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Are CEOs Really India’s Leading Export?

by Pankaj Ghemawat 18. March 2014 22:33
Satya Nadella’s appointment as Microsoft’s CEO was greeted with headlines such as “Why Microsoft and Everyone Else Loves Indian CEOs,” echoing Time’s 2011 lead heralding “India’s Leading Export: CEOs.”  But have Indians really risen to the top of many of the world’s largest corporations?  A systematic analysis of mid-2013 data on the world’s largest firms by revenue, the Fortune Global 500, shows that at that time only three non-Indian firms were led by Indian CEOs: Arcelor Mittal (Lakshmi Mittal), Deutsche Bank (Anshu Jain), and PepsiCo (Indra Nooyi).  That was exactly the same as the number of non-Brazilian firms run by Brazilian CEOs, and short of the 5 non-South African firms led by South African CEOs.
 
Does the paucity of Indians at the top of non-Indian Fortune Global 500 corporations mean that the late C. K. Prahalad’s assertion that “Growing up in India is an extraordinary preparation for management” was wrong?  Not necessarily.  Indians have indeed gone out and achieved great managerial success abroad.  The proportion of Silicon Valley tech startups led by Indians has risen from 7% in the 1980s and 1990s to at least 13% and by some estimates more than 25% (even though Indians make up less than 1% of the US population).  One estimate pegged the annual income of the Indian diaspora at about one-third of India’s GDP, with much of that coming from Silicon Valley.
 
The real myth is not the success of Indians abroad but rather that the world’s largest firms are so global that their national origins no longer influence who they select for CEO.  Only 13% of the Fortune Global 500 companies are led by CEOs who hail from outside the country where the firm’s headquarters is located.  Also, the foreign countries where Indian CEOs do lead Fortune Global 500 firms are illustrative of how openness to foreign CEOs varies widely from country to country.  European firms, on average, are the most likely to have foreign CEOs.  U.S. firms lie in between European and Japanese firms.
 
 

CEO Imports and Exports Chart

Firms’ propensity to hire foreign CEOs is also highly correlated with their home countries’ general openness to trade, capital, information and people flows as measured on the Depth Index of Globalization that I compile with my IESE Business School colleague Steven A. Altman.
 
India’s fame as a CEO exporter must be juxtaposed against the paucity of non-Indians running major Indian corporates.  After the untimely demise of Karl Slym, who briefly headed Tata Motors, none of India’s eight Fortune Global 500 firms is led by a non-Indian CEO.  In fact, only three of the 112 Fortune Global 500 companies based in any of the BRIC countries are led by a non-native CEO!  As firms from these countries seek to differentiate and build brands in advanced economies rather than competing mainly based on low home-country cost bases, the troubling signal this sends to foreign talent about their career prospects will become increasingly important.
 
Returning to Microsoft’s selection of an Indian CEO, it is interesting to note that one source estimates that more than one-third of Microsoft’s workforce is of Indian descent.  Microsoft also earns about half of its revenue outside of the United States.  The appointment of a non-native CEO of any origin is still an unusual occurrence, but Microsoft’s selection of an Indian was, all else equal, not entirely surprising.  And it sends a very positive message to high-potentials throughout Microsoft: this is a company where the best candidate, regardless of national origin, can rise to the top.
 

Tags:

General | Globalization

Become an Ex-Pat and Still Get Ahead: Research on Choosing the Right Company

by Pankaj Ghemawat 22. January 2014 03:47

For young managers aspiring to climb the ranks, working at a big corporation within their home country can seem stifling. In the case of a Japanese or Korean business, workers may fear a slow career progression, as seniority tends to take priority over performance and potential. When it comes to a French company, not being part of the closely-knit and self-protective elite of “très grandes écoles” graduates could feel like a disadvantage.

But these are miscellaneous observations. Is there anything systematic that can be said about the types of companies where, statistically speaking, the chances of advancing upwards as a foreign national are higher than sticking it out at home?

Our research on the top management teams (TMTs) of the 100 largest non-financial transnational companies suggests five factors that influence the chances of career advancement for nonnatives.  While these factors are interrelated, until we have a better understanding of the interactions between them, you should consider all five to identify the potential for an accelerated career trajectory.

When pre-selecting companies, you should consider five features to maximize any potential for an accelerated career trajectory.

First look at the composition of the company’s board of directors.  At the 100 largest non-financial transnational companies, we found a strong correlation between the number of board members who are from a different country than the company’s home country (we call this “non-nativity”) and the non-nativity of the company’s top management team (TMT).

The second feature you should consider is the nationality of the company’s CEO and/or Chairman. This has a major impact on TMT non-nativity.  When the CEO is non-native, 63 percent of TMT members are non-native on average, compared to 19 percent when the CEO is native.

The Composition of Top Management Teams Chart

The equivalent figures at the chairman level are 59 percent and 18 percent.

Board of Directors Composition Chart

This observation may demonstrate the inclination of non-native CEOs to promote non-natives into their TMT.  Of course, if the company tends to promote its CEO from within, there is a greater likelihood of having a non-native CEO if the TMT is more strongly non-native.

Third, look at the company’s transnationality, which is the share of the company’s assets, sales and employees situated outside its home country. Companies that are more transnational tend to have more non-native TMT members. Their TMTs also tend to be more cosmopolitan, with members coming from a larger number of different countries.

The fourth feature is the company’s sector. For example, the consumer/retail sector tends to have higher non-nativity than the construction sector.

Finally, note the company’s home country. Firms from the same sector with the same transnationality — and thus with similar needs in terms of management diversity — yet from different countries can have TMTs with very different non-nativity. The TMTs of European companies on average have the highest non-nativity and are the most cosmopolitan. Japanese companies tend to score lowest. North-American companies are in the middle.

Composition of Top Management Teams by Location Chart

But even within Europe, there are major differences. For example, the TMTs of French companies on average score much worse in terms of non-nativity than UK companies or companies in the smaller European countries.

Of course, having a thriving career will always depend on your personal capabilities (e.g. cultural adaptability) and behavior (e.g. mobility).  Luck — being at the right place at the right time — will also continue to play a role. What we have demonstrated, though, is that, when you’re at a fork in your career path, you can reduce the weight of factors beyond your control by picking companies based on these five observable features.

There is also an important message here for companies. If talented individuals start choosing employers based on our findings, you will have to put in place real policies and practices that offset the impression that you’re not attractive to foreign managers (even if that impression is false).

Tags:

General | Globalization

WTO’s baby steps at Bali a big deal

by Pankaj Ghemawat 13. January 2014 03:09

Run the clock back on the last four rounds of global trade negotiations – arguably the four most ambitious ones attempted. The Kennedy Round in 1967 was followed by the conclusion of the Tokyo Round 12 years later, and the conclusion of the Uruguay Round another 15 years on.  Now, after 19 more years, we have not quite the conclusion to the Doha Round, but the Bali Package: a shrunken version of the ambitious original agenda. So, should we cheer about the agreement reached last month? Yes! For four reasons.

There is still a road to Doha. The world agreed to keep working toward global trade liberalization instead of refocusing entirely on regional and bilateral accords.  The most consistent critique of the Bali Package so far – that it simply kicked the can down the road on all the difficult issues – misses the point that without it, there wouldn’t be any kind of road to Doha. And as one WTO negotiator pointed out, it would be well into the 2020s before we might expect to see the conclusion of another global trade deal.

The baby can walk! Doha was the first trade round orchestrated by the World Trade Organization. All prior ones were conducted under the General Agreement on Tariffs and Trade – a stopgap arrangement reflecting the collapse of postwar plans to set up an International Trade Organization alongside the IMF and the World Bank. Without some kind of agreement at Bali, the WTO’s own future would have been in peril. It now has some credibility to continue to push the broader Doha agenda.

The steps already taken are important. In particular, the part of the Bali Package focused on trade facilitation promises real economic benefits if it is implemented well, potentially even larger than the $1 trillion typically attached to it. Cross-border trade is still subject to a lot of transaction costs. A 10 to 15 percent reduction in trade costs would be very large compared to the margins on which many exporters operate.

So is their potential psychological impact. Despite the gloom they engendered, the latest IMF forecasts still see the world growing faster between 2012 and 2018 than in the 1980s, the 1990s or the first decade of this century (largely thanks to emerging economies).  The big threat seems, therefore, to be not poor fundamentals but policy fumbles – e.g., the new round of budgetary squalls in the United States, or continued dithering in the Eurozone. Amidst all this, the Bali Package is a confidence-builder, especially since global trade’s post-crisis recovery stalled in 2012.

Beyond the cheering, Bali also exemplifies a set of lessons – and a worry – for future efforts at global policy coordination, particularly in relation to trade.

As documented in our Depth Index of Globalization 2013 released in November, trade is the international interaction that has so far experienced the biggest shift from advanced to emerging economies. Emerging economies already trade as much, relative to their GDPs, as advanced economies, while advanced economies remain four to five times as globalized with respect to capital and people flows. The effects: all the absolute growth in international trade since 2008 has involved emerging economies at one or both ends of the transaction. Emerging economies will require real representation in trade deals in particular. A corollary: get used to what the WTO calls “Special and Differential Treatment” for developing countries.

As these partners continue to gain prominence, there are concerns about the ability to find global consensus – small squabbles can lead to discussions falling apart entirely. This begs the question: might a “G20-plus” approach be sufficiently inclusive and less unwieldy than deal-making among 159 countries, as UNCTAD Secretary General Supachai Panitchpakdi once suggested? That might help turn baby steps into sustained forward movement.

Tags:

General | Globalization

Are Multinationals Becoming Less Global?

by Pankaj Ghemawat 13. November 2013 23:06

by Pankaj Ghemawat and Niccolò Pisani

Conventional wisdom and substantial evidence based on hard data assign to multinational companies (MNCs) a crucial role in the globalization of economic activities. Despite the fact that the number and economic relevance of MNCs have steadily grown in the last 50 years (UNCTAD estimates show that at the end of the 1960s there were roughly 7,000 multinationals [PDF] operating worldwide, while almost 80,000 active MNCs were counted in 2006 [PDF]), closer analysis indicates that a relatively small number of very large multinationals is still responsible for most of today’s cross-border economic activity in the world. Understanding the extent and nature of their global presence is therefore vital in the assessment of today’s globalization.

The recent global recession has directly and deeply impacted the level and nature of cross-border activities. For instance, as reported by UNCTAD (PDF), global FDI fell by 18% to 1.35 trillion US$ in 2012 with respect to 2011 and still remains below 2005-2007 precrisis figures. As illustrated in a recent article, in the aftermath of the crisis, MNCs are adjusting their global strategies by narrowing their focus relative to international markets. Examples of market exits by large foreign multinationals populate the press, ranging from Suzuki, which announced its decision to exit the U.S. car market, to General Electric, which recently moved the manufacturing of washing machines, fridges, and heaters from China back to the U.S., to a plant in Kentucky. Thus, the current global scenario poses particularly acute questions that merit attention and compelling answers in relation to the current state of cross-border economic integration. How really globalized are the world’s largest MNCs today? Are they truly changing their global footprints? And, most interestingly, if this is the case, what is the direction of such change?

To answer these questions, we considered the world’s largest 500 companies as ranked in the 2012 Fortune Global 500 list and collected information on their over 175,000 equity affiliates, both national and international, scattered all over the world. (In particular, for each affiliate we recorded its location as well as the variation of the parent company’s equity stake in such affiliate in 2012 with respect to 2011.) Below, we report some of our most remarkable findings:

The Fortune Global 500 companies, despite showing a higher-than-average international inclination, continue to locate the bulk of their activities at home and maintain a pronounced regional focus in their operations. The world’s 500 largest MNCs have, on average, 58% of their equity affiliates located within their home countries and 42% placed internationally. Furthermore, most of the operations remain at a regional level, if we consider that the companies examined have, on average, roughly 71% of their equity affiliates situated within their home region and only 29% located globally (i.e. outside of the home region). Thus, distance does matter and regions play a crucial role in shaping cross-border economic activities.
 



The world’s 500 largest companies are changing their global footprints by narrowing their international presence and further reinforcing the focus on their home markets. Overall, the findings obtained indeed show a decrease of equity investments in international affiliates and an increase of investments in national affiliates in 2012 with respect to 2011. Stated otherwise, on a global scale, MNCs have reduced their international equity exposure and augmented their emphasis on national operations. Quite interestingly, relative to the regional (versus global) orientation of the companies examined, the results document a slight increase of investments in regional affiliates and, simultaneously, a stronger reduction of investments in global affiliates.

The Fortune Global 500 companies present significant differences in their levels and patterns of globalization, in particular when considering the distinct geographic locations where they operate. For instance, North American firms have decreased their investments in both their international and national affiliates, with a significantly stronger focus on the reduction in their international equity operations. Western European companies have also decreased their international investments but slightly increased their national ones, whereas Asian firms have reported an increase in both categories, with a considerably stronger emphasis on boosting their national equity investments.

 


The study aims to provide an inclusive assessment of the actual extent and direction of globalization grounded on hard data relative to the world’s 500 largest MNCs. Our findings reinforce the notion that it is an ill-fated misconception to picture globalization as an already advanced, inevitably rapid, and geographically homogenous path to perfect cross-border integration.

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Globalization

For Corporate Cosmopolitanism, Start at the Top

by Pankaj Ghemawat 30. September 2013 11:03

If your company’s management team isn’t as global as its target markets, you aren’t alone. Some 30% of U.S. companies admit that they have failed to fully exploit their international business opportunities because of insufficient internationally competent personnel. Could the problem start all the way at the top?

In my 2011 HBR article, The Cosmopolitan Corporation, I argued that a cosmopolitan leadership team just might be the critical organizational ingredient for firms to succeed in a world that is neither global nor local but rather a complex combination of the two (what I call World 3.0).

And now there’s new data to support that.

Only 14% of the world´s 500 largest corporations by revenue, the Fortune Global 500, are led by a CEO who hails from a country other than the one where the corporation is headquartered, as Herman Vantrappen and I reported this June in Fortune. The percentage of non-native CEOs is significantly lower for smaller, less international companies — and the share of foreign CEOs and board members rises only to ~30% among the world’s 100 corporations with the largest foreign assets (excluding financial sector firms). Among corporations in the U.S. S&P 500, a 2008 report from Egon Zehnder indicated that only 7% of board members were foreign nationals, 9% had degrees from non-U.S. institutions, and 73% had no international work experience at all!

Dig a few layers deeper into firms’ management teams and the situation doesn’t look much better. According to a recent survey, 76% of senior executives reported that their organizations needed to develop global leadership capabilities, but a mere 7% felt they were doing so effectively. A 2005 survey by the Boston Consulting Group found that only 7.5% of the top 200 managers in the firms sampled came from a set of 16 emerging markets where the firms intended to generate 35% of their growth over the next 5 years.

For Western MNCs, unglobalization at the top hurts most in the struggle to tap growth in emerging markets, where foreign MNCs are falling behind as local competitors grow their sales and profits almost twice as fast. Asking high-potentials in emerging markets to trust against visible evidence that their career progress will be unconstrained by home-country or home-region bias is becoming an increasingly tough sell. In 2010, Chinese professionals expressed only half as strong a preference for working in a foreign multinational over a local firm than in 2007.

Firms based in emerging markets are starting from even farther behind at cultivating cosmopolitanism. Only 1 of the 96 Fortune Global 500 companies from the BRIC countries has a foreign CEO. As they seek to differentiate and build brands in advanced economies rather than competing mainly based on low home-country cost bases, this will become an increasingly important problem. (The U.S. sits right at the global average with 14% non-native CEOs. Leading the list are small countries mainly in Europe, with Switzerland on top with 73%.)

Cosmopolitanism, of course, isn’t only about top management diversity. Firms have implemented a variety of other techniques to try to become more cosmopolitan:

The Cosmopolitan Corporation, like cosmopolitanism in individuals, is something that requires continuous cultivation and nurturing. And like the personal journey of opening up to those who are different from ourselves, it’s a deeply individual path, but one that can be eased and inspired by stories from others. The first step is to share them.

Tags: ,

Globalization | Globalization

World Less Globalized Today than in 2007: DHL Global Connectedness Index 2012

by Pankaj Ghemawat 30. January 2013 20:49

We recently released the DHL Global Connectedness Index 2012, which tracks the depth and breadth of trade, capital, information, and people flows across 140 countries that account for 99% of the world's GDP and 95% of its population. Based on data covering the period from 2005 to 2011, it charts how globalization has evolved since the onset of the financial crisis at the global, regional, and national levels. The full report is available as a free download and, to whet your appetite, here are some of its most striking findings:

Global connectedness declined sharply at the onset of the financial crisis from 2007-2009, and despite modest gains has yet to recapture its 2007 peak. Capital markets are fragmenting and while merchandise trade recovered strongly since 2009, the intensity of services trade has remained stagnant. We compare trends across 10 distinct types of flows within its 4 pillars: trade (merchandise and services), capital (FDI and portfolio equity), information (internet bandwidth, telephone calls, trade in printed publications), and people (tourism, international education, migration).

The world's most globally connected country (the Netherlands) is hundreds of times more connected than the least connected country (Burundi). Our report provides full country rankings and explains how the depth and breadth of countries' connectedness varies with factors such as countries' levels of economic development, population sizes, and geographic locations. It also summarizes patterns of connectedness at the regional level. Europe is the world´s most globally connected region and sub-Saharan Africa the least, but it is encouraging to note that sub-Saharan African countries averaged the largest increases in global connectedness from 2010 to 2011.

Countries' levels of global connectedness are impacted both by their domestic and their foreign policies. Improving a country's domestic business environment can go a long way toward strengthening its international connections. We found a set of structural and policy factors that explain nearly 80% of the variation among countries' global connectedness depth scores.

Industries vary widely in their levels and patterns of globalization, contrary to the still popular notion that every kind of business is rapidly integrating across national borders. We compare the depth and breadth of 20 industries' global connectedness before delving into three case studies: pharmaceuticals, passenger cars and mobile phones. We also plot the evolution of production and consumption in developed versus developing countries for the three focal industries, showing how the world's shifting economic center of gravity is reshaping industry level connectedness.

Why does all of this matter? Because deepening global connectedness has the potential to contribute to trillions of dollars in economic gains as well as various non-economic benefits. Despite the evidence, Global Trade Alert reports that three times more discriminatory, than liberalizing or transparency-enhancing, trade policy measures have been implemented since November 2008. We cannot simply take for granted that future generations will enjoy the benefits of a more connected planet.

Perhaps the greatest value of report such as the DHL Global Connectedness Index lies in its detailed country-by-country profiles providing hard data and analysis on virtually every country's level of globalization. Why? Because those profiles reveal the limited extent of globalization where it matters to people — at home — which can go a long way toward putting fears about globalization into perspective.

The United States, for example, has a serious problem with its trade deficit which needs to be solved. However, when one recognizes that the U.S. ranks only 134th out of 140 countries on the depth of its merchandise imports in relation to its GDP (15%), one gets a useful reminder that our economic problems are primarily home grown and require domestic solutions.

To cite one more example — focusing on people flows instead of trade — respondents to a recent public survey in France estimated that immigrants make up 24 percent of the country's population. The correct figure is only 10 percent. Would anti-immigrant rhetoric have been so prominent in the 2012 French elections if the public had a more accurate read on the present extent of globalization?

The DHL Global Connectedness Index aims to provide the most comprehensive and timely source of hard data and analysis depicting the actual extent and direction of globalization around the world. Please take a look and let us know what you think.

Tags:

Globalization

Globalization Plays a Bit Part in Environmental Issues

by Pankaj Ghemawat 3. June 2012 23:16

It is inevitable that prices don't always account for all the costs and benefits for all the people touched by a transaction. Externalities can come in good forms and bad. But the most frequently discussed externalities are those associated with harms to the environment.

Of course, globalization has an impact on the environment, but it is a mixed one and generally far less scary than many people think. Most ecological problems are still local as opposed to global, and while cross-border integration can make the environment dirtier in some places, it can also help with cleaning it up.

As pressure mounts to reduce carbon emissions, the logistics involved with cross-border trade are often cited as an unnecessary cause. With dark-green-tinted spectacles, many call for a return to only locally grown or manufactured products. But let's face it: Consumer demand and expectations have changed a lot since the days of zero cross-border trade. Since a collective global vow of poverty seems unlikely to be taken soon, keeping up with modern demands without cross-border trade would actually do more harm to the environment than good. For example, in 2007, the U.K.-based supermarket chain Tesco decided to ban rose imports from Kenya in a bid to save on emissions. But research revealed that the Dutch roses it relied on instead generated six times as much in the way of greenhouse gases, largely because they were literally grown in greenhouses.

And how much of energy-related greenhouse gas emissions do you think international transport really produces? Since the bulk of internationally-traded merchandise travels by sea, shipping should be the first port of call. Estimates indicate (PDF) that international shipping causes 2-3% of energy-related CO2 emissions (PDF). This may come as a surprise when you think about the long distances ships travel to transport cargo. But on a per-ton-kilometer basis, a cargo ship emits just 15-21g of CO2, as compared to a truck's equivalent 50g (PDF). So carrying something a long distance across the ocean can actually work out to be less harmful than transporting goods a shorter distance over land.

Of course, goods (and people) often travel by plane, too, so we should add the estimated 1-2% of energy-related CO2 emissions caused by international air transportation to the mix (part of its estimated 3% contribution to human-induced climate change (PDF)). This is a fraction of the 20%+ the general public tends to guess, and transport-related emissions from international aviation are one-tenth as much as those from (mostly domestic) driving. Transport used to facilitate international trade does cause some harm to the environment, but it pales in comparison with the domestically-caused damage.

So far I have focused on the direct effects on the environment caused by increased cross-border flows, but what about possible indirect effects? Again, while these effects do exist, they are a mixture of positive and negative, and need to be balanced for a realistic perspective. An example of an indirect composition effect that economists tend to worry about is dirtier industries migrating to (generally) less developed countries with laxer regulations. A recent study (PDF) found that in low-income countries, more trade is associated with higher per capita energy consumption, while the opposite applies to high-income countries. This fits with the idea that imports into rich countries are more pollution-heavy than their exports. But such broad analysis fails to take details into account.

With different countries implementing different rules of varying severity, some differences in energy consumption are to be expected. But there is also evidence that Foreign Direct Investment (FDI) can actually help to spur adoption of cleaner production methods. To maintain consistency across plants (and avoid negative publicity), foreign companies often bring in new technologies and implement higher environmental standards than local firms. More specifically, Germany's high green standards have actually spilled over in some instances to China, where some exporting companies have started to match German requirements even in their domestic products.

The direct and indirect effects of globalization on the environment are less pronounced than many think, but that does not mean that globalization can be ignored in the search for solutions to real environmental problems. The attention to distance sensitivity that is crucial to properly understanding levels and patterns of globalization provides a useful guide as to how to scope environmental solutions. For distance-sensitive pollutants that stay more or less within borders, local solutions are appropriate. But for pollutants that span regions, cross-border cooperation can be crucial for any attempts at a cleanup. For example, cooperation between the U.S. and Canada (most notably the 1991 U.S.-Canada Air Quality Agreement) has helped to reduce North American sulfur dioxide emissions by roughly two-thirds since 1980, going a long way toward addressing the problem of acid rain in that region.

Climate change is by far the most difficult environmental externality of all to combat because of its (unusual) distance-insensitivity. Therefore, in order to tackle it we need more, rather than less, international cooperation. Of course, with the variety of cross-country distances and differences between all the nations that make up the world, such cooperation will need to be both complex and innovative. The failure of the 2009 Copenhagen Conference of the Parties to reach a binding accord on targets for reduction of greenhouse gases shows how it is not as simple as putting a bunch of leaders in a room and getting them to come up with a plan.

Unlike many supposed failures and fears associated with increased global integration, in the case of the environment, globalization has had a part to play. However, it has been a bit part, as opposed to a starring role. And it should be weighed up with gains from cross-border integration, for a more balanced view. Of course, this is not to say that global strategy should ignore environmental externalities. Quite the opposite, integration should be used as a tool for addressing externalities that affect more than one country and for sharing knowledge on greener techniques where effects are localized. And given limited capacity for truly global action, it is useful to recognize that only the most distance-insensitive environmental externalities, such as climate change, require completely global coordination.

Tags:

Environment | Externalities | Globalization | Market Failures and Fears

Who's Afraid of a Few Big Companies Taking Over the World?

by Pankaj Ghemawat 3. May 2012 20:55

In my previous post, I argued that the potential gains from globalization are larger than most people think. Since I only addressed possible benefits, it is perhaps unsurprising that readers were quick to point out many potential downsides. The global recession has recently and directly impacted the lives of many, most obviously in the form of rising unemployment — and the finger of blame is often pointed at globalization. Other alleged harms range from environmental degradation and increasing inequality to the rising prevalence of obesity. These are serious issues that deserve serious examination and so I will be looking at them in future blog posts — and will conclude that many such worries are misplaced or greatly exaggerated, but that some do require appropriate policy responses.

In this post I'll focus on one type of market failure: market concentration. There is often a lot of negative discussion buzzing around globalization and market concentration. As people see their local shops replaced with multinational chains and industrial megamergers make headlines, there is a perception that a small number of powerful competitors are taking over the world. This is one of the most widespread beliefs about globalization — in a survey of business executives I conducted a few years back, 58% agreed that "globalization tends to make industries become more concentrated." And among the general public, another survey reveals concentration to be the leading worry about the market economy in the U.S., Britain and Germany: people worry that large corporations will squeeze out small firms.

Why is this so scary? The concern is that if market power is in the hands of a few multinational companies (MNCs), there would be less competition, allowing the remaining global colossi to raise prices or reduce the quality or variety of products and services on offer, harming consumers. But fortunately, the data indicate no such global trend toward increasing industry concentration.

I have been keeping track of industry concentration data now for more than a decade and have analyzed more than 30 industries. As I describe in World 3.0, the data suggest that, in general, globalization isn't leading to higher levels of global concentration across a range of industries. Take the auto industry, for example. Back in the 1920s, Ford accounted for 50% of global auto production. Fast forward to 2010, and a total of six companies accounted for the same percentage. So why were senior executives at auto companies surprised to learn that global concentration has been decreasing in autos since the heyday of Ford's Model T? It is presumably not unconnected to the fact that they have been bombarded for decades now with bombast about how only a handful of full-line automakers will survive globalization.

Autos are not an isolated example. Between the 1980s and 2000s, I compared concentration in 11 industries. Six of these industries showed increases (carbonated soft drinks, cement, steel, oil production, aluminum smelting and paper/board) while five had decreases (automobiles, cargo airlines, copper, iron ore and passenger airlines). On average across these industries 5-firm concentration ratios, or the market share held by the top five biggest companies, did rise from 35% to 38% between the 1980s to the late 1990s. But the five-firm concentration ratios then declined back to 35% by the late 2000s. This is hardly evidence of an across-the-board trend toward rising concentration.

I later repeated the same type of analysis for 37 categories of consumer products. I found that average 5-firm concentration ratios rose from 32% in the early 2000s to 35% at the end of the decade. This rise of 3% was exactly the same as that in the earlier 11 industry sample, in which case the increase in concentration was later reversed.

And not only is globalization not systematically reducing competitive intensity by increasing concentration, it can actually help correct the problems involved when a small number of competitors take control of a market. When competition is lacking in domestic markets, consumers suffer from high prices, poor quality products, or a lack of variety. This is where foreign competition can lend a helping hand. Whether through trade or foreign direct investment, competition from abroad can provide consumers with immediate relief, as well as spur producers to up their game. Returning to my auto example, the entrance of foreign automakers into the U.S. market forced the U.S. big three to improve their quality, design, and efficiency, to the extent that GM is now the market leader in China.

That last point raised the important distinction between global concentration and national or local concentration. In all but the least distance-sensitive industries, it matters more what products are available in your own local or national market and how much they cost there, than what's on offer globally. Even if there were fewer major automakers globally (which there aren't), it's probably still more relevant to know how many automakers are present in a particular country or region, since it's rather difficult and quite costly to go buy a car on a different continent.

What are the policy implications? One approach to problems of excess market concentration is to break companies up before they get to the stage where they can dominate local or national markets. But what makes opening up to foreign producers so much more appealing than breaking companies up is that it combats market power with competition rather than regulation. This can be less disruptive and it leaves a country with its strongest potential international competitors intact. Thus, with respect to concentration, openness can serve as a substitute for regulation.

So, while there are some other factors to think about regarding globalization and market concentration that I describe in World 3.0, my conclusion is that we don't need to get too worried about globalization increasing market concentration. Instead, we should see if opening up can help us address problems of excess national market concentration. What do you think? Share your comments below, and please watch this space for future posts about globalization and other types of market failure: externalities (focusing on the environment), and the risks associated with informational imperfections. I'll also look at market fears that globalization is supposed, by its detractors, to exacerbate.

Tags:

Globalization | Market Failures and Fears

Quantifying the Gains from Increased Global Integration

by Pankaj Ghemawat 5. March 2012 23:42

In a previous post, I presented evidence that the world is far less globalized than most people believe, which implies there is also much more headroom to expand globalization than many think. Whether we should favor a more globalized world or not, of course, is an entirely different question, requiring an honest weighing of the pros and cons. And with the Eurozone still at risk, tough talk on U.S.-China trade, and periodic threats of “trade wars” (the latest stemming from the EU’s carbon taxes), such an assessment could hardly be more timely.

In this post, I take up the pro side of the argument, laying out a rough quantification of the potential benefits of increasing integration. Ironically, because most pro-globalizers buy into the globaloney of a world that is already or soon will be perfectly integrated, they seldom bother to articulate their case in a systematic way. So, much of this will be news even to those who favor more globalization.

Start with the gains from expanding merchandise trade. The traditional economic models developed for assessing trade agreements provide estimates of how much global output would expand if tariffs and some kinds of non-tariff barriers to trade are reduced or removed. The gains such models estimate — about 0.1% of world GDP for the stalled Doha round of trade negotiations and roughly 0.5% for complete liberalization of merchandise trade — aren’t very inspiring, but they actually leave out far more than they include.

Traditional models exclude many powerful policy tools for expanding trade. One such tool alone, trade facilitation, could grow global GDP by 1%. And in calculating the benefits of additional trade, these kinds of models focus almost exclusively on growth generated by reductions in production costs as each country’s output becomes more specialized, a limited fraction of the potential gains.

To broaden the range of benefits covered, I use a modified version of the ADDING Value Scorecard, which I originally developed to help businesses evaluate international strategies. ADDING is an acronym for the following sources of value: Adding Volume, Decreasing Costs, Differentiating, Intensifying Competition, Normalizing Risk, and Generating and Diffusing Knowledge.
Because traditional models assume full employment (especially problematic in times like these) and leave out scale economies, they capture only part of the gains in the first two categories, Adding Volume and Decreasing Costs. And they leave out the last four categories entirely, whose benefits can be seen clearly, for example, in the U.S. automobile industry. Japanese entrants decades ago offered consumers differentiated (more reliable) products. Increased competition prompted U.S. automakers to improve their own quality. Now, GM sells more cars in China than in the U.S., diversifying its risks and helping it recover from the crisis. And cars are becoming “greener” faster because of international knowledge flows.

Taking this broader set of factors into account, I put the gains from expanding merchandise trade at 2-3% of world GDP or more.

Next, consider services trade. The service sector is roughly two-thirds of world GDP but only one-fifth of international trade. Barriers to services trade are more complex and some services (like haircuts) will always be delivered locally, but potential gains from opening up services trade are at least 1.5% of global GDP, putting total gains from trade liberalization at 4% of global GDP or more.

Then, look at potential gains from flows other than trade, such as people, capital, and information. Completely eliminating restrictions on migration could double global GDP, but that’s obviously not in the cards. More realistic limited increases in non-trade flows could expand GDP at least 4%, bringing the economic gains to 8% or more. And complementarities among the different types of flows push this estimate up even farther.

Finally, and more subjectively, consider non-economic benefits. Culturally, globalization expands the range of choices available to individuals wherever they live even as it blurs somewhat the distinctions at national borders. Politically, cross-border flows (especially information flows) tend to strengthen democracy. And trade ties also seem to improve national security. The parts of the world that are isolated economically experience far more military intervention by outsiders.

GlobalGDPGrowthchart.jpg

To summarize (see chart), the benefits of expanding merchandise trade are much larger than traditional models indicate, and to those one needs to add gains from services trade to have a complete picture of the benefits of increased trade flows. Then, on top of trade, other kinds of cross-border flows double the estimated economic benefits to at least 8% of global GDP. And beyond that there are complementarities and non-economic benefits that I find compelling but are harder to quantify in GDP terms.

I’m sure many readers by now are champing at the bit to raise offsetting concerns about globalization’s negative effects. I promise to address those in another post. But for now, what do you think of the potential upside from expanding globalization? Which benefits of globalization do you find most compelling?

Tags:

ADDING Value | Globalization | Merchandise Trade | Services Trade

Financial Fears, Flows, and Globalization

by Pankaj Ghemawat 1. September 2011 15:19

As readers of this blog already know, markets are far less integrated internationally than popular views of globalization presume. So many of you are probably wondering why a game of chicken initiated in the U.S. Congress could wreak havoc as far away as Asia, or how problems in the Eurozone might cloud U.S. prospects. And of course, you want to know what is to be done.

Our current problems stem, in part, from the special characteristics of finance, which as Keynes noted, is highly dependent on sentiment and, as Hyman Minsky emphasized, therefore particularly susceptible to crises. Their conclusions are corroborated not just by empirical experience but by experimental research on asset markets by Nobel Laureate Vernon Smith, among others.

Such problems are amplified in a cross-border context by decay of trust across borders and with distance described in my previous post, and exemplified by the data on Western Europeans trusting their own fellow citizens more than twice as much as citizens of other Western European countries and nearly four times as much as citizens of countries outside Western Europe. Also recall that sympathy and, one would presume, solidarity in matters such as bailouts are much more distance-sensitive. Furthermore, fear leaps borders faster than confidence. All this suggests a particular fragility of confidence in and commitment to foreign financial assets when the times get tough.

Smarter Financial Integration

The importance of dispelling the globaloney that capital respects no boundaries is the obvious first implication of the contrast between real flows and irrational fears. If investors recognize the limited real connections between economies, they should be less prone to panic at distant signs of distress.

It is also clear, or at least clearer than just a few years ago, that policymakers should favor FDI and, more generally, equity investment over other types of capital flows, because FDI is less prone to be withdrawn when an economy is in trouble, and investment in building or upgrading real productive capacity is particularly suited to spurring much-needed growth. Conversely, short-term international borrowing, especially in foreign currencies, should be treated with caution.

More controversially, international capital imbalances such as persistent current account surpluses and deficits need to be curbed as well. Before the crisis, many authors advanced frameworks in which international capital imbalances were supposed to be a "win-win" phenomenon. And indeed, it is hard to see how capital imbalances could be a problem in a world with perfect international integration of capital markets. One would simply expect ebbs and flows, whether balanced or not, to lead to the outcome mistakenly asserted 150 years ago by David Livingstone: "capital, like water, tends to a common level." Incomplete international integration of capital markets — the reality of what I call World 3.0 — is what opens up the possibility of problematic international capital imbalances.

This problem is worth stressing because imbalances may be moving back into a danger zone. For capital flows, the historical data suggest that policymakers should start paying attention when the absolute values of capital accounts add up to 3% of GDP and start getting worried when they exceed 4%. For the twelve countries with historical data reaching back to 1870, this quantity decreased from a very worryingly high 5% of GDP in 2008 to 3% in 2009, but then edged back into the danger zone by rising to 3.5% in 2010. And for a broader sample of more than 180 countries, it dropped from 5.5% in 2008 to 3.9% in 2009, before rising to 4.2% in 2010 with further increases forecast.

The need to manage international capital imbalances doesn't imply, however, that all one can or should do is blame foreigners for our present predicament. Rather, domestic problems are often at the root of international imbalances. As Lorenzo Bini Smaghi put it back when the global financial crisis first erupted three years ago, "[E]xternal imbalances are often a reflection...of internal imbalances." This does not seem to be a bad characterization of the current problems in the United States and in the Eurozone.

To summarize, the good news associated with taking World 3.0's limited levels of integration seriously is twofold. First, fear is more contagious than actual links justify. And second, contrary to common assertions, many of the problems that we face can be dealt with nationally or regionally instead of requiring global solutions. (Nothing wrong with the latter — it's just that they are very hard to achieve). The bad news is related to the recent record of politicians in the U.S. and in the Eurozone in dealing with their respective "debtacle," which does not inspire much confidence that they will manage to handle problems that still are, in principle, manageable.

Tags:

Finance | Globalization

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