International Business

Chapter Four
Economic Systems and
Market Methods
Chapter Objectives
4-1 Explain the value of economic analysis
4-2 Differentiate the types of economic
environments
4-3 Explain the idea of economic freedom
4-4 Differentiate the types of economic systems
4-5 Interpret indicators of economic
development, performance, and potential
4-6 Profile elements of economic analysis

4-2
Introduction
All countries differ in terms of:
-levels of economic development
-economic performance
-economic potential

A firm’s managers must understand the economic

environments of those countries in which it
operates, as well as those of countries in which it does
not, in order to predict how trends and events the
world over will likely affect firm performance.

4-3
Emerging Economies

4-4
Key Economic Forces

• The general economic framework of a

country
• Its degree of economic stability
• The existence and role of capital markets
• The presence of factor endowments
• Market size
• The existence of economic infrastructure

4-5
Factor Conditions
Factor conditions: a nation’s inputs into the
production process, such as human,
physical, knowledge, and capital
resources and infrastructure

Not only is it difficult to specify a definitive set

of economic indicators that precisely assess the
performance and potential of a nation’s economy,
but it is also difficult to understand the systematic
relationship of one variable to another.

4-6
Fig. 4.1. Physical and Societal
Influences on
International Business

4-7
Gross National Income
Gross national income (GNI): the market
value of all final goods and services
produced by a country’s domestically-
owned firms in a given year
ECONOMIES RANKED BY 2019 GNI [$US MILLIONS]

4-8
Map 4.2: The World’s Wealth
Measured in Per Capita GNI

4-9
Purchasing Power Parity
Purchasing Power Parity: the number of units
of a country’s currency required to buy the
same amount of goods and services in the
domestic market that one unit of income
would buy in another country.

Purchasing power parity [PPP] is estimated by calculating

the value of a universal “basket of goods” that can be
purchased with one unit of a country’s currency.
4-10
Map 4.3: The World’s Wealth Measured in
Terms of Purchasing Power Parity

4-11
The Human Development Index

• Is designed to capture long-term progress

rather than short-term changes
• Measures longevity, knowledge (adult
literacy rates), and standards of living
• Combines indicators of real purchasing
power, education, and health
The human development index provides a more
comprehensive measure that incorporates both
economic and social variables.

4-12
The Human Development Index

4-13
Second-order Indicators of Economic
Development and Potential
• Inflation
• Unemployment rate
• Debt
– Internal
– external
• Income distribution
• Poverty rate
• Balance of payments
The Consumer Price Index (CIP) measures the average change
in consumer prices over time in a fixed market basket of goods
and services; the misery index represents the sum of a
country’s inflation and unemployment rates.
4-14
The Balance of Payments
• reports the total of all money flowing into a
country less all money flowing out of that
country to any other country during a given
period of time
• records a country’s international transactions
amongst companies, governments, and/or
individuals during a given period of time
The Balance of Payments [BOP] is officially known as
the Statement of International Transactions.

4-15
The Balance of Payments:
Key Components
• Current Account
– Value of merchandise exports and imports
– Value of services exports and imports
– Value of income receipts and payments
– Net value of unilateral transfers
• Capital Account
– Value of capital inflows and outflows
– Value of financial inflows and outflows
– Net change in official reserve assets
4-16
Surpluses and Deficits

• A trade surplus indicates that the value of

exports exceeds the value of imports.
• A trade deficit indicates that the value of
imports exceeds the value of exports.

Trends in balance of payments data can reveal

important strategic implications with respect to a
country’s economic environ- ment and
potential economic policies.

4-17
Economic System Defined
Economic system: the set of structures and
processes that guides the allocation of
scarce resources and shapes the conduct
of business activities in a nation

Spectrum of Economic Systems

Centrally-planned Free-market
N. Korea China Brazil Japan USA
Cuba Russia India Germany Canada
Vietnam S. Korea France UK

4-18
Types of Economic Systems
• Market Economy: a free-market (capitalistic)
economy built upon the private ownership and
control of the factors of production
• Command Economy: a centrally-planned
economy built upon government ownership
and control of the factors of production
• Mixed Economy: an economy in which
economic decisions are largely market-driven
and ownership is largely private, but significant
government intervention is still evident

4-19
Fig. 4.3: Relationships between the
Control of Economic Activity and the
Ownership of Production Factors

4-20
The Economic Freedom Index
• approximates the extent to which a government
intervenes in the areas of free choice, free
enterprise, and market-driven prices for reasons
that go beyond basic national needs
• classifies countries as:
-free
-mostly free
-mostly unfree
-repressed

4-21
The Economic Freedom Index:
Determining Factors
• Trade policy
• The fiscal burden of the government
• The extent and nature of government intervention
• Monetary policy
• Capital flows and investment
• Banking and financial activities
• Wage and price levels
• Property rights
• Other government regulation
• Informal market activities
4-22
Map 4.6: GDP Per Capita
Growth Rate

4-23
Economic Transition
The shift from a command or mixed economy to
a freer market economy largely depends on a
government’s ability to:
-dismantle features such as central planning
-create features such as consumer sovereignty.

The success of the transition process depends

upon the government’s ability to liberalize
economic activity, to reform business practices,
and to establish legal and institutional frameworks.

4-24
Policies That Shape the
Economic Transition Process
• Privatization: the sale and/or legal transfer of
government-owned resources to private
individuals and/or entities
• Deregulation: the relaxation or removal of
restrictions on the free operation of markets
and business practices
• Property rights: the protection of real (tangible)
and intellectual (intangible) property
[continued]

4-25
• Fiscal and monetary reform: the reliance upon
market-oriented instruments to achieve
macroeconomic stabilization, the setting of
strict budgetary limits, and the use of market-
based policies to manage the money supply
• Antitrust legislation: laws designed to maintain
and promote market competition, i.e., to
prohibit the anticompetitive behavior of
monopolies

4-26
Fig. 4.4: Reforms and
Economic Progress

4-27
Implications/Conclusions

• The benefits of doing business in a given

country are directly influenced by the size
of the market, the wealth of consumers,
and the openness, the stability, and the
growth potential of the economy.
[continued]

4-28
• The power of economic analysis is a
function of identifying the best possible
indicators and then understanding how
they work both in isolation and
interactively.
• The type of economic system is a strong
predictor of a nation’s present economic
performance and its future economic
prospects.
4-29