MBA Masterclass Managing the Firm in the Global Economy

Kara Northcutt: Hawaii to North Carolina, Denmark. Fantastic. Great. Again, for those just joining, we'll take just a couple minutes here for everyone to enter this room and get settled before we get started. And feel free to let us know where you are today. Here in Chicago it's a kind of an unseasonably cool August. We're ending our kind of the end of our summer here in the US. Somebody in Brazil. We'll be in South America I think next week doing some recruiting events. Our associate Dean Donna will be down there, so keep an eye out for that. All right, for those using the chat too, you can change it to send to everyone. The chat can be an open forum throughout. I see a couple or just going to host some panelists. So if you wanna just tag that as everyone, feel free. Chicago representation, that's good. All right, I'm gonna give about 30 more seconds then we'll officially get kicked off. Again, thanks for joining us today. So Ireland and I've had multiple people in my friend and family group have all been in Ireland or going to Ireland this summer. A popular destination. Again, for those just joining us, thanks for joining us. We will get started in just 45 seconds or so. Still see quite a few popping in the Zoom room here. Okay, great. It's starting to slow down a little bit. I wanna be mindful of everyone's time. So we will go ahead and get started and of course everyone can continue to enter. Hello everyone. My name is Kara Northcutt. I'm a senior director of admissions here at Chicago Booth. And on behalf of the executive, full-time, evening and weekend MBA admissions teams, thrilled to welcome you to today's masterclass, Managing the Firm in the Global Economy with Professor Jonathan Dingel. So a little bit about how today will run. The vast majority will be a lecture, a sample lecture of a real class that takes place here at Chicago Booth with the professor. And then if time allows, I will moderate a verbal QnA at the end. So if you wanna post any questions that come up, like generalize about the topic, that sort of thing, feel free to post in the chat or QnA, I'll monitor those throughout and then post from those questions for the end. But generally speaking, it's, you know, that's where you can communicate and and post anything or connect with me if you need to throughout. So just kind of thinking about today, you know, and thinking about Chicago Booth in general, a key part of the booth experience is our supportive and collaborative community. At Booth, you join a group of current students, alumni, administrators that will be there for throughout your entire MBA journey and beyond and in an integral and most important part of that community is of course our faculty. So we're excited for you to get a taste of the Booth curriculum and get to know a little bit about the Chicago approach to business education during today's session. Professor Jonathan Dingel is an associate professor of economics here at Booth, a faculty research fellow at the National Bureau of Economic Research and a research fellow for the Center for Economic Policy Research. His research focuses on spatial variation in the amount and nature of economic activity across neighborhoods, cities, and countries. He earned his PhD in economics from Columbia University and master's in Philosophy and Economics with distinction from the University of Oxford and Honors Bachelor's of Arts and Economics and Political Science from Gonzaga University. So it is my pleasure to now turn it over to Professor Dingel who will take you through today's session. Thanks everybody.

Jonathan Dingel: Great, thanks very much, Kara. Hi everyone, thank you for joining us today. I'm excited to talk to you for the next hour or so to give you my perspective on managing the firm and the global economy. So, managing the firm in a global economy is an MBA class that I teach here at Booth. It's a course in international business strategy. I think of it as managing a set of locations, a portfolio of locations, where your customers are located, where your suppliers are located, where you actually conduct your business operations, and how those different pieces all fit together. So I think of this as being a course in locational strategy. And I take the perspective of a firm that's trying to maximize its profits, navigating the global economy as the economic environment in which it's confronting trade-offs, making decisions, you know, picking strategies in order how to perform well as a business. And so that makes it a broad ranging class where we engage a wide variety of organizational, financial, and legal issues that are involved in doing business internationally. And I tackle those topics from my perspective as an economist. So it's a nine week course. Over those nine weeks, methodologically how I approach it is that we look at a lot of data and interpret that information using series of simple analytical frameworks that I build up over the weeks. So we have a limited amount of time together today, just about an hour. And so I'm not gonna do a lot of economic modeling, but what I would like to do with our time is introduce you to some of my ideas and perspective about a few topics. How I think about local and global business strategies, how we can use data to measure impediments to doing business internationally, and think about assessing the state of globalization and economic integration, and also trying to understand the causes and consequences of the geographic concentration of economic activity. So that's my plan for the next, you know, 50-55 minutes or so. And then I'm happy to engage in the QnA wherever the conversation kind of takes us after that.

Jonathan: Okay. So I actually wanna turn it over to you before I start sharing my perspective in terms of I'm gonna ask you to answer a quick pair of poll questions, which are just factual questions. I want to sort of calibrate what people's beliefs are. And so the two questions here are, what fraction of US businesses are exporters? So an export is when you produce a good or a service in your home country and then sell it to a foreign customer. So what fraction of US firms have engaged in exporting or selling to foreign customers? And then the second question is about a different set. Belgian businesses. So, in importing. So importing and is when you buy your inputs or your supplies from a foreign provider. And again, the question is, what fraction of Belgian businesses do you think are importers? And so there are gonna be five potential responses here in the poll. I've just given you buckets of numbers from 1 to 20%, 20 to 40, 40 to 60, 60 to 80, or 80 to 100%. And so what I'd like you to do is just give me your best guess as far as what fraction of businesses in the United States do you think have sold to a customer that's located outside the United States, and what fraction of businesses in Belgium do you think have purchased supplies or inputs from a seller that's located outside of Belgium? Okay, so responses are coming in quickly here, so I'm not gonna leave it open for terribly long. So I'll just give folks another 30 seconds. You know, if you're really fast, you could try to google the right answer right now. But I think you should just take your best guess between the five possible responses and then submit it. Okay, so I'm gonna close the poll in about 10 seconds here 'cause we've got almost everybody responding. Okay, so I'm gonna close the poll now. Thanks very much for participating. I'm gonna wait a moment or two before I unveil the correct answers. But I want to use your sort of best guesses about these numbers as a way of framing beliefs about globalization in the economic environment that firms are navigating here. So, I'm gonna offer two sort of extreme cases, two starkly contrasting views of globalization as a way of framing how I think about doing business internationally. And so these are gonna be admittedly somewhat cartoonish or caricatured views. But I'm gonna offer one perspective, which is extremely globalized that says that we're very economically integrated. And another perspective that's highly localized, it says that the global economy is extremely fragmented. So the integrated view will come from Tom Friedman, the Pulitzer Prize winning columnist at the New York Times. About 20 years ago, Tom Friedman wrote a book called "The World is Flat". And the perspective that he was offering was that the world's extremely economically integrated due to a series of policy and technology changes that mean that businesses are in this hyper competitive environment in which they could be going anywhere, communicating and selling to anyone because the world is very economically integrated. So I've just picked out one quote here from the book, you know, "Globalization 3.0 is shrinking the world from a size small to a size tiny and flattening the playing field at the same time." Okay, if this was an English composition course, we might have some complaints about the mixing of metaphors. But the idea here is to say that the world is very integrated in terms of the world is becoming tiny and everybody's connected and has the possibility of going anywhere on earth. So that's the very global perspective. A starkly contrasting view of globalization that is hyper-local. I'm gonna pick on an anonymous plant manager located in Indiana. So this comes from a project run by some economist called the World Management Survey in which they have MBA students interviewing managers at medium-sized firms, asking them about how they run their businesses. And there's a lot of valuable academic information that comes outta this project. But also if you go to the World Management Survey website, they have kind of an outtake section where they post more humorous or amusing parts of the interviews. So here the interviewer, the MBA student is asking the manager, how many production sites do you have abroad? And the plant manager who's located in Indiana says, "Well, we have one in Texas." Now that's a terrible answer if this is a geography quiz because Indiana and Texas are two states located in the United States. So it's definitely, Texas is not abroad, okay? Texas is, you know, maybe a 16 hour drive south of Indiana, but it's still in the United States. So this is a hyper-local perspective in which this plant manager in Indiana is thinking that the world is so fragmented that Texas might as well be in another country. I think a lot of people that teach an international business strategy course would say that they want to, you know, reject the world as flat Tom Friedman perspective. And so I'm definitely going do that. I'm gonna provide you a lot of evidence over the next series of slides to show you that there are lots of impediments that mean that we aren't living in a flat world, that there are lots of costs of doing business internationally, that the mean the world is not very integrated. But I'm actually going to go a little bit further than that. I'm going to embrace the second perspective, okay? I'm going to stand up for this hapless plant manager in Indiana who's failing a geography quiz. And I'm going to say that really this class is a class, not just in international business strategy, but in locational strategy. In the sense that a lot of the trade-offs that you face between, you know, should we open an office in Ireland or an office in France are also the trade-offs that you're facing when you're asking a question like, should my office be in Manhattan, Kansas or Manhattan, New York? Those places are both called Manhattan, but they are tremendously different. There's a lot of variation within countries and a lot of the trade-offs and strategies that people confront when thinking about international business, they also will confront a need to leverage those tools in the context of picking their domestic locations. So I'm gonna try to persuade you not only that the world isn't flat, that the world is very spiky, but that actually economic activity is very spiky within countries as well. And so the tools that we develop and the perspectives that I offer in this course is useful even if your business is never opening up an office overseas that is never exporting because actually these trade-offs are pervasive throughout the economy once you start thinking about locational strategy. So that's what I'm going to try to persuade you of, you know, by the end of this hour. Okay.

Jonathan: It turns out that a lot of people are closer to that first perspective, that Tom Friedman perspective in the sense of people tend to overestimate the amount of economic integration between countries. So let me show you some survey responses that were collected by Pankaj Ghemawat who's at Harvard Business School. They ran this survey in 2012 where they asked people just a series of factual questions about the amount of economic activity between borders. So they ask, you know, what fraction of GDP is constituted by exports of goods and services, sales to foreign customers? What fraction of investment is foreign direct investment flows that are going between countries? What fraction of the population of the world is a migrant who's moved between countries? And what you can see in the contrast between the two bars is that the average survey responses are a lot higher than the actual amount of measured economic integration that we see in the data. So you know, people are guessing that like 45% of GDP, that the ratio of exports of goods and services to GDP is about 45%. The true number is more like 30. They're massively overestimating the amount of international investment and the amount of international labor mobility in terms of migrants. There's a caveat about this measure in terms of taking the ratio of exports to GDP and I'll discuss that at length in a little bit. But the general pattern here is that people are overestimating globalization. And so now if we use the results from the polls that we ran, I think that this audience attending today sort of matches the general trend, which is people overestimate the degree of economic integration. So let me share those results. And what you're going to see is that when asked, you know, this crowd about the fraction of US businesses that are exporters, the modal response was in the 21% to 40% bracket, okay? A roughly equal number. Well, the next most popular response is 41 to 60, then 61 to 80, okay? So lots of people are picking sort of the, you know, 20 to 60, sort of middle of the distribution. And on the question of what fraction of businesses in Belgium are importers that are buying from foreign sellers, the most popular, the modal response, about one third of you said it was 60 to 80% of Belgian businesses are importers. Okay. So the correct answer for both of these questions is that you should have picked the lowest bucket available. The correct answer for both is between 1 and 20%. And in fact, the number for the fraction of US firms that are exporters is about four or 5% in the data. It is nowhere near the kind of 50% average response that we're seeing in the poll that we just ran here. And if you go to Belgium, the right answer in Belgium is 19% of Belgian businesses or importers have purchased from a seller outside of Belgium. So that is much, much lower. 19% is way below the most popular answer that people selected, which was sort of in the 60 to 80% range. So your beliefs are sort of in line with this general tendency in which folks overestimate how integrated the global economy is. And so one thing that we wanna do in this session is sort of introduce the different kinds of frictions that are impediments to doing business internationally in order to talk about why businesses actually need to navigate this environment and why they face a lot of trade-offs in terms of the, you know, decisions that they gotta make and the locations that they're going to choose. Now, the 4% of US businesses that do export overseas are not the average business, right? So it's 4% of businesses, 4% of CEOs are involved in selling to foreign customer. If you were to think that what fraction of, you know, economic activity is in those businesses, you would get a larger number in the sense that these businesses that sell to foreign customers are much bigger than the average business. And so one thing that we talk about in the class is sort of, should we think that selling to foreign customers is a symptom of being a better run business with more efficient practices and higher productivity? Or is it actually that selling to foreign customers would cause these positive feedback effects in which it makes you more productive and helps you succeed not only overseas, but also at home. Okay, so that's one of the themes of the course that I'm not going to completely unpack today, but start to hint at in terms of these businesses that do international transactions are special in a number of ways, and we want to know which way the arrow of causality is pointing in terms of is it foreign engagement that is making them a better business? Are those the benefits of doing business internationally? Okay. So I'm going to start explaining why we're not so economically integrated by introducing a variety of international business frictions. What are these costs? What are these impediments that make it difficult so that not every business is able to sell to a foreign customer? Not every business is able to have a supply chain in which they're importing, you know, supplies from overseas sellers. And so the way I'm gonna categorize the myriad of, you know, frictions that could potentially impede these transactions is into three different buckets. So I'm gonna break it out into borders, distance, and differences. By borders, I mean international business frictions that are associated with the fact that you're crossing a jurisdictional boundary, okay? Governments control their borders, they have the ability to discriminate between foreign sellers and domestic sellers. And so policy could impose costs on foreign suppliers that aren't imposed on domestic suppliers. So the first set of impediments will be governments, you know, treating you differently because of which side of the border you're on. The second category of impediments, the second category of frictions will be physical separation, the distance between a buyer and a seller, right? There are a number of costs that are associated with being in different places. And on average, if you tell me that two businesses are in different countries, they're gonna tend to be farther apart than two businesses that are located in the same country. And the third category will be differences in circumstances, right? So there's a variety of circumstances that vary across locations and those could be impeding transactions between businesses located in those different places.

Jonathan:Okay. So let me give you some examples for each of these just to put some color on the economic environment in terms of what these impediments to doing business internationally are. So let me start out with borders. So the most obvious policies that are likely familiar to you from the recent US-China trade war or maybe the discussion about Brexit are tariffs and quotas. So tariffs are taxes on international transactions. It says, look, there's some, good you might be buying it from a domestic supplier, but if you buy it from a foreign supplier, we're going to charge you a tax. So those are tariffs. Quotas are restrictions on the quantity that you're allowed to bring into the country. And then you can combine the two in what's called a tariff rate quota. So the example I put on the slide here is from US policy regarding cane sugar. So if you want to import cane sugar into the United States, the tax rate is actually called a tariff rate quota because for the first 1 million tons of cane sugar you bring into the US, you pay a tax of like half a penny per pound. But then after that first million tons of imports, everything over that is gonna pay about 15 cents per pound. And so in some years this has the effect of doubling the domestic price of sugar in the United States because the world price of sugar is about 15 cents, but then the US importers have to pay another 15 cents in terms of the import tariff, the tax on that transaction. So there are tariffs and quotas on goods, there are just rules that limit the amount, transactions or the set of possible transactions that can occur. So for example, there are limits on foreign investment, right? If you want to operate an airline in the United States, foreigners can only hold a quarter of the voting equity and it's actually required that the CEO and two thirds of the board of directors have to be US citizens. So this is just a government policy that draws a distinction between a foreigner and a domestic individual in terms of who's allowed to run the business and how much equity they can hold. We have barriers to services that just outlaw international competition. So you probably haven't heard of the Jones Act unless you've been paying close attention to US policy and what happens when, say, Puerto Rico gets hit by a hurricane and loses power. But it turns out that if you want to transport goods by water between two ports within the United States, you're required to do that using a ship that was built in the United States, flies the US flag and is employing US citizens as the crew. And so this is massively increasing the cost of shipping by water within the United States because it's protecting US routes from being served by foreign suppliers, right? This just discriminates the border and says if you're a foreign ship or using foreign crew or it was built overseas, that provider of merchandise transport is not gonna be allowed to serve, provide that service in the United States. And similarly, foreign airlines, you know, can't fly routes between US airports. I'm going to have a lot of examples from the United States, not because the US is particularly special in this regard. There are plenty of countries that have all kinds of tariffs and quotas and barriers to services, but I am more familiar with some of these US institutional details. So you'll see some of the color here emphasizing US policy. But to give you an example from our neighbor to the North, Canada just has content requirements on entertainment. So things like radio broadcasts or television broadcasts. They have domestic quota requirements where 40% of their radio programming has to be Canadian music artists and broadcast television has to be Canadian produced content about half of it. So this is the government discriminating against foreign suppliers in terms of protecting the Canadian market from foreign entertainment products, by reserving a certain amount of time on the radio and on the television for the domestic producers. And obviously there are massive impediments to migrating across borders within the global economy. It's very difficult to come to the United States if you're not coming as a student or on a high skilled H-1B visa or doing family reunification. Except for kind of those categories, it is very difficult to come and try to supply labor to a US employer. And the long and short of it is just a very small fraction of the world population are actually international migrants. So these are some of the impediments associated with borders. The second category I'll talk about is distance. And rather than with telling you, rather than starting by telling you all the costs of distance, let me start by just showing you the patterns of trade and how they're a function of distance and then we'll talk about some of these impediments. So the data that I'm showing you right now are the fraction of US exports destined for 48 different trading partners in the 2016 data. And so these are US exports. And so about 13 14% of US exports went to Canada, 10% went to Mexico, 8 or 9% went to China. So the two destinations where the US is selling most goods and services are our two closest neighbors, Canada and Mexico. So there's, you know, some role for distance there, you know, positions three and four are taken by China and Japan, the United Kingdom and Germany. But there is this negative relationship. If I was gonna draw the line of best fit through this chart, I'd find that generally the US has a higher export share with countries that are closer to it than farther away. And you'll get a similar pattern if you look at Germany. So it turns out Germany's number one trading partner is the US, number two and three here are France and the United Kingdom, number four is China, number five is the Netherlands. But the really high fractions of sales are either the US and China, which are very large economies or these countries that are very close to Germany in terms of being their next door neighbors. Again, if you were gonna draw a line of best fit, you'd see a role for distance here. Now I think some of you are probably suspecting, well, you're trying to show a role for distance, but something is, you know, getting in the way, which is there are these large countries that might be far away from the United States or far away from Germany, but clearly economic size is playing a role here as well. And so what I'm gonna do is take these export shares and divide them by a measure of economic size of the destination where these customers are that are buying these goods. And so let me des divide by the destination's GDP, and then you get the picture for the US on the left and for Germany on the right. And now you get this almost, you know, perfectly exponential decline in which as you go from the countries that are very close to Germany to farther away, you get this massive decline in the volume of sales. So distance is associated with much lower sales volumes as you get farther and farther away, the US data shows a similar pattern. So Honduras jumps up here as you know, the highest share adjusting for size, Mexico and Canada here. Again, you get a very negative relationship here, but there are a couple of outliers, Ireland and Singapore and Luxembourg and Hong Kong stand out here as being far away and small. And nonetheless, there's a lot of sales by US companies to entities that are located in those places. And I won't talk about it a lot during this session, but one of the patterns here that you see is that these are interesting destinations as far as multinational tax planning, that they're favorable, you know, tax circumstances that cause US multinational corporations, for example, disproportionately locate their overseas entities in Ireland, for example. But what you generally see here is that distance is playing a big role. So this says the world is not flat in the sense that there's a clear relationship between how far apart you are and the volume of transactions between you. Now I've been showing you this for goods and services. This is actually a very longstanding result in international economics. So I can show you another chart that's done on a log scale for France. These are French exports on the left, French imports on the right. There's very clearly a negative relationship between how far apart you are and how much you transact. But now let me show you a different pattern related to distance. Well, it's gonna turn out to be the same pattern but in very different circumstances. So this comes from some research that I've been doing recently. So what I've been doing with three co-authors here at the University of Chicago is studying trade between regions of the United States in a particular sector that is medical services. So we've been looking at inter-regional trade in which patients travel to see the doctor in other locations. And so, we do this using the US government's largest healthcare program, which is for people over 65 and the and the disabled, which is called Medicare. And what's great is you get these itemized bills that describe the zip code, the postcode of the patient and the postcode of the physician. So you can see how far people are traveling in order to get medical services. And so when we plot that data, on the left panel here, I'm showing you the blue distribution is for people that are in the same hospital referral region, HRR is a hospital regions. There's 306 of these regions in the United States. And so if you're staying in your region, you can see that the average person is going something like 10 kilometers in order to visit the doctor. But what we document in our research is that one fifth of patients are going to see the doctor in a different region of the United States. And so that's what the dashed red distribution is here. And you can see that the average person that's going between regions is maybe going something like 50 kilometers. But in fact there are a number of patients out here in the right tail of the distribution that are traveling hundreds or even thousands of kilometers in order to receive medical services. And so technically those, you know, patients are traveling to the doctor, but they're the customer. They're, you know, purchasing, they're like importing into their region by using a doctor who's located in another place. And so if you make a scatterplot that depicts the relationship between the amount of trade between regions, how many patients go in order to see a doctor in another region and you plot it against the distance between the regions on the horizontal axis, you also get this very negative relationship in which people are going to the doctor that's close to them most of the time. But they are willing to travel these very far distances. And in particular if they're going to see a better doctor, then they're willing to travel farther in order to access that. Now, you might say, look, that's not very surprising. I can see that there are cost of distance 'cause who wants to drive or fly, you know, thousands of kilometers in order to have a medical checkup. But there are some other intriguing patterns that we document in the data. So for example, it turns out that high socioeconomic status patients are more willing to travel long distance than low socioeconomic status patients. So we know the zip code where the patient lives. So we can say something about, you know, average income of the households that live in that neighborhood. And so once you have a, you know, differential sensitivity to distance in terms of low socioeconomic status patients are less likely to travel far. It means it may not actually just be the fuel cost of getting in the car, getting on the airplane. Maybe high income patients are more familiar, have more information about the set of options, or maybe they lobby their doctor more aggressively to get a referral to a specialist that's located on the other side of the country. There's all kinds of mechanisms that could be related to distance, not just fuel costs, but information, you know, social networks that are diffusing recommendations across people, et cetera. And so what we document in our research is even for the same kind of procedure, patients with different socioeconomic status are traveling different distances. So distance comes with all kinds of costs in terms of transporting people, transporting stuff or even moving information, right? The very mechanical one is that fuel costs are gonna rise with your distance traveled, but there's also information transmission costs, right? It depends on how you communicate that information. And this is something that we certainly, you know, encountered during the pandemic in terms of when, you know, classes shut down at Booth instead of having these face-to-face interactions with students in the classroom, we pivoted to doing the class over Zoom and there are, you know, some switching costs if you're used to the very rich medium of face-to-face interaction where I can sort of see the room and read the, you know, facial reactions instantly of the 65 people in the classroom. It's a very different environment once you're trying to do that over Zoom. So we think of face-to-face interaction as being particularly powerful for transmitting information. And to the extent that information is associated with, you know, transactions, you're gonna see businesses not transacting as much as a function of those kind of connections, right? Or word of mouth referrals from customers that try out a product and then tell their friends, well, to the extent that your friends are going to be nearby your business that's based on referrals is gonna have this pattern of geographic diffusion over space as well. The third category of international business frictions are differences. And this one is a little more subtle than the first two categories that I introduced you to in the following way. Differences in circumstances can be barriers to doing business between places, but they could also be opportunities for arbitrage, right? So there are variation in demand, there's variation in the production function, there's variation in what you know, you are allowed to do. So think about demand differences, right? You just have differences in taste across different countries. And so you might have really good product market fit in your home country and that product might be a disaster if you're trying to sell the identical product to people on the other side of the planet that are coming from different cultural circumstances, that have different willingness to pay, that face different trade-offs in terms of what parts of the product characteristics they value. So there could be differences in demand. That mean even if you're a really successful business at home, you might be a flop overseas because of differences in what consumers are looking for. There might also be cost differences in terms of what's viable to be doing at home may not play out the same way in terms of the production function if factor prices are totally different in the foreign circumstances. Now, obviously those cost differences could be a basis for arbitrage, right? So that could be a basis for international transactions. It depends on whether those differences in circumstances are, you know, a set of activities taking place in different countries that are compliments or substitutes. And so think about running a call center. Think about you want to have customer support and you want it to be 24/7 around the clock in terms of you would like the customer to be able to call up and get help anytime of day, right? So differences in circumstances would be time zones, for example. And whether a call center in the Philippines and a call center in Tennessee in the United States, whether those two things being in totally different time zones on the opposite side of the planet, whether it's good or bad that they're separated by huge number of time zones depends on whether the activities taking place in those two locations or compliments are substitutes. So it's daytime in the Philippines when it's overnight, you know, 2:00am in Tennessee. And so by outsourcing your call center to Philippines, that's a substitute for the activity taking place in Tennessee and that's an opportunity for value creation, right? The difference in circumstances means that you don't have to pay somebody extra overtime hours for being up at three in the morning, miserable taking that overnight shift at the call center because if you put them in the Philippines, you know, hiring the Filipino call center employee, that's their time and you're paying them their normal wage, right? So that's an arrangement in which, because the two activities are substitutes, the difference in time zone is an opportunity for value creation. On the other hand, imagine that that's a manager and their supervisee and they need to coordinate with each other, right? If you're in opposite sides of the planet in different time zones, then that makes it quite painful for you to be online at the same time in order to coordinate your work. So if the activities taking place in the two different locations are compliments rather than substitutes, then time zone differences are an impediment to doing business internationally because being in those different places is causing you to differ in terms of your circumstances. And so we have evidence showing that conditional on how far apart you are, multinational corporations that are in different time zones are less likely to open an office in that location. And that's particularly true for skill intensive occupations. So if you're in these knowledge economy kind of jobs where people need to interact a lot with each other, you are much less likely to have the multinational corporations spanning these different time zones where in the case of the call center, where you're trying to outsource it, obviously that's a case where those two activities are substitutes.

Jonathan: Okay, so there are lots of regulatory and norm differences that are created by governments. So say, product standards, process standards. And these are not discriminatory, they're not border frictions in the sense of the US has some rules of the road and it says these are what a vehicle has to do in order to be street legal. And if you wanna put a automobile on, you know, the street and on a US highway, here are the requirements. And it's neutral in the sense of it doesn't discriminate between foreign made cars and domestic made cars. It just is a product standard. But if the product standard is different in the United States and in Europe, then a product that you've designed for one may not be, you know, viable in the other. So let me give you a couple examples from the automobile industry. So I've picked out two cars here. This is a Tata Nano on the left, this is a smart car on the right. They kind of look similar. If you were making a Pixar movie, you'd probably, you know, animate these characters in a similar fashion. But in fact, these are very different vehicles, right? The one on the left was sold for about $3,000. The smart car on the right was selling for about $15,000. And that's because the Tata Nano has a number of features that are sort of absent that you might expect in a vehicle. So it doesn't have airbags, it doesn't have a CD player or Bluetooth or anything like that. It doesn't have airbags. You can't open the trunk from the outside, it only opens from the inside. So the Tata nano on the left was not gonna be street legal in the United States. It was never intended to be sold in the US market. And so, this is an example of a massive gap in terms of product standards, in terms of what you would potentially be able to put on the road in the United States. But that's of course a massive gap between, you know, two cars that differ by a factor of five in terms of price. But even if you're talking about two rich countries that have relatively similar auto safety standards. So take, you know, the European Union and the US. The Fiat 500 had been sold in Europe for decades and after the Fiat Chrysler merger, they wanted to bring it to the United States. You have to make some adjustments when you bring it to the US. So they're gonna have to, you know, change from the skinny cool looking license plate to the sort of square US license plate holder. But that's not the reason that it took them two years to redesign this car in order to introduce it in the United States. It turns out that the Fiat 500 in the European design, as you know, described in this New York Times story, wasn't going to pass the US rear crash test, right? So they took two years to redesign the car in order to move the fuel filler assembly farther forward so that it would pass the US rear crash test in terms of, you know, ramming something into the back of that car and not having it be catastrophic from the US regulator's point of view. So regulatory differences, we generally think driving the United States, driving in Italy are both, you know, pretty safe, but the rules of the road differ in ways that companies have to, you know, adapt to in terms of those differences and circumstances. Okay. So I've introduced these three different categories of international business frictions, borders, distance, and differences. And we spend a considerable amount of time in my MBA class sort of unpacking, you know, what goes in to these different categories of business frictions, and then how we can try to distinguish between the sources of these frictions, what's really causing the cost. Today I'm just gonna give you one quick example, which is talking about how to distinguish between border costs and distance effects. And so here I'm gonna talk about what economists call the law of one price. So the law of one price is the idea that identical goods should be sold at the same price. It's a no arbitrage condition, right? Arbitrage is the idea of, you know, buy low, sell high and collect the difference as profit. So if you've really got two identical goods and they have different prices, then you know there's an opportunity to make, you know, money just by buying low and selling high. And so the logic here is if two goods are the same thing, they should sell at the same price to the extent that arbitrage is feasible. But borders could get in the way of arbitrage, right? If you're not allowed to buy low in Canada and sell in the United States, then it may be that the law of one price won't hold, right? Now this is not a real law, this is economics law. So the law of one price is violated in the data all the time. But what we're going to talk about is patterns in which border costs are associated with bigger differences in prices for identical goods. Now this is very hard to study because you need to say, well, what really is an identical good? You just showed me a Fiat 500 in Italy and a Fiat 500 in the United States, they're not really the same car. So how do I know that I'm looking at identical goods? And so what economists have studied is consumer packaged goods where they have barcodes. Because the barcode is a unique identifier of the goods, so you can know it really is the same product. And so this is, you know, actually an identical good that we're looking at. And so here I'm going to be showing you a chart from this paper by four economists, including my Booth colleague Chang-Tai Hsieh, in which they persuaded a retailer that has stores in US and Canada to give them price data at the barcode level for all their stores. They have like 325 stores in Canada and the United States. And so because the data is barcode level, they can look at the price of, you know, a very specific product like Perrier sparkling water in a 25 ounce bottle. And what they're doing here is thinking about a border cost in terms of they're gonna leverage the fact that the border is a discreet change, whereas distance varies continuously, right? So what they're plotting here on the left diagram is distance to the Washington Oregon border, okay? So the state border here is the vertical line, and these negative numbers mean you're inside Washington. And the positive numbers on the right are how many kilometers you are into the state of Oregon. And so you can see that there's this, you know, continuous variation. You can be 200 kilometers to Oregon, a 100 kilometers to Oregon, 10 kilometers, 1 kilometer. Boom! You cross the border in Oregon. And as they plot the level of prices here, you see there's absolutely no change at all, right? As you look at what the stores that are very close to the border on the Washington side are selling this bottle of water for, versus the stores that are close to the border on the Oregon side, there's no change in the price there. By contrast, if you look at the Canada US border in the right panel here, where the negative distances are how many kilometers inside Canada you are, and the numbers to the right, the positive numbers are how many kilometers inside the United States you are, what you get is a massive jump in the price, right? You've got this level of price prevailing inside Canada. And then when we go to the US stores on the other side of the border, you got a big jump up. So this is called a border discontinuity in which you find this big price gap associated with a border. Well, why would we find that? I mean, having been shown the result, you can think of lots of things in the sense of the US is an integrated market where there isn't any customs check post at the Washington Oregon border, right? If somebody is living in Washington state and they wanna drive 20 minutes to go to the other side and shop at a store in Oregon, they're free to do that. Whereas here, if you're a US customer and you're like, oh, I wanna drive up to Vancouver, British Columbia in order to get a good deal, well you're gonna have to show your passport and go through customs check, et cetera. So we know all kinds of border costs that are associated with this. And so, from this result, you can see that the international border seems to be associated with more fragmentation of transactions in terms of there are big price differences here that violate the law of one price, whereas the law of one price seems like a good description of what's happening at the state border within the United States. I don't want you to conclude too much from this single example of the law of one price in the sense that I've been looking at data on commuting patterns and those medical patients within the United States, and there in fact, you do find border effects in which there is a fall off in the amount of commuting, conditional and distance that happens at state borders. So people are less likely to work at a job that's on the other side of the border, even if it's 20 minutes away in a different state, they're less likely to take that job than if it's 20 minutes away, but in the same state. So there are some border costs, but here, when retailing consumer packaged goods at this particular chain of stores, it's clear that there's a much bigger border cost here. And what these researchers talk about is, you know, the exchange rate, right? Not only do I have to go through customs check posts, but also, you know, I gotta convert from US dollars to Canadian dollars in order to go shopping in these stores, for example. Okay.

Jonathan: So in the interest of time, I'm not going to say a lot more about how we try to separate these frictions into these different categories, but the first thing that I want you to take away is sort of a rejection of that Tom Friedman view of the world in which the world is flat, right? I've documented a lot of impediments to international transactions, and from the perspective of somebody that's teaching an international business course, it's really good that there's a lot of impediments, right? If the world was flat and where you chose to go did not matter, then I wouldn't have anything to teach about, right? My whole class is about locational strategy. And so of course my perspective is to emphasize that where your customers are, where your suppliers are, where you put your business operations, who you hire, et cetera, That portfolio of locations is important and it's interesting and that's what this class is all about. But having, you know, tried to reject the Tom Friedman view of the world, let me try to be a little bit nicer to him. So don't take the world as flat so literally. He talked about, you know, shrinking or flattening. So it was really, you know, a story about changes. So let's say, let's go from globalization 1.0 to globalization 3.0. And so one way to look at this is to look at the time series of, you know, the economic integration in terms of trading goods and services over time. And so let me show you just one chart here. This is trade flows over time. What they do is you take exports and imports and divide them by GDP. So it's a percentage of GDP of the know total amount of economic activity produced in the world. World trade has gone from something like, you know, 25% to half century ago and it's risen. So this is a period of globalization, this rise in which by the time you get to say 2008, the trade to GDP ratio is number like 60%. And you can see the rise of China even more stark, you know, in the mid 70s it's at 10% and China's trade to GDP ratio is exceeding 60% by the time it peaks here in 2006 or so. But then there's this big decline here. And generally speaking, you know, this number peaked in 2008 and then it sort of stalled out or maybe fallen a little bit. And so this has led some people to talk about the peak of globalization or what the economist called it in an article slowbalization, okay? The decline or the slowdown, at least in the process of economic integration between different countries. And so, now what I wanna warn you about is how we interpret this kind of data in terms of how these things are measured. Because it turns out that there's a lot of confusion in the public discussion about whether globalization is slowing down or not. And a lot of, you know, trade policy questions that came up a lot say during the US China trade war as a result of using this particular measure, this comparison of trade to GDP. And so this is gonna be a little bit, you know, technical, but I think it's really explaining how to understand the data correctly, which matters for the inferences that you draw in terms of what's happening with globalization, what's happening with trade policy. And so the thing that I need to tell you is that trade flows are measured in terms of gross values and GDP, the denominator is measured in terms of value add. And essentially that is an apples to oranges comparison. So I'm going to step back a little bit and just talk about comparing the size of businesses to the size of countries economies before I start talking about international transactions. So, Walmart's revenue is higher than some countries GDPs. And you'll see, you know, newspapers print stories where they raise concerns about, oh, Walmart's getting too powerful because it has revenues that are bigger than, you know, the GDP of Bangladesh or something like that. Maybe Walmart is too powerful, but comparing revenues to GDPs is not the way to demonstrate it. And the reason that this is an inappropriate apples to oranges comparison is because revenue is measured in terms of gross value. And gross value is value added plus intermediate inputs. In other words, value added is what the firm has as revenues minus the amount of stuff it bought from other firms. So imagine you're gonna make a $20 T-shirt. If one firm does everything from growing the cotton, spinning the yarn, et cetera, retailing the T-shirt. That firm makes $20 in revenue and the total value added, the amount of production that happened in the country is also $20. So in this case, gross value and value added are the same. But now imagine we take that sequence of activities to produce the T-shirt and we chop it up into bits and different firms do different stages, right? Suppose firm A makes the shirt and sells it for $15 to firm B and B is the retailer that sells it for 20 bucks. The total value to the economy, the $20 T-shirt that is in the customer's hands at the end of the sequence of transactions. But if we count up all the revenues, firm A sold it to firm B for 15 bucks, and then B sold it to the customer for 20. So you add up those revenues and you get 15 plus 20 is $35 of revenues. And so what we're doing is we're double counting the value added every time that there's a transaction in this sequence, right? So Walmart has revenues that are way bigger than value added because Walmart's value added is payroll and profits, but Walmart's revenues are its payroll and profits plus all those huge purchases of all the stuff that they're selling in the store, right? And so this just is an apples to oranges comparison. Why do I bring up this distinction between gross value and value added? Well, it infects a bunch of discussion that we have about trade policy and trade deficits, right? So the US trade deficit is the amount that the US is buying from foreigners, US imports minus the amount that the US is selling to foreigners, US exports. And what happens with these trade statistics is people get obsessed with bilateral trade flows, right? Those are not really interesting. You know, I run a surplus with Booth, my employer, they pay me a salary and I don't buy a ton of stuff at the campus bookstore. On the other hand, I'm running a massive deficit with my grocery. I go into the grocery store, I buy groceries, and not once have I been asked to, you know, stock the shelves or bag some groceries and I've never gotten a check and never gotten a wage or a salary for my grocer. So at the bilateral level, I have a huge surplus with my employer and a huge deficit with the grocery store, that's not really informative about my, you know, household wellbeing. I should care about total spending and total income. Okay, so bilateral trade deficits about, did you import a lot from China but sell a lot to Germany are not particularly interesting in the perspective of economists. But the way that we collect trade data means that we get a very skewed perspective of global value chains. And the reasons is that the trade flows. When you fill out the customs form at the border and say the dollar value of the goods that you're bringing into the us when you land at, you know, the airport at Chicago O'Hare, you fill out the gross value. You say, here's the value of the stuff I'm bringing into America. You don't say, well I bought it in a particular country, but then let me tell you all their suppliers in which countries those are located in. We don't trace the value chain. And so if you have a production process that say starts with a hundred dollars that firm A does, and they sell it to B for a hundred bucks and then B sells it to C for $120, the gross exports are 100 plus 120 along the way. But the total value added in that transaction is just $120. But if country C is buying it from country B, all of the value gets attributed to country B, right? The gross exports that are reported on the customs form are $120. And so this sequence of transactions is gonna result in country C reporting that it runs a trade deficit of 120 bucks with country B and it has no direct transaction with country A. You know, these are nice round numbers from a simple example to keep it easy. But the fact that we attribute trade flows in this way, even though actually five six of the value added in this product to the customer and country C is enjoying came from country A, means that how you think about the supply chain is distorted by how we report these statistics. And so a canonical example in this is the iPhone, right? Foxconn is located in mainland China and assembles the iPhone, and then all of those iPhone exports from China to the United States show up as a US trade deficit with China. But the parts and components, and so like in 2011, that was like we imported about $1.9 billion worth of iPhones from China. If you use that traditional trade measure, it says that we're buying $1.9 billion of iPhones from China and nothing from Japan, Korea, Germany, et cetera. Even though a lot of Japanese, Korean and German manufacturers are making the parts in components that go into the iPhone. It turns out that the assembly stage done at Foxconn is not that terribly valuable. So that if you trace the value added, you would find $73 million of value added coming from China. And most of that $1.9 billion is actually parts and components that are being done by Japanese, Korean, German companies. And so the way that we produce these trade statistics is maybe misleading because it's really contingent on where was the last step, what country was last in that sequence of transactions. And so it turns out that the iPhone 3G China made, you know, $6 and 50 cents of the $178 iPhone, right? Just a small sliver of it. But all of that shows up as the US trade deficit with China. Now, what's happened over time is that, you know, in the iPhone 7 the Chinese share of value added was similarly low. But by the time we get to the iPhone X, in that $400 phone, about one quarter of the parts of and components were Chinese produced, the more Chinese suppliers started making the parts and components that go into the iPhone. And so, because in the model where China's just doing assembly, they're gonna import all the parts and components and then send them back to the United States in their assembled form, you'll actually see trade going down. In the sense of goods, the parts and components didn't cross the border as many times. So when the more of the parts and components are made in China, where Chinese value added is a larger share of the phone, you're actually gonna see Chinese imports going down because they're not buying all the parts and components from foreign countries. And so this picture in which you see the decline, particularly steep here for China in the trade to GDP ratio does not necessarily mean that China is retreating from globalization or you know, that we're having fragmentation of the global economy. This decline in the trade to GDP ratio could just be a story about the rise of China up the value chain as it's starting to do more complicated steps and making a larger fraction of those parts and components that are going into the assembled iPhone. And so you have to be very careful with these statistics that are comparing trade flows to GDP because it's just an apples to oranges comparison, that is not necessarily going to give you the right account of what's happening to globalization and is globalization in retreat. Not necessarily, this could just be a story about China working its way up the value chain. Okay.

Jonathan: So I'm almost out of time. Let me talk a little bit about the third point that I wanna make. Actually, let me show you one or two amazing graphics just about the law of one price that tells you, you know, why has globalization risen over the last half century? Well, it got cheaper technologically in terms of shipping stuff across the ocean. It got cheaper to fly airplanes, governments stopped putting as many barriers to international transactions. And so policy became more friendly to international transactions. But if you think about, you know, what happened in terms of ITC infrastructure, it's just amazing in terms of how do you price a phone call between, you know, New York and London a half century ago. It used to be extremely expensive and now it's trivial. What do you think about transmitting a terabit from Boston to Los Angeles? I don't even know how this number is calculated in 1970. I think to transmit a terabit from Boston to Los Angeles, you probably like took a library worth of books and put them on the back of a truck and drove it from, you know, Boston to Los Angeles. And now this would just be, you know, something that you share for basically zero marginal cost. But I want to highlight this beautiful picture that comes from a piece by Robert Jensen on what happened when they introduced mobile phones in regions of Kerala, which is a state in southern India. So all these noisy lines here are price quotes for fish. So these are the prices in different fish markets in the first region in Kerala that Robert Jensen was studying. And then here's when they got mobile phone service. And after mobile phone service turns on, instead of having this messy cloud of prices, you see the law of one price kicks in. All of these lines now basically are on top of each other. It looks like a single price series. Because of the law of one price starts to hold true, once a fisherman who's selling in one market can just make a phone call and say, what is the price of fish in the other market, right? And if the price is higher in the other market, I'm gonna take my fish to a different market in order to sell it there. And so there are three different regions of Kerala and what you can see is that they were added in different weeks. But there's this really messy, you know, prices are all over the place, they aren't equal to each other. And then when the phone service becomes available, the law of one price starts to hold true. Okay, so this shows some of the forces that have driven globalization in terms of, it's about communication costs and information frictions. You know, this doesn't make it free to take your fish to the other market, but it means you can get the price quote and, you know, arbitrage any price differences that you're observing. Okay. So let me use just a few more minutes in terms of making the case that even if we played out this logic of, you know, technology advancing and so forth, even if international business frictions basically disappeared, the world still wouldn't be flat. And so this is the third key point that I wanna make that locational strategy is interesting, not only in the international business dimension, but also in terms of domestic business decision making as well. In the sense of we have an environment that we can study that has no government barriers to trading goods and services in terms of no internal tariffs, no internal migration restrictions, it's the United States, right? The United States and other countries are economically integrated in the sense of policy isn't necessarily fragmenting them, but there are still distances between places and differences in economic circumstances. And if you look at the United States, what you see is that the world is not flat, the United States is not flat, the United States is spiky. So this map is depicting, you know, the distribution of economic output per square mile. And you can see this massively uneven territory in which economic activity is geographically concentrated in big cities in the United States. Now, you might worry that this is just a pop. You know, the spike graph is just a map of where people live in the United States. But the fact is, is that the amount of output per person rises with population density. So if you go to these big cities where there are more people, you get more output, not just mechanically 'cause there are more people, but actually because there's more economic value generated by the average person in these places. And so that's why economists are interested in what we call agglomeration economies, in which being around other people makes you more productive, that having more of those interactions raises your productivity. And so the United States is very spiky. But if we focus on, you know, particularly knowledge intensive activities, think business services. So this map comes from research that's looking at prime service employment. So think business services like finance and insurance and management of companies and professional and technical services. They could be anywhere in the New York metropolitan area, but that employment is massively concentrated here on the island of Manhattan, right? The daytime and nighttime populations of Manhattan are very different because all kinds of people live all over the New York metro area and then commute in in order to work in this relatively small space at the heart of the city. So this is not just a US phenomenon, China's spiky, right? There's massive differences in incomes across provinces. And you see these sites that are hyper specialized in terms of you can find towns that are making, you know, 30% of the world's toothbrushes. You can have a, you know, a province where there's, you know, production of 3 billion pairs of socks and almost all the residents in that location are producing stuff related to sock manufacturing. You do this hyper intensive specialization in terms of particular things being produced in these specialized clusters. And so, generally, the world is spiky, right? You can't really tell the difference between large parts of land and basically the ocean in terms of economic activity is concentrated in a relatively small number of locations. And the question is, what should we make of that? So economists think about three types of agglomeration economies in terms of the benefits of being near other people, right? It lowers the cost of trading goods. If you and I are in the same city, we can swap goods more easily. It lowers the cost of finding the right person if we're doing, you know, face-to-face job interviews or getting referrals from people we know, and it lowers the cost of swapping ideas, exchanging ideas with each other. And so you might have a hypothesis that said, well, maybe the reason people are in Chicago, New York, and Los Angeles is just that those are very productive places. It doesn't really depend on where the people are located. And to some degree that's kind of true, like New York, you know, has natural features of the environment, like a deep water harbor. Chicago is access to Lake Michigan, the US is a coastal nation in which most people are living near the Great Lakes or near the coast. And that kind of explains why, you know, before railroads, before the automobile, it would be particularly advantageous to be at these water adjacent locations. But nothing in New York City, there's nothing in the soil or the bedrock of Manhattan that makes financial traders more productive, right? It doesn't make advertising agencies on Madison Avenue more productive because of some natural locational fundamental that is in the soil of New York City that's about access to other people, right? Locational fundamentals can't explain, you know, why everybody's clustering in Silicon Valley or the Microsoft led resurgence of Seattle or that place that's making, you know, 3 billion pairs of socks a year. The distribution of economic activity at this fine spatial resolution is primarily a triple to agglomeration economies. And so when you think about locational strategy and you say, should we have an office in China? That's not a valid question. Because you have to make a choice about, am I opening up in Shanghai? Am I opening up in Beijing or am I going to inner Mongolian, right? These are very different places. And similarly, if you're choosing between am I opening up, you know, in Enid, Oklahoma or in Chicago, those are very different places within the United States. And so locational strategy is interesting, even if you're just choosing locations within one country because distance and differences and these coordination costs also play out when we're thinking about strategy. All right, let me ask one last poll question just to ram this point home. So I'm gonna ask you, I'm going to tell you about a paper from Swiss mobile data. So imagine you're looking at all the phone calls that people are making in Switzerland. What fractional mobile phone calls do you think are between pairs of people that are within 10 kilometers of each other? I mean, think about your email inbox, right? So I have email, I can communicate with anyone in the world and I'd say like half of my email comes from people are in the same building as me, right? So, what's the point I wanna make here? I'll give you a second or two to respond. The point I wanna make here is that although it's true that these communication costs have fallen tremendously. Okay, so you guys are getting this poll, right? So I don't think I even have to share. The two most popular answers that people are picking right now is 60 to 80% and 80 to 100%. So that's a little too high, but here's what the data shows from Swiss mobile calls. Okay. The dark colors, the share of population. So of the potential people you could be talking to, like 3% of them live within five kilometers of you. But 48% of your phone calls and texts are to people that are within five kilometers. And if you, you know, people the next, you know, five to 10 kilometers away, it's another 2% of the population, but that's 15% of your calls. So basically half of your calls are made to people that are within 10 kilometers of you. So relationships are very local. We have this, you know, hypothesis that, oh, once everybody is broadband internet, et cetera, cities are gonna fall apart. Why would you wanna be located in Manhattan or downtown Chicago paying high real estate prices if you could just go do this, you know, from the other side of the earth using electronic communication. And COVID put this to the test, right? In the sense of COVID was a forced experiment with remote work. Video conferencing, document sharing, all of these technologies that we were using during the pandemic, those had been available for years, but people had not started using them. In fact, the pre pandemic paradox is that I was showing you that giant spike in Manhattan for prime services employment. I wrote a paper with Brent Neiman here at Booth where we classified what kind of jobs can be done remotely. And it turns out it's particularly those occupations that you find concentrated in big expensive cities are the ones that could be done remotely from anywhere. They could be done from a place in the middle of nowhere with very cheap real estate. But it's precisely those skill intensive knowledge occupations that can go remote that instead we're finding in big cities. And so that's this interesting question coming out of the pandemic in terms of what's the future of work? And I'm happy to talk about it during the QnA but you know, it seems like a lot of businesses are converging on the kind of hybrid thing when you work remotely Monday and Friday, you're in office Tuesday, Wednesday, Thursday, et cetera. Because there are some things that you can do really effectively. Like if you've got an established team and you can work remotely, then you know, you don't need to be face-to-face necessarily. But going a hundred percent remote where you never, you know, meet the other people is very challenging. We worry about new workers joining a new team onboarding, learning the company culture, and that's very difficult to do in a remote circumstance. So, you know, we're relatively optimistic about the productivity of hybrid arrangements where there's some face-to-face and some remote work. But if you thought that you were gonna go fully remote, then there would be a question, which is why is this job staying in the same country? Or is this an international outsourcing opportunity. If a tech company is gonna, you know, leave San Francisco and say, fine, you can go to Bozeman, Montana or Enid, Oklahoma, there's a question which is, well, why isn't going this job going to Kyiv or Bangalore, right? If you really don't need to be in the same place, then you should be thinking about an international firm with a global workforce. So these are ultimately questions about trade and labor services and economic geography. But you can see how I think locational strategy is at the international level and also at the very local level because these forces play out at all those different spatial scales and businesses are confronting the same set of questions and facing the same set of trade-offs as they make their strategic choices about how to manage the firm in the global economy. So let me wrap up here. I've probably talked too long and I'd love to, I've been seeing questions in the chat and I'd love to to speak to some of them. So, international business strategy matters because of these impediments to transactions, the frictions that are associated with this typology. I gave you these three categories of border, distance, and differences. And even though the world is pretty integrated, and I've showed you that trend over time, the world is not flat. There are a bunch of frictions, where at best semi globalized. And that's great news for somebody teaching a business strategy course with an emphasis on location because it says these trade-offs are important and they're interesting and we wanna develop strategies to navigate them. And even if the global economy were as integrated as the US economy, locational strategy would still be fascinating and a critical element of business strategy because you have got to choose where you're going within countries, not just, you know, which country you want to be in. Okay, so I'll stop there and I've seen some questions. So let me turn it back over to Kara and she'll let me know what people want to hear about.

Kara: Yeah, you got it. I did my best to kind of note which slides the questions came in on. But I'll go with more the recent ones, just given the topics you finished up. But first of all, thank you, a lot of gratitude in those comments and questions as well for this session and a lot of great feedback. So thank you. A few individuals we're curious why India is so uniformly spiky.

Jonathan: Okay. So, this is actually, I don't wanna make too much of this map because actually getting finely gridded population data is difficult, but the long and short of this is just India, the Indus Valley in particular is just an incredibly, you know, densely populated place. And so, I should be clear that, you know, this map here is a map of population density. And so this is just a function of, you know, huge number of people that live in India and then where you find them. Whereas the previous spike maps, were emphasizing, for example, here, this is a measure of economic activity, which is the value of economic activity that's being generated in each square mile of the United States. So there's a difference in terms of one spike map is about, you know, economic output, another spike map is just about population density. And so to some degree it just boils down to there's a huge number of people residing in, you know, the many different states and union territories of India.

Kara: Okay, fair enough. Thank you very much. This is the most recent one that was just submitted under the QnA. If you wanna take a look, it's a little long, but I'll read out loud. So, Vinamra asked, how has COVID changed the way businesses decide to make international transactions? And are there any factors that are generally undervalued in the modern decision making process?

Jonathan: Yeah, so COVID did a couple of things. One is the sort of short run question about supply chain disruptions and how you handle it in the short run. And then another is whether the pandemic is going to have permanent effects that mean that what kind of, you know, work arrangements, we think about change in the future in the long. And so I do think that businesses are now more explicitly considering some of the trade-offs in terms of being lean versus having some redundancies in their supply chains that allow them to, you know, if one element of that chain goes offline, that they have sort of have a backup that they can pivot to. So there have been a lot of conversations as a result of the supply chain hiccups in terms of how they're going to change international transactions. And I do think that this push towards remote work and, you know, increased digitization of a lot of transactions is going to favor, you know, hiring workers internationally and so forth. But I don't think it's going to be a tidal wave. I'm sort of in the medium on that. But there are some interesting startups that are doing work in the space, trying to make it easier to hire foreigners on these kind of digital platforms and do these kind of transactions. Let me mention one other thing since I just happened to have mentioned supply chain disruptions, which people, you know, were very excited about port congestion in like the fall of 2021, where, you know, like the CEO of Flexport was going out to the port of Los Angeles and were showing stacks of containers and were talking about how difficult it was to get truck drivers and that like stuff was stuck, right? And that, you know, because it goes through the port of Los Angeles, the international transactions are hitting a bottleneck that the domestic transactions wouldn't have and people started talking about re-shoring, et cetera. And it's true that the cost of getting something to the United States spiked in the fall of 2021. So here's, you know, one container price index for a 40 foot container, and you see it goes from like $7500 up to like $10,000. That's like a 30% price increase in the fall of 2021. And so this is people talking about bottlenecks and supply chain problems. But one of the key, you know, basic microeconomic insights that you're going to learn at Booth in microeconomics is you can't just look at prices. You have to look at prices and quantities together. And so it turns out that, you know, while the CEO of Flexport was doing these tours and criticizing, you know, the city of, I think it was Santa Monica, that you can only stack the containers four containers high, it turns out these prices were spiking. At the same time that the Port of Los Angeles and Long Beach was having record throughput. They were handling more container boxes than they ever had. And so what you can see is prices were up, but the quantities that they handled were also up in the fall, which the microeconomic lesson, by looking at both prices and quantities is that indicates this is a demand shock. People that are stuck at home wanted to buy more stuff and import more stuff. It wasn't a falling apart of the supply chain in terms of quantities didn't go down. It was that it just was the bottleneck coping with a huge amount of demand. But I think there's now a lot of interesting conversations about what can we do to make our supply chains more resilient? What can we do to sort of relieve some of those bottlenecks? 'Cause if there's a surge in demand, we would, of course want to be able to import more of those goods and have our infrastructure handle it in a sensible fashion.

Kara: Thank you. This is going back maybe 10, 15 minutes in the presentation. Is the Swiss trend seen across economies, specifically developed versus developing economies?

Jonathan: Oh, that is a great question. There's a reason which I, a reason why I just show you the Swiss phone call data, which is, this is relatively unique in terms of being able to, so these researchers are handling confidential in a relatively careful way because this is a person to person record of phone calls. So I'm not aware of any data set except this one from the Swiss telecommunications company that describes it. So we're not, I guess it's true, like I made the remark about email, right? Most of the email I get is from people in the same building as me or maybe the Gleacher downtown versus Hyde Park campus. So communication is very localized. And this comes down to just a question of do you think face-to-face interaction and electronic communication are compliments or substitutes, right? And what I believe, and there's some research by Glazer and Gaspar on this point is electronic communication lets you talk to anyone, but you probably wanna talk to the people that you're also seeing face-to-face. And so in a world of compliments, you're gonna get this pattern in which most of your phone calls are to very local ties. So I don't have data for another country besides Switzerland, but I have a pretty strong prior about what that data would look like if it existed.

Kara: Great, thank you. Also, going back a little bit into the presentation, would the closer metric for an apples to apples comparison be the profit of Walmart when comparing it to GDP? I know we talked about that's, you know, the trade, it's not a great comparison with GDP, but is there an apples to apples comparison, I guess is the question?

Jonathan: Yes. Well, there is an apples to apples comparison. So the conceptually appropriate thing to do is to count exactly what the questioner was asking about. You would want Walmart's profits, they're like capital income and you would want Walmart's payroll, right? Because if you do everything from scratch, that counts as value added. So the right comparison is GDP is a value added concept. Let's also measure Walmart's value added and that's their payroll plus their profits. Now the question is, could we possibly do that for the international transactions, right? We were talking about like, tracing, you know, where the stuff comes from. And the example that I flashed up on the slide quickly is one of these tear downs where you take an iPhone and tear it apart and look at who made the different parts and components and try to figure out what countries they're in in order to trace the value chain. And the answer is getting the full picture of the value chain, we just don't collect that information at the border when we're importing. You fill out the customs form, you say what's the value of the stuff? We don't make you explain the entire supply chain of transactions that came for it. So we don't observe a value added transaction history the way that, you know, it would be conceptually correct in order to make that value added trade to GDP comparison. Except for when we have preferential trade agreements with something called rules of origin. So this is a little bit of a geeky detail, but say, the NAFTA, the North American Free Trade Agreement, when you assemble cars within North America, cars go back and forth between like the US and Mexican and Canadian borders like five or six times and there's a requirement to be NAFTA eligible. You have to say at least I think the number was under old NAFTA, 62.5% of the value of the car has to be made in those three North American countries. And so in order to get that lower tax rate, the car manufacturers actually fill out incredible detail about what countries made what parts of the car in order to demonstrate that at least 62.5% of the value of the vehicle was done in North America. So for special situations with, you know, preferential taxes like that, then we do get a good picture of the value added sequence of transactions and we could, you know, produce the right apples to apples comparison for automobiles. But for most industries, we just don't get to see the whole supply chain like that.

Kara: How do black swan events like COVID and the Ukraine war change international business strategies in the short and long run? Is there a permanent deviation or do certain aspects remain the same over a period of time?

Jonathan: Yeah, so black swan events by definition are sort of very difficult to forecast, right? So there's a question about how much you should be preparing for them, et cetera. But as I said, I think some of these questions about redundancy or resiliency are becoming increasingly part of the discussion when we talk about global supply chains. I mean there is an important point to be made, which is, look, if there are states of the world in which your competitors have chosen a very lean, you know, single point of failure kind of supply chain and you've gone with a diversified strategy and you're making something that substitutes for your competitor's product, then in the states of the world where there's disaster, you're going to, you know, have a huge advantage and reap the rewards of that. So diversifying, you know, having that redundant supply chain means that you're selling something that's a scarce, you know, product in a crisis, that could earn big returns. So you could see companies try to play that strategy. But there's also a concern that maybe some of these things don't show up in terms of profits for the companies, but that there are externalities running around where you think that there's gonna be a kind of market failure where nobody sort of thinks about that state of the world, that black swan event, that's when there could be a role for government policy if you think there are externalities that people aren't internalizing. But I think this is definitely part of the conversation now in a way that it wasn't prior to COVID.

Kara: That makes sense. I go to two more questions and then I'll let you be on with your days. With the agglomeration concept, wouldn't same functional jobs concentrated in few areas also lead to higher competition with which sometimes are looked at as risks in a lot of businesses? Sorry, that was really jumbled. Hopefully it made sense.

Jonathan: Yeah. So, well, There's a question about is a more competitive environment a benefit or a cost? And that's a question of whether we're looking at the benefit to the consumers or the concern for the company. So of course, you know, all else equal, you might like to be a business that's the sort of, you know, that's in a company town, you would love to be the local monopolist. And so the way that you're gonna be a local monopolist is going to be a small market where you don't face any competitors, right? So, I'm actually, there's a PhD student here at University of Chicago that's studying this question in their dissertation. But the general pattern is gonna be, yeah, you go to a big city and you have all these lower costs of exchanging goods and ideas and you know, hiring, et cetera, but you're also facing a whole bunch of other firms in that place. There's a question about how firms should manage that competition, et cetera. But let's point out that the benefit for the economy as a whole is a clear win, right? If we have all these opportunities to have lower costs of transaction and we get a more competitive environment, that means that, you know, price is closer to marginal cost and we are efficiently, you know, setting the correct prices, then that would be good news for the consumers that are benefiting from that more intense competition. And we could, yeah. I'll leave it at that. And obviously, the perspective of the consumer on competition is different than this perspective of the individual firm that's facing that competition.

Kara: Great. This came up at the very beginning of the session and a couple times throughout and at the end. Are is there any additional like reading material, resources, et cetera that you would recommend to this audience who was very, very, very into this session and really appreciative? Anything you could recommend besides coming to the Booth, of course?

Jonathan: One thing that's distinctive about, I tried to look for books and turns out that there is no, I do not list a textbook on the syllabus because I didn't find, I didn't find something that matched my perspective. And so that I guess it's probably not a great answer to say well come to Booth and take the class, but that's what I'm able to offer. I will say that one thing that's distinctive about the class is we use Twitter to share course related materials. So if these kind of topics excite you, the hashtag on Twitter is #MFGE where MFGE stands for managing the firm in the global economy. And I've been using Twitter in the classroom for something like five, six years now. So you'll actually be able to see the kinds of stuff and the kinds of new stories that this class has talked about over the years.

Kara: Yeah, that's great. That's really good to know. And just kinda like last thing. In your time with Booth, any kinda like characteristics or things you've observed in students who tend to really excel here in the Booth classroom or any observations?

Jonathant:  Well, let me say Booth students are really impressive, and they're very diverse crowd.

Kara: Yeah.

Jonathan: So I find students latch onto different parts of the class and I get kind of in-depth experiences with some of them that find something that really resonates. So what I try to do in the course is offer a large menu of material and then the best interactions that I've had with students are saying, hey, you mentioned this one thing in class today and that's exactly like what I'm thinking about in the context of the business plan I'm trying to develop. Or, you know, I had one student send me an email afterward where we had gotten into kind of a geeky detail about rules of origin actually, which I was just mentioning about 10 minutes ago. And it turned out that her summer internship at a firm was involved with dealing with the rules of origin compliance. And so she was, you know, I'd only talked about rules of origin for 10 minutes in class, but she was 10 minutes ahead of the other summer intern. So I try to, you know, find that I offer a wide menu of stuff in the class and then Booth students are super talented and super diverse in terms of what they're interested in, et cetera. And they tend to just do a fantastic job of latching onto the bits that are high value added for them. And I love having those interactions where they follow up with me.

Kara: Yeah, that's excellent. I observed that even within this session, some of the chat going back and forth between the participants, certain areas you could tell that that the group was latching onto well. With that, I wanna wrap up. I cannot thank you enough. Thank you all for joining today. Thank you Professor Dingel. This was really insightful and such a great representation of a class here at Booth that you would have available. Prospective students or incoming students, admissions is here for you to help throughout the process. We will resume our in-person campus visits basically October. So keep an eye on the website. But again, thank you all. I really appreciate your time and this was a really great session. Thanks everybody. Take care.

Jonathan: Thanks everyone.