Globalisation, Multinationals, and Exchange Rates

Globalisation

Introduction to Globalisation

• Globalisation is the business and economic integration of different countries through increasing freedoms in the cross-border movement of people, goods, services, technology, and finance.

• The past twenty years have been characterized by rapid globalisation and growing international business expansion.

• Businesses that trade internationally import and export goods and services.

• Imports are goods and services bought by people and businesses in one country from another country.

  • In 2022, the UK’s biggest import was cars, valued at approximately £3.25 billion.

• Exports are goods and services sold by domestic businesses to people or businesses in other countries.

  • In 2022, China’s biggest export was smartphone manufacturing, valued at approximately $21.4 billion.

• Exports generate extra sales revenue for businesses selling their goods abroad.

• Imports result in money leaving the country, which generates extra revenue for foreign businesses.

Reasons for Globalisation

• Globalisation has been driven by developments in technology, saturation of domestic markets, and deregulation.

• Developments in Technology:

  • Allows faster communication, transfer of data, and online sales around the world.

• Improved Transport Networks:

  • Allows international business travel and improved distribution of products.

• Deregulation:

  • The removal of trade barriers as well as simpler financial systems has made trading internationally easier.

• Government Commitment:

  • Governments have taken steps to increase trade so people, products, and finance can move more easily across borders.

• Market Saturation:

  • Saturation of domestic markets means that growth can only be achieved by targeting new target markets overseas.

• Familiarity with Global Brands:

  • The increase in tourism and access to overseas media has familiarized consumers with global brands.

Opportunities of Globalisation

• Since the 1990s, globalisation has led to reduced levels of poverty in developing countries.

• Employment levels have increased.

• Living standards, health, and education outcomes have improved.

• Businesses have been able to take advantage of this development.

• Better qualified and more productive workforces.

• More attractive markets in which to sell products.

Higher sales

• Increases revenue and should increase business profit.

  • E.g. China's Huawei produces and sells consumer electronics in over 170 countries, earning a profit of CN¥73.05 billion in 2023.

Economies of Scale

• Higher output as a result of increased sales can reduce business costs.

• These economies of scale can increase profits and improve business competitiveness.

  • E.g. British-Dutch multinational Unilever sells more than 400 brands in over 190 countries and is the fifth largest consumer goods company in the world.

Labour

• Domestic staff shortages can be overcome by employing workers from other countries.

• Labour-intensive businesses can locate in regions with lower wage costs to reduce outgoings.

• High-quality specialists from anywhere in the world can be employed.

  • E.g. US brand Gillette's shaving products are largely manufactured in China where the company owns two factories.

Taxation

• Head offices and other business functions can be located in regions with favorable tax regimes to reduce costs.

  • E.g. With sales revenue of $12bn in 2022 Smurfitt Kappa, whose headquarters are in low-tax Ireland, operates paper plants in the EU and North America.

Threats of Globalisation

Increased competition

• Competition from international rivals may put domestic firms out of business.

• International firms may benefit from lower costs and greater economies of scale, so they can offer lower prices than domestic businesses to consumers.

• Large overseas competitors can spend more on research, marketing, and distribution than a small domestic business.

• Access to cheaper labor or materials allows them to sell products at lower prices.

Increased need to develop a profitable niche

• Businesses risk losing sales and market share as a result of globalisation unless they can adapt or exploit a profitable market niche.

• Exploiting a gap in the wider market is often very profitable.

  • E.g. Walkers Crisps dominate the lunchbox market with their multipacks.

Vulnerability to international takeovers

• Domestic Public Limited companies risk being taken over by foreign rivals.* Capital can flow easily across borders.

• Most countries allow foreign businesses to take ownership of domestic businesses.

  • E.g. In 2009 UK confectionery company Cadburys was acquired by US company Kraft in a hostile takeover.

Greater risk from external shocks

• Interconnected financial systems allow economic difficulties in one part of the world to be felt by businesses operating in another.

  • The UK's vote to leave the EU in 2016 caused immediate financial shocks around the world, with stock exchanges in countries as distant as Australia and Japan reporting sharp falls.

• Global distribution networks can be affected by natural disasters or other interruptions, such as accidents or terrorism.

  • In 2021, the grounded container ship Ever Given blocked the Suez Canal for six days, causing delays to deliveries of goods such as semiconductors, which impacted technology manufacturing around the world.

Growth of Multinationals

Introduction to Multinationals

• A multinational company (MNC) is a business that is registered in one country but has manufacturing operations or sales outlets in different countries.

  • For example, Starbucks headquarters are in Washington, USA but they have 32,000 stores in 80 countries.

• Factors such as globalisation and deregulation have contributed to the growth of MNC’s, especially in developing countries.

• MNC’s choose locations based on factors such as cost advantages and access to markets.

  • Nike originates from the USA, but 50% of their manufacturing takes place in China, Vietnam and Indonesia due to the lower production costs in these countries.

• Approximately 60,000 multinationals are responsible for around half of the global trade.

• Many of the world's largest multinational corporations have their headquarters in developed countries such as the United States, Japan and Germany.

• Increasingly, MNCs base some of their operations in China, one of the world's fastest-growing economies.

• China is the headquarters of many growing multinational corporations, such as Huawei Technologies, Lenovo and Haier.

Benefits of Operating as a Multinational

Low costs

• MNCs can access lower-cost labour and/or raw materials by moving to cheaper locations or exploiting economies of scale

Potential for high sales

• They have access to a large customer base with potential for high levels of sales

High profile

• Multinationals are well-know businesses whose products have a greater chance of becoming household names and achieving market dominance

Bypass trade barriers

• Multinationals can set up operations inside trade blocs or in countries that impose import tariffs or quotas

Low tax liabilities

• Multinationals can locate their head office in countries with low tax rates such as Ireland or Cyprus

• This allows them to maximise profits to distribute as dividends to shareholders

Drawbacks of being a Multinational

Legal and tax complexities

• Different countries have varied tax rules and laws in areas including contracts, the environment and employment

• MNCs usually need to employ local legal and tax specialists to navigate these differences, increasing business costs

Public relations

• MNCs are often accused of sending jobs outside of the company’s home country or exploiting local workers, resources and laws in foreign countries

• Effective public relations can counter these accusations and emphasise the benefits the MNC brings to the countries in which it operates

Political instability

• Most MNCs locate headquarters in politically stable, developed countries but operate in less developed locations

• Sometimes the less developed country will experience political turmoil or corruption, which can disrupt business operations

• Careful risk management and plans for business continuity need to be developed

The Impact of Multinationals on Stakeholders in Host Countries

• Stakeholders are individuals, groups or organisations that have a direct or indirect interest in the outcomes of a particular development or business decision

Local residents

• Residents in countries with multinationals benefit from well-paid high-quality job opportunities and growth of other local businesses

• MNCs provide training for their employees, improving their skills

  • E.g. Drinks company Diageo employs and trains 6,500 well-paid workers in African countries, including Tanzania, Cameroon and Nigeria

• The presence of MNCs in an economy encourages entrepreneurship as citizens' skills and motivation to succeed are increased

• In some instances, multinationals have been found to pay low wages, employ child labour and offer poor working conditions

Local businesses

• Local businesses grow and employ more workers to meet demand created by an MNC

• MNCs may share knowledge with local suppliers and support them with funding to invest in new technology

  • E.g. Electronics manufacturer Samsung transferred patented technologies free of charge to support the growth and innovation of SMEs in South Korea

Local government

• MNCs may have to pay taxes and business rates to local councils and authorities

• These funds may be reinvested back into the local economy to fund local amenities

  • E.g. Nissan's decision to locate in Sunderland, a city in the North-East of England, provided much-needed funds for the council to invest in infrastructure to support the growth of export businesses

National government

• MNCs output is recorded in the country it is produced in, so when exported, it has a positive impact on the country's balance of payments which benefits the government

  • E.g. Exports from MNCs located in Poland, such as Pfizer and Merck, make up around two-fifths of the country's total

• MNCs may invest to improve infrastructure

• Better roads, transportation and access to water and electricity help the economy and allow the MNC to operate efficiently

  • E.g. In exchange for market access for its MNCs, the Chinese government has invested more than $600 million in Costa Rican infrastructure, such as improvements to roads and sports venues, including its national football stadium

• Multinationals have been accused of poor behaviour in the countries in which they operate

  • Causing environmental damage

  • Paying minimal tax revenue

  • Lacking accountability to the countries in which they operate

• Once resources have been used, they leave the country to locate elsewhere, causing unemployment

Exchange Rates

Exchange Rates Defined

• An exchange rate is the price of one currency in terms of another, e.g. £1 = €1.18

• International currencies are essentially products that can be bought and sold on the foreign exchange market (forex)

• The Central Bank of a country controls the exchange rate system that is used in determining the value of a nation's currency

• Exchange rates are an important economic influence for businesses that import raw materials and components, and for businesses that export their products

Appreciation and Depreciation of Exchange Rates

• The value of a currency changes over time

• When global demand for the currency rises, the currency appreciates

• Appreciation occurs when the value of a currency rises, e.g. £1 = €1.18 goes to £1 = €1.25

  • Europeans buying goods from the UK now have to pay more in euros than they did previously

  • This appreciation makes exports from the UK relatively more expensive and imports less expensive

• When global demand for the currency falls, the currency depreciates

• Depreciation occurs when the value of a currency falls, e.g. £1 = €1.18 goes to £1 = €1.05

  • Europeans buying goods from the UK now pay less in euros than they did previously

  • This depreciation makes exports to Europe relatively more attractive and imports less attractive

• Changing currency values can have a big impact on the business costs and sales revenue of MNCs

Exchange Rate Calculations

• To express one currency in terms of another, use the formula:
  Value \space of \space currency \space 1 \times Exchange \space rate = Value \space of \space currency \space 2

How Changes to Exchange Rates Affect Importers & Exporters

• The extent to which businesses are affected by currency fluctuations will depend upon the volume they are importing or exporting and the countries with which these transactions take place

• Exporting businesses benefit from currency depreciation, whilst importing businesses benefit from currency appreciation

Worked Example

• Dublin-based Nana's Upholstery buys fabric for £8,500 from a tartan weaver in Scotland. How much does the fabric cost in euros if the exchange rate is £1 = €1.18?

  • Step 1: Multiply the cost in £ by the exchange rate = £ 8,500 \times 1.18 = 10,030

  • Step 2: Express the outcome in € = € 10,030

The Impact on Business of Currency Appreciation & Depreciation

• Many businesses are affected as both importers of raw materials and exporters of goods/services overseas

• Exporters would not necessarily celebrate a weak pound or be entirely dismayed at a strong pound, as the global nature of business means that for many firms, both costs and revenues are affected by exchange rate movements

• To help you remember the effects of an appreciating currency, remember the acronym SPICED - Strong Pound Imports Cheaper Exports Dearer

• Globalisation: Business and economic integration of countries through the cross-border movement of people, goods, services, technology, and finance.

• Imports: Goods and services bought from another country.

• Exports: Goods and services sold to another country.

• Developments in Technology: Faster communication, data transfer, and online sales.

• Improved Transport Networks: International business travel and product distribution.

• Deregulation: Removal of trade barriers and simpler financial systems.

• Market Saturation: Growth achieved by targeting new overseas markets.

• Economies of Scale: Higher output reduces business costs.

• Labour: Employing workers from other countries, locating in regions with lower wage costs.

• Taxation: Locating in regions with favorable tax regimes.

• Increased Competition: Competition from international rivals.

• Profitable Niche: Adapting or exploiting a profitable market niche.

• Vulnerability to International Takeovers: Risk of being taken over by foreign rivals.

• External Shocks: Economic difficulties in one part of the world affecting businesses elsewhere.

• Multinational Company (MNC): Business registered in one country with operations in others.

• Low Costs: Accessing lower-cost labor and/or raw materials.

• High Sales: Access to a large customer base.

• Trade Barriers: Setting up operations inside trade blocs or countries with tariffs/quotas.

• Low Tax Liabilities: Locating head offices in countries with low tax rates.

• Legal and Tax Complexities: Vari