Global Business 4th Edition by Mike Peng

Exercise 20

Twelve Recommendations to Enhance UK Export Competitiveness 1
Mike W. Peng (University of Texas at Dallas)
Klaus E. Meyer (China Europe International Business School)
Drawing from the resource-based and institution-based views, two consultants engaged by the UK government make 12 recommendations to managers and government policymakers on how to enhance the competitiveness ofMade-in- UK exports.
Because manufacturing drives exports, innovation, and productivity, it matters a great deal by ultimately impacting standards of living and economic performance. We offer 12 recommendations to firm managers and government policymakers, which are organized according to the resource-based and institution-based views (Exhibit l).2
Three Recommendations for Firm Managers
Recommendation 1: Build organizational strengths based on the resource-based framework by focusing on the value, rarity, and instability (VRI) of resources and capabilities
There is nothing novel on the proposition that firms compete on resources and capabilities." The subtlety comes when managers attempt to distinguish firmspecific resources and capabilities that are valuable, rare, and hard to imitate, and build organizational strengths (such as dynamic capabilities) to continuously generate new resources and capabilities. Resources and capabilities not meeting the V R I criteria will need to be discontinued and/or outsourced unless they have critical linkages to firms' core value adding activity. Think o f the Burberry dog cover-ups and leashes, which conti ibuted to sales but not corporate strengths. A rigorous resource-based analysis helped managers (rediscover that it is Britishness more specifically Burberry trench coats designed and made in the UK- that would meet the V R I criteria, thus deserving to be the center of giaviiy around which organizational strengths should be built (see In Focus 4.2).
Recommendation 2: Find and leverage unique, knowledge- based, deep niches
To be competitive over the broad range o f segments within any given industry is increasingly challenging. A focus on unique, deep niches by leveraging specialized knowledge is the way to go. German Mittelstand firms such as Krones (beverage bottling and packaging systems), Heidenhain (encoders for manufacturing equipment), and Dorma (moveable walls) may not be household names, but they hold up to 90% worldwide market share in their deep niches. Mittelstand firms as a group collectively contribute 40% o f German exports, to r UK firms, such niches exist in manufacturing industries using traditional technologies such as equestrian goods and textile threads, and may exist in emerging industries such as additive manufacturing, smart grid, and tidal and wave energy system. Ideally, such niches will focus on the high end, leveraging U K strengths in design, creativity, and R D.
Recommendation 3: Look for value-adding ways to combine manufacturing with services
Manufacturing per se is often relatively easy to imitate. Smart combination of manufacturing and services will make it harder for rivals to imitate. A well-known success story is Rolls-Royce's transformation from an engine producer to a service provider for airlines. Similar examples galore where complex appliances (such as lifts, commericial vehicles, and power stations) are manufactured for use over long periods, especially by corporate customers. In the future, it is possible to envision UK leisure marine firms such as Fairline Boats (a world leader in the 38-80 ft powerboat segment) to both export Made-in-UK boats and provide 3-D printers that can "print" out spare parts on-site for export clients around the world - an interesting example of smart combination of manufacturing and services.
Nine Recommendations for Government Policymakers
Recommendation 4: Support pre-competitive manufacturing capabilities and future technology platforms
The UK government, like all EU governments, is restricted in the ability to provide direct subsidies to firms. In global competition, this may place UK (and EU) firms at a disadvantage relative to their rivals in the US and Asia, which can benefit from more direct government support. However, there are ways for the UK government to be more active. For example, Technology Strategy Board (2012) announced its fu nd ing of at least £50 million a year to support pre-competitive manufacturing capabilities and future technology platforms. Such much-needed investments will speed up the process for successful commercialization and help firms jum p through the hurdles associated with the "valley of death" (good ideas flame out before emerging technologies become competitively and commercially successful).
Recommendation 5: Push firms to reach for the high end and do not support competition on low cost for the sake of jobs
Bucking the trend that low-cost manufacturing jobs are migrating to low-cost countries is neither advisable nor realistic. The UK government should encourage firms to reach for the high end, which thrives on high productivity. Focusing on low cost may generate short run benefits, but will in the long run result in severe stagnation of manufacturing productivity. Thus, the U K should steer away from attempts to compete on lower cost- for example, through policy measures that lower labor cost and lengthen permissible work time. Such policies may encourage manufacturing in sectors where the U K would be competing with countries that have much lower per capita income (such as those in Eastern Europe or East Asia). In the me diumterm, the UK would be squeezed out o f this market segment. In other words, attempts to bu ild such low-cost sectors (such as final assembly o f low-end electronics or cars) may generate jo b growth in the short run, but are not sustainable in the long ru n- unless the U K is willing to accept a fall in average incomes to the level of, say, Poland or Romania.
Recommendation 6: Strengthen human capital to enable advanced manufacturing
Wh ile hardly an original recommendation, this point must be emphasized: U K man u facturin g will not (re)gain world-class competitiveness in the absence of high-level h um a n capital. U K firms' endeavors to bu ild high-end, high-productivity-based capabilities are essentially efforts to engage in human capitalintensive manufacturing. Effective government support can help to b u ild h um a n resources that enable such advanced manufacturing. This leads to two ideas. First, the UK has leading-edge universities and technology clusters, yet the gap between the top end and the average" h um a n capital is rather large. Therefore, the UK ought to foster its elite institutions while at the same time enhancing the diffusion o f knowledge and skills from the elite institutions to the second and third tier.
Second, the UK needs to bu ild capabilities in the workforce that enable world-class manufacturing. This would entail investing heavily in human capital development. Such investment should in part come from the government. This is because the positive spillovers of skills and capabilities (especially from low to medium levels) from productive individuals to society at large are substantive. Essentially we advocate the raising of skills beyond the elite institutions, because sustaining a ugh income for an entire nation requires high performance capabilities possessed by a broad segment o f the population, and not only by the elites. Three specific priorities can be:
• Providing more resources for primary education in the state system to enable children to enter a path o f personal development and human capital formation that is independent o f their parents' ability and willingness to invest in their education. This issue is often discussed as a social concern m the UK, yet it has- at least in the longrun- major economic and competitiveness im p lications. Thus, it is relevant to the long ru n competitiveness of U K manufacturing exports.
• Prioritizing vocational training, which has been severely weakened by past policies such as abolishing traditional apprenticeships and converting polytechs into (too often second or third rate) u n iversities. One stream o f actions may extend initiatives to re-introduce vocational training through apprenticeships, which requires multi-year courses in collaboration between industry and educational institutions on a more comprehensive basis and with more resources-far more than what current pilot projects envisage. Germany and other Northern European countries show examples on how this can bed one-with a positive impact on export competitiveness. Another stream of action may focus on colleges and Universities that provide vocational training, notalS providing funding regimes that encourage such training and eliminate the evaluation of third rate universities by the criteria more appr0prj_ ate for Oxford and Cambridge (which de facto encourages third or fourth rate research of very limited value).
• While the first two actions require much wider efforts and political will, we believe that there is a third action that is smaller in scope and more practically actionable. Given that skilled manufacturing workers are now a scarce resource in the UK but downturns and recessions are inevitable, the U K can take a page from the playbook of Germany's labor market arrangements to reduce employment volatility. Since the 1970s, German firms can apply for subsidies to keep workers on the payroll du rin g downturns. More recently, a "mini-job" program targets younger workers and unemployed but experienced older workers, providingjobs for 15 hours per week at a set pay rate Such government efforts to reduce labor market volatility, especially du r in g downturns and recessions, enhance employers' willingness to hire and train workers and employees' motivation to invest in and enhance their own h um a n capital. Such government support can also foster the wider spread practice o f high commitment work systems. Centered on employee engagement, h igh commitment work systems can contribute toward innovation and enhance organizational performance.
While our first three recommendations (#4-#6) for policymakers are resource-based in nature, a iming at helping UK firms enhance their capabilities, ou r next six recommendations (#7-#12) for policymakers-the bulk o f ou r advice-are derived primarily from the institution-based view.
Recommendation 7: Remove uncertainty by clarifying the UKs commitment to stay within the EU
As rules of the game, institutions serve to reduce uncertainty. Managers hate uncertainty, especially when it comes to long-term commitments such as constructing a new manufacturing plant. Despite the EU. problems, the U K s periodic threats to leave the such as Prime Minister David Cameron's speech in January 2013 (while we were in the middle o f doing this research)- heighten uncertainty and undermine UR trade and investment. In view o f the large and growing importance o f regional integration in supply chains and o f the fact that the EU accounts for more than 50% of UK exports, an exit o f the U K from full EU integration would be disastrous for much o f UK manufacturing. Given that emerging economies only collectively purchase less than 8% of UK exports, the loss of exports to the EU will not be compensated by the additional exports to emerging economies. Uncertainty over the status of the U K 's membership in the EU- and hence the specific rules applying to trade between the U K and other EU countries- is in particular likely to depress inward FDI, especially manufacturing investment by non-EU firms in regional platform investment. Historically, the UK has been quite successful in attracting investors looking for a base to serve EU markets-Toyota, Nissan, and Honda come to m ind. But such investment in particular will be on hold or go elsewhere i f the uncertainty about the future status is not removed. Moreover, participation in regional value chains (and hence intra-regional trades in components) facilitates the exportation o f downstream products eventually destined for countries outside the EU. Given the relatively slow growth in the EU, future marginal increases o f benefits for the U K to stay with in the EU may be less than what they have been in the past. However, we see no reason to p u t at risk the remaining benefits, which are very substantial (i.e., over h a lf of UK exports).
Recommendation 8: Enhance certainty by negotiating more free trade agreements (FTAs).
Firms from FTA member countries typically increase their trade and investment activities due to the tremendous certainty brought by FTAs. The EU currently has FTAs with 28 countries: Albania, Algeria, Andorra, Bosnia and Herzegovina, Chile, Colombia, Croatia, Egypt, Faroe Islands, Iceland, Israel, Jordan, Lebanon, Liechtenstein, Macedonia, Mexico, Montenegro, Morocco, Norway, Palestinian Authority, Peru, San Marino, Serbia, South Africa, South Korea, Switzerland, Tunisia, and Turkey. The EU recently concluded negotiations with Singapore, and is also currently negotiating with three individual countries (India, Japan, and Russia) and three regional entities (Association of Southeast Asian Nations [ASEAN], Gulf Cooperation Council [GCC], and Mercosur).
Firms clearly prefer multilateral agreements to bilateral FTAs. Bilateral FTAs tend to create different rules applying to different pairs o f export/import countries, which greatly increase the bureaucracy that exporters and importers have to deal with and reduce the scope for scale economies. Therefore, we prefer a multilateral FTA between the EU and ASEAN to a bilateral FTA, for example, between the U K and Singapore. In order to increase more UK manufacturing exports, we recommend that the UK advocate more EU efforts to negotiate the following FTAs:
• Complete the negotiations for the Transatlantic FTA with the United States and Canada. Progress for the Transatlantic FTA has been slow, but may be accelerated following recent initiatives on both sides o f the Atlantic.
• Another obvious candidate with which the UK should be interested in having an FTA is the Australia- New Zealand Closer Economic Relations Trade Agreement (ANZCERTA or CER).
• In the long run, the UK (via the EU) should entertain FTA negotiations with China. China already has FTAs with ASEAN, Chile, Costa Rica, New Zealand, Pakistan, Singapore, and Peru, and is negotiating with Australia, Iceland, Japan , Norway, and South Korea as well as two regional bodies: GCC and Southern African Customs Union (SACU). Given the U K 's low import market share in China, an FTA will definitely help promote more UK exports there.
Recommendation 9: Create a tax regime that is competitive, stable, and fair
Global competition is also about tax competition. While the U K corporate tax rate of 28% appears to be relatively pro-business, the tax regime has recently given a decidedly mixed message to U K firms. Legislation designed to encourage R D spending in the UK was followed by cutbacks in tax deductions for capital expenditure. Some of the UK's competitors have aggressively used favorable tax as a means to lure investment and jobs. For example, Ireland only levies 10% corporate income tax on manufacturing income between the 1980s and 2002 and 12.5% since 2002, thus attracting many investors to locate in Ireland. In addition, new EU members Hungary and Bulgaria have aggressively reduced their corporate income rates to 16% and 10%, respectively.
A tax system will however only be stable i f it is generally accepted by the population (i.e., the electorate in a democracy) to be fair. Some corporate taxation systems de facto do not tax firms at the location where the profit is generated, but (by default or through consciously created loopholes) allow firms to shift profits from high tax locations to low tax locations through practices such as transfer pricing and excessively high licensing fees. This is likely to undermine the legitimacy of an international system of tax competition. In other words, if nations compete on taxes, there also need to be commonly agreed rules (i.e., institutions) by which this competition takes place. Perhaps surprising for most U K observers, the UK may actually benefit from more integration in the EU on this matter because it would prevent incidences such as Google and Starbucks paying virtually no tax in the UK. Given that the future of UK manufacturing will be mostly high end, high tech, and high R D, commoditized manufacturing may very well move to low tax jurisdictions. Thus, it is imperative that the UK government create and maintain a tax regime that is competitive, stable, and fair. Otherwise, just like other forms of uncertainties, uncertainties associated with the tax regime will h u rt the UK's attractiveness as a manufacturing and R D location, and undermine future investment and exports. Reducing corporate tax rate from 28% to 23% in 2014/15 will be helpful. But clearly more can be done.
Recommendation 10: Attract more inward FDI and promote more outward FDI
Given that foreign multinationals generate approximately h a lf o f UK manufacturing exports, it seems imperative that the UK continue to attract inward EDI in order to increase exports. The most important policies to this end are the same that also promote domestic investment in manufacturing: free trade within the region and valuable, rare, and hard-tomiitate resources that foreign investors can tap into.
Exports are generated by a combination of "push" and p u ll" effects. While UK-basecl firms (including UK-based foreign multinationals) "push" exports, UK multinationals- via outward FDI abroad- "p u ll" UK exports into their host economies, often in the form of high end products, components, and service exports. Given that the U K has the second largest stock of outward FDI, it seems natural that efforts be strengthened to promote more outward FDI, especially into downstieam and service activities. Incorporating the protection of PDI into FTAs (fostering a formal institution) and promoting the views of businesses "out in tho woorld as ambassadors and supporters of the British to help.
Recommendation 11: Facilitate the mobility of highly qualified individuals into and out of the UK
Mobility of people is an essential precondition for international trade, especially in the highly both manufacturing and services. The U I i benefits front betng s EU peers. This attraction enables many knowledge based, creative industry sectors to thrive, and facimj; he coord.nat.on ofglobal operations out o f the UK In this regard, the U K government policy has been c o n J m g to say the least. O n the one hand, Deputy Prime Minister Nick Clegg (2013) wrote in the continue to be one o f the most open economies on he planet welcoming trade and investment and welcoming talented individuals who wish to make a con- " London to Britain." O n the other hand, shrinking immigration quotas, more visa application procedures abstention from Schengen area free-travel ZtZ l aT en d * citizenship tests all send a very strong, disconcerting message th a t_ in a complete reversal of UKpoIicies over the past century or ore t le U K no longer welcomes skilled immigrants r temporary workers. In summary, i f the UK is serious about promoting export competitiveness, it will have to ser.ous about making it less cumbersome for highly qualified m dm duals to move into and out of the UK.
Recommendation 12: Lead efforts to lift regulatory trade barriers such as the EU arms embargo on china
Removing regulatory trade berried can obviously facilitate more UK exports and generate more jobs Commanding a 6% world share, aerospace and defense represent one o f the UKs most globally competitive manufacturing industries. The UK is desperate to expand manufacturing exports to China, where currently on China smce 1989 due to the Tiananmen Square L id e n t. During the 1980s, the UK, as well as other EU members and the US, did export to Chin a a limited amount chary aerospace products (mostly avionics and engines). Although Chin a was eager to modernize its military with Western help in order to deter the Soviet threat, Ch in a 's financial means were extremely limited. 5 Yet, since 1989, the US and the EU have imposed arms embargos on Chin a and cancelled all arms contracts. In the 1990s, as China became more wealthy but could not obtain arms from the West, it turned to Russia for advanced weaponry. Ch in a has become the number one importer o f Russian arms and one o f the world's largest arms importers. China now has several hundred high-performance Sukhoi 27 Flanker fighters at the cost o f billions of dollars, suggesting a missed opportunity o f exporting Made-in-UK high performance jets such as Euro fighter Typhoon.
At first glance, our recommendation may appear outside-the-box (or even radical). It is not. From a resource-based perspective, the defense sector- and the aerospace industry in particular- is an area where the UK has cutting-edge capabilities that it can exploit, but needs to continuously renew to remain globally competitive at the h igh end. From an institution based view, already in 2004, the EU planned to lift the embargo by 2005. But intense US pressures forced the EU to abandon the plan. In 2009, U K Business Secretary Peter Mandelson stated that the ban should be phased out. Ch in a is an officially recognized Strategic Partner o f the EU. Not surprisingly, China has called the ban "absurd," "puzzling," and "political discrimination" against a Strategic Partner. In other words, it is time for the U K to quit "lecturing" countries such as Ch in a on how their societies should be ru n (despite their political imperfections).1
Moreover, we have to ask: who has benefitted from the EU arms embargo on China? Obviously, Russian aerospace firms such as Sukhoi. Further, US aerospace firms such as Boeing and Northop Grumman also benefit, not by exporting to Chin a (they do not), but by curtailing the economies o f scale o f UK (and EU) firms that would have been gained by exporting to China. In other words, the arms embargo has helped enhance the competitiveness o f UK (and EU) firms' global rivals in Russia and in the United States.
China is likely to be an eager customer for military and aerospace technologies. A simple Porter five forces analysis suggests that China is not likely to be so happy with the bargaining power o f its sole high-tech arms supplier, Russia. Fostering more competition, dual sourcing is always better than single sourcing. However, delaying this liberalization further is likely to undermine this demand. With the rapid development o f the aerospace industry in Chin a (which started testing two stealth fighters in the last two years and an advanced military transport je t in January 2013), China may no longer be interested in UK (and EU) aerospace and defense products even when the embargo is lifted. We understand that this recommendation is likely to be controversial because of its potential geopolitical and military ramifications. However, given our mandate to search for the future markets for UK manufacturing exports with a view to 2050, we argue that it is important that the issue be discussed free from prejudices.
Conclusion 5
In global competition, no advantage is forever. As the first industrial nation, the UK enjoyed significant firstmover advantage. In 1900, with 2.2% o f the world's population it generated 15% o f exports. But it is not realistic to sustain this level o f preeminent performance in the face of increasingly strong global competition. However, it is important to note that the U K is still p u nching above its weight: with 0.9% o f the world's population, it currently generates approximately 3.3% o f the world's exports- including 6.6% o f service exports and 2.6% o f goods exports.
What does the future hold for UK manufacturing exports? Lacking crystal balls, we have to gain a deeper understanding of the past if we endeavor to engage in the perilous exercise o f predicting the future. The data that we have analyzed suggest that the UK's relative decline in manufacturing appears to have accelerated in the last decade, not only vis-a-vis emerging economies but also relative to European peers. In the 1980s and 1990s, there was a widespread belief in the UK that service growth would more than compensate for the relative loss o f manufacturing capabilities. Today, in part as a consequence o f policies launched two or three decades ago, the U K is indeed a global leader in many service sectors with a service trade surplus. The problem, however, is that the corresponding deficit in the trade of goods is so large and growing that it cannot be compensated by the success o f service exports. In the future, reviving and strengthening UIC manufacturing seem to be a must.
In conclusion, our Review suggests that UK manu facturing firms have good opportunities to compete in both old and new segments within "high end" industries, if they can create and occupy deep niches for themselves. To this end, we recommend focusing policy efforts on developing world-class competitiveness of both individuals and firms (and hence o f the nation), and to enhance an open and pro-competition trade and investment environment. From the resourcebased and institution-based views, the key to winning the future markets for UK manufacturing exports lies in (1) UK firms possession o f valuable, rare, and hardto- mutate resources and capabilities that can translate into products appreciated by customers, and (2) the UK government's resolve and courage to embrace policy challenges that will ultimately make the nation more competitive and prosperous.
1) This case is an expert from a consulting report commission by the UK Goverment Office for Science as part of the two-yera {2011-2013}. Foresight Project The Future of Manufacturing. The report was published as M.W. Peng K.E. Meyer
2) Because we have offered some advice to managers in eariler sections of the report, our emphasis in the case is on policy recommendations.
3) In the 1980s, the Chinese military was seriously interested in the British Harrier jump jet and the French Mirage 2000 fighter, and sent test pilots to check them out. Since China at that time could not afford these expensive modern combat aircraft, it did not place any orders.
4) We thank Jim O'Neill (Chairman, Goldman Sachs Asset Management, who coined the term "BRIC" more than a decade ago) for this insight. During our interview for this project, he went on to suggest: "Some policymakers elsewhere think that the UK is both hypocritical and a bit lost in the past, when it does not realize that its time to lecture others passed. I think this is quite an important issue that many British policymakers struggle to grasp."
5) This is the Conclusion section for the entire 55-page report, not merely for this Recommendations part.
From an institution-based view, what can UK government policymakers do to enhance export competitiveness? Drawing from the list of recommendations, what specific actions do you recommend that they undertake in the short run, medium run, and long run?