External Environments

Political and Legal Environment

Why Governments Intervene in Global Trade

International trading is very important to a nation because it generates business and government revenue and promotes varying levels of trust between trading partners. These levels of trust can have both positive and negative outcomes. Some nations are better suited for producing certain products/ services that other countries may demand. Nations profit by trading with other nations better suited to producing products in demand. On the other hand, governmental disagreements may lead to embargoes and the cessation of international trade between the countries’ businesses. Consumers are the main beneficiaries of trade, which also makes them the primary victim of embargoes. Consumers will have to pay higher prices for hard-to-find items if their government imposes an embargo on a country

that is the main producer of the item.1

Political Issues That Significantly Impact Global Business

Governments may also intervene in order to protect their domestic market. A developing market is not ready to fully engage in international trading on its own and may require the protection of the government. On the other hand, domestic businesses may be ready to begin trading in the international market; however, they may not have the finances needed to undertake the endeavor. Consequently, some government agencies may choose to financially assist their domestic businesses in order to spur the whole nation’s economic growth.

Governments are also aware of trade deficits that may develop between nations. A

trade deficit occurs when a country is importing more than it is exporting. The

Government intervention in trade

Government promotion of trade

Government restriction of trade

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government has the responsibility of ensuring that extreme deficits are monitored and corrected. If a trade deficit becomes excessive, then the government must correct the deficit before the entire nation’s economy is at risk of faltering.

Government Actions that Promote Global Trade Whether motivated by the desire to improve standards of living for its citizens, the protection of domestic industries, or the management of trade deficits, a number of options are available for governments to promote cross-border trade. These include special government agencies, subsidies, export financing assistance, and foreign trade zones.

Actions that Promote Trade

Special government agencies

Subsidies

Export Financing

Foreign Trade Zones

Special Government Agencies

In 1995, as business and policy makers alike saw the potential growth of global business, the World Trade Organization (WTO) was created by several countries in order to monitor global trade. Since then many other nations have formed regional trade agreements such as the North American Free Trade Agreement (NAFTA) and the European Union (EU), to promote regional trade in their respective areas.

The U.S. Department of Commerce developed the International Trade Administration (ITA) in order to stimulate economic opportunities for U.S. businesses and their employees. Specifically, the ITA assists U.S. companies in navigating foreign markets by teaching them about marketing, financing, logistics, etc. Consequently, the U.S. Commercial Service was developed to oversee and

promote international trade.2 The ITA has placed many offices in the U.S. and numerous other nations in order to continue to encourage international trade.

Most U.S. states have developed special government agencies to partner with constituent companies to do business overseas. The Virginia Economic Development Partnership has created the Division of International Trade. This division has developed multiple programs and services to assist both manufacturing and service firms, located within the state, to increase their exports. Services include operating overseas state offices, conducting overseas trade missions, providing a resident subject-matter expert, and advice and counseling at all levels in the exporting process. The astute global-business professional should take full advantage of these services and programs utilizing both federal and state special government agencies to expedite and supplement their global business presence.

Subsidies

Subsidies are special privileges offered by the government in order to attract businesses to a region or to provide them with the funding to operate successfully. A nation’s government may provide tax breaks, lower the cost of required land, or offer other money-saving techniques to businesses that it wishes to attract or

maintain in a region.3 Providing subsidies may allow a region to acquire a company that will bring more jobs to the area, thus increasing productivity and strengthening the economy. These subsidies are designed to attract overseas firms and their foreign direct investment into the local government’s economy. This type of subsidy should not be confused with those subsidies that the government frequently offers to domestic firms in an effort to protect local industries from the effects of free trade and world-wide competition. Foreign investment funding and other outside resources have greater potential to elevate local economic well-being than money that merely circulates within a local economy.

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Export Financing

Export financing differs from commercial lending, mortgage lending, or insurance. A company increases payment time when it sells and ships a product overseas. This type of transaction requires extra time and energy, to make sure that buyers are reliable and creditworthy. Foreign buyers—just like domestic buyers—prefer to delay payment until they receive and resell the goods. Due diligence and careful financial management can mean the difference between profit and loss on each transaction. Diligence in management is especially important for small businesses engaged in exporting, as these organizations may

need government assistance in obtaining finances for export activities. The Export- Import Bank (Ex-Im Bank) is the official export credit agency of the United States. The Ex-Im Bank is a valuable tool for small businesses because it does not require a minimum transaction limit. Using an organization to finance the cost of the exported goods will allow all parties involved to have more time to gather the

finances needed to complete the transaction.4

Other institutions that operate underneath government agencies, private

companies, or general organizations are available to finance exports.5 Export credit institutions, export banks, and export finance institutions specialize not only in financing exports but also in circulating capital and providing insurance on the items being traded. Two forms of credit are associated with export financing. The

first is the supplier’s credit where a loan in which the exporter is covered, but the value of the cover will be less than the value of the contract. The second form is

buyer’s credit, which is more closely associated with long-term loans. Some international projects may take more than four years to complete; therefore, the financial institution needs the importer’s credit to protect parties from potential problems that might arise during this extended time period.

While many governments have created institutions that oversee export finances, some allow the private sector to control its own financing. Because governments have different economic policies, some government-controlled credit institutions may not be successful or required. However, newly emerging governments could

take advantage of financing agencies in order to assist their business community in the creation and maintenance of sustainable global trade. Financing can help protect businesses from potential losses by providing them with insurance against political and commercial risks while also increasing their international business confidence.

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Foreign Trade Zones

The United States’ capitalistic economy allows citizens to engage in a free-trade system within the country and with other countries that operate under the free- trade model. Operating under a free-trade model provides many benefits; but as

with any model, the costs can be significant. The Foreign-Trade Zones (FTZ) program alleviates some of the costs associated with free trade in the rapidly increasing global economic environment.

The Foreign Trade Zones program was created with the enactment of the U.S.

Foreign- Trade Zones Act of 1934.6 This program was created during a defining moment of American history when Americans were beginning to open doors to foreign policy, as well as, to foreign business opportunities. U.S. policy makers hoped to encourage foreign commerce in order to spur the declining U.S. economy. The United States designated certain areas “Customs Ports of Entry” where commercial merchandise would “receive the same customs treatment it would if it were outside the commerce of the United States. Merchandise of every description may be held in the Zone without being subject to Customs duties and other ad

valorem taxes.”7 These zones are supervised by the U.S. customs service through audit-inspection checks.

During the 1950s and 1960s the global trade environment underwent tremendous change. Tariff barriers were continually reduced, and international trade began to flourish. However, as more countries began to open their doors to international trade, unexpected costs hidden within the free trade system became apparent. Each country was attempting to gain as much profit as possible while spending less on imported goods. Countries spent much time deliberating on trade negotiations so that all countries involved could reap the benefits of international trade. In order to ensure the prosperity of all parties involved in global trade the National Association of Foreign Trade Zones (NAFTZ) was created in 1972. In 1980 the U.S. Customs Service issued a new ruling that allowed U.S. based manufacturers to bring foreign-sourced parts into free-trade zones without paying extra duties. This act, coupled with the continued increase in global trade,

greatly spurred the U.S. economy and the U.S. Foreign-Trade Zones program. More than 230 Foreign-Trade Zone projects and nearly 400 sub-zones currently exist within the United States.

FTZs offer numerous benefits to manufacturers and distributors in the United States. Organizations investigate overseas options when deciding to locate or expand a new manufacturing or processing facility. Such location and expansion decisions must take into account all costs of manufacturing in a certain nation. As do most other nations, U.S. law may have unintended import tax penalties for firms located, or considering locating, in the United States. The FTZ program plays an important role in providing a level playing field when investment and production decisions are made. While the U.S. government might incur a reduction in Customs duty revenue through the FTZ program, these reductions are offset by the income taxes from created or existing jobs. In addition, local governments benefit from sales and property taxes.

Government Actions that Restrict Trade Governments may attempt to restrict trade with other countries especially in circumstances of large trade deficits or excessive currency outflows. Such actions may result in protectionism—when a nation deliberately reduces the number of imports it receives. As with any government action, advantages and disadvantages may accrue. Common forms of government actions that restrict trade include, but are not limited to, tariffs, quotas, and embargoes.

Tariffs, Quotas, and Embargoes

A tariff is a tax applied to selected categories of imports. Governments design tariffs to raise revenues and to generally provide a competitive advantage for domestic businesses. Tariffs are similar to excise taxes (taxes on cigarettes and alcohol, for example) in design and economic impact. Governments design tariffs, which they normally impose as a fixed percentage of the value of imports, to discriminate against selected imports by raising the price of imports relative to domestic prices for the same products. The tariff or duty is collected at the product’s point of entry into a country. Since World War II, multilateral trade negotiations under the General Agreement on Tariffs and Trade (GATT) have resulted in large reductions in tariff and non-tariff barriers to international trade. A guiding principle for increasing international trade for goods and services has been the eventual elimination of all tariffs on imports.

Government Actions that Restrict Trade

Governments use quotas, also known as quantitative restrictions, to limit the quantity of imports allowed into a nation. Quotas typically “raise the price of imports, reduce the volume of imports, and encourage demand for domestically

made substitutes.”8 Quotas and tariffs are similar in that their general purpose is to control the number of imports that enter a domestic market. While tariffs generate money for the government, because they are essentially an import tax, quotas can

Tariffs

Local content Requirements

Quotas

Embargoes

Administrative Delays

Currency Controls

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have some negative effects on a government. Quotas place power in the hands of

customs officials. These officials determine which nations will be allowed to import goods into the domestic system while denying other nations because no room exists for their products. This refusal can cause a nation to become disgruntled with the government of the nation in which they are trying to import their goods. Customs officials may even choose a favorite exporter, rather than importing goods on an equal level. Such corruption may be harmful to a country’s economy, as well as its foreign relations.

Tariffs and quotas may increase smuggling activity. If the quota is extremely low or if a tariff is unreasonably high, smugglers may attempt to push goods through a country’s borders without paying the proper taxes. The incidence of smuggling may

then be reduced by lowering the tariff while still collecting revenue from the taxes.9

Embargoes are economic and trade sanctions against targeted foreign countries, groups, organizations, and individuals. Embargoes can be motivated by political, economic, or moral reasons. The United States Department of the Treasury oversees and enforces all U.S. economic sanctions through the Office of Foreign Assets Control (OFAC). The following reveals some of the purposes behind embargoes:

Punishing a country or group for unacceptable behavior

Influencing the behavior of the target

Signaling disapproval of a government’s or group’s behavior

Warning the target nation that harsher measures could follow

Limiting a target’s freedom of action

Denying resources or technology

Increasing the cost of engaging in unacceptable behavior

Drawing international attention to unacceptable behavior

Challenging allies to take more forceful action themselves in support of common objectives

The various methods of imposing economic sanctions include the following:

Signaling to a government or group that is engaging in practices which violate core values that a “business-as-usual” approach is not acceptable

Protecting the assets of allies from hostile actions

Assuring that the assets of targets will be available to meet future claims

Limiting exports and re-exports to the targets (including exports to third countries predominantly for use in products for the targets)

Limiting imports from the targets

Blocking assets of the targeted country, company or individual

Restricting investments in the targets

Prohibiting private financial transactions

Restricting government trade financing and investment assistance regarding the target

Local Content Requirements

Local content requirements are means by which governments can block open trade within a country’s borders. These requirements can hinder foreign exports from reaching a nation or from being purchased in the domestic market and place restrictions on domestic businesses. Local content requirement is a popular government policy in developing countries to regulate foreign direct investment. The World Trade Organization is striving to eliminate local content requirements, so that the global market may profit from free trading. However, the WTO has not

yet been completely successful in its efforts.10

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Administrative Delays

Administrative delays impose a waiting period between the determination of a product’s quality and the determination of when it can actually be sold in a market. This prohibits the producer of the product from improving the quality of the product during the waiting period. This delay causes the producer to miss an opportunity to gain profits. Furthermore, administrative delays do not provide any extra revenue to the nation that imposes the delay—they do not bring in any extra

revenue aside from the standard tariff.11 If a popular item becomes available in other nations while in administrative delay, then smugglers may attempt to introduce the item into the country’s economy further hurting the country’s revenue from the tariff. If the delay is excessive, the demand for the new item may decrease by the time the item makes the shelves of the importing country. Both countries would lose profits in this scenario. Administrative delays have the potential to be harmful to all parties involved.

Currency Controls

Some governments practice strict control over their currency. Currency control is a system whereby a nation attempts to regulate the value of its own money within its borders. From simple to complex policy changes, such government initiated systems attempt to control currency fluctuations through the regulation of interest rates, bonds, laws, money printing, and many more. Nations that lack adequate currency control tend to experience hyper-inflation or depression.

Types of Law The astute global business professional understands the impact of political issues and regulations on commerce. In addition to the political issues, a keen awareness of the legal aspects of doing business overseas is essential for success. Legal aspects of international business focus on the types of laws and legal issues used across nations and borders. The basic legal issues include standardization of laws, property rights, and copyrights.

Laws are essential to the efficient and effective operation of business establishments and corporations within a society. They provide standard rules, regulations, and protocols necessary for fairness and ethical treatments of customers, employees, and suppliers. Each sovereign nation has the right to establish laws that govern the conducting of business within its borders. Such laws typically fall into one of three categories: common, civil, and theocratic.

Common Law

Common law was originally developed in historical England and is the result of judicial decisions that were based in tradition, custom, and precedent. Common law may be unwritten or written in statutes or codes. The common law as applied in civil cases (as distinct from criminal cases), was devised as a means of compensating someone for wrongful acts—known as torts—including both intentional torts and torts caused by negligence, in order to develop the body of law that recognizes and regulates contracts. In a common law system, an adversarial approach is used to investigate and adjudicate guilt or innocence. The adversarial system assumes that truth is most likely to result from the open competition between the prosecution and the defense. Primary responsibility for the presentation of evidence and legal arguments lies with the opposing parties, not with a judge. Each side is acting in its self-interest and is expected to present facts and interpretations of the law in a way most favorable to its interests. The approach presumes that the accused is innocent, and the burden of proving guilt rests with the prosecution. “Through counterargument and cross-examination each side is expected to test the truthfulness, relevancy, and sufficiency of the opponent’s

evidence and arguments.”12

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Civil Law

Civil law has its origins in Roman law and is the predominant system of law in the world. It sets forth a comprehensive system of rules that are usually codified then applied and interpreted by judges. Historically, the original difference between common law and civil law was that common law was developed by custom, beginning before any written laws existed and continuing to be applied by courts after they were written. Civil law developed out of Roman law. The difference between civil law and common law is grounded in the methodological approach to codes and statutes. Civil law nations view legislation as the primary source of law. Courts base their judgments on the provisions of codes and statutes from which they derive their particular solutions to cases. Courts must reason extensively on the basis of general rules and principles of the code, often drawing analogies from statutory provisions. By contrast in the common law system, cases are the primary source of law while statutes are seen only as incursions into the common law and interpreted narrowly.

Theocratic Law

Theocratic law refers to laws which are derived from religion. Due to the numerous religions in the world (e.g. Christianity, Islam, Buddhism, and Hinduism), nations find difficulty coming to agreements over theocratic laws. Because of the increase in globalization within the marketplace as well as communities, a common secular law is needed in order to ensure the prosperity of international trade.

Standardization of Laws Each nation has its own distinct set of laws that govern its people. While some nations rely on civil law others focus on either common or theocratic law. As

globalization continues to grow, the efforts to form a set of standardized international laws continue to increase. Theocratic law presents an especially difficult challenge in global trade because of the wide variance of religious groups in the world whose theocracies can vary greatly. Another issue with international law is that ultimately an economically independent country can refuse to follow international law without fear of economic sanctions. This refusal to observe international law could become dangerous and potentially lead to physical war between two nations. International laws will be difficult to enforce unless all participants can come to an agreement on the laws and appoint a governing body to settle disputes.

A widely used tool in law and development programs is the supply of well-designed laws from the outside. This method of law development has now been embraced by international organizations as a way to improve the legal framework for global markets. The International Monetary Fund (IMF) has endorsed attempts by various organizations to develop legal standards with special emphasis on corporate and financial institution laws. “The common idea behind these attempts is that the supplied laws once incorporated into domestic legal systems will

improve the existing legal framework, furthering economic development.”13

Property Rights

Protecting property is an important part of promoting the global trade. Trade,

simply put, is the trading of property in order to receive monetary value. Property can be classified as both physical and intellectual. Ideas spur innovation which spurs the development of new goods that will be available for trade. The World Trade Organization (WTO) allows for a minimum level of property rights to provide its members with a global standard of protection.

Issues Covered by the The WTO’s System of Property

Intellectual property. The WTO defines intellectual property rights as “the rights given to persons over the creations of their minds. They usually give the creator an

exclusive right over the use of his/her creation for a certain period of time.”15

Examples of intellectual rights include patents, trademarks, and copyrights.

How basic principles of the trading system and other inter-

national, intellectual property agreements should be applied.

How to give adequate protection to intellectual property rights.

How countries should enforce those rights adequately in their own

territories.

How to settle disputes on intellectual property between members

of the WTO.14

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Industrial Property. Industrial property rights protect specific signs and trademarks that distinguish specific goods and services from other goods and services.

The property on a trademark can last as long as the trademark is easily distinguishable. Patents protect individuals who are in the process of creating a new invention. Individuals can receive a patent protection for

approximately twenty years.16 This protection allows the individual enough time to develop the product into a working invention without the threat of competition. After the patent expires, other persons or companies may attempt to reproduce a similar product.

Copyrights

Copyrights are a form of intellectual property rights designed to encourage and reward creative intellectual work by protecting the author’s work. Copyrights protect the rights of authors in regards to literary and artistic works. These works include all books, songs, compositions, paintings, films, and computer programs. Authors are protected by copyright for at least seventy years after their death. The

modern copyright system can be traced back to the Berne Convention (1886). The Berne Convention provides a minimum protection of property rights that are independent of the nation in which the work originated. The agreement made at the Berne Convention protects the artistic domain of authors in regards to literary works, such as novels, songs, and compositions. The following is a list of rights authorized for protection by the Berne Convention:

The right to translate

The right to make adaptations and arrangements of the work

The right to perform in public dramatic and musical works

The right to recite in public literary works

The right to communicate to the public the performance of such works

The right to broadcast (with the possibility of a contracting State to provide for a mere right to equitable remuneration instead of a right of authorization)

The right to make reproductions in any manner or form (with the possibility of a contracting nation to permit, in certain special cases, reproduction without authorization, provided that the reproduction does not conflict with the normal exploitation of the work and does not unreasonably prejudice the legitimate interests of the author; and with the possibility of a contracting State to provide, in the case of sound recordings of musical works, for a right to equitable remuneration)

The right to use the work as a basis for an audiovisual work, and the right to reproduce, distribute, perform in public, or communicate to the public that

audiovisual work17

The Berne Convention allows authors to possess moral rights in which they can object to anyone using their work in a manner that would dishonor the reputation

of the author.18