Students name : Kemenangan Tiba
Course number and Name : FIN 456 - International Financial Management
Instructors Name : Brittany Holloman
Date : 12/01/2024
MULTINATIONAL COMPANY MANAGEMENT
A. INTRODUCTION:
Multinational industries or MNCs are industries that do business in several countries,
these industries are generally very large. Such industries have offices, industries or agent
offices in many countries. They generally have a head office where they coordinate
international management. Very large multinational industries have budgets that undergo
funding in many countries. They can have a strong influence in international politics, due to
their enormous economic influence on politicians, as well as their vast financial resources
for public relations and political lobbying.
Because of the global reach and movement of MNCs, domestic areas, as well as
countries themselves, must compete in order for these industries to locate their facilities (and
thus tax revenues, jobs, and other economic activities) in the region. To be able to compete,
countries and regional political sections that usually offer Incentives to MNCs, such as tax
shares, government encouragement or better infrastructure or labor standards and an
adequate environment. MNCs often use the help of partner companies to produce the
specialized goods they need. The first multinational industry to emerge in 1602 was the East
India Industries in the Netherlands, which was the arch rival of the British East India
Industries.
B. DEFINITION OF A MULTINATIONAL COMPANY :
Multinational industry is the most talked-about form of business federation in the
context of world and economic globalization. The role of globalization as a way of life and
policy advancement regulations linked with industry (Candrawulan, 2011). For the
Economic Dictionary, a Multinational Corporation (MNC) is a company whose operational
area covers a number of countries and has means of creation and service outside its own
country (Winardi, 1998). Multinational industries make their key decisions in a global
context with the countries in which they operate. The rapid growth of multinational
companies as well as the possibility that they may emerge from the globalization of the
world. existence of conflicts between interests multinational companies with the interests of
the individual countries in which they work has raised all kinds of controversies among
economic experts in recent years, called "International Enterprise" (Rahmawati, 2008).
For Robert L. Hulbroner (Saran, 1990), what is meant by multinational industry is an
industry that has agents and subsidiary industries located in various countries. Similarly, J.
Panglaykim (1983) explains that a transnational industry is a type of industry consisting of
various industrial groups working and manufacturing in various countries, but all supervised
by one industrial center. The need for multinational industries that carry out their activities
in order to invest in Indonesia for Indonesian law to find equal recognition and protection
with national companies (Putra, 2018).
Multinational Industry Advantage:
a.
Increase the country's foreign exchange through investment in export aspects.
b.
Reduce the need for foreign exchange for imports in the industrial sector.
c.
Modernize the industry.
d.
Support national development.
e.
Increase activity opportunities by opening up new activity environments
Disadvantages of Multinational Industries
a.
Profits that are to be transferred out of the country to shareholders.
b.
Depreciation or deterioration, which in practice is often used to hide profits so as not to
be taxed. It can disrupt the country's political and economic life.
C. MULTINATIONAL COMPANY GOALS:
Similar to many businesses, an important goal of many multinational industries is to
make a profit and achieve their financial goals. However, unlike many other businesses,
multinational industries must navigate geographical distances, customs, and different target
markets while selling their products and services.
1.
Conducting Detailed Market Research.
Working in different countries means that MNCs need to explore the demographic,
geographic, psychographic, and attitudinal advancements of their target audience in each
country. To effectively sell their products and services and create profits, MNCs need to
carry out detailed market studies to understand what each market requires.
For example, when multinational industries sell food products, they are subject to many
cultural comparisons in the marketplace. Some countries may not eat beef or pork for
religious reasons, for example, while others may require a more plant-based approach.
Beyond mastering what the market wants, market studies can help industries create sales
campaigns that are both efficient and culturally distinctive.
2.
New Market Entry:
A suitable objective of an MNC, which contributes to increased profits, is entering the
current market. While the industry may be able to sell to various countries from their
headquarters, having a presence in the current market can share certain advantages for the
industry. Hiring local employees can bring unprecedented market knowledge to the industry.
Not only selling to markets where international offices are located, multinational industries
can also carry out inbound analytics to neighboring countries. There could be transfer and
infrastructure benefits to selling products in those nearby markets, which in turn could help
the industry to increase its profits.
3.
Customizing Products and Services for Local Culture:
Multinational industries must be able to make changes to their offerings to meet local
market demands. While a particular product may seem saleable across cultures, geographical
boundaries, religions, and ethnicities, it may require some customization. This is where a
detailed market study can guide product development. For example, if a multinational
industry sells athletic shoes, they may need to create smaller price point models for some
markets and vegan shapes for others, not just sandal shapes for warmer climates. Being able
to customize products to meet the desires of different markets can help industries increase
profits.
4.
Maintaining Global and Local Brand Image:
Multinational industries need to carefully manage their international and local brand
views. Like large industrial entities, international brands can help increase compliance and
consumer recognition in more current markets. However, businesses may also need to think
about local adaptations to the brand outlook. For example, industry monikers on logos may
need to be written in a different language or script, whereas promotional campaigns may
need to use people from the local country in their images. Some brand notes may not
translate well and the campaign may need to have special marketing strategies that are
different for each country. This level of brand personalization can help multinational
industries to increase profits in each market.
D. MULTINATIONAL COMPANY DEVELOPMENT:
Without knowing that until the end of the 1990s and before the year 2000, many
industries in Indonesia that were originally domestic industries were taken over by foreign
industries and made one of their subsidiaries. As an illustration, PT Sibalec in Yogyakarta
was taken over by General Electric in the United States and used as a creation tool to fulfill
the market area in Southeast Asia. PT Sari Husada, which produces milk, is currently
controlled by Nesstle while PT Indofood is currently controlled by Pacific based in Hong
Kong. In addition, there are many foreign industries that have established subsidiary
industries and work in Indonesia since early on, even though the main market for their
products is not in Indonesia. In its progress, the multinational industry can be divided into 3
on the basis of the important motive for establishing the industry.
The first is a multinational industry that expands its business in search of basic materials.
As an illustration, companies that are engaged in mining and extraction expand their
companies and become multinational industries because the key objective is to find basic
materials. Another form of multinational industry is the one with the motive of finding a
market. This kind of industry goes international because the domestic market is not big
enough as a result to fulfill its full capacity and economy of sale, the industry is forced to
become a multinational industry. As an illustration, Ericson which produces cell phones
from Sweden. If only entrusting the domestic market to Ericson is not quite strong because
of the small number of people. But now Ericson has become a very strong multinational
industry as well as an important competitor of Motorolla from the United States.
The third is a multinational industry that works in a global way in an effort to minimize
expenses or often referred to as cost minimization. This type of industry goes international
because willing to use the advantages they have and get the benefits in the form of tax
exemptions, transfer prices, economical labor costs or even minimizing investment costs -
low land prices.
E. EVOLUTION OF MULTINATIONAL COMPANIES :
Multinational industries are progressing through a variety of alternatives using
globalization that has occurred and will continue to occur. The method of aiming to become
a multinational industry is tried solely to always be monopolists or oligopolies by
continuously penetrating to find and improve sustainable competitive advantages. This
method is tried not only regarding the product concept but also the latest product innovation
as a result of making the old product so using, looking for alternative basic materials that are
more economical, increasing alternative basic materials, promotion in a grand way,
exploitation of sales networks through mega chain stores, ability and exploitation of
advances in information technology, improving strategies that continue to be sophisticated
and ability and competency development of human resources. Through such methods,
competitors who are unable to keep up will automatically leave the competition or will only
become market followers, as a result the multinational industry can influence other actors
easily.
Regardless of which step you take to become a multinational industry, the basic
principle that is important to understand is that production facilities in some countries must
be flexible, adaptive, fast and accurate. Flexible in the sense that the means of production
can be used to produce a variety of similar products without having to carry out significant
additional capitalization.
Another skill is adaptive which means that it is easy to adjust to changing customer
tastes. This skill is often signaled by the emergence of new products with commodity
designs, meaning several different products using similar components.
F. LEGAL FORM OF COMPANY MULTINATIONAL:
The form of a multinational company consists of several parts that are very necessary in
ensuring and distinguishing the legal ties between the parts related to multinational
industrial activities. According to Candrawulan (2011) the parts of the multinational
industry that carry out its corporate activities are:
1.
Parent company:
(Parent Company) An industrial parent is an industry having and monitoring foreign
direct investment, generally having its subsidiaries known as affiliated factories in 2 or more
countries where capital is invested. The parent company is the central corporate decision-
maker that determines the objectives and controls the operation of the system in its totality
within an industry. Important decisions made by the parent company may include the
establishment of subsidiaries or branches or the acquisition of industries, the determination
of the country to be used as a foreign direct investment position, the number of creations to
be made, the production mix to be attempted among subsidiaries, the arrangement of
transferring production among subsidiaries and the determination of the national market to
be served by the subsidiaries.
2.
Branch or branch office of the company (Branch or branch office):
A branch office or industrial agent is an office that is part of the parent industry that
works in the country of the parent industry or outside the country or in the country where the
capital is invested and does not consist of itself or have industrial status. From a legal aspect,
an industrial agent or agent office is only a physical extension of the parent industry and has
no legal status.
3.
Head office:
A head office is an office created by a multinational industry that has a place like the
head office or corporate center of a multinational industry which is generally located in the
country where the parent factory is located or in the country of the investor.
4.
Affiliated subsidiaries:
An affiliate subsidiary or daughter company is a joint industry of an investor in a foreign
country, regardless of legal structure, but generally it is a subsidiary or a combination or
associate industry, which is established under the laws of the country where the foreign
investment is made. Its establishment is similar to the establishment of a domestic industry
in the relevant country, generally in the form of a limited liability company.
5.
Subsidiary:
A subsidiary industry is an industry that is controlled by a separate, higher-level
company (the parent company). The controlled company is referred to as a corporation, or
limited liability company, and in some cases may be a sovereign or state-owned company.
G. BUSINESS ACTIVITIES OF MULTINATIONAL COMPANIES :
1.
Joint Venture:
Joint ventures are generally undertaken by a multinational industry and a local partner.
The associated multinational industry brings industry-specific advantages in know-how,
technology, or capital, while the host country partner conventionally brings insights into the
local area. Usually the multinational industry selects the partner rather than the stability of
the joint venture from the multinational industry's point of view, as this provides host-
country specific insights but also facilitates ties with the host government. For some time a
joint venture in an international setting creates an industry owned by some of the
multinational industries.
On this side of the equation, multinational industries have another reason to function and
in joint ventures, that is:
a.
Host governments can organize and pressure multinational industries to accept an
indigenous partner.
b.
Multinational industries may need a partner in order to gain knowledge of the host
country from an unfamiliar host.
c.
The local partner can share with the multinational industry access to distribution
channels or can help open access to basic materials or other energy sources. This is
especially true if the partner has good communication routes with the host government.
2.
Turn Key Project:
A turn-key project is a business package that requires a multinational industry to build a
production facility and provide training for the workforce needed to operate it, resulting in
the facility being ready to start work upon completion of the project. So a turn-key project
involves the marketing of a fully operational production facility.
Turn-key projects can be an alternative to exports or to multinational industrial activities
if a host government decides to disengage in an undesirable way. In addition, the host
country market may be too small or the risk of direct foreign capital too great to warrant
capitalization by multinational industries. An additional profit at the key turn for the
multinational industry could also be the desire to license additional administrative and
technological capabilities to the host nation. However, the multinational industry concerned
is obliged to relinquish specific control to the host authorities (who generally have the
means). For this reason, the multinational industry concerned must ascertain whether the
industry and labor involved in the turn-key project will ultimately belong to the host country
prior to commencing business.
3.
Licensing and Contractual Arrangements:
The majority of licensing arrangements provide for the utilization of technology,
business brand patents, or other KSPs of an outside industry in exchange for a payment or
fee. The fee usually includes a minimum payment message and may also include a
percentage of the out-of-state industry's marketing or profits derived from the use of the
license. Available at There are several reasons why multinational industries favor licensing
over other entry methods. The host government can prevent foreign direct investment, the
effects of nationalization or out-of-state regulation can be enormous. There is also a reason
that in multinational industries, the most important beginning is the risk of spreading the
knowledge advantage of multinational industries. The licensee as the knowledge consumer
would receive very few of the multinational industry's KSPs in the understanding that
through licensing arrangements, the relevant multinational industry must be certain that the
licensee will not become a competitor in the future. Licensing is not only limited to foreign
industries that do not have a relationship. License fees or management fees are another
method to repatriate profits from joint ventures and foreign agents in the form of capital
arrangements. Other forms of licensing similar to sublicensing include management
contracts, franchising, and contract manufacturing.
H. SUMMARY MATERIAL:
1.
Multinational industry is the most talked-about form of business federation in the context of
world and economic globalization. The role of welfare as a way of life and the advancement
of regulatory policies are linked to multinational industries.
2.
Objectives of mulitnational companies
a.
Conduct Detailed Market Research
b.
New Market Entry
c.
Customizing Products and Services for Local Culture
d.
Maintaining Global and Local Brand Image
3.
Multinational industries are progressing through a variety of alternatives using globalization
that has occurred and will continue to occur. How to aim to become a multinational industry
is tried solely to always be monopolists or oligopolies by continuing to penetrate to find and
improve sustainable competitive advantages.
4.
The progress of multinational industries can be divided into 3:
a.
The first is a multinational industry that expands its business in order to find basic
materials. As an illustration, companies that are engaged in mining and extraction
expand their companies into multinational industries because the key goal is to find
basic materials.
b.
Market-seeking motive. This type of industry goes international because the domestic
market is not big enough as a result to fulfill its full capacity and economy of sale, the
industry is forced to become a multinational industry.
c.
Multinational industries that work in a global way in an effort to minimize expenses or
often referred to as cost minimization. This type of industry goes international because
it wants to use the advantages it has and get benefits in the form of tax exemptions,
transfer prices, getting economical labor costs or even minimizing investment costs -
low land prices.
5.
Legal form of multinational company
a.
Parent company
b.
Branch office or branch company
c.
Head office
d.
Affiliated subsidiaries
e.
Subsidiary
6.
Business activities of multinational companies
a.
Joint Venture
b.
Turn Key Project
c.
Licensing and Contractual
INTERNATIONAL FUND FLOWS
A. Introduction:
The economy does not only exist within the national scope, but with the open economic
system, the economy is now expanding to a four-sector economy involving the foreign
economy in a country that is moving towards economic interconnectedness between nations.
The interconnectedness of a country's economic activities with other countries will form a
larger economic system, namely the international economic system. International business is
facilitated by markets that channel funds from one country to another. The transactions that
arise and international business cause money to flow from one country to another. The
balance of payments is a measure of the international flow of funds (Khasanah, 2016).
In the midst of increasingly intense competition in the world of business and trade at the
international level, a country certainly wants to have high finances when the international
economic system is in effect in each country. This happens because of the competition in
business and trade at the international level which can result in competition between citizens
of one country and another to find the best financial opportunities smooth inflow of funds
from other countries to be higher than the outflow of funds from the country. Actually,
international trade has been practiced for thousands of years if we look at its history. But its
impact on economic, social and political interests can only be felt a few centuries ago.
International trade also has an impact on other sectors, such as encouraging industrialization,
influencing progress in the field of transportation, globalization, and the birth of
multinational companies.
International trade can be stated as complex and convoluted when compared to the
implementation of domestic trade. Many things must be learned related to activities,
especially in understanding correctly the dynamics of capital flows and the stages of doing
international business, because these two things are inseparable parts of international trade
(Pangestuti, 2020).
B. CORE COMPONENTS OF THE BALANCE OF PAYMENTS :
Balance of payment's is a measure of all transactions between domestic residents and
foreign residents during a certain period of time (Pangestuti, 2020). The process of recording
transactions is carried out by double-entry bookkeeping, meaning that each transaction is
recorded on both the debit and credit sides so that the total amount of the debit side is
exactly the same as the credit side, there may be a surplus or deficit position (Handaru,
2005).
The balance of payments is a summary of transactions in a particular country between
domestic and foreign citizens in a certain period. It reflects the accounting of a country's
international transactions over a period, usually one quarter or one year (Madura, 2006). The
balance of payments is the balance between foreign exchange revenue transactions and
foreign exchange usage transactions (Halwani, 2005).
The core components of the balance of payments report (Madura, 2006) are as follows:
1.
Current Account:
The current account reflects a summary of the flow of funds between a particular
country and other countries due to purchases of goods or services or reserves of profits in the
form of financial assets. The main component of the current account is the balance of trade,
which is simply the difference between exports and imports. Exports and imports of goods
reflect tangible products, such as computers and clothing, that are moved between countries.
Exports and imports of services reflect tourism and other services, such as legal, insurance
and consulting services provided to customers in other countries. U.S. exports of services
result in an inflow of funds to the U.S. while U.S. imports of services result in an outflow of
funds.\ The second current account component is the balance of services (factor income)
which reflects the income (interest and dividend payments) that investors receive from
foreign investments in financial assets (securities). The third current account component is
transfer payments reflecting aid, grants and gifts from one country to another.
2.
Capital Balance:
The capital account shows the amount of foreign investment in the country and domestic
investment abroad. Investments recorded in the capital account can be investments in real
assets or financial assets, both short-term and long-term. Foreign investment, purchase of
securities in the capital market are examples of transactions recorded in the capital account.
An evaluation of this account will show how much foreigners are interested in investing in
the country and how much domestic capital is invested abroad (Handaru, 2005). The capital
account is a summary of the flow of funds derived from the sale of assets between one
particular country and other countries during a given period. It therefore compares new
foreign investment to be made by a country with foreign investment in that country during a
given period. The core components of the capital account are foreign direct investment,
portfolio investment, and other capital investment. Direct foreign investment reflects
investment in fixed assets in a country foreign country that can be used to conduct business
operations. Examples of foreign direct investment include the acquisition of a foreign
company, construction of a new plant or expansion of an existing plant in a foreign country
(Madura, 2006). The second component is portfolio investment which reflects transactions
related to long-term financial assets (such as stocks and bonds) between countries that do not
affect the transfer of control. The third capital account component consists of other capital
investment, which reflects transactions involving short-term financial assets (such as money
market securities) between countries. In general, foreign direct investment measures the
expansion of a firm's foreign operations, while portfolio investment and other capital
investment measure net flows of funds related to financial asset transactions between
individuals or institutional investors (Madura, 2006).
C. INTERNATIONAL TRADE FLOWS:
(Madura, 2006) Canada, France, Germany and other European countries are more trade
dependent than the US. Canada's annual export and import trade volume is worth more than
50% of its annual gross domestic product (GDP). The trade volume of European countries
typically ranges from 30% to 40% of their respective GDPs. The trade volume of the US and
Japan typically ranges from 10% to 20% of their respective GDPs. 24% of total US exports
go to Canada, while 14% of US exports go to Mexico. Canada, China, Mexico and Japan are
the top exporters to the US. Together, these countries account for more than half of total US
imports.
1.
US Trade Balance Trends:
A country's trade balance can change a lot over time. Not long after the second world
war, the US had a huge trade surplus because Europe relied on US exports while Europe was
rebuilding. Over the past decade, the US has run a trade deficit due to high US demand for
imported goods produced at a lower cost than the same goods produced in the US.
2.
Trade Deal:
Many trade deals have been struck over the years to reduce trade restrictions. In January
1988, the US and Canada agreed to a free trade agreement that was gradually completed in
1998. This agreement reduced trade restrictions on some products and increased global
competition in some industries. In December 1993, the GAAT agreement, which was signed
by 117 countries, provided for lower tariffs around the world. Subsequently, the NAFTA
agreement was signed, which provided for the removal of trade restrictions between Canada,
Mexico and the US. This agreement was a continuation of the 1989 agreement that
contained reduced trade restrictions. NAFTA also reduced some restrictions on foreign
direct investment in Mexico.
During the 1990s, trade barriers between European countries were removed. One of the
implicit trade restrictions was the different regulations between the countries. MNCs (Multi
National Companies) could not sell their products in all countries in Europe because each
country had different specifications (relating to product size and composition).
Standardization of product specifications across Europe during the 1990s removed most
trade barriers. The adoption of the Euro as the single currency in most European countries
also supported trade between European countries. The euro removed the concern of
exchange rate risk for European producers and consumers trading with other European
countries.
3.
Disagreements in Trade:
International trade policy determines which firms will gain most of the market share in
an industry. These policies affect a country's unemployment rate, income and economic
growth. Although trade agreements have reduced import duties and quotas, most countries
retain trade restrictions on certain products to protect their domestic companies. Those who
will work in sectors that are heavily affected by trade tend to support international trade
policies. Generally, most agree that free trade is beneficial because it encourages more
competition between firms, allowing consumers to obtain products of both the highest and
lowest quality. Free trade will move production to countries that can do it most efficiently.
Governments in every country want to increase exports because exports lead to higher
production and income and create jobs.
There are many opinions that disagree with the form of strategy that the government can
take to increase its country's share in the global market. They agree that import duties or
quotas on imported goods restrict free trade and unfairly favor domestic firms in their own
markets. But they disagree on whether the government is allowed to use more lenient trade
restrictions on foreign firms or provide incentives that unfairly favor domestic firms in
capturing global market share. Consider the following typical situation:
a.
Companies in one country are not subject to environmental restrictions and can
therefore produce at a lower cost than companies in other countries.
b.
Companies in one country are not subject to child labor laws and can produce at a
lower cost than companies in other countries that rely on child labor in the production
process.
c.
Companies in one country obtain government permission to bribe large customers
when trying to obtain business deals in a particular country. They have a competitive
advantage over companies in other countries that are not allowed to bribe.
d.
Companies in a country receive subsidies from their government as long as they
export their products. Exports of products produced with the help of government
subsidies are usually called dumping. The company can sell its products at a lower
price than its competitors in other countries.
e.
Companies in a country receive country-specific tax rebates. This practice is not a
subsidy, but still a form of financial support from the government.
In all these situations, firms in one country gain an advantage over firms in another
country. Each government uses several strategies that can benefit domestic firms in the
competition for global market share. Therefore, the race for global market share may not be
fair for all countries. However, no formula can ensure fair competition for market share.
Despite advances in international trade agreements, governments can always find strategies
that will give domestic firms an advantage in exporting goods.
D. INTERNATIONAL TRADE FLOW FACTORS :
Since international trade can significantly affect a country's economy, it is important to
identify and monitor the factors that influence it. (Madura, 2006), the factors that have an
important influence are:
1.
Impact of inflation:
If a country's inflation rate increases relative to that of its trading partners, its current
account will decline (assuming other things remain unchanged) as consumers and
cooperatives or alliances within the country will buy more goods from abroad (due to local
inflation) while exports to other countries will decline.
2.
Impact of national income:
If a country's national income level increases by a higher percentage relative to other
countries, its current account will decrease, cateris paribus. If real income (i.e. inflation-
adjusted income) increases, consumption of goods also increases. Part of the increase in
consumption will be realized in purchase of imported products. To illustrate the potential
impact of national income. on the current account balance, note that the US often asks other
countries to stimulate their own economic growth so that foreign governments' demand for
US products increases. However, if countries are unwilling to introduce economic
stimulating policies, the US government seeks other solutions to reduce its large trade deficit
(Pangestuti, 2020).
3.
Impact of government restrictions:
A country's government can restrict or block imports from other countries. By using
such restrictions, governments disrupt the flow of trade. The most commonly used trade
restrictions include import duties and quotas.
Import duties and quotas. If a country's government imposes taxes on imported goods
(often called import duties (tariffs)), the price of foreign goods to consumers effectively
increases. Import duties imposed by the US government are lower on average than other
governments. However, some industries are more protected by import duties from more
foreign competitors through higher duties on imports of these products. In addition to import
duties, the government can reduce imports through quotas or maximum quantities that can
be imported. Quotas are generally imposed on various goods imported by the US and other
countries.
4.
Exchange rate impact:
Each country's currency is valued from the perspective of other currencies using the
concept of exchange rates so that currencies can be exchanged to facilitate international
transactions. The value of most currencies fluctuates over time due to market and
government influences. If the value of a country's currency starts to rise relative to the
currencies of other countries, ceteris paribus, its current account balance will decrease. The
products that the country exports will become more expensive for importing countries.
Consequently, demand for products will decline (Pangestuti, 2020).
5.
Interaction between factors:
As the factors affecting the trade balance interact with each other their simultaneous
impact on the trade balance is complex, for example as high US inflation reduces the current
account, it also pressures the value of the dollar to decline. Since a weak dollar can improve
the current account, part of the impact of inflation on the current account will be covered by
the impact of a weak dollar.
E. FACTORS AFFECTING THE CURRENT BALANCE:
(Pangestuti, 2020) By reconsidering a number of factors that affect the trade balance, it
is possible to develop some general methods to improve the deficit. Any policy that will
increase foreign demand for domestic products will improve the trade balance position.
Foreign demand may increase if export prices become more attractive. This can happen if
domestic inflation is relatively low or if the value of the currency depreciates, making
import prices lower from the perspective of other countries.
A floating exchange rate may be able to correct international trade imbalances in the
following ways. A trade deficit implies that the country in question spends more to buy
foreign products than it receives from its exports abroad. As the country sells more of its
currency (to buy foreign products) than the foreign demand for the currency, the value of the
currency will decline. This decline will encourage more demand for the country's products
in the future. Although it seems rational, this theory does not always work as described
above. It is possible that a country's currency will remain stable or even appreciate at a time
when the country is running a trade deficit. Other factors can affect the value of an exchange
besides the trade balance. For example, consider a situation where foreign investors buy an
exchange to invest in the securities of the country in question. Such demand creates upward
pressure on the value of the currency, which will cover the downward pressure caused by the
trade balance deficit. Consequently, a country cannot always rely on exchange rate
movements to cover its trade deficit.
F. INTERNATIONAL CAPITAL FLOWS :
International capital flows are a causal / reciprocal relationship between international
trade in goods and capital transactions as one of the factors of production will cause
international capital flows because there are countries that have a lot of capital and some are
experiencing capital scarcity. The more capital, the smaller the return obtained. Vice versa,
the scarcer the capital, the higher the return. This is what causes the emergence of
international capital flows that flow from an area with excess capital to an area that lacks
capital (Pangestuti, 2020).
1.
Factors affecting foreign direct investment:
(Madura, 2006) Capital flows from foreign investment change when conditions in a
country alter the desire of companies to do business in that country. Some common factors
that may change the attractiveness of a country for foreign direct investment are:
a.
Changes in restrictions. During the 1990s, several countries lowered their restrictions on
foreign direct investment, thereby opening up opportunities for more investment in the
country.
b.
Privatization. Some governments privatize or sell some of their businesses to companies
or investors. Privatization encourages international business as foreign companies can
acquire businesses sold by the local government. The main reason for the increased
market value of companies due to privatization is the anticipated improvement in
managerial efficiency.
c.
Economic growth potential. Countries that have higher economic growth potential will
be more attractive for investment foreign direct because the company believes it can
benefit from the economic growth by operating in that country.
d.
Tax rates. Countries that charge relatively low tax rates on corporate profits are more
attractive to foreign direct investment. When assessing the possibility of making an
investment, the company estimates the after-tax cash flows that can be obtained from
the investment.
e.
Exchange rates. Companies tend to prefer to invest in countries whose currencies are
expected to strengthen relative to the investor's currency. In this case, the company will
invest funds to operate in a country where the currency is relatively cheaper (weaker).
Then, the profits from this new venture will periodically be converted back into the
investor company's currency when the exchange rate improves.
2.
Factors affecting international portfolio investment
(Madura, 2006), the desire of individual or institutional investors to make portfolio
investments in a country is influenced by the following factors:
a.
Tax rates on interest or dividends. Investors generally prefer to invest in countries
where the tax rate on dividend interest income is relatively low. Investors will assess
the after-tax profit potential of investing in foreign securities.
b.
Interest rate. Portfolio investments are also affected by interest rates. Money tends to
flow to countries with high interest rates, as long as the domestic currency is not
expected to weaken.
c.
Currency exchange rates. when investors invest in securities in a foreign country.
Their rate of return is affected by changes in the value of the security and changes in
the exchange rate of the currency unit of the security. If the local currency is expected
to strengthen, foreign investors may invest in that country's securities to benefit from
exchange rate movements. Conversely, if the local currency is expected to weaken,
foreign investors may buy securities in other countries.
G. INTERNATIONAL FINANCIAL ORGANIZATIONS :
Various organizations have been established to facilitate international trade and financial
transactions. (Pangestuti, 2020) These organizations are:
1.
International Monetary Fund (IMF):
The International Monetary Fund (IMF) is an international organization responsible for
regulating the global financial system and providing loans to its member countries to help
with their balance sheet problems. One of its missions is to help countries that are
experiencing serious economic difficulties and in return the country is required to implement
certain policies, such as privatization of state-owned enterprises. Among the UN member
states that are not members of the IMF are North Korea, Cuba, Liechtenstein, Andorra,
Monaco, Tuvalu, and Nauru. Dubbed the most powerful international organization of the
20th century, the IMF has had such a profound effect on the welfare of the majority of the
earth's population that some have mocked it as an acronym for the "Institute of Mystery and
Famine". Like the World Bank, this institution was formed as a result of the Bretton Wods
agreement after World War II. According to its originators, Keynes and Dexter White, the
aim was to create a democratic institution that would replace the power of the international
bankers and financiers responsible for the economic recession of the 1930s, but that role is
now reversed after the IMF and World Bank implemented a neo-liberal economic model that
favors lenders, private bankers and international investors.
The UN monetary and financial conference held in Breton Woods, New Hampshire, in
July 1944 was aimed at a structured international monetary system. As a result of this
conference, the IMF was formed. The main objectives of the IMF contained in its founding
charter are:
a.
Encourage cooperation among countries with regard to international monetary issues,
b.
Promote exchange rate stability,
c.
Provide temporary funds to member countries seeking to correct their international
payment imbalances,
d.
Encourage free mobility of capital between countries, and
e.
Encourage free trade.
It is clear from the above objectives that the IMF was established to enhance the
Internationalization of Business. One important tool of the IMF is the Compensatory
Financing Facility (CFF) which is useful in mitigating the impact of export turmoil in a
country's economy. Although available to all member countries, the facility is primarily used
by developing countries. Funds established by the IMF are measured using Special Drawing
Rights (SDR). An SDR is not a currency but simply a unit of account. SDRs are
international reserve assets created by the IMF and allocated to member countries to
supplement their respective foreign exchange reserves.
2.
World Bank:
The International Bank for Reconstruction and Development (IBRD) was formed in
1944. Its main purpose is to provide loans to countries in need for continued economic
development. One of the important facilities of the World Bank is the Structural Adjustment
Loan (SAL) which was introduced in 1980. SALs are intended to enhance a country's long-
term economic growth. Since the World Bank only provides a small amount of funds needed
by developing countries, the World Bank seeks to increase its funds by entering into
Cofinancing Agreements in cooperation with:
a.
Official aid agency; may cooperate with the World Bank in financing development
projects in low-income countries,
b.
Export credit agencies; the World Bank cooperates with export credit agencies in
financing capital-intensive projects,
c.
Commercial banks; the World Bank followed suit to provide for private sector
development.
3.
International Financial Corporation (IFC):
In 1956, the IFC was established to promote private growth. Like the IMF, the IFC has
state members and utilizes the private sector, not the government sector, to promote
economic development. The IFC not only provides loans to allies but also buys shares, so
the IFC is both a creditor and an owner.
4.
International Development Association (IDA):
IDA was established in 1960 with similar objectives as the World Bank, but its credit
policy is more suitable for less developed countries. IDA provides low-interest loans to poor
countries that do not qualify for loans from the World Bank.
5.
Bank For International Settlements (BIS):
The BIS seeks to facilitate cooperation between countries with regard to international
transactions. It also provides assistance to countries experiencing financial crises. The BIS
played an important role in supporting a number of developing countries during the
international debt crisis in the early and mid-1980s.
6.
Regional Development Agency:
There are other bodies that are regional in terms of their objectives including; the
International American Development Bank which focuses on development in Latin
America. The Asian Development Bank is aimed at economic and social development in
Asia and the African Development Fund focuses on development in African countries.
H. SUMMARY MATERIAL:
The main components of the balance of payments are the current account and the capital
account. The current account summarizes the flow of funds between a particular country
and other countries due to purchases of goods or services or reserves of profits in the form of
financial assets. The capital account is a summary of the flow of funds resulting from the
sale of assets between a particular country and other countries over a given period. It
therefore compares the new foreign investment that a country will make with the foreign
investment in that country over a given period. The core components of the capital account
are foreign direct investment, portfolio investment, and other capital investment.
A country's current account is affected by inflation, the level of national income,
government constraints, the exchange rate and the interaction between factors. The impact of
high inflation, high national income, low import retraction and a strong local currency tends
to create a balance of payments deficit. Although some countries attempt to correct current
account deficits by reducing the value of their currency, this strategy is not always
successful. The organizations that promote the growth of international trade are IMF, World
Bank, IFC, IDA, BIS and Regional Development Agencies.
TASKS AND EVALUATION:
1.
What are the components of the current and capital account in general?
2.
How can government restrictions affect International payments between countries?
3.
Can a negative current account harm the country?
4.
How can relatively high domestic inflation affect a country's current account, if
everything else remains unchanged?
5.
If a US importing company is charged high prices for its imported products, what
factors will influence its decision to switch to domestic suppliers?
