Introduction

As the world economy has become more globally integrated, virtually every firm and individual is affected by developments in the economies of countries other than their own. The debate over the North American Free Trade Agreement (NAFTA) brought many of these relationships to the fore. Individuals are affected by global economic conditions as multinational firms seek the cheapest place to produce their products — resulting in employment winners and losses. A textile firm may move to Mexico at the same time Mercedes decides to build a new plant in Alabama. In making plant location decisions, managers consider wage costs, quality of the workforce, transportation costs, the cost of raw materials, exchange rate risk, and political risk (such as the risk of expropriation or the blocking of funds) In addition, firms may decide to locate in multiple countries in order to gain quicker access to new technologies as they develop Some international plant location decisions are designed, at least in part, to avoid political and regulatory barriers. For example, Japanese auto firms, including Toyota, Nissan, and Honda, have built large assembly plants in the United States in response to auto import quotas and to reduce the pressure for greater future import restrictions.

Financial managers willing to venture into the global financial marketplace may find lower cost financing alternatives than are available in their home country. With trade barriers being lowered around the world, the managers of tomorrow cannot limit their knowledge to "Island America". Rather, these managers will find that understanding the functioning of the global financial marketplace is a key element of their knowledge and skill base. This chapter introduces essential concepts for conducting business in a global market.

The global economy and multinational enterprises

The importance of understanding the global economy can be seen in the volume of exports and imports in the United States In 1992, U.S. merchandise exports totaled over $440 billion and merchandise imports totaled over $536 billion. The difference between merchandise exports and imports is the merchandise trade balance. In 1992, the United States had a merchandise trade deficit of approximately $96 billion, representing a substantial increase from the previous year's deficit of $74 billion. A global recession resulted in reduced demand for export goods from the United States, while at the same time the U.S. economy was in the early stages of an economic recovery, thus contributing to this growing trade deficit.

Business enterprises participate in the global marketplace in a wide variety of ways Some firms simply export finished goods for sale in another country and/or import raw materials or products from another country for use in their domestic operations. At the other end of the spectrum are multinational enterprises. A multinational firm has direct investments in manufacturing and/or distribution facilities in more than one country. Often, these foreign operations are structured as more or less "free-standing" subsidiaries. Table 3-1 shows a listing of the world's 50 largest industrial corporations, most of which ate headquartered in the U.S., Japan, and Western Europe.

The rise of the multinational firm has drastically changed the way business is done around the world. The multinational organization makes it relatively easy for firms to transfer the key factors of production — land, labor, and capital — to the location where they can be most productive, which represents a dramatic change from the time when the factors of production were thought to be immobile and only goods and services could be moved easily across borders. As a result, the process of resource allocation and business decision making has become more complex. At the same time, multinational firms have the oppor­tunity to benefit from imperfections that arise in various national markets for capital and other factors of production. Furthermore, whether or not a firm is engaged in international transactions, the decline of trade barriers and the increasing ease of moving assets to those countries where they will be the most productive adds a new element of competition for all firms. It is no longer possible for a U.S. manufacturer, such as Ford Motor Company, to worry just about its domestic competitors. Over the past decade, Japanese and German auto companies have built plants in the United States that directly compete with U.S.-based companies.

All firms engaged in international business transactions face unique prob­lems and risks not encountered by firms that operate in only one country. First, there are difficulties associated with doing business in different currencies. Financial transactions between U.S. firms and firms (or individuals) in foreign countries normally involve foreign currency that ultimately has to be converted into U.S. dollars. Therefore, firms that do business internationally are con­cerned with the exchange rate between U.S. dollars and foreign currencies. Second, problems arise because of different government regulations, tax laws, business practices, and political environments in foreign countries.