LEARNING OBJECTIVES After studying this chapter, you should be able to: 1.Explain the concept of institutions and their key role in reducing uncertainty 2.Articulate the two core propositions underpinning an institution-based view of global business 3.Identify the basic differences between democracy and totalitarianism 4.Outline the differences among civil law, common law, and theocratic law 5.Understand the importance of property rights and intellectual property rights 6.Appreciate the differences among market economy, command economy, and mixed economy 7.Participate in three leading debates on politics, laws, and economics 8.Draw managerial implications

FORMAL AND INFORMAL INSTITUTIONS institutions - formal and informal policies popularly known as “the rules of the game” institution-based view - leading perspective on global business in which firms constantly monitor, decode, and adapt to the changing rules of the game to survive and prosper

FORMAL AND INFORMAL INSTITUTIONS institutional framework - formal and informal institutions governing individual and firm behavior formal institutions - laws, regulations, and rules regulatory pillar - coercive power of governments

FORMAL AND INFORMAL INSTITUTIONS informal institutions - institutions represented by norms, cultures, and ethics normative pillar - how the values, beliefs, and actions of other relevant players - collectively known as norms - influence the behavior of focal individuals and firms cognitive pillar - internalized, taken-for-granted values and beliefs that guide individual and firm behavior

WHAT DO INSTITUTIONS DO? key role is to reduce uncertainty by influencing individuals’ and firms’ decision making by signaling which conduct is legitimate and acceptable and which is not transaction costs - costs associated with economic transactions, costs of doing business opportunism - self-interest seeking with guile institutional transitions - fundamental and comprehensive changes introduced to the formal and informal rules of the game that affect organizations as players

POLITICAL SYSTEMS political system – refers to the rules of the game on how a country is governed politically.

POLITICAL SYSTEMS Democracy - political system in which citizens elect representatives to govern the country on their behalf  An individual’s right to freedom of expression and organization is a fundamental aspect of democracy that is relevant to the effective conduct of global business

POLITICAL SYSTEMS totalitarianism (or dictatorship) - political system in which one person or party exercises absolute political control over the population  Communist totalitarianism centers on a communist party  Right-wing totalitarianism characterized by intense hatred of communism with one party, typically backed by the military, restricts political freedom, arguing that such freedom would lead to communism

POLITICAL SYSTEMS  Theocratic totalitarianism - monopolization of political power in the hands of one religious party or group  Tribal totalitarianism - one tribe or ethnic group (which may or may not be the majority of the population) monopolizes political power and oppresses other tribes or ethnic groups

POLITICAL SYSTEMS political risk - associated with political changes that may negatively impact domestic and foreign firms

LEGAL SYSTEMS legal system - rules of the game on how a country’s laws are enacted and enforced civil law - The oldest, most influential, and most widely distributed law around the world. It uses comprehensive statutes and codes as a primary means to form legal judgments. common law - shaped by precedents and traditions, English in origin, based on previous judicial decisions theocratic law - based on religious teachings

PROPERTY RIGHTS property rights - legal rights to use an economic property (resource) and to derive income and benefits from it intellectual property - intangible property that results from intellectual activity (such as books, videos, and websites) intellectual property rights (IPRs) - rights associated with the ownership of intellectual property

PROPERTY RIGHTS patents - legal rights awarded by government authorities to inventors of new products or processes, who are given exclusive (monopoly) rights to derive income from inventions through activities such as manufacturing, licensing, or selling copyrights - exclusive legal rights of authors and publishers to publish and disseminate their work trademarks - exclusive legal rights of firms to use specific names, brands, and designs to differentiate their products from others piracy - unauthorized use of intellectual property rights

ECONOMIC SYSTEMS economic system - rules of the game on how a country is governed economically market economy - characterized by the “invisible hand” of market forces command economy - all factors of production are government- or state-owned and controlled, and all supply, demand, and pricing are planned by the government mixed economy - characterized by elements of both a market economy and a command economy

ECONOMIC SYSTEMS factors of production: natural resources – things that are useful in their natural state, such as land, forests, minerals, and water human resources – anyone (from company presidents to grocery clerks) who works to produce goods and services capital – resources (such as money, computers, machines, tools, and buildings)that a business needs to produce goods and services entrepreneurs – innovative businesspeople who are willing to take the risks involved in creating and operating new businesses knowledge – the collective intelligence of an organization

Drivers of Economic Development: Culture, Geography, or Institutions? More generally, what drives economic development in different countries?  Availability of Natural Resources?  Geographic Location?  Formal Institution?

Speed and Effectiveness of Institutional Transitions: China versus Russia Chinese (remain totalitarian) are known for their “gradualist” approach, whereas the Russian (move to democracy) transitions are noted for their fast, radical characteristic. market transition debate – The debate about how to make the transition to a market economy work in the most effective and least disruptive way. path dependency – The present choices of countries, firms, and individuals are constrained by the choices made previously.

Measures of Political Risk: Perception vs. Objective Measures How to actually measure political risk has led to a significant debate.  One side suggests that political risk is based on perception and that the best measures can be found through surveys of international executives on their perceptions. However, critics argue that perception can be deceiving and misleading. (They point out that perception-based rankings in the 1990s failed to provide warning of political changes in Indonesia, Malaysia, South Korea, and Thailand.)  Critics advocate objective measures of political risk that take into account a country’s underlying political and regulatory structures.

herd mentality – A behavior influenced by the movement of the crowd or the herd) with little independent judgment.