DRIVE WINTER 2014

SUBJECT CODE & NAME: MB0053 International Business Management

BK ID B1724 CREDIT & MARKS 4 CREDITS, 60 MARKS

Q1. The world economy is globalizing at an accelerating pace. Discuss this statement and
list the benefits of globalization.
(Discuss the statement-6, Listing the benefits-4) 10 marks
Answer:
The world economy is globalizing at an accelerating pace:
The world economy is globalising at an accelerating pace. Countries that were previously closed to foreign
companies have now opened up their markets. Internet has made the world a smaller place. All these factors
have contributed to the growth of international business. International business operates under different
economic, political, and legal environments. There are various theories that are considered when companies
deal with business internationally. When a company deals internationally, it interacts with people from
various cultures across the world. Hence, culture is an important aspect in international business and a
company must handle the cultural diversity in international business. International business has improved
the quality of life of people around the world and has made life simple and easier.
Benefits of globalisation:
The merits and demerits of globalization are highly debatable. While globalization creates employment
opportunities in the host countries, it also exploits labor at a very low cost compared to the home country.
Let us consider the benefits and ill-effects of globalization. Some of the benefits of globalization are as
follows:

Promotes foreign trade and liberalization of economies.

Increases the living standards of people in several developing countries through capital investments

in developing countries by developed countries.

Benefits customers as companies outsource to low wage countries. Outsourcing helps the companies

to be competitive by keeping the cost low, with increased productivity.

Promotes better education and jobs.
Leads to free flow of information and wide acceptance of foreign products, ideas, ethics, best
practices and culture.

Provides better quality of products, customer services, and standardized delivery models across

countries.
Gives better access to finance for corporate and sovereign borrowers.
Increases business travel, which in turn leads to a flourishing travel and hospitality industry across

the world.
Increases sales as the availability of cutting edge technologies and production techniques decrease
the cost of production.

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Q2. Compare the Adam Smith and David Ricardos theories of international trade with
examples.
(Adam Smiths theory-5, David Ricardos theory-5) 10 marks
Answer.
Adam Smiths theory/ Absolute advantage theory:
Adam Smith attacked the mercantilism and argued that countries differ in their ability to produce goods
and services efficiently due to variety of reasons. At that time, England, by virtue of their superior
manufacturing processes, were the worlds most efficient textile manufacturers of the world. This was due to
combination of several factors such as favorable climate, good soils, skilled manpower and accumulated
experience and expertise in textile production. On the other hand, the French had one of the most efficient
wine industries of the world. Thus, England had an absolute advantage in the manufacturing of textiles and
France had an absolute advantage in the production of wine. Adam Smith argued that a country has an
absolute advantage if it has one of the most efficient and cost effective product in comparison to any other
country producing it. Smith argued that countries should specialize in production and manufacturing of
goods and services in which they have an absolute advantage. Such cost effective and efficient products can
be traded with goods from other countries in which that country has an absolute advantage. According to

Smith, England should specialize in the production of textiles and France should specialize in the
production of wine. Countries should exchange such products of absolute advantage with each other, i.e.
England should sell textiles to France and France should sell wine to England.
The crux of Smiths absolute advantage theory is that a country should not produce goods at home in which
it does not have cost advantage; instead it should import from other countries.

David Ricardos theory/ Comparative advantage theory:

David Ricardo, in his notable book Principles of Political Economy published in 1817 came up with an
improvement on Adam Smiths absolute advantage theory. Ricardo argued what might happen if one
country has an absolute advantage in the production of all goods. Adam Smiths theory suggests that such a
country might not have benefitted from international trade as trade is positive sum game and countries
prosper only if they exchange the goods in which they have absolute advantage. Ricardo argued that it was
not the case and showed that countries should trade goods with each other where they have comparative
cost advantage. For a sustainable economic system, Ricardo argued that a country should specialise in the
production of those goods that it can produce most efficiently and import the goods which it produces less
efficiently even if it has absolute cost advantage in the production of those goods.

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Q3. Regional integration is helping the countries in growing their trade. Discuss this
statement. Describe in brief the various types of regional integrations.
(Regional integration-3, types-7) 10 marks
Answer.
Regional integration

Regional integration can be defined as the unification of countries into a larger whole. It also reflects a
countrys willingness to share or unify into a larger whole. The level of integration of a country with other
countries is determined by what it shares and how it shares. Regional integration requires some
compromise on the part of participating countries. It should aim to improve the general quality of life for
the citizens of those countries. Regional integration can be achieved with different approaches. To some
extent, each country and region will find its own way. But typically there are some common ideas/reasons
for achieving regional integration.
Types of Integration
A whole range of regional integrations exist today. Different types of regional integration are:
1. Preferential trading agreement
Preferential trading agreement is a trade pact between countries. It is the weakest type of economic
integration and aims to reduce taxes on few products to the countries who sign the pact. The tariffs are not
abolished completely but are lower than the tariffs charged to countries not party to the agreement.
2. Free trade area
Free Trade Area (FTA) is a type of trade bloc and can be considered as the second stage of economic
integration. It comprises of all countries that are willing to or agree to reduce preferences, tariffs and quotas
on services and goods traded between them. Countries choose this kind of economic integration if their
economical structures are similar. If countries compete among themselves, they are likely to choose customs
union.
3. Custom union
Custom Union is an agreement among two or more countries having already entered into a free trade
agreement to further align their external tariff to help remove trade barriers. Custom union agreement
among negotiating countries may encompass to reduce or eliminate customs duty on mutual trade. Under
customs union agreement, countries generally impose a common external -tariff (CTF) on imports from
non-member countries.
4. Common market
Common market is a group formed by countries within a geographical area to promote duty free trade and
free movement of labor and capital among its members. European community is an example of common
market. Common markets levy common external tariff on imports from non-member countries.
5. Economic union

Economic union is a type of trade bloc and is instituted through a trade pact. It comprises of a common
market with a customs union. The countries that are part of an economic union have common policies on
the freedom of movement of four factors of production, common product regulations and a common
external trade policy.
6. Political union
A political union is a type of country, which consists of smaller countries/nations. Here, the individual
nations share a common government and the union is acknowledged internationally as a single political
entity. A political union can also be termed as a legislative union or state union.

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Q4. Write short note on:

a) GATS (General Agreement on trade in services)
b) ILO (International Labour organization)
(Meaning and role of GATS-5, Meaning and role ILO-5) 10 marks
Answer.
a) General Agreement on Trade in Services (GATS)
It encourages countries to modify their domestic regulations. This modification results in elimination of
restrictions applied to service products entering the country and is applicable to international service
suppliers who are carrying out business in various modes. According to the GATS, MFN status and
transparency is applicable to all services. Other commitments such as national treatment and market access
are only applicable to services that are opened according to the specified negotiated commitments. GATS
covers services known as consumption abroad where services such as e-commerce are used by the

consumers in a host country and citizens of a country travel overseas to consume products such as tourism
or education. GATS is a framework agreement defining the rules under which trade in services must occur.
GATS aim at extending the rules covering trade in goods to trade in services. A detailed rule has been
included to take into account the differences between goods and services and the way in which trade in
services is conducted. Trade in services covers a wide range of activities in the area of telecommunication,
information, banking, insurance and education. WTO has recognized over 150 service sub-sectors.
b) International Labor Organisation (ILO)
International Labor Organisation (ILO) is a specialised agency of the United Nations which deals with
labour issues. The headquarters is situated in Geneva, Switzerland. The secretariat comprises of the people
employed by the organisation throughout the world. The secretariat is known as the International Labour
Office. The ILO manages work through three main bodies. They are:
International Labour Conference The members of the ILO meet at the International Labour
Conference every year in June, in Geneva. Two government delegates along with an employer delegate and a
worker delegate represents their respective member state. The technical advisors also accompany the
delegates.
Governing Body The executive council of the ILO is known as the Governing Body. It meets thrice a
year in Geneva and takes decisions on the ILO policies. It forms programmes and budgets which are
submitted to the Conference for adoption. The Governing Body has 28 government members, 14 employer
members and 14 worker members. Ten government seats are permanently held by states of chief industrial
importance. Taking into consideration the geographical distribution, representatives of other member
countries are elected at the Conference once in every three years. The representatives are elected by the
employers and workers.
International Labour Office The permanent secretariat of the International Labour Organisation is
the International Labour Office. It is the central point for all activities that are administered by the
governing body. The Office is a center for administration, research and documentation. It employs more
than 1,700 officials from 110 nationalities. The Office also organizes certain programmes to extend technical
help to all member nations. Under this programme of technical cooperation, around 600 experts undertake
missions in all regions of the world.

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Q5. What is the difference between domestic and international accounting and how will
you measure this difference?
(Differences-35, measures-5) 10 marks
Answer.
Difference between domestic and international accounting:
The management of finance in domestic and international business is considerably different. The four major
aspects which distinguish international management from domestic financial management are the
introduction of foreign exchange, political risks, market imperfection and enhanced opportunity set. They
are explained as follows:
Foreign exchange risks The foreign exchange risks states the fluctuation or variation in the prices of
currency which will have a tendency to convert a profitable deal to a loss making one. This creates a
situation of additional risk to the finance manager.
Political risks The political risks may include any changes that will impact the economic environment of
the country. For example, Taxatio rules, Contract Act and so on. This pertains to the management of the
country which can alter the rules of the game in an unanticipated manner.
Market imperfection The integration of countries in the world economy, has resulted in differences in
transportation costs and different tax rates. Inadequate markets can force a finance manager to struggle for
best opportunities across the countrys border.
Enhanced opportunity set When business is undertaken in a country other than native country, it will
help expand their chances in business. In addition, it will enhance the opportunity for the business and
diversify The goal of international financial management is to increase the wealth of shareholders just like
in domestic financial management. The goals are not only limited to the shareholders, but also to the
suppliers, customers and employees. It is also understood that any goal cannot be achieved without
achieving the welfare of the shareholders. Increasing the price of the share would mean maximizing

shareholders wealth. The management of the organisation must decide the currency in which the value of
the shares is maximized.
The international trade is being promoted and shaped by international institutions called the Bretton
Woods Institutions: International Monetary Fund (IMF), World Bank and World Trade Organisation
(WTO) through its legal initiatives such as the General Agreement of Trade and Tariffs (GATT),
General Agreement on Trade in Services (GATS) and so on. Multi-National Corporations (MNC) have come
into existence due to liberalisation and international agreements. The MNCs enjoy greater freedom when
compared to the normal companies because of international setting and best opportunities. Without the
knowledge in International Financial Management, it can be hard for MNCs let alone any international
business entity, to continue in the market because international financial markets have a totally diverse
shape and analytics in contrast to the domestic financial markets. A sound knowledge in International
Financial Management can assist an organisation to accomplish similar competence and effectiveness in all
markets.

Q6. Discuss the various payment terms in international trade. Which is the safest method
and why?
(The modes of payment-8, Safest mode-2) 10 marks
Answer.
Various payment terms and payment methods in international trade
Since international trade deals with exchange of goods, there are various ways in which the payment terms
(finance) will be handled. Bothe seller and trader should be careful about the method of payment as
they are at different locations and transactions happen without face-to-face interaction. There are four
methods of payment for the international transactions. This includes the Cash-in-advance method, Letter of
Credit, Documentary collections and the Open Account. These are shown in figure.

Figure: Payment Risk Diagram

As shown in figure, there is uncertainty during the time when payment transactions happen between
importer and exporter. The figure compares and contrasts the most suitable methodology from the
perspective of importer and exporter. Apparently the most secure methodologies that work for the exporter
is not safe for the importer. These terms are explained as follows.
Cash-in-advance
Cash-in-advance helps in removing the risks of credit by the exporter. By this method, exporter receives the
payment before the transfer of goods. The options that are available with the cash-in-advance method
include wire transfers and credit cards. This is the least attractive method for many of the buyers as it
creates cash flow problems. The buyers are concerned about the quality/quantity and delivery of the goods
that are not sent if the payment is made in advance.
Letters of credit
The letter of credit is the most secure instrument available for international traders. This is the commitment
made by the bank that the payment will be made to the exporter if the terms and conditions are met. The
terms and conditions of the payment are explained in the required documents.
Documentary collections
Documentary collection is a transaction in which, the exporter's bank (remitter bank) sends the documents
to the importer's bank (collecting bank).

Open account
The open account transaction involves the shipping and delivery of goods in advance. The payment is due
usually from 30 to 90 days. This is advantageous for the importer in cash flow and cost terms, but at the
same time it is very risky for the exporters.
Safest mode of payment
Letter of credit
Letter of credit assumes significance since it can be used to mitigate risk. It is a document that is issued by
the bank that guarantees payment to a beneficiary. It is written by the financial institution in favor of the
importer of goods to the seller. In the letter, the bank promises that it will honor the drafts drawn on it if the
seller confirms to the specific conditions that are set forth in the letter of credit. The process of letter of
credit works as shown under:

Exhibit: Process of Execution for Payment under L/C Mode

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