Pacific gets pretty specific

Big news down under this week has been the announcement that our largest clothing/textile firm is shutting down its local manufacturing and shifting all such activity offshore, principally to Asia. Pacific Brands which controls a huge portfolio of household names in Australia, has conceded that it can’t compete with lower cost environs.

At the same time it has indicated it will be paring back its range of offerings very considerably, as it has a very unbalanced portfolio. The top 20 brands make up two thirds of sales, the Top 10, 49 percent, the Top 5 a third. More than 200 make less than $0.5m a year each.

It has been asked what the impact of the current financial crisis will have on firm boundaries (i.e. how far they stretch themselves in terms of range of products and activities). Pacific Brands look to be reducing their extent of horizontal reach (or perhaps their extent of duplication within existing product markets). Carrying slow-moving product is a lot harder to justify when your financiers are looking over your shoulder and are nervous about debt levels.

What is missing in the above linked discussion about boundaries, is the actual physical dimension – namely whether firms might be more or less likely to redistribute activities in the current climate. It would seem Pacific Brands have been contemplating this shift for quite a while. Australia has been pretty ruthless in cutting protection of the textile, clothing and footwear industry (although there was a stay on proceedings for a few years), and the firm can now very easily bring in overseas product. The rapid drop in the Aussie dollar during the crisis could have justified a delay, but it would be simply postponing the inevitable. It may well be a good time to lock in any necessary asset purchases, supply contracts and the like in Asia as firms there also deal with high uncertainty about some of their key export markets.

Such relocation to a substantially lower cost location could be seen as a de facto substitute for the sort of vertical specialisation Lien predicts. The firm might be more comfortable substituting one hierarchical governance arrangement with another, even if the new FDI-driven one is presumably more complex, rather than taking on the vagaries of market transactions (especially as the latter will shift in nature as the economy inevitably recovers).

I will keep an eye out for more instances of substantial readjustment of firm boundaries in these tumultuous times. Feel free to share your examples too.

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How will multinationals protect themselves?

There is a growing realisation across the business press that the Global Economic Crisis is transforming the international trade environment to one that is much more protectionist than we’ve seen in recent decades.

The general push for freer trade has been a strong driver of globalisation since the mid-1970s at least. Tariffs have tumbled along with other barriers to trade and investment. Through the GATT and WTO, and a huge swathe of other multilateral and bilateral trade agreements, goods and services have been easier to move around than ever before (particularly once we factor in lower transport costs).

While the US in not alone in imposing some trade-restricting provisions within their proposed stimulus packages, they certainly have the biggest flow-on effects in terms of triggering likely tit-for-tat responses from other governments.

The bailouts and nationalisations were seeing around the world in banking and auto sectors are conceivably just the tip of the iceberg in terms of measures that would certainly be seen as subsidies under any sensible definition. They are trade-distorting and trade-preventative in terms of impact.

As the IMF is already reporting a huge decline in international trade over the past three months, and the World Bank is forecasting more declines.

The question that is too often ignored in these discussions is what likely impact this will have on the behaviour of multinational firms. It perhaps shouldn’t surprise given the complexity of their choice sets.

Much of the protection push revolves around shielding industry and jobs in domestic economies. A sizable chunk of the firms being protected and subsidised are themselves firms who trade goods across borders, both as exports and also via imports of inputs, intermediate goods (and sometimes final goods).

Increased protection at home may shift the balance back towards domestic activity. Any advantage in international markets derived from subsidies may be undone by retaliatory responses from other national governments (lobbied by their own local players). Any rises in tariffs and other trade barriers may serve to untangle existing value chain configurations as multinationals abandon internationally distributed production processes as too costly, unwieldy and/or unpredictable.

For so long the movement of productive activities around the globe was derided as a race to the bottom. What will we call a retreat to home base?

And what about those multinationals for whom home is but a small portion of their global markets? Are they part of the protection plan of other nations? That would certainly seem to be the case in Australia.

A car (industry) in search of direction?

So the Australian government has delivered its latest pile of assistance for the car industry. The new package looks like delivering $6.2b in assistance over the next 13 years. This is $3.4b more than previously allocated. That is certainly a large sum. As discussed in an earlier post, the auto industry is a wonderful case study in the dynamics of government-business interaction in the face of globalisation pressures.

So is this a case of greater trade barriers, and thus a retreat from globalisation?

This is not as easy question as it might first seem. Certainly, this is a huge package of subsidies. Any aspects that reduce the costs of producing a car in Australia (such as significant topping up by the government of the firms’ R&D spending) are distorting the allocation of resources away from free market outcomes where comparative advantage can play out.

On the flipside, Australia continues to reduce tarriff levels on imported vehicles. This is an unequivocal move towards freer trade.

So we are left trying to weigh up the globalising versus distorting dimensions of the package. Or put differently, we might want to look at the rationale for the distortions. Australia does not make these decisions in isolation. Other Western nations, from the US to Europe are also looking at ways to salvage the auto industry. The industry itself attracts disproportionate amounts of policy-makers’ attentions and cash due to the prestige and visibility of the products, the noisy labour market ramifications of any downsizing, and the much discussed flow-on effects on local suppliers.

Multinationals are increasingly able to pick and choose between locations with regards to availability of subsidies. Australia could be seen as just trying to compete with its Western rivals in this market. It is a perverse form of trying to build comparative advantage, but its the political reality.

Meanwhile, the real story is the ongoing success and growth of Asian automobile manufacturing and assembly. As I said in my earlier post, the sad part of the story is the lack of consideration of where this $6.2b could be more effectviely spent (tertiary education anyone?). I am also not alone in fearing that this level of industry pandering might spread.

A trade redemption song?

We know one of main drivers of globalisation has been the bilateral and multilateral efforts by governments to negotiate lower barriers to trade. This year has seen some big failures at the global multilateral level, with the collapse of the Doha Round of WTO negotiations (see the earlier Blog Entry on this).

This Economist article heralds the signing of an agreements between a group of Caribbean countries and the European Union which may increase considerably the trade flows between these two regions. The article also offers insight into the wide range of interested parties, and complex issues that arise in negotiating such agreements. The Caribbean currently engages in a mix of economic activities from agriculture, to tourism, business services (especially in the several countries which are tax havens), and textile manufacturing (helped by the complex import quotas in place in the US – discussed in that T-Shirt book).

As mentioned in the article, the new Agreement also reduces the restrictions on citizens of these regions moving internationally for work – more reggae music for Europe then?

The International BS Book Club

I have just finished reading a fascinating book on international business which you may find highly relevant and thought-provoking. It’s be a US economist Pietra Rivoli, and called The travels of a t-shirt in the global economy: an economist examines the markets, power and politics. The book explores many issues of interest to readers of this Blog.

Rivoli explores the emergence of cheap t-shirts from China and elsewhere, and the companies, processes
and supply chains behind this story. She explores why the t-shirts are so cheap, why the US can no longer compete in the market, and how the politics of trade have shaped firm behaviour. Rivoli goes right back to the 18th and 19th century to explore how the US usurped Britain as the dominant player in this industry (and also how Britain wiped out India as a comptitor before that).

Rivoli explores the incredible technological innovations that have kept US cotton growers competitive, but argues that clothing manufacturing has been less successful in recent years, losing out first to Japan, then Hong Kong, Taiwan and now China.

She heads to China to see what the factories look like there, what work in the factory means to young Chinese women and to explore the entrpreneurialism involved in building relationships with the big buyers of these products. Rivoli argues that China does have huge advantages because of labour laws and because of the enormous population of available workers.

She also finds that China is limited in its success by very effective quotas that limit the amount of textiles that can be exported to the US. These quotas have lead to expansion of t-shirt manufacturing in a range of countries including Mauritius, Bangladesh, Honduras, Vietnam and Pakistan. Rivoli highlights the enormous bargaining power of US senators and congressmen in influencing the quota levels and the extent to which the US uses these quotas as a bargaining chip in negotiations with a wide range of countries. Only now in 2008 are some of these quotas finally being removed allowed freer trade in some clothes into the US.

A truly fascinating section near the end of the book looks at recycled t-shirts (and clothing more generally). Here the US is a net exporter and provides a huge amount of clothing to developing nations. The markets for these goods is much freer and the goods are highly idiosyncratic (she refers to them as snowflakes as new used t-shirt is the same). The stories of marketplaces in Tanzania showcase some fantastic entrepreneurship and innovativeness.

US National Public Radio provides some (print) excerpts from the book and some short (audio) interviews with participants:

Excerpt One: “How Student Protests Sent a Business Professor Around the World”

Excerpt Two: “Texas Cotton: Farmer Profits at Every Step” and the Radio Segment (click “Listen Now”)

Excerpt Three: “The End of Quotas and Rise of China” and the Radio Segment (click “Listen Now”)

If you want to get a nuanced, balanced insight into one startlingly complex industry and its international machinations, this is a great place to start. There is also a book about underpants out there which I haven’t yet read.