The Economic Environment

Lecture-3

Prepared by Ing. Ahmed Ameen Mohamed, Mandhu College 2020

Chapter Objectives

 Learn differences among the world’s major economic systems

 Learn criteria for dividing countries into economic categories
 Discuss economic issues that influence international business
 Assess the transition process for market economies

Prepared by Ing. Ahmed Ameen Mohamed, Mandhu College 2020

 Introduction
 Managers need to understand economic environments to predict
trends that might affect their company’s performance.

 A country’s economic policies are a leading indicator of the

government’s goals and its planned use of economic tools and
market reforms.

 The subject of economic development is important to citizens,

managers, policymakers, and institutions,

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Economic Issues for International
Businesses

 What type of economic system does the country have?

 What is the size, growth potential, and stability of the
market?
 Is the company’s industry in that country’s public or
private sector?
 If public, does the government allow private competition?
 If private, is it moving towards public ownership?

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Economic Issues for International Businesses,
cont..

 Does the government view foreign capital as competition with

or in partnership with public or local private enterprises?
 How does the government control the nature and extent of
private enterprise?
 How much of a contribution is the private sector expected to
make in assisting the government formulate overall economic
objectives?

Prepared by Ing. Ahmed Ameen Mohamed, Mandhu College 2020

Key Economic Forces
 General economic framework
 Economic size and stability
 Existence and influence of capital markets
 Factor endowments
 Indicators
 Growth
 Inflation
 Surpluses
 Deficits
 Market Size
 Availability of economic infrastructure

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 Factor Conditions

 Inputs to the production process

 Human resources
 Physical resources
 Knowledge
 Capital
 Infrastructure
 Factor conditions are especially critical for the
production of goods

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Demand Conditions

 Market potential
 Composition of home demand (nature of buyer needs)
 Size of home demand
 Growth of home demand
 Internationalization of demand
 Demand conditions are
especially critical for
market-seeking
investments

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Gross National Income/product
 Tool to measure one country against another
Size
Demand
 Gross National Income (formerly the Gross
National Product)
 GNI is the market value of final goods and services newly
produced by domestically owned factors of production.
 Countries with high populations and high per capita GNI
are most desirable in terms of market potential

Prepared by Ing. Ahmed Ameen Mohamed, Mandhu College 2020

Gross Domestic Product

 GDP: the value of production that takes place

within a nation’s borders, without regard to
whether the production is done by domestic or
foreign factors of production
 Example -
Both a Ford and a Toyota manufactured in the
United States counts towards US GDP.
A Ford produced in Mexico would not.

Prepared by Ing. Ahmed Ameen Mohamed, Mandhu College 2020

Importance of Per Capita GNI
Common Name Per Capita GNI ($) World Bank Category

Developing/Emerging 755 or less (in 2000) Low Income

Country
Developing/Emerging 756-2,995 Lower Middle Income
Country
Developing/Emerging 756-9,265 Middle Income
Country
Developing/Emerging 2,996-9,265 Upper Middle Income
Country
Developed/Industrial 9,266 or more High Income
Country
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2020
Purchasing Power Parity

 PPP is the number of units of a country’s currency

required to buy the same amounts of goods and
services in the domestic market that $1 would buy
in the United States
 PPP is a useful measure since it accounts for
international differences in price
Example: China has a higher PPP than Japan

Prepared by Ing. Ahmed Ameen Mohamed, Mandhu College 2020

Countries
Classified by
Region

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Human Development
A country’s degree of human development , in terms of both economic
and social factors, us studied in order to estimate its current and future
economic activity.

Complementing economic indicators by also analyzing the overall

quality of life in a country.

The Human Resource Index:

 Longevity: life expectancy at birth.
 Knowledge: adult literacy rate and primary, secondary and tertiary
gross enrollment ratio.
 Standard of Living: GNI per capita measured expressed in PPP.
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Features of an Economy
1. Inflation: the pervasive and sustained increase in the
aggregate level of prices as measured by a cost of living
index.

 Results when aggregate demand grows faster than

aggregate supply (too many people trying to buy too few
goods; prices increase faster than incomes)
 High inflation leads to:
- setting higher interest rates
- Installing wage and price controls
- Imposing protectionist trade policies and currency controls.

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 The Consumer Price Index (CPI) measures the average change in
consumer prices over time in a fixed market basket of goods and
services.

2. Unemployment: represents the number of workers who want to work

but do not have jobs.

 The unemployment rate is:

The number of unemployed workers /
The total civilian labor force (all those wiling and able to work for pay)

 The Misery Index: the sum of a country’s inflation and

unemployment rates.

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3. Debt: the sum total of a government’s financial obligations.

The state’s borrowing from its citizens, from foreign organizations, from
foreign governments, and from international institutions.

Internal Debt: is the portion of the government debt that is denominated in

the country’s own currency and is held by domestic residents.

External Debt: is the portion of the government debt that is denominated in

foreign currencies and is owed to foreign creditors.

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 Heavily Indebted Poor Countries (HIPCs)

Poor countries with large debts that are the target of initiatives to
alleviate the severe external debt burdens of less developed
countries, as a means of assisting their development.

4. Income Distribution: describes what share of a country’s

income goes to various segments of the population (each
segment’s share of GNI per capita).

5. Poverty: the state of having little or no money, few or no

material possessions, and little or no resources with which to
enjoy a reasonable standard of living.

Prepared by Ing. Ahmed Ameen Mohamed, Mandhu College 2020

Poverty
Globally, the world is:
 78% poor (ppp per capita less than $3479);
 11% middle income;
 11% rich (ppp per capita more than $8000)

6. The Balance of Payments:

Officially known as the Statement of International Transactions,
and records a country’s international transactions among
companies, governments, and/or individuals.

Reports the total of all money flowing into a country minus all
money flowing out of that country to others, during a given
period.

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The two primary accounts under the Balance of Payments:
a. The Current Account: tracks all trade in goods and services, as well as
income from assets abroad.
b. The Capital Account: tracks transactions in real or financial assets
between countries, as well as loans given to foreigners and loans
received by citizens.

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Countries Classified by Economic System

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 An Economic System is the set of structures and
processes that guides the allocation of scarce resources
(ownership of resources), and shapes the conduct (degree
of control) of business activities in a nation.
 Market Economy: resources are primarily owned and
controlled by the private sector, not the public sector.
Consumer sovereignty is the right of consumers to
decide what to buy
Prices are determined by supply and demand

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Free-market (capitalistic) economies
are built upon:
 The private ownership and control of the factors of
production.
 Freedom of market entry and exit.
 Determination of prices according to the laws of supply
and demand.

The Laissez-Faire Principle

• Non-intervention by government in a country’s
economic activity.
• Results in effective and efficient allocation of
resources

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Economic Freedom, con’t

 Command Economy (Centrally Planned

Economy): all dimensions of economic activity,
including pricing and production decisions, are
determined by a central government plan
Government owns and controls all resources
Prices are determined by government

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 Mixed Economy: Some degree of government ownership and
control
 Economic decisions are largely market-driven and ownership is
largely private.
 Government intervenes in in many economic decisions.
 No economy is purely market or command
 Economic systems are along a spectrum of freedoms
 Most command economies are moving towards a market
economy

Prepared by Ing. Ahmed Ameen Mohamed, Mandhu College 2020

 Central Planning Systems
v.
Consumer Sovereignty

The success of the transition process depends on: -

Government’s ability to liberalize economic activity.
Reform business practices.
Establish appropriate legal and institutional frameworks.

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1. Privatization: the sale and/or legal transfer of
government-owned resources to private individuals.

Benefits: -
 Reduces government debt.
 Increases market efficiency.
 Private enterprises must compete in open for materials,
labor, and capital; thus, they succeed or fail on their own
merits.

2. Deregulation: the relaxation or removal of restrictions on the

free operation of markets and business.

Prepared by Ing. Ahmed Ameen Mohamed, Mandhu College 2020

Benefits:
 Allows businesses to be more productive and, thus, make
investments in the innovations and activities that can lead to
economic growth.

3. Property Rights: The protection of tangible and intangible

property rights permits individuals to enjoy the benefits of their
accomplishments.

4. Fiscal and Monetary Reform: Adopting market-oriented

instruments such as interest rates and taxation policies, in order to
achieve stability, reduce unemployment and inflation, which will
attract investments needed for growth.

Prepared by Ing. Ahmed Ameen Mohamed, Mandhu College 2020

 Economic Factors International
Businesses Must Address

 Inflation
 Surpluses
 Deficits
 Balance of Payments
 External Debt
 Internal Debt
 Privatization

Prepared by Ing. Ahmed Ameen Mohamed, Mandhu College 2020

Physical & Societal Influences

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 The END

Prepared by Ing. Ahmed Ameen Mohamed, Mandhu College 2020