GMS 723- CLASS 3- International Trade: Economic Theories, Globalization, and Incoterms
Presentation Skills and Professional Development
Importance of Presentation: Oral presentations are a fundamental aspect of working in any corporation post-academia; consistent practice is essential for comfort and proficiency.
Elimination of Notes/Scripts: Students are required to present without scripts to encourage eye contact, audience engagement, and the ability to "sell" their ideas effectively. Reading from scripts is discouraged as it hinders engagement.
Focus on Content, Not Delivery Flaws: The instructor prioritizes understanding and articulation of concepts over stumbles in delivery or language barriers. The key is to "know your stuff."
Competitive Advantage: All course material aims to provide students with a competitive advantage in the job market, emphasizing the practical application of knowledge to get a job over others.
Comparison to Charlie Kirk: The instructor references Charlie Kirk's aggressive debate style, noting his ability to challenge unprepared individuals and professors despite lacking formal advanced degrees. This illustrates the importance of being well-informed and prepared in a corporate environment, especially in American corporations where aggressive management styles are common.
Career "Lanes": In corporations, there are A-lanes (moving, promotions, higher pay) and B/C-lanes (stagnation, derailment). Preparation and knowing your material are key to staying in the A-lane.
Project Guidelines and AI Utilization
AI as a Research Assistant: Utilize AI tools like Cload AI (latest iteration), Perplexity Pro, or ChatGPT- (which the instructor uses) for research, but not as a replacement for writing. AI should augment, not substitute, personal effort.
Source Citation and Validation: Crucially, all sources must be cited, and information, especially from AI, needs to be validated against original, reliable sources. Avoid relying on potentially dated or irrelevant aggregated sites (e.g., "pestleanalysis.com"); instead, go to the actual sources outlined in class.
Triangulation of Information: When using multiple AI tools or sources, triangulate information to confirm accuracy, as AI still makes mistakes, and to lead to credible primary references.
Main Project Word Count: The main project requires approximately words, exclusive of the table of contents, title page, and bibliography.
Presentation Slides: The project presentation deck should consist of slides; slides have specific content requirements, while are flexible for augmenting the narrative. A reference deck of slides is provided.
Midterm Exam Information
Format and Duration: The midterm will consist of questions to be completed in minutes.
Question Types: Approximately of questions will test direct knowledge of the material through straightforward questions, true/false, and multiselect (around out of questions). The rest are application-based, requiring students to apply concepts to hypothetical scenarios (e.g., "If so and so displays this, what would that equate to?").
Content Source: All exam content will be derived from class discussions and provided slide decks; no outside research is required. Students are responsible for all outlined decks and keeping everything in context of main themes.
No Cheat Sheets: Students are not permitted to use any cheat sheets or crib sheets for the exam.
Understanding Economic Theory and Its Limitations
Theory vs. Reality: Economic theories (especially classical trade theories) inherently operate under assumptions of a "perfect world" (e.g., no barriers to entry, tariffs, or quotas, everything operates perfectly). The real world, however, is dynamic and imperfect, necessitating an understanding of how theory applies or fails in practice.
Rate Limiting Factor of Theory: Theory only gets you "so far"; practical implications and real-world conditions often diverge from theoretical assumptions.
Future Business Leaders: The next generation of business leaders must understand how theoretical frameworks interact with actual global complexities and be prepared to adapt strategies quickly (e.g., move to another division or have contingencies) when theoretical pathways diverge from reality.
Classical Trade Theories
Mercantilism
Historical Context: Prevalent for close to years prior to the end of colonization (), practiced by empires like France, Spain, and the British Empire.
Core Principle: Exports are good, imports are bad. The goal was to maximize a nation's wealth, primarily in gold and silver, for the colonizing power.
Colonial Exploitation: Empires colonized territories to extract valuable resources (e.g., gold, silver, other raw materials) without necessarily paying for them. These resources were then brought back to the home country, manufactured into goods, and sold back to the colonies.
Funding Wars: This system was driven by the constant need for capital to fund continuous wars between European powers.
Absolute Advantage
Emergence: Gained prominence around the after the end of colonization, as independent countries sought to generate revenue.
Definition: A country has an absolute advantage in producing a good if it can produce that good more efficiently (with fewer resources) than another country.
Example: Mexico and Avocados: Mexico produces over of worldwide avocados, demonstrating an absolute advantage. It is conducive for Mexico to leverage this advantage by trading avocados for other products it cannot produce as efficiently or effectively at growing.
Specialization and Trade: The core idea is that countries should specialize in goods where they have an absolute advantage and then trade. This leads to greater overall production and availability of goods for all participating countries.
New Zealand and Samoa Example (Sheep Meat & Tropical Fruit):
Production Possibilities (without trade):
New Zealand: Can produce tons of sheep meat (0 fruit) OR tons of tropical fruit (0 sheep meat). For population equilibrium, they produce tons of sheep meat and tons of tropical fruit.
Samoa: Can produce tons of sheep meat (0 fruit) OR tons of tropical fruit (0 sheep meat). For population equilibrium, they produce tons of sheep meat and tons of tropical fruit.
Total Production (without trade): tons of sheep meat () and tons of tropical fruit (). Total: tons.
Specialization and Trade (Absolute Advantage):
If New Zealand specializes in sheep meat ( tons) and Samoa specializes in tropical fruit ( tons). If they trade, they achieve a higher total output.
Combined Production (with Specialization & Trade): Total of tons of sheep meat (all from New Zealand) and tons of tropical fruit (all from Samoa). Total: tons.
Significance: Specialization and trade allow both countries to meet their internal needs for both products, generate surpluses, and achieve a significantly higher overall output ( tons vs. tons).
Assumptions: Factor of production cannot move between countries, no trade barriers, exports equal imports (equilibrium or balance of payments). No economies of scale in absolute advantage.
Comparative Advantage
Relationship to Absolute Advantage: Comparative advantage evolved after absolute advantage and forms the underpinning of modern trade theory (e.g., Heckscher-Ohlin, Porter's models). It acknowledges that conditions are not perfect.
Factor Mobility: Unlike absolute advantage, factors of production (labor, capital, land) can move between countries in comparative advantage.
Definition: A country has a comparative advantage if it can produce a good or service at a lower opportunity cost than other countries. It measures the trade-off, focusing on being relatively more efficient.
Opportunity Cost: The value of the next best alternative that must be foregone to produce something else.
Student Example: Choosing to attend an AM lecture vs. sleeping in, foregoing sleep for knowledge.
Michael Jordan Example: Michael Jordan, despite being able to paint his house, would choose to do a commercial for $50,000 while hiring someone for $2,000 to paint his house, pocketing the difference. His opportunity cost of painting his house himself is too high.
Call Center Offshoring Example: A North American firm might offshore customer service to India or South America due to lower costs, even if it might lead to some customer dissatisfaction due to language barriers. The firm calculates that the opportunity cost (losing some customers) is less than the cost savings from offshoring.
Global Value Chains: Comparative advantage drives the establishment of global value chains, where companies leverage resources and facilities worldwide to maximize efficiencies (e.g., sales, production, R&D).
Calculating Comparative Advantage: Involves comparing labor hours (or other resources) required to produce one unit of a good between countries. The country that takes fewer hours has the comparative advantage (e.g., Country B producing a bike in hours vs. Country A in hours).
Heckscher-Ohlin Theory: Predicts that countries will export goods that intensely use their relatively abundant and cheap factors of production (e.g., labor-intensive China exports labor, resource-rich Brazil exports lumber) and import goods that intensely use their relatively scarce and expensive factors of production. This trade pattern should not occur with direct competitors.
Example: Saudi Arabia and Russia, both oil-producing nations, generally do not trade extensively to avoid giving competitive advantages to each other.
Factor Mobility
Definition: The ability to move factors of production (labor, capital, land) from one production process to another.
Types of Movement:
Between Firms within an Industry: One steel plant closes but sells its equipment to another steel firm.
Across Industries: A worker leaves a textile firm to work in an automobile factory.
Between Countries: A farm worker moves from one country to work in a factory in another country.
Focus: Understand labor, land, and capital as factors of production and how their mobility works across these contexts.
Economies of Scale and Network Effects
Economies of Scale: As production volume increases, the average cost per incremental unit of production decreases. This concept is distinct from absolute advantage and is a key driver of modern trade.
Fixed vs. Variable Costs: Fixed costs (e.g., plant facility) remain the same regardless of production volume (unless the facility itself is expanded). Variable costs (e.g., raw materials) increase with production. However, spreading fixed costs over more units lowers the average fixed cost per unit, leading to a decrease in overall average cost per unit.
Impact on Profit: Producing more at a lower average cost per unit leads to increased profitability. (e.g., veggie burgers vs. veggie burgers).
Cash Flow Implications: Increased production requires buying more materials, potentially leading to negative cash flow if cash is not received quickly from sales. This necessitates managing payment terms (e.g., Net ) and potentially securing lines of credit, incurring interest costs, which impact profit.
Network Effects: The concept where specialized component companies cluster around a main plant (e.g., auto industry in Oakville, Oshawa, or Mexico). This proximity enhances efficiency, speeds up component delivery, and facilitates quicker responses to needs, creating a "perfect environment."
Long-Run Average Cost (LRAC) Curve: Illustrates that as units produced increase, the cost per individual unit generally decreases up to a certain point (due to economies of scale), after which it may eventually increase due to diseconomies of scale. The more that is produced, the less the per-unit cost should be.
Globalization and Geoeconomics
Shift Post-2008 Financial Crisis: Prior to , globalization (interdependence, integrated markets, free trade) was dominant. However, the global financial crisis marked a resurgence of mercantilist practices.
Return of Mercantilism: Large economies (e.S., China) have increasingly imposed tariffs (e.g., U.S. on aluminum, on steel) to gain advantages, moving away from purely free trade principles.
Power Dynamics: Trade negotiations between a large economy (e.g., U.S.) and a smaller one (e.g., Canada, with th the GDP) highlight significant leverage imbalances. Canada's reliance on the U.S. for of its exports makes it vulnerable, prompting diversification efforts.
Currency Manipulation: The U.S. has accused China of currency manipulation, where a devalued currency makes exports more attractive globally. Canada's devalued currency (U.S. : CDN typically) provides an advantage for Canadian exports, though this is often overlooked in discussions about tariffs.
Monetary Policy: Central banks control monetary policy through:
Interest Rates: Lowering rates encourages borrowing and economic activity; raising rates (as seen in the last years) discourages it, impacting loans and mortgages.
Money Supply: Governments can print more money (e.g., during pandemics to fund programs like CERB) to inject liquidity into the economy, but this can lead to inflation.
Fiscal Policy: Governments influence the economy through:
Taxes: Revenue collection from individuals (provincial, HST, federal) and businesses.
Government Expenditures: Spending on public programs and infrastructure (e.g., recent billion investment for new homes in major Canadian cities).
Reasons for Globalization: Companies globalize for five primary reasons:
Grow: Expand market reach.
Become More Efficient: Optimize resource allocation and production.
Access Knowledge/Talent: Sourcing expertise globally.
Meet Customer Needs: Localizing products and services.
Counter Competition: Maintain competitive edge.
Key Concepts in Globalization:
Interdependence: Nations relying on each other for goods, services, and resources.
Integrated Market: A seamless global marketplace for buying and selling.
Sovereign Nation: An independent country not subject to external orders.
Global Convergence: The idea that trade agreements and practices should become universally standardized, leading to free trade and growth (though this is not currently the case).
Historical Catalysts for Globalization (1990s):
Opening of Russia (fall of the Berlin Wall, dissolution of the Soviet Union in ).
China's free market reforms (effective in the , following late changes).
Economic crises in India and Brazil forcing market liberalization and globalization.
Globalization as a Layered Problem: Complex issues requiring deep analysis, often with hidden layers of cause and effect (like peeling an onion).
Geopolitical and Geoeconomic Risk
Types of Risk:
Local Risk: Specific to a particular area within a country.
Regional Risk: Affecting a broader geographical region.
International Risk: Global in scope, impacting multiple nations.
Recent Examples: India-Pakistan conflict over Kashmir, the Arab Spring outcomes (), political shifts in Italy/Spain (far left to far right), ongoing conflicts in Sudan (a major civil war with little media coverage), Ukraine.
Transnational Risk: Risks originating outside a country that impact internal operations or security.
Algerian Oil/Gas Facility: An attack on a facility operated by multinational companies (e.g., British Petroleum, StatOil) by external groups, disrupting the natural gas supply chain.
Colombia and Neighbors: Business in Colombia could be at risk from instability in neighboring countries like Venezuela.
Saudi Arabia's Regional Relations: Relationships with Yemen (conflict) and Israel (improving, then setback) impact stability.
In-Country Risk: Risks specific to operating within a particular country.
Nigeria/Boko Haram: Operating in Nigeria requires avoiding areas controlled by terrorist organizations like Boko Haram (e.g., northeastern sector) to mitigate risk, focusing instead on safer regions like the capital or coast.
Near-Home Risk: Historical example of the Cuban Missile Crisis (), where Soviet missiles in Cuba posed a direct threat to the U.S. (Bay of Pigs disaster).
Supply Chain Disruptions: Brexit's impact on Germany-UK supply chains illustrates how political decisions can disrupt established trade routes and efficiency, as the UK was Germany's largest trading partner.
Choke Points (Maritime Trade): Suez Canal, Red Sea, Gulf of Aden, Strait of Hormuz are critical maritime routes vulnerable to disruptions (e.g., Houthi rebel attacks targeting ships).
Crimea's Strategic Importance: Russia's aggressive stance on Crimea is partly due to the strategic importance of its warm-water ports, which provide year-round access to the Mediterranean, crucial for Russia's shipping routes (many northern routes freeze in winter). Geopolitical and geoeconomic risk ultimately boils down to money.
Belt and Road Initiative (BRI):
China's Strategy: A massive global infrastructure development strategy (One Belt, One Road) connecting China with the Middle East, Africa, Europe, and making significant investments in South America, Central America, the United States, and Canada.
Strategic Intent: Billions of dollars invested in building rail, roads, and other infrastructure aims to connect global trade and supply routes, extending China's economic and geopolitical influence globally.
Opportunity in Geopolitical Risk: Many multinational corporations are now hiring individuals who understand geopolitical risk and can help formulate foreign policy for companies (e.g., Procter & Gamble), often with the assistance of consulting firms like Deloitte or McKinsey.
The Changing Face of Global Companies (Procter & Gamble Example)
Procter & Gamble (P&G): A multinational consumer goods company with over $70 billion in annual sales and over brands (e.g., Crest, Tide).
Evolution of Strategy:
1960s (Adaptation/Localization): P&G had numerous plants globally (e.g., dozens of Tide facilities in Belgium, France, UK, Spain, US, Canada) to adapt to local markets and customer preferences. This led to high production costs due to dispersed operations.
1990s (Aggregation): Shifted to consolidate production in fewer, larger facilities. The strategy recognized that many products like Tide are largely universal, requiring only minor changes like writing on the box. This move leveraged economies of scale by reducing average costs through increased production volume in centralized plants, thereby improving profitability.
Arbitrage (Current Strategy): The ongoing strategy involves seeking the best leverage, efficiency, and profitability globally by strategically locating various parts of the value chain. This means sourcing resources (e.g., from Africa), conducting production (e.g., in Mexico), and situating head offices (e.g., in Belgium) based on optimal cost and efficiency, not just convenience. This is about maximizing profit through global optimization (analogous to the Nutella example).
Incoterms
Purpose: Incoterms (International Commercial Terms) are standardized rules, used to negotiate massive trade deals. They are foundational, defining the responsibilities of buyers and sellers for the delivery of goods under sales contracts.
Key Aspects: Incoterms cover negotiation of terms, insurance coverage, when the transfer of goods happens, payment timing, and allocation of risk.
Risk Mitigation: Choosing the correct Incoterm is critical for managing and reducing risk, especially given the complexities and hazards of international shipping (e.g., lost ships, fires, piracy in choke points).
Number of Incoterms: There are Incoterms.
Focus for Midterm: Students should focus on Xworks (Ex Works) and FCA (Free Carrier) as the only two they need to know in detail, although more will be covered in upcoming weeks.
Diagrams: Visual aids provided show buyer (yellow) and seller (blue) responsibilities, with exclamation points indicating points of potential risk transfer. These diagrams are helpful for understanding choke points for negotiation.
Extreme Incoterms (DDP vs. Xworks):
DDP (Delivered Duty Paid): Seller pays for everything until delivery at the buyer's loading dock. This is expensive but might be used to induce market entry or gain a competitive edge in a new market (e.g., selling veggie burgers in Budapest when there are local competitors).
Xworks: Buyer picks up goods at the seller's premises. This might be used if the seller lacks export capabilities, or if the product is highly differentiated and in high demand (e.g., "clinically proven veggie burgers that make you smarter"), giving the seller leverage.
Reasoning: Both extremes involve significant cost impacts that must be factored into the pricing strategy.
Xworks (EXW)
Definition: An agreement that maximizes the buyer's risk and minimizes the seller's responsibility. The seller only makes the goods available at their warehouse or loading dock.
Seller's Responsibility (Minimal):
Export packaging.
Getting goods ready for export.
Making goods available at the seller's premises. The seller ensures immediate payment before the truck leaves the loading dock.
Buyer's Responsibility (Maximal):
Assumes all responsibilities, risks, and costs once the goods are collected at the seller's premises.
Includes loading onto the first carrier, transport to the port of destination, export duties/taxes/customs clearance, origin terminal charges, freight, insurance (negotiable), destination terminal charges, delivery to final destination, unloading, and import duties.
Advantages for Seller: Maximize control, minimize costs, limit liabilities. Useful for new exporters (like Green Maple Veggie Burger Co. without an export department or capability) or highly differentiated products. Sellers may not want buyers to know their shipping companies to prevent them from contracting directly with the buyer's carriers.
Disadvantages for Buyer: The buyer absorbs most of the risk and complexity. However, sophisticated buyers with robust logistics systems may still choose EXW to control their supply chain and potentially reduce overall costs.
When to Use EXW: When the seller is unable to export the product themselves (e.g., new to exporting, no export department).
Free Carrier (FCA)
Definition: The seller's obligation is to deliver the cargo to an agreed-upon named place (e.g., a port or other receiving point) in the country of origin. Once delivered and ready to be loaded onto the carrier, the responsibilities and risks shift to the buyer.
Seller's Key Responsibilities:
Export packaging, loading charges, delivery to port/named place, export duties/taxes/customs clearance, origin terminal charges. This requires understanding costs related to these activities (e.g., hiring an export broker for customs).
Buyer's Key Responsibilities:
Freight charges, insurance, destination terminal handling charges, delivery to destination, unloading at destination, and import duties. These responsibilities commence once the cargo is transferred from the seller.
Transfer of Responsibility: Responsibilities and risks transfer from seller to buyer once the goods are ready to be loaded onto the nominated carrier at the agreed-upon place or port in the country of origin. This understanding is key for managing all logistical steps and associated risks.
When to Use FCA:
When cargo is containerized (likely for products like veggie burgers).
When the buyer has existing knowledge of logistics processes and requirements in the seller's country.
When the seller (e.g., Green Maple) prefers FCA over Free Alongside Ship (FAS) or Free On Board (FOB) terms.
When the cargo is transported directly to the terminal for export, rather than to a shipping service provider's intermediary warehouse (though intermediary warehouses for consolidation can be a real-world factor).
Negotiation in Incoterms: All clauses and responsibilities (e.g., insurance) are negotiable, but clearly defined in the Bill of Lading or contract. The "pot at the end of the rainbow" for dealing with this complexity is profit, managing cash flow, and reducing risk.
Future Topics (Read Ahead)
Trade Agreements
Industry Analysis