Political science and international relations
International Trade is the oldest form and a central element of international economic relations, which link all countries into a single international economic system. Nowadays, high expenses on research and development became major feature of production of many industrial goods, which usually fosters the formation of large economic organizations. This trend has led to the emergence of multinational corporations (MNC) that own businesses in several countries. Emergence of those is a natural outcome of the development of global economy and international trade. History of world development shows that the process of internationalization and globalization of trade is the main prerequisite for the establishment of multinational corporations. That is why one of the goals of this essay is to specify main changes in international trade and impact of multinational corporations on it.
MNCs operate around the world, both in developed and developing countries. On one hand they contribute to the spread of technology and managerial expertise, as well as increase of employment in developing countries. However, on the other hand they exploit workers from third world countries and tend to apply political abuses in order to receive profit. Each country should minimize and overcome the difficulties that may arise from various activities of MNCs, taking into account United Nations resolutions intended to establish new international economic order. This can be achieved through the adoption of relevant laws and policies, actions and decisions by governments, as well as through cooperation. That is why the main argument of this essay is that government of each country should take into account compliance of MNCs' activities with main development and social objectives, as well as the social structure of the country. Therefore, each government should aim to protect interests of the state and its own nation as well as encourage positive contribution which multinational corporations can make to economic and social development of the country.
This essay proceeds as follows. First part focuses on three main theoretical perspectives of trade, such as free trade theory, infant industry argument, and national security argument. Second part of this essay concentrates on empirical perspective of international trade - existing organizations, trade barriers and regional trade agreements. Third, introduces readers to main changes in history after the World War II that effected international trade, such as progress of technology, increase of investments and spread of global policies around the world. Finally, the last section shows positive and negative effects that MNCs brought to particular countries and the whole world; and concludes by arguing that government should participate more in the interests of the whole country, rather than in the interests of a few people and in return, MNCs need to be brought under democratic control of international organizations.
There are several theoretical approaches to trade that differ in the way how international trade is organized around the world.
- Free trade theory
Free trade theory has been developed in the nineteenth century and remains most dominant doctrine on international trade. It argues that free trade is the best way to improve national welfare and that each country should specialize in producing those goods in which it is the best. In this case, each country would receive maximum benefits from its economic potential, as well as maximize wealth at a global level. (Ruigrok, Tulder, 1995, p.202-209)
Despite all the advantages of free trade, there are countries which have policies that limit trade in some sectors. Why would they do that, if free trade is entitled to assist the development? There are two main arguments for protecting local markets from opening it to free trade - infant industry argument and national security argument.
- Infant industry argument
Infant industries are those that are at an early stage of its development and are not strong enough to survive open competitiveness. Therefore, its supporters argue that protection should be provided to newly industrialized economies, inexperienced companies that lack the latest technology until they are strong enough to be able to compete on their own in domestic and international markets and benefit from comparative advantage. (Parson, 2006, p.114)
Economists are often criticizing such claims, mostly because the infant-industry argument is hard to implement in practice. To apply this protection successfully, government needs to know which industries will ultimately be profitable and make a decision whether profits after establishing those industries would exceed the costs for protection to consumers or not. Political process makes it even more complicated, because it often gives protection to those industries that are politically powerful. Unforeseen developments might also take place, which could prohibit industries to become competitive in a long term. And if industry becomes protected from foreign competition, temporary policies are at times hard to remove. (Mankiw, 2008, p.190-191)
- National security argument
National security argument is also known as national defense argument. It suggests that it is necessary to protect certain industries with tariffs, to assure sustained domestic production in case of unforeseen events, such as a war. Most important industries to warrant local protection are identified as agriculture or military equipment. Economists realize that this argument could be used by producers who seek to obtain customers. However, they agree that protecting key industries is important when there are legal concerns over national security. A nation cannot be dependent on other countries when it comes to its defense needs. (Mankiw, 2008, p.190-191)
The advantage of free trade is undeniable, because the structure of national resources and the level of technology in each country is different, each country can produce certain goods with different costs. The principle of comparative advantage causes the country to produce those goods for which production costs are lower than in other countries. At the same time free trade stimulates competition and limits monopoly. The final effect of all these factors is to stimulate economic growth. Despite the criticism of restriction policy on foreign trade, trade barriers still exist.
- Customs tariffs are taxes on imports that are levied on goods. There are two main types of tariffs: the fiscal tariffs used by state to increase the flow of cash resources; and the protectionist tariffs used by the state to protect national industries from foreign competition. Protectionist tariffs make foreign products more expensive than similar domestic ones, so that consumers prefer national products.
- Non-tariff barriers are instruments, other than custom duties, which limit international trade, such as restrictive rules and regulations on health and safety, quantitative restrictions, including licensing; subsidies and countervailing duties; and technical barriers or standards. (Hillman, 1996, p.7-9)
- Antidumping duties are obligatory penalties for low-priced imports, with the goal to increase their price in the importing country, and thus to protect local industry from unfair competition. Antidumping duties may act as strong protectionist measures. Imposing of those may lead to slowdown in the overall economic activities of a country. (Mah, Kim, 2006)
In order to create a fair trade and to be able to manage it, GATT has been established in 1948. GATT is a multilateral treaty that creates common rules of international trade agreements. When countries face trade barriers or need to support maintaining trade barriers — for example to protect consumers or prevent the spread of disease, GATT helps producers, exporters, and importers to conduct their business, while allowing governments to meet social and environmental objectives. In 1995 the WTO replaced GATT, as a result of eight years GATT negotiations. WTO consists of 125 member countries. There are five fundamental principles of WTO trading system, by which it seeks to achieve the liberalization of world trade:
- The principle of non-discrimination. The importance of this agreement is that if contracting party provides tariff concessions to one country, then, the same benefits should be applied to all other contracting parties. Imported goods and domestic products should be treated the same way.
- Freer trade. WTO is trying to gradually, through negotiation achieve freer trade by focused primarily on decreasing custom duties on imported goods.
- Predictability: through binding and transparency. A promise not to increase tariffs is called binding a tariff, which leads to greater certainty and confidence for businesses and contracting parties.
- Promoting fair competition. WTO expands and clarifies existing GATT rules, which were designed to ensure fair trade conditions. That system tolerates tariffs and some other forms of protection in limited case, such as dumping (exporting at lower price in order to expand market shares) and subsidies.
- Encouraging development and economic reform. GATT provisions to benefit developing countries are supported by WTO, in particular those encouraging industrialized countries to assist developing countries in trade. Developing world is given more time to adapt to complicated WTO provisions. Least developed countries are being provided even more benefits and flexibility from accelerated implementation of concessions on market access for their goods. (WTO, 2009)
Regional Trade Agreements (RTA)
In order to obtain more security for weak countries in accessing larger markets and to provide underpinning to strategic alliances, regional agreements were created. They can be custom units, such as EU, or free trade areas, such as NAFTA. (Whalley, 1998)
Regional Trade Agreements have grown significantly in the last decades. According to WTO there were 421 RTAs reported by the end of 2008. (WTO, 2009). Apart from the expansion in the number of agreements, current RTAs have broader network of participants and are distributed in different countries and at different levels of economic development. Regional trade agreements contribute to the development of MNCs and the economy as a whole by instruments such as tariff-cutting, agreements on special services, investments, intellectual property, and elimination of technical barriers on trade. On one hand, decreasing number of players in multilateral negotiations by creating RTAs could simplify the agreement process at the multilateral level. But on the other hand, some RTAs pose a threat to the multilateral trading system. Regional trade agreements help countries to ensure that they continue to gain access to world markets, as well as help to develop economy and provide additional employment in those countries.
Main changes in international trade
An important feature of the global economy after the WWII was the globalization of production and trade, and as a result, constantly growing interconnection and interdependence of all countries and regions in the world. In recent decades, these processes were accelerated due to scientific and technological progress, liberalization of foreign trade, and free exchange of information. Multinational corporations became one of the main actors of globalization's ideology, which contributed to the internationalization of economic activity: production, trade, finance, science and technology. Nowadays, MNCs have become unique leading and coordinating centers of production and exchange in the world economy. There are three main ways which helped to MNCs to promote economic growth: technology, investment and global policies.
Technological progress brings welfare effects on the nation as a whole and on specific production factors. Technological dissemination becomes a crucial issue in competitiveness of international trade. There is a huge link between the development of technology and development of MNCs. Due to the telecommunication and transportation development, rapid expansion of MNCs was achievable and after the World War II main trends were identified: price reduction and at the same time quality improvements due to competitiveness of the market; speed of reaction to market needs, as well as the speed of financial transactions and transportation has enormously increased; and more new unique and innovative products are appearing in the world market today. (Verhulst, 2001)
Foreign Investment is long-term cross-border expenditure in some sectors of the foreign economy or specific company outside the investing country, designed to reproduce capital; it is also classified as an export of domestic capital to other countries. There are two main types of foreign investments - foreign direct investment (FDI) and indirect foreign investments, known as portfolio investments. Portfolio investments stand for particular assets and products, such as capital and technology that are independently transferred between two economic agents through the market. In this case, control over the resources is overtaken by the buyer from the seller. And only financial resources are transferred to seller.
The growth of MNCs was partially caused by increasing levels of FDI. Foreign direct investment stands for “investment made outside the home country of the investing company in which control over the resources transferred remains with the investor. It consists of a package of assets and intermediate goods such as capital, technology, management skills, access to markets and entrepreneurship”. (O'Brien, Williams, 2007, p.176-180). FDI has grown dramatically as a major form of international capital transfer over the past decade, which helped MNCs to invest and rapidly expand to other countries. (Froot, 1993)
It is well-known that coming to the market of another country, multinational corporations bring their organizational principles, standards of doing business, communication, technical and technological standards, as well as know-how. Of course, sometimes multinational corporations have to consider local cultures, habits, behaviors and try to adapt to them in order to be successful. But in most cases, companies are trying to keep their “western” standards and those are usually more advanced and developed than local ones.
Employees of multinational corporations are able to see, adopt and learn from those companies. Due to this fact, local companies can adopt new technologies, know-how, management skills and other advanced ways of doing business. All of these consequently affect other companies inside of a country. Therefore, spillover effect occurs. Looking at this example, we can argue that multinational corporations may affect the whole country. It is hard to assess whether it is good or bad. On one hand, domestic firms are adopting new technologies and learning the latest achievements. People's lives are moving forward to modern life. However, on the other hand it can lead to the loss of local culture, people's habits and traditions. However, considering that multinational corporations bring modern technology and global standards into local economy, there seems to be more positive effects than negative ones.
Positive and negative effects of MNCs
It is well known that any activity in the world can carry both positive and negative effects. The MNC is not an exception; it can bring positive as well as negative effects on the host country's overall development.
MNC provides additional resources and opportunities such as capital, technology, access to markets, jobs creation and soft skills. Another big impact of MNC on economy is additional tax revenues through the increase of economic activity in the host country, resulting increase in GDP. Moreover, MNC help to advance economic growth by fostering more efficient division of labor and higher productivity, by better linking host economy with the global marketplace.
There are also some positive indirect effects, such as a spillover effect on local firms. MNCs are bringing skills and knowledge to a hosting country, for instance new management styles, new work cultures and more dynamic competitive practices. Even if MNC does not want to share this kind of knowledge there are still opportunities for local employees to gain skills by working and learning within a company. And after that, people tend to transfer these knowledge and skills to local firms. MNCs can also help upgrade the domestic resources and capabilities, and the productivity of local firms. Another way by which MNC can positively effect is by opening local economy to the political and economic systems of other countries.
Negative direct effects
First of all, MNCs usually receive low tax schemes from governments of host countries in order to attract them to the local market, which leads to lower tax incomes of the host country. Second big issue is that MNCs promote a division of labour that is likely to be in the company's interests and this can be damaging to the country's comparative advantage. MNCs tend to suppress local industries or resist to their expansion, due to the power and competitive advantages that MNCs receive. By doing so, they can also establish monopoly prices on the market.
Another huge negative effect is on the environment of developing countries, which became one of the most debated topics today. Relocation of environmentally risky industries from developed countries, and as a consequence the pollution of soil, water and air, followed by export of the biggest part of national income in form of profits is becoming a big problem in those countries that have opened their economies to MNC today. (O'Brien, Williams, 2007, p.182-183)
Government of each country should think of the ways to minimize and overcome issues that occur after opening their economies to MNCs. This can be achieved by implementing appropriate actions and decisions taken by governments and international organizations, as well as through cooperation. Each government should try to protect interests of the state and its nation, as well as promote positive effects that multinational corporations can bring to economic and social development of the country.
This essay argued that the influence of MNCs in the world economy is directly dependent on the development of trade in the world. Just as the impact of international trade directly depends on the expansion of MNCs. On one hand, MNC are the product of rapidly developing international relations. And on the other hand, they are a powerful mechanism for influencing international trade.
Fifty years ago, just a few hundred multinational corporations existed. Today there are over 65,000 of them, with about 850,000 foreign affiliates across the world. The main reason for emerging of MNCs is the internationalization of production and capital through the development of productive forces that are growing above national borders.
Cost-effectiveness due to the large scale of production in many industries and the need to survive in the trade competition promotes concentration of production and capital on international scale and that results possibility to reduce production costs and receive high profits.
Important role in the formation of multinational corporations belongs to government. It encourages MNCs to perform in their countries and provides them with markets by means of a different political, economic and trade benefits, such as international treaties and tax benefits. If people in developing countries suffer from the emergence of MNCs, it is partially a failure of its government. History shows, that while taking important decisions about the activities of MNCs, bribery and corruption takes place. Therefore, governments need to think about the future of a nation and long-term prospects, rather than thinking about few individuals and short-term profits. In return, MNCs should respect national sovereignty and laws of the host country and should not to provide benefits to public officials.
The other issue is that when government negotiates with a MNC, which is thinking to invest in its country, negotiations often end up in favour of the corporation. This raises questions whether corporate power destroys democracy. Therefore, I believe that we should re-think the way MNCs are developing and the power of their influence on countries. That is why, new international organization needs to set up, or reform is required in existing organizations, to oversee the regulation of multinational business, to ensure that its activities protect people's basic rights and contribute to poverty reduction and to economic growth globally.
- Winfried Ruigrok, Rob van Tulder (1995), ‘The logic of international restructuring' (Routeledge), pp. 202-209.
- Julie Parson, (2006) ‘Illustrated Dictionary of economics' (Lotus Press), p. 114.
- N. Gregory Mankiw (2008), ‘Principles of Economics' (Southwestern Cengage Learning), pp. 190-191.
- Jammye S. Hillman (1996), ‘Nontariff agricultural trade barriers revised', (University of Arizona), pp. 7-9.
- Mah, Jai S. - Kim, Yong Dae (2006), ‘Antidumping duties and macroeconomic variables: The case of Korea' (Elsevier Business Intelligence).
- WTO (2009) ‘Principles of the trading system'. http://www.wto.org/english/theWTO_e/whatis_e/tif_e/fact2_e.htm
- John Whalley, (1998), ‘Why do countries seek regional trade agreements' ‘The Regionalization of the World Economy' (University of Chicago Press).
- WTO (2009) ‘Regional trade agreements'. http://www.wto.org/english/tratop_e/region_e/region_e.htm
- Hans Verhulst (2001) ‘International Trade in Technology - Licensing of Know-How and Trade Secrets', Centre for Promotion of Imports from Developing Countries. http://www.wipo.int/sme/en/documents/trade_technology.htm#author1
- R. O'Brien, M. Williams (2007) ‘Global Political Economy: Evolution and Dynamics' (Palgrave Macmillian)
- Kenneth A. Froot, (1993), ‘Foreign Direct Investment', National Bureau of Economic Research.