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Trade and Competitive Advantage

Chapter 4

The Global Competitiveness Report


World Economic Forum http://www.weforum.org Global competitiveness Index
http://www3.weforum.org/docs/WEF_GlobalCompetitivenes sReport_2012-13.pdf

FOUR PILLARS
BASIC REQUIREMENTS 1st pillar: Institutions 2nd pillar: Infrastructure 3rd pillar: Macroeconomic environment 4th pillar: Health and primary education EFFICIENCY ENHANCERS 5th pillar: Higher education and training 6th pillar: Goods market efficiency 7th pillar: Labor market efficiency 8th pillar: Financial market development 9th pillar: Technological readiness 10th pillar: Market size INNOVATION AND SOPHISTICATION FACTORS 11th pillar: Business sophistication 12th pillar: Innovation

Source: The Global Competitiveness Report 2012-2013

Top of the list

Source: The Global Competitiveness Report 2012-2013

Bottom of the list

Source: The Global Competitiveness Report 2012-2013

United States

The most problematic factors for doing business

Note: Respondents were asked to select the five most problematic for doing business in their country and to rank them between 1 (most problematic) and 5. The bars in the figure show the responses weighted according to their rankings.

Source: The Global Competitiveness Report 2012-2013

United States

Source: The Global Competitiveness Report 2012-2013

Source: The Global Competitiveness Report 2012-2013

Source: The Global Competitiveness Report 2012-2013

Source: The Global Competitiveness Report 2012-2013

Source: The Global Competitiveness Report 2012-2013

Source: The Global Competitiveness Report 2012-2013

Source: The Global Competitiveness Report 2012-2013

Trade and Imperfect Competition


Intra-industry trade Relevance to international business
MNEs and assumption of imperfect competition The concept of competitive advantage

Grubel-Lloyd index (Box 4.1)

van Marrewijk, 2005

Manufacturing intra-industry trade (% of total man. trade)


80 70 60 50 40 30 20 10 0 Mexico Hungary Germany USA Poland Portugal
Source: see Table 4.1.

1988-1991 1992-1995 1996-2000

Characteristics of intra-industry trade (IIT)


1.
2. 3. 4.

Horizontally-differentiated trade or vertically differentiated trade? (problems of aggregation) IIT tends to be high in sophisticated manufactured products. IIT levels are high in more open economies. IIT levels are high where inward FDI levels are high.

Monopoly Power
Concentration ratios: Sum of the market shares of the top 4, 5 or 8 firms. Herfindahl index: sum of the squared market shares of all firms in the market.

where si is the market share of firm i in the market, and N is the number of firms. Thus, in a market with two firms that each has 50 percent market share, the Herfindahl index is 0.502 + 0.502 = 0.5. A market with 10 firms (with equal shares) will have an index equal to 0.1. (the possible value of the index is between 1/N and 1)

Internal increasing returns to scale are the underlying main cause for most international trade models of imperfect competition (Fig. 4.2).

Fig. 4.2

Demand and costs

van Marrewijk, 2005

average costs 10
price, mc, ac, mr

demand

5 I C D marginal costs E marginal revenue 0 0 5 quantity 10 F B

The Trading Equilibrium


Assumption: The foreign firm assumes the home firm will continue to produce the same quantity as in autarky. The entry of the foreign firm causes the price to fall (increased competition) Consumers in the home and foreign country gain. (Fig. 4.3)

Fig. 4.3
10

Demand and costs

van Marrewijk, 2005

average costs

price, mc, ac, mr

demand

J
5

I 4 1 2 F marginal costs H A mr foreign


5 quantity 10

D K E

C L

B 3 G

initial marginal revenue


0 0

van Marrewijk, 2005

Alternative explanations for IIT


1. Climate differences 2. Transportation costs (Fig. 4.4)
national border Foreign country
Home sales in Foreign

Foreign firm

Home firm Home country


Fig. 4.4

Foreign sales in Home

Strategic interaction between firms: Airbus and Boeing. Imperfect competition in international business: Fuji versus Kodak (Box 4.3)

van Marrewijk, 2005

Monopolistic competition
Love-of-variety effect
varieties in A
1 3 5 2n-3 2n-1

2n-2

2n

varieties in B
Fig. 4.5

Monopolistic competition
Three assumptions (for Fig. 4.6) 1. Number of sellers is sufficiently large so that firms take the price as given. 2. Products are heterogeneous. 3. Free entry and exit of firms.

Fig. 4.6

Demand and costs


average costs

van Marrewijk, 2005

10
price, mc, ac, mr

marginal costs

C D F

5 I C D B

demand

marginal revenue 0 0 A 5 quantity 10

Sequence of events (Fig. 4.7)


1. 2. 3. Increased competition leads to higher demand elasticity. Price falls and the firm has a loss. The loss drives some firms out of the market so demand increases for the remaining firms until zero profits are reached. In the trade equilibrium, the remaining firms produce a larger quantity and lower average cost (internal economies of scale). In the trade equilibrium, consumers benefit from lower prices and larger range of varieties. In the trade equilibrium, the two countries engage in IIT.

4.

5.

6.

Fig. 4.7
10.00

Demand and costs


average costs

van Marrewijk, 2005

marginal costs
price, mc, ac, mr

C D C' D' F pre-trade mr B B' post-trade demand

5.00

0.00 0

pre-trade demand A A'


5

post-trade mr
quantity 10

1. 2. 3.

4.

What does the monopolistic competition model add? Another explanation of IIT (with non-identical products close substitutes ). The number of suppliers is large but limited. The model implies that after trade opens consumers will also buy varieties from foreign suppliers (leading to IIT) More competition causes the demand curve for individual firms to become more elastic and shift downward. Each firm will produce more and charge a lower price.

IIT: Empirical Evidence


IIT between two countries will be high if: per-capita incomes are high differences in levels of development are low the average of the countries GDP is high barriers to trade are low the two countries share a common language or border. if the countries are part of a preferential trade agreement (PTA) the level of product differentiation within sectors is high transaction costs are low trade barriers for the industry are low scale economies are present.