©McGraw-Hill Education. All rights reserved. Authorized only.docx

©McGraw-Hill Education. All rights reserved. Authorized only
for instructor use in the classroom. No reproduction or further
distribution permitted without the prior written consent of
McGraw-Hill Education.
Chapter 9
Regional Economic Integration
*
©McGraw-Hill Education.
What Is Regional
Economic Integration?
Regional economic integration - agreements
between countries in a geographic region to reduce tariff and
non-tariff barriers to the free flow of goods, services, and
factors of production between each otherQuestion: Do regional
trade agreements promote free trade?In theory, yes, but the
world may be moving toward a situation in which a number of
regional trade blocks compete against each other

*
While the move toward regional economic integration is
generally seen as a good thing, some observers worry that it
will lead to a world in which regional trade blocs compete
against each other.
In this possible future scenario, free trade will exist within each
bloc, but each bloc will protect its market from outside
competition with high tariffs.
The specter of the EU and NAFTA turning into economic
fortresses that shut out foreign producers with high tariff
barriers is worrisome to those who believe in unrestricted free
trade. If such a situation were to materialize, the resulting
decline in trade between blocs could more than offset the gains
from free trade within blocs.
The Opening Case: Regional Trade Pacts Give the Mexican
Auto Industry an Edge describes the growth of the Mexican auto
industry due to a wave of foreign direct investment spurred by
regional trade agreements. Beginning with the establishment of
the North American Free Trade Agreement (NAFTA) in 1994,
Mexico has established over 40 different free trade agreements
that provide Mexican automakers duty-free access to markets
throughout the world. These agreements, along with Mexico’s
relatively low labors costs, have attracted investments from
many of the world’s largest car companies and auto parts
suppliers, making Mexico the sixth-largest car producer in the
world.
What Are The Levels Of

Regional Economic Integration? (1 of 4)
A free trade area eliminates all barriers to the trade of goods
and services among member countriesEuropean Free Trade
Association (EFTA) - Norway, Iceland, Liechtenstein, and
SwitzerlandNorth American Free Trade Agreement (NAFTA) -
U.S., Canada, and Mexico
*
LO 9-1: Describe the different levels of regional economic
integration.
A customs union eliminates trade barriers between member
countries and adopts a common external trade policyAndean
Community (Bolivia, Colombia, Ecuador, and Peru)
A common market has no barriers to trade between member
countries, a common external trade policy, and the free
movement of the factors of production Mercosur (Brazil,
Argentina, Paraguay, and Uruguay)
*

An economic union has the free flow of products and factors of
production between members, a common external trade policy, a
common currency, a harmonized tax rate, and a common
monetary and fiscal policyEuropean Union (EU)
A political union involves a central political apparatus that
coordinates the economic, social, and foreign policy of member
states the EU is headed toward at least partial political union,
and the U.S. is an example of even closer political union
*
The European Union (EU) is an economic union, although an
imperfect one since not all members of the EU have adopted the
euro, and differences in tax rates across countries still remain.

Levels of Economic Integration
*
Why Should Countries
Integrate Their Economies?
All countries gain from free trade and investment
regional economic integration is an attempt to exploit the gains
from free trade and investmentLinking countries together,
making them more dependent on each othercreates incentives
for political cooperation and reduces the likelihood of violent
conflictgives countries greater political clout when dealing with
other nations
*
LO 9-2: Understand the economic and political arguments for
regional economic integration.
What Limits Efforts At Integration?Economic integration can be
difficult because while a nation as a whole may benefit from a
regional free trade agreement, certain groups may loseit implies

a loss of national sovereigntyRegional economic integration is
only beneficial if the amount of trade it creates exceeds the
amount it divertstrade creation occurs when low cost producers
within the free trade area replace high cost domestic
producerstrade diversion occurs when higher cost suppliers
within the free trade area replace lower cost external suppliers
*
LO 9-3: Understand the economic and political arguments
against regional economic integration.
What Is The Status Of Regional Economic Integration In
Europe?Europe has two trade blocs
The European Union (EU) with 27 members
The European Free Trade Area (EFTA) with 4 membersThe EU
is seen as the world’s next economic and political superpower
*
LO 9-4: Explain the history, current scope, and future prospects
of the world’s most important regional economic agreements.
What Is The Status Of Regional Economic Integration In
Europe?
Member States of The European Union in 2013

*
Source: Copyright © European Union, 1995–2013.
What Is The European Union? (1 of 2)The devastation of two
world wars on Western Europe prompted the formation of the
EUMembers wanted lasting peace and to hold their own on the
world’s political and economic stage Forerunner was the
European Coal and Steel Community (1951)The European
Economic Community (1957) was formed at the Treaty of Rome
with the goal of becoming a common market
*
What Is The European Union? (2 of 2)
The Single European Act (1987)committed the EC countries to
work toward establishment of a single market by December 31,
1992was born out of frustration among EC members that the
community was not living up to its promise provided the
impetus for the restructuring of substantial sections of European
industry allowing for faster economic growth than would
otherwise have been the case

*
What Is The Political Structure
Of The European Union?
The main institutions in the EU include:
The European Council - the ultimate controlling authority
within the EU
The European Commission - responsible for proposing EU
legislation, implementing it, and monitoring compliance with
EU laws by member states
The European Parliament - debates legislation proposed by the
commission and forwarded to it by the council
The Court of Justice - the supreme appeals court for EU law
*
Management Focus: The European Commission and Intel
explores the record fine ($1.45 billion) handed down to Intel for
anticompetitive behavior. According to the European
Commission, Intel illegally used its market power to ensure that
its rival, AMD, was at a competitive disadvantage, thereby
harming “millions of European consumers.”

What Is The Euro?The Maastricht Treaty committed the EU to
adopt a single currencycreated the second largest currency zone
in the world after that of the U.S. dollar used by 17 of the 27
member statesBritain, Denmark, and Sweden opted outsince its
establishment January 1, 1999, the euro has had a volatile
trading history with the U.S. dollar
*
Country Focus: Creating a Single European Market in Financial
Services explores the European Union’s progress towards
creating a single financial market. The quest, started in 1999,
was to have been completed by 2005, however, progress has
been slowed by various factors related to the member countries’
tradition of operating autonomously. So, while 41 measures
designed to create a single market are in place, how to enforce
the rules is still to be determined. In fact, some experts believe
that it will be at least another decade before the benefits of the
new rules become apparent.
Is The Euro A Good Thing?Benefits of the eurosavings from
having to handle one currency, rather than manyit is easier to
compare prices across Europe, so firms are forced to be more
competitivegives a strong boost to the development of highly
liquid pan-European capital marketincreases the range of
investment options open both to individuals and
institutionsCosts of the euroloss of control over national
monetary policyEU is not an optimal currency area

*
Country Focus: The Greek Sovereign Debt Crisis explores
concerns over the long-term viability and survival of the euro
and the Euro Zone, with particular emphasis on the continuing
debt crisis in Greece and the loans provided to the country by
the Euro Zone and the IMF.
Should The EU Continue To Expand?Many countries have
applied for EU membershipTen countries joined in 2004
expanding the EU to 25 statesIn 2007, Bulgaria and Romania
joined bringing membership to 27 countries Turkey has been
denied full membership because of concerns over human rights
*
In July 2013, Croatia entered the European Union becoming the
28th member nation.
What Is The Status Of Economic Integration In The Americas?
(1 of 2)There is a move toward greater regional economic
integration in the AmericasThe biggest effort is the North
American Free Trade Area (NAFTA)Other efforts include the
Andean Community and MercosurA hemisphere-wide Free
Trade of the Americas is under discussion

*
LO 9-4: Explain the history, current scope, and future prospects
of the world’s most important regional economic agreements.
What Is The Status Of Economic Integration In The Americas?
(2 of 2)
Economic Integration in the Americas
*
9-24
Copyright © 2017 McGraw-Hill Education. All rights reserved.
No reproduction or distribution without the prior written
consent of McGraw-Hill Education.
The establishment of the North American Free Trade Agreement
(NAFTA) in 1994 was an important, if controversial, moment in
the economic histories of Canada, the United States, and
Mexico.
As the head of a major industrial machinery manufacturer in the
United States, would you have welcomed economic integration

with Canada and Mexico? What advantages or disadvantages
would you expect to experience? How might your business
operations be different today if NAFTA had not been passed?
*
What Does Economic
Integration Mean For Managers?
Regional economic integrationopens new markets
allows firms to realize cost economies by centralizing
production in those locations where the mix of factor costs and
skills is optimalButwithin each grouping, the business
environment becomes competitivethere is a risk of being shut
out of the single market by the creation of a “trade fortress”
*
LO 9-5: Understand the implications for businesses that are
inherent in regional economic integration agreements.
The Closing Case: Tomato Wars explores the battle between
Mexican tomato growers and Florida tomato growers and how
NAFTA allowed lower-priced tomatoes into the United States.
When the Commerce Department was going to scrap the
minimum price per pound rule, several prominent agriculture
growers protested because of the amount of business they do
with Mexico. Recently, an agreement was reached with Mexican

growers to raise the minimum floor price for a pound of
tomatoes, as well as higher prices for specialty tomatoes from
Mexico—acknowledging the billions of dollars invested by
Mexican growers in controlled greenhouse environments.
US EU Trade War?Harley Davidson exposed to EU
Tariffshttps://www.bnnbloomberg.ca/economics/video/trump-
threatens-to-reciprocate-against-eu-tariffs-on-harley-
davidson~1666188Brexit deal explained: what the UK and EU
agreed | FThttps://www.youtube.com/watch?v=YYSEa5Wl3Cc
Brexit trade deal: Win-win or lose-lose for EU & UK? | DW
Newshttps://www.youtube.com/watch?v=MFRrwTv5-uU
Final Course Project-Section IVLook at your MNC home
country, examine the host country, is there a trade agreement
between them? If not why is this a challenge? Find a host
country that does have a trade agreement and discuss the
opportunities.Include this in Section IV of your final course
project and post about it in the IBCC forum this
week.http://rtais.wto.org/UI/PublicMaintainRTAHome.aspx
Section IV20 Conduct an analysis on the conditions of trade.
Indicate opportunities and challenges that affect your MNC;
including any current policies or agreements that have been
recently passed.

©McGraw-Hill Education. All rights reserved. Authorized only
for instructor use in the classroom. No reproduction or further
distribution permitted without the prior written consent of
McGraw-Hill Education.
Chapter 8
Foreign Direct Investment
*
What Is FDI? (1 of 2)Foreign direct investment (FDI) occurs
when a firm invests directly in new facilities to produce and/or
market in a foreign countrythe firm becomes a multinational
enterpriseFDI can be in the form of greenfield investments - the
establishment of a wholly new operation in a foreign
countryacquisitions or mergers with existing firms in the
foreign country

*
Greenfield operation:mostly in developing nations
Mergers and acquisitions:quicker to executeforeign firms have
valuable strategic assetsbelieve they can increase the efficiency
of the acquired firmmore prevalent in developed nations
The Opening Case: Volkswagen in Russia describes
Volkswagen’s greenfield investment in Russia and the effect of
changing oil prices on its profitability.
What Is FDI? (2 of 2)The flow of FDI - the amount of FDI
undertaken over a given time period Outflows of FDI are the
flows of FDI out of a countryInflows of FDI are the flows of
FDI into a countryThe stock of FDI - the total accumulated
value of foreign-owned assets at a given time
*
LO 8-1: Recognize current trends regarding foreign direct
investment (FDI) in the world economy.
What Are The Patterns Of FDI? (1 of 5)
Both the flow and stock of FDI have increased over the last 35
yearsMost FDI is still targeted towards developed nations
United States, Japan, and the EUbut, other destinations are
emergingSouth, East, and South East Asia especially China
Latin America

*
Country Focus: Foreign Direct Investment in China explores
investment opportunities in China. In the late 1970s, China
opened its doors to foreign investors. By the mid 2000s, China
attracted $60 billion of FDI annually. China’s large population
is a magnet for many companies and because high tariffs make
it difficult to export to the Chinese market, firms frequently
turn to foreign direct investment. However, many companies
have found it difficult to conduct business in China, and in
recent years investment rates have slowed. In response, the
Chinese government, hoping to continue to attract foreign
companies has established a number of incentives for would-be
investors.
FDI Outflows 1982-2012 ($ billions)
*
Source: UNCTAD statistical data set,
http://unctadstat.unctad.org/ReportFolders/reportFolders.aspx
FDI Inflows by Region 1995-2013 ($ billion)

*
Source: Calculated by the author from United Nations World
Investment Report, various editions.
The growth of FDI is a result of
a fear of protectionismwant to circumvent trade barriers
political and economic changesderegulation, privatization,
fewer restrictions on FDI
new bilateral investment treatiesdesigned to facilitate
investment
the globalization of the world economymany companies now
view the world as their marketneed to be closer to their
customers
*
What Are The Patterns Of FDI? (5 of 5)Gross fixed capital
formation - the total amount of capital invested in factories,
stores, office buildings, and the like the greater the capital
investment in an economy, the more favorable its future
prospects are likely to be So, FDI is an important source of
capital investment and a determinant of the future growth rate

of an economy
*
What Is The Source Of FDI? (1 of 2)Since World War II, the
U.S. has been the largest source country for FDIthe United
Kingdom, the Netherlands, France, Germany, and Japan are
other important source countriestogether, these countries
account for 60% of all FDI outflows from 1998-2011
*
What Is The Source Of FDI? (2 of 2)
Cumulative FDI outflows, 1998–2012 ($ billions)
*
Source: Calculated by the author from United Nations World
Investment Report, various editions.

Why Do Firms Choose Acquisition Versus Greenfield
Investments? (1 of 2)
Most cross-border investment is in the form of mergers and
acquisitions rather than greenfield investmentsbetween 40-80%
of all FDI inflows per annum from 1998 to 2011 were in the
form of mergers and acquisitionsbut in developing countries
two-thirds of FDI is greenfield investment
fewer target companies
*
Why Do Firms Choose Acquisition Versus Greenfield
Investments? (2 of 2
Firms prefer to acquire existing assets because mergers and
acquisitions are quicker to execute than greenfield investmentsit
is easier and perhaps less risky for a firm to acquire desired
assets than build them from the ground upfirms believe that
they can increase the efficiency of an acquired unit by
transferring capital, technology, or management skills
*

Why Choose FDI? (1 of 2)
Question: Why does FDI occur instead of exporting or
licensing?
Exporting - producing goods at home and then shipping them to
the receiving country for sale
exports can be limited by transportation costs and trade barriers
FDI may be a response to actual or threatened trade barriers
such as import tariffs or quotas
*
LO 8-2: Explain the different theories of FDI.
Why do firms invest rather than use exporting or licensing to
enter foreign markets?
FDI is more attractive when transportation costs or trade
barriers make exporting unattractive.
Management Focus: Foreign Direct Investment by Cemex
explores why foreign direct investment made more sense for the
Mexican cement maker than exporting. For Cemex, exporting is
too costly.
Why Choose FDI? (2 of 2)
Licensing - granting a foreign entity the right to produce and
sell the firm’s product in return for a royalty fee on every unit
that the foreign entity sells
Internalization theory (aka market imperfections theory) -
compared to FDI licensing is less attractive

firm could give away valuable technological know-how to a
potential foreign competitor
does not give a firm the control over manufacturing, marketing,
and strategy in the foreign country
the firm’s competitive advantage may be based on its
management, marketing, and manufacturing capabilities
*
A firm will favor FDI over licensing when it wishes to maintain
control over its technological know-how, or over its operations
and business strategy, or when the firm’s capabilities are simply
not amenable to licensing.
8-16
Foreign direct investment (FDI) in a developing economy, such
as Russia or the countries of sub-Saharan Africa, can be
extremely profitable for multinational enterprises. It can also
result in substantial losses if economic conditions in the host
country deteriorate.
If you were the head of a major manufacturer of household
goods seeking entry into the market of a country experiencing
strong economic growth due to its oil and gas exports, which
entry strategy would you pursue: exporting, licensing, or
foreign direct investment? If FDI, would you seek to acquire an
existing firm, or build entirely new facilities (a greenfield
investment)?

*
What Is The Pattern Of FDI? (1 of 2)
Question: Why do firms in the same industry undertake FDI at
about the same time and the same locations?
Knickerbocker - FDI flows are a reflection of strategic rivalry
between firms in the global marketplacemultipoint competition -
when two or more enterprises encounter each other in different
regional markets, national markets, or industries
*
With regard to horizontal FDI, market imperfections arise in
two circumstances:when there are impediments to the free flow
of products between nations which decrease the profitability of
exporting relative to FDI and licensingwhen there are
impediments to the sale of know-how which increase the
profitability of FDI relative to licensing
What Is The Pattern Of FDI? (2 of 2)
Question: Why is it profitable for firms to undertake FDI rather
than continuing to export from a home base, or licensing a
foreign firm?
Dunning’s eclectic paradigm - it is important to

considerlocation-specific advantages - that arise from using
resource endowments or assets that are tied to a particular
location and that a firm finds valuable to combine with its own
unique assets externalities - knowledge spillovers that occur
when companies in the same industry locate in the same area
*
FDI is expensive because a firm must bear the costs of
establishing production facilities in a foreign country or of
acquiring a foreign enterprise.
FDI is risky because of the problems associated with doing
business in another culture where the rules of the game may be
different.
What Are The Theoretical Approaches To FDI? (1 of 2)The
radical view - the multinational enterprise (MNE) is an
instrument of imperialist domination and a tool for exploiting
host countries to the exclusive benefit of their capitalist-
imperialist home countries in retreat almost everywhere The
free market view - international production should be
distributed among countries according to the theory of
comparative advantage embraced by advanced and developing
nations including the United States and Britain, but no country
has adopted it in its purest form
*
LO 8-3: Understand how political ideology shapes a

government’s attitudes towards FDI.
The radical view lacked support by the end of the 1980s because
of: the collapse of communism in Eastern Europe the poor
economic performance of those countries that followed the
policy a growing belief by many of these countries that FDI can
be an important source of technology and jobs and can stimulate
economic growth the strong economic performance of
developing countries that embraced capitalism rather than
ideology
What Are The Theoretical Approaches To FDI? (2 of
2)Pragmatic nationalism - FDI has both benefits (inflows of
capital, technology, skills, and jobs) and costs (repatriation of
profits to the home country and a negative balance of payments
effect)FDI should be allowed only if the benefits outweigh the
costsRecently, there has been a strong shift toward the free
market stance creatinga surge in FDI worldwide an increase in
the volume of FDI in countries with newly liberalized regimes
*
Management Focus: DP World and the United States explores
the reaction to the bid by DP World, a Dubai-based ports
operator, to acquire P&O, a British firm that runs a network of
global marine terminals. An acquisition of P&O would give DP
World management of six U.S. ports. While the Bush
administration claimed the acquisition posed no threat to
national security, several prominent U.S. Senators raised
concerns about the acquisition. Ultimately, DP World pulled
out of the deal, but stated that it would look for alternative
ways to enter the U.S. market.

How Does FDI Benefit
The Host Country? (1 of 2)
There are four main benefits of inward FDI for a host country
Resource transfer effects - FDI brings capital, technology, and
management resources
Employment effects - FDI can bring jobs
*
LO 8-4: Describe the benefits and costs of FDI to home and host
countries.
The Host Country? (2 of 2)
Balance of payments effects - FDI can help a country to achieve
a current account surplus
Effects on competition and economic growth - greenfield
investments increase the level of competition in a market,
driving down prices and improving the welfare of consumerscan
lead to increased productivity growth, product and process
innovation, and greater economic growth

*
What Are The Costs Of
FDI To The Host Country? (1 of 2)
Inward FDI has three main costs:
Adverse effects of FDI on competition within the host nation
subsidiaries of foreign MNEs may have greater economic power
than indigenous competitors because they may be part of a
larger international organization
*
FDI To The Host Country? (2 of 2)
Adverse effects on the balance of paymentswhen a foreign

subsidiary imports a substantial number of its inputs from
abroad, there is a debit on the current account of the host
country’s balance of payments
Perceived loss of national sovereignty and autonomydecisions
that affect the host country will be made by a foreign parent
that has no real commitment to the host country, and over which
the host country’s government has no real control
*
The Home Country?
The benefits of FDI for the home country include
The effect on the capital account of the home country’s balance
of payments from the inward flow of foreign earnings
The employment effects that arise from outward FDI
The gains from learning valuable skills from foreign markets
that can subsequently be transferred back to the home country
*

FDI To The Home Country? (1 of 2)
The home-country’s balance of payments can sufferfrom the
initial capital outflow required to finance the FDIif the purpose
of the FDI is to serve the home market from a low cost labor
locationif the FDI is a substitute for direct exports
*
FDI To The Home Country? (2 of 2)
Employment may also be negatively affected if the FDI is a
substitute for domestic productionBut, international trade theory
suggests that home-country concerns about the negative
economic effects of offshore production (FDI undertaken to
serve the home market) may not be validmay stimulate
economic growth and employment in the home country by
freeing resources to specialize in activities where the home
country has a comparative advantage

*
How Does Government
Influence FDI? (1 of 2)
Governments can encourage outward
FDIgovernment-backed insurance programs to cover major
types of foreign investment riskGovernments can restrict
outward FDIlimit capital outflows, manipulate tax rules, or
outright prohibit FDI
*
LO 8-5: Explain the range of policy instruments that
governments use to influence FDI.
The rationale underlying ownership restraints is twofold: first,
foreign firms are often excluded from certain sectors on the
grounds of national security or competitionsecond, ownership
restraints seem to be based on a belief that local owners can
help to maximize the resource transfer and employment benefits
of FDI for the host country
How Does Government

Influence FDI? (2 of 2)
Governments can encourage inward FDIoffer
incentives to foreign firms to invest in their countriesgain from
the resource-transfer and employment effects of FDI, and
capture FDI away from other potential host
countriesGovernments can restrict inward FDIuse ownership
restraints and performance requirements
*
How Do International
Institutions Influence FDI?
Until the 1990s, there was no consistent
involvement by multinational institutions in the governing of
FDIToday, the World Trade Organization is changing this by
trying to establish a universal set of rules designed to promote
the liberalization of FDI
*

What Does FDI
Mean For Managers? (1 of 3)
Managers need to consider what trade theory
implies about FDI, and the link between government policy and
FDIThe direction of FDI can be explained through the location-
specific advantages argument associated with John
Dunninghowever, it does not explain why FDI is preferable to
exporting or licensing, must consider internalization theory
*
LO 8-6: Identify the implications for managers of the theory
and government policies associated with FDI.
What Does FDI
Mean For Managers? (2 of 3)
A Decision Framework
*
Week 7 Case Study: IMF Podcast Reflection

Review ANY of the podcasts created by the IMF by clicking on
the link below.
https://www.imf.org/en/News/Podcasts?page=1
(Links to an external site.)
Pick a topic of interest. There are over 80 selections to choose
from. Indicate the title of the Podcast. Create a one-page
summary/reflection of the contents of the Podcast in a word
document (1 page, double-spaced, 12 pt font).
These are very relevant and interesting videos, review a couple
and choose the one for you. I look forward to your
reflectionRubric
Week 7 Case Study: IMF Podcast Reflection
Criteria
Ratings
Pts
This criterion is linked to a Learning Outcome Podcast
Summary
The student clearly summarizes / briefs the audience on the IMF
podcast.
10 pts
Full Marks
0 pts
No Marks
10 pts
This criterion is linked to a Learning Outcome Reflection and
the relation of Podcasts to International Business
The student addresses how the podcast is related to themes in
International Business and provides her/his reflection.
30 pts
Full Marks
0 pts
No Marks
30 pts

Total Points: 40
Q.2 Write a reply/suggestion for this article
MNC - TSMC
TSMC outsources work to OSAT.
TSMC outsources some of the processes of its CoWoS
packaging business to OSAT, products in small batch
customization products. Some high-performance chips require
small-batch production. However, TSMC is more specialized in
handling the process at the wafer level. Processing small batch
production is less automated and requires more manpower in
TSMC'S plants. OSAT has more experience and is more
specialized in handling small-batch customization products. By
outsourcing this part of the work to OSAT, TSMC would be
more productive and could focus on the core function of its
business.
Shanghai Metals Market. (2021, November 25). New
cooperation model? TSMC outsourced part of the CoWoS
process to OSAT. Retrieved October 11, 2022, from
https://news.metal.com/newscontent/101677124/new-
cooperation-model-tsmc-outsourced-part-of-the-cowos-process-
to-osat

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