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ENNEG310:InternationalBusinessanditsenvironment
UniversidaddeChile
Fall2016

Class#2
Tradecosts,Gravity&Trends

RodrigoWagner

Readings
Friday:ReadingQuiz:
Goals andmodes ofdoing international business.

First case:Tuesday March 17th

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ProblemSet1
WillbeavailableFriday.
Youwillbeassignedacountry!
You will be assigned a country!
Topics
GoalsofInternationalBusiness
DistanceinInternationalBusiness
Distance in International Business
UseofExcelsPlots
Get dataabout products anddestinations for exports
Comparative advantage

The size ofeach countryinthe map is

proportional to GDP

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Chilehasalow fraction ofglobalGDP

nearby
(like Australia,Unlike Germany or Canada)

Whotradeswithwhom?

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SizeMatters
Sizeofaneconomy:

GDP=Population*GDPpercapita
Directlyrelatedtothevolumeofimports&exports.
Why?
Why?
Moreproduction (soyoucanexportmore)
Moreincome (soyoucanImportmore!)

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TotalU.S.Trade
withMajorPartners(2006)

WhoseGDPislarger?
GDP=Population*GDPpercapita

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WhoseGDPislarger?
GDP=Population*GDPpercapita

36millionpeople.

112millionpeople

45,000USDpercapita

15,000USDpercapita

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FrancesExports

FrancesImports

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TheBasicGravityModel
Tradebetweentwocountries
=f(sizeofcountries
f (size of countries ,physical
physical distance )
+

Tij =A*(Yi *Yj )/Dij

Tij isthevalueoftradebetweencountryi andcountryj
Ai
Aisaconstantofproportionality
t t f
ti
lit (dependsonunitsforGDP,Distance)
(d
d
i f G
i
)
Yi theGDPofcountryi
Yj istheGDPofcountryj
Dij isthedistancebetweencountryi andcountryj

Usingmodel:predicttradein2033

Youwanttobuyshipsthatlast20yearsfortradeChinaUSA.
Whatifinthenext2decadesChinasGDPgrows100%,while
USGDPgrowsby50%.HowmuchwouldTradeUSAChina
change?
TradeUSAChina (2013)=A*GDPChina *GDPUSA /Distance
TradeUSAChina (2033)=A*GDPChina *GDPUSA /Distance
(A)Be3timestodays(200%growth)
(B)Be1.5timestodays(50%growth)
(C)Be2.5timestodays(150%growth)

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GeneralizedGravityModel
Inaslightlymoregeneralform
Tradeij =A*(Yia *Yjb )/Distanceijc
wherea,b,andcareallowedtodifferfrom1.

Butwhenyouestimatethea,bandc;they
tendtobecloseto1

The magic oflogarithms

(proportional scale)
Tradeij =A
A *(GDP
(GDPia *GDP
GDPjb )/Distance
) / Distanceijc
With logs multiplications become sums andpowers become
multiplications
ln (Tradeijj)=ln A+a*ln GDPi +b*ln GDPj c*ln(Distanceijj)
when you plot everything inlogs the coefficients (e.g. a)
areelasticities:they tell you how much %change in
Tradeij is created when there is a1%change inGDPi

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Exercise:
Plot andestimate the elasticity between trade
anddistance
d di t
using
i simpleregressions
i l
i
i E l
inExcel.

Homework:doit for your country

WhyDistanceMatters?
TransportCosts:(movinggoods)
Freightcarriercosts
g
Fuel&crewcosts(increasingindistance)
Capitalcosts:
Vessels(op.costincreaseswithtriplength)
Portinfrastructure(usuallynotrelatedtodistance)

MarineInsurance:Risksaccumulateoverlongertrips
Timecosts

Travelcosts(movingpeople)
Communicationcosts(movingideas)

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WhyDistanceMatters
Transportcosts(goods)
Freightcarriercosts
Marineinsurancecosts
Timecosts

Travelcosts(people)
Travel costs (people)
Communicationcosts(info)

TradecostsandtheINCOTerms

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Whydelaysarecostly
Opportunitycostoffloatinginventory
Annualinterestrate
Annual interest rate *(transitdays/365)
(transit days/365)*value
valueof
of
good
Small(<1%)inpractice.

Spoilage
LossofSale(stockouts)
Synchronization:Supplychainbottlenecks

MitigatingTimeCosts
Preservationtechnology reducedspoilageata
cost. Postharvesttechnology,AvoidPortStrikes!
Planning: ifshippingtakesweeks,thenshipthe
goodsweeksbeforetheyareneeded.
Problem:uncertainty(2kinds)
Inventories reduceriskofstockouts,
bottlenecksatacost.
Holdingcosts
Lossofoptionvalue

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Refrigeratedcontainers

Zarasjustintimesystem
ShipmentsweremadeoutofthedistributionCenter
[ p ]
[inSpain]twiceaweek,bytrucktoEurope[357stores]
, y
p [
]
andbyairfreighttostoresoutsideEurope,[92stores]
sothatstoresreceivedgoodswithin2436hoursof
shipmentinEuropeandwithin12daysoutside
Europe.Noinventorywasheldcentrally,andthere
wasalmostnoinventoryatthestoresthatwasnoton
thesellingfloor.
h
lli fl
(ColumbiaB.SchoolZaracase;takenfromProfHeadUBC)

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FrancesExports(withlegend)

Source:http://strategy.sauder.ubc.ca/head/book/

FrancesImports(withlegend)

Source:http://strategy.sauder.ubc.ca/head/book/

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Trade Costs may jump at international borders

Customs costs
(trade policy)

Transport
Costs
Transaction
Costs
Travel Costs

Distance Effects

Currency
Conversion
Costs

Communication
costs

Border Effects

Isphysicaldistance
theonlyeconomicdistance?
Notreally.
Culturaldifferences:moretradeoftheUSwith
AustraliaandNewZealandthanGravitywouldpredict.
TransportationCosts
Year1700ish:Cost(40kminland)=Cost(CrosstheAtlantic)
h
( k
l d)
(
h
l
)

Countrybordersmatter.
Freetradeagreements

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AneconomicmodelisNOTreality
Reality

SimplificationsoftheWorld
Models
M d l
Notamodeltofollow
ButaLegoversionofabuilding

Thisistheworld!
Omitafairchunkofreality

Facts,Data
(Thereisstillmeasurement Usefulwhenyouneedtorun
th
thoughtexperimentsand
ht
i
t d
issuesthough).
h
h)
youdonotwanttobuilda
buildingtodestroyit.
BEWARETHATFITOFNEWTONIANPHYSICSTOSOMEPLANETEARTHISSUESISCLOSETO99%;
BUTMODELSINSOCIALSCIENCEDONOTFITTHATWELL
SOCIALREALITIESAREMORECOMPLEX.STONESDONOTHAVEEXPECTATIONS

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CulturalDistance

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Outsourcingtrends
Thedeathofdistance
ForsomeJobs

Butnotforothers

Intermediaries andglobaltrade

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Concludingremarks
Whoareyourmaintradingpartners?
Who are your main trading partners?
Casebycasebasis.
(Parsimonious):Gravity:size,physicaldistance,other
economicdistance/barriers.

Outsourcing
Outsourcing&ChangeinCompositionofUS
& Change in Composition of US
Production

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