International business Essay Example
The development of the international business concept in the market has increased the overall organizational success possibility in the market. In this case, the markets are increasingly influenced by the existence of variances between the variables in the market. In this case, The Business in emerging markets article on the Economist magazine, sought to enumerate implication factors for the application of multinational organizations in the economy. In this case, the study argued that multinational firms operations in the emerging markets creates a mixture of both positive and negative influence
On one hand, it enhances increased employment rates. The emerging markets are characterized by an increased labour base that is often unemployed. In this case, organizations in the industry face increased market potential for labour supply. However, the existence of limited business and investment ventures in such economies lead to an increased pool of unemployed individuals. In this regard, such economies as Agnese and Sala (2008, p.63) argued, face high unemployment rates. However, the investment of multinational organizations in the market enhances increased potential for employment. Although a number of the multinational organizations in emerging use expatriates in executive management roles, they increasingly employ the local labour in the other employee levels. As such, the investment of such organizations increases employment opportunities in such respective markets.
Despite the positive implications of employment creation, multinational organizations investment in the emerging markets has its share of demerits. In particular, a major demerit is increased labour exploitation in such markets. As already discussed, emerging markets are characterized by a large labour supply with low demand for the workforce. Therefore, the labour market is easily compromised into low remunerations and poor working conditions. Youngdahl, Ramaswamy and Dash (2010, p.799) argued that organizations in the developed market were increasingly off shoring their production and manufacturing services. In this case, such organization alleges raw material availability in the emerging markets as a key factor for off shoring their services. However, it is argued that cheap labour availability plays a significantly crucial role.
As such, the cost of labour that plays a significant role in the overall production costs varies between the developed and emerging markets. On one hand, the developed market has increased regulations and labour market knowledge insulating it against exploitation in contrast to the emerging markets. Consequently, this has led to the establishment of sweat shops. The sweat shops are working areas with low safety standards in which employees in the emerging markets are forced to work in. As such, the low standards reduce on the working environment enhancement costs. However, despite the reduced costs, multinational organizations activities in such emerging markets not only result to employees’ exploitation, but also have a hand in environmental pollution. Mababaya (2002, p.37) argue that a multinational organizations key strategic objective is profit maximization. In this case, such organizational management serves under the agency principle that advocates for priority in organizational profit maximization. Consequently, such organizations have little or no regard for the societal implications of their increased consumption of the existing raw materials.
In the establishment of multinational organizations foreign ventures, it is imperative for such organizations to consider market differences between their host and foreign markets. In this case, a number of market factors influence not only the profitability levels for respective ventures, but also the production and distribution process. In this case the legal, political, cultural and economic factors are an imperative consideration factor. In this case, the legal and political frameworks in the markets provide for the market frameworks through which organizational operations are conducted. In this case, the legal aspects regulate issues such as market entry, patents and human resource management. Consequently, variances in such systems between the host and foreign countries demands eventual business model changes for the respective enterprises.
On the other hand, the political systems and goodwill influence the ability by the respective organizations to establish their market influence. In addition cultural differences influence e the consumers buying decision that influences largely on their alternatives evaluation decision making process in the market. In addition, economic status consideration is an imperative tool in establishing the market potential and viability in that it allows for the assessment of the available disposable income for spending in the economy. In this case, the market faces an increased potential for expansion if the industry is increasingly economically viable. Therefore, based on this analysis, it apparent that the listed factors influence the overall market functionality in the industry. As such, organizations have a responsibility to evaluate these factors prior to investing in the foreign markets.
Macro economic factors for organizations investing in the Global emerging markets .In this case such factors in the market include employment, earnings and inflation rates in the respective markets. In a bid to enumerate the arising factors in the emerging BRICS market, in the Asian market, Skousen (2014) wrote an article on the wall street journal. The article sought to enumerate the current market potential in the Asian market as well as future growth potential, as well as the risks. In this case, the article developed a specific attention on consumer spending in the economy and its influence in the overall economic functioning. In this case, the article argued that consumers spending are not only the major macroeconomic factor with consideration in economics evaluation. In this case, the article argued that, besides it, factors such as investment levels ought to be considered.
This is the first factor in macroeconomic analysis that forms should seek to evaluate prior to investing in respective emerging markets. The article argued that the consumer spending amounted to an average 40% of the gross profit. This can be evidenced by a study developed by Sparks and Barnett (2010, p.9) on the implications of consumer spending in the economy. In this case, the study sought to establish if consumer spending had an increased role in influencing organizational demand in the market. In its evaluation, the study established that the consumer spending represented the overall large market demand on products. In a further analysis Grant, I.J. & Stephen, G.R. 2006, p.103) sought to establish factors are influencing consumer spending. In this regard, the study aimed at specifically establishing economic factors that served in reducing or increasing the overall consumer spending rates. On one hand, the study established that economies earning levels served as a major influence on the consumers spending. This was Marjory due to its facilitation on the amount of disposable income available to the consumers’ base. Disposable income as the income available to the consumers for use. In this case, this represents the amount of funds available after meeting a consumer base basic needs as well as the investing and saving needs. In this regard, it I apparent that the consumer spending rates in the economy and particular an economy level is an imperative consideration tool for organizations venturing in new markets such as the emerging markets.
In this case, increased disposable income base, resulting from increased earnings represents an increased demand potential in the economy. Therefore, organizations should seek out the emerging markets with increased potential for eventual incomes increase. Phat (2012, p.923) conducted a study to evaluate the economic condition in the BRICS economic bloc. In this case, the study sought to evaluate and develop a forecast of the economic situation in the market. In this case, the study established that the market has an increased earnings growth potential. In this case, it argued that the region has increasingly acquired an increased expertise base that has allowed for even skills exporting. Consequently, with increased human resource the economy earnings are bound to increase allowing for increased disposable incomes and increased consumer spending in the economy. A reduced consumer spending rate would reduce and implicate multinational organizations such as McDonald whose profitability is based on increased sales volumes in an economy.
Economic inflation rates are listed in the article as a key economic evaluation tool in the economy. In this case, the article argues that the inflation rates greatly implicate on the overall consumer spending ability. Moreover, Henderson (1999) argued that inflation rates in the economy have an increased implication on the overall organizations profits and profitability levels. As such, inflation rates serve as a critical aspect in the overall organizational functioning and operations in an economy. Consequently, prior to establishing ventures in the emerging markets, it is imperative for organizations to evaluate the historical inflation rates and the potential future forecasted inflation rates in such markets. In this case, markets with an increased inflation rates trend in the past represent a non viable market potential. Further, markets with forecasted high inflation rates are unviable ventures in the market. In vesting in such markets would not only reduce the organizational overall profitability in the market, but would also lead to probable market losses. In this regard, it is imperative to evaluate factors that perpetuate or slow down inflation rates in an economy.
In order to establish this concept, Baghestani and AbuAl-Foul (2010, p.197) evaluated factors influencing economic inflation rates. In this case, the analysis established that economy production potential and political stability were key influencing factors. On one hand, an economy production potential allows for the establishment of a balance between demand and supply in the market. In this case, technology in the market increasingly influences the production potential. As such, it is imperative for organizations to invest in markets with increased technology use potential allowing for subsequent increased production efficiency and mass production in the market. In addition, political stability influences inflation rates through currency stability and exchange rates. Studies indicate that economies with increased political stability have their currencies appreciating in the exchange market consequently allowing for reduced inflation rates. Therefore, organizations seeking investments should seek out for economies with relatively stabilized political systems. A review developed by Comeau (2003, p.478) on the emerging markets established that the Asian markets were increasingly embracing democratic forms of government. Consequently, this has increased the regions political stability in the recent past allowing for investment viability and appreciation currencies as evidenced by the appreciating Japanese Yen. A depreciating economy would negatively implicate of multinational organizations such as McDonalds investing heavily in the Asian economy.
An additional imperative macroeconomic tool for evaluation is the market investment rates. In an economy, disposable incomes are saved, invested or spent. In this case, of the three options, investment is a viable market alternative allowing for increased future earnings. A study developed by Yoo and Rhee (2013, p.228) established the economic value and viability of investing in the economy. In this case, it sought to evaluate and develop and argument of the contributions of investments in the overall economic GDP development both in the present and the future. In its analysis, the study established that investments served as capital injections in an economy allowing for increased capital infrastructure development. Capital injections allow for increased economic activities in the economy through increased potential for production, employment and eventual earnings and spending. This argument falls under the economic cycle that is hedged on funds circulation between households and firms. Therefore, the injections offered by investments increase the overall earnings and disposable incomes. Reduced investment rates would subsequently reduce income increase for the purchase of luxury products such as Toyota and General Motors products.
Therefore, in order to enhance and create a strategic expansion potential, it is imperative for organizations investing in the emerging markets to evaluate the investment rates in such respective markets. Thus, investment priority should be based on economies with increased investment levels. An evaluation on emerging markets trends in the Asian economy reveals reduced investment rates. Despite the fact that economic agents in the market acquire reasonable earnings, the market faces an increased risk of investment failure. Based n the article guideline analysis and the subsequent study and theoretical arguments on macroeconomic factors for consideration in investing in the emerging markets it is apparent that key among the factors include consumer spending, inflation and investment rates. Consequently, prior to investing in these markets, organizations should evaluate the factors in order to enhance not only current business success possibility but also overall strategic future business success potential.
Agnese, P. & Sala, H. 2008, «Unemployment In Japan: A Look At The ‘Lost Decade’*», The Asia Pacific Journal of Economics & Business, vol. 12, no. 1, pp. 15-34,63-64.
Youngdahl, W.E., Ramaswamy, K. & Dash, K.C. 2010, «Service off shoring: the evolution of offshore operations», International Journal of Operations & Production Management, vol. 30, no. 8, pp. 798-820.
Mababaya, M. 2002, The role of multinational companies in the Middle East: The case of Saudia Arabia.
Sparks, D.L. & Barnett, S.T. 2010, «The Informal Sector in Sub-Saharan Africa: Out Of the Shadows to Foster Sustainable Employment and Equity?” The International Business & Economics Research Journal, vol. 9, no. 5, pp. 1-11.
Henderson, D, 1999, Does Growth Cause Inflation? Cate Pilicy Report, vol, 21, no, 6. [Online] Available at <http://www.cato.org/sites/cato.org/files/serials/files/policy-report/1999/11/cpr-21n6.htm> [Accessed April 29, 2014].
Grant, I.J. & Stephen, G.R. 2006, «Communicating culture: An examination of the buying behaviour of ‘teenage’ girls and the key societal communicating factors influencing the buying process of fashion clothing», Journal of Targeting, Measurement and Analysis for Marketing, vol. 14, no. 2, pp. 101-114.
Baghestani, H. & AbuAl-Foul, B. 2010, «Factors influencing Federal Reserve forecasts of inflation», Journal of Economic Studies, vol. 37, no. 2, pp. 196-207.
Comeau, L., Jr 2003, «The political economy of growth in Latin America and East Asia: Some empirical evidence», Contemporary Economic Policy, vol. 21, no. 4, pp. 476-489.
Yoo, T. & Rhee, M. 2013, «Agency theory and the context for R&D investment: Evidence from Korea», Asian Business & Management, vol. 12, no. 2, pp. 227-252.
Phat, N.T. 2012, «Motivations and Barriers of the Model of Non-Traditional Market Economy: A Case to Study in BRICS», Modern Economy, vol. 3, no. 8, pp. 920-925.
The Economist, Saturday March 8, 2014, Business in Emerging Markets- Emerge, Splurge, Purge, [Online] Available at < http://www.economist.com/news/business/21598642-western-firms-have-piled-emerging-markets-past-20-years-now-comes> [Accessed April 29, 2014].
Skousen, M, Tuesday April 22, 2014, At Last a Better Economic Measure. [Online] Available at <http://online.wsj.com/news/articles/SB10001424052702303532704579483870616640230> [Accessed April 29, 2014].
Appendix 1: Question 1 Article
Business in emerging markets
Emerge, splurge, purge
Western firms have piled into emerging markets in the past 20 years. Now comes the reckoning
Mar 8th 2014 | From the print edition
Phone users smile, shareholders weep
VODAFONE’S latest figures appear at first glance to vindicate the most powerful management idea of the past two decades: that firms should expand in fast-growing emerging economies. Sales at the mobile-phone company fell in the rich world while those in the developing world rose smartly. Corporate strategy is usually a contentious subject: there are fierce debates about how big, diversified and financially leveraged firms should be. But geography has seduced everyone. Vodafone is one of countless Western companies that have bet on the developing world.
Look closer, however, and those figures contradict accepted wisdom. At market exchange rates Vodafone’s sales in the emerging world fell, reflecting the widespread currency depreciations in mid-2013, when America’s Federal Reserve signalled it would taper its bond purchases. This drag may linger: in January the lira and rand tumbled in Turkey and South Africa, two biggish markets for Vodafone. On longer-term measures things look cloudy, too. Over a decade Vodafone has invested more than $25 billion in Turkey and India. These operations made a paltry 1% return on capital last year. Vodafone has created a lot of value for its shareholders—but through its American investments, which it has sold to Verizon for a stonking price.
In this section
Emerge, splurge, purge
Red light, green light
The glass-ceiling index
Food and drink companies
This year Western firms’ giant bet on the emerging world will come under more scrutiny. Most multinationals are far more profitable in emerging markets than Vodafone. American firms made a 12% return on equity in 2012, roughly in line with their global average. But having grown fast, profits are now falling in dollar terms. There has been a long bout of share-price underperformance as investors have lost their euphoria. An index run by Stoxx, a data firm, of Western firms with high emerging-market exposures has lagged the broader S&P 500 index by about 40% over three years (see chart 1). And the recovery in the rich world will mean there will be more competition for resources within firms.
All this will bring strategic questions into sharp relief. Divisional chiefs from Brazil or Asia will no longer get a blank cheque from their boards. Although the average company has prospered, there have been disasters; plenty of firms and some whole industries need a rethink. The emerging-market rush may end up like a giant version of the first internet boom 15 years ago. The broad thrust was right but some big mistakes were made.
The companies suffering a slowdown in profits come in three buckets. Consumer firms including Coca-Cola, Nestlé, Unilever and Procter & Gamble have suffered a gentle weakening in demand and a currency drag. Most are still upbeat about the long term, says Andrew Wood of Sanford C. Bernstein, an analysis firm.
Companies in the second bucket face a sharper slowdown. They are in cyclical and capital-intensive industries. Fiat Chrysler’s profits in Latin America, a vital cash cow, halved in 2013. This week Volkswagen and Renault joined the ranks of Western carmakers warning of weak emerging-market sales. Last month Peugeot wrote off $1.6 billion of assets, mainly in Russia and Latin America. Emerging-market sales have fallen at Cisco, a technology firm; its boss, John Chambers, reckons it is “the canary in the coal mine”. Industrial giants such as ABB and Alstom have seen orders falter for infrastructure projects, for example the building of power stations, says Andreas Willi of J.P. Morgan.
Those firms with mismatches—costs or debts in firm currencies but sales in depreciating ones—face a nasty squeeze. Margins in emerging markets have halved at Electrolux, which makes fridges and other appliances. Codere, a Spanish firm with an empire of gaming and betting shops in Latin America paid for with debts in euros, is now on life support and restructuring its balance-sheet.
In the third bucket are firms with idiosyncratic problems. China’s war on graft has hurt luxury-product makers that have grown fat by selling bling to the Middle Kingdom. Sales at Rémy Cointreau, which makes cognac that Communist Party big-shots quaff, fell by a fifth in the quarter to December, compared with the previous year. Russia’s once-frothy beer market is shrinking as the country conducts one of its periodic crackdowns on alcoholism.
All this may be breezily dismissed as short-term turbulence. But emerging-market wobbles can have a profound impact on corporate strategy. After the 1997-98 Asian crisis many multinationals tilted back towards the rich world. Citigroup and HSBC, two big banks, played down their Asian heritages and spent the next decade building subprime and investment-banking operations in America. Unilever’s operating profits fell in 1997. It felt obliged to tell shareholders that the rich world was its “backbone” and by 2000 it too had made a huge American acquisition, of Bestfoods.
The emerging world’s troubles are not as bad as in 1997-98. But the exposure of rich-world firms is far higher than then (see chart 2). Big European firms make one-third of their sales in the developing world, almost triple the level in 1997, reckons Graham Secker of Morgan Stanley. For big, listed American companies the total has doubled, to about one-fifth. For Japanese firms it is about one-tenth, says Kathy Matsui of Goldman Sachs. The bigger a firm is, the greater its exposure tends to be. Rich-world firms do business across the emerging world, with China accounting for 10-20% of it. Consumer goods, cars, natural resources and technology are the industries with most exposure. Property, construction and health care have the least.
Many of these operations pre-date the boom. European firms have footprints in Asia and Africa from colonial times. American firms dominated foreign direct investment (FDI) flows in the 1970s and 1980s. By the 1990s manufacturing firms were creating global production chains. A wave of privatisations in Latin America enticed a new generation of conquistadores from Iberia and North America.
But by the mid-2000s the process had accelerated dramatically as executives and boards latched on to the idea of the fast-growing BRICs (Brazil, Russia, India, China) and their ilk. Once the subprime and euro crises began, the urge to escape the Western world was irresistible. FDI into China in 2010 was more than double the level in 1998. Takeovers became common. In 2007 purchases in emerging markets by rich-world firms reached $225 billion. That was five times the level just half a decade earlier. One measure of how discipline slipped is the valuation of those deals. In 2007 rich-world buyers stumped up a dizzy 17 times operating profits for their targets, double the multiple paid in 2000-03.
Some firms had unexpected identity changes. Suzuki, a Japanese carmaker, found that its formerly sleepy Indian arm accounted for the biggest chunk of its market value. Portugal Telecom’s Brazilian unit kept it afloat during the euro crisis. Having taken control of a beer firm in St Petersburg, Carlsberg, a Danish brewer, became a “Russia play”. Mandom, an 87-year-old Japanese firm, found itself a giant of the Indonesian male-cosmetics market.
Other firms’ efforts to peacock their emerging-market credentials look, with hindsight, like indicators of excess. Having been bailed out for its toxic credit exposures back in America, Citigroup rebranded itself as an emerging-market bank. Schneider Electric, a French engineering firm, and HSBC relocated their chief executives from Europe to Hong Kong (HSBC has since backtracked).
Historians may judge the peak of the frenzy to have been in June 2010. Nathaniel Rothschild, a scion of a banking dynasty (some of whose members are minority shareholders in The Economist), raised $1.1 billion for a shell company in London, set up to buy emerging-market mining assets. Months later it invested in Indonesian coal mines with the Bakrie family, known in that country for its political ties and web of businesses. According to Bloomberg, Mr Rothschild shook hands on the deal without visiting the main mine in question, in Borneo. The transaction was a “terrible mistake”, he later admitted.
Every corporate-investment cycle creates triumphs and disasters, and a lot of mediocrity. The emerging-markets boom will be no exception. Hard figures are elusive but the book value of the equity that Western firms have invested in the emerging world has probably risen by at least $3 trillion since 1998. This is a colossal sum, equivalent to 11% of the emerging markets’ combined GDP in 2013. Many firms have prospered, such as the banks that braved Mexico in the 1990s. But there is plenty of rot, too.
Start with takeovers. There have been $1.6 trillion-worth since 2002. A rule of thumb is that half of all deals destroy value for the acquirer. Like Vodafone, many firms paid dizzy prices justified by pepped-up forecasts. In 2010 Abbott Laboratories, an American drugs firm, paid $4 billion for the small Indian drugs unit of Piramal, predicting it would grow at 20% a year for a decade. Two years later sales were stagnant in dollar terms. Daiichi Sankyo, a Japanese drugs firm, has been badly burned in India, as the company it bought into, Ranbaxy, has hit serious quality problems. Lafarge paid $15 billion for Orascom, a North African and Middle Eastern rival, in 2007. The French cement giant predicted sales would rise by 30% a year. Since then its shares have almost halved, partly due to the crippling debt burden incurred.
Big greenfield projects have broken hearts, too. ThyssenKrupp, a German steel colossus, launched an ambitious project in 2006 to make steel slabs in Brazil and process them in America. Rising costs have made it unviable, and most of the $10 billion sunk has been written off. The firm’s boss has labelled the episode a “disaster”. Anglo American, a mining company, buried $8 billion and the career of its former chief executive, Cynthia Carroll, in a Brazilian project called Minas-Rio. Cost overruns have led to a $4 billion write-off.
Besides such eye-catching failures, there are pockets of serious underperformance tucked away in corners of sprawling multinationals. Consumer-goods firms have made hay in emerging markets, but even the best have some iffy businesses. Procter & Gamble’s margins outside America are half those it enjoys at home. Profits are weak in India and Brazil, where it is a laggard. A.G. Lafley, who returned as the firm’s boss last year, has promised more discipline.
It is the same story with Spanish investments in Latin America. Telefónica makes good money across most of the continent, says Bosco Ojeda of UBS, a bank. But Mexico is a running sore. For 14 years Telefónica has poured in billions of dollars without threatening Carlos Slim, who dominates telecoms there. Even the world’s two biggest brewers, Anheuser-Busch InBev and SABMiller, which have been huge successes, have bought some businesses with low market shares and commensurately weaker profits and returns on capital.
In some cases the underperformance is spread across an entire industry. During a boom every firm thinks it can be a winner, leading to excess investment and saturation. The more capital-intensive the industry is, the greater the pain in store for its weakest members. Insurance is a case in point. India has more than 20 foreign firms slugging it out for tiny market shares while bleeding cash. Turkey is also an insurers’ graveyard. Most European firms have a motley collection of emerging-market assets, but only a few, such as Prudential, AXA and Allianz, have scale. “There are trophy markets where everyone has decided they have to be in. Typically they don’t make a lot of money,” says an executive.
The car industry also has a long tail of flaky businesses. It has invested more than $50 billion in factories in China, with great success, reckons Max Warburton, also of Bernstein. But “China has affected the judgment of a lot of chief executives,” making them too bullish about other emerging markets. More than $30 billion has been invested in developing countries other than China. New factories are opening just as demand has slowed. Ford’s number two, Mark Fields, this week expressed worries about excess carmaking capacity building up in Brazil, Russia and India. Mr Warburton thinks such operations could burn billions of dollars this year. “Everyone is bracing to lose a lot of money.”
Taking the beer goggles off
Some rich-world firms need to take a long, cold look at their emerging-market businesses and work out if they make sense. But there are psychological barriers to this. One is that most Western businesses have low gearing—usually it is only when they have a debt problem that they make difficult decisions quickly. Without their emerging-markets pep pill many firms would have dire revenue growth. The developing world has supplied 60-90% of the growth of Europe’s big firms in recent years. And a whole generation of chief executives has learned that quitting emerging markets is a mug’s game. Bosses who panicked and left after the 1997-98 crisis ended up looking like idiots.
Yet companies should allocate capital carefully, regardless of the spare funds they have. Sales growth without profits is pointless. And comparisons with 1997-98 are imperfect. Most industries have become more competitive, as emerging economies’ local firms get into their stride. The low-hanging fruit is gone. Reflecting this logic, a few big industries have already begun to trim their emerging-markets arms.
Exhibit one is banking. After being bailed out, some firms such as ING and Royal Bank of Scotland have largely retreated from the developing world. Bank of America has sold out of its Chinese affiliate. But even big, successful firms which are dedicated to emerging economies are trying to boost returns by trimming back. HSBC has got out of 23 emerging-market businesses. The world’s biggest five mining firms are also adapting to lower emerging-market demand. They have cut capital investment by a quarter since 2012, says Myles Allsop of UBS.
The supermarkets are in retreat after decades of empire-building that led them to invest $50 billion in the emerging world. Synergies have proved elusive, local rivals have got stronger and tastes more particular. In Turkey shoppers prefer discount stores to hypermarkets—the four biggest foreign firms there lost money in 2012. Aside from Walmart’s Mexican unit, most rich-country grocers’ operations in the developing world have low market shares and do not cover their cost of capital. Casino, a French firm, has already shrunk, says Edouard Aubin, of Morgan Stanley. He thinks Carrefour could slim down to five countries from a peak of more than 20 (although it said this week it would keep expanding in China and Brazil). Walmart is cutting the number of stores it has in emerging markets. Tesco seems to have abandoned its dream of controlling big businesses in Turkey and China.
In the next few years more firms may follow the example of some supermarkets and retreat from the developing world. Most, though, will adapt, cutting capital investment and pruning their portfolios. All this will create opportunities for rising local firms. On February 19th, as Peugeot announced its giant write-off of emerging-market assets, Dongfeng, its Chinese partner, said it would take a 14% stake in the French firm and that technology-sharing between the two would speed up. There are rumours that General Motors may sell its loss-making Indian plant to its Chinese partner, SAIC. In 2011 ING sold its large Latin American business to Grupo Sura, a Colombian conglomerate intent on becoming a regional player.
The rich-world firms that remain will need to make their business models weatherproof, not just suited for the sunny days of a boom. That means shifting even more production to emerging markets and borrowing in local currencies—both are a natural hedge against currency turbulence.
As others falter, the strongest multinationals are making bolt-on acquisitions. In 2013 Unilever bought out some minority shareholders in its Indian business for $3 billion and Anheuser-Busch InBev took control of Grupo Modelo, a Mexican rival, for $20 billion. The year before Nestlé spent $12 billion buying Pfizer’s baby-food business, which is mainly exposed to the emerging world. Rather than being the panacea envisioned by many Western firms during the boom, emerging markets are governed by the oldest business rule of all—survival of the fittest.
From the print edition: Business
Appendix 2: Question 2 Article
At Last, a Better Economic Measure
Gross output will correct the fallacy fostered by GDP that consumer spending drives the economy.
April 22, 2014 7:35 p.m. ET
Starting April 25, the Bureau of Economic Analysis will release a new way to measure the economy each quarter. It’s called gross output, and it’s the first significant macroeconomic tool to come into regular use since gross domestic product was developed in the 1940s.
Steven Landefeld, director of the BEA, says this new macroeconomic tool offers a «unique perspective» and a «powerful new set of tools of analysis.» Gross output is an attempt to measure what the BEA calls the «make» economy—the total sales from the production of raw materials through intermediate producers to final wholesale and retail trade. Valued at more than $30 trillion at the end of 2013, it’s almost twice the size of gross domestic product, and far more volatile.
In many ways, gross output is a supply-side statistic, a measure of the production side of the economy. GDP, on the other hand, measures the «use» economy, the value of all «final» or finished goods and services used by consumers, business and government. It reached $17 trillion last year.
The measure of the economy’s gross output has been around since the 1930s. It was developed by the economist Wassily Leontieff, but he focused on individual industries, not the aggregate data as a measure of total economic activity. Gross output has largely been ignored by the media and Wall Street because the government issued the number annually, and it was two or three years out of date. That should change now that it will be released along with GDP every quarter. Analysts and the media will be able to compare the two.
Why pay attention to gross output? For starters, research I published in 1990 shows it does a better job of measuring total economic activity. GDP is a useful measure of a country’s standard of living and economic growth. But its focus on final output omits intermediate production and as a result creates much mischief in our understanding of how the economy works.
In particular, it has led to the misguided Keynesian notion that consumer and government spending drive the economy rather than saving, business investment, technology and entrepreneurship. GDP data at the end of 2013 put consumer spending first in importance (68% of GDP), followed by government expenditures (18%), and business investment third (16%). Net exports (-2%) makes up the difference.
Thus journalists and many economic analysts report that «consumer spending drives the economy.» And they focus on retail spending or consumer confidence as the critical factors in driving the economy and stock market. There is an underlying anti-saving mentality in this analysis, as evidenced by statements frequently made during debates on tax cuts or tax rebates that if consumers save their tax refund instead of spending it, it will do no good for the economy. Presidents including George W. Bush and Barack Obama have echoed this sentiment when they encouraged consumers to spend rather than save and invest their tax refunds.
Although consumer spending accounts for about 70% of GDP, if you use gross output as a broader measure of total sales or spending, it represents less than 40% of the economy. The reality is that business outlays—adding capital investment and all business spending in intermediate stages of the supply chain—are substantially larger than consumer spending in the economy. They make up more than 50% of economic activity. The 2012 data are gross output $28,693 billion, and GDP $16,420 billion.
The critical importance of business activity is clear when you look at employment statistics and leading economic indicators. Employees in the consumer side of the economy (retail outlets and leisure businesses) account for about 20% of the labor force, and another 15% work for various levels of government. Yet the vast majority of employees, 65%, work in mining, manufacturing and the service industries.
Most of the leading economic indicators published monthly by the Conference Board are linked to the earlier stages of production and business activity. These include manufacturers’ new orders, non-defense capital goods, building permits, unemployment claims and the stock market. Retail sales aren’t listed among the 10 leading indicators either in the U.S. or other major nations. Even the highly touted «consumer confidence index» published by the Conference Board and highlighted by the media was changed in January 2012 to the «average consumer expectations for business conditions.»
Gross output also does a better job of gauging the ups and downs of the business cycle. For example, in 2008-09, nominal GDP declined only 2% while nominal gross output fell sharply by 8%, far more indicative of the depths of the recession. Interestingly, since the 2009 trough, gross output has been rising faster than GDP, suggesting a more robust recovery.
Finally, as a broader measure of economic activity, gross output is more consistent with economic-growth theory. Studies by Robert Solow at MIT and Robert Barro at Harvard have shown that economic growth comes largely from the supply side—increased technology, entrepreneurship, capital formation and productive savings and investment. Higher consumption is the effect, not the cause, of prosperity.
Gross output complements GDP and can easily be incorporated in standard national-income accounting and macroeconomic analysis. As Steve Landefeld, Dale Jorgenson and William Nordhaus conclude in their important work, «A New Architecture for the U.S. National Accounts» (2006), «Gross output is the natural measure of the production sector, while net output [GDP] is appropriate as a measure of welfare. Both are required in a complete system of accounts.»
Gross output measures spending in both the «make» economy (intermediate production), and the «use» economy (final output). It is a better, more comprehensive measure of the nation’s economic activity than GDP, and a better indication of the economy’s growth prospects.
Mr. Skousen is a Presidential Fellow at Chapman University and the author of «The Structure of Production» (New York University Press, 1990, 2007), which introduced the concept of gross output as an essential macroeconomic tool.
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