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International Business and Trade
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18LLP225 International Business and Trade
Liberal Market Economies and Coordinated Market Economies: How companies benefit
from the institutional systems
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Introduction
The 21st
century has experienced unprecedented scale of globalization where associations in
terms of politics, trade, culture, or so on are established between nations and territory boundaries
are increasingly blurred in the worldwide market. At the heart of the issue, there are scholars
who are either positive or skeptic about the globalization notion. In fact, globalization has been
held controversial in the political sense at both domestic and international levels since the late
1990s (Haynes et al, 2011). However, it is undeniable that globalization has facilitated the
expansion of trade to the extent that the trading system across countries in the world can now be
truly called global (Smith et al, 2017). The global economy, in another perspective, has attracted
a wide range of studies and scholarly works because of its fast-moving, complicated, either
divergent or convergent phenomena that occur universally, regionally and nationally. Among
these global phenomena, one of the greatest catastrophes can be represented by the Great
Depression in the 1930s, which then loomed again in the end of 2000s under the form of
Financial Crisis (Haynes et al, 2011). Hence, a large body of research attempts to assess the
differences in economic and political institutions across countries in the world so as to discover
the best performing policy-related paradigms so that the world economy is strengthened and the
economic discrepancy between economies is minimized (Hall and Soskice, 2001). In general,
there are two principal forms of national business systems documented by scholars, which can be
named as Liberal Market Economies (LMEs) and Coordinated Market Economies (CMEs) (Hall
and Soskice, 2001). Such framework was formerly based on the developed economies (Hall and
Soskice, 2001) but then suggested to be applicable in the developing countries as well (Davis and
Prado, 2014). These two categories of national business systems have their own advantages and
disadvantages, which in fact can be either favourable or unfavourable to the enterprises that
operate under their conditions. A profound understanding of the features and principles of two
systems may help businesses to seize the competitive advantages offered by them. In this sense,
the paper aims at discussing the distinguishable characteristics of LMEs and CMEs in the
theoretical perspective as well as in practical statistics.
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Characteristics of Liberal Market Economies
First of all, it is necessary to know that LME is a market based financial system (Hall and
Soskice, 2001). That means the economy is more determined by the equity rather than debt and
by bonds rather than long-term bank loans (Hall and Soskice, 2001). These two features of the
financial system in LMEs lead to the dynamics in the stock market and weaker position of banks
in relation to other financial institutions. In addition, shareholdings in the LMEs are more
disperse and fluid than those in CMEs because of the arms-length relationship between
shareholders and managers (Hall and Soskice, 2001). Such business climate enables the market
to be more active for corporate control and mergers & acquisitions (Hall and Soskice, 2001). The
representing examples for LMEs in the contemporary context are the US, the UK, Australia, and
New Zealand (Allen, 2006; Sin et al, 2016). As can be seen in the figure 1, stock market
capitalisation is the major source of financing in the USA, making up more than 100% of the
GDP while bank credits and public & private debt securities contribute more than 80% in total as
of December 2014. This figure is consistent with the propositions of Davis and Prado (2014),
who suggest that LMEs are inclined to combine lower levels of employment protection with
higher levels of stock market capitalization.
Figure 1 Sources of financing in the US and European area
(Source: Janse, 2016)
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The second and the third attributes of LMEs to be mentioned come from the labour market and
education & training. On one hand, there are few structures governing employee representation
and the barriers of hiring or laying off staff members are weak on the basis of the legal doctrine
of “employment at will” (Jackson and Kirsch, 2014). That means the protection for the labour is
relatively weak in comparison to CMEs. To be more specific, employees’ working time is
exposed to few regulations and their rights to industrial actions are limited (Hall and Soskice,
2001). Instances for weak labour protection are weak labour unions and the absence of socialism
or social democracy. However, there is an exception in the legal framework over the anti-
discrimination which is increasingly and strongly emphasized by enterprises (Hall and Soskice,
2001). Another important consideration of the labour market is the fluidity, which lead to lower
presence of collective bargaining, high inter-firm mobility of labour, changes in the workforce
composition, perceptions towards the labour that is viewed as a category of cost to be minimised,
and emphasis on employability of employees (Hall and Soskice, 2001). On the other hand,
regarding education & training, it is easily recognised that the university system aims at
producing highly qualified, skilful or educated workforce to the labour market. This can be easily
observed in the US university system where general skills are usually assessed and determine the
competences of the students (Sin et al, 2016). General or soft skills are more valued in vocational
training where the people seek to have their skills measured by assessments and certifications
(Moodie, 2008). In fact, this educational and training mechanism has a drastic impact on the
labour market. The labour market is more likely to be composed of unskilled and semi-skilled
labourers, who are necessary for the mass production growth and input to the industries or
sectors requiring radical innovations.
To generalise the points, Campbell (2005) stated that Anglo-Saxon countries that are categorised
as LMEs are characterised by deregulated labour markets, weaker unions as well as business
associations, short - term corporate investment along with horizon-based profits, high levels of
competition requirements eliminating alliance among firms, bargain between the management
and labour at the firm level rather than sectoral or industrial level and generic rather than
vocational training based educational systems.
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Competitive advantages facilitated by Liberal Market Economies
As a matter of fact, firms operating in LMEs can benefit from the characteristics of the market
structures to gain competitive advantages. In a broad view, Soskice (1994; 1999) hypothesized
that firms in the LMEs have better performances in radical innovation, shifting resources across
industries and cost competition. As radical innovations require fewer problems of adjustment, the
structural change might be easier to be realised in the LMEs (Boschma, 2005). The easiness for
changes is fuelled more by the transferability of skills across firms and the fluidity of the external
labour markets (Jackson and Kirsch, 2014). In fact, such competitive advantages are more visible
in the US which is also the leader in radical innovations, it is less evident in Australia and New
Zealand (Jackson and Kirsch, 2014). Here, it must be noted that the first competitive advantage
of firms in LMEs is linked with the second advantage, which is the flexibility of resource
mobility across industries and firms.
Last but not least, cost competition makes firms in LMEs competing more effectively in the
global market. Hall and Soskice (2001) held that LMEs can be distinguished from the CMEs by
the extent to which “firms rely on the market mechanism to coordinate their endeavours as
opposed to forms of strategic interaction based on non-market institutions” (p. 33). In another
expression, enterprises interact with other counterparts in a competitive instead of cooperative
manner (Ezrow and Hellwig, 2015) Williamson (1985) argued that firms operating in LMEs are
inclined to have their activities primarily based on the hierarchies and under a competitive
market mechanism (cited in Liao, 2009, p. 1). Hence, the equilibrium outcome is constituted by
the competitive actors in the LMEs (Hall and Soskice, 2001). Such competitive drivers
accommodated by LMEs make the market more deregulated. In order to stay competitive in the
market, firms are supposed to cut costs, including labour costs, cost-effective technologies like
bio-tech, IT, etc. In fact, the tax obligations in the LMEs also contribute to their advantages
against CMEs. To be more specific, Campbell (2005) described a study examining the means
and medians of tax burdens throughout the world over the period between 1970 and 1998, which
revealed that tax burdens are particularly lower in the LMEs despite consistent increase in the
means, medians, and standard deviations of the tax obligations during the period. Such lower tax
burdens without doubt provide more incentives for firms to invest as taxes drive the firms’
investment behaviours (Federici and Parisi, 2015). Under lower tax burdens, the firms can have
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more capital available to make the investment, the evidence of which is unveiled by Dobbins and
Jacob (2016). The study conducted by Dobbins and Jacob (2016) provided that under reform
policies of tax payment reduction, domestic firms are more likely to raise their real investments.
The effect was also documented to be more intense when firms rely more on internal funds to
finance the investments (Dobbins and Jacob, 2015).
Characteristics of Coordinated Market Economies
Hall and Soskice (2001) pointed out that CMEs have experience strong recovery from post-war
devastation thanks to the ordo liberal policies where a social market economy is led by the
competitive markets but with the interference of active welfare state. In fact, CMEs are
sometimes called non-liberal market economies, meaning the principles of the systems are
contrast to LME. The nature of CMEs might be considered as persistence in core sectors
Concerning the financial system, in contrast to LMEs, the level of stock market capitalization is
likely to be lower while the protection over the employment is usually higher in CMEs (Davis
and Prado, 2014). In other words, bank loans remain the most common funding methods so
universal banks like creditors, financial advisors, proxy voters, underwriters. It is worth recalling
from the figure 1 that bank credits are the major sources of financing instead of stock market
capitalisation among European countries. In this sense, it is fair to say that many economies
other than the UK in the European area represent CMEs rather than LMEs. Among these CMEs,
Germany can be the best instance for the analysis of the market system. In addition, there exists
the personal relationship between managers and shareholders in the environment of CMEs.
Consequently, ‘insider control’ and ‘network reputational monitoring’ can be frequently
observed. In relation to the labour market, the rights and protection for the employees are highly
emphasized. In Germany, for example, there are representatives of employees standing in the
governance structure of the companies: Germany has two-tier boards. The interests of the
employees are also presented by collective bargaining by unions, who fight for the minimum
wage, maximum working hours, and so on.
Another significant point in the CMEs is the tendency of the education and training system.
Vocational training are usually held within a network of colleges, firms and other organisational
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bodies. The education and training system puts an emphasis on the specific skills developed
through apprenticeships, practice-based courses and assessments. The result of such system is the
stability of the labour force instead of high inter-firm mobility. Akkermans et al (2009) explored
that unemployment rates are in general less observed in CMEs
One of the largest important characteristics of CMEs are networks and inter-firm co-operations.
It must be acknowledged that inter – company relations in the LMEs are relatively weak due to
the anti-trust regulations designed to prevent collusion. On the contrary, firms in the CMEs are
usually engaged in well – established co-operation and networking with other sector related
associations. A very good example for this point is in Germany, the industrial relations
associated with New Age-Bio activities are taken part in by and assisted by organisations such as
VBU (Association of German Biotech Companies) and DIB (German Industry Association for
Biotechnology). Such alliance established by the industry players can be hardly found in the US
context.
Last but not least, since many countries in the world can be classified as CMEs as they do not
have features of non-liberal market economies, the category can be broken down into smaller
groups according to the degree of coordination and organisation. In the coordination form,
institutionalisation is essential and a significant number of production activities require specific
investments (Williamson, 1985). On the other hand, under the organisation form, the
responsibilities of a firm in the society are to serve the collective interests such as the interests of
a social class, regional interests or industrial interests, among others. According to Hall and
Gingerich (2004), coordination can be measured by shareholder power, size of the stock market,
dispersion of corporate ownership, labour turnover and the degree of wage coordination. In
contrast, the organisation form can be measured by the ownership of inter-company & state, the
density of trade union, the co-determination among board members and employer association
density among enterprises.
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Competitive advantages facilitated by Coordinated Market Economies
On the contrary to LMEs, CMEs facilitate incremental innovation which is “marked by
continuous but small-scale improvements to existing product lines and production processes
(Hall and Soskice, 2001, p. 39). The principle of incremental innovation is the predominant
source of competitive advantages provided to firms operating in the CMEs. The consequence of
the system is high quality production rather than fast-moving industries.
In CMEs, the equilibrium is resulted from strategic interaction between firms and other
economic actors (Hall and Soskice, 2001). Additionally, Hall and Soskice (2001) associated
incremental innovations with technology fields such as consumer durables, machine tools,
specialised transport equipment and engines. These categories of products can be easily
recognised in Germany, which is particularly famous for consumer households items, transport
engines, and so on.
Conclusions
To sum up, the essay has highlighted the primary differences between Liberal Market Economies
and Coordinated Market Economies along with their assistance in achieving the competitive
advantages of companies operating in them. It is valid to say that the market structures and
elements of LMEs and CMEs are contrast to each other in terms of financial system, labour
market, education & training and inter-firm relations. While the USA, the UK, Australia, among
others can represent the LMEs, exemplary models of CMEs are Germany, Japan, France together
with many other European countries. LMEs are usually featured by deregulated financial system,
flexible, fluid labour market, general skill oriented education & training and contract based inter-
firm relations whereas CMEs have typical characteristics of regulated financial system, governed
labour market with strong collective bargaining power, specific skills oriented education &
training and strong networks promoting co-operations. As a result, CMEs offer the competitive
advantages of radical innovations to operating firms while firms are more likely to enjoy the
incremental innovations as the competitive advantages. Despite notable differences in the
mechanisms of two systems, the economic performance of firms in the two systems are not
significantly divergent.
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