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Summer and Autumn 2012

Am I any good at forecasting?

December 27, 2012

It is a fashion at the end of a year to make forecasts about the year ahead. Last year I tried myself at the exercise. Now let's see how I did.

*country*	*what I said*	*how well did I do*
Germany	After further defeats in regional elections, the F.D.P. party self-dissolves as most of its MPs join other parties - just enough to enable to Merkel government to muddle through. Meanwhile, the pirate party enters further regional and local parliaments, but is hit by a series of scandals as its inexperienced politicians say outrageous things, and by the end of 2012 it disappears into the insignificance it came from.	[score: 25%] The F.D.P. party is still alive though not well, while the Pirate Party has engaged in the sort of internal strive I predicted. Polling organizations suggest that F.D.P. is close to the threshold that would enable it to return to parliament in 2013, while the Pirate Party is not.
Denmark	The new government stumbles a bit while it learns how to govern the country, but apart from that nothing special happens, and the country stays out of (international) headlines.	[Score 50%] The Social Democrats have historically low scores in the polls, so I was too optimistic for them. But else nothing spectacular happened in Denmark, apart form the fact that all three government parties are now headed by women. But that's not really anything spectacular in Northern Europe anyway.
UK	After a referendum in the UK, followed by a referendum in Scotland, the UK government negotiates its exit from the EU (surprised that noone else actually cares), while newly independent Scotland becomes the new 27th member. Scotland prepares to introduce the euro by 2016. Subsequently, with the British veto gone, the EU Parliament is strengthened to provide stronger democratic control over the EU Commission.	[no scoring] This forecast was really referring to a longer time horizon. With Prime Minister Cameroon most skillfully isolating his country in Europe more and more, we are well on track for this scenario to be realized by 2017.
Eurozone	After Greece defaults on part of its government debt, but continues to use the euro (perhaps in a similar fashion as Montenegro and Kosovo), financial markets calm down in view of quite different economic situations in other countries under pressure in the eurozone, and serious cuts in deficits across member countries.	[score: 95%] As predicted the negative hype in the media was totally overdone. Greece bought back some debt at a discount (which some count as default). The situation remains difficult, but far from hopeless.
USA	I do NOT venture to predict who will be the next president of the USA. However, due to even larger polarization of the candidates than at the last election, most voters actually support neither candidate, and demonstrations against 'the banks' and 'the system' will spread from the anti-Wallstreet movement of 2011. For foreign observers, it is obvious that changing the election system to proportional representation would solve the national governance crisis, but no major politician in the USA will support that idea for fear of dislodging their own power base.	[score: 90%] The deep divisions in US society that crystallized during the election campaign were correctly predicted, but the anti-Wallstreet movement of 2011 was less persistent than predicted. No support for electoral support as I predicted.
France	Francois Hollande will become the next president of France, beating the National Front candidate in a run-off election. The most left-wing candidate in a generation will benefit from a wave of anti-banking - and by implication anti-Anglo-Saxon - popular sentiment.	[score: 90%] Francois Hollande indeed won the presidential elections, and his initial actions deepened the economic divisions of economic and political policies between France and Anglo-Saxon countries. However, Nicolas Sarcozy did much better than predicted in the first round and made it into the run-off.
China	XI Jinping will become next president of China. The government will be increasingly assertive in a nationalist sense: firstly, rejecting foreign "interference" about Chinese policies alleged to create trade barriers, or to violate human rights; secondly, imposing central control over wayward provincial leaders pushing their own pursuit of capitalism too far, and/or being entangled in corruption or other scandals highlighted by local protests.	[score: 99%] Xi Jingping is the new chairman of the party and on schedule to become president of the country as well. Nationalism did indeed surge, though trade conflicts had (for now) lesser profile than pumped up territorial disputes over various Island claimed by China. The old leadership indeed to a provincial governor to task - BO Xilai - and the new government makes a lot of noise (and some action) regarding corruption of lower levels of officials.

IKEA Catalogues in Saudi Arabia

October 2

This morning Swedish furniture company IKEA was lambasted on the BBC worldservice radio this morning for brushing women out of their catalogues distributed in Saudia Arabia. A picture showing a women and a child in a kitchen in the Swedish version only shows the child in the Saudi version. Women rights activists in Sweden were outraged, and so rather undisguised the BBC reporter. Under pressure, IKEA issued an apology stating that this marketing brochure was inconsistent with its culture and did not reflect its approach to equality of women in society. The report does not appear on the BBC website, but I found the pictures and several commentaries on the issue in Swedish Newspaper 'Dagen Nyheter'.

The report illustrates a key dilemmas of international marketing. One of the basics of International Business is that you have to adapt your products and your marketing strategy to the local context. With pictures of women-not-totally-covered being illegal, using the original pictures obviously is not an option. At the same time, IKEA want to convey the idea of North European lifestyle in its marketing, so from the perspective of the local marketing manager editing the pictures seems to be the most obvious approach. (In fact the pictures look as if they were first taken without people, and then the people were copied in to the Swedish-and-rest-of-the-world version, so taking out some people would have been easy). But a new challenge arises in an increasingly connected world: the local strategy must also be acceptable to stakeholders back home - and they do not necessarily understand the local context, and why local people (or, in this case, local law) would not accept the original.

So, a nice question for an international business classroom, how should IKEA Saudi Arabia have designed in catalogue?

While journalists (as usual) only offered a one-sided view criticizing IKEA for not representing Swedish values appropriately, some Swedish politicians actually contributed to the debate more constructively. Some recognized IKEA's dilemma and used the opportunity to point to the general human rights situation in Saudi Arabia, and the role of women in particular, and asking questions about Sweden's political relationship and issues such as export of weapons, to Saudi Arabia.

Postscript answering my question above: Pictures for marketing purposes are edited all the time, though the public (and non-business journalists) don't know that - it is like second nature for advertising agencies. The problem emerges if different versions of the same pictures come into circulation, and appear to discriminate against any particular group. Hence, using a version without showing any people is probably the easiest approach (but they can't demonstrate how to use a particular unfamiliar product), another approach would be to put local people in local clothes into the pictures (though that doesn't convey Swedish values either), or to draw abstract depictions of people rather than people.

The Passionate Portuguese Diplomat

September 29

Last night at a reception, I ran into a senior Portuguese diplomat. Rather than engaging in the usual dispassionate small talk one usually gets at these sorts of events, he went into a passionate rant about how bad his government's austerity measures were for the Portuguese people. He wanted to join his people on streets - even his 80-something old mother went to the streets. Not the sort of talk you'd expect from on official representative of a country; we hardly managed to stop the flow of his words. He argued that the Portuguese economy was basically sound and key economic reforms had been done before - and he is probably right in that. While I am not an expert on Portugal, the country certainly has less structural problems than Greece in terms of manufacturing base, export potential, pre-crises government deficit etc.

However, when I asked him what he would like to do instead of austerity, he ignored the question and went on that austerity just didn't work, 'there has to be another way'. After a year of austerity, the deficit as percentage of GDP is still growing because the GDP is falling (and, he should have added, because interest rates are high). But what other way? He mentioned that cutting people's wages was an easy way out and that the government should rather cut some of the things it was doing. So, part of the problem is how governments go about tackling the deficit - painful cuts that hit ordinary people aren't the only item of the budget.

But then he surprised us by arguing for Portugal leaving the euro. I thought the Portuguese government wanted to prevent this at all costs. However, he suggested, 'let's introduce our own currency again, and then over then next ten years or so we devalue by may as much as 30%'. I told him there will be no such thing as gradual devaluation, the financial markets will immediately speculate against the currency if Portugal tries a fixed exchange rate, and the 30% devaluation will happen very quickly.

So what would be the consequences of Portugal (or any of the other Southern countries) leaving the eurozone? A sharp devaluation of the currency (let's say 30%) will lead to a jump of import prices - given the tight international integration of the economy that would mean many prices in the supermarket will jump, perhaps as much as 20%. Petrol prices too will jump by a similar amount. And the government deficit as percentage of GDP will also jump, because most of the debt is denominated in euros or dollars. So, salaries may not be cut, but prices will go up, and the government won't have money to spend - i.e. avoid austerity - either. In the long run, devaluation will help exports. In fact as one of the few good news from his country the diplomat mentioned that exports to China have recently been doubling. So, there would be a light at the end of the tunnel - but the tunnel is deep and long, and my fear is that it may be more painful than the austerity.

The problem with the current debate in Europe, in my view, is that we lack thought out scenarios of the alternatives. The protesters on the streets have even less ideas than the diplomat as to what alternatives to austerity may be. We need some serious researchers to develop and publish some realistic 'what if' scenarios to a get a clear picture - going beyond my simple analysis in the previous paragraph - to have a more informed public debate.

The Puzzle of Chinese MNEs and Political Risk

September 4

Political risk is generally believed to deter foreign direct investment (FDI). Political risk here refers to the possibility of political events that have a negative impact on a foreign investment operation, which vary from small changes in legislation (say a change in tariff) to in the extreme of expropriation without compensation. Surprisingly, two different studies recently found that that Chinese multinational enterprises (MNEs) appear to prefer to locate in countries with higher rather than lower political risk (Buckley et al., 2007, Ramasamy et al., 2012). Why are Chinese MNEs not risk averse? I can think of four possible explanations:

Hypothesis 1: Chinese MNEs are risk naïve. Chinese MNEs have a relatively short history of outward FDI, and hence have not yet experienced incidents of massive losses due to political events. Research in behavioral economics suggests that people tend to take into account risks that they have experience themselves, especially recent experiences, and that they tend to discount events they only experienced long time ago, or never experienced themselves (see e.g. Kahneman's 'Thinking, Fast and Slow'). Hence, are Chinese MNEs are not reacting to indications of political risk because they systematically underestimating these risks? If this hypothesis held true, then recent experiences in Sudan, Zambia and Syria would likely lead Chinese MNEs to a reassess how they treat political risks.

Hypothesis 2: Chinese MNEs are affected by political events that are different than those affecting Western MNEs. The political issues that Chinese MNEs, especially state-owned ones, have to deal with abroad relate to host societies being suspicious of their intentions either because they distrust state enterprises, or because they Chinese businesses more generally (Cui & Jiang, 2012, Globerman & Shapiro, 2009, Peng, 2012). Thus, they experienced problems in advanced economies, notably in the USA where new legislation imposes additional screening on foreign acquisitions by state enterprises (Sauvant, 2012). This hypothesis would suggest that political risk is related not only to the level of whatever happens in the host country, but to the bilateral relationship. If hypothesis 2 held true, then the issue is a measurement problem: The identity of a firm, especially its country of origin, affects what sort of events constitute 'political risk'. Common measures of political risk (implicitly) relate to the issues as seen from a Western company, and may hence miss issues of concern to emerging economy MNEs.

Hypothesis 3: Chinese MNEs have different ways of managing political risk. A third possibility is that Chinese MNEs face fewer financial losses from certain political events because of the way they manage risks. This could occur in two ways. Firstly, their overseas investment is often embedded in government-to-government relationships, especially when state enterprises are involved, and when deals are signed in formal ceremonies attended by high officials of both governments. This political framing of the business relationship creates mechanisms by which both governments have an interest in the success of the business, which makes them less likely to take adverse political action. Second, Chinese MNEs may be able to cover potential losses through their financial management, either through risk diversification across a large number of countries, or through (implicit or explicit) guarantees that they received from their home government or state banks. This hypothesis suggests that there may be risk management practices that Western companies might be able to learn from.

Hypothesis 4: It is a spurious relationship. While Buckley et al. (2007) and Ramasamy et al. (2012) both cover a wide range of host countries, they may still insufficiently control for other factors that happen to be associated with political risk. Specifically, many Chinese investments aim to explore natural resources and these resources often happen to be located in politically instable countries in Africa. While both studies attempt to control for this effect, we cannot exclude the possibility that their controls are not good enough.

References:

Buckley P.J., Clegg J., Cross A., Liu X., Voss H. & Zheng P. 2007. The determinants of Chinese outward FDI. Journal of International Business Studies 38(4): 499-518.
Cui, L. & Jiang, F. 2012. State ownership effect on firms’ FDI ownership decisions under institutional pressure: A study of Chinese outward-investing firms, Journal of International Business Studies.
Globerman, & Shapiro, D. 2009. Economic and strategic considerations surrounding Chinese FDI in the United States, Asia Pacific Journal of Management,
Peng, M.W. 2012. Chinese multinationals, Global Strategy Journal.
Ramasamy, B., Yeung, M. & Laforet, S. 2012. China's outward foreign direct investment: Location choice and firm ownership, Journal of World Business, 47(1) 17-25.
Sauvant, K.P. 2012. Is the United States ready for foreign direct investment from emerging markets? The case of China, in: Sauvant, K.P., Maschek, W.A., MacAlister, G.A. eds., Foreign direct investment from emerging markets.

Comment by Prof Sumon Bhaumik (Aston University), September 4, 2012:

"Cathy Co and I did some research on the determinants of the direction of Chinese economic cooperation related investment. We found that this investment is influenced by the usual factors that determine trade between countries (the so-called "gravity" model). Importantly, while there is some support for the popular wisdom that China is willing to do business with countries with weak political rights, the evidence suggests that, ceteris paribus, its investment is more likely to flow to countries with low corruption levels and, by extension, better institutions: http://dx.doi.org/10.1016/j.chieco.2010.09.002"

Paralympics

September 2, 2012

Sitting in a pub in Shanghai last night, I saw some bits of reports from the Paralympics from London. In the Western press discussion of the games often focus on how society is not really providing handicapped people the support they need, and that this is all show. But sitting here in China, I beg to differ.

In China, like in most emerging economies, one rarely sees handicapped participating in business or social life in a normal way, they only appear as beggars on the street corners. Neither the medical nor the social support is available, and - perhaps worse - many forms of handicapped carry a social stigma such that people don't want to associate with them for fear the 'bad luck' may spill over.

Seeing wheelchair drivers compete in table tennis or athletics on national television, and hence in the pub, creates a completely different image of what people with a physical handicap can actually achieve. And it is indeed impressive seeing them race, or hit the ball. Many countries still have a long way to go to provide living conditions that allow handicapped people to exploit their full potential. However, I think owe all the athletes, volunteers and organizers in London a big thank you for what they demonstrate, because it will motivate many less fortunate people in less fortunate countries!

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Note: C-numbers link to chapters in: M.W. Peng & K.E. Meyer, 2011 International Business, London: Cengage.

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