MGCR 382 - International Business Quiz Prep

what is trade?

the voluntary exchange of goods and services between two or more parties

what is international trade?

trade between two countries

what are early country based theories? what are they?

- country is a unit of analysis

- explained interdistrict trade (diff. industry)

- price is an important component of purchasing decision

- mercantilism, absolute advantage, comparative advantage, relative factor endowments

what are modern firm-based theories? what are they?

- firm is a unit of analysis

- explained intraindustry trade (same industry)

- brand name is an important component of purchasing decision

- country similarity theory, new trade theory

what is mercantilism?

- a country's wealth is measure by its holdings of gold and silver

- promoted exports as it meant they would receive gold (and protect local businesses)

- limitation: a country would end up making more of things they were bad at

what is absolute advantage?

- means a country can produce more of a good using the same amount of input

- free trade: specialize in what you're best at and trade for the rest

- limitation: doesn't explain trade for countries that aren't the "best" at anything

what is comparative advantage?

- a country should make the good it gives up the least to produce (the lowest opportunity cost), even if it isn't the best at it --> trade can still benefit both

- a country should focus on its lowest cost good and trade for the rest

what is Heckscher-Ohlin theory?

- looks at the ressources in each country

- countries export goods that use what they have a lot of, and import goods that need that they have little of

- "factors" = resources like labour, capital (machines, money), land

why did firm-based theories develop?

- growth of multinational corporations (corporations that produce in multiple countries)

- failure to validate heckscher-Ohlin theory

- they incorporate factors such as quality, brand names, and customer loyalty (firms are the agents of international trade, not countries)

interindustry vs. intraindustry trade?

- interindustry: countries trade goods from different industries e.g. Canada sells wheat to Japan, Japan sells cars to Canada

- intraindustry: countries trade goods from the same industry e.g. Germany sells BMWs to Japan, Japan sells Toyotas to Germany

what is Linder's country similarity theory?

- most trade in manufactured goods happens between countries with similar incomes per person (want/can afford products)

- so intraindustry trade is common (e.g. cars for cars)

- works best for differentiated goods, where brands matter (cars, skincare)

- not for undifferentiated goods, where brands barely matter (coal, gas, sugar)

What is new trade theory?

- based on economies of scale: the more a firm produces, the lower its average cost per unit

- firms need big markets to produce enough to get those savings, so reducing trade barriers lets them sell worldwide → lower costs

what are the two main types of international investments?

FPI: foreign portfolio investments

FDI: foreign direct investments

what is FPI?

- passive investment in foreign stocks or bonds: you earn returns but don't control the company or government

- you do this to diversify your portfolio --> good return and lower risk by spreading money across different countries

what is FDI?

- active investment abroad to own and control a business (control)

- 3 forms (1. buy company; 2, new investment in pp&e; 3. joint venture)

what are political factors affecting FDI decision?

1. avoidance of trade barrier (high tariffs, etc)

2. gov. economic development incentives --> govs can incentive firms to locate new facilities and jobs for economic growth

what factors affect the flow of goods and services between countries?

political and legal: laws, trade policies

cultural: values, attitudes, beliefs

economic: e.g. income levels, exchange rates

geographic: distance, location, natural resources

What is protectionism?

limiting foreign competition in your home market

what are economic rationales why governments intervene in trade?

- fighting unemployment

- protecting infant industries

- developing an industrial base

- economic relationships with other countries

fighting unemployment?

- enemployed workers push for import limits to "protect our jobs"

- but: fewer imports → higher prices and taxes for everyone

- fiscal and monetary policy may fix unemployment better than trade policy

protecting infant-industries?

- temporarily protect a new industry from foreign competition until it can compete globally

- idea: it grows from high-cost → low-cost and eventually has a comparative advantage

- but: costs might never fall, so the government must pick industries likely to succeed

developing an industrial base?

developing countries restrict trade to build up manufacturing because industry:

1. grows faster than agriculture

2. attracts investment

3. diversifies the economy

4. grows manufactured goods

5. reduces imports and boosts exports

economic relationships with other countries?

1. fix the balance of imports, reduce imports if a country is buying way more than it sells

2. fair access "if you restrict our exports, we'll restrict yours"

3. as leverage

4. to control prices (dumping: foreign companies selling below costs to undercut local businesses)

govs have to be cautious with trade regulations for prices because:

- prices too high --> smuggling or switch to substitutes

- prices too low --> producers cut output

what are noneconomic rationales

- maintaining essential industries

- promoting acceptable practices abroad

- maintaining or extending spheres of influence

- preserving national culture

maintaining essential industries?

- protect essential industries so the country is not dependant on foreign supplies

promoting acceptable practices abroad?

can be used to:

- promote changes in foreign countries political policies

- foreign policy weapon

- pressure other govs (human rights, environment, etc.)

maintaining/extending spheres of influence?

- joining alliances through imports/exports

- a country's trade restrictions may coerce governments to follow certain political actions or punish companies

preserving national culture?

sustaining the collective identity that sets their citizens apart from other countries

what are the two instruments of trade control?

1. direct price influencers: indirectly affects the amount traded by influencing prices of exports/imports

2. direct quantity limiters: directly limits the amount that a good can be traded

what are direct price influencers?

1. tariffs (duties, gov. issued tax on goods shipped internationally) this can be done per unit (specific duty) or by percentage (value//ad valorem tariff),

the gov imposing the tariff receives the amount

2. subsidies (direct assistance from gov) makes local goods cheaper

3. others: aids, loans, special fees, customs valuation

what are direct quantity limiters?

quotas --> limits the amount that a product can be exported/imported in a time frame

others --> standards, labels, import/export licenses, delays...

what is the WTO?

World Trade Organization. Formed to reduce barriers to international trade.

what is a direct quote?

home currency price per unit of foreign currency --> a price tag for the foreign currency (its on top)

what is an indirect quote?

Foreign currency price of the home currency, what my 1$ buys --> on the bottom

what is the "bid rate"

price at which an FX dealer is willing to buy currency

what is the "ask rate"

price at which an FX dealer is willing to sell currency

what is the "spread"

the different between the bid and ask rate quotes by an FX dealer

what is arbitrage?

- arbitrage is buying something where it's cheap and selling it right away where it's more expensive, to make a risk-free profit from a price difference.

- opportunity to make a riskless profit by exploiting price differences.

what are spot and forward exchange rates?

spot exchange rates: the exchange rate today, for trading now

forward exchange rate: a rate you lock in today for a trade that happens later

what is the forward premium / discount

measures % difference between spot and foward rates

Forward > Spot → the foreign currency trades at a premium (it costs more in the future)

Forward < Spot → the foreign currency trades at a discount (it costs less in the future)

what are eurocurrencies?

a country's money that's deposited in a bank outside that country

what is the evolution of capital mobility?

1. classical gold standard

2. inter-war years

3. fixed exchange rates

4. floating exchange rates

5. emerging era

what is the classical gold standard?

before ww1

- each country set its currency's value in gold, meaning exchange rates were "fixed"

- needed gold reserves to back up their money

ww1 interrupted trade flows and free movement of gold

what is the inter-war years?

between ww1-ww2

- currencies were allowed to float: their value changed against gold and against each other (1 pound = ??)

^ speculators are investors trying to make quick money from price changes --> money would devalue

result: very unstable system

what was Bretton Woods system?

post war

- stable money system plus the IMF and World Bank

- only the US dollar was tied to gold ($35/oz, central banks only)

- every other currency was pegged to the dollar: gold → USD → other currencies (maintain value within 1%)

Why did Bretton Woods limit devaluation?

currency wars --> countrys were devaluating their money in order for their exports to be cheaper, but they would make more money (5USD for 10CAD)

what is the role of the IMF?

- key institution of the Bretton Woods system

- helps countries defend their currencies

- helps countries with trade problems (balance-of-payments issues), as long as they take steps to fix them

what were fixed exchange rates ?

- too many US dollars flowed abroad

- people lost confidence the US could convert dollars to gold

- nxon stopped converting dollars to gold

- he dollar kept falling (lost 10%)

early 1970s: fixed rates abandoned → major currencies float

what is the floating era ?

until mid 1990s

- exchange rates became less predictable

- several emerging market currencies rised

introduction to the EURO

what is the emerging era

now

- growth in emerging market economics and currencies

what are the exchange rate regimes?

fixed (pegged to something)

- hard peg

- soft peg

***crawling peg***

floating (market driven: supply and demand)

- managed float

- free floating

IMF's 4 categories of currency regimes?

hard pegs: gave up control of monetary policy (dollarization, currency boards)

soft pegs: fixed exchange rates (5 subcategories)

floating arrangements: market-driven, either free or with occasional intervention

residual: anything that doesn't fit the first three

what are hard pegs?

the country gives up control of its monetary policy

- dollarization/ no legal tender : uses another countries currency, or shares one (e.g., Ecuador uses USD, euro countries share euro)

- currency board : keeps its own currency, but its fully locked (pegged) to another currency (e.g., Hong Kong to USD)

what are soft pegs?

a fixed exchange rate, but the currency can move within a small band around another currency (or many)

- conventional peg: officially pegged, but can move -+ 1% (or 2% over six months)

- stabilized peg: not officially pegged, but stays within 2% due to central banks keeping it steady (tight for unofficial peg)

what are intermediate pegs?

in between fixed and floating (the target moves around usually)

- crawling peg: currency is pegged, but the peg is adjusted gradually over time, either on a set schedule or based on indicators (like inflation differences)

- crawl-like peg: not officially pegged, but the rates follow a trend that stays within 2% (6+ months)

- horizontal band: officially pegged, but with a wider band (usually around 2%) (TARGET DOES NOT MOVE) (loose for official peg)

what are floating arrangements?

currency is set by market

- managed float : government steps in occasionally to calm big swings

- free floating : little to no government intervention (USD, CAD, etc.)

what is the residual?

anything that doesn't fit these categories

usually because the country changes its policy often