markets through various entry modes, especially FDI.

Location-specific advantages

Condition that determines whether a firm will internationalize by FDI is the presence of______________. These are the comparative advantages available in individual foreign countries that may be translated into firm competitive advantages- natural resources, skilled labor, low-cost labor, or inexpensive capital.

Ownership-specific advantages

Condition which an MNE should hold knowledge, skills, capabilities, key relationships, and other advantages that it owns and that allow it to compete effectively in foreign markets. Must not be readily transferrable to other firms.

Porter Diamond Model

Demand conditions; Firm strategy, structure, and rivalry; Factor conditions; Related and supporting industries

Factor conditions

Describe the nation's resources such as labor, natural resources, and advanced factors such as capital, technology, entrepreneurship, advanced work force skills, and know-how.

Trade

Enables countries to use their national resources more efficiently through specialization and thus enables industries and workers to be more productive. These outcomes help keep the cost of many everyday products low, which translates into higher living standards

Domestic focus

How a firms starts out, preoccupied with business in its home market. Management may be unable or unwilling to start doing international business because of concerns over its readiness or perceived obstacles in foreign markets.

Experimental involvement stage

Initiating limited international activity, typically through basic exporting.

Born global firms

Innovative start-ups that initiate international business soon after their founding. Gave rise to international entrepreneurship.

Comparative advantage principle

It may be beneficial for two countries to trade with each other as long as one is relatively more efficient at producing a product needed by the other. The foundational logic for free trade among nations today. Is optimistic because it implies that a nation need not be first, second, or third-best producer of a product to benefit from international trade. It is generally advantageous for all countries to participate.

Standardization phase (third stage)

Knowledge about how to produce the product is widespread and manufacturing has become straightforward. Mass production becomes the dominant activity and can be accomplished using cheaper inputs and lower-cost labor. The country that invented the product eventually becomes a net importer.

Firm strategy, structure, and rivalry

Refer to the nature of domestic rivalry and conditions in a nation that determines how firms are created, organized, and managed. Vigorous competitive rivalry puts these firms under continual pressure to innovate and improve.

Demand conditions

Refer to the nature of home-market demand for specific products and services. The presence of demanding customers pressures firms to innovate faster and produce better products.

Related and supporting industries

Refer to the presence of clusters of suppliers, competitors, and skilled workforce.

Monopolistic advantage theory

Refers to resources or capabilities a company holds that few other firms have. Suggests that firms that use FDI as an internationalization strategy must own or control certain resources and capabilities not easily available to competitors. Specific to MNE itself.

Free trade

Relative absence of restrictions to the flow of goods and services between nations.

Networks and relational assets (Non-FDI-Based explanation)

Represent the economically beneficial long-term relationships the firm undertakes with other business entities. Include manufacturers, distributors, suppliers, retailers, consultants, banks, transportation suppliers governments, etc.

Leontief Paradox Analysis

Russian economist's analysis that contradicted the factor proportions theory- The US has abundant capital, so it should be an exporter of capital-intensive products. The analysis later revealed that the US often exported labor-intensive goods and imported more capital-intensive goods than the theory would ordinarily predict.

Factor Proportions Theory

Sometimes called the factor endowments theory, rests on the premises that products differ in the types of quantities of factors required for production and the type and quantity of production factors that they possess. Suggests that each country should export products that intensively use relatively abundant factors of production and import goods that intensively use relatively scarce factors of production.

Comparative Advantage

Superior feature of a nation that provide unique benefits in global competition. These features typically are derived from either natural endowments or deliberate national policies. Includes inherited (country specific) resources, such as labor, climate, and arable land. Others are acquired over time, such as entrepreneurial orientation, availability of capital venture, and innovative capacity.

Mercantilism

The belief that national prosperity is the result of a positive balance of trade, achieved by maximizing exports and minimizing imports. Tends to harm firms that import, especially those that import raw materials and parts used in the manufacture of finished products. Also harms consumers because restricting imports reduces the choice of products they can buy.

Absolute advantage principle

The idea that a country benefits by producing only those products it can produce using fewer resources. Each country can increase its wealth by specializing in the production of goods in which it has unique advantages, exporting those goods, and then importing other goods in which it has no particular advantage. If every nation follows this practice, each can consume more than it otherwise could, generally at a lower cost.

Introduction stage (First stage)

The new product is produced in the inventing country (often with an advanced economy), which enjoys a temporary monopoly.

International Product Life Cycle Theory

Theory developed by Raymond Vernon that observed that each product and its manufacturing technologies go through 3 stages of evolution- introduction, maturity, and standardization.

High-value adding industries

Those that yield higher corporate profits, better wages, and tax revenues. Typically are knowledge-intensive industries such as IT, biotechnology, medical technology, and financial services.

Active involvement stage

When managers begin to view foreign expansion more favorably. Occurs through the systematic exploration of international options and the commitment of resources and managerial time to achieve international success.

Pre-export stage

When the firm advances often because it receives unsolicited product orders from abroad. Management investigates the feasibility of undertaking international business.

Maturity stage (second stage)

When the product's inventors mass-produce it and seek to export it to other advanced economies. At this stage, the competition intensifies and export orders begin to come from lower-income countries, the inventor may earn only a narrow profit margin.