International

Business & Practices

INTERNATIONAL
BUSINESS & PRACTICES

VIRAG SHAH
MBA SEM 2

 International Business & Practices

Q.1. Elaborate in detail role of international banks in

international trade finance. Give examples.
Definition:
Trade financing is the provision of any form of financing that enables a trading activity to
take place and which may be made directly to the supplier, to facilitate procurement of
items for immediate sale and/or for storage for future activities, or it could be provided to
the buyer, to enable him meet contract obligations.

Importance of Trade Finance

The availability of trade finance, particularly in developing and least-developed
countries, plays a crucial role in facilitating international trade.
Exporters with limited access to working capital often require financing to process or
manufacture products before receiving payments.
Conversely, importers often need credit to buy raw materials, goods and equipment
from overseas.

The Role played by a Commercial Bank

Provide Information to buyers and sellers (advisory role)
Settlements for Trade Transactions
Provide Financing
Manage currency risks
Take market risks

Provide Financing
Working capital loans or overdraft, term loans.
Issuing Bank Guarantees
Issuance of Letters of credit (L/Cs)
Accepting and Confirming Letters of Credit
Discounting Export documents
Structured finance

pg. 2

 International Business & Practices

Q.2. What is Country Risk? How it affects investment decision

of MNCs?

Country Risk
WHAT IT IS:

Country risk is the risk that a foreign government will default on its bonds or other financial
commitments. Country risk also refers to the broader notion of the degree to which political
and economic unrest affect the securities of issuers doing business in a particular country.

HOW IT WORKS (EXAMPLE):

Let's assume that you are considering purchasing either a bond issued by the government of
Canada or a bond issued by the government of Nigeria. Both governments intend to use
the funds for similar projects. Which bond is more likely to default? That depends in part on
your assessment of country risk.

Political and economic instability are two of the biggest reasons countries default on
their bonds, so the question of determining country risk is at least partially a matter of
comparing these factors for Canada and Nigeria. Analysts scrutinize tax systems, the
influence of certain political parties, evidence of corruption, inflation rates, education
systems, demographics, and a wide variety of other factors to determine and predict
sources of instability.

WHY IT MATTERS:

Country risk is a concern because political and economic unrest create volatility. In turn,
investors demand higher returns as compensation for this added risk. As you can imagine,
Canada would have much less country risk than Nigeria, but in exchange for this peace of
mind, Canadian bonds will yield less than the Nigerian bonds. As a result, the presence and
degree of country risk makes it more expensive for many emerging economies or struggling
countries to borrow money.

Why Country Risk Analysis Is Important?

Country risk is the potentially adverse impact of a countrys environment on an
MNCs cash flows.
MNCs can also use country risk analysis as a screening device to avoid conducting
business in countries with excessive risk.
Country risk analysis is an ongoing process.

pg. 3

 International Business & Practices


Political Risk Factor
v Attitude of consumers in the host country
v Actions of host government
v Blockage of fund transfers
v Currency inconvertibility
v War
v Bureaucracy
v Corruption

Financial Risk Factors
v Interest rates
v Exchange rates
v Inflation

Techniques to Assess Country Risk
1. Checklist Approach.
2. Delphi technique
3. Quantitative analysis
4. Inspection visits
5. Combination of techniques

pg. 4

 International Business & Practices

Q.3. Write a short notes on

1.) FDI & FII

Foreign direct investment: - Foreign direct investment (FDI) is an investment in a business by
an investor from another country for which the foreign investor has control over the
company purchased. The Organization of Economic Cooperation and Development
(OECD) defines control as owning 10% or more of the business. Businesses that make
foreign direct investments are often called multinational corporations
(MNCs) or multinational enterprises (MNEs). A MNE may make a direct investment by
creating a new foreign enterprise, which is called a greenfield investment, or by the
acquisition of a foreign firm, either called an acquisition or brownfield investment

Foreign institutional investor: - A foreign institutional investor (FII) is an investor or fund
registered in a country outside of the one in which it is investing. Institutional
investors most notably include hedge funds, insurance companies, pension
funds and mutual funds. The term is used most commonly in India and refers to outside
companies investing in the financial markets of India.

2.) WTO

The World Trade Organization came into being in 1995. One of the youngest of the
international organizations, the WTO is the successor to the General Agreement on Tariffs
and Trade (GATT) established in the wake of the Second World War.
So while the WTO is still young, the multilateral trading system that was originally set up
under GATT is well over 50 years old.
The past 50 years have seen an exceptional growth in world trade. Merchandise exports
grew on average by 6% annually. Total trade in 2000 was 22-times the level of 1950. GATT
and the WTO have helped to create a strong and prosperous trading system contributing to
unprecedented growth. The system was developed through a series of trade negotiations,
or rounds, held under GATT.
The first rounds dealt mainly with tariff reductions but later negotiations included other
areas such as anti-dumping and non-tariff measures. The last round the 1986-94 Uruguay
Round led to the WTOs creation.
The negotiations did not end there. Some continued after the end of the Uruguay Round. In
February 1997 agreement was reached on telecommunications services, with 69
governments agreeing to wide-ranging liberalization measures that went beyond those
agreed in the Uruguay Round.
In the same year 40 governments successfully concluded negotiations for tariff-free trade in
information technology products, and 70 members concluded a financial services deal
covering more than 95% of trade in banking, insurance, securities and financial information.
In 2000, new talks started on agriculture and services. These have now been incorporated
into a broader agenda launched at the fourth WTO Ministerial Conference in Doha, Qatar, in
November 2001.

pg. 5

 International Business & Practices

The World Trade Organization (WTO) is the only international organization dealing with the
global rules of trade between nations. Its main function is to ensure that trade flows as
smoothly, predictably and freely as possible.

The WTO can ...
cut living costs and raise living standards
settle disputes and reduce trade tensions
stimulate economic growth and employment
cut the cost of doing business internationally
encourage good governance
help countries develop
give the weak a stronger voice
support the environment and health
contribute to peace and stability
be effective without hitting the headlines

pg. 6

 International Business & Practices

3.) European Union

The European Union is a unique economic and political union between 28 European
countries that together cover much of the continent.
The EU was created in the aftermath of the Second World War. The first steps were to
foster economic cooperation: the idea being that countries that trade with one another
become economically interdependent and so more likely to avoid conflict.
The result was the European Economic Community (EEC), created in 1958, and initially
increasing economic cooperation between six countries: Belgium, Germany, France, Italy,
Luxembourg and the Netherlands. Since then, a huge single market has been created and
continues to develop towards its full potential.

From economic to political union

What began as a purely economic union has evolved into an organization spanning policy
areas, from climate, environment and health to external relations and security, justice and
migration. A name change from the European Economic Community (EEC) to the European
Union (EU) in 1993 reflected this.
The EU is based on the rule of law: everything it does is founded on treaties, voluntarily and
democratically agreed by its member countries.
The EU is also governed by the principle of representative democracy, with citizens directly
represented at Union level in the European Parliament and Member States represented in
the European Council and the Council of the EU.

Stability, a single currency, mobility and growth
The EU has delivered more than half a century of peace, stability and prosperity, helped
raise living standards and launched a single European currency: the euro. In 2012, the EU
was awarded the Nobel Peace Prize for advancing the causes of peace, reconciliation,
democracy and human rights in Europe.
Thanks to the abolition of border controls between EU countries, people can travel freely
throughout most of the continent. And it has become much easier to live, work and travel
abroad in Europe.

pg. 7

 International Business & Practices

The single or 'internal' market is the EU's
main economic engine, enabling most
goods, services, money and people to
move freely. Another key objective is to
develop this huge resource also in other
areas like energy, knowledge and capital
markets to ensure that Europeans can
draw the maximum benefit from it.

Human rights and equality
One of the EU's main goals is to promote
human rights both internally and around
the world. Human dignity, freedom,
democracy, equality, the rule of law and
respect for human rights: these are the
core values of the EU. Since the Lisbon
Treaty's entry in force in 2009, the EU's
Charter of Fundamental Rights brings all
these rights together in a single document.
The EU's institutions are legally bound to
uphold them, as are EU governments
whenever they apply EU law.

Transparent and democratic institutions
The enlarged EU remains focused on
making its governing institutions more
transparent and democratic. More powers
have been given to the directly elected
European Parliament, while national
parliaments play a greater role, working
alongside the European institutions. In
turn, European citizens have an ever-
increasing number of channels for taking
part in the political process.

pg. 8

 International Business & Practices
I
Q.4. Explain in detail comparative cost advantage theory.
Why it is superior to absolute advantage theory.

INTRODUCTION
u Countries engage in international trade for two basic reasons, each of which
contributes to their gains from trade.
1) Countries trade because they are different from each other. Nations, like
individuals, can benefit from their differences by reaching an arrangement in
which each does the things it does relatively well.
2) Countries trade to achieve economies of scale in production. That is, if each
country produces only a limited range of goods, it can produce each of these
goods at a larger scale and hence more efficiently than if it tried to produce
everything.
u In 1817, Ricardo published his Principles of Political Economy and Taxation, in which
he presented the law of comparative advantage. This is one of the most important
and still unchallenged laws of economics, with many practical applications.

The Law of Comparative Advantage
u According to the law of comparative advantage, even if one nation is less efficient
than (has an absolute disadvantage with respect to) the other nation in the
production of both commodities, there is still a basis for mutually beneficial trade.
The first nation should specialize in the production and export of the commodity in
which its absolute disadvantage is smaller (this is the commodity of its comparative
advantage) and import the commodity in which its absolute disadvantage is greater
(this is the commodity of its comparative disadvantage).
U.S.A. U.K.

Wheat (bushels/hour) 6 1
Cloth (yards/hour) 4 2
u United Kingdom now has an absolute disadvantage in the production of both wheat
and cloth with respect to the United States.
u U.K. labor is half as productive in cloth but six times less productive in wheat with
respect to the United States, the United Kingdom has a comparative advantage in
cloth. On the other hand, the United States has an absolute advantage in both wheat
and cloth with respect to the United Kingdom, but since its absolute advantage is
greater in wheat (6:1) than in cloth (4:2), the United States has a comparative
advantage in wheat.
u According to the law of comparative advantage, both nations can gain if the United
States specializes in the production of wheat and exports some of it in exchange for
British cloth and the United Kingdom is specializing in the production and exporting
of cloth.

pg. 9

 International Business & Practices

Gains from Trade

u United States would be indifferent to trade, if it received only 4C from the United
Kingdom in exchange for 6W, since the United States can produce exactly 4C
domestically by utilizing the resources released in giving up 6W. And the United
States would certainly not trade if it received less than 4C for 6W. Similarly, the
United Kingdom would be indifferent to trade if it had to give up 2C for each 1W it
received from the United States, and it certainly would not trade if it had to give up
more than 2C for 1W.
u Suppose the United States could exchange 6W for 6C with the United Kingdom. The
United States would then gain 2C (or save 1/2 hour of labor time) since the United
States could only exchange 6W for 4C domestically.
u The United Kingdom could instead use these six hours to produce 12C and give up
only 6C for 6W from the United States. Thus, the United Kingdom would gain 6C or
save three hours of labor time.

Comparative Advantage with Money
U.S.A. U.K.

Price of one bushel of wheat $ 1.00 $ 2.00

Price of one yard of cloth $ 1.50 $ 1.00
u Suppose that the wage rate in the United States is $6 per hour. Since one hour
produces 6W in the United States, the price of a bushel of wheat is Pw = $1. On the
other hand, since one hour produces 4C, Pc = $1.50.
u Suppose the wage rate in England is 1 per hour. Since one hour produces 1W in
the United Kingdom (See first Table), Pw = 1.00 in the United Kingdom. Similarly,
since one hour produces 2C, Pc = 0.5.
u The dollar price of wheat (the commodity in which the United States has a
comparative advantage) is lower in the United States than in the United Kingdom.
On the other hand, the dollar price of cloth (the commodity in which the United
Kingdom has a comparative advantage) is lower in the United Kingdom.
u With the dollar price of wheat lower in the United States, businesspeople would buy
wheat there and sell it in the United Kingdom, where they would buy cloth to sell in
the United States.

pg. 10

 International Business & Practices

Q.5. Define a multinational corporation. What are the

benefits of MNCs operating in developing countries from the
point of view of the host country?

u Multinational Corporations are huge industrial organisations which extend their
industrial and marketing operations through a network of their branches or their
Majority Owned Foreign Affiliates (MOFAs).
u MNCs are also known as Transnational Corporations (TNCs).
u Instead of aiming for maximization of their profits from one or two products, the
MNCs operate in a number of fields and from this point of view, their business
strategy extends over a number of products and over a number of countries.

Reasons For The Growth Of MNCs
1. Expansion of market territory :
u As the operations of a large-sized firm expand and as its international image builds
up, it seeks more and more extension of its activities beyond the physical boundaries
of the country in which it is incorporated.
2. Marketing Superiorities :
A multinational firm enjoys a no of marketing superiorities over the national firms :
u More reliable and up-to-date market information system.
u Enjoys market reputation and faces less difficulty in selling its products.
u More effective advertising and sales promotion techniques.
u Efficient warehousing facilities due to lower inventory requirements.
3. Financial superiorities :
u Huge Financial resources
u Maintains a high level of funds utilization by generating funds in one country and
using them in another.
u Easier access to external capital markets.
u Because of the international reputation it is able to raise more international
resources. Investors and banks are eager to invest in it.

pg. 11