managerial economics lecture 13 global alternative 02

7/27/2019 Managerial Economics Lecture 13 Global Alternative 02

1/47

Managerial Economics

Lecture Thirteen:

Alternative perspectives onglobalisation


2/47

Recap

Theory of comparative advantage

Appeals to economists because Fits within age-old paradigm of specialisation

Consistent with usual static equilibrium method

But fails as empirical model (a flop)

Some better recent results really test absoluteadvantage because drop factor price equalization

Dynamic model & analysis rejects zero tariff bias

This week: alternative (you guessed it!) Schumpeterian

theory Porters Competitive Advantage of Nations


3/47

Competitive Advantage

Direct attack on relevance of conventional economics:

Why do some nations succeed and others fail ininternational competition? This question is perhaps themost frequently asked of our times

Yet it is the wrong question We must focus instead

on another, much narrower one why does a nation become the home base forsuccessful international competitors in an industry?...

why is one nation often the home for so many of an

industrys world leaders? How can we explain why Germany is the home base for somany of the worlds leading makers of printing presses,luxury cars, & chemicals?

Why is tiny Switzerland the home base for international

leaders in pharmaceuticals, chocolate? (1)


4/47


Focus not on natural endowment (comparative

advantage) & broadly defined industries (labour-intensive, capital intensive) but

Innovation & very specific industries Luxury cars (Germany)

Ski boots (Italy) Mobile phones (Finland!)

Porters theory aware of recent economic trends:

The long-dominant paradigm is inadequate

the rise of the multinational corporation [has]weakened the traditional explanations of why and wherea nation exports (2)

Porter instead seeks to isolate the national attributesthat foster competitive advantage in an industry (3)


5/47


Dismisses other conventional explanations for trade Good macroeconomic policies?

Nations have enjoyed rapidly rising living standardsdespite budget deficits (Japan, Italy & Korea),appreciating currencies (Germany & Switzerland), andhigh interest rates (Italy & Korea) (3)

Cheap labour? The ability to compete despitepaying high wages wouldseem to represent a far more desirable national target.

Natural resources? Even within nations such as Korea, the United Kingdom,

and Germany, it is the resource-poor regions that areprospering relative to the resource-rich ones (4)

Government intervention? has occurred only in a subset of industries, and is far

from universally successful even in Japan and Korea.


6/47


Management style?

What is celebrated as good management practice inone industry would be disastrous in another. (4)

Labour relations? (An Australian favourite)

Unions are very powerful in Germany and Sweden,

with representation by law in management (Germany)and on boards of directors (Sweden) both nations contain some of the most internationally preeminentfirms and industries of any country. (5)

Rejects characterisation of nationsas competitive We must abandon the whole notion of a competitivenation

And focus instead on specific industries and industry

segments (9)


7/47


Rejects comparative advantage:

the assumptions underlying factor comparativeadvantage are unrealistic in many industries.

The standard theory assumes that there are noeconomies of scale, that technologies everywhere are

identical, that products are undifferentiated, and thatthe pool of national factors is fixed. (12) (same reservations as early Samuelsonlast week)

The theory is also frustrating for firms because [it] assumes away a role for firm strategy, such asimproving technology or differentiating products most managers exposed to the theory find that itassumes away what they find to be most important andprovides little guidance for appropriate company

strategy. (12-13)


8/47


Old theory wrongly emphasises country & factors

New theory emphasises companies BUT still has clear rolefor countries:

the leaders in particular industries tend to beconcentrated in a few nations

Competitive advantage is created and sustainedthrough a highly localised process While globalizationof competition might appear to make the nation lessimportant, instead it seems to make it more so. (19)

Basic elements of theory turn false comparativeadvantage theory on its head:


9/47


firms can and do choose strategies that differ

successful international competitors often compete withglobal strategies in which trade and foreign investmentare integrated (19)

a nations firms gain competitive advantage in all itsforms, not only the limited types of factor-based

advantage contemplated in the theory of comparativeadvantage (20) Acknowledges inspiration by Schumpeter but he stopped

short of answering the question Why do some firms,based in some nations, innovate more than others? (20)

Theory developed by empirical research: 10 countries examined at deep industry level: Denmark

(5.1 million people in 1987); Germany (61m); Italy 57;Japan 122; Korea 42; Singapore 2.6; Sweden 8.4;

Switzerland 6.5; UK 57; USA 244 m


10/47


Statistical technique used to select industries/firms in

which each country was outstanding competitor in 1985 > 100 industries selected From obvious (Japan semiconductors)

To obscure (British biscuits)

Industry classifications show how specific capital is Machines essential for one industry useless inanother

Key point in critique of neoclassical concept offactor of production & ease of movement from

one industry to another The complete list by country:


11/47


SWEDEN

car carrierscommunication products for handicapped persons

environmental control equipment

heavy trucks

mining equipment

teller-operated cash dispensers

newsprint

refrigerated shipping

rock drills

semihard wood flooring

UNITED STATESadvertising

agricultural chemicals

commercial aircraft*

commercial refrigeration and air-conditioning

computer software

construction equipment

detergents

engineering/construction

motion pictures

patient monitoring equipmentsyringes

waste management services

KOREA

apparel

automobiles

construction

footwear

pianos

semiconductors

shipbuilding

steel

travel goods

video and audio recording tape

wigs

SINGAPORE

airlinesapparel

beverages

ship repair

trading

SWITZERLAND

banking

chocolate

confectionery

dyestuffs

fire protection equipment

freight forwarding

hearing aids

heating controls

insurance

marine engines

paper product manufacturing machinery

pharmaceuticals

surveying equipment

textile machinerytrading

watches

DENMARK

agricultural machinery

building maintenance services

consultancy engineering

dairy products

food additives

furniture

industrial enzymes

pharmaceuticals

specialty electronics

telecommunications equipment

waste treatment equipment

ITALY

ceramic tiles

dance club and theater equipment

domestic appliances

engineering/construction

factory automation equipment

footwear

packaging and filling equipment

ski boots

wool fabrics

GERMANY

automobiles

chemicals

cutleryeyeglass frames

harvesting/threshing combines

optical instruments

packaging, bottling equipment

pens and pencils

printing presses

rubber, plastic working machinery

X-ray apparatus

JAPAN

air-conditioning

machinery

home audio equipment

car audio

carbon fibers

continuous synthetic weaves

facsimile

forklift trucks

microwave and satellite communications equipment

musical instrumentsoptical elements and instruments

robotics

semiconductors

sewing machines

shipbuilding

tires for trucks and buses

trucks

typewriters

videocassette recorders

watches


12/47

Historical study of industry undertaken

Global history as well as specific to successful country In printing presses we sought to understand whyGermany and Switzerland had sustained advantage butalso why the United States had lost ground and Japanwas gaining. (28)

Found country far from relevant scale of analysis:


13/47


Successful firms are frequently concentrated in

particular cities or stateswithin

a nation. In the UnitedStates

many of the nations leading real estate developers arebased in Houston, Texas;

oil & gas equipment suppliers in Houston; hospital management chains in Nashville;

carpet producers in Dalton, Georgia;

Something about these locations provides a fertile

environment for firms in these particular industries.(29)


14/47


Narrow and meaningful definition of industry used:

Many discussions of competition employ overlybroad definitions such as banking, chemicals, ormachinery.

These are not strategically meaningful industries

because both the nature of competition and thesources of competitive advantage vary a great dealwithin them.

Machinery, for example, is not one industry but dozensof strategically distinct industries such as weavingmachinery, rubber processing equipment, and printingmachinery each with its own unique requirements forcompetitive success. (34)


15/47


Delineates 5 forces shaping an industry: The threat of new entrants; The threat of substitute products or services; The bargaining power of suppliers; The bargaining power of buyers; and

The rivalry among existing competitors (35) Two basic determinants of competitive advantage: lower costand differentiation (37)

It is difficult, though not impossible, to be both lower-cost and differentiated relative to competitors. (38)

Any successful strategy, however, must pay closeattention to bothtypes of advantage while maintaining aclear commitment to superiority on one. (38)

3rdimportant factor is competitive scopehow broadindustry is & how much of it firm covers


16/47


Combination of cost & differentiation give differentforms of competitive advantage:


17/47


Innovation crucial

First mover advantage can last well past short run German and Swiss dye companies (Bayer, Hoecsht,BASF, Sandoz, Ciba-Geigy) have sustained theirpositions as international leaders since before WorldWar I (47)

Early movers gain advantages such as being first toreap economies of scale, reducing costs throughcumulative learning (47)

Schumpeters assumption confirmed: Often, innovators

are outsiders to existing industry. (48) Also larger companies were often supplanted by smaller

ones (49)


18/47


4 key determinants of Competitive Advantage:

Factor conditions Only one considered by comparative advantage Concerns innovation as well as endowment

Demand conditions

Related & supporting industries Firm strategy, structure, and rivalry. (71)


19/47


Porters NationalDiamond

Advantagesthroughout thediamond arenecessary forachieving andsustaining competitivesuccess [but]

Advantage in every

determinant is not aprerequisite (73)


20/47


Factors matter but may enhance CA through theirabsence:

an abundance of factors may undermine instead ofenhance competitive advantage. Selectivedisadvantages in factors, through influencing strategyand innovation, often contribute to sustained

competitive success. (74) Oppositeof economic theory belief Gives example of Hollands advantage in flowers

despite its cold, grey climate

Second factor also important for Dutch flowers:

Home demand Qualitymore important than quantity Discerning consumers drive product innovation


21/47


Nations gain competitive advantage where the homedemand gives local firms a clearer or earlier picture ofbuyer needs

if home buyerspressurelocal firms to innovate faster(86)

A products fundamental or core design nearly alwaysreflects home market needs. (87)

small nations can be competitive in segments whichrepresent an important share of local demand but asmaller share of demand elsewhere, even if theabsolutesize of the segment is greater in othernations. (88)


22/47


Related & supportingindustries

Suppliers assistprocess ofinnovation andupgrading

Suppliers helpfirms perceivenew methods andopportunities to

apply newtechnology. (103)

The full pattern of interlinkingindustries is very complex


23/47


A more disaggregated view


24/47


Competitive advantage in suppliers means spinoffsfrom one industry can be means to develop new ones

Italian world leadership in gold and silver jewelry hasbeen sustained because other Italian firms producetwo-thirds of the worlds jewelry-making machinery.(101)

Related industries give strength to each other


25/47


Competitive advantage in related industriesTABLE 3-1 Internation al ly Competi t ive Related Indus tr ies

Nation Industry Related IndustryDenmark Dairy products, brewing Industrial enzymes

Germany Chemicals Printing ink

Italy Lighting Furniture

Japan Cameras Copiers

Korea VCRs Videotape

Singapore Port services Ship repair

Sweden Automobiles TrucksSwitzerland Pharmaceuticals Flavorings

United Kingdom Engines Lubricants, antiknock preparations

United States Electronic test and measuring equipment Patient monitoring equipment


26/47


Japan's strength in long-filament synthetic textile fibers reflects along tradition of success in silk, as does a leading export position in

silk-like continuous synthetic weaves, woven from long-filamentsynthetic fibers. Carbon fibers employ technology closely related tosynthetic filament fibers and many of the same competitorsparticipate in both.

Also, while not overall

leaders in textilemachines, Japanesefirms are leaders inwater jet weavingmachines, used toweave long-filament

synthetic fibers intosynthetic weaves.Such groups of linkedcompetitive industriesin a nation are

common. (105)


27/47


Firm strategy structure & rivalry

No one management system is universally appropriate But character of national management structure needsto suit needs of industry.

Nations will tend to succeed where the managementpractices and modes of organization favored by thenational environment are well suited to the industriessources of competitive advantage.

Italian firms are world leaders in a range offragmented industries operating in small niches

In Germany the engineering and technical backgroundof many senior executives produces a strong inclinationtowards methodical product and process improvement(108)


28/47


National goals

Short term focus of US firmsadvantage inaccounting

Long term focus of German/Japaneseadvantage inengineering

Domestic rivalry Desire to beat own national competitors often drivesinnovation

Italian supercars; Japanese electronics; US software,computers

With little domestic rivalry, firms are more contentto rely on the home market. (119)


29/47


Japan in particular has large number of internationallycompetitive firms in different industries:

TABLE 3-2 Est imated Number of J apanese Rivals in Selected Ind ustr ies, 1987

Air conditioners 13 Motorcycles 4

Audio equipment 25 Musical instruments 4

Automobiles 9 Personal computers 16

Cameras 15 Semiconductors 34

Car audio 12 Sewing machines 20Carbon fibers 7 Shipbuilding 33

Construction equipment 15 Steel 5

Copiers 14 Synthetic fibers 8

Facsimile machines 10 Television sets 15

Lift trucks 8 Truck and bus tires 5

Machine tools 112 Trucks 11Mainframe computers 6 Typewriters 14

Microwave equipment 5 Videocassette recorders 10


30/47


National competitive advantage therefore tends to occurin clusters

Geographic clusters: Many of the Italian jewelryfirms, for example, are located around two towns,Arezzo and Valenca Po (120)

Industry clusters Related industries and supplier-buyer chains


31/47


The individualdeterminants thatdefine the nationalenvironment aremutually dependentbecause the effect

of one oftendepends on thestate of theothers (129)

Example of clustering: Denmark


32/47



33/47


Geographic clusteringalso strikinglyobvious:

Clustering ofinternationallycompetitive industries

in Italy:


34/47


Interactions in theDiamond for Italian SkiBoot industry:


35/47


Not so much a model in economic sense

More description of process But better guide to feasible policy than comparativeadvantage

Industry policy promoted over free trade obsession:

Identify present clusters Expect innovation in areas where domestic demand is an

important share of local demand but a smaller share ofdemand elsewhere

Obvious examples for Australia

solar energy

water conservation

(if only government policy helped!)


36/47

Integrating Managerial Economics

Weve covered a fair bit of territory

Theory & empirics of Firm Market

Economy

Finance Trade

In all areas Data doesnt support conventional economic beliefs

Dominant theories have obvious flaws But alternative theories exist


37/47

The Firm

Conventional Theory

Production subject to diminishing marginal productivity

Firms internal structure black box Firms objective profit maximisation

Equates marginal cost to marginal revenue

Empirical Evidence

89% (Blinder) to 95% (Eiteman) of firms have constant or fallingmarginal costs

Prices via markup on average costs

Marginal cost well below average

Marginal considerations irrelevant

Alternative Theory

Conventional profit maximisation rule wrong for multi-firmindustries

Profit maximisation where marginal revenue exceeds marginal

cost even with rising marginal cost

h


38/47

The Firm

Alternative Theory (cont.)

Sraffa: well-designed factories mean factorproportions constant out to capacity Constant marginal cost

Kornai: firms in dynamic industries

Growth & uncertainty make excess capacity sensible Schumpeter: creative destruction Entrepreneurs profit by revolutionising production

Technical change drives costs down, diversity up

Combination means Costs constant/falling

Firms compete on product diversity/productioninnovation rather than just price

h k


39/47

The Market

Conventional Theory

Taxonomy of industry types Competitive markets Many sellers, buyers

Homogenous product

Price equals marginal cost (with erroneous maths!) Monopoly

Single seller

Single product

Price exceeds marginal cost Oligopoly

Several sellers

Compete with each other game theoretic style

Welfare position between monopoly & PC

Th M k


40/47

The Market

Empirical Evidence Most industries characterised by power law

distribution of firm sizes Some very large; many very small; no average size

Competitive outcomes (falling price, rising quality &diversity) independent of number of firms in industry

Alternative Theory Evolutionary: process of dynamicselection.

Varying products increases survival chances of firms Varying consumer interaction alters environment

Multi-agent modeling can capture essential features ofprocess Diversity of firm behavior rather than homogeneity Power-law distribution of firm sizes rather than non-

existent neoclassical taxonomy of PC, monopoly,

oligopoly

Th E


41/47

The Economy

Conventional Theory Equilibrium processes Keynesian/Neoclassical dispute over tendency to full

employment Both agree real wages have to fall in boom (diminishing

marginal productivity)

Exogenous money, causation from base money supply tocredit money to economic activity Empirical Evidence

Disequilibrium the rule: all variables cyclical

Real wages rise, prices (relatively) fall during boom (noDMP)

Credit money drives economy, base money reactsafterwards

Rising debt levels since WWII

Th E


42/47

The Economy

Alternative Theory

Schumpeters vision: Underlying disequilibrium dynamics reflectentrepreneurial search for profit

Credit essential to entrepreneurial process andendogenous to economy

Debt & entrepreneurial activity co-extensive

Minskys vision Cyclical trend for debt over trade cycle

Secular trend for debt/output levels to rise as memoryof crisis recedes

Potential for debt-deflation

Big Government reduces likelihood of crisis by anti-cyclical spending

Th Fi S t


43/47

The Finance Sector

Conventional Theory

Equilibrium process Investors balance risk vs return

Empirical Evidence

Far from equilibrium dynamics

Fractal rather than efficient markets Beta is dead (and always was!)

Market inefficient but still hard to predict

Alternative Theory

Sophisticated models from physicists: Power law / Hurst exponent / Tsalliss qnon-

extensive statistical mechanics / minority game

Th Fi S t


44/47

The Finance Sector

Alternative Theory (cont.)

Inefficient Markets Hypothesis Non-institutional investors can construct low volatility &high return portfolios

Tendency of finance boom/bust cycle to drive economy Argument for reform of asset markets

T d & Gl b l E i


45/47

Trade & Global Economics

Conventional Theory

Comparative advantage Countries specialise where they have comparativeadvantage over rest of world, not absolute advantage

Trade governed by relative factor abundance

Free trade equalises wages & profits worldwide

Empirical Evidence

Comparative Advantage a flop Absolute advantage more relevant than comparative

Factor abundance largely irrelevant to trade Innovation rules

Compounded by transnational corporations, outsourcing Take advantage of absolute cost differences

T d & Gl b l E i


46/47

Trade & Global Economics

Alternative Theory

Role for industry promotion in development Success comes via competitive advantage Not countries but firms, products, industry clusters

Where to from here?

Other courses at UWS: Behavioural Finance (myself & Craig Ellis)

History of Economic Thought (James Farrell; sometimesalso me)

Political Economy Undergraduate (Neil Hart & others)

Honours (myself & others)

Further reading

B ildi M i l E i s


47/47

Building on Managerial Economics

Further reading

All full readings from this course but especially: Schumpeter Theory of Economic Development

Minsky John Maynard Keynes

Ormerod Butterfly Economics

Haugen The New Finance Peters The Fractal Markets Hypothesis

Debunking Economics

Book: via Zed Books, Pluto Press

Website: www.debunking-economics.com Other critical resources

PAECON movement: www.paecon.net
http://www.debunking-economics.com/http://www.paecon.net/http://www.paecon.net/http://www.debunking-economics.com/http://www.debunking-economics.com/http://www.debunking-economics.com/

managerial economics lecture 13 global alternative 02

Documents