The Issues Associated with Liberalizing Trade by Multinational Corporations - Literature review Example

SUMMARY The developing countries stand to gain the maximum from trade liberalization but such benefits evoked mixed reaction. The developing countries face economic policy conditions against the financial aid granted by the World Bank and the IMF. While China and India emerged successfully and made a place for itself in the world economy, sub-Saharan Africa lagged behind due to restrictive economy and political instability. While developed countries like the US gains $1 trillion from globalization, it causes economic insecurity amongst the working class. Liberalization has impacted all nations in terms of economic growth, poverty and productivity. Consequently, the MNCs, while entering a new market, especially the developing nations have to implement through well-planned strategies. Table of Contents 1. Introduction 3 2. Issues in Liberalization 4 2.1 Economic Growth 5 2.2 Improved Productivity 8 2.3 Poverty Reduction 10 3. The implication of liberalization on MNCs 11 4. Discussion 12 5. Conclusion 14 References 16 INTRODUCTION Integrating into the world economy has resulted in economic growth, poverty reduction, and development across nations (IMF, 2001). Income and simultaneously the living standards too have increased due to progressive reduction of tariffs and quotas through successive rounds of multilateral trade liberalization. Liberal trade policies, incentives, growing foreign direct investment (FDI), advancement in information technology and communication have all stimulated the process of globalization (Lee & Tai, 2006). World FDI inflows have risen in the last two decades, specially in the last decade when it went up by 4 times of the amount in the previous decade. It peaked to $1,392 billion in 2000 but then fell sharply by around 50 per cent to $651 billion in 2002 (Bitzenis, 2005). The increase of FDI upto 2000 was largely due to liberalized trade policies, removal of barriers, growth in the telecom industry, mergers and acquisitions, cross-border transactions and globalization. The decrease was due to slowdown in world economy but this slow down accelerated the world restructuring process. The developing nations benefitted the most as trade between the developing countries increased along with exports from developing to developed countries. Because of economic slowdown, lower demand, and intense competitive pressures in developed countries, the multinational corporations were forced to look at cheaper locations (Bitzenis). As a result, growth was higher in developing countries than the developed countries. Participation in global trade attracted FDI in developing countries. China and India in particular, embraced the trade reforms and liberalization. At the same time, countries in Africa and Middle East have been slow in making progress. This has led some economists to believe that policies like trade liberalization and privatization are the root cause of lack of development. The objective of this paper is to assess the benefits and costs of trade liberalization in China and India on one hand, and in countries of Africa on the other. This paper would further assess the benefits that developed nation like US has derived and how trade liberalization had an impact on the strategies and operations of multinational corporations. Issues in liberalization The benefits of trade liberalization evoke mixed reaction. The three main issues that liberalization is believed to have impacted are sustained economic growth, reduction of poverty, and increase in productivity. Some argue that trade liberalization in poor economies may have a detrimental effect on growth while others claim that it can actually increase the overall domestic productivity through several channels (Topalova, 2004). According to some, domestic firms may be unable to successfully adapt foreign technologies to local methods of production. Besides, they also face credit constraints that prevent expansion of industries. IMF argues that trade liberalization alone can lead to sustained growth and reduction in poverty. Sounder economic policies result is faster economic growth. Reports by UNCTAD and UNHDR evidence otherwise. Shiva (2005) is of the firm conviction that trade liberalization does not lead to development. “Aid for Trade” is merely a coercive imposition of trade liberalization by WTO, the World Bank, and IMF. These tactics enable the MNC’s to expand and enlarge in every sector - agriculture, services, manufacturing. Development should be endogenous and not imposed with conditions. Every nation should be assisted to evolve its economy from within, which alone can give it sustenance. Economies that develop due to external factors are highly sensitive to world markets. The implications of liberalization on economic growth, reduction of poverty, and increase in productivity, in China, India, and African countries would be discussed here. Economic Growth According to Wacziarg and Karen Horn Welch of the Stanford Institute for International Studies, an open trade policy fuels a countrys economy — on average by about 1.5 percentage points per year (SGSB, 2004). The economic success of East Asia is solely because of trade opening where the average import tariff fell from 30 percent to 10 percent over the past 20 years (IMF, 2001). Further reports indicate that only 33 of 130 developing countries increased growth by more than 3% per capita between 1980-1996 while the GNP per capita of 59 countries has declined. According to UNCTAD (1997), wage inequalities have increased in almost all countries that have undertaken trade liberalization. (cited by WTO, n.d.). Investment climate improve substantially in India, China and Uganda (IFSL, 2005) which resulted in reduced poverty. FDI in China averaged over $40 billion a year and was the major driver of growth and they embraced a broad program of improvements. The role of multinationals is enhanced because they provide the funds, jobs and the technical expertise to the host country. India relaxed licensing requirements and introduced reforms to reduce tariffs. Those with fastest growth rates achieved the greatest reduction in poverty. Uganda despite being a small country could achieve macroeconomic stability. Trade barriers were reduced and competition and privatization introduced in telecommunications. These led to doubling in private investment’s share of GDP in China, India, & Uganda. The per capita GDP increased ten-fold in China, four times in India, and 50% in Uganda when in the sub-Saharan Africa as a whole, the rise was negligible (IFSL). Trade liberalization has cost sub-Saharan Africa US$272 billion over the past 20 years (AfricaFocus, 2005) but according to IFSL (2005), privatized companies have replaced inefficient subsidized state-owned enterprises. This has caused improved access to services and generated rise in wages. Debt relief came with strings attached to it and net effect was nil. Due to liberalization, imports became cheap in sub-Saharan Africa and the farmers were no longer able to sell their products. Domestic factories shut down rendering local people jobless. A study of the impact of liberalization in 32 countries (most in Africa but some in Asia and Latin America.) revealed that imports rose faster than exports. This resulted in quantifiable losses in income for some of the poorest countries of the world. There was no significant increase in exports from the sub-Saharan African countries. Trade liberalization led to reduced productivity and thereby lower incomes. A few countries in Africa have increased their GDP over the past 20 years, but there are more poor people in sub-Saharan Africa now than 20 years ago (AfricaFocus). Tomato production fell from 73,000 tonnes in 1990 to just 20,000 tonnes in 1997 in Senegal, which used to provide good living to the farmers but after liberalization many farmers were left without a cash crop. Kenya was badly hit in cotton framing and textile production while rice imports in Ghana climbed to 314,626 tonnes per year following trade liberalization. Employment in the manufacturing sector showed decline in Ghana, Zambia, and Malawi (AfricaFocus). For the developed countries like America, the benefits of trade liberalization provide substantial gains to both American consumers and companies (Ahearn, 2005). Cheaper imports forces the local companies to lower their operating costs, thereby benefiting the end consumer. Competition in domestic markets leads to innovation, increases in labor productivity and long-term growth. At the same time, exports grow due to better access to foreign markets, which increase employment in sectors that pay wages higher than average wage. The US economy gains about $1 trillion from globalization (Ahearn). Liberalization and benefits always come with a cost, economic and political costs. Domestic industries have to face closures, which negatively impact the wages in certain sectors. Besides, globalization has led to US trade deficits due to China emerging as the world manufacturing power and India becoming attractive for outsourcing. This has cost the local people their white collar jobs. The working class in America suffers from economic insecurity due to the attempt to accelerate economic integration (Ahearn, 2005). Improved productivity The developing countries stand to gain the most from trade liberalization. Opening up economies gives developing nations competitive advantage in selling their products and services overseas. It leads to improved productivity in domestic industries, which translates into efficient allocation of resources and overall output (Topalova, 2004). India’s trade policy was restrictive and protected. The process of liberalization began when the focus shifted towards exports in 1980. Macroeconomic imbalances, like the fiscal and balance of payments deficits rose. When India received financial assistance from IMF in 1991 to meet external payments, it was based on the condition that India would undergo structural reforms and trade liberalization. Radical changes took place in government policies. Import-export restrictions were eased, tariffs reduced and consequently there was increase in firm-level productivity. Average tariffs fell from more than 80 percent in 1990 to 37 percent in 1996. The economy reacted positively and the ratio of total trade to GDP rose from an average of 13 percent in the 1980s to nearly 19 percent of GDP in 1999/00 (Topalova). Reduction in trade protection led to higher productivity. Trade liberalization in India caused increased efficiency among firms. Trade policies can affect productivity but it is more evident in private firms as government organizations do not face budget constraints. At the same time, they continue to run even in loss against stiff competition (Topalova). Reduction of poverty IMF (2001) further reports that absolute poverty declined by over 120 million (14 percent) between 1993 and 1998 in countries with open economies. Between 1990 and 2001 the number of people surviving globally on incomes of less than $1 a day fell by 130m from 1.22bn to 1.09bn (IFSL). They have experienced faster growth and more poverty reduction as free trade led to higher incomes amongst the poorer section of the people. More job oppurtunities led to increased standards and improved the status to middle class. Liberalizing their own markets also has led to economic growth in developing countries. According to Moore (2002), 35% of the people in the developing countries were starving in 1970, which fell to 18% in 1996 and the UN expects this to fall to 12% by 2010. Number of people in absolute poverty declined by over 120 million between 1993 and 1998, which evidences that globalization and trade liberalization has been good and effective. In Asia, those on less than $1 a day halved from 30% to 15% in East Asia and fell by a quarter from 41% to 31% in South Asia. In Latin America, those in extreme poverty fell by 10% while in sub-Saharan Africa it rose from 44% to 46%. The reduction in extreme poverty was supported in East and South Asia by fastest growth rates in GDP per capita: these averaged 5.9% a year in East Asia and 3.6% a year in South Asia between 1990 and 2003 (IFSL). There was a moderate decline in poverty even in Latin America. At the same time, United Nations Human Development Report (1999), the gap between the richest and the poorest has doubled between 1960 and 2000 (cited by WTO, n.d.). Implications of trade liberalization on MNCs Multinationals, before venturing into a foreign market have to take into consideration various factors like the macro environment, which include government regulations and policies and demographics. Other complexities and uncertainties include the consumer behavior. Apart from these, three major issues require careful planning before venturing into another region, which include the right marketing mix, sourcing of the product and investment decisions (Qdi). MNCs face threat from smaller firms. They have to be innovative and change to the local market conditions. They must be able to identify strategically important industries. Setting up joint ventures in China has several advantages as seen by Gross (1995). Joint ventures help the MNC gain access to the domestic market while still maintaining control over its activities. Under joint ventures, foreign investors gain from the reasonably well educated low cost labor available in emerging economies. The host country government extends support in all matters like foreign exchange and tax exemption. Multinationals have to face anti-corporate and anti-establishment sentiments triggered by the civil societies in the host country (Savitsky & Burky, 2004). There is a general assumption that liberalization trade benefits big business houses at the cost of the consumers. They do not take into consideration the boost that it gives to the development of the local economy. The power of MNCs is kept in check by the national governments. Discussions Recent studies indicate that it is now the microeconomic factors like management of the firm which determine success rather than the macroeconomic reasons (Savitsky & Burky). This is because of the increasing role of international trade, improved managerial techniques, and supply chain management. China and India too advantage of liberalization despite the conditions imposed by the financial institutions. According to Shiva (2005), the economy should evolve from within but to get into the stream, to emerge and compete in the world market, financial and technological aid is essential for the poor countries. This is precisely where China and India benefited while sub-Saharan Africa lagged behind. As the research by SGSB (2004) suggests, other changes can boost the economy, which makes it difficult to isolate the effects of trade liberalization. According to Rodrick (2000), for a country to develop and reduce poverty, many other reforms are essential apart from trade reforms (cited by Anderson et al., 2001). To derive benefits from liberalized trade, economic and political stability of the nation is essential. This can attract FDI and promote competition. In the sub-Saharan economies, the volatility of investments had raised the risks associated with future investment decisions (IFSL). Besides, the government had not been fast in introducing new technologies in the domestic markets and in providing capital or subsidies to the farmers for growth and expansion. As a result, the farmers and the local produce lag behind in quality. Those African countries which resolve conflicts attained political stability. While Zimbabwe suffered, Mozambique, Uganda and Rwanda showed improved economic performance. Anderson et al., (2001) suggest some developing countries could not maximize benefits of trade liberalization, as their protection level remained high. Economic growth is the key to alleviation of absolute poverty. Evidence suggests open economies create the resources to raise income. Finally, a lot depends upon what trade reforms are used, who the poor are and to what extent they are able to sustain themselves. While the benefits of trade liberalization are evident, the costs too have to be considered. Despite aids from international financial institutions, the local government too would have to fund some reforms before the actual benefit is visible. The MNC should have comprehensive technology to meet international quality. Conclusion Trade liberalization has benefitted the developing nations far more than the developed nations. Opponents of trade reforms feared rise in unemployment due to increased competition but statistics show otherwise. China and India opened up their economies, accepted reforms and relaxed licensing in several sectors leading to faster growth and reduced poverty. While critics carry a different opinion, the emerging economies in these two countries are sustainable. Trade liberalization leads to efficiency and higher productivity as competition forces companies to bring in innovation and reduce prices. Economic and political stability of the country is very significant in implementing reforms. The growth is developed nations is slower but within the developed country the consumers benefit as markets open up to competition. At the same time, the worker class suffers due to loss of jobs to other nations. Opportunities and risks are equal in entering a foreign market and both have to be weighed cautiously before venturing into a partnership. Competition in a growing economy is healthy but strategies have to be formulated accordingly. Multinational corporations can raise efficiency, facilitate integration with overseas market, and bring new technologies and management methods but the vast potential has to be recognized by the policy makers. All nations can gain from MNCs as they have huge funds and cutting-edge technology to offer to the developing nations. Hence, benefits of trade liberalization cannot be overlooked. Without risks, economic growth, poverty reduction, and increase in per capita income would remain a dream but the country should be able to provide the right economic and political environment. 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