A Brief Introduction to International Free Trade
… to take part in a severe contest between intelligence, which presses forward, and an unworthy, timid ignorance obstructing our progress.
The Economist (1843-present).
On 1st January 1995 the World Trade Organization (WTO) was formally established with a simple mission:
The World Trade Organization deals with the global rules of trade between nations. Its main function is to ensure that trade flows as smoothly, predictably and freely as possible. (WTO official website, home page).
Its origins are more complex. Along with the World Bank and the International Monetary Fund (IMF), the WTO was first proposed at the Bretton Woods Conference in the USA in 1944, just as the 2nd World War approached its grim conclusion. It was ultimately to provide the blueprint for a ‘New World Order’ of free and open trade between nations and it eventually emerged from the prolonged political negotiations between multiple countries held under the General Agreement on Tariffs and Trades (GATT) framework.
This New World Order did not arise from luck, the roll of a dice. It was created in an extraordinary battle of wills between a world-renowned British economist (John Maynard Keynes) and a largely anonymous American technocrat (Harry Dexter White) in a negotiated order of monumental global impact.
Why Trade at All?
International trade, free or otherwise, is undertaken within a framework of political economy. Briefly, in the liberal model economic resources are allocated through the interaction of supply and demand. Consumers have free choice as to what to buy and firms have free choice as to what to produce. This is the essence of liberalism, a philosophy based on the twin principles of consumer sovereignty (freedom to choose) and self-interest (rational choice). The market mechanism determines prices and, consequently, demand and output. It is the profit motive that ultimately drives firms to produce efficiently and consumers to maximise their own satisfaction. The founding father of political economy and the greatest proponent of liberalism, Adam Smith, described the process in his 1776 treatise, The Wealth of Nations, as follows:
Every man, as long as he does not violate the laws of justice, is left perfectly free to pursue his own interests in his own way, and to bring both his industry and capital into competition with those of any other man, or order of men.
The fundamental principle underpinning this liberal form of economic organisation is free competition and a market mechanism that inks individual decisions to aggregate output. As Smith further noted, every individual “intends only his own gain and is in this as in many other cases led by an invisible hand to promote an end which was no part of his intention”. He proposed the theory of Absolute Advantage to explain the logic of specialisation and exchange for wealth creation via trade between nations.
The theory of absolute advantage can relate to any number of entities, most notably individuals, companies and countries, which can benefit from trading with each other. In the Wealth of Nations, Adam Smith observed that nations can maximise their economic prosperity by specializing in the production of goods where it has an absolute advantage over other countries and exchange these for goods from other countries with which it is disadvantaged. In sum, by specialising in goods that it produces most efficiently, the greater will be the prosperity of a nation. As Smith observed:
If a foreign country can supply us with a commodity cheaper than we ourselves can make it, better buy it of them with some part of the produce of our own industry employed in a way in which we have some advantage.
In 1817 David Ricardo published On the Principles of Political Economy: And Taxation in which he expanded Smith’s ideas to include the opportunity cost calculus of producing goods within and between countries and demonstrated that, under most conditions, a country would still benefit from trade even if it had an absolute advantage over every product category than that of another country. In principle, it could be self-sufficient in all goods, a condition known as autarky (economically independent/self-sufficient), and it could make a political argument for ‘splendid isolation’.
(Mr Johnson also alluded to this economic state in his February 2020 Greenwich speech – see the Preamble – complaining that “we are starting to hear some bizarre autarkic rhetoric”).
Ricardo’s theory of (free) international trade is known as Comparative Advantage. As Prof. Collinson and his colleagues explain in their textbook definition:
… free trade provides greater economic output and consumption to the trade partners jointly than they can gain by working alone. By specialising in the production of certain goods, exporting those for which they have a comparative advantage, and importing those for which they have a comparative disadvantage, the countries end up being better off.
In a liberal form of economic organisation, the role of government is primarily to set an institutional framework that facilitates rather than obstructs freedom of choice. In developing his thesis on the wealth of nations, Adam Smith integrates these twin themes of government and economy as follows:
In the midst of all the exactions of government … capital has been silently accumulated by the private frugality and good conduct of individuals, by their universal, continual, and uninterrupted effort to better their own condition. It is this effort, protected by law and allowed by liberty to exert itself in the manner which is most advantageous, which has maintained the progress of England towards opulence and improvement in almost all former times, and which, it is to be hoped, will do so in all future times.
The significance of this quote more than two centuries after its composition and its implications for the future direction of the world economy in the current post-Brexit international trade environment is immense. Both Smith and Ricardo were firm believers in free trade between nations and Ricardo actively agitated against the Corn Laws. These were tariffs that made imports more expensive and, while they protected the aristocratic rich, were punitive towards the urban poor during a period in time when Britain was at the forefront of the industrial revolution driven by an emergent, entrepreneurial ‘middle’ class.
The Corn Laws, the last bastion of British mercantilism, were repealed in 1846 and still provide the benchmark for the institutionalisation of international free trade principles to the present day.
The epigraph to this Prologue is the rationale provided by the publishers of The Economist when the magazine was launched in September 1843 and it has been reprinted in the Contents pages in every issue since. It conveniently describes the philosophy of this book and we unashamedly borrow it. The first edition of The Economist was published three years before the repeal of the Corn Laws Act in Great Britain, a single event which is undoubtedly the primary milestone in the history of the international free trade movement because for the first time it addressed reality, not philosophy. Actions, not words.
Reverting to Adam Smith, in a nutshell, and to paraphrase the great sage: allow producers the freedom to choose what they wish to produce and where to peddle their stuff; allow consumers the freedom to choose what they want to consume and which peddlers to procure it from; keep government out of the business of business, except for such niceties as property rights, financial liquidity and gentle regulation.
Under these conditions of supply and demand amidst minimalist government interference, there should be two generic outcomes according to Smith: (i) the invisible hand of the market will lead to the most efficient allocation of society’s scarce resources – a macroeconomic phenomenon; (ii) consumer sovereignty (the customer is king) will determine competitive outcomes – a microeconomic, contemporary strategic marketing challenge (see Chapter Six).
This brief discussion of political economy, international trade and globalisation provides the historical context for the theories, concepts, principles, frameworks, tools and processes which we examine relating to the multiple dimensions of strategic management presented in British Business Manifesto: Strategies for Profitable Growth. The opportunities for companies to design and implement successful global and domestic business strategies by adopting a structured and systematic approach to strategic management, marketing, innovation and branding (backed up by efficient operations and supply chain management) are potentially huge, as we shall see.
We now make a transition in British Business Manifesto from the important context of political economy in our discussion of international trade towards the practical realities of ‘doing business’ internationally. These were described in the Preamble as ‘front line’ challenges of global and domestic business strategy design for all companies, regardless of country-or-origin, industry sector or company size.
The Globalisation Phenomenon and the Business Strategy Response
In the autumn of 2020 as this book is being written the WTO’s relevance for the creation of successful global business strategies cannot be overstated. China’s entry to the WTO in 2001, followed by Russia’s just over a decade later in 2012, brought those two great trading nations into the modern (capitalist) world of international business. The Dot.Com bust of the new millennium left in its wake a global boom in digital infrastructure and technologies which underpin the contemporary era of big data, machine learning and AI. The global financial pandemic of 2007/2008 has been superseded by a global coronavirus pandemic which has seen unprecedented levels of international cooperation (and healthy competition) in the pharmaceutical and biotechnology sectors.
Globalisation has come of age – not by chance, but by design. The implications of this for business strategy are clear and well documented and our exploration of them provides the substance of British Business Manifesto: Strategies for Profitable Growth.
Figure 1 presents the four dimensions of business strategy and captures the relationships between them, the double-headed arrows indicating a nexus of inter-connectivity between the elements.
The schematic presented in Figure 1 belies the complexity which underpins it: everything connects with everything else. There are far too many compartments in business organisations and management science, whether these be in the functional silos of companies or the departmental structures of otherwise world-class business schools.
The competitive landscape and strategy creation emerge from the way that a company interprets its business environment. Assessment of this environment’s complexity and the determination of appropriate responses to the continuity and change dynamics it generates requires that the company sustains itself as an open learning system, acquiring, interpreting and processing information at all organisational levels and across all functions. This largely intangible but essential capability for creative environmental assessment conveys a key organisational strength, a strategic asset which demands that leaders facilitate a continuous process of learning and action.
Reverting to Figure 1, it should be clear that primacy in strategy creation and organisational design must be given to the understanding of Market Environments, and it is important to emphasise that strategy doesn’t exist – or isn’t created – in a vacuum. We should also be aware that the commonly prescribed strategy question ‘Where are we now?’, captured, for example, in a traditional SWOT analysis, should not be considered in isolation of the related question ‘How did we come to be where we are now?’ An organisation’s history, including its structural and cultural baggage, very often conflicts with the response to a third question, ‘Where do we want/need to be in the future?’ The answer to the fourth question, ‘How do we get there?’, is the logical outcome of the analyses undertaken in the previous three. We demonstrate this from a strategic management perspective in Chapter Two, Analysing Global & Domestic Markets and, operationally, in Chapter Seven, A Practical Framework for Business Strategy Success.
Regardless of the disciplines/subjects/topics/frameworks/processes/tools etc. being discussed throughout British Business Manifesto, four key themes permeate its content. These are shown in Figure 2 and described in the paragraphs which follow.
Delivered Stakeholder Value appears as a theme throughout British Business Manifesto, for example, with regard to delivering customer value (see the section in Chapter Four, Customer Value, Generic Strategies and Price Implications), or securing employee engagement (featured in Chapter Eight in the section Internal Marketing for External Business Strategy Success).
Strategic Clarity is a measure of effectiveness. Described by Professor Peter Drucker as “doing the right things”, effectiveness is the driving force behind customer-focused, competitively differentiated companies. It has a long-term time horizon and is associated with companies who think strategically and, from a strategic marketing perspective, identify and select target customer segments where they can successfully align their organisational capabilities with the identified market opportunity. Effectiveness-dominant companies typically demonstrate an external, ‘outside-in’ orientation, a theme we adopt throughout British Business Manifesto.
Operational Excellence is a measure of efficiency. Described by Drucker as “doing things right”, efficiency aims to maximize the potential output from the provision of minimum inputs and is normally associated with a short-to-medium-term time horizon. In management studies, efficiency is most often associated with manufacturing and operations management but, as a metric, it can be applied to all types of business investments. A typical example in everyday marketing use is ‘bang-per-buck’ when applied to advertising expenditures, the goal being to achieve the widest market coverage at the lowest possible cost, a perfect example being the success of Google Ads and Facebook/Instagram/Twitter platforms in the contemporary social media ‘influencer’ era. More generally, efficiency-dominant companies typically demonstrate an internal, ‘inside-out’ orientation.
While efficiency is essential for the achievement of operational excellence, ‘efficiency drives’, a mainstay of corporate parlance and day-to-day business operations, must not compromise customer value. Despite this, Drucker has convincingly argued that companies, especially larger ones, tend to focus excessively on performance metrics associated with efficiency and that this potentially leads to a vicious cycle towards organisational entropy, entropy being a gradual but inexorable decline into disorder and mayhem. This is a complex concept with deep research roots in organisational behaviour, a discipline which is briefly explored in Chapter Eight, Implementing Business Strategy.
Organisational Design is a principal focus of Chapter Eight but it also features heavily throughout the book. Traditional organisational structures such as Multi-National-Corporations (MNCs), designed for a different competitive era, have struggled to come to terms with the globalisation phenomenon, a challenge made greater by dramatic changes in the global communications infrastructure over the last two decades and more.
Other companies, meanwhile, have grasped the opportunities that globalization presents with open arms. Chinese contract manufacturer Lenovo, for example, became a global brand ‘overnight’ via its early relationship with IBM in China followed by its subsequent acquisition of the American giant’s PC and small server divisions and, crucially, a license to use IBM brand identities such as ‘ThinkPad‘.
Taiwanese company Foxconn, contract manufacturer of global products such as those marketed by Apple and Samsung, now has its own aspirations to build a global branded goods presence. Meanwhile, new(ish) companies such as Airbnb, Alibaba, Amazon, Baidu, Booking.com, eBay, Etsy, Facebook, Google (Alphabet), Just Eat, Lyft, Netflix, Snapchat, Tencent, Twitter, TikTok and Uber have taken the opportunity to establish international business structures and processes from scratch, becoming truly global in an extraordinarily brief period of time. Who’d heard of Zoom until Covid-19 announced its presence in 2020, adding a noun (a Zoom), verb (I’ll Zoom you) and adjective (a Zoom conference) to the global lexicon within six months? British brands and startups such as AJ Bell Youinvest, BrewDog, e-Toro, Fever-Tree, Starling Bank and The Hut Group are expanding rapidly both at home and abroad.
Furthermore, and aligning with the primary audience for this book, the global internet infrastructure has opened tremendous opportunities for smaller companies (SMEs) to access global markets from which they were excluded in the past, facilitated by ‘new economy’ companies creating their own global, virtual marketplaces, including Alibaba, Amazon, eBay, Etsy, Facebook, The Hut Group. Consider the following observation from the CEO of Alibaba, Jackie Ma:
e-commerce is not for big companies or developed countries. It’s for developing countries, young people and small businesses. We should not let world global trade be controlled by 60,000 big companies. We should make technologies and policies to encourage six million, 16 million or 60 million businesses. Alibaba will make it happen.
Another indicator of the globalisation of international business is the worldwide turbulence in financial markets as consumers, banks and even nations struggle with huge debt burdens in the wake of the 2007-08 meltdown in global financial markets. This is the new contemporary context of global business strategy. Old, traditional challenges, meanwhile, remain as powerful as ever, for example, managing the delicate balance between cultural diversity amongst consumers and the efficiency pressures which lead companies towards standardisation of business processes and products.
From an organisational perspective, the traditional tension between centralisation and decentralisation is heightened, and the complexity of global supply chain management is considerably amplified. In this context, the primary objective of British Business Manifesto is to provide its readers with a comprehensive overview of key challenges in global strategic management and to arm them with the analytical and technical competencies to address their complexity.
Even companies that don’t currently export their goods and services need to plan now to bolster their strategic defences as other parties (governments) to the UK’s ongoing trade negotiations are supporting their own companies’ UK market penetration ambitions, most notably Chinese ‘no-name’ SMEs operating out of huge industrial estates within the country’s Special Economic Zones (SEZs) and trading through global marketplaces facilitated by, for example, Alibaba, a Chinese company.
As we approach the end of this Prologue it should be noted that many business strategy concepts are often discussed from an absolute perspective, for example, “Company A is very efficient”. However, when referring to organisations operating in competitive markets it is essential to provide a relative perspective, particularly when assessing companies from the same sector. So, for example, we should state that “Company A is more efficient than Company B in Sector 1”. Figure 3 presents a simple 4-cell matrix that contrasts companies from a hypothetical market sector on their relative effectiveness/efficiency axes and indicates the impact each cell position has on competitive advantage and, thereafter, on long term profitability.
Another problem with the discussion of organisational concepts in the management literature is that they are often presented as static phenomena. In the contemporary business environment markets are extremely dynamic and relatively strong market positions can be rapidly gained or lost. For example, BMW and Mercedes survived the market entry of Lexus into their high-end automotive market space, particularly in the lucrative US market, but only by-retooling their German-based manufacturing operations and relocating some elements of production outside of Germany to off-set the relative currency disadvantage of exporting out of the Deutschmark economy of the time (efficiency). During this process, both German marques also maintained their strong customer franchises with model updates and heritage-focused (‘Made in Germany’) brand communications (effectiveness).
Contrast this with Nokia and Blackberry and their struggle to compete with Apple (iOS) and Samsung (Android), the new market leaders in mobile communications. The customer benefit in this category has shifted from ‘connecting people’ (the famous slogan of Nokia) to, broadly speaking, ‘sharing experiences’, the latter achieved through the combination of smartphones and social networks/media such as Facebook, Google, Instagram, LinkedIn, Snapchat, TikTok, Tinder, Twitter and WhatsApp etc. Snapchat, a software App, cheekily describes itself as a ‘camera company’ as do, albeit more subtlety, hardware suppliers Apple, Huawei and Samsung.
From political economy to competitive advantage, there have been two recurring themes throughout this Prologue:
- That the benefits of free trade between nations to society and economies have been proven over centuries, not decades, and this despite opposing forces including world wars, cold wars, financial catastrophes and global pandemics.
- That the important role of free markets (supply and demand) in driving customer choice, competitive dynamics, innovation and productivity is equally proven, a powerful testament to the wisdom and prescience of their early proponents, Adam Smith and David Ricardo.
In a well-regarded and widely disseminated discussion paper for the Institute of Economic Affairs, Free Trade And How It Enriches Us, Prof. Donald Boudreaux praises international free trade as an economic principle but draws attention to the vagaries of political interference with its progressive impact.
The case for free trade has been familiar to economists since the work of Adam Smith in the late eighteenth century and David Ricardo four decades later. But politicians keep forgetting it, if they ever knew it … The 50-year post-World War II international consensus in favour of free trade was a triumph of wise policy over demagoguery. Alas, that consensus is collapsing.
Prof. Boudreaux was writing in 2018 at the height of Donald Trump’s rhetoric surrounding his ‘America First’ isolationist foreign policy stance, his bombast backed up by redrafting NAFTA, EU tit-for-tat tariff-setting and hostile on-off trade wars with China. Two years on, Trump has been ousted from Office and the world waits anxiously to decipher the international trade posture of the incoming Administration.
But the economics of Adam Smith and David Ricardo have stood the test of time, as Smith’s most recent biographer, Jesse Norman, observes:
And there is one thing that Smith gets triumphantly, monumentally right, that guarantees his place among the immortals: he sets himself to address the foundational question of how far the pursuit of individual self – interest through cultural and market exchange can yield economic growth and socially beneficial outcomes. That marks the moment at which economics starts to come of age.
Business strategy is not conducted in a vacuum, hence the importance of understanding its context with reference to political economy and why, as we concluded in the Preamble, it is important for Brexit principals, including professional negotiators and the politicians who appoint them, to communicate in the front-line language of business: (i) Customers; (ii) Competitors; (iii) Company capabilities.
In Appendix One, Building a Comprehensive Strategic Audit, we bring together the Business Environment Audit introduced in Chapter One and the Implementation Audit introduced in Chapter Eight to present an exclusive practical framework and process for scanning the external business environment, assessing organisational capabilities and identifying strategic priorities in the concluding section: A Comprehensive TOWS Analysis: Competitiveness and Strategic Performance Potential.
Boudreaux, D. J. (2018, September). Free Trade And How It Enriches Us. IEA Discussion Paper No. 94. London: The Institute of Economic Affairs.
Collinson, S., Narula, R., & Rugman, A. M. (2020). International Business (8 ed.). Harlow: Pearson.
Drucker, P. F. (1974). Management: Tasks, Responsibilities, Practices. London: Heinemann Professional Publishing.
Norman, J. (2019). Adam Smith: What He Thought, and Why it Matters. London: Penguin Books.
Ricardo, D. (2018). On the Principles of Political Economy: And Taxation (Classic Reprint). London: Forgotten Books.
Smith, A. (1776). An Inquiry into the Nature and Causes of the Wealth of Nations. Edinburgh: Strathan & Cadell.
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All content © Colin Edward Egan, 2021