Chapter 3 Nations in the Global Environment

3.1 Globalization and Trade

3.1.0.1 Trade (% of GDP)

Trade is the sum of exports and imports of goods and services measured as a share of gross domestic product.

3.1.0.2 Trade and Nations

  • Adam Smith argued in the Wealth of Nations (1776) that:
    • Some countries can produce more of a product with the same amount of input than other countries
    • A country should produce only goods where it is most efficient, and trade for those goods where it is not efficient
  • Assumes there is an absolute balance among nations

3.2 Theory of Absolute Advantage

A country has an absolute advantage in the production of a good when it can produce more of that good than another country with the same resources

Suppose that by using x units of resources…


Country Wine Computers
France 70 2
United States 50 3


Both countries will gain from the trade: the result is (or should be) specialization and increased productivity for both countries.

3.3 Theory of Comparative Advantage

Adam Smith (1776) and David Ricardo (1817) emphasized that there are also relative advantages, not just absolute advantages.

If all the resources of the two countries were fully allocated, this is what they could produce:

Country Food Iron
Bangladesh 100 tons 100 tons
Nepal 400 tons 200 tons

Who has the absolute advantage? What is the comparative advantage? Look at the opportunity costs…

3.3.1 Factors behind Comparative Advantage

  • Technological differences

  • Differences in the availability of production factors (labor or finance) (also known as factor endowment)

In summary: Countries will export products that use their abundant and cheap factors of production and import products that use the countries’ scarce factors

Trade is a positive sum game (in theory) and it is the result of differences in endowments and technologies (in theory again)

3.3.2 Natural Ressources: Not a Guarantee of Wealth

Africa is a net exporter of natural resources

“Africa is not poor, we are stealing its wealth”

3.3.3 Labor Cost: Another Source of Comparative Advantage

3.3.3.1 Real hourly minimum wages (US$ PPPs)

3.3.4 Labor Cost and Productivity

  • Countries with a high level of productivity have a higher labor cost but still remain low-cost producers.

  • Countries heavily involved in Global Value Chains (orange) have low unit costs and a labor cost that varies widely.

  • Countries with low labor costs and a high unit cost are mainly from Africa.

  • Today’s technologies do not have the same effect on productivity as those of the early 2000s?

  • Decrease in the qualification of the workforce?

  • Poor allocation of resources (inadequate investments)?

  • The value of GDP is skewed by the fact that it does not correctly take into account the added value of services (e.g. search engines, social networks)?

3.3.4.1 Manufacturing, value added (current US$)

Country 2017 Country 2007
China 26.5 United States 19.6
United States 16.7 China 12.2
Japan 7.8 Japan 10.6
Germany 5.8 Germany 7.6
Korea, Rep.  3.4 Italy 3.7
India 3.0 France 3.3
Italy 2.2 Korea, Rep.  3.2
France 2.0 United Kingdom 3.2
United Kingdom 1.8 India 2.2

3.3.5 The Global Competitiveness Index in 2019

Rank Country Score
1 Singapore 84.8
2 United States 83.7
3 Hong Kong 83.1
4 Netherlands 82.4
5 Switzerland 82.3
6 Japan 82.3
7 Germany 81.8
8 Sweden 81.2
9 United Kingdom 81.2
10 Denmark 81.2

3.4 Competitive Advantage of Nations

3.4.1 Porter’s Premises

  1. Companies that have achieve international leadership employ strategies that differ in every respect, but the path is the fundamentally the same

  2. Competitive advantage is achieved through acts of innovation (new technologies and new ways of doing things)

  • Innovation is mundane and incremental, depending more on an accumulation of small insights than major technological breakthrough
  1. Competition is dynamic and evolving, and is central to innovation, so is adversity: the fear of loss often proves more powerful than the hope of gain

For Porter, a weak currency is not a source of competitive advantage

3.4.2 Methods and Key Findings

  • Two-stage design involving a team of 30 researchers

  • Comparative approach focusing on industries holding a competitive advantage across 10 countries

  • Historically (but not too much) and culturally informed

Defined a nation’s industry as internationally successful if it “possessed competitive advantage relative to the best worldwide competitors”

Key findings:

  • Differences in national values, culture, economic structures, institutions, and histories all contribute to competitive success
  • Nations succeed in particular industries because their home- environment is the most forward-looking dynamic and challenging

3.4.3 Competitive Advantage of Nations

  • Denmark: agrimachinery, dairy, food additives, renewable energy

  • Germany: automobiles,chemicals,optical instruments,machine-tools

  • Italy: ceramic tiles, footwear

  • Japan: automobiles, shipbuilding, electronics, robotics, semiconductors

  • France: aerospace, ground transportation, agrobusiness, water treatment, waste management, tourism

  • South Korea: steel, shipbuilding, automobiles, semiconductors, electronics

  • Sweden: environmental control equipment, heavy trucks

  • United Kingdom: pharmaceuticals, insurance/financial services

  • United States: entertainment, aerospace, chemicals, pharmaceuticals, engineering/construction

3.4.4 Porter’s Diamond of National Advantage

3.4.4.1 Factor Conditions

Availability of resources and skills necessary for competitive advantage (e.g. skilled labor or infrastructure):

  • Not inherited but created
  • Rate and efficiency with which a nation creates, upgrades, and deploys the factors is more important than volume
  • A factor must be highly specialized to an industry’s needs to support competitive advantage
  • Highly specialized factors come from world-class institutes that create and then upgrade them
  • Selective disadvantages can lead to innovation and upgrade (e.g. high land cost, labor shortage, or lack of local raw material)
    • Signal companies and companies innovate in advance of rivals
    • Need favorable conditions in others aspects of the diamond
    • Need company commitment

3.4.4.2 Demand Conditions

Home market – information that shapes the opportunities that companies perceive and the directions in which they deploy their resources and skills:

  • Gives companies clear and early picture of emerging buyer needs
  • Demanding buyers
  • Character more important than size:
    • Market segment larger or more visible than in foreign countries
    • Buyers are more sophisticated
    • Buyers’ needs anticipate or even shape those of other nations

3.4.4.4 Firm Strategy, Structure, & Rivalry

Conditions governing how companies are created, organized, and managed, and the nature of domestic rivalry

  • Domestic rivalry stimulate competition, creating pressure on companies to innovate and improve

3.4.4.5 Role of Government

  • Creating the conditions that will permit companies to strive
    • Taxation/credits for innovation (not subsidies)
    • Regulations
    • Long-term focus

3.4.5 Porter’s 8 Commandments for Nations

  1. Focus on specialized factor creation
  2. Avoid intervening in factor and currency markets
  3. Enforce strict product, safety, and environmental standards
  4. Sharply limit direct cooperation among industry rivals
  5. Promote goals that lead to sustained investment
  6. Deregulate competition
  7. Enforce strong domestic antitrust policies
  8. Reject managed trade

3.4.6 The Company Agenda

  1. Create pressures for innovation
  2. Seek out the most capable competitors as motivators
  3. Establish early-warning systems
  4. Improve the national diamond
  5. Welcome domestic rivalry
  6. Globalize to tap selective advantages in other nations
  7. Use alliances only selectively
  8. Locate the home base to support competitive advantage

3.4.7 Griffiths and Zammuto’s (2005)

Competitiveness has been the focus of competing explanations by strategic management scholars and political economists…

3.4.8 Four Institutional Arrangements

3.4.9 East of Africa (and West of China): Chinese Business in Africa”

  1. What are the implications of land outsourcing for Africa? Is this a beneficial practice for the continent? What are its limitations?
  2. What are the short- and long-term risks of encouraging raw material production in exchange for manufactures?
  3. When private investors put money into cash crops, they tend to boost world trade, international economic activity, and local economic development. How and why are governments resisting this?
  4. Why do Chinese firms hire mostly Chinese workers in Africa? Is this likely to continue in the long term?

3.5 Challenges

What happens when a domestic economy opens up to international trade? To answer this question, we need to think about the variable that will be affected.

  • This variable is in fact the relative price ratio. With international trade, the good for which the economy is competitive will now be demanded by both the domestic and the foreign economy.

  • This will contribute to the increase in the price of that good.

Let us assume that the domestic economy has a comparative advantage in the production of the \(X\) good.

  • The price of the product will increase to be higher in the domestic economy (damage to domestic customers), but lower than the price in the foreign country (super for foreign consumers).

  • This creates a new frontier of consumption possibilities represented by \(\left( \frac{Px}{Py} \right)_2\) . In the end, even domestic consumers gain. This is represented by the indifference curve \(CI_2\) which is higher than the initial indifference curve \(CI_1\). This gain is captured by the trade gains triangle.

Gains du commerce pour le pays intérieur.

Figure 3.1: Gains du commerce pour le pays intérieur.

The following figure shows the graphs of the two countries: a) the foreign country and b) the domestic country.

Gains du commerce : a) pour le pays étranger; b) pour le pays intérieur.

Figure 3.2: Gains du commerce : a) pour le pays étranger; b) pour le pays intérieur.

Gains pour des pays ayant des demandes identiques : a) autarcie; b) commerce.

Figure 3.3: Gains pour des pays ayant des demandes identiques : a) autarcie; b) commerce.

The Heckscher-Ohlin model is based on the assumptions of the neoclassical tradition.

It is a \(2 \times 2 \times 2\) model, i.e. “two countries, two products, and two factors of production”.

Similar assumptions to the neoclassical model are :

  • no cost of factor mobility within countries or cost of adjusting economies;
  • no international mobility of factors of production;
  • full use of factors of production.

Heckscher-Ohlin’s theorem is as follows:

A country will export the good that requires a relatively more intensive use of the relatively abundant production factor, and will import the good that requires a relatively more intensive use of the relatively scarce production factor.

Equalization of factor prices: Samuelson’s Theorem

Let the country \(I\) be the country \(I\) where the price of capital \((r)\) is relatively lower than the price of labor \((w)\), and vice versa in the country \(II\). This can be explained by the capital-rich initial endowment of country \(I\).

Both countries produce textiles and financial services. Textiles require more labor, and conversely for financial services, which require more capital. The \(I\) country will specialize a little more in the production of financial services and conversely for the \(II\) country, which will produce textiles. The finished products will be sold in each country at prices \(P_{textile}\), \(P_{finance}\).

\[\begin{equation} \frac{W_{II}}{r_{II}} {<} \frac{W_{I}}{r_{I}} \end{equation}\]

With the opening of trade, relative prices in \(I\) and \(II\) countries are confronted with relative international prices:

\[\begin{equation} \frac{P_{finance}^I}{P_{textile}^I} {<} \frac{P_{finance}^{int}}{P_{textile}^{int}} {<} \frac{P_{finance}^{II}}{P_{textile}^{II}} \end{equation}\]

The consequence of opening up to international trade will be a stronger specialization of country I in the production of the good for which it has a relatively more abundant resource.

In this case, country I will produce more financial services and draw a little more from its capital factor. The consequence is an increase in the price of the capital factor and the opposite in country II, hence:

\[\begin{equation} \frac {\partial W_I}{\partial r_I} {<} 0 \text{ et } \frac {\partial W_{II}}{\partial r_{II}} {>} 0 \end{equation}\]

leading to:

\[\begin{equation} \frac{W_{II}}{r_{II}} = \frac{W_{int}}{r_{int}} = \frac{W_{I}}{r_{I}} \end{equation}\]

Samuelson’s theorem:

At equilibrium, with both countries facing the same relative prices of products (price ratio), using the same technology, then the relative costs of production will equalize. The only justification is that factor prices are equalized.

Égalisation du prix des facteurs.

Figure 3.4: Égalisation du prix des facteurs.

3.6 Hechscher-Ohlin

Identical applications and technologies, which is related to the representation of factor price equalization.

Graphique d’Heckscher-Ohlin avec demandes.

Figure 3.5: Graphique d’Heckscher-Ohlin avec demandes.

3.7 Stolper-Samuelson

The theorem focuses on the income aspect, and adds this dimension to the analysis of international trade.

What is the effect of a more intensive use of labour input on the real wages of both factors?

Stolper-Samuelson’s theorem is as follows:

In a situation of full employment before and after the opening of international trade, the increase in the price of the abundant factor and the decrease in the price of the scarce factor leads to the owners of the abundant factor seeing their incomes increase and the owners of the scarce factor seeing their incomes decrease.

3.8 Lucas’ paradox

Compte de capitaux nets (BDP, $ US courants), par catégorie de revenu.

Figure 3.6: Compte de capitaux nets (BDP, $ US courants), par catégorie de revenu.

Source: world Bank here Note: here

3.9 Leamer

In short:

Globalization = goods + services + people + knowledge

  • Samuelson

  • Heschscher-Ohlin

  • Stolper-Samuelson

  • Linder’s theory

    • trade will appear for goods with similar demand functions;

    • international trade in manufactured goods will take place between countries with similar demand functions (per capita income).

  • Lucas’ paradox

According to Leamer (2012), Heckscher-Ohlin’s theorem raises a fundamental question: “What should governments do to capture the greatest gains from trade, also to ensure that the gains from trade are widely shared, and that the greatest benefits accrue to the most deserving”?

Again according to Leamer (2012), the Heckscher-Ohlin model presented above has four main ideas on which to build public policy:

  1. trade barriers can increase the real returns from rare factors in particular circumstances.

  2. investment in education and infrastructure can provide the basis for product improvements that can transform low-wage developing countries into partners rather than competitors, allowing gains from trade in all factors of production.

3.10 New Challenges

3.10.1 New Challenges for Countries

  • Demographic Changes
  • Global value chains
  • Technological advances and boundaries
  • Urban centers versus countries

3.10.2 Demographic Changes

3.10.2.1 Worldwide Population

Source: http://www.worldometers.info/world-population/

3.10.2.2 By Country

Rank Country Population
1 China 1,439,323,776
2 India 1,380,004,385
3 United States 331,002,651
4 Indonesia 273,523,615
5 Pakistan 220,892,340
6 Brazil 212,559,417
7 Nigeria 206,139,589
8 Bangladesh 164,689,383
9 Russia 145,934,462
10 Mexico 128,932,753
11 Japan 126,476,461
12 Ethiopia 114,963,588
13 Philippines 109,581,078
14 Egypt 102,334,404
15 Vietnam 97,338,579
16 DR Congo 89,561,403
17 Turkey 84,339,067
18 Iran 83,992,949
19 Germany 83,783,942
20 Thailand 69,799,978
21 United Kingdom 67,886,011
22 France 65,273,511
23 Italy 60,461,826
24 Tanzania 59,734,218
25 South Africa 59,308,690
26 Myanmar 54,409,800
27 Kenya 53,771,296
28 South Korea 51,269,185
29 Colombia 50,882,891
30 Spain 46,754,778
31 Uganda 45,741,007
32 Argentina 45,195,774
33 Algeria 43,851,044
34 Sudan 43,849,260
35 Ukraine 43,733,762
36 Iraq 40,222,493
37 Afghanistan 38,928,346
38 Poland 37,846,611
39 Canada 37,742,154
40 Morocco 36,910,560
41 Saudi Arabia 34,813,871
42 Uzbekistan 33,469,203
43 Peru 32,971,854
44 Angola 32,866,272
45 Malaysia 32,365,999
46 Mozambique 31,255,435
47 Ghana 31,072,940
48 Yemen 29,825,964
49 Nepal 29,136,808
50 Venezuela 28,435,940
51 Madagascar 27,691,018
52 Cameroon 26,545,863
53 Côte d’Ivoire 26,378,274
54 North Korea 25,778,816
55 Australia 25,499,884
56 Niger 24,206,644
57 Taiwan 23,816,775
58 Sri Lanka 21,413,249
59 Burkina Faso 20,903,273
60 Mali 20,250,833
61 Romania 19,237,691
62 Malawi 19,129,952
63 Chile 19,116,201
64 Kazakhstan 18,776,707
65 Zambia 18,383,955
66 Guatemala 17,915,568
67 Ecuador 17,643,054
68 Syria 17,500,658
69 Netherlands 17,134,872
70 Senegal 16,743,927
71 Cambodia 16,718,965
72 Chad 16,425,864
73 Somalia 15,893,222
74 Zimbabwe 14,862,924
75 Guinea 13,132,795
76 Rwanda 12,952,218
77 Benin 12,123,200
78 Burundi 11,890,784
79 Tunisia 11,818,619
80 Bolivia 11,673,021
81 Belgium 11,589,623
82 Haiti 11,402,528
83 Cuba 11,326,616
84 South Sudan 11,193,725
85 Dominican Republic 10,847,910
86 Czech Republic (Czechia) 10,708,981
87 Greece 10,423,054
88 Jordan 10,203,134
89 Portugal 10,196,709
90 Azerbaijan 10,139,177
91 Sweden 10,099,265
92 Honduras 9,904,607
93 United Arab Emirates 9,890,402
94 Hungary 9,660,351
95 Tajikistan 9,537,645
96 Belarus 9,449,323
97 Austria 9,006,398
98 Papua New Guinea 8,947,024
99 Serbia 8,737,371
100 Israel 8,655,535
101 Switzerland 8,654,622
102 Togo 8,278,724
103 Sierra Leone 7,976,983
104 Hong Kong 7,496,981
105 Laos 7,275,560
106 Paraguay 7,132,538
107 Bulgaria 6,948,445
108 Libya 6,871,292
109 Lebanon 6,825,445
110 Nicaragua 6,624,554
111 Kyrgyzstan 6,524,195
112 El Salvador 6,486,205
113 Turkmenistan 6,031,200
114 Singapore 5,850,342
115 Denmark 5,792,202
116 Finland 5,540,720
117 Congo 5,518,087
118 Slovakia 5,459,642
119 Norway 5,421,241
120 Oman 5,106,626
121 State of Palestine 5,101,414
122 Costa Rica 5,094,118
123 Liberia 5,057,681
124 Ireland 4,937,786
125 Central African Republic 4,829,767
126 New Zealand 4,822,233
127 Mauritania 4,649,658
128 Panama 4,314,767
129 Kuwait 4,270,571
130 Croatia 4,105,267
131 Moldova 4,033,963
132 Georgia 3,989,167
133 Eritrea 3,546,421
134 Uruguay 3,473,730
135 Bosnia and Herzegovina 3,280,819
136 Mongolia 3,278,290
137 Armenia 2,963,243
138 Jamaica 2,961,167
139 Qatar 2,881,053
140 Albania 2,877,797
141 Puerto Rico 2,860,853
142 Lithuania 2,722,289
143 Namibia 2,540,905
144 Gambia 2,416,668
145 Botswana 2,351,627
146 Gabon 2,225,734
147 Lesotho 2,142,249
148 North Macedonia 2,083,374
149 Slovenia 2,078,938
150 Guinea-Bissau 1,968,001
151 Latvia 1,886,198
152 Bahrain 1,701,575
153 Equatorial Guinea 1,402,985
154 Trinidad and Tobago 1,399,488
155 Estonia 1,326,535
156 Timor-Leste 1,318,445
157 Mauritius 1,271,768
158 Cyprus 1,207,359
159 Eswatini 1,160,164
160 Djibouti 988,000
161 Fiji 896,445
162 Réunion 895,312
163 Comoros 869,601
164 Guyana 786,552
165 Bhutan 771,608
166 Solomon Islands 686,884
167 Macao 649,335
168 Montenegro 628,066
169 Luxembourg 625,978
170 Western Sahara 597,339
171 Suriname 586,632
172 Cabo Verde 555,987
173 Micronesia 548,914
174 Maldives 540,544
175 Malta 441,543
176 Brunei 437,479
177 Guadeloupe 400,124
178 Belize 397,628
179 Bahamas 393,244
180 Martinique 375,265
181 Iceland 341,243
182 Vanuatu 307,145
183 French Guiana 298,682
184 Barbados 287,375
185 New Caledonia 285,498
186 French Polynesia 280,908
187 Mayotte 272,815
188 Sao Tome & Principe 219,159
189 Samoa 198,414
190 Saint Lucia 183,627
191 Channel Islands 173,863
192 Guam 168,775
193 Curaçao 164,093
194 Kiribati 119,449
195 Grenada 112,523
196 St. Vincent & Grenadines 110,940
197 Aruba 106,766
198 Tonga 105,695
199 U.S. Virgin Islands 104,425
200 Seychelles 98,347
201 Antigua and Barbuda 97,929
202 Isle of Man 85,033
203 Andorra 77,265
204 Dominica 71,986
205 Cayman Islands 65,722
206 Bermuda 62,278
207 Marshall Islands 59,190
208 Northern Mariana Islands 57,559
209 Greenland 56,770
210 American Samoa 55,191
211 Saint Kitts & Nevis 53,199
212 Faeroe Islands 48,863
213 Sint Maarten 42,876
214 Monaco 39,242
215 Turks and Caicos 38,717
216 Saint Martin 38,666
217 Liechtenstein 38,128
218 San Marino 33,931
219 Gibraltar 33,691
220 British Virgin Islands 30,231
221 Caribbean Netherlands 26,223
222 Palau 18,094
223 Cook Islands 17,564
224 Anguilla 15,003
225 Tuvalu 11,792
226 Wallis & Futuna 11,239
227 Nauru 10,824
228 Saint Barthelemy 9,877
229 Saint Helena 6,077
230 Saint Pierre & Miquelon 5,794
231 Montserrat 4,992
232 Falkland Islands 3,480
233 Niue 1,626
234 Tokelau 1,357
235 Holy See 801

Source: https://www.worldometers.info/world-population/

3.10.2.3 Worldwide Growth

Source: http://www.worldometers.info/world-population/

3.10.2.4 Winners of The ‘Young Workers Index’

Source: http://www.pwc.co.uk/youngworkers

3.10.2.5 Winners of The ‘Golden Age Index’

Source: http://www.pwc.co.uk/services/economics-policy/insights/golden-age-index.html

3.10.3 Global Value Chains

3.10.3.1 Regional exports by share of technological intensity, 2014

Source : WTO

3.10.4 Technological advances and boundaries

3.10.5 Urban centers versus countries

  • Cities as the New Dominant Social Structures

  • The race for Amazon new headquarters

3.10.6 Urban centers versus countries

  • Montreal: New Hot Bed for Technologies?

  • Canada and AI?

    • Top countries for patents: China, USA, Japan, Republic of Korea, Germany…
    • Top firms for patents: IBM, Microsoft, State China Corp., Google

3.11 Data Challenge

3.11.1 Political Risk

You are an analyst for an international company and the CEO would like to explore new international markets. Aware of the possible political risks, he asks you to determine what opportunities would be favourable for the establishment of the company in a new country. Based on the concepts currently being discussed, including Porter’s diamond, and the data available to you, create a graph and explain which country would be the most favorable for the company.