Unlock document.
This document is partially blurred.
Unlock all pages and 1 million more documents.
Get Access
CHAPTER 2
THE GLOBAL ECONOMIC ENVIRONMENT
SUMMARY
A. The economic environment is a major determinant of global market potential and
opportunity. In today’s global economy, capital movements are the driving force,
production is uncoupled from employment, and capitalism has vanquished communism.
Based on patterns of resource allocation and ownership, the world's economies can be
categorized as market capitalism, centrally-planned capitalism, centrally-planned
socialism, and market socialism. The final years of the twentieth century were marked by
transitions toward market capitalism in many countries that had been centrally controlled.
However, great disparity still exists among the nations of the world in terms of economic
freedom.
B. Countries can be categorized in terms of their stage of economic development: low
income, lower middle income, upper middle income, and high income. Gross
domestic product (GDP) and gross national income (GNI) are commonly used
measures of economic development. The 50 poorest countries in the low-income category
are sometimes referred to as least-developed countries (LDCs). Upper middle-income
countries with high growth are often called newly industrializing economies (NIEs).
Several of the world’s economies are notable for their fast growth; the BRICS nations
include Brazil, Russia, India, China, and South Africa. The Group of Eight (G-8), Group
of Twenty (G-20), and Organization for Economic Cooperation and Development
(OECD) represent efforts by high-income nations to promote democratic ideals and free-
market policies throughout the rest of the world. Most of the world's income is located in
the Triad, which is comprised of Japan, the United States, and Western Europe.
Companies with global aspirations generally have operations in all three areas. Market
potential for a product can be evaluated by determining product saturation levels in light
of income levels.
C. A country’s balance of payments is a record of its economic transactions with the rest of
the world; this record shows whether a country has a trade surplus (value of exports
exceeds value of imports) or a trade deficit (value of imports exceeds value of exports).
Trade figures can be further divided into merchandise trade and services trade accounts;
a country can run a surplus in both accounts, a deficit in both accounts, or a combination
of the two. The U.S. merchandise trade deficit was $819 billion in 2007. However, the
U.S. enjoys an annual service trade surplus. Overall, however, the United States is a
debtor; China enjoys an overall trade surplus and serves as a creditor nation.
D. Foreign exchange provides a means for settling accounts across borders. The dynamics of
international finance can have a significant impact on a nation’s economy as well as the
fortunes of individual companies. Currencies can be subject to devaluation or
revaluation as a result of actions taken by a country’s central banker. Currency trading by
Copyright © 2017 Pearson Education, Inc.
2-1
international speculators can also lead to devaluation. When a country’s economy is
strong or when demand for its goods is high, its currency tends to appreciate in value.
When currency values fluctuate, global firms face various types of economic exposure.
Firms can manage exchange rate exposure by hedging.
LEARNING OBJECTIVES
1 Identify and briefly explain the major changes in the world economy that have occurred during
the past 100 years
2 Compare and contrast the main types of economic systems that are found in different regions
of the world
3 Explain the categories of economic development used by the World Bank and identify the key
emerging country markets at each stage of development
4 Discuss the significance of balance of payments statistics for the world’s major economies
5 Identify the countries that are the world’s leading exporters
6 Briefly explain how exchange rates impact a company’s opportunities in different parts of the
world
OVERVIEW
This chapter will identify the most salient characteristics of the world economic environment,
starting with an overview of the world economy. We then present a survey of economic system
types, a discussion of the stages of market development, and an explanation of balance of
payments. Foreign exchange is discussed in the final section of the chapter. Throughout the
chapter, we will discuss the implications of the worldwide economic downturn on global
marketing strategies.
ANNOTATED LECTURE/OUTLINE
THE WORLD ECONOMY—AN OVERVIEW
The world economy has changed dramatically since World War II. Perhaps the most fundamental
change is the emergence of global markets; responding to new opportunities, global competitors
have displaced or absorbed local ones.
Copyright © 2017 Pearson Education, Inc.
2-2
The integration of the world economy has increased significantly. Economic integration was 10
percent at the beginning of the 20th century; today, it is approximately 50 percent.
During the past two decades, the world economic environment has become increasingly
dynamic; change has been dramatic and far-reaching. To achieve success, executives and
marketers must take into account the following new realities:
(Learning Objective #1)
a) Capital movements have replaced trade as the driving force of the world economy.
b) Productivity has become “uncoupled” from employment.
c) The world economy dominates the scene; individual country economies play a
subordinate role.
d) The struggle between capitalism and socialism that began in 1917 is over.
e) The growth of e-commerce diminishes the importance of national barriers and forces
companies to reevaluate their business models.
The first change is the increased volume of capital movements. The dollar value of trade in
goods and services was $23.4 trillion in 2013. However, the Bank for International Settlements
has calculated that foreign exchange transactions worth approximately $4 trillion are booked
every day. This works out to more than $1 quadrillion annually, a figure that far surpasses the
dollar value of world trade in goods and services. An inescapable conclusion resides in these
data: Global capital movements far exceed the dollar volume of global trade. In other words,
currency trading represents the world’s largest market.
The second change concerns the relationship between productivity and employment. To
illustrate this relationship, it is necessary to review some basic macroeconomics. Gross domestic
product (GDP), a measure of a nation’s economic activity, is calculated by adding consumer
spending (C), investment spending (I), government purchases (G), and net exports (NX):
C _ I _ G _ NX _ GDP
Economic growth, as measured by GDP, reflects increases in a nation’s productivity. Until the
recent economic crisis, employment in manufacturing had remained steady or declined while
productivity continued to grow.
Now, employment rates have declined in countries where a bubble economy of misallocated
resources in housing and real estate has collapsed. In the United States, manufacturing’s share of
GDP declined from 19.2 percent in 1989 to13 percent in 2009.
In 2011, manufacturing employment accounted for about 9 percent of the U.S. workforce; in
1971, the figure was 26 percent. During that 40-year period, productivity has increased
dramatically. Similar trends can be found in many other major industrial economies as well.
Copyright © 2017 Pearson Education, Inc.
2-3
Manufacturing is not in decline—it is employment in manufacturing that is in decline.
Creating new jobs is one of the most important tasks facing policymakers today.
The third major change is the emergence of the world economy as the dominant economic unit.
Company executives and national leaders who recognize this have the greatest chance of success.
This change has brought two questions to the fore: How does the global economy work, and
who is in charge? Unfortunately, the answers to these questions are not clear-cut.
The fourth change is the end of the Cold War. The demise of communism as an economic and
political system can be explained in a straightforward manner: Communism is not an effective
economic system. The overwhelmingly superior performance of the world’s market economies
has given leaders in socialist countries little choice but to renounce their ideology.
A key policy change in such countries has been the abandonment of futile attempts to manage
national economies with a single central plan. This policy change frequently goes hand in hand
with governmental efforts to foster increased public participation in matters of state by
introducing democratic reforms.
Finally, the personal computer revolution and the advent of the Internet era have in some ways
diminished the importance of national boundaries.
ECONOMIC SYSTEMS
(Learning Objective #2)
Traditionally, there are four main types of economic systems: market capitalism, centrally
planned socialism, centrally planned capitalism, and market socialism. This classification was
based on the dominant method of resource allocation (market versus command) and the
dominant form of resource ownership (private versus state) (see Figure 2-1).
Alternatively, more robust descriptive criteria include the following:
Type of economy
Type of government
Trade and capital flows
The commanding heights
Services provided by the state and funded through taxes
Institutions
Copyright © 2017 Pearson Education, Inc.
2-4
Markets
Market Capitalism
Market capitalism is an economic system in which individuals and firms allocate resources, and
production resources are privately owned. Consumers decide what goods they desire, and firms
decide how much to produce; the state’s role is to promote competition (see Table 2 -1).
It would be a gross oversimplification to assume that all market-orientated economies function in
an identical manner.
Centrally-Planned Socialism
At the opposite end of the spectrum is Centrally-planned socialism. Centrally-planned
socialism gives the state broad powers to serve the public as it sees fit.
State planners make “top-down” decisions about the goods and services produced and in what
quantities; consumers spend money on what is available.
Government ownership of industries and individual enterprises is characteristic. Demand
exceeds supply, and there is little reliance on product differentiation, advertising, or promotion.
To eliminate “exploitation” by intermediaries, the government controls distribution.
Because of market capitalism’s superiority, many socialist countries have adopted it; the
ideology developed by Marx and perpetuated by Lenin has been resoundingly refuted.
For decades, the economies of China, the former Soviet Union, and India functioned according
to the tenets of centrally planned socialism. All three countries are now engaged in economic
reforms characterized, in varying proportions, by increased reliance on market allocation and
private ownership.
Centrally-Planned Capitalism and Market Socialism
In reality, market capitalism and centrally-planned socialism do not exist in “pure” form.
Command and market resource allocation are practiced simultaneously, as are private and state
resource ownership. The role of government in modern market economies varies widely.
Centrally-planned capitalism is an economic system in which command resource allocation is
used extensively in an environment of private resource ownership (e.g., Sweden).
Market socialism permits market allocation policies within an overall environment of state
ownership.
Copyright © 2017 Pearson Education, Inc.
2-5
Market reforms and nascent capitalism in many parts of the world are creating opportunities for
large-scale investments by global companies.
The Heritage Foundation, a conservative think tank, classifies economies according to the degree
of economic freedom enjoyed. The variables considered in compiling the rankings include:
trade policy
taxation policy
government consumption of economic output
monetary policy
capital flows
foreign investment
banking policy
wage and price controls
property rights
regulations
the black market
The rankings form a continuum from “free” to “repressed.” Hong Kong and Singapore are
ranked first and second in terms of economic freedom; Zimbabwe, Cuba, and North Korea are
ranked lowest (see Table 2-3).
A high correlation exists between the degree of economic freedom and the extent to which a
nation’s mixed economy is heavily market orientated.
STAGES OF MARKET DEVELOPMENT
(Learning Objective #3)
At any point in time, individual country markets are at different stages of economic
development.
The World Bank has developed a four-category classification system that uses per capita gross
national income (GNI) as a base. Although the income definition for each of the stages is
arbitrary, countries within a given category generally have a number of characteristics in
common. (Table 2-4).
Today, global attention is focused on opportunities in Brazil, Russia, India, China and South
Africa (collectively known as BRICS). For each of the stages of economic development, special
attention is given to the BRICS countries.
Copyright © 2017 Pearson Education, Inc.
2-6
Low-Income Countries
Low-income countries have a GNI per capita of less than $1,045 or less. The general
characteristics shared by countries at this income level are:
limited industrialization and a high percentage of the population engaged in agriculture
and subsistence farming
high birth rates
low literacy rates
heavy reliance on foreign aid
political instability and unrest
concentration in Africa south of the Sahara
Approximately 13 percent of the world’s population is included in this group. Typically, these
countries provided limited investment opportunities.
However, there are exceptions; for example, in Bangladesh, where per capita GNP is
approximately $1,010. The garment industry has enjoyed burgeoning exports.
The newly independent countries of the former Soviet Union present an interesting situation:
Incomes are low, and there is considerable economic hardship. The potential for disruption is,
therefore, high.
Lower-Middle-Income Countries
The United Nations designates fifty countries in the bottom ranks of the low-income category as
least-developed countries (LDCs).
The term is sometimes used to indicate a contrast with developing (i.e., upper ranks of low-
income plus lower-middle and upper-middle-income) countries and developed (high-income)
countries.
Lower-middle-income countries are those with a GNI per capita between $1,046 and $4,125.
With a 2013 GNI per capita of $1,570, India has transitioned out of the low-income category and
now is classified as a lower-middle-income country.
Consumer markets in these countries are expanding rapidly. Countries such as China, Indonesia
and Thailand represent an increasing competitive threat as they mobilize their relatively cheap
labor forces to serve target markets in the rest of the world.
The developing countries in the lower-middle-income category have a major competitive
advantage in mature, standardized, labor-intensive light industry sectors such as footwear,
textiles and toys.
Emerging Markets Briefing Book – Myanmar is Open for Business
Copyright © 2017 Pearson Education, Inc.
2-7
In 2011, Myanmar, formerly known as Burma, changed course. Encouraged by Myanmar’s
transition from dictatorship toward economic openness and democracy, may Western
governments lifted sanctions such as bans on the country’s imports.
Upper-Middle-Income Countries
Upper-middle-income countries, also known as industrializing or developing countries are
those with GNP per capita ranging from $4,126 to $12,475.
Brazil is the largest country in Latin America in terms of the size of its economy, population, and
geographic territory.
Brazil also boasts the richest reserves of natural resources in the hemisphere; China, Brazil’s top
trading partner, has an insatiable appetite for iron ore and other commodities.
Government policies aimed at stabilizing Brazil’s macroeconomy have yielded impressive
results: Brazil’s GNI has grown at an average annual rate of 4 percent over the past 8 years.
During the same time period, nearly 50 million Brazilians have joined the middle class as
incomes and living standards have risen.
Lower-middle- and upper-middle-income countries that achieve the highest sustained rates of
economic growth are sometimes referred to collectively as newly industrializing economies.
Overall, NIEs are characterized by greater industrial output than developing economies; heavy
manufactures and refined products make up an increasing proportion of exports. Goldman Sachs,
the firm that developed the BRIC framework a decade ago, has identified a new country
grouping called Next-11 (N11).
Five of the N11 countries are considered NIEs. These include three lower-middle-income
countries: Egypt, Indonesia, and the Philippines. Mexico and Turkey are N11 NIEs from the
ranks of the upper-middle income category.
Copyright © 2017 Pearson Education, Inc.
2-8
