I am an international business consultant and presenting a report on the opportunities that a business in the textile industry in North America can be benefited from participating in trade with a trade block.
It is the European Union and North American Free Trade Area that I shall focus on as it is of most interest in this report and the possibilities of opening a textile plant in the European Union the largest trade block.
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To gather the information used within this report I referred to my own views as international business consultant and four academic books whose authors provide different views on why and how companies should be involved in word trade and the possible challenges that they may face in doing so or not.
Trade allows countries to use their national resource more efficiently through specialization. Regional economic integration is the growing interdependence that results when two or more countries within a geographic area and form an alliance aimed at reducing barriers to trade and investment. The rise of regional trade blocks that are in geographic areas consisting of two or more countries who have agreed to pursue economic integration by reducing barriers to the cross border flow of products, services, capital and in more advanced states has influenced world trade greatly
It is of great importance that we are strategically positioned as a business to benefit from this. To begin with I shall define what free trade is, the types of free trade blocks, the worlds leading trade blocks, discus the advantages and disadvantages they present to a country and a business and then give my recommendation.
DUSCUSION AND PERSONAL VIEW
Free trade is the relative absence of restrictions to the flow of goods and services between nations.
Trade is the core of a businesses existence it is prudent to consider international trade that is the exchange of products and services across national boarders especially that is natural for a business to want to grow; typically through exporting and importing, International Business (2008 Tamer C.S, Knight G and Riesenberger J.R)
Classical theories of trade
World trade has come been around for a long time at has developed over time at different stages of history, by looking at some of the theories we are much more able to understand the word trade taking place right now.
The Mercantilist View; A belief that national prosperity is the result of positive balance of trade, achieved by maximizing exports and minimizing imports, emerged in the 1600 (protectionism).
Absolute Advantage principle; A country benefits by producing only those products in which it has an absolute advantage or can produce using fewer resources than another country : by economist Adam Smith 1776, An inquiry into the Nature and causes of wealth of nations
Comparative advantage principle; it can be beneficial for two countries to trade without barriers as long as one is more efficient at producing good or services needed by the other. What maters is not the absolute cost of production, but rather the reflective efficiency with which a country can produce the product, David Ricardo 1817; the principle of political economy and taxation.
Factor propositions theory; describes how abundant production factor give rise to national advantages for instance Brazil has abundant workers in all the various industries.
New trade theory; Paul Krugwa; 1970’s argues that increasing returns to scale especially economies of scale are an important factor in some industries for superior national performance. Some industries succeed best as their volume of production increases consider the airline industry that makes more profits by producing large numbers of airlines.
In this theory a variety of products and services are consumed at a lower cost.
The most refereed to theories today are those of comparative advantage and new trade theory.
Because of international trade, some county governments have set up protectionist measures against foreign competitions to protect their own businesses. This is necessary however it reduces international trade and its benefits of helping the countries firms to become efficient global competitors even invite retaliation, some of these measures are;
Tariffs or import duties; a charge imposed on the price of entering a country. This increases the price of imported goods it also increases demand on home produced good, generates government revenue.
Subsidies; is a financial support provided by the government out of taxation. The initial cost of producing a certain service or product is reduced due to government support there for reducing its selling price. These also encourage exports of local products and services.
Quotas; are a permitted or prescribed volume or a value of a product; this controls the level of imports and allows them to find their own price. This helps to reduce the influx of certain products into the country.
Non- tariff barriers; take the form of discriminatory administrative practices, deliberately channeling government contracts to home companies even when their tenders are not competitors
Local content requirements; require that a manufacturer include a minimum percentage of added value that is obtained from local sources, this discourages imports of raw materials, parts, components and supplies thereby reducing sourcing options available to manufactures.
Regulations and technical standards; include safety, health or technical regulations; labeling requirements. These may delay or block the entry of imported products and reduce the quantity of available products, resulting in higher costs to imports and buyers
Types of Free Trade
FREE TADE AGREEMENT; A formal agreement between two or more countries to reduce or eliminate tariffs, quotas, and barriers to trade in products and services
Free trade area; A stage of regional integration in which member countries agree to eliminate tariffs and other barriers to trade in products and services within the block
Customs union is stage of regional integration in which the member countries agree to adapt common tariff and non-tariff barriers on imports from non-member countries.
Common market; A stage of regional integration in which trade barriers are reduced or removed, common external barriers are established and product and services. Factors of production are allowed to move freely among member countries
Economic union; A stage of regional integration in which member countries enjoy all the advantages of early stages but also strive to have common fiscal and monetary policies.
The level of integration on laws and regulation increases significantly from free trade agreement to economic union observe the two diagrams below:
LEADING ECONOMIC TRADE BLOCKS
More and more countries are becoming part of a trade block or trade agreement. There approximately 200 economic integration agreements around the world;
The European Union (EU) started in 1957 the most advanced of these, comprises of 27 countries in Europe. The EU increased market access, improved trade rules and harmonized standards among members.
The EU seeks to harmonize customer laws amongst member countries and prohibits all agreements and practices that may hinder trade.
The North American Free Trade Agreement (NAFTA); launched in 1994 the block consists of Canada, Mexico, and the United States. NAFTA is at the free trade area stage of regional integration mostly eliminating tariffs and most non tariff barriers for products and services in the block.
America and Canada would benefit from the low labour cost of Mexico and them from foreign direct investment as large markets of the other two. Since its formation NAFTA countries have become more integrated and a strong productivity growth.
Others include; EL Mercado Comun del Sur (MERCOSUR), The Caribbean Community (CARICOM) and Comunidad (CAN) in south America. In Asia Pacific; The Association of Southeast Asian Nations (ASEAN), Asia Pacific Economic Cooperation (APEC) and Australia and New Zealand Closer Economic Relations Agreement are leading blocks
The Southern Development Community (SADC), Economic Community of West African States (ECOWAS) and Gulf Cooperation Council (GCC) economic blocs in Africa and the Middle East have experienced little success.
Depending on weather you are within or without the trade block their advantages and disadvantages to businesses.
Economic Development seventh edition Todaro M, P. 2000
Disadvantages of Trade Economic Blocks
New protectionist measures against exports from developing countries in terms of standards of acceptance of manufactured and processed goods
Oligopoly control of factors of production and commodity markets in developed countries combined with increased competition for sources of sources of supply.
Some countries with high labour costs in trade blocks lose jobs to lower labour cost countries due the benefits it offers business firms.
Advantages of Trade Economic Blocks
Promotes competition , improved resource allocation, economies of scale and cost of production lowered
Increased pressure to be efficient , product improvement and technical change
Accelerates economy grows, raises profits and promotes greater saving and investment.
Attracts foreign capital and expertise, generating needed foreign exchange
Promotes more equal access to scarce resources.
Why countries may pursue regional trade (International Business 2008 Tamer C.S, Knight G and Riesenberger J.R)
Expand the market size of their industries o increase revenues
Achieve economies of scale and enhanced productivity
Attract direct investment from outside the block
Acquire stronger defensive and political posture
Drawbacks and ethical dilemmas of regional integration are;
There is reduced global trade due to the fact that countries within a trade block tend to trade more with themselves that with countries outside the block
Another serious consequence is the loss of international identity and sacrifice of autonomy as seen from the countries within the European Union
Failure of small or weak competition because of the larger businesses that can pay higher wages and have economies of scale.
There reason that businesses may want to be part of a trade block International Business 2009 Hill C W.L
Consumers and firms can more readily buy the products they want due to the large size of the block.
The prices of imported products tend to be lower in a trade block than domestically produced products because of access to world scale supplies that force prices down, mainly from increased competition or production takes place in lower cost countries.
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Lower cost of imports help reduce the expenses of firms, thereby raising their profits (which may be passed on to workers in the form of higher wages).They also reduce the expenses of consumers, thereby increasing their living standards.
How firm management must deal with Regional integration International Business 2008 Tamer C.S, Knight G and Riesenberger J.R;
Internationalization by firms inside the block
The elimination of trade and investment barriers present new opportunities to source input goods from foreign supplies within the block. The firm can generate new sales and increase profits.
Rationalization of operations
Instead of viewing the block as a collection of differing countries, firms begin to view the block as a unified whole, rather than individual countries.
Rationalization is the process of restructuring and consolidating company operations. It reduces redundancy, cost and increase efficiency in operations.
Mergers and Acquisitions
The merger two or more firms creates a new company that produces a product on a much larger scale, mergers and acquisitions result a lot in trade blocks.
They increase R&D activities and pool grater capital funding for major projects, such as construction of plants and large scale industrial equipment.
Regional products and marketing strategy
Companies can standardize their products and services, the reason is that it is less costly to make and sell a few product models than several. Due to regional integration member countries tend to harmonize product standards and commercial regulations and eliminate trade barriers and transportation issues.
Internationalization by firms from outside the block
Multi-country markets are attractive to firms outside the block; they avoid exporting as entry strategy because economic blocks erect trade barriers against imports from outside the box. To overcome this, companies establish a foreign direct investment. By building a production
Facility, marketing subsidiary or regional headquarters they gain access to the entire trade block and benefits enjoyed by local firms within the block.
Regional integration creates opportunities for cooperation among firms located inside their own block. The elimination of trade and investment barriers in the EU allowed Airbus to move aircraft parts, capital and labour among the member countries from one country to another. Outsider companies enter the block by entering joint ventures and other collaborative agreements with companies based within the block.
The GATT (General Agreement on Tariffs and Trade) /WTO (World trade Organization)
Some important global institutions have been created to help increase the production of business activity beyond national boarders. They include the General Agreement on Tariffs and Trade (GATT) and its successor the World trade Organization (WTO). It’s responsible for making sure member countries adhere to the policies agreed upon, 97% of the world trade comes from WTO members.
WTO has promoted lowering barriers to cross boarder trade and investment. Average tariff have fallen since the 1950’s about 4% in 2001 the WTO member countries further agreed to reduce tariffs on goods, services and agricultural produces reducing barriers to cross boarder investment.
With the encouragement from the actions of such institutions our textile company will find it easier to trade on an international level. Typically firms begin with exporting and progress to FDI (foreign Direct Investment), the most complex international activity. Internationalization requires rational analysis or deliberate planning on the part of managers usually a gradual procedure.
Opportunities for our textile managers
In Europe before the 1992, the large French and Italian markets were most protected; these markets are now much more open to foreign competition since the formation of the EU.
It is advisable to set up a subsidiary in Europe now lest we run the risk of being shut out of the EU by non-tariff barriers
The lower costs of doing business in a single market as opposed to 27 national markets in the case of the EU or 3 national markets(NAFTA)
Significant cost economies, free movement of goods across boarders, harmonized product standards, simplified tax regimes by centralization of production in EU and North American markets by being in a single location optimal local factors and cost.
Countries that are unable to produce particular kinds of services or products such as Iceland producing oranges are able to import from those that can even if a country is able to produce that product but if another can do so at a lower cost it is more logical for that country to concentrate on producing other products and importing that on, this is the theory of comparative advantage.
However in a free trade block import tax and other protectionist measures may be reduced even removed or harmonized making it cheaper to sell products in such countries within the block
Risks for our textile managers
The business environment within each grouping is very competitive, due to increased price competition; to survive these, we must take advantage of the opportunities offered by the single market to rationalize production and reduce costs. The EU has a high cost structure limiting many firms ability to compete globally with North American and Asian firms
EU has seriously attempted to reduce these restrictions by rationalizing production hence becoming more competitive threatening non-European competitors. Firms trading outside the trading areas can be shut out of the single market by the creation of a “trade fortress” especially the EU. It may raise barriers to imports and investment in certain politically sensitive areas. Especially in industries as energy; the solution would be for firms outside the trade block such as our textile company would be to set up our own EU operations.
An example are the large US and Japanese companies that are also setting up production and distribution facilities in the EU, many of them in the UK in order to have a foothold in the single European market.
The EU competition commission wants to reduce the effects of monopolies from being created, will leverage concessions from businesses as a precondition for allowing proposed mergers and acquisitions to be allowed.
By understanding the significant opportunities offered by free trade above, considering at the world leading trade blocks; the European Union and the North American Free Trade Area, it is logical that the textile company should go ahead and locate a subsidiary plant within the European Union.
However I advise the move should be planned carefully and done with caution for it to succeed. The firm should be able to abide by the laws and regulations of the trade block. A thorough analysis of the European Union countries to select a suitable one, I suggest the United Kingdom
International business, strategy, management and new realities Cavusigil Knight Riesenber
Progress Cavusigil has authored over a 160 refereed journal articles and three chosen books including doing business in emerging markets.
Garry professor night has extensive experience international business in the private sector he has done a research emphasizes regional integration, international business strategy.
Seth is a corporate vice president and the chief commercial officer of Mankind corporation he previously worked for ‘Born Global’ a science branding communications agency
International business competing in the Global market place seventh edition Charles W. L. Hill Charles is the Hughes M. Black professor at the university of Washington. He has published 40 articles in academic journals wrote on a consulting basis for a number of countries.
Economic Development Michael P Todaro seventh edition Michael a professor of business at New York University: he focuses on the economy of development in the third world.