International Business

Environment
conf. univ. dr. Radu Muetescu
radu.musetescu@rei.ase.ro

The mixed economy

(= interventionism):
the quasipresent economic systems around
the word today
a combination of private property and state
property
the state limits the free exercise of private
property in certain activities or sectors

Market versus the public

sector
the market = a social and economic system
based on private property in which the social
transactions are voluntarily concluded among
participants
the public sector = a monopoly of legal
enterprise (rule making and enforcement) = the
core issue in the public sector is the compulsory
character of the social transactions with the state
(such as taxation) or of observing the rules of the
exchange among the member of the society

Franz Oppenheimer
(a German sociologue)
= there are two possibilities of acquiring economic
goods by an individual:
- the economic means = involvement in market
transactions the satisfying customers
- the political means = the use of the state as a
mechanisms for acquiring resources

The problem of economic

freedom
several innitiatives to assess the economic
freedom:
Heritage
Foundation
(
www.heritage.org/index) and others
different criteria such as:
Business Freedom, Trade Freedom, Fiscal Freedom,
Government
Spending,
Monetary
Freedom,
Investment Freedom, Financial Freedom, Property
Rights, Freedom from Corruption, Labor Freedom;

Economic freedom around the

world, 2011, Heritage Foundation
The freest economies

1.
2.
3.
4.
5.
6.

Hong Kong,
Singapore,
Australia,
New Zeeland,
The Netherlands,
Canada,

The least free economics

174. Burma
175. Venezuela,
176. Eritreea,
177. Cuba,
178. Zimbabwe,
179. North Korea,
unrated (Afganistan,
Iraq, Liechtenstein,
Sudan)
6

89 ri = fr libertate sau n principal lipsite de libertate

90 ri = libere sau n principal libere
7

The impact of economic

freedom:
freer an economy, more prosperous the society the
firms have the liberty to engage in those activities of
production which are focused on maximizing their
profits, that is, satisfying consumers
more interventionist an economy:
more resources are allocated by government for
government consumption, observing public regulations,
etc.
satisfying consumers is not a priority any more;
the arbitrariness of public servants (corruption, taxation,
etc.) and additional costs

World Economic Forum 2011

- how burdensome are public
regulations?
The least burdens on private
companies:

1.
2.
3.
4.
5.
6.
7.
8.

Singapore
Hong Kong
Rwanda
Georgia
Gambia
Qatar
Estonia
Oman

The most burdensome:

98. Romania
133.
134.
135.
136.
137.
138.
139.

Italy
Hungary
Venezuela
Croatia
Angola
Puerto Rico
Brazil
10

Economic freedom versus political

freedom

are the countries with political freedom the

countries with also economic freedom?
fundamentally, both liberties start from the basic
rights of individuals = property rights are among
the basic right of individuals these two dimension
are usually in direct relation

11

However:
countries with significant political freedom but
with a reduced economic freedom = while
democratic, government intervention is massive
(such as Brazil n anii 60,70, Argentine in the 2000)
countries with a low political freedom but with
significant economic freedom = examples from
Middle East (United Arab Emirates, Qatar, so on)
sometimes, countries differentiate between local
companies and foreign companies

12

Time preference of
governments
Besides the attitude towards private
property rights, there are also differences in
the time horizon of governments:

shorter
the
time
horizon,
higher
intervention and arbitrariness (e.g. the
electoral cycles in democracies)
longer the time horizon on which a
government operates, stronger the incentive
to increase prosperity (Singapore, Taiwan,
South Korea, etc.)
13

Why the state intervenes in the economy?

= a tradition debate in political economy
supplying public goods (security, defense,
justice, infrastructure)
correcting the market failure (monopolies,
cartels, etc.)
redistribution (in favor of certain social groups
which are disadvantaged)
rent-seeking (special interests, private
benefits)
Etc.
14

The size fo the government budget in an economy

(= government expenditure / Gross Domestic
Product)
2007, 160 states (http://anepigone.blogspot.com)
The largest ependiture (%):

1.
2.
3.
4.
5.
6.
7.
8.
9.

Iraq = 87,3%
Cuba = 81,4%
Slovakia = 66,4%
East Timor = 65,5%
ROMANIA = 65,5%
Moldova = 63,4%
France = 61,1%
Seychelles = 60,3%
Hungary = 59,1%

Cele mai mici cheltuieli (%):

136.
149.
150.
155.
157.
158.
159.
160.

Poland = 21,2%
Brazil = 17,3%
Hong Kong = 17%
Singapore = 16,3%
Cambodgia = 13,3%
Bangladesh= 12,6%
Turkmenistan = 9,6%
Afganistan = 9,2%

The size of the government

budget
Largest such an indicator in GDP, more resources in
such an economy are allocated by the state):
economic inefficiency (= central allocation = lack
of the test of profit and loss)
the decrease of the market for consumer goods
(through higher taxation, they have less resources
to spend on consumer goods on the market)
an increase in the possibility of bribery

Agency Theory
the state and private firms are legal / social entities
which are not however personal (cannot act) in
social transactions, they are represented by agents
of the owners
agents should look for the interests of his
principal (the party that delegated him the decision)
sometimes, however, such agents may look for
their own interest at the expense of their principals
= principals incur costs = agency costs

Corruption:
agency costs + massive interventionism of the state in the
economy more possibilities for corruption of the agents of the state
(= public servants)
such agents accept material compensation for favoring certain
parties which transact with the state (they extract private rents)
from the perspective of a firm, bribery is an additional cost of dong
business = in theory, ignoring other factors, the most efficient
producer is ble to pay the highest bribe
However, an adverse selection occurs = those who follow the
political means are more successful than the most efficient producers
the allocation of resources in such an economy is altered = it is not
an efficient allocation;
the incentives to be the most efficient dissappear

Transparency International
(2010)
The most corrupted
countries:

The least corrupted

countries:

178.
177.
176.
175.

1.
2.
3.
4.
5.
6.
7.
8.

Somalia
Myanmar
Afganistan
Iraq

164. Venezuela

Denmark
New Zeeland
Singapore
Finland
Sweden
Canada
The Netherlands
Australia

69. Romania

Additional issues in corruption:

active / offensive bribe (bribery is offered in order
to get advantages) versus passive / defensive
bribe (bribery is demanded and paid in order to
avoid being disadvantaged)
public bribery (towards public servants) versus
private bribery (towards private employees of
companies) in a private company, corruption is
eliminated through business failure (higher costs
of operation) while in the public sector, there is
always the possibility of socializing the costs
(the government is not exposed to the profit / loss
test)
20

Corruption in international business

=

some countries punish not only domestic

corruption but also bribery of national companies
abroad (towards foreign public servants)
USA = Foreign Corrupt Practices Act (1977) =
the first legislation in this direction
Today, several international agreements:
OECD in 1997= Convention on Combating Bribery of
Foreign Public Officials in International Business
Transactions signed by 40 states
United Nations in 2005 = Convention Against
Corruption

21

Such legislation:
put the two parties in bribery on the same footing
(same punishment)
Illegal payments are confiscated (even the entire
business turnover)
Excludes
facilitation
payments
=
small
payments in order to facilitate the operation of
business (in Brazil, despachantes)
sometimes, allow competitors to sue for
damages, etc.

22

Corruption Cases in
International Business (
www.fiscaltimes.com)
1.
2.
3.
4.

Siemens (Germany) = 1,7 bill. USD = in Argentina

Halliburton (USA) = 580 mil. USD = in Nigeria
BAE Systems (UK) = 450 mil. USD = in Saudi Arabia
Snamprogetti (The Netherlands) = 240 mil. USD =
in Nigeria
5. Technip (France) = 240 mil. USD = in Nigeria
...
Johnson and Johnson = 70 mil. USD = Greece, Poland,
Romania

23

The issue of revolving

doors
there are cases when former public servants / employees
leave their state jobs and are employed in the private sector
(or vice-versa) suspicions that they face complex conflict of
interests:
- once they are in public office, they may favor private firms
with whom they do anticipate to have business/employment
connections in the future;
- once they leave the public office, they may take information
and contacts that they may employ in private business;
- such an issue is almost impossible to radically solve (such
employees have human rights too) even if there are certain
measure that can be explored (a period to avoid relating to
former employment institution)
24

Lobby
= an activity thourgh which private agents attempt to influence
the decision making process in a democractic state (esecially in
legislative matters) so as such decisions wont negatively
impact them
- any citizen has the right to express opinions and advance
proposals for the public legislative bodies (no taxation without
representation );
- however, no legislator is obliged to support such proposals
even from his own circumscription his agenda may be
prioritize by such professional lobbists who argue for the public
interests
- may take the form of campaign contributions (however,
maximum amounts are usually enacted in mature diplomacies)
25

Example: lobbying in the European

Union
there is no clearcut definition;
lobbying includes not only self declared lobby firms but
also consulting firms, legal services firms, Public Relations
firms, mass media, business associations, trade unions,
non-governmental associations;
5678 firms are registered as explicitly lobbying firms in a
voluntary registrar in the European Union
other assessments reach the 15.000 (Corporate Europe);
the most targeted sectors: pharmaceuticals, agrobusiness (especially tobacco), etc. = heavily regulated
industries
lobby industry = between 1.5 3 billion euro (EU
Observer);
26

However
- lobbying = can sometimes argue for
the public interest but, in fact, follow
the purely private interest (or
special interest)
- a widening gap between discourse
and reality
- lobby may be deeply connected with
corruption

The problem of expropriations /

nationalizations in doing business
abroad
expropriation = the involuntary (forced) giving up of
private ownership on certain economic goods (it
includes the expropriations with compensation)
special problem = the case of foreign companies
operating in a country (the expropriated firm
belongs to another country)

28

Expropriations (Quan Li,

2005)
1960 1990 = 520 major expropriations
developing countries:
423 = made by non-democratic governments
97 = made by democratic governments

in

But, on average:
4,5 years between expropriations in a non-democracy
3,3 years between expropriations in a democracy
democracy does not exclude expropriation
29

Factors that determine

expropriations:
nationalism = especially in natural resources (resource
nationalism)
populism = governments that attempt to be more
popular by redistributing resources from particular agents
to the majority
govenment is less democrat, so rulers do not care about
consequences (they operate on short time horizon);
the lack of an independent juidiciary that can play the
role of a veto player = the system of check-andbalance that is particular to mature legal systems
public interest versus private interests
etc.
30

Considerations regarding the decision

to expropriate when it is taken by a
government
= it is an analysis of cost-profit
main costs = loss in reputation,
especially in what regards foreign
companies
main benefits = populist policies or an
increase the stock of resources

31

Indigenization policies
Some governments have explicit policies of indigenization of
the control in certain companies, such as the compulsion for
such companies to be majority owned by local investors
usually in certain industries (again, natural resources) but also
economy wide (Zimbabwe and, to a less degree, South Africa)
Consequences:
- short term redistribution (take from haves and give it to
have-nots);
- distortion of economic incentives (foreign firms do not invest
any more, existing firms are losing profits, so on);
- the emergence of favored individuals and groups, noninterested in the economic way but only in the political way of
getting resources
32

The concept of political risk

= the probability of a negative impact on the operations
of a foreign company because of events or developments
in the political field in a country where it operates
= determined by the uncertainty derived from the
decision of the government and the public institutions but
also of certain political forces or groups (separatist forces
and so on)
= the attempt to aggregate in a single expression the
multiple dimension of the influence of politics on
economics;
33

Political risk
Dimenssions:
-expropriation;
-breaking contracts;
-changes in legislation or regulation (because of
competing lobbying, PR, corruption);
-terrorism, military conflict;
-social unrest (strikes, manifestations, etc.);
-restrictions on the foreign exchange market
(and the ability for foreigners to transfer foreign
currencies), etc;
34

The relative importance of different

dimension of political risk

35

Hidden expropriations
(indirect)
= even without a direct and explicit expropriation of
a business, certain government measures may have
a strong impact on the ability of a firm to continue
to operate in an economy:
- renegotiation of concessions (awarded when
entering an economy);
- changing taxation (higher taxes);
- the lack of a legal system of protecting property
rights;
-Etc.
36

Mechanisms to deal with political risk

(the perspective of firms)

negotiation with local governments;

(informal) relationships with political leaders;
cooperation with local communities;
cooperation with local non-governmental
organizations;
the hedging of operations risk (through financial
contracts);
support for certain political leaders / parties = may
involve high risk;
joint-ventures with local companies.
37

Concerns of international companies as regards the

developing countries in the close future

38

International mechanisms to deal

with political risk
= the emergence of economic agents that offer insurance
against political risk (associated in the Bern Union)
-public institutions / financed by governmentsc: Overseas
Private Investment Corporation (USA); COFACE (France); Export
Development Corporation (Canada); export-import banks

-multilateral institutions (African Trade Insurance Agency,

Asian Development Bank, Islamic Corporation for the
Insurance of Investment and Export Credit, Multilaterial
Investment Guarantee Agency from the World Bank)
-private companies (insurance and reinsurance):
= sums insured in 2010 for political risk = 65.8 billion USD

39

Challenges
the insurance by a state of political risk of
investing abroad by national companies = may
alter their prudential approach
moral hazard = there is somebody else who is
supporting the costs firms will overinvest in
such countries
the costs may be taken over by the public budget
of such a state = it may stimulate aggressive
approaches towards the other state

40