403 ib International Business Environment course notes

Sinhgad Institute of Business
Administration & Computer
Application (SIBACA)
NOTES FOR
MBA - Semester: IV
(Specialization IB)
Course Code: 403IB
Type: Subject – Core
Course Title: International Business
Environment
BY:
Dr. Bhati Rakesh Kumar

Syllabus
Unit 1: Environmental Context of International Business, Framework for analyzing international
business environment – Domestic, foreign and global environments and their impact on
international business decisions.
Global Trading Environment: World trade in goods and services – Major trends and developments;
World trade and protectionism – Tariff and non-tariff barriers; Counter trade.
Unit 2: International Financial Environment: Foreign investments -Pattern, Structure and effects;
Movements in foreign exchange and interest rates and then impact on trade and investment flows.
Unit 3: International Economic Institutions and Agreements: WTO, IMF, World Bank UNCTAD,
Agreement on Textiles and Clothing (ATC), GSP, GSTP and other International agreements;
International commodity trading and agreements.
Unit 4: Multinational Corporations and their involvement in International Business: Issues in
foreign investments, technology transfer, pricing and regulations; International collaborative
arrangements and strategic alliances.
Unit 5: Regional Economic Groupings in Practice: Regionalism vs. multilaterallism, Structure and
functioning of EC and NAFTA; Regional economic cooperation. Emerging Developments and
Other Issues: Growing concern for ecology; Counter trade; IT and international business.

Unit 1: Environmental Context of International Business: Framework for analyzing international
business environment – Domestic, foreign and global environments and their impact on international
business decisions.
Global Trading Environment: World trade in goods and services – Major trends and developments;
World trade and protectionism – Tariff and non-tariff barriers; Counter trade.
International business includes any type of business activity that crosses national borders. Though
a number of definitions in the business literature can be found but no simple or universally accepted
definition exists for the term international business. At one end of the definitional spectrum, international
business is defined as organization that buys and/or sells goods and services across two or more national
boundaries, even if management is located in a single country. At the other end of the spectrum,
international business is equated only with those big enterprises, which have operating units outside their
own country. In the middle are institutional arrangements that provide for some managerial direction of
economic activity taking place abroad but stop short of controlling ownership of the business carrying on
the activity, for example joint ventures with locally owned business or with foreign governments.
In its traditional form of international trade and finance as well as its newest form of multinational
business operations, international business has become massive in scale and has come to exercise a major
influence over political, economic and social from many types of comparative business studies and from
a knowledge of many aspects of foreign business operations. In fact, sometimes the foreign operations
and the comparative business are used as synonymous for international business. Foreign business refers
to domestic operations within a foreign country. Comparative business focuses on similarities and
differences among countries and business systems for focuses on similarities and differences among
countries and business operations and comparative business as fields of enquiry do not have as their
major point of interest the special problems that arise when business activities cross national boundaries.
For example, the vital question of potential conflicts between the nation-state and the multinational firm,
which receives major attention is international business, is not like to be centered or even peripheral in
foreign operations and comparative business.
SCOPE OF INTERNATIONAL BUSINESS ACTIVITIES
The study of international business focus on the particular problems and opportunities that emerge
because a firm is operating in more than one country. In a very real sense, international business involves
the broadest and most generalized study of the field of business, adapted to a fairly unique across the
border environment. Many of the parameters and environmental variables that are very important in
international business (such as foreign legal systems, foreign exchange markets, cultural differences, and
different rates of inflation) are either largely irrelevant to domestic business or are so reduced in range
and complexity as to be of greatly diminished significance. Thus, it might be said that domestic business
is a special limited case of international business.
The distinguishing feature of international business is that international firms operate in
environments that are highly uncertain and where the rules of the game are often ambiguous,
contradictory, and subject to rapid change, as compared to the domestic environment. In fact, conducting
international business is really not like playing a whole new ball game, however, it is like playing in a
different ballpark, where international managers have to learn the factors unique to the playing field.
Managers who are astute in identifying new ways of doing business that satisfy the changing priorities of
foreign governments have an obvious and major competitive advantage over their competitors who
cannot or will not adapt to these changing priorities.
The guiding principles of a firm engaged in (or commencing) international business activities
should incorporate a global perspective. A firm‘s guiding principles can be defined in terms of three
board categories products offered/market served, capabilities, and results. However, their perspective of
the international business is critical to understand the full meaning of international business. That is, the
firm‘s senior management should explicitly define the firm‘s guiding principles in terms of an
international mandate rather than allow the firm‘s guiding principles in terms as an incidental adjunct to
its domestic activities. Incorporating an international outlook into the firm‘s basic statement of purpose
will help focus the attention of managers (at all levels of the organization) on the opportunities (and
hazards) outside the domestic economy.

It must be stressed that the impacts of the dynamic factors unique to the playing field for
international business are felt in all relevant stages of evolving and implementing business plans. The
first broad stage of the process is to formulate corporate guiding principles. As outlined below the first
step in formulating and implementing a set of business plans is to define the firm‘s guiding principles in
the market place. The guiding principles should, among other things, provide a long-term view of what
the firm is striving to become and provide direction to divisional and subsidiary managers vehicle, some
firms use ―the decision circle‖ which is simply an interrelated set of strategic choices forced upon any
firm faced with the internationalization of its markets. These choices have to do with marketing,
sourcing, labor, management, ownership, finance, law, control, and public affairs. Here the first two
marketing and sourcing-constitute the basic strategies that encompass a firm‘s initial considerations.
Essentially, management is answering two questions: to whom are we going to sell what, and from where
and how will we supply that market? We then have a series of input strategies-labor, management,
ownership, and financial. They are in their efforts to develop their own business plans. As an obligation
addressed essentially to the query, with what resources are we going to implement the basic strategies?
That is, where will we find the right people, willingness to carry the risk, and the necessary funds? A
third set of strategies-legal and control-respond to the problem of how the firm is to structure itself of
implement the basic strategies, given the resources it can muster. A final strategic area, public affairs, is
shown as a basic strategy simply because it places a restraint on all other strategy choices.
Each strategy area contains a number of subsidiary strategy options. The decision process that
normally starts in the marketing strategy area is an iterative one. As the decision maker proceeds around
the decision circle, previous selected strategies must be readjusted. Only a portion of the possible
feedback adjustment loops is shown here.
Although these strategy areas are shown separately but they obviously do not stand-alone. There
must be constant reiteration as one moves around the decision circle. The sourcing obviously influences
marketing strategy, as well as the reverse. The target market may enjoy certain preferential relationships
with other markets. That is, everything influences everything else. Inasmuch as the number of options a
firm faces is multiplied as it moves into international market, decision-making becomes increasingly
complex the deeper the firm becomes involved internationally. One is dealing with multiple currency,
legal, marketing, economic, political, and cultural systems. Geographic and demographic factors differ
widely. In fact, as one moves geographically, virtually everything becomes a variable: there are few fixed
factors.
For our purposes here, a strategy is defined as an element in a consciously devised overall plan of
corporate development that, once made and implemented, is difficult (i.e. costly) to change in the short
run. By way of contrast, an operational or tactical decision is one that sets up little or no institutionalized
resistance to making a different decision in the near future. Some theorists have differentiated among
strategic, tactical, and operational, with the first being defined as those decisions, that imply multi-year
commitments; a tactical decision, one that can be shifted in roughly a year‘s time; an operational
decision, one subject to change in less that a year. In the international context, we suggest that the tactical
decision, as the phrase is used here, is elevated to the strategic level because of the rigidities in the
international environment not present in the purely domestic-for example, work force planning and
overall distribution decisions. Changes may be implemented domestically in a few months, but if one is
operating internationally, law, contract, and custom may intervene to render change difficult unless
implemented over several years.
SPECIAL DIFFICULTIES IN INTERNATIONAL BUSINESS
What make international business strategy different from the domestic are the differences in the
marketing environment. The important special problems in international marketing are given below:
1. POLITICAL AND LEGAL DIFFERENCES : The political and legal environment of foreign
markets is different from that of the domestic. The complexity generally increases as the number of
countries in which a company does business increases. It should also be noted that the political and
legal environment is not the same in all provinces of many home markets. For example, the political
and legal environment is not exactly the same in all the states of India.
2. CULTURAL DIFFERENCES : The cultural differences, is one of the most difficult problems in
international marketing. Many domestic markets, however, are also not free from cultural diversity.
3. ECONOMIC DIFFERENCES :The economic environment may vary from country to country.

4. DIFFERENCES IN THE CURRENCY UNIT: The currency unit varies from nation to nation.
This may sometimes cause problems of currency convertibility, besides the problems of exchange
rate fluctuations. The monetary system and regulations may also vary.
5. DIFFERENCES IN THE LANGUAGE: An international marketer often encounters problems
arising out of the differences in the language. Even when the same language is used in different
countries, the same words of terms may have different meanings. The language problem, however, is
not something peculiar to the international marketing. For example: the multiplicity of languages in
India.
6. DIFFERENCES IN THE MARKETING INFRASTRUCTURE: The availability and nature of
the marketing facilities available in different countries may vary widely. For example, an advertising
medium very effective in one market may not be available or may be underdeveloped in another
market.
7. TRADE RESTRICTIONS: A trade restriction, particularly import controls, is a very important
problem, which an international marketer faces.
8. HIGH COSTS OF DISTANCE: When the markets are far removed by distance, the transport cost
becomes high and the time required for affecting the delivery tends to become longer. Distance tends
to increase certain other costs also.
9. DIFFERENCES IN TRADE PRACTICES: Trade practices and customs may differ between two
countries.
BENEFITS OF INTERNATIONAL BUSINESS
1. SURVIVAL : Because most of the countries are not as fortunate as the United States in terms of
market size, resources, and opportunities, they must trade with others to survive; Hong Kong, has
historically underscored this point well, for without food and water from china proper, the British
colony would not have survived along. The countries of Europe have had similar experience,
since most European nations are relatively small in size. Without foreign markets, European firms
would not have sufficient economies of scale to allow them to be competitive with US firms.
Nestle mentions in one of its advertisements that its own country, Switzerland, lacks natural
resources, forcing it to depend on trade and adopt the geocentric perspective. International
competition may not be matter of choice when survival is at stake. However, only firms with
previously substantial market share and international experience could expand successfully.
2. GROWTH OF OVERSEAS MARKETS: Developing countries, in spite of economic and
marketing problems, are excellent markets. According to a report prepared for the U.S.
CONGRESS by the U.S. trade representative, Latin America and Asia/Pacific are experiencing
the strongest economic growth. American markets cannot ignore the vast potential of international
markets. The world is more than four times larger than the U.S. market. In the case of Amway
corps., a privately held U.S. manufacturer of cosmetics, soaps and vitamins, Japan represents a
larger market than the United States.
3. SALES AND PROFIT: Foreign markets constitute a larger share of the total business of many
firms that have wisely cultivated markets aboard. Many large U.S. companies have done well
because of their overseas customers. IBM and Compaq, foe ex, sell more computers aboard than
at home. According to the US dept of commerce, foreign profits of American firms rose at a
compound annual rate of 10% between 1982 and 1991, almost twice as fast as domestic profits of
the same companies.
4. DIVERSIFICATION: Demand for mast products is affected by such cyclical factors as
recession and such seasonal factors as climate. The unfortunate consequence of these variables is
sales fluctuation, which can frequently be substantial enough to cause lay offs of personnel. One
way to diversify a companies‘ risk is to consider foreign markets as a solution for variable
demand. Such markets, even out fluctuations by providing outlets for excess production capacity.
Cold weather, for instance may depress soft drink consumption. Yet not all countries enter the
winter season at the same time, and some countries are relatively warm year round. Bird, USA,
inc., a Nebraska manufacturer of go carts, and mini cars, for promotional purposes has found that
global selling has enabled the company to have year round production. It may be winter in
Nebraska but its summer in the southern hemisphere-somewhere there is a demand and that
stabilizes the business.

5. INFLATION AND PRICE MODERATION: The benefits of export are readily self-evident.
Imports can also be highly beneficial to a country because they constitute reserve capacity for the
local economy. Without imports, there is no incentive for domestic firms to moderate their prices.
The lack of imported product alternatives forces consumers to pay more, resulting in inflation and
excessive profits for local firms. This development usually acts a s prelude to workers demand for
higher wages, further exacerbating the problem of inflation.
Import quotas imposed on Japanese automobiles in the 1980‘s saved 46200 US production
jobs but at a cost of $160,000 per job per year. This cost was a result of the addition of $400 to
the prices of US cars, and $1000 to the prices of Japanese imports. This windfall for Detroit
resulted in record high profits for US automakers. Not only do trade restrictions depress price
competition in the short run, but they also can adversely affect demand for year to come.
6. EMPLOYMENT : Trade restrictions, such as high tariffs caused by the 1930‘s smoot-hawley
bill, which forced the average tariff rates across the board to climb above 60%, contributed
significantly to the great depression and have the potential to cause wide spread unemployment
again. Unrestricted trade on the other hand improves the world‘s GNP and enhances employment
generally for all nations.
Importing products and foreign ownership can provide benefits to a nation. According to the
institute for international Economics-a private, non- profit research institute – the growth of
foreign ownership has not resulted in a loss of jobs for Americans; and foreign firms have paid
their American workers the same, as have domestic firms.
FRAMEWORK FOR ANALYSING INTERNATIONAL BUSINESS ENVIRONMENT
Environmental analysis is defined as ―the process by which strategists monitor the economic,
governmental/legal, market/competitive, supplier/technological, geographic, and social settings to
determine opportunities and threats to their firms‖.
―Environmental diagnosis consists of managerial decisions made by analyzing the significance of the
data (opportunities and threats) of the environmental analysis‖.
The definition of environmental analysis given above has been made in the context of the strategic
management process for an existing firm. It is, however, quite obvious that environmental analysis is the
cornerstone of new business opportunity analysis too.
Indeed, today a much more greater emphasis is given than in the past to the fact that
environmental analysis is an essential prerequisite for strategic management decision-making. For
instance, in his recent editions of Marketing Management, Philip Kotler, the world-renowned professor
and author, describes Marketing Environment Audit as the first component of a Marketing Audit,
whereas in the earlier editions of this book, the definition of Marketing Audit does not have any reference
to the environment.
It is now unquestionably accepted that the prospects of a business depend not only on its
resources but also on the environment. An analysis of the strengths, weaknesses, opportunities and threats
(SWOT) is very much essential for the business policy formulation.
Just as the life and success of an individual depend on his innate capability, including physiological
factors, traits and skills, to cope with the environment, the survival and success of a business firm depend
on its innate strength – the resources as its command, including physical resources, financial resources,
skill and organization – and its adaptability to the environment.
Every business enterprise, thus, consists of a set of internal factors and is confronted with a set of
external factors.
The internal factors are generally regarded as controllable factors because the company has
control over these factors; it can alter or modify such factors as its personnel, physical facilities,
organization and functional means, such as the marketing mix, to suit the environment.
The external factors, on the other hand, are by and large, beyond the control of a company. The external
or environmental factors such as the economic factors, socio-cultural factors, government and legal
factors, demographic factors, geo-physical factors etc. are, therefore, generally regarded as uncontrollable
factors.
As the environmental factors are beyond the control of a firm, its success will depend to a very
large extent on its adaptability to the environment, i.e. its ability to properly design and adjust the internal

(the controllable) variables to take advantage of the opportunities and to combat the threats in the
environment.
INTERNATIONAL ENVIRONMENT
The international environment is very important from the point of view of certain categories of
business. It is particularly important for industries directly depending on imports or exports and import-
competing industries. For example, a recession in foreign markets, or the adoption of protectionist
policies by foreign nations, may create difficulties for industries depending on exports. On the other
hand, a boom in the export market or a relaxation of the protectionist policies may help the export-
oriented industries. A liberalization of imports may help some industries which use imported items, but
may adversely affect import-competing industries.
It has been observed that major international developments have their spread effects on domestic
business. The Great Depression in the United States sent its shock waves to a number of other countries.
Oil price hikes have seriously affected a number of economies. These hikes have increased the cost of
production and the prices of certain products, such as fertilizers, synthetic fibres, etc. The high oil price
has led to an increase in the demand for automobile models that economise energy consumption. The
demand for natural fibres increased because of the oil crisis.
The oil crisis also prompted some companies to resort to demarketing. ―Demarketing refers to
the process of cutting consumer demand for a product back to level that can be supplied by the firm‖.
Some oil companies-the Indian Oil Corporation, for example-have publicized tips o how to cut oil
consumption. When the fertilizer price shot up following the oil crisis, some fertilizer companies
appealed to the farmers to use fertilizers only for important and remunerative crops. The importance of
natural manure like compost as a substitute for chemical fertilizers was also emphasized.
The oil crisis led to a reorientation of the Government of India‘s energy policy. Such
developments affect the demand, consumption and investment pattern.
A good export market enables a firm to develop a more profitable product mix and to consolidate
its position in the domestic market. Many companies now plan production capacities and investment
taking into account also the foreign markets. Export marketing facilitates the attainment of optimum
capacity utilization; a company may be able to mitigate the effects of domestic recession by exporting.
However, a company which depends on the export market to a considerable extent has also to face the
impact of adverse developments in foreign markets.
Global Trading Environment:
Countries are becoming economically interdependent, characterized by a movement of goods,
services, labour and capital across borders. Cooperation enables better linkages among the smaller
marginalized producers and between smaller and larger mainstream enterprises.
The International trade environment module is made to perceive all the aspects of the globalization on
how trade and exports led to job creation, poverty reduction, prosperity and development in many
communities.
World trade in goods and services- Major trends and developments;
World trade / international trade is the exchange of capital, goods, and services across international
borders or territories, which could involve the activities of the government and individual. In most
countries, such trade represents a significant share of gross domestic product (GDP). Trading globally
gives consumers and countries the opportunity to be exposed to new markets and products. Almost every
kind of product can be found on the international market: food, clothes, spare parts, oil, jewelry, wine,
stocks, currencies and water. Services are also traded: tourism, banking, consulting and transportation. A
product that is sold to the global market is an export, and a product that is bought from the global market
is an import. Imports and exports are accounted for in a country's current account in the balance of
payments.
The barter system – exchange of commodities against commodities (local trade) Waterborne
Traffic (3000-1000 BCE) – expansion of trade to distant places, mainly through waterways Camels and
caravans (After 1000 BCE) – trade through land connected Africa and Asia. Routes from the west (After
300 BCE) – extension towards Europe, The Silk Route (2nd Century BCE) – connecting China, India and

Mediterranean. Trade of goods in exchange of gold The Silk Road introduced global economics. World
Trade (1st century CE to 15th century CE) – silk route remains the dominant route for trade. Entry of
African traders, Vikings in Russia, Genghis Khan’s plunder and silk route’s control moved from China to
Mongols.
The Portuguese Slave Trade (15th – 17th Century) – slave trade from Africa to Europe and
America. • Portugal's eastern trade (1508-1595) – dominant trade of spices from India (Goa being the
capital) through Arabia to European countries. Later taken over by Spanish. Dutch trade in the east
(1595-1651) – formation of Dutch East India Company. Trade from Java to Europe. The Portuguese were
deprived of trade on spices first from Java and Indonesia and then from Sri Lanka too. • English trade in
the east (17th century) – formation of British East India Company. Established their operations first at
Surat, then Bombay and later Calcutta. The triangular Trade (18th century) – This involves trade
between three countries, viz. Britain, Africa and America.
The central pillar of the 19th-century global economy was the international gold standard. By the end of
the 1880s, virtually the whole world had joined Britain on the gold standard, effectively creating a single
world financial system. Since every country fixed the value of its national currency in terms of gold, each
currency had a fixed exchange rate against every other – thus virtually eliminating foreign exchange risk
and barriers to international payments. One of the striking features of the 19th-century economic system
– if it can be termed a “system” – is that it evolved piecemeal and autonomously, not by international
design and agreement. Trade relations were underpinned by a patchwork quilt of separate bilateral
undertakings, while the international gold standard entailed only countries’ individual commitments to
fix the price of their domestic currencies in terms of a specific amount of gold.
In the absence of formal international constraints or scrutiny, most European countries gradually
raised the level of their tariffs in the last three decades of the 19th century to protect domestic producers
against the increasing global competition that had flowed from falling transport costs. By the turn of the
century, the average tariff level in Germany and Japan was 12 per cent, in France 16 per cent, and in the
United States 32.5 per cent.
De-globalization - The first age of globalization was already under strain when the First World
War (1914-1919) delivered a fatal blow – destroying not just the liberal economic order but the
assumption, remarkably widespread in the 1800s, that technology-driven integration, interdependence
and prosperity alone were sufficient to underpin international cooperation and peace. Trade was
massively disrupted, the gold standard collapsed, economic controls and restrictions were widespread,
and Europe, the former core of the world economy, was left devastated or exhausted.
Economic challenges were compounded by financial challenges. In the face of widespread
financial volatility and competitive devaluations, countries kept or re- imposed trade and exchange
restrictions to slow imports and strengthen their balance of payments. The Great depression (1929) - To
the problems of collapsing demand, banking crises and growing unemployment were added rising
protectionism and economic nationalism. The US Congress then passed the infamous Smoot- Hawley
Tariff Act in 1930, raising US tariffs to historically high levels and prompting other countries to retreat
behind new tariff walls and trade blocs. (the world average tariff rate was 25%); as a result of these new
trade barriers and collapsing demand, international trade collapsed, its value declining by two- thirds
between 1929 and 1934. Economic insecurity fed political insecurity, resulting in the rise of political
extremism, the breakdown of collective security, a race to re-arm, and ultimately the outbreak of the
Second World War.
Re-globalization – there is one important difference between the first and the second age of
globalization. Whereas the 19th-century version was accompanied by only elementary efforts at
international economic cooperation, the 20th- century version, by explicit design, was built on a
foundation of new multilateral economic institutions known collectively as the Bretton Woods system:
the International Monetary Fund (IMF), the World Bank and the General Agreement on Tariffs and Trade
(GATT). The aim of the IMF was to re-establish the exchange-rate stability of the gold standard era while
at the same time preserving countries’ freedom to promote full employment and economic growth. Under
the new Bretton Woods system, exchange rates were fixed, but adjustable, and international stabilization
funds were made available to countries facing balance-of-payments difficulties. The World Bank was
established to provide soft loans for both economic reconstruction and industrial development.
Transport and communications revolution – post 2nd World War (1945), a lot of developments
took place in transport and communications systems. Some major developments that took place were: –

Innovations in trans-oceanic shipping – huge, specialized bulk carriers with the harbor facilities needed to
handle these new vessels. – Expansion of railway networks – Introduction of commercial motor vehicles
– rapid expansion of airfreight represented yet another major transportation breakthrough – Innovations
in telecommunications, computing and the global information have spawned. Thanks to fiber optic
cables, satellites and digital technology, the cost of overseas telecommunications is approaching zero.
Although services trade grew faster than goods trade in the 1980s and 1990s, the rate of increase
in services slowed in the 2000s to the point where its average rate fell below that of goods. Furthermore,
services trade has been much less volatile than trade in goods since the global financial crisis of 2008-09.
Consequently, the share of services in the total has remained more or less constant since 1990. It is often
assumed that trade in commercial services is still growing faster than goods trade, but this may not
necessarily be the case.
Multilateral Trade Liberalization a Success - – World trade in goods and services is much freer
today than in the pre-WTO world. – Tariff barriers and non-tariff barriers have been significantly reduced
with tariff protection against industrial products at historically lowest level in almost all countries. – In
developed countries, simple average tariffs uniformly stands below 5 percent. India, which is often
depicted as a highly protected country, has applied tariffs averaging around 10 percent, while the
corresponding figure in China stands even lower at 8.7 percent. Even Latin America, where tariffs are
higher, now averages below 15 percent. – It is also noteworthy that despite the major financial crisis,
which created prolonged and still continuing high levels of unemployment in the major industrial
economies, trade disruption has been minimal.
Developing Countries Embrace Liberalization and the WTO - – Under S&D (special and
differential), developing countries enjoyed automatic extension of any tariff reductions undertaken by
developed countries, without having to reciprocate with matching trade concessions. – Spurred by trade
liberalization and other market-friendly reforms, China and India both experienced double-digit growth
in their exports averaging around 15 percent annually between 1990 and 2010. – Developing countries
have become major exporters of manufactures and have thus favored an outward orientation. – The extent
of the engagement of developing countries in multilateral negotiation, i.e., the Doha Round, has been a
far more substantial than it was in the past. – developing countries have also come to use the dispute
settlement body (DSB) to assert and defend their trading rights.
Preferential Agreements Proliferate Derailing Multilateralism - – A cornerstone of the World
Trade Organization (WTO) is the principle of nondiscrimination: member countries may not discriminate
against goods entering their borders based upon the country of origin. – Though, WTO, through Article
XXIV of GATT and Article V of the General Agreement on Trade in Services, does permit countries to
enter into preferential trade agreements (PTAs) in the form of Free Trade Areas (FTAs) and Customs
Unions (CUs) with one another. – a large share of world trade is now taking place between PTA
members. – Thus, PTAs have become a stumbling block to multilateral liberalization. Export interests,
especially in the developed countries, have learned that they get better deals through PTAs since they
gain an upper hand over non-members within the union. Therefore, they prefer bilateral rather than
multilateral route to liberalization.
The evolving phenomena of production fragmentation and trade – – Production fragmentation
refers to a context in which various components of a good are produced in multiple countries and
possibly traverse national borders many times before being ultimately assembled into a final form that is
sold to the consumer. – This provides a new basis for countries to achieve preferential integration
regionally and at a “deeper” level. – Though, this is a matter of debate now as it has been seen that many
production networks are regional in nature. – Furthermore, with increased fragmentation, the
identification of the origin of goods, so that preferences may be suitably granted, is itself a major
challenge.
Whither Trade Negotiations: Doha, TPP and TIPP  The Doha Round The multilateral, Doha
Development Round, sometimes called the Doha Development Agenda, because of its reputed focus on
the improvement of the trading prospects for developing countries, was launched in 2001. The Doha
ministerial declaration gave this round its mandate to negotiate liberalization on agriculture, services and
intellectual property rights. To date, despite several attempts to advance the negotiations, this round has
not been successfully closed, although a preliminary agreement on less contentious issues such as trade
facilitation and removal of trade barriers against exports from the least developed countries was at last

achieved at the latest December 2013 WTO ministerial meetings in Bali. The key reasons for the impasse
–having been labeled the “development round”, the expectations of the developing countries for the
round were at least partly based on the idea that the previous round of negotiations (the Uruguay Round)
had effectively damaged them and the new round would be about treating those injuries.
On agricultural policies, the negotiating agenda was initially driven by many agricultural
exporting developing countries that expected to benefit from improved access as well as increased prices
resulting from reductions in developed country domestic and export subsidies. The developed country
subsidies hurt their farmers by driving down prices. But the food-price crisis of 2007-2008, which saw
shortages of many agricultural commodities drive food prices sharply up, led these latter countries to re-
evaluate their positions. The heft of emerging economies has increased dramatically in recent years. A
much greater fraction of the addition to world GDP came from developing countries in the last decade
than it did in the preceding decade. So rich countries are much more concerned about access to emerging
markets than they were when the goals for the Doha round were first set. Markets in industrial goods and
services in the developing countries have also undergone significant liberalization in the 2000s. This is
particularly true of two major countries: China and India.
The Trans Pacific Partnership (TPP) The TPP is a trade agreement currently under negotiation
among 11 additional countries: Australia, Brunei, Chile, Canada, Japan, Malaysia, Mexico, New Zealand,
Peru, Singapore, the United States, and Vietnam. The TPP is sometimes seen as a competing proposal to
the Regional Comprehensive Economic Partnership (RCEP), the agreement championed by China and
now being discussed by ASEAN’s ten member states along with Australia, China, Japan, India, South
Korea, and New Zealand. The agreement promises to provide a link to the dynamic economies of the
Asia–Pacific and insures against its exclusion from the RCEP. Concerns have been expressed that the
TPP focuses on protecting intellectual property to the disadvantage of efforts to provide access to
affordable medicine in the developing world thus going against the foreign policy goals of the Obama
administration. There have been strong domestic pressures within the United States, seeking the inclusion
of a “labor chapter” that, for instance, insures that workers any TPP country, have the ability to unionize
and engage in collective wage bargaining.
Transatlantic Trade and Investment Partnership (TTIP) The TTIP is a trade agreement that is
presently being negotiated between the European Union and the United States. Announced with an
ambitious timetable for completion (end 2014), it is already clear that the agreement is highly unlikely to
be achieved due to the current economic circumstances as well as the long standing differences between
the United States and the European Union on a number of issues that would be key to successful
negotiation of a trade agreement between these two parties. Eurozone has not yet recovered from the
banking and financial crisis of recent years. Unemployment stands at around 12 percent overall and is
significantly higher in the hardest hit countries such as Greece. Moreover, while tariff barriers between
the US and the EU are already quite low, the negotiations are likely to be plagued by differences between
the two on a number of economic and regulatory matters.
Rule-Making and Dispute Settlement: Bilateral vs. Multilateral Settings – rules governing trade in
services require negotiation over a number of complex issues in areas such as competition policy,
domestic regulation and government procurement. – the question before the system is whether the
weakening of the multilateral trade process and the popularity of bilateral processes might damage the
rule making function of the WTO and result in bilateral-agreement-specific rules that exist in an
uncomfortable dis-harmony and possible legal indeterminacy with rules made in the context of
negotiations in other bilateral agreements. – DSM (Dispute Settlement Mechanism) would also weaken if
the WTO is seen to be weakened or merely optional and disputes are resolved in other bilateral and
regional forums instead.
WORLD TRADE AND PROTECTIONISM
Arguments for protectionism
Costs of trade
However, completely free trade may have a number of costs for some economies. These may include:
 Adjustment costs - changes in comparative advantage may require adjustments in the structure of
industry and these may take some time. While they are taking place there may be employment
costs from the changeover.

 Environmental costs - free trade may lead to firms relocating to where environmental and other
regulations are most lax. This could cause long-term environmental problems.
Arguments in favour of protectionism
So, why do some governments still protect trade? The main reasons include:
 To safeguard domestic employment - as protectionist polices reduce import penetration. In
terms of the identity AD = C + I + G + (X-M), the lower is M, the greater will be aggregate
demand and thus the higher the level of domestic output and employment.
 To correct balance of payments disequilibrium - as demand for imports is dampened and
exports promoted. This makes the domestic output appear to be more competitive.
 To prevent labour exploitation in developing economies - this is really a moral argument as it
rests on making imports more accurately reflect their true cost of production. However, it might
also reduce imports from some of the poorest economies in the world.
 To prevent dumping - which is where economies sell goods in overseas markets at a price below
the cost of production. Domestic consumers pay more than those buying overseas. Such low
prices are part of a policy to destroy rivals in export markets.
 To safeguard infant industries - as shifts in comparative advantages arise, so some countries
become able to enter new markets. Their fledgling industry needs some protection from the power
of already established competitors.
 To enable a developing country to diversify - this is similar to the infant industries argument.
Many developing countries are heavily dependent on exports of primary commodities. This can
leave them very exposed to changes in international commodity prices. If they want to diversify
and develop new export revenue streams, they may need to protect these new industries from full
exposure to international competition for a while.
 Source of government revenue - where protectionism takes the form of a tariff, apart from
reducing demand for imports via the impact of a higher price, this will also raise revenue for the
government, like any other tax. The revenue raising function will be most successful where the
demand for imports is price inelastic.
 Strategic arguments - a particular product or industry might be of strategic importance to a
country, e.g. agriculture or coal, and protectionism may be justified on the grounds that it is
keeping alive an industry which plays a vital part in the economy, perhaps because of social,
political or military reasons.
Arguments against protectionism
Although protection is often seen as a convenient political solution for countries (and has been
extensively used even in recent years),it does also have a number of problems. This means that it is not
always the best solution for a country. These problems include:
 Downward multiplier effects - if a country successfully protects against imports, this will reduce
the level of imports. However, one country's imports are another country's exports and this
reduction in exports will lead to a multiplied effect. This may even reduce demand for exports
from the country that raised the protectionist measures in the first place, but will certainly reduce
world output.
 Retaliation - any protectionist measure tends to be instantly met with some form of retaliation.
This will tend to mean that any success in protecting against imports leads to a fall in exports
when the retaliation starts to bite.
 Costs - tariffs (and other protectionist measures) tend to lead to a cost on society. The tariff leads
to a reduction in imports. Some of the benefits from the reduced imports are passed to domestic
firms in the form of higher prices and the government in the form of revenue, but welfare cost to
society also. Consumers will be paying higher prices for many of the goods and services they
consume.
 Inefficiency of resource allocation - the imposition of tariffs or other protection may not be the
best solution. Firms may be able to shelter behind the tariff wall and remain inefficient. They may
not have an incentive to reduce costs and become fully globally competitive if they believe that
the tariffs will continue. This will be true also where infant industries are protected. If the tariffs
remain in the long-term, the infant industry may never 'grow-up'. Firms operating with higher
costs may be unable to achieve export competitiveness. In short, resources will not be allocated to
their most efficient uses.

 Bureaucracy - many protectionist measures are very bureaucratic to enforce. This is likely to
reduce choice for domestic consumers and perhaps lead to possible corruption and other
administrative costs. These will not be beneficial for the economy.
TARIFF AND NON-TARIFF BARRIERS
Tariff and Non-Tariff Barriers are restrictions imposed on movement of goods between
countries. It can be levied on imports and exports. Tariff and non tariff barriers are imposed for various
reasons such as –
(i) National Security – Countries enforce tariff and non-tariff barriers to protect the security of
the nation. Eg. Defence sector in India
(ii) Retaliation – Government of a country intervenes in the trade policies in order to act as a
bargaining tool. Retaliation agreements help countries to allow free trade among them.
(iii) Protecting Jobs – Government aims to protect domestic employment. Domestic employment
is affected from foreign competition as domestic industries start to import services from abroad in
order to keep up with the competition.
(iv) Protecting Infant industries – Competition form imported goods threatens the infant
industries of a country. In order to develop and grow certain industries government may impose
heavy tariffs on imported goods to increase prices and help the infant industries.
(v) Protecting customers – Government may levy a heavy tax on goods which are against the
welfare of the country and its citizens.
TARIFF BARRIERS
Tariff is a custom, duty or a tax imposed on products that move across borders. The words
tariff/custom/duty are interchangeable. It is the most common instrument used for controlling imports
and exports.
♦ Import tariff/duty – It is the custom duty imposed by the importing country i.e. the tax
imposed on goods imported. It is levied to raise revenue and protect domestic industries.
♦ Export tariff – It is the duty imposed on goods by the exporting country on its exports.
Generally certain mineral and agricultural products are taxed.
♦ Transit duties – It is levied on commodities that originate in one country, cross another and are
consigned to another. Transit duties are levied by the country through which the goods pass. It
results in increased cost of products and reduction in amount of commodities traded.
OTHER TARIFF BARRIERS
♦ Specific duty – It is based on (specific attribute) physical characteristics of goods. It is a fixed
or specific amount of money that is levied as tax keeping in view the
weight(quantity)/measurement (volume) of the commodity.
♦ Ad valorem duty – These are duties that are imposed according to the value of commodities
traded between countries. It is generally a fixed percentage of the invoice value of the goods
traded.
♦ Compound duty – It is a combination of specific duty and ad valorem duty on a single
product. It is partly based on quantity and partly on the value of goods.
NON TARIFF BARRIERS
These are non tax restrictions such as (a) government regulation and policies (b) government
procedures which effect the overseas trade. It can be in form of quotas, subsidies, embargo etc.
♦ Quotas – It is a numerical limit on the quantity of goods that can be imported or exported
during a specified time period. The quantity may be stated in the license of the firm. If the
importer imports more than specified amount, he has to pay a penalty or fine.
♦ VER (voluntary export restraint) – It is a quota on exports fixed by the exporting country on
the request of the importing country. The exporting country fixes a quota regarding the maximum
amount of quantity that will be exported to the concerned nation.
♦ Subsidies – It is the payment made by the government to the domestic producer so that they can
compete against foreign goods. It can be a cash grant, subsidized input prices, tax holiday,
government equity participation etc. It helps a local firm to reduce costs and gain control over the
market.
OTHER BARRIERS

♦ Administration dealings – These are regulatory controls and bureaucratic rules and regulations
which affect the flow of imports. It can be a delay at custom offices, safety inspection,
environment regulatory inspection etc.
♦ Local content requirement – Legal content requirement is a legal regulation which states that
a specified amount of commodity must be supplied in the domestic market by the producer. It is
used to help local labour and domestic suppliers of goods. Government may state a – (a) labour
requirement (b) input requirement or (c) component required at a local level.
♦ Currency Control – Government may impose restrictions on currency convertibility. In order
to import goods countries have to make payment in foreign currency which is acceptable
worldwide i.e. US dollar, European Euro or Japanese Yen. The government can put a limit on the
amount of money that can be converted in foreign currency or ask a company to apply for a
license to obtain such currency.
♦ Embargo – It means a complete ban on certain commodities. A country may ban import and
export of certain goods in order to achieve some political or religious goals.
♦ Product testing and standardization – Standards are set for health, welfare, safety, quality,
size and measurements which have to be complied with in order to enter a foreign market. The
products have to meet international quality standards. All Products must meet the quality
standards of the domestic county before they are offered for trade. Inspection is very extensive in
case of electronic goods, vehicles and machinery.
COUNTER TRADE.
An umbrella concept that has come to mean all forms of reciprocal or compensatory trade
arrangements. A countertrade contract or agreement, recognized under law, is used to denote the
countertrade arrangement between two or more legally competent parties in proper form, such that either
party may seek legal sanctions in a court for the other's non-performance.
In the countertrade context, there are three contracts involved in most transactions. The first
covers the underlying business transaction; the second covers the countertrade transaction and the third
covers the protocol or linkage that ties the two together.
Compensatory Arrangements: Also referred to as countertrade, reciprocal trade, offset, or counter
purchase. A seller of a product or system (usually a multinational, diversified or decentralized company)
is compelled by the buyer (usually a foreign government) into a direct or indirect reciprocal purchasing
relationship as a condition of sale.
Often the seller must agree to one of a number of possible arrangements: Local manufacturing of
components related to the product or system (direct); Purchase of unrelated commodities (indirect);
Purchase of unrelated manufactured goods (indirect); Transfer of technology/licensing/investments to the
buyer country (direct or indirect); Create foreign exchange to facilitate original sale. (The seller would
"sell" an unrelated product from Buyer Country first and then uses the resulting foreign exchange to help
the Buyer pay for the product or system.)
Types of Countertrade
1. Barter- direct exchange of goods or services having equivalent values without a cash transaction
2. Counter purchase: involves 2 simultaneous separate transactions between 2 parties with or
without cash
3. Buyback or compensation: involves repayment in the form of goods derived from directly from,
or produced by, the technology, plant, or equipment provided by the seller
4. Offsets: involves an arrangement whereby the seller is required to assist in or to arrange for the
marketing of products produced by the buying country or to allow some portion of the exported
product to be assembled or manufactured by producers located in the buying country.
5. Switch-trading: refers to a switch in the country of destination goods
Why countertrade?
1. Shortage of hard currency
2. Lack of credit
3. Bop problems
4. Low commodity prices - low export income
5. Surplus capacity
6. Arms trade

7. Lack of a well developed private sector
8. Lack of international trading experience
9. LDCs - low share of manufactured goods iintl trade
Benefits of Countertrade
1. Allows entry into difficult markets
2. Increases company sales
3. Overcomes currency controls & exchange problems
4. Increases sales volume
5. Overcomes credit difficulties
6. Allows fuller use of capacity
7. Allows disposal of declining products
8. Provides sources of attractive inputs
9. Gain competitive edge over competition
Disadvantages of Countertrade
1. No “in house” use of goods offered by customers
2. Time consuming and complex negotiations
3. Uncertainty
4. Increase costs
5. Difficult to resell goods by offsets
6. Brokerage costs
7. Getting businesses in which firm may have no knowledge
8. Risky if commodities are involved

Unit 2: International Financial Environment: Foreign investments -Pattern, Structure and effects;
Movements in foreign exchange and interest rates and then impact on trade and investment flows.
International Financial Environment:
Economic development remains an urgent global need. Globalization – which links countries
closer than ever before with each other - reinforces this need. The countries have achieved impressive
increases in income, over a billion people than a hundred countries stilt live in poverty. Economic
inequalities within co remain large, and there is little sign of convergence in incomes across countries. A
number of developing countries face increasing marginalization.
Globalization accentuates the increasing importance of the international economics for developing
countries. Flows of finance, information, skills, technology, go services between countries are increasing
rapidly. FDI is one of the most dynamic increasing international resource flows to developing countries,
FDI flows are particularly important because FDI is a package of tangible and intangible assets, and
because firms TNCs deploying them are now important players in the global economy can affect
development, by complementing domestic investment and by undertaking trade and transfers of
knowledge, skills and technology. However, TNCs do not substitute for domestic effort: they can only
provide access to tangible and intangible assets and catalyse domestic investment and capabilities. In a
world of intensifying competition and accelerating technological change, this complementary and
catalytic role can very valuable. Since globalization has its dangers, countries need to prepare their
capabilities to harness its potential including through FDI. However, FDI on its own cannot counteract
the marginalization of developing countries.
Foreign investments -Pattern, Structure and effects;
The factors that propel sustained economic development have not changed o time. They include
the generation and efficient allocation of capital and labour, application of technology and the creation of
skills and institutions. These fact determine how well each economy uses its endowments and adds to
them. They also affect how flexibly and dynamically each country responds to changing economic
conditions, However, the global context for development has changed enormous the past three decades.
These changes affect not only the role of FDI in host countries, but also government policies on EDT.
The following three are of particular significance.
i) The nature and pace of knowledge - and, particularly, technological knowledge - change
The creation and diffusion of productive knowledge have become central to growth and
development. ―Knowledge‖ includes not only technical knowledge (research and development, design,
process engineering), but also knowledge of organisation, management and inter-firm and international
relationships. Much of this knowledge is tacit. Today, the resources devoted to such knowledge exceed
investment in tangible machinery and equipment in many of the world‘s most dynamic firms, and the
costs of generating new knowledge are rising constantly. The importance of knowledge is not limited to
modern or high-tech activities but pervades all sectors and industries, including traditional activities in
the primary sector (for instance, vegetable and flower exports), manufacturing (such as textiles, clothing
and footwear), and services (such as tourism and banking). As a result, achieving development objectives
is, more than ever, a continuous learning process.
Any investment that is made in India with the source of funding that is from outside of India is a
foreign investment. By this definition, the investments that are made by Foreign Corporates, Foreign
Nationals, as well as Non-Resident Indians would fall into the category of Foreign Investment.
Types of Foreign Investments
Funds from foreign country could be invested in shares, properties, ownership / management or
collaboration. Based on this, Foreign Investments are classified as below.
 Foreign Direct Investment (FDI)
 Foreign Portfolio Investment (FPI)
 Foreign Institutional Investment (FII)
Details on each of the foreign investment type can be found below :
Foreign Direct Investment (FDI)
FDI is an investment made by a company or individual who us an entity in one country, in the
form of controlling ownership in business interests in another country. FDI could be in the form of either
establishing business operations or by entering into joint ventures by mergers and acquisitions, building
new facilities etc.

Foreign Portfolio Investment (FPI)
Foreign Portfolio Investment (FPI) is an investment by foreign entities and non-residents in
Indian securities including shares, government bonds, corporate bonds, convertible securities,
infrastructure securities etc. The intention is to ensure a controlling interest in India at an investment that
is lower than FDI, with flexibility for entry and exit.
Foreign Institutional Investment (FII)
Foreign Portfolio Investment (FPI) is an investment by foreign entities in securities, real
property and other investment assets. Investors include mutual fund companies, hedge fund companies
etc. The intention is not to take controlling interest, but to diversify portfolio ensuring hedging and to
gain high returns with quick entry and exit. The differences in FPI and FII are mostly in the type of
investors and hence the terms FPI and FII are used interchangeably.
Introduction to Investment Structures in India
Until 1991, the Indian economy was a closed market. India’s economic liberalization and
globalization have dramatically changed the situation for foreign investment. Today, government policies
incentivize foreign companies to invest in India, both on a national and on a state government level.
Foreign direct investment (FDI) policies have liberalized dramatically in recent years. FDI up to
100 percent is allowed under the automatic route in most sectors/activities. Under the automatic route,
FDI does not require any prior agreement and only involves intimation to the Reserve Bank of India
within 30 days of inward remittances and/or of the issuing of shares to non-residents.
FDI in actions not covered under the automatic route require prior government approval. Such proposals
are measured by the Foreign Investment Promotion Board (FIPB), a government body that offers single
window clearance. The Indian government continues to shape FDI policies. Key examples include FDI
into the multi-brand retail sector and reform to FDI sectoral caps.
Structures for foreign investment into India include liaison offices, project offices, branch offices
and wholly owned subsidiaries. Here, we overview each structure in terms of the situations in which it is
appropriate, permissible activities and limitations. We then examine the concept of permanent
establishment, and FDI under the automatic and government approval route.
Liaison Office
A liaison office (LO) is often chosen by overseas companies as the first step towards setting up a
company in India. The major advantage of establishing a liaison office is that, if it is obeying regulations
and only adhering to the business activities stated below, it is not subject to taxation in India.
A liaison office can engage in the following activities:
 Representing the parent company/group companies;
 Promoting export/import from/to India;
 Promoting technical/financial collaborations between parent/group companies and companies in
India; and
 Assisting communication between parent company and Indian companies.
A liaison office is not allowed to commence any commercial, trading or industrial activities, directly or
indirectly, and is required to sustain itself out of private remittances received from its foreign parent
company through usual banking channels.
To establish a liaison office, a foreign parent company should have a net worth of no less than
US$50,000 and have a three-year profit making track record in its home country. Companies without a
significant profit record and/or capital amount may find it difficult to get permission for a liaison office
by the Reserve Bank of India (RBI).
Applications to establish a liaison office are sent to the Reserve Bank of India (RBI) and a license
to operate is generally given for three years (after which it needs to be renewed).
Branch Office
Any foreign company engaged in manufacturing or trading activities overseas is allowed to set up a
branch office (BO) in India to:
 Export/import goods;
 Render professional or consulting services; or
 Promote technical or financial collaborations between Indian companies and parent or overseas
group companies.

A BO’s business activities must be in compliance with a parent company’s activities. A branch office is
considered to be a foreign company in India by the RBI, which means that BOs are treated as an addition
of the foreign company for income tax purposes.
A BOs allowable scope of activities is broader than for a liaison office, however BOs are still generally
forbidden from engaging in retail trading, manufacturing or processing activities within India.
The major exception to this rule is in special economic zones, where branch offices can be established to
undertake manufacturing and service activities without RBI approval if conditions are met.
To qualify to open a branch office, the foreign parent company should have a net worth not less than
US$100,000 and a profit-making track record for the precede bvng five years.
Similar to a liaison office, applications to establish a branch office are sent to the RBI and a license to
operate is generally given for three years (after which it needs to be renewed).
Project Office
The project office (PO), essentially a branch office set up with the limited purpose of executing a specific
project, allows companies to establish a business presence for a limited period of time.
A business must secure a contract from an Indian company in order to execute a project in India and thus
establish a project office.
This project must be:
 Funded with remittances from abroad;
 Funded by a joint or multilateral financing agency;
 Cleared by an appropriate authority; or
 Based on a contract awarded by a company or entity in India which in turn is funded by a public
financial institution or bank in India.
Otherwise, RBI permission is required.
Wholly Owned Subsidiary
Wholly owned subsidiaries (WOS) are the most suitable and widely used form of business
enterprise for foreign investors in India because they allow total control over business operations, provide
limited liability, and have fewer restrictions on business activities than liaison offices and project offices.
They have independent legal status as Indian companies distinct from the foreign parent company.
Foreign investment in India is regulated under the Foreign Exchange Management Act, 1999, and
is allowed under two routes i.e. the automatic route and government approval route (described below).
A WOS requires a minimum of two directors, and has from two to fifty shareholders with limited
liability. No track record is required for the shareholders and the shareholders can be other legal entities.
The minimum paid-up capital requirement is INR100,000 (approx US$2,000). No approvals of other
regulatory authorities are needed.
A wholly owned subsidiary is subject to Indian laws and regulations as applicable to other
domestic Indian companies and treated as an Indian company for taxation.
Permanent Establishments
Whether an enterprise is a permanent establishment (PE) determines the right of the state to
charge taxes on the income of an enterprise that accrues or arises in India. A PE is a fixed place of
business through which the business of an enterprise is carried on. Whether a foreign-invested enterprise
is a PE depends on their business model and any tax treaty between India and the foreign company’s
country.
Important concepts in determining a permanent establishment include:
Business Connection
If there is no business connection between a non-resident entity and a resident-entity, the resident entity
may not be a PE of the non-resident entity, and the resident-entity would have to be assessed for income
tax as a separate entity. In such a case, a non-resident entity will not be liable to tax in India.
Attribution of Profits
The PE criterion is commonly used in international double taxation conventions to determine the
taxability of an income in the country from which it originates. As per double taxation conventions, the
profits of an enterprise of a contracting state shall be taxable only in that state unless the enterprise carries
on business in the other contracting state through a PE.
The tax treaties that are entered by India with other states recognize mainly three types of PE:
Fixed Place PE

A fixed place of business, with a degree of permanence, at which business is wholly or partially carried
out.
Agency PE
An agency that secures orders wholly or almost wholly on behalf of foreign enterprises, regularly
delivers goods from a maintained stock of goods and has the authority to conclude contracts on behalf of
foreign enterprises.
Service PE
The foreign enterprise furnishes or performs services in India through employees or other personnel for a
specified period, which varies by country.
Automatic vs. Government Approval Route
FDI in India can be done through two routes – the automatic route and the government route – with most
done through the former.
Automatic Approval
FDI in sectors/activities to the extent permitted under the automatic route does not require any
prior approval either by the Government or RBI. Investors are only required to notify the regional office
associated with the RBI within 30 days of receipt of inward remittances and to file the required
documents with that office within 30 days of the issuing of shares to foreign investors.
The FDI policy allows investment up to 100 percent under the automatic route in all the sectors/activities
except:
1. Sectors prohibited for FDI:
 Lottery business including government/private lottery, online lotteries, etc.
 Gambling and betting including casinos etc.
 Chit funds
 Nidhi company
 Trading in Transferable Development Rights
 Real estate business or construction of farm houses
 Manufacturing of cigars, cheroots, cigarillos and cigarettes, of tobacco or of tobacco substitutes.
 Activities/sectors not open to private sector investment e.g. atomic energy and railway transport
(other than mass rapid transport systems).
2. Activities requiring an industrial license
3. All the proposals falling outside notified sectoral policy/caps under the sectors in which FDI is not
permitted.
4. Proposals in which the foreign collaborator has an existing collaboration in India in the existing field.
5. Proposals for acquisitions of shares in an existing Indian company in financial services sector where
stock exchange regulations are attracted.
Government Approval
Under the government route, the foreign investor or the Indian company are required to obtain
prior approval of the Government of India, Ministry of Finance and the FIPB or Department of Industrial
Policy & Promotion (in the case of 100 percent export-oriented units).
The activities/sectors for which the automatic route is not available, and thus the government route for
foreign investment must be used, include the following:
 Public sector banks and credit information companies
 Commodities and stock exchanges
 Asset reconstruction companies
 Power exchanges
 Atomic energy and related projects
 Petroleum, including exploration/refinery/marketing
 Defense and strategic industries
 Print media
 Satellite establishment and private security agency services
Movements in foreign exchange and interest rates and then impact on trade and investment flows

Unit 3: International Economic Institutions and Agreements: WTO, IMF, World Bank UNCTAD,
Agreement on Textiles and Clothing (ATC), GSP, GSTP and other International agreements;
International commodity trading and agreements.
The economic environment has the most profound influence on the business. The globalization of
economy has brought the nations together. We are moving towards a closely knot economy, from the era
of protectionism and self-sufficiency. Therefore, there is a need to study the current economic
environment and the variables that shape the same.
International Economic Institutions and Agreements:Almost every country exports and
imports products to benefit from the growing international trade. The growth of international trade can be
increased, if the countries follow a common set of rules, regulations, and standards related to import and
export.These common rules and regulations are set by various international economic institutions. These
institutions aim to provide a level playing field for all the countries and develop economic cooperation.
World Trade Organization:
The World War–II, which lasted from 1939 to 1945, left many countries in Europe and Asia
totally ravaged. Their economies were shattered; there was tremendous stain on political and social
systems resulting in wide spread annihilation and migration of people. Intentional peace was ruffled.
Something had to be done to put these war-ravaged economies back in shape. Simultaneously, the
various colonies in Asia and Africa were acquiring political freedom. And there was urgent pressure on
them for rapid economic development and political stabilization. In this background the United Nations
Organisation (UNO) was born on the collective wisdom of the world. Progressively, the UNO came to
encompass the concerns for development in economic, commercial, scientific, social and cultural sphere
of the member nations. It formed various forums and agencies. One such forum under the UNO was the
General Agreement on Tariffs and Trade (GATT) which was established in 1947.
WTO was formed in 1995 to replace the General Agreement on Tariffs and Trade (GATT), which
was started in 1948. GATT was replaced by WTO because GATT was biased in favor of developed
countries. WTO was formed as a global international organization dealing with the rules of international
trade among countries.
The main objective of WTO is to help the global organizations to conduct their businesses. WTO,
headquartered at Geneva, Switzerland, consists of 153 members and represents more than 97% of
world’s trade.
The main objectives of WTO are as follows:
a. Raising the standard of living of people, promoting full employment, expanding production and trade,
and utilizing the world’s resources optimally
b. Ensuring that developing and less developed countries have better share of growth in the world trade
c. Introducing sustainable development in which balanced growth of trade and environment goes together
The main functions of WTO are as follows:
a. Setting the framework for trade policies
b. Reviewing the trade policies of different countries
c. Providing technical cooperation to less developed and developing countries
d. Setting a forum for addressing trade-related disputes among different countries
e. Reducing the barriers to international trade
f. Facilitating the implementation, administration, and operation of agreements
g. Setting a negotiation forum for multilateral trade agreements
h. Cooperating with the international institutions, such as IMF and World Bank for making global
economic policies
i. Ensuring the transparency of trade policies
j. Conducting economic research and analysis
WTO has the following advantages:
(a) Promoting peace within nations: Leads to less trade disputes. WTO helps in creating international
cooperation, peace, and prosperity among nations.

(b) Handling the disputes constructively: Helps in lesser trade conflicts. When the international trade
expands, the chances of disputes also increase. WTO helps in reducing these trade disputes and tensions
among nations.
(c) Helping consumers by providing choices: Implies that by promoting international trade, WTO helps
consumers in gaining access to a large number of products.
(d) Encouraging good governance: Accelerates the growth of a country. The rules formulated by WTO
encourage good governance and discourage the unwise policies that lead to corruption in a country.
(e) Stimulating economic growth: Leads to more jobs and increase in income. The policies of WTO
focus on reducing trade barriers among nations to increase the quantum of import and export.
Differences Between GATT And WTO
The WTO is not an extension of the GATT but succession to the GATT. It completely replaces GATT
and has a very different character. The major differences between the two are:
1. The GATT had no status whereas the WTO has a legal status. It has been created a by
international treaty ratified by governments and legislatures of member states.
2. The GATT was a set of rules and procedures relating to multilateral agreements of selective
nature. There were separate agreements on separate issues, which were not binding on members.
Any member could stay out of the agreement. The agreements, which form part of the WTO, are
permanent and binding on all members.
3. The GATT dispute settlement system was dilatory and not binding on the parties to the dispute.
The WTO dispute settlement mechanism is faster and binding on all parties.
4. GATT was a forum where the member countries met once in a decade to discuss and solve
world trade problems. The WTO, on the other hand, is a properly established rule based World
Trade Organization where decisions on agreement are time bound.
5. The GATT rules applied to trade in goods. Trade in services was included in the Uruguay
Round but no agreement was arrived at. The WTO covers both trade in goods and trade in
services.
6. The GATT had a small secretariat managed by a Director General. But the WTO has a large
secretariat and a huge organizational setup.
International Monetary Fund:
The IMF was conceived in July 1944 at an international conference held at Bretton Woods, New
Hampshire, U.S.A. Delegates from 44 governments agreed on a framework for economic cooperation
partly designed to avoid a repetition of the disastrous economic policies that had contributed to the Great
Depression of the 1930s.
During that decade, as economic activity in the major industrial countries weakened, countries
attempted to defend their economies by increasing restrictions on imports; but this just worsened the
downward spiral in world trade, output, and employment. To conserve dwindling reserves of gold and
foreign exchange, some countries curtailed their citizens' freedom to buy abroad, some devalued their
currencies, and some introduced complicated restrictions on their citizens' freedom to hold foreign
exchange. These fixes, however, also proved self-defeating, and no country was able to maintain its
competitive edge for long. Such "beggar-thy-neighbor" policies devastated the international economy;
world trade declined sharply, as did employment and living standards in many countries.
IMF, established in 1945, consists of 187 member countries. It works to secure financial stability,
develop global monetary cooperation, facilitate international trade, and reduce poverty and maintain
sustainable economic growth around the world. Its headquarters are in Washington, D.C., United States.
The objectives of IMF are as follows:
a. Helping in increasing employment and real income of people
b. Solving the international monetary problems that distort the economic development of different
nations
c. Maintaining stability in the international exchange rates
d. Strengthening the economic integrity of the nations

e. Providing funds to the member nations as and when required
f. Monitoring the financial and economic policies of member nations
g. Assisting low developed countries in effectively managing their economies
The Purposes of IMF
The purposes of the International Monetary Fund are:
i. To promote international monetary cooperation through a permanent institution which provides
the machinery for consultation and collaboration on international monetary problems
ii. To facilitate the expansion and balanced growth of international trade, and to contribute thereby
to the promotion and maintenance of high levels of employment and real income and to the
development of the productive resources of all members as primary objectives of economic
policy.
iii. To promote exchange stability, to maintain orderly exchange arrangements among members, and
to avoid competitive exchange depreciation.
iv. To assist in the establishment of a multilateral system of payments in respect of current
transactions between members and in the elimination of foreign exchange restrictions which
hamper the growth of world trade.
v. To give confidence to members by making the general resources of the Fund temporarily
available to them under adequate safeguards, thus providing them with opportunity to correct
maladjustment in their balance of payments without resorting to measures destructive of national
or international prosperity.
vi. In accordance with the above, to shorten the duration and lessen the degree of disequilibrium in
the international balances of payments of members.
WTO and IMF have total 150 common members. Thus, they both work together where the central
focus of WTO is on the international trade and of IMF is on the international monetary and financial
system. These organizations together ensure a sound system of global trade and financial stability in the
world.
Concept of SDR
The SDR, or special drawing right, is an international reserve asset introduced by the IMF in
1969 (under the First Amendment to its Articles of Agreement) out of concern among IMF members that
the current stock, and prospective growth, of international reserves might not be sufficient to support the
expansion of world trade. The main reserve assets were gold and U.S. dollars, and members did not want
global reserves to depend on gold production, with its inherent uncertainties, and continuing U.S. balance
of payments deficits, which would be needed to provide continuing growth in U.S. dollar reserves. The
SDR was introduced as a supplementary reserve asset, which the IMF could "allocate" periodically to
members when the need arose, and cancels, as necessary.
SDRs—sometimes known as "paper gold" although they have no physical form—have been
allocated to member countries (as bookkeeping entries) as a percentage of their quotas. So far, the IMF
has allocated SDR 21.4 billion (about $32 billion) to member countries. The last allocation took place in
1981, when SDR 4.1 billion was allocated to the 141 countries that were then members of the IMF. Since
1981, the membership has not seen a need for another general allocation of SDRs, partly because of the
growth of international capital markets. In September 1997, however, in light of the IMF's expanded
membership—which included countries that had not received an allocation—the Board of Governors
proposed a Fourth Amendment to the Articles of Agreement. When approved by the required majority of
member governments, this will authorize a special one-time "equity" allocation of SDR 21.4 billion, to be
distributed so as to raise all members' ratios of cumulative SDR allocations to quotas to a common
benchmark.
IMF member countries may use SDRs in transactions among themselves, with 16 "institutional"
holders of SDRs, and with the IMF. The SDR is also the IMF's unit of account. A number of other

international and regional organizations and international conventions use it as a unit of account, or as a
basis for a unit of account.
The SDR's value is set daily using a basket of four major currencies: the euro, Japanese yen,
pound sterling, and U.S. dollar. On July 1, 2004, SDR 1 = US$1.48. The composition of the basket is
reviewed every five years to ensure that it is representative of the currencies used in international
transactions, and that the weights assigned to the currencies reflect their relative importance in the
world's trading and financial systems.
World Bank
A need arises to finance various projects in various countries to promote the development of
economically backward regions. The United States and other countries have established a variety of
development banks whose lending is directed to investments that would not otherwise be funded by
private capital. The investments include dams, roads, communication systems, and other infrastructural
projects whose economic benefits cannot be computed and/or captured by private investors, as well as
projects, such as steel mills or chemical plants, whose value lies not only in the economic terms but also,
significantly in the political and social advantages to the nation. The loans generally are medium-term to
long-term and carry concessional rates.
Even though most lending is done directly to a government, this type of financing has two
implications for the private sector. First, the projects require goods and services which corporations can
produce. Secondly, by establishing an infrastructure, new investment opportunities become available for
multinational corporations.
The World Bank or the International Bank for Reconstruction and Development (IBRD) was
established in 1945 under the Bretton Woods Agreement of 1944. An International Monetary and
Financial Conference was held at Bretton Woods, New Hampshire during July 1-22, 1944. The main
purpose of the conference was finalisation of the Articles of Association of IMF and establishment of an
institution for the reconstruction of the war shattered world economies. Thus, the conference has given
birth to World Bank or International Bank for Reconstruction and Development (IBRD). World Bank
was established to provide long-term assistance for the reconstruction and development of the economies
of the member countries while IMF was established to provide short-term assistance to correct the
balance of payment disequilibrium.
The World Bank is a vital source of financial and technical assistance to developing countries
around the world. We are not a bank in the ordinary sense but a unique partnership to reduce poverty and
support development. We comprise two institutions managed by 188 member countries: the International
Bank for Reconstruction and Development (IBRD) and the International Development Association
(IDA). The IBRD aims to reduce poverty in middle-income and creditworthy poorer countries, while
IDA focuses exclusively on the world’s poorest countries. These institutions are part of a larger body
known as the World Bank Group.
Together these two institutions provide low-interest loans, interest-free credits and grants to developing
countries for a wide array of purposes that include investments in education, health, public
administration, infrastructure, financial and private sector development, agriculture, and environmental
and natural resource management.
Functions of the World Bank
The principal functions of the IBRD are set forth in Article I of the agreement and are as follows :
1. To assist in the reconstruction and development of the territories of its members by facilitating the
investment of capital for productive purposes.
2. To promote private foreign investment by means of guarantee of participation in loans and other
investments made by private investors and, when private capital is not available on reasonable
terms, to make loans for productive purposes out of its own resources or from funds borrowed by
it.
3. To promote the long term balanced growth of international trade and the maintenance of
equilibrium in balance of payments by encouraging international investment for the development
of the productive resources of members.

4. To arrange loans made or guaranteed by it in relation to international loans through other channels
so that more useful and urgent projects, large and small a like, will be dealt first. It appears that the
World Bank was created to promote and not to replace private foreign investment. In this respect
the Bank considers its role to be a marginal one, to supplement and assist private foreign
investment in the member
The benefits desired by India from the World bank are:
i. India has received a lot of assistance from the World Bank for its development projects.
ii. Aid India Club was founded in 1950 by the efforts of the World Bank with a view to help India.
This club is now called India Development Forum. This Forum had decided to give loans
amounting to $ 600 crore to India for implementing its structural adjustment.
iii. The bank‘s role in solving the Indus water dispute between India and Pakistan has been
invaluable.
iv. General loans have also been granted by the World Bank to India, to be utilised as per its own
discretion.
v. As a member of the World Bank, India has become the members of International Finance
Corporation, International Development Association and Multilateral Investment Guarantee
Agency also.
vi. India has received technical assistance from time to time from the World Bank for its various
projects. The Expert Team of the Bank has visited India and given valuable suggestions also.
vii. The massive population of India has always created problems in the economic development of the
country. World Bank has been helping India in the population control programmes and urban
development. For this purpose loans amounting to $ 495 crore have also been given to India.
viii. World Bank has been giving financial assistance to NGOs operating in India e.g. Leprosy
Elimination, Education Projects, Child development service projects etc.
On the other hand, critics argue that the World Bank have endangered the economic freedom of India.
The basic points of criticism are as follows:
i. The World Bank has laid a great deal of emphasis on measures of economic liberalisation and
more free play of market forces.
ii. A lot of stress has been laid on going very slow on the setting up of public sector enterprises
including financial intermediaries and encouraging private sector.
iii. India‘s dependence on World Bank has been increasing which is adversely affecting its economic
freedom.
iv. The attitude of World Bank reflects the preference for free enterprise and a market oriented
economy. It shows dissatisfaction with the general performance of economies which are based on
planning and regulation. At different occasions the Bank has tried to undermine the Significance
of our Planning Commission.
v. The devaluation of Indian rupee in 1966 and 1991 was done at the insistence of the World Bank
only.
India‘s main problem till now has been the government‘s incapacity to act rightly, firmly and
effectively in time, on account of being more emotional to set ideologies and compromising attitude to
safeguard the political party‘s interest more than the national interest.
United Nations Conference on Trade and Development:
The International trade is considered to be the engine of economic growth. There has been
continuous and rapid growth in world trade due to liberalisation of tariffs, quotas and other restrictions.
The share of manufacturers in world trade has increased from about 50 per cent to 70 per cent over the
last few decades. The developed countries dominate the world trade though the share of developing
countries has increased over the years. World trade in services has been increasing fast. World trade has
become increasingly multilateral due to the efforts of various international trading blocks, which exercise
a significant influence on world trade.

UNCTAD, established in 1964, is the principal organ of United Nations General Assembly. It
provides a forum where the developing countries can discuss the problems related to economic
development. UNCTAD is headquartered in Geneva, Switzerland and has 193 member countries.
The conference of these member countries is held after every four years. UNCTAD was created
because the existing institutions, such as GATT, IMF, and World Bank were not concerned with the
problem of developing countries. UNCTAD’s main objective is to formulate the policies related to areas
of development, such as trade, finance, transport, and technology.
The main objectives of UNCTAD are as follows:
a. Eliminating trade barriers that act as constraints for developing countries
b. Promoting international trade for speeding up the economic development
c. Formulating principles and policies related to international trade
d. Negotiating the multinational trade agreements
e. Providing technical assistance to developing countries specially low developed countries
It is important to note that UNCTAD is a strategic partner of WTO. Both the organizations ensure
that international trade helps the low developed and developing countries in accelerating their pace of
growth. On 16th
April, 2003, WTO and UNCTAD also signed a Memorandum of Understanding (MoU),
which identifies the fields for cooperation to facilitate the joint activities between them.
Functions of UNCTAD
The UNCTAD was instituted mainly to reduce and eventually eliminate the gap between the developed
and developing countries and to accelerate the economic growth of the developing world. Its main
functions are as follows:
1. To promote international trade between the developed and the developing countries with special
emphasis on the development of underdeveloped countries.
2. To formulate principles and policies of international trade and related problems of economic
development.
3. To make proposals for putting the said principles and policies into effect and to take such steps which
may be relevant towards this end.
4. To negotiate multilateral trade agreements to review and facilitate the coordination of activities of
other institutions within the fold of United Nations related to international trade and related problems of
economic development.
5. To be available as a center for harmonious trade related development policies of governments, and
regional economic groupings in pursuance of Article 7 of the charter of the United Nations.
Agreement on Textiles and Clothing (ATC),
ATC is essentially designed to correct a long standing anomaly in the multilateral trading system.
Since 1961, international trade in textiles and clothing had been virtually excluded from the normal rules
and disciplines of the GATT. It was governed by a system of discriminatory restrictions, which deviated
from some of the basic principles of the GATT. The system was first incorporated in a so-called Short-
Term Cotton Arrangement (“STA”), followed by a Long-Term Arrangement (“LTA”) and, later, by the
Multi-fibre Arrangement (“MFA”). The MFA continued until the WTO Agreements came into effect on
1 January 1995.
Reflecting the specific (and limited) scope of the ATC, not all disputes involving textile and
clothing products come under its purview. For example, disputes relating to anti-dumping measures do
not fall in the ambit of the ATC. These are covered by the Anti-dumping Agreement.
For disputes arising from violations of the ATC itself, the Agreement establishes a two-step procedure.
This procedure is unique to the ATC in as much as it provides for an additional step in the shape of the
Textiles Monitoring Body (“TMB”). A case has to be considered by the TMB before it can be referred to
the panel process. During the seven and a half years that the ATC has been in force, there have been

several dispute cases, some of which were resolved in the TMB. Three went through panels and the
Appellate Body.
This Module gives an overview of the ATC, its main provisions, and how these have been
clarified or interpreted by the TMB, or by panels and the Appellate Body.
The first Section gives a short introduction to the ATC and its main provisions. The second
Section describes the role and procedures of the TMB and brings out some significant clarifications
resulting from its work. The third Section reviews important panel and Appellate Body rulings in
disputes raised under the ATC. It also reviews some pertinent findings from cases in which violation of
ATC obligations was invoked as a supplementary issue. Finally, the fourth Section contains a summary
overview of ATC dispute cases examined by panels
Generalized System of Preferences (GSP)
The Generalised System of Preferences (GSP) is a scheme designed by the UNCTAD to
encourage exports of developing countries to developed countries. Under this scheme, developed
countries grant duty concession on imports of specified manufactures and semi-manufactures from
developing countries.
It was a resolution adopted at the UNCTAD-II, held in 1968 in New Delhi, that led to the introduction of
the GM', which is the result of the realisation that temporary advantages in the form of generalised
arrangements for special tariff treatment for developing countries in the market of developed countries
may assist developing countries to increase their export earnings and so contribute to an acceleration in
the areas of their economic growth.
The EEC countries and a number of other countries, such as the USA, Japan, Norway, New Zealand,
Finland, Sweden, Hungary, Switzerland, Australia, Canada, Bulgaria and Poland have introduced the
GSP.
The GSP facility is available only to developing countries; it is subject to certain stringent limitations.
The preferential rates of duty allowed on the import of manufactures and semi-manufactures and
processed agricultural products differ in schemes of different developed countries because each country
has developed its own GSP, keeping in view its local production base and certain other factors. Each
scheme has a safeguard clause or an escape clause to protect the sensitive sectors in its economy.
A particular item is qualified for GSP benefits only if the following conditions are satisfied:
(1) The product must be included in the GSP list.
(2) The country exporting the item should be declared under the GSP as a beneficiary country.
(3) The value added requirements/process criteria must be complied with.
(4) The product must be imported into the GSP donor country from a GSP beneficiary country.
(5) The exporter must send to his buyer/importer a certificate of origin in the prescribed fowl duly filled
in and duly signed by him, and then certified by a designated Government authority.
GLOBAL SYSTEM OF TRADE PREFERENCES (GSTP)
It was a resolution adopted at the UNCTAD-II, held in 1968 in New Delhi, that led introduction
of the GSP, which is the result of the realisation that temporary the form from of generalised
arrangements for special tariff treatment for developing countries in the 0 of developed countries may
assist developing countries to increase their export earnings and so convibute to an acceleration in the
areas of their economic growth.
The EEC countries and a number of other countries, such as the USA, Japan, Norway, New Zealand,
Finland, Sweden, Hungary, Switzerland, Australia, Canada, Bulgaria and Poland have introduced the
GSP.
The GSP facility is available only to developing countries; it is subject to certain stringent limitations.
The preferential rates of duty allowed on the import of manufactures and semi- manufactures and
processed agricultural products differ in schemes of different developed countries because each country
has developed its own GSP, keeping in view its local production base and certain other factors. Each
scheme has a safeguard clause or an escape clause to protect the sensitive sectors in its economy.

403 ib International Business Environment course notes

403 ib International Business Environment course notes

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403 ib International Business Environment course notes