A Silver Lining (Part 5)

Would it be wishful thinking to hope that that there is a silver lining to the Covid-19 cloud hanging over the world? Every event that brings about change also brings about opportunities.

International trade is not driven by ‘trade deals’, but rather by relationships and sound market research.  If we have a unique product that the people in the target market actually want we will be able to develop an export market for the product, regardless of any duties, if our product is not unique, then there are several barriers to overcome.

Every government,, to a greater or lesser degree, protects the businesses that operate within the country from external competition. This protection takes many forms, of which customs duty is but one, The EU for example uses regulation and standards as it’s main form of protection.  In the USA you find that you are confronted with different trade regulations in virtually every state and while you may have had your product approved for sale to the consumer in California, but that does not mean it can be sold throughout the USA.

Not least of the barriers is cultural, for example in the 1980’s Japan started opening it’s markets to the world, the USA found that they were unable to sell their long grain rice into Japan. When they complained that they were not being given fair access they were told ‘the Japanese people eat short grained rice, supply what the people want and not what you think they need.’ I also met with a delegation from Australia trying to sell Lamb who had been told that the Japanese people found the strong smell of lamb offensive. The Australians said to me “If only we could ‘de-pong’ the lamb we would make a fortune.”

Obviously one might be able to overcome some of these problems with a major marketing campaign that aims to ‘create a want’ for your product. Changing cultural preferences through advertising is a far heavier cost than WTO import tariffs, and, has no certainty of success.

International trade can be broken into a few broad categories. Firstly we have Primary production which supplies raw materials for further processing, to which we can add bulk chemicals, these all tend to have well established international markets and, except where a country might have it’s own local sources of production, few, if any, import tariffs or barriers are imposed, other than political. This trade continues regardless of any trade deals, and is mainly dependent on cost of production or should I say the ‘cost equation. Secondly we have Capital Goods or plant and machinery required for production, and in this category the uniqueness as well as cost of production come into play, few countries apply barriers to Capital Goods which have the potential to increase output in that country. Thirdly and fourthly we look at ‘supply chain’ into the manufacturing and consumer markets. These obviously are very dependent on the cost equation, further complicated by distance from the target market. The further one is from a market the more difficult to fit into a ‘just in time’ source of supply resulting in an increased capital requirement by your potential buyers in supporting you. The final form of International trade is ‘counter trade’ usually at Government to Government level, a sort of ‘we will sell you this, if you buy that from us’.

Most of that trade is is to a large degree dependent on the ‘cost equation’, this is further complicated by the volatility of the foreign exchange markets (I will discuss this further in the next part). This volatility is the biggest inhibitor of investment by business to expand output based on an export market potential. If you have little certainty that you will be able to achieve the same price from your target market in a years time it becomes much more difficult to make the decision. If a business knows that it’s Government will manage it’s economy so that it’s exchange rate is relatively fixed between certain parameters, decisions become a lot easier.

To understand counter trade, we can look at Trump with his import duties and offers to do a deal provided China imports ‘x’ value of agricultural produce from the USA, I seem to remember a similar offer to the EU. In the UK for example we see that while oil remains one of our biggest exports, we are importing a greater quantity of oil than we export from the Gulf States. This importation is mainly as a means of inducing the Gulf States to import Arms and Munitions from us. ‘Trade Deals’ generally relate more to the level of counter trade than any other part of International trade.

WTO rules are fairly straight forward in that they set a level of tariffs that may be applied on different categories of goods, with exemptions granted to developing economies. Countries are allowed to apply ‘Dumping Duties’ where there is state aid to an industry or company or it is selling in foreign markets at below the prices that it sells in it’s local markets. Currently because there are insufficient judges for it’s court to hear an appeal against the application of a dumping duty and Trump’s refusal to confirm the appointment of any new judges it has become toothless.

In looking at the cost equation, if we simply look at minimum wages around the world we are in for quite a few surprises. For example the USA has an overarching minimum wage of $7.50 per hour which implies for a UK producer to be competitive we would require an exchange rate below £1 =  $1., however as I said earlier each state has it’s own legislation and states like California have a higher minimum wage rate than the UK. Australia, on the other hand, based on current exchange rates has a higher minimum wage than the UK. Wages at the lower end do not tell the whole story as there is more to the cost equation than simply wage rates.

I have tried to illustrate that penetration of foreign markets from afar is not straight forward, as it is mainly dependent on Companies investing in expanded production, which decision is difficult to make in the face of price (currency) uncertainty. Strong exporting countries (Japan, Germany and now China) have always had governments that ensure that their exchange rate ensures that they can be competitive in foreign markets. A coherent and understandable economic policy is the biggest driver of International trade.

 

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