Multinational Corporations (MNCs): Growth, Problems and Risks

After reading this article you will learn about Multinational Corporations (MNCs):- 1. Reasons for the Growth of MNCs 2. Problems Faced by MNCs 3. Political Risks 4. Problems and Advantages from the Growth of MNCs.

Reasons for the Growth of MNCs:

(a) Availability of Raw Materials:

If good quantity of materials are available in a country for a particular product, it may import the required plant and machinery including technical know-how if required and export the finished product to other countries instead of importing raw material and export the finished product after manufacturing for non-availability of materials by avoiding two-way shipping traffic.

Similarly, for the same reason, many industrial firms, particularly the mining companies, e.g., copper, gold, iron-ore etc. have little choice and they are localised at the sites of their raw materials.

(b) Non-Transferable Knowledge:

It is quite possible for firms to sell their technical knowledge as patent rights and to issue the licence to a foreign producer at the cost which is known as royalty. Naturally it relieves the firm from making direct investment.

At the same time, a firm can make a larger amount of profit from foreign production itself who has a production process or product patent since there are some knowledge which can neither be sold nor be transferred to others and which is the result of past experience for a long period.

(c) Protecting Secrecy:

If secrecy is the criterion direct investment may be preferred to issue a licence for a foreign company to produce a product This has been pointed out by Erich Spitaler.

(d) The Product Life Cycle Hypothesis:

In order to increase profit, a corporation must venture abroad particularly where markets are not developed and where there is less competition if it is found that opportunities for further gains at home eventually dry up This induces to make direct investment in the natural consequence of being in business for a long time and quite successful at home.

There is an inevitability in this view that has concerned those who believe that American firms are further along in their life cycle development than the firms of other nations and are, therefore, dominant in foreign expansion .

(e) Availability of Capital and Organisational Factors:

Access to capital markets tends to a firms to move abroad Because it is known to us that the smaller one-country does not possess the equal access to cheaper funds like larger firms and thus larger firms can move towards foreign markets with a lower discount rate as far as practicable.

(f) Avoiding Regulation:

In order to avoid various regulation direct investment are made by banks It may also be treated as a motivation for foreign investment by manufacturing firms For example, in U.S.A. some firms have moved to escape standards fixed by the U.S. Environmental Protection Agency, and other agencies.

(g) Production Flexibility:

A time comes when cost of production in one country may be low due to a real depreciation of its currency. To take that advantage, various multinational firms may relocate production to exploit the opportunities what real depreciations offer.

It, no doubt, requires that necessary technology and improved methods can be transferred easily between the countries and the Government and Trade Unions must not make the shifting of production very complicated.

(h) Avoiding Tariffs and Quotas:

Another reason for producing abroad instead of producing at home and shipping the product concerns the import tariffs that might have to be paid’. In other words, if there is import duty, a firm will produce its article inside the foreign market in order to avoid import duty.

It is known to us that tariffs protect the firms engaged in production in the foreign market, irrespective of the fact that the firm is a foreign one or indigenous one.

Thus, the movement of firms is the result of direct investment because tariffs cannot express why a foreign firms tends to go abroad The same thing is happened is case of tax concessions, subsidy or free land offerings, etc. i.e., they cannot explain the reason for direct investment as we know, usually, foreign firms are not helped more than the domestic firms.

In other words, there are other reasons for direct investment as well. Although we know that threat of tariffs or quantitative restrictions on imports in the form of quotas have leaded direct investment abroad.

There are some other reasons for the growth of MNCs, viz:

(i) Integrating operations,

(ii) Protecting Reputations,

(iii) Indirect Diversification etc.

Problems Faced by MNCs:

Country Risks:

While making overseas direct investment, it becomes necessary to allow for risk that may arise from investment in a foreign country. No doubt, country risk is an important aspect in MNC .This term is used with the terms political risks and sovereign risks.

Country risk is used as a broader sense of the term than the other risks. Country risk relates to the possibility of losses due to country’s specific economic, political and social events.

Therefore, all political risks are country risks, but all country risks are not political risks. Political risks, however, relates to the additional possibility of losses on private claims and also on direct investment. Sovereign risk, on the other hand, relates to the possibility of losses on claims to foreign Government or Government agencies.

However, sovereign risk arises from bonds and banks loans. As we are going to focus the risks faced on foreign direct investment, thus we are concerned about Country risk.

Country risks which are faced on foreign direct investment are connected with the local economy which again arises due to the possibility of confiscation (Government take over without compensation) and also due to the possibility of expropriation (Government take over with compensation) Moreover, there are political and/or social risks (both of confiscation and expropriation) of wars, revolution etc.

Although these are not the effect of foreign Government they can destroy the investment in addition to the risk of currency convertibil­ity. We should make necessary adjustments in APV calculation for this purpose. The required adjustment can be done to the discount rate by adding a risk premium or to expected cash flows by putting them into their certainty equivalent.

Political Risks of MNCs:

Information about political risks can be available from an index, e.g.. Political System Stability Index etc. which contain data socio-economic characteristics, social conflicts, the rate of economic growth etc. Objectives proxy measure, however, are explained for all the factors. Such index ranks countries according to their political stability.

The same is prepared after combining these proxies Political risk fails to differentiate the various ricks in various industries since they measure the risks of the country only. It is to be noted that political risks differ between the firms of the same industry and these risks are also affected by the firms themselves.

Haw to Reduce Political Risks:

The followings are the ways by which political risks can be reduced, viz:

(i) To keep control of crucial Elements of Corporate operation;

(ii) Joint venture;

(iii) Local Debt; and

(iv) The Purchase of Investment Insurance.

Problems and Advantages from the Growth of MNCs:

Sometimes it is said that multinationals may make foreign exchange market volatile. MNCs have been blamed for such an act. Over and above, it has been expressed that multinationals based on U.S.A. can defy the objective of foreign policy of the Government of USA through their foreign branches and subsidiaries.

A firm may avoid sanctions simply by operating through overseas subsidiaries. For this, multinational corporations present a potential for conflict between national Governments and positional for conflict even arises within international or multinational trade unions.

It may also be stated that multinationals can use monopoly power against the increase in prices for their products. The data collected and presented by the MNCs are accepted by the Government as they have extensive operations The collected data may or may not be correct but there is no way to control or punish the culprits.

Another significant problem of MNCs is that it tends to concentrate and specialise their good as well as “bad” activities within areas which means Research and Development work within the home country That is why, highly trained technical school graduates would prefer locally owned and organised firms who think their employment and promotion opportunities diminished in their own country.

It may also be stated that MNCs have made better prospect for better paid workers in their home countries and it is also said or argued that lower-wages jobs are going to be declaimed from the home countries.

Sometimes it may be stated that since MNCs. are very large, they reduce competition which is not absolutely correct For some industries, viz. computer, steel, ship building etc. where a single country may support one or only a few enterprises in the industry, competition is gradually increased by the foreign MNCs.

In short MNCs compete in international market and monopoly powers in somewhere may even greater where there is no MNCs. MNCs have also some benefits they transfer capital and technology to less developed or underdeveloped nations (LDCs) and thus balance their economic development.

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