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**Lesson 7** CLASSICAL COUNTRY-BASED THEORIES OF INTERNATIONAL TRADEWe do have a trade policy because we have numerous executive order, Republic Acts, tariff and customs code, international treaties and obligations and so forth, that dictate how imports and exports in the Philippines are to be trea...

**Lesson 7** CLASSICAL COUNTRY-BASED THEORIES OF INTERNATIONAL TRADEWe do have a trade policy because we have numerous executive order, Republic Acts, tariff and customs code, international treaties and obligations and so forth, that dictate how imports and exports in the Philippines are to be treated. **Christian Laluna, Arnil Paras and Vanessa Soliva** --- "An Analysis of the History of Philippine Trade Policy (1950-2004), we do not have any constant trade policy that is consistent with a given economic or ideological framework. Rather, what we have are trade policies that are often the result of two competing forces, global economic forces or shocks to which the government must react to or respond to, and the local political economy that has for the most part of this history captured trade policy and enjoyed its benefits -- even as the costs of such policies were finally taking its toll in the economy. **2 significant global economic events** -- **1949 currency crisis** & **1980's debt crisis** -- forced government to take steps needed to stabilize the economy. consequences of these steps, **2 distinct business classes** (**traditional industrial elite post-1949** & **more globally-oriented entrepreneurial class post-1980**) which have helped shape the political economy out of which further developments in trade policy came out of. The authors concluded that liberalization -- or at least the minimal commitment to internationally agreed upon trade barriers and tariff rates -- is embedded not only in the policy framework of Philippine government, but also in international obligations and law. In addition, they said that the rise of a new business middle class that enjoys benefits from globalization and liberalization of the economy will ensure that there is at least one political supporter in favor of continued liberalization. It is this class participation in the policy formulation and implementation procedures in the Philippine government that can help set the tone for the future of Philippine trade policy. **International Trade Theories** - different theories to explain international trade. - **Trade** - exchanging goods and services between two people or entities. - **International trade** - exchange between two different countries International trade theories are various theories that analyze and explain the patterns and mechanisms of international trade. They deal with how countries exchange goods and services and help countries in deciding what should be exported and what should be imported, in what quantity and with whom trade should be done globally. **Company-based theories** - classical theories. Classical economists were oriented primarily toward growth economics, and their main concern was to explain how the "wealth of nations" could be increased. **Main points of Classical TheoriesReyes (2012)**, the main points of the classical theories of international trade are the following:1. **Trade is an important simulator of economic growth.** It enlarges country's consumption capacities, increases world output, and provides access to scarce resources and worldwide market for products, without which poor countries would be unable to grow. 2\. **Trade tends to promote greater international and domestic equality** by equalizing factor prices, raising real incomes of trading countries and making efficient use of each nation's and world's resource endowments, such as raising relative wage in labor-abundant countries and lowering them in labor-scarce countries. 3\. **Trade helps countries to achieve development** by promoting and rewarding those sectors of the economy where individual countries have a comparative advantage, whether in terms of labor efficiency or factor endowments. 4\. **In a world of free trade, international prices and costs of productions determine how much a country should trade in order to maximize its national welfare.** Countries should follow the dictates of the principle of comparative advantage and not try to interfere with the free workings of the market. 5\. **In order to promote growth and development, an outward-looking international policy is required. In all cases, self-reliance based on partial or complete isolation is asserted to be economically inferior to participation in a world of free unlimited trade** A number of explicit and implicit assumptions that in many ways are often contrary to the reality of contemporary international economic relations have been instrumental in the development of the traditional international trade theories.It is therefore incumbent upon government and nations to determine what policies to institute and what strategies to take to promote their own economic development and growth. In the mid-twentieth century, economists shifted from country-based to firm-based or company-based theories, which were called modern theories.These theories are useful and can help with international trade by helping a business determine the right country to expand into and make goods more efficiently than other firms. **Lesson 8** **Commercial Revolution** - took place between 1450 and 1750 brought a revolutionary change in the economy of Europe- from local economies to national economies, from feudalism to capitalism, from a rudimentary trade to a globally larger international trade.- gave birth to mercantilism **Mercantilism -** country's wealth --- gold and silver holdings \- economic nationalism aimed to build a wealthy and powerful state **Mercantilists** - increase holdings of G & S by promoting exports & discouraging imports \- result to trade surplus **Trade surplus** - value of exports are greater than the value of imports**Trade deficit** - value of imports is greater than the value of exports **David Hume (1711-1776)**Scottish economist David Hume modeled the **price-specie-flow mechanism** to illustrate how trade imbalances can self-correct and adjust under the gold standard According to this flow mechanism, balance of payments was a "real" phenomenon affected by changes in trade balances, and these trade balances were stimulated by changes in prices, which in turn resulted from gold flows between nations. **Protectionism**Customs tariff, quotas and other regulations are imposed to curtail imports. This is to protect the export industries that brings in the gold and silver, not only by imposing import restrictions, but also by subsidizing select export industries. While protectionism protected the industries that produces the exports, it hurts the consumers. **Bullionism** - mercantilism also known (exports inflow gold & imports outflow of gold) **Bullion** - large amount of gold and silver. **Adam Smith described mercantilism as having the following characteristics:** 1\. It was used to enhance the economic power of states through building wealth2. It led to massive and rapid unification of control (protectionism) of countries under strict economic and political policies in sharp contrast with what was observed under feudalism resulting to economic nationalism.3. The countries aggressively sought to have a favorable balance of trade (trade surplus) by selling more than they imported so as to have a surplus of precious metals and accumulate it over time. **Neo-mercantilism** - combines protectionism through tariffs and import barriers and domestic industry protection through subsidies and tax exemptions. **Factors of Production**In mercantilism, the government strengthens the private owners of the factors of production, labor, natural resources, capital goods and entrepreneurship **ADAM SMITH** - laissez-faire doctrine ("leave them alone" or "let it be") Adam Smith's Division of labor Division of labor --- specialization --- productivity --- Economies of scale--- efficiency --- Sustainable economic growth **Jean Baptiste Colbert (1619-1683**) French statesman who served as Comptroller General of Finance and Secretary of State for the Navy under King Louis XIV of France.- More profound influence on the development of mercantilism in France where it was known as "Colbertism" Colbert fostered national mercantilism, in which state concentrates on developing its industry and manufacturing to minimize imports and maximize exports to maintain a favorable balance of trade, **William Petty (1623-1687)**An English economist, physician, scientist and philosopher.- Surplus gain or surplus value leads to expanded reproduction and that expanded reproduction is conditional on capital accumulation. Expanded reproduction \- A model in which a capitalist economy smoothly reproduces itself, a system founded on capital accumulation, that is, expansion of productive capital The surplus value created by the workers is not merely realized but reinvested. The economy experiences expanded reproduction when it consistently expands each year. **Philipp Wilhelm von Hornick**Austrian lawyer and scholar. Has detailed nine-point program of effective economy in his "Austria Over All, If She Only Will" 1\. That every inch of a country's soil must be utilized for agriculture, mining or manufacturing 2\. That all raw materials found in a country be used in domestic manufacture, since finished goods have a higher value than raw materials 3\. That a large working population is encouraged 4\. That all export of gold and silver be prohibited and all domestic money be kept in circulation 5\. That all imports of foreign goods be discouraged as much as possible 6\. That where certain imports are indispensable they be obtained at first hand, in exchange for other domestic goods instead of gold and silver 7\. That as much as possible, imports be confined to raw materials that can be finished 8\. That opportunities be constantly sought for selling a country's surplus manufactures to foreigners, so far as necessary, for gold and silver 9\. That no importation be allowed, if such goods are sufficiently and suitably supplied at home. **Thomas Mun 91571-1641)**Director of the East India Company Most closely associated with the idea of mercantilism in England, where mercantilism was called "commercial system or mercantile system" Because it emphasized the importance of commerce and free trade Foreign trade ought to be encouraged, for upon it hinges the revenue for the King, the honor of the kingdom, the noble profession of the merchant, the supply of our poor, the improvement of our lands and means of our treasure. **Antoine de Montchretien** Published a book titled: A Tract On Political Economy He laid great emphasis on development of agriculture and described it as the basis of all wealth. Stood for the principle of self-sufficiency He asserted that it is not the abundance of gold and silver, the quantities of pearls and diamonds, which make a state rich and opulent, but the convenience of the things necessary to life. **Richard Cantillon (French Scholar)** first economic theorist He emphasized the need of importing raw materials and exporting finished products to maintain a favorable balance of trade. -lived and wrote before the PhysiocratsEighteenth-century group of French economists who believed that agriculture was the source of all wealth and that agriculture products should be highly priced. **Giovanni Botero and Antonio Serra (Italy)** The nation can be rich through industrialization that will bring results to cumulative causations originating in increasing returns. **Lesson 9Absolute Advantage** - produce a good or service better, faster, more efficiently, at a greater volume, and with fewer resources than others. It means that a producer can produce a good or service in greater quantity at a lower cost or the producer can produce the same quantity of product or service for a lesser quantity of inputs and therefore lower marginal cost without compromising the quality. Marginal cost- Is the cost incurred in producing an additional unit of a product. Absolute advantage is a comparative term used in economics when comparing the output capacity of a country, business or individual in relation to another similar entity The entity that has the absolute advantage produces more with less inputs.Absolute advantage is more about a country having better, faster more efficient and greater volume production at lesser workforce, lesser time and lower marginal costs. Enterprise Economy \- Is an economic system , where most means of production are privately owned and production is guided and income distributed largely through the operation of markets which determine prices, products and services rather than the government. Although the continuous development of capitalism as a system dates only from the sixteenth century, precursors of capitalist institutions existed in the ancient world and flourishing pockets of capitalism were present in Europe during the later middle ages. Physiocrats Group of economists who believed that the wealth of nations was derived solely from agriculture.The term "physiocracy" itself, introduced by Dupont de Nemours (1767) literally translates to "the rule of nature" Physiocracy is perhaps the first well-developed theory of economics It immediately preceded the first modern school, classical economics which began with the publication of Adam Smith's The Wealth of Nations The most significant contribution of the physiocrats was their emphasis on productive work as the source of national wealth. Francois Quesnay (1759-1766) His axiom is that only agriculture yielded surplus which became the cornerstone of the physiocratic doctrine. Manufacturing, the physiocrats argued, took up as much value as inputs into production as it created in output and consequently created no net product Contrary to the mercantilists, the physiocrats believed that the wealth of nation lies not in stocks of gold and silver but rather in the size of its net product. Unlike the physiocrats, however, Smith did not believe that the industry was unproductive and that only the agricultural sector was capable of producing a surplus above the subsistence level. Absolute advantageIn 1776, Adam Smith questioned the leading mercantile theory of the time. Recent versions have been edited by scholars and economists. Smith offered a new trade theory called absolute advantage. Absolute advantage focused on the ability of a country to produce more efficiently than another country. Smith believed that trade between countries should not be regulated or restricted by government policy or intervention. He stated that trade should flow naturally according to market forces. His theory stated that a nation's wealth should not be judged by how much gold and silver it has, but rather by the living standards of its people Smith used the concept of absolute advantage to explain gains from free trade in the international market. He theorized the countries' absolute advantage in different commodities would help them gain simultaneously through exports and imports, making the unrestricted international trade even more important. International trade exploits the quantitative and qualitative benefits of an extended division of labor. Adam Smith emphasized that specialization on the basis of absolute cost advantage would lead to maximization of world production. Surplus doctrineA nation can exchange its overproduction for other goods which are in demand in other countries. In addition, this doctrine implies that the foreign trade results in the fullest utilization of the idle productive capacity that is likely to exist in the absence of trade. International trade leads also to an increase in specialization, which increases productivity through technical and organizational innovations. 1\. The basic tenet of absolute advantage is that more goods can be produced overall with the same amount of labor. 2\. Economic development is attained when resources are activated and industry boosted. 3\. It transfers knowledge and technology between different nations. The adoption and use of new production techniques leas to a productivity growth and thus, to an increase in wealth and economic development. **Lesson 10**Theory of Comparative Advantage Comparative Advantage Refers to the country's capability to produce specific goods or manufacture multiple types of goods with limited resources at lower marginal cost and opportunity cost compared to other countries. Roles of the WTOOpportunity cost is what is lost or missed out when choosing one possibility over another.If a country can produce goods or services at a lower (total) cost than other countries, it has comparative advantage. The trick to understanding comparative advantage is in the phrase "lower cost" Oil-producing nations have a comparative advantage in chemicals. Their locally produced oil provides a cheap source of material for the chemicals when compared to countries without it A lot of the raw ingredients are produced in the oil distillery process. As a result, Saudi Arabia, Kuwait and Mexico are competitive with the US chemical production firms. Their chemicals are inexpensive, making their opportunity cost low. Challenge to the absolute advantage theorySome countries may be better at producing several products and, therefore have an advantage in many areas, while there are countries which do not have any absolute advantage on anything. David Ricardo, an English economist, introduced the theory of comparative advantage I 1817. Ricardo reasoned that even if a country had the absolute advantage in the production of several products, specialization in trade can sill happen between two countries. Comparative advantage occurs when a country can produce a product better and more efficiently than it does other goods. Comparative advantage focuses on relative productivity differences, whereas, absolute advantage looks at the absolute productivity Productivity is an average measure of the efficiency of production. It can be expressed as the ratio of output to inputs used in the production process. (output per unit of input) Relative productivity compares the productivity of different entities/countries while absolute productivity looks at an entity's/country's productivity without regard to other entity's/country's productivity. While the theory of comparative advantage is attributed to Ricardo, AAM Smith was among the first to put in writing the theory of comparative advantage when he wrote:--- "If a foreign country can supply us with a commodity cheaper than we ourselves can make it, buy it of them with some part of the produce of our own industry, employed in a way in which we have some advantage." A country has a comparative advantage when it produces a good or service for a lower opportunity cost than other countries. The principle of comparative advantage I corollary to the principle of absolute advantage. He propounded division of labor to lower labor cost to reduce the cost of the product so that the country can have comparative advantage. Industrial capitalism - an economic system in which trade, industry, and capital are privately controlled and operated for profit. It saw the rapid development of the factory system of production characterized by much more rigid, complex, and intricate division of labor that Smith was propunding. Free trade, as opposed to the mercantilist policies of protection, was championed by both Smith and Ricardo as a route to achieve production efficiency at a global level. The theory of comparative advantage was formulated by David Ricardo when he investigated in detail the advantages and alternative or relative opportunity in his 1817 book On Principles of Political Economy and Taxation in an example involving England and Portugal. He argued that a country boosts its economic growth the most by focusing on the industry in which t has the most substantial comparative advantage.He pointed out that significant increase in the money supply created inflation. He also created the theory of monetarism, the theory or practice of controlling the supply of money as the chief method of stabilizing the economy. He also developed the law of diminishing marginal returns, one of the essential concepts in microeconomics. It states that there is a point in the production where the increased output is no longer worth the additional input. ConclusionDeveloping countries with a comparative advantage in agriculture should continue to specialize in agriculture and import high-technology widgets from developed countries with a comparative advantage in high technology. Heckscher-Ohlin Theory (H-O theory)Developed by Bertil Ohlin (1899-1979) and Eli Filip Heckcher (1879-1952) - Ohlinl was awarded the Nobel Prize for Economics.- Also known as the resources trade theory A country rich in particular resource than another country tends to produce more products that use that resource. Countries are more efficient in producing goods using such abundant resource. According the Heckscher-Ohlin theory, trade makes it possible for each country to specialize.Each country exports the product the country is most suited to produce in exchange for products it is less suited to produce. This theory is based on a country's production factors --land, labor and capital which provide the funds for investment in plants and equipment: hence, the theory is called the factor proportions theory.The interactions across markets are one of the important economics lessons as a result of this model. Many elaboration of the model were provided by Paul Samuelson after the 1930s, and thus, sometimes the model is referred to as Heckscher-Ohlin-Samuelson model Jaroslav Vanek -- made some noteworthy extensions to the model. For our purposes, we will simply call all versions of the model either the Heckscher --Ohlin model or simply the more generic "factor proportion model" **Lesson 11**MODERN FIRM-BASED THEORIES In contrast with the classical country-based theories, the category of the modern-firm based theories emerged after World War II and was developed in large part by business school professors, not economies. The modern firm-based theories evolved with the growth of the multinational companies (MNC's).The classical country -based theories could not adequately address the expansion of either MNC's or intra-industry trade, which refers to trade between two countries of goods produced in the same industry like Japan exporting Toyota vehicles to Germany and importing Mercedes-Benz automobiles from Germany. Unlike the country-based theories, firm-based theories incorporate other product and service factors, including brand and customer loyalty, technology and quality into the understanding of trade flows. Modern theories of International Trade1. Porter's National Competitive Advantage theory2. Country Similarity Theory3. Product Life cycle Theory4. Global Strategic Rivalry Theory Porter's National Competitive Advantage theoryAbsolute advantage talks about the advantage a country has if it can produce the greatest quantity of a particular good at a lesser marginal cost. In comparative advantage, we talk about producing a particular good at lower marginal cost and lower opportunity cost. In contrast, competitive advantage refers to any benefit or advantage that one country or company has over others due to lower cost of materials, lower cost of labor, or easy access to raw materials resulting in the ability of the country or company to offer greater value to customers, either by means of lower prices, or offering more benefits and services at the same time. competitive advantage puts a country or company in a favorable or superior business position than its competitors. A country with absolute advantage and comparative advantage has an edge over its competitors; therefore, it has competitive advantage. Competitive advantage contributes to higher profit, more customers and brand loyalty. Michael PorterProfessor in the Harvard Business School - founder of the modern strategy field and one of the world's most influential thinkers on management and competitiveness \- introduced a model that allows analysis of why some nations are more competitive than others and why some industries within nations are more competitive than others in the home front.He did this in his book Competitive Advantage of Nations. This model of determining factors of national advantage has become known as Porter's diamond. It suggests that the nation's home base of an organization plays an important role in shaping the extent to which a country is likely to achieve competitive advantage on a global scale. This home base provides the basic factors, which support or hinder organizations from building advantages in global competition. Porter's diamond theory is a framework that enhances our understanding or the international competitiveness of firms. Porter's theory stated that a nation's competitiveness in an industry depends on the capacity of the industry to innovate and upgrade. Michael Porter identified four stages of development in the evolution of a country. 1\. Development based on (production) factors2. Development based on investments (capita)3. Development based on innovation (creativity)4. Development based on prosperity (economic growth and prosperity) A country rich in the basic factors of production is in a better position to compete globally and attain economic development.Similarly, a country rich in investments (capital) can compete better globally as it has the wealth needed to engage in production or other business endeavors. A country that is endowed with minds vent on being creative and seek innovative ways of doing business will bring prosperity to that country. Lastly, a prosperous nation has all the means to engage competitively in the global market. A country that is endowed with minds vent on being creative and seek innovative ways of doing business will bring prosperity to that country. Lastly, a prosperous nation has all the means to engage competitively in the global market. PORTER'S DIAMOND MODEL Determinants to Porter\'s Diamond 1\. local market resources and capabilities (factor conditions) 2. local market demand conditions3. local suppliers and complementary industries; (related and supporting industries)4. local firm characteristics (firm strategy, structure and rivalry) LOCAL MARKET RESOURCES AND CAPABILITIESPorter recognized the value of the factor proportions theory or the H-O theory of Hecksher and OhlinOhlin, which considers a nation's resources as key factors in determining what products a country will export or import. Porter added to these basic factors a new list of advanced factors. a\. human resource, including skilled laborb. material resources, including natural resources, vegetation space and the likec. investments in education, including knowledge and research in universitiesd. technologye. infrastructure He perceived these advanced factors as providing a country with a sustainable competitive advantage. Porter points out that these factors are not necessarily nature-made or inherited. They may develop and change. Political initiatives, technological progress, or socio-cultural changes, for instance, may shape national factor conditions. A country may lack natural resources, but have a system of new technology that can develop new methods or processes giving the country a competitive advantage in that area. LOCAL MARKET DEMAND CONDITIONSPorter believed that a creative domestic market is critical to ensuring ongoing innovation, thereby creating a sustainable competitive advantage. Companies whose domestic markets are innovative, trendsetting, and sophisticated will pursue the development of new products and technologies. Local suppliers and complementary industriesTo remain competitive, large global firms benefit from having strong and efficient supporting and related industries to provide the inputs required by the industry. To be competitive, firms must have an efficient and strong support network. Certain industries cluster geographically, which provides efficiencies and productivity. In addition, the growth of one industry influences the growth of the other industries. Local firm characteristics Local firm characteristics include firm strategy, industry structure and industry rivalry. The strategies help in setting goals, the structure helps in managing operations, and rivalry helps in generating innovation. Local firm characteristics include firm strategy, industry structure and industry rivalry. The strategies help in setting goals, the structure helps in managing operations, and rivalry helps in generating innovation. In addition to the four determinants of Porter, he also noted that government and chance play a part in the national competitiveness of industries. Porter's Competitive Advantage Chain Value  The main activities represent the different businesses'/companies' production/ trading/services activities that have their own competitive cost advantage. Each business/company will have its own logistics, production, marketing, and services departments. The support activities represent that staff departments of each business/company that will provide the firm infrastructure/organizational setup, HR management, stock supply/inventory, and technological development. All of these activities of each business/company will redound to the business'/company's quality advantage. Cost advantage and quality advantage a company, country, or industry has will bring about competitive advantage. If all the business/companies engaged in a country's industrial trade are competitively advantaged, the country will, in turn, have a competitive advantage in the global arena. Cost Advantage + Quality Advantage = Competitive Advantage **Lesson 12** COUNTRY SIMILARITY THEORY Traditional trade theories speak of differences in resources and demand or supply conditions as a necessary condition for trade between countries. In contrast, the country similarity theory is built upon similarities or identical features of nations engaged in the international trade. In the US, 8 out of 10 trading partners of the country are developed economies. Globally, 11 out of 12 largest players in the international trade are developed nations. As such they have certain similarities that made them developed economies. Developed countries trade more with developed economies. Products of a developed country only match demand and user conditions of another developed country, hence, the similarity in the stage of development promotes trade between countries. A developed country introduces a new product and similarly developed countries find the product quite useful and go for the same. Needs and demands become more or less common in countries with similar levels of development. Similarly placed countries' capabilities and needs happen to be similar; therefore, quite a lot of intra-industry trade among these similarly placed countries happen. Traditional Trade Theory vs. Country Similarity Theory Traditional trade theory speak of differences in resources and demand or supply conditions of a country Country similarity theory is built upon similarities or identical features of nations COUNTRY SIMILARITY THEORY The country similarity theory was developed by Swedish economist Steffan Linder in 1961, as he tried to explain the concept of intra-industry trade. Features common to certain countries that will make them trade with each other:1. Stage of development2. Cultural milieu3. Geographical features4. Political and economic interests Linder's theory proposed that consumers in countries that are in the same or similar stage of development would have similar preferences. Contrary to the traditional theories, the country similarity theory is built on identical features of nations in trade. In this firm-based theory, Linder suggested that companies first produce for domestic consumption. When they explore exporting, the companies often find that markets that look similar to their domestic one in terms of customer preferences offer the most potential for success. Linder's country similarity theory then states that most trade in manufactured good will be between countries with similar per capital income. Simply, this theory describes the idea that countries with comparable qualities are mainly likely to trade with each other. These qualities might include the level of development, savings rates and natural resources among others. Other than stage of development, countries in the same cultural milieu trade more among themselves. In addition, countries in similar geographical features trade more. Countries in similar geo-features like ecological or climatic factors will mutually cater to cross border demands. A kind of cross-border monopolistic competition emerges with firms vying for cross-country market share with the thrust on product differentiation. European countries amongst themselves pulled down all protectionist impediments to trade and intra-regional trade is highest, because they have similar geographical features. Also, countries with similar political and economic interests trade more inter se. Trade between countries with similar political and economic interests is more common than between countries that differ. Cuba and US are in the same continent but due to political ideological differences, they scarcely trade for over 5 decades. Cuba is a good source of supply of sugar, but the US prefers not to taste Cuban sugar. TYPES OF TRADE 1\. Inter-Industry Trade It is the exchange of goods in different industries among countries. The exchange could be by one industry in country A for goods produced by a dissimilar industry in country B. 2\. Intra-Industry Trade It is an exchange of goods produced in the same industry. Ex. Japan trading Toyota with Germany for Mercedez Benz To determine the similarity of countries, the Geert-Hofstede model is a tool that was developed to compare countries. This model uses six dimensions to compare countries. GEERT-HOFSTEDE MODEL 1\. Power distance - is power in the country distributed unequally?2. Individualism - it is the degree of interdependence of the members of a society 3\. Masculinity - It is the want to be the best versus liking what you do (feminine)4. Uncertain Avoidance - are members of the society feeling threatened by unknown situations?5. Long-term Orientation - The society has links with the past and deals with the challenges of the present and the future6. Indulgence - do members of a society control their impulses and desires? **Lesson 13Life Cycle** - series of stages through which the living thing passes from the beginning of its life until its death. **Product life cycle** - refers to the length of time upon which the product is introduced in the market until it is removed from the shelves Every product has a lifespan, whether it is one year or several decades.The product life cycle theory is a marketing strategy developed by Raymond Vernon in 1966 to help companies plan out the progress of their own products. In the 1960, this was a useful theory to explain the manufacturing success of the United States. US manufacturing was the globally dominant producer in many industries after World War II. It has also been used to describe how the personal computer went through its product cycle. The PC was a new product in the 1970s and developed into a mature product during the 1980s and 1990s. Today, the PC is in the standardized product stage, and the majority of manufacturing and production process is done in low-cost countries in Asia and Mexico Vernon explained that from the invention of a product to its demise due to lack of demand, a product goes through four stages: 1\. introduction 2\. growth 3\. maturity 4\. decline The length of each stage can vary from product to product, with some taking several months and others several years. Product life-cycle management is the process of managing a product's life cycle from inception, through design and manufacturing, to sales, service and eventually to retirement When a product moves on this curve strategies related to competition, distribution, pricing, promotion and market intelligence are periodically assessed and modified as needed. Introduction StageThe need is to create awareness, not profit. The underlying goal at this stage is to gain widespread product awareness and brand recognition as consumers try the product. Marketing efforts are focused on the customer base of innovators those most likely to buy a new product. This is also the time to test distribution channels and determine the best way to sell the product and reach the target market.At this stage, there are no benefits from economies of scale, as production capacity is not maximized. There are two price-setting strategies at this stage:1. Price skimming -- charging an initially high price and gradually reducing (skimming) the price as the market grows. 2\. Price penetration -- charging a low price to "penetrate" the market and capture market share, before increasing prices in elation to market growth. Growth StageIf the product continues to thrive and meet market demands, the product will enter the growth stage. Sales take off, the market knows of the product, other companies are attracted, profits begin to come in, and market shares stabilize. Demand for the product begins to increase, sales usually grow exponentially from the takeoff point, the introductory stage. Consequently, profit also grows. An investment in marketing and promotion is essential during this stage to attract as many customers as possible. At this stage, products are increasingly being purchased by lower income groups, and profitability reaches the highest level. Economies of scale are now in order as sales revenue increases faster than costs and production reaches capacity. There is now fierce competition as competitors introduce similar products. Businesses may start to find similar products released into the market as competitors try to siphon off some of their sales. Maturity Stage When a product is widely known and customer demand has increased, the product enters the maturity stage. Sales increase continues in a decreasing pattern, but the sales curve tends to decrease after the top selling point is reached. 2\. At this stage, the product is purchased by all income groups, but the majority are in the low-income group. The maturity phase is characterized by intense competition due to the presence of many competitor brands in the market.Product differentiation and generating brand awareness become a must. Maintaining customers brand loyalty is the key. SaturationSaturation is a challenge in the maturity stage. Market saturation happens when a specific market no long demands a product or service. Decline Stage1. A product enters this stage when no amount of marketing or promotion can prevent the sales figures from dropping. Sales drop as consumers may have changed and the product is no longer relevant or useful. Price wars continue, several products are withdrawn, and cost control becomes the wayout for most products in this stage. Other innovative or substitute products that satisfy customer needs have entered the market. Sales likely continue until the cost to produce the product rises higher that the produced Strategies in the Decline stage 1\. Milking or harvesting -- means reducing marketing efforts and attempt to maximize the life of the product for as long as possible2. Slowly reducing distribution channels and pulling the product underperforming geographic areas; allowing the company to pull the product out and attempt to introduce a replacement product3. Selling the product to a niche operator or subcontractor to allow the company to dispose of a low-profit product, while retaining loyal customers. This is the point where companies usually decide to produce another product to replace the product at the decline stage to be able to regain market share and enjoy profitability. Global Strategic Rivalry Theory- Was forwarded in 1980 by economist Paul Krugman and Kelvin Lancaster. The theory focused on multinational corporations (MNCs) an how they get a competitive advantage over other firms in their industry. Firms encounter global competition in their industries and in order to prosper, they must develop competitive advantage The theory focuses, however, on planned decisions that firms implement as they participate globally. These decisions influence both international trade and international investment. There are barriers to entry for a particular industry and these barriers to entry are the exact ways for the company to have a competitive advantage. Barriers to entry refer to the obstacles a new firm may face in trying to enter into an industry or a new market. Barriers to entry1. Research and development2. Ownership of intellectual property right3. Economies of scale4. Unique business processes or methods 5\. Extensive experience in the industry or exploiting the experience curve; and 6\. Control of resources or favorable access to raw materials Research and Development (R&D) \- Activities engaged in by companies for the invention of new products or service to remain competitive. Owning Intellectual Property Intellectual property refers to the creations of the mind, a work or invention that is a result of creativity, such as manuscript (book) or a design, to which one has rights and for which one may apply for patent, copyright, trademark, brand name and the like. A patent is an exclusive right granted for a new, inventive, and useful product. May be used for licensing Copyright is the exclusive legal right to reproduce, publish, sell or, distribute the matter and form of something (such as literary, musical or artistic work) A trademark / brandname is a word, a group of words, sign, symbol or a logo that distinguishes your business' goods or services from those of other trader. Brand names and trademarks are used for franchising. Economies of ScaleMeans proportionate saving in costs (cost advantage) gained by an increase volume of production. The cost advantage is a result of spreading the total fixed overhead cost among a greater number of units produced which reduces the unit fixed cost for the product. 1\. Internal economies of scale -- economies that are unique to a firm. For instance, a firm may hold a patent over a mass production machine, which allows it to lower the average cost of production more than other firms in the industry. 2\. External economies of scale -- refers to economies of scale enjoyed by the entire industry. Ex. If studies indicate that cotton production will need 1,000 workers to be able to enter a trade with a foreign country, all those engaged in cotton production will try their best to employ 1,000 workers to become competitively advantaged. Exploiting the experience curve Experience produces competitive advantage over those without experience in any endeavor. Therefore, experience will also count in international trade, as those with experience become more conversant with what is going on in the global trade arena. 2\. Connecting the different barriers, we can say that experienced innovative firms which own intellectual property rights to innovative technology pursued through aggressive research and development will lead to economies of scale leading to success in international competition abroad.