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Trade and FDI revisited: the role of location

A Narrative of Theory and Practice

Robert Pearce

In terms of the broad theoretical prospectus (OLI) this chapter elaborates on location advantage, but does this through an exposition of the ideas of Kojima. The chapter presents the case of ‘trade-creating FDI’ (ES operations in NH-from Chapter 4) as reflecting the ability of MNEs (in a freer-trade context) to activate a country’s sources of ‘static comparative advantage’ as positive LAs, thereby generating enhanced efficiency and welfare and providing host economies with a strong impetus to growth and development. This is contrasted with the case of ‘trade-destroying FDI’ where a constrained international environment (trade barriers operating as negative LAs) generates the inefficiencies of MS operations in the MH.

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Multinationals: in theory and practice

A Narrative of Theory and Practice

Robert Pearce

Outlines the aims, themes and content/structure of the book (i) To track the development of a theory of IB that will allow the understanding and evaluation of MNEs as agents in the global economy. (ii) To trace the evolution of the MNE as an organisational structure that has changed through time in response to changes (institutional and technological) in the global economy. (iii) To point up the ways in which these two analytical strands have overlapped in mutually supportive and elucidatory ways. (iv) Provides and elaborates a definition of the MNE.

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Robert Pearce

The established mainstream theorising in IB (expounded in Chapters 2, 3, 5, 6) was based on MNEs from fully industrialised ‘Western’ economies. This then assumed that firms internationalised when they felt confident in their ability to do so and could discern reasons for doing so. The recent appearance of significant numbers of MNEs from emerging economies (that is, at relatively early stages in their technological and industrial development) has been argued to defy the basic tenets of IB and to need new theorising. This chapter aims to refute this. Firstly, by showing how the extant theorising can help clarify the precise nature of the challenges raised by the EE-MNEs. They expand internationally before the level of development of their home country should have allowed them to generate the competitive capacities to do so. Secondly, by then repositioning elements of the established analytical approaches so as to provide a coherent understanding of the new EE-MNEs. The essence of the later viewpoint is to see these new MNEs as integral to the ongoing development of their home country. There are two strands to this. One, that they are able to overcome the vulnerability of their in-house competences by various supports (capital; foreign exchange; diplomatic support) from their home country. Two, they secure this support by projecting their ability to achieve international objectives in support of their country’s ongoing developmental needs. As exemplified by the case of China there are two such needs discerned. Access to resources (a ‘resource-seeking’ role for the MNEs) that become necessary to underpin the persistence of current developmental priorities (based primarily on low-cost labour). Secondly, access to new innovation-supporting technologies (KS strategies for MNEs) so as to help create new directions for development.

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Robert Pearce

The two hierarchical organisation structures discussed in Chapter 4 both involved the ‘exploitation’ of firms’ mature sources of competitiveness. The organisational ‘transition’ analysed here involves the increased relevance of the other key priority: ‘exploration’ for new sources of competitiveness. This is analysed as ‘knowledge seeking’ (KS) with MNEs addressing the diverse knowledge and innovation capabilities of an increasing number of countries that possess different creative potentials. The adoption of KS alongside ES (and possibly elements of MS) characterises the modern MNE as a dynamic differentiated network or heterarchy/transnational. The chapter explores in detail two key manifestations of the KS imperative in these MNEs. (i) The decentralisation of innovation. This section incorporates an elaboration of the different competitive roles now played by subsidiaries in the modern MNE, so as to emphasise the emergence of those subsidiaries (product mandates; strategic leaders; competence creating subsidiaries) that aim to innovate for their MNE group from attributes of the host economy. (ii) The decentralisation of R & D. Traces how the academic understanding of R & D in MNEs evolved from an initial quantitative awareness of its significance to a more qualitative comprehension of the varied roles that have been played by differently positioned overseas R & D labs. Some of these roles are seen as co-determined with innovation subsidiaries but others take more stand-alone positions (basic-research units).

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Robert Pearce

Presents the essence of ‘internalisation’ theory as market failures for intermediate goods. Asserts that, in itself, internalisation has no innate ‘international’ component; its relevance in IB emerges when the transfer of the intermediate good (involving the internalising/externalising choice) will cross national borders. Thus internalisation theory invokes elements of the theory of the firm to analyse market failure for particular intermediate goods. As there are innumerable such intermediate goods the chapter offers a categorisation of these relevant to a positioning in IB. (i) Outward internalisation: relates to the international expansion of a firm, based around the internalised use of its current defining sources of competitiveness. Can be seen as ‘strategic’ in that it involves key decisions about the future nature of the firm’s operations as based around these established competences. (ii) Inward internalisation: relates to the internalisation of sources of supply of inputs to the firm’s already defined operations (for example, raw materials; components; services). Considered as ‘tactical’ since the aim is to optimise access to standardised intermediates whose need is determined by the firm’s in-place competitive objectives. (iii) Vertical internalisation: the internalisation of a sequence of intermediate good transfers positioned within the series of value-adding stages of a vertically integrated MNE. The chapter discusses the classic case of market failure for technology as an intermediate good, with particular emphasis on ‘seller uncertainty’, which is often relatively overlooked compared to ‘buyer uncertainty’.

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From multi-domestic hierarchy to network hierarchy

A Narrative of Theory and Practice

Robert Pearce

Traces what the practical narrative will interpret as the first of two crucial organisational transitions in the structural configuration of the MNE. From a multi-domestic hierarchy (MH) comprising a portfolio of semi-autonomous MS subsidiaries, each competing for the domestic market of its host economy, to a network hierarchy (NH) comprising an integrated and coordinated network of specialised (export-oriented) supply facilities. The exposition will emphasise how the MS subsidiaries could survive, despite their endemic inefficiency (access to strong OAs, protection against more competitive imports) until the move towards more open economies and freer trade exposed these inefficiencies. Shows how the ES NH subsidiaries alleviated the innate inefficiencies of MS and thereby generated higher levels of efficiency and welfare.

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Robert Pearce

Presents Vernon’s product cycle model as a ‘stand-alone’ contribution, offered before systematic analysis of IB had really commenced, which in retrospect anticipates key concepts that were later formalised. These include the origins of OAs (the innovation stage); initial internationalisation in an essentially Market Seeking (MS) mode, reflecting a particular (‘negative’) type of location advantage (LA); the move to Efficiency Seeking (ES) production in intra-group supply networks (‘positive’ LAs of host countries – that is, cost-competitive inputs). Also suggests that Vernon’s work exemplifies a key theme of the book. It starts from a theoretical issue in international economics (the relationship between trade and FDI) but approaches it through a practical concept from marketing (the life-cycle of a product).

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Robert Pearce

Firstly outlines aspects of Hymer’s critique of the macro-level theory of FDI. Then points to how elements of this critique point not only to the need for a ‘new’ micro-level theory of the MNE but also how they feed directly into aspects of this new theory; FDI requires firms with unique sources of firm-specific competitiveness (Dunning’s ownership advantages); it is most likely to occur in concentrated market structures. Proceeds to develop the concept of OAs; usually these are intangible attributes that are expensive to create and inexpensive to use once possessed. Then shows how this can feed into the model of MNEs’ prevalence in concentrated-industry markets and to oligopoly-based competition.

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Evaluating the multinational: a coda

A Narrative of Theory and Practice

Robert Pearce

A principal objective of the approaches to IB provided in the book is to comprehend and evaluate the behaviour of the MNE as a defining player in the global economy. This concluding chapter provides a framework for evaluating the MNE in terms of four broad generic issues that address different dimensions of the implications of its behaviour. The chapter elaborates these four issues and demonstrates how the analytical approaches of the earlier chapters can help articulate the relevant potentials and problems of MNE behaviour. (i) Efficiency: an issue in static optimisation. Do MNEs, seeking the most effective use of their current sources of competitiveness, improve the efficiency with which the resource capacities of host economies are utilised? Or do they compromise the use of such resources; generate avoidable inefficiencies and lower welfare? (ii) Distribution: given that the outcomes of MNE operations (efficient or inefficient) are actually generated by a combination of their competences and host-country resources, are such benefits/penalties fairly distributed between the participants? The theoretical difficulty of articulating what would, in practice, be a fair outcome is seen to underline why the issue persists as an unresolved controversy in aspects of political economy. (iii) Sovereignty: argues that the sheer power and organisational flexibility of MNEs gives them the scope to undermine the decision-making/policy-execution sovereignty of national governments. The potential for the presence of asymmetrical knowledge in bargaining processes is suggested as sources of such compromising scopes in MNEs. (iv) Growth and Development: alongside current efficiency both MNEs and national economies seek sources of future improvement (that is, growth and development). The chapter explores in some detail the ways in which MNEs behaviour may support or compromise the extent and form of national economic progress.

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The Development of International Business

A Narrative of Theory and Practice

Robert Pearce

In this wide-ranging and groundbreaking new book, Robert Pearce provides an analytically-informed basis for understanding the modern multinational enterprise. It does this by tracing the development over the past half-century of two parallel strands of analysis in International Business; designated as the ‘theoretical’ and the ‘practical’. The book shows how the practical restructuring of the MNE as an organisational form has responded to changes in the wider global economy and how this evolution has interfaced with the enriching of the relevant theorising. By tracing the persisting dynamics of the MNEs’ structure and strategic positioning it demonstrates how what it is now can be used as a template for understanding and organising its further evolution as additional changes condition its environment.