HOW THE INSTITUTIONAL CONTEXT
AFFECTS FOREIGN MARKET ENTRY
STRATEGIES IN EMERGING ECONOMIES
Evidence from Latin America
THESIS
Natascha Alexopoulos
10055975
22-08-2015
MSc. Business Administration – International Management
University of Amsterdam – Amsterdam Business School
Supervisor 1: Erik Dirksen MSc.
Statement of originality
This document is written by Natascha Alexopoulos who declares to take full responsibility for the contents of this document.
I declare that the text and the work presented in this document is original and that no sources other than those mentioned in the text and its references have been used in creating it.
The Faculty of Economics and Business is responsible solely for the supervision of completion of the work, not for the contents.
Preface
This study was inspired by two elements. First, the lectures of dr. Johan Lindeque at the University of Amsterdam. Dr. Lindeque, always provided exciting and educated lectures which motivated me to choose for the International Management track. Until the day of today, I am happy with my choice. Secondly, two years ago, I decided to take part in a voluntary project and travel in Brazil. This experience was life changing. It also encouraged my interest in Latin America and the way emerging economies work.
I was engaged in researching and writing this thesis from September 2015 to June 2016. The hardest part of this study was the acquisition of respondents. I want to thank all participating members for taking the time to talk with me and provide valuable insights to my research.
I want to thank my supervisor for the guidance and support during this process. I also want to thank my family and friends for the mental support during the entire period.
I hope you enjoy your reading.
Natascha Alexopoulos
Table of Contents Statement of originality……….….3 Preface………..…..4 Abstract……….….……7 1. Introduction………..…..8 1.1 Limitations of scope……….…..10
1.2 Structure of the thesis……….…10
2. Theoretical Framework……….……12
2.1 Emerging Economies………...12
2.2 An institution-based view………....…15
2.3 Market entry modes……….29
3. Methodology………..………...….35
3.1 Research design………...…35
3.2 Evaluation of method………..….…39
3.3 Data……….….42
4. Results………....…46
4.1 The presence of institutional voids……….…….46
4.2 The arbitrary and abrupt changes to the ‘’rules of the game’’……….48
4.3 Governmental policies favoring economic liberalization…..………..50
4.4 The presence of informal activity………...….53
4.5 Institutional context and influence on entry mode………...57
5. Discussion……….….65
6.2 Recommendations for future research……….73 Literature………..…….77
How the institutional context affects foreign market entry strategies in emerging economies
Abstract
Emerging economies are here to stay. Some of them have evolved sophisticated markets attracting large amounts of foreign direct investment. This thesis uses an institution-based approach in order to analyze the strategic considerations of firms when entering the emerging markets of Latin America. A new research approach is used as the sample does not only contain firms, but also strategic consultancy firms and Chambers of Commerce. Together, they provide a deep and rich understanding of how the institutional context is constructed in Latin America. Both formal and informal institutions were found to constrain the strategic choices of firms however, on different levels. Firms spend years of preparation and studying the host country before making a greenfield entry along with a strategic alignment of staffing operations.
1. Introduction
Every day the global market economy drives entrepreneurs and their global market presence to even higher standards. With the turn of the century a trend in of acronyms for emerging markets arose. Brazil, Russia, India, China formed the BRIC countries in 2001. South Africa was added to these countries in 2010 forming the BRICS. Also Colombia, Indonesia,
Vietnam, Egypt and Turkey formed the CIVET group. Many of these emerging economies have become sophisticated market economies. They have adopted a more refined allure which does not go unnoticed by the multinational firm. With a growing GDP and a rising middle class with more disposable income per capita, emerging economies present new investment opportunities to foreign firms. Unlike the traditional economic motives like cheap labor costs, market- and resource seeking opportunities are also relevant drivers of expansion to these markets (Hoskisson, 2000). Yet, global expansion comes with global complexity, certainly in the case of emerging economies. Though the investment opportunities are plenty, not all firms succeed into internationalizing their businesses in these economies.
The institutional environment of the host countries presents isomorphic pressures to small and large firms in order to gain legitimacy and perform well (Khanna & Palepu, 2000). These environments are often less familiar to the foreign entrants (Arnold & Quelch, 1998). The increase in foreign direct investment (FDI) towards emerging economies elevated the interest of IB scholars to study foreign entry strategies through an institution-based approach. The reason for this is that institutional context in emerging economies is significantly different from that of developed economies (Hoskisson et al., 2000, Wright et al., 2005). Moreover, the institutional environment of emerging economies is perceived as underdeveloped and less stable than in developed economies (Hoskisson, 2000).
Nowadays, the institutional perspective seems to be most dominant within international business research in emerging economies (Wright et al., 2005). Peng (2008) incorporates the institutional context to the the ‘’tripod’’ of strategy formation: (1) Industry-based
competition, (2) Firm-specific resources and capabilities and (3) Institutional conditions and transitions and connects the traditional perspectives of analysis (industry- and resource based view) with the institutional based view. According to Peng (2008), it is important to acquire a deeper understanding of institutions and explore how they matter. This echoes with the earlier standing point of Powell (1996) “tackle the harder and more interesting issues of how they matter, under what circumstances, to what extent, and in what ways” (p. 297).
This thesis responds to the scarcity of research on how institutions influence foreign entry strategy formulation. To direct this thesis, an overarching question is developed:
How is the institutional environment of emerging economies constructed and how does it affect the entry strategy of foreign firms?
To address this question, this thesis is taking a qualitative research approach with an
institutional perspective as analytical framework. By conducting semi-structured interviews with three different parties, each carrying a different level of involvement, this study attempts to contribute to the IB literature with new insights. This thesis draws its cases from Dutch stakeholders with an interest in market entry in the emerging markets of Latin America. Over the last decades, the Dutch government has been establishing political and economic relations with many Latin American countries. The Netherlands shares bilateral investment treaties (BITs) with countries in Latin America, including: Argentina, Brazil, Chile, Cuba, Ecuador,
investor country in Latin America, accounting for 20% of inflows that can be attributed to source countries (ECLAC, 2015). This predominantly reflects the Netherlands’ position as the largest investor in Brazil by far, since it is the source of 29% of flows into that country. Thus, studying Dutch investment efforts in Latin America is highly relevant. Also, the emerging economies of Latin America and their institutional environment remain
underrepresented in the IB literature. Departing from this, this thesis will address the gap in literature in two ways: Interviews are conducted with firms, strategy consultants and
Chambers of Commerce in order to (1) acquire a deep and rich understanding of the
institutional environment in Latin America and (2) acquire a deep and rich understanding of how this institutional environment influences market entry strategies of foreign firms.
1.1 Scope
Different from most literature, this study does not discriminate in the size, age, industry or resources of the participating respondents. This study does not make such a distinction, for two reasons: (1) to avoid further restraining of the already limited number of suitable cases and (2) to prevent the chance of excluding possible arguments related to strategy formulation and the institutional environment of the country. In order to gain an extensive and complete view this study focuses on three different stakeholders related to foreign market entry in emerging markets. The stakeholders are classified in three groups: (1) Firms, (2) Strategy consultants and (3) Chambers of Commerce.
1.2 Structure of the thesis
In this thesis the author tries to get an overview of what drives managers in their decision making -or their policies- that lead to their strategic choices. In order to achieve this goal, a deep and clear understanding of the institutional context in Latin America is required. We
begin our analysis by drawing on institutional theory to develop a theoretical perspective on how institutional transition drives entry mode choices and strategy formulation in emerging economies.
A theoretical framework is composed by the accessed literature in the fields of international business, -management, -strategy combined with streams of sociology and economic theories. First, the concept of emerging economies will be discussed in several topics such as how they arise and what their characteristics are. Through an examination of recent studies evidence is presented that drivers of strategy formulation are best understood by using an institution based approach.
The chapter on emerging economies, is followed by the integration of multiple theories upon which further sub questions are formulated. The formulation of sub questions serves as structure to answer the research question of this thesis which will be explored by using qualitative research. The motives for this research approach is discussed in the methodology chapter. The methodology chapter contains multiple subchapters explaining the researcher’s motives to conduct qualitative research by using semi-structured interviews. After the
conducted data is organized and presented, a conceptual framework is formed. This is further discussed in the discussion and conclusion chapter along with a general review of the results. We conclude our study with a discussion of the implications of our results, and we offer suggestions for further research.
2. Theoretical background
2.1 Emerging economies
In this chapter, the concept of emerging economies is discussed. This is done by providing definitions, describing how they arise and identifying which characteristics they share and how they differ from developed economies.
What are emerging economies and how do they arise?
Within the last couple of years, emerging economies have gained much attention from academics and businesses. They have been taking an increasingly prominent position in the global economy. In 2002, emerging economies not only received significant amounts of FDI inflows but also accounted for 12% of the world’s FDI outflows. FDI outflows of emerging economies grew more than 1200% over the last two decades hitting the $849 billion in 2002 (UNCTAD, 2003). The underlying reasons for their recent attractiveness are a combination of factors including their economic liberalization, the saturation of developed home-country-markets, the emergence of an identifiable target market with increasing disposable income and the marketing reach of the internet (Arnold and Quelch, 1998).
Emerging economies are low-income, rapid growth countries using economic liberalization as their primary engine of growth’’ (Hoskisson et al., 2000: 249). An emerging economy can therefore be defined as a country that satisfies two criteria: (1) a rapid pace of economic development, and (2) government policies favoring economic liberalization and the adoption of a free-market system (Arnold & Quelch, 1998). Emerging economies are also
characterized by their volatile macroeconomic development (Hermelo & Vassolo, 2010). The economic cycles are less predictable and smooth compared to those of developed economies.
Economic crises, varying from mild recessions to genuine economic collapses are not unusual to occur on a frequent basis as studied by Calvo et al. (2006). Nevertheless, the emerging economies are more able to bounce back to full recovery after a severe incident.
Hoskisson et al. (2000) defined 64 emerging economies. Of these, 51 are rapidly growing developing countries and 13 are in transition. The countries are located in Latin America, the Middle East, Southeast Asia, and Africa. According to the World Bank (2002), transition economies, are subsets of emerging economies. These are formerly socialist countries in East Asia, Central and Eastern Europe, and the newly independent states of the former Soviet Union. While some countries (e.g., Poland, Russia) chose to ‘’drop’’ central planning, others (e.g., China, Vietnam) attempted to gradually ‘’grow out of’’’ central planning through gradualist policies. Some countries (e.g., South Korea, Thailand) initiated major policy reforms under external, international demands, whereas others (e.g., Chile, India) unleashed policy shocks because of internal pressures (Peng, 2011). Among the 64 emerging economies mentioned earlier, there is considerable variation concerning their progress in economic and institutional development (Hoskisson et al., 2000). Some former centrally planned economies in Central and Eastern Europe (e.g. Hungary, Poland, Czech Republic, and the Baltic states) had made sufficient progress to accede to the European Union in May 2004.
The emerging economies of Latin America: A brief history
Since the 1980s most Latin American countries have initiated elements of structural reform programs in order to tackle down the economic crises of the 70s and 80s (Biglaiser & Brown, 2005). The measures led to the economic liberalization of most Latin American economies but the results of the reform remained lean: they did not meet the expectations for economic
growing social inequality led to social dissatisfaction and massive protests. Thus, the disappointment over the results of the reform translated themselves politically. From 1998 (center) left-wing politicians came to power in many countries. New leaders like Lula in Brazil, Morales in Bolivia and Correa in Ecuador quickly gained popularity among large groups of the society who, until then, had felt unrepresented in the political system.
The favorable economic climate, due to the robust rising global demand for the region’s raw materials, made it possible for the new leaders to gain greater political autonomy from the international financing institutions and embark on a more personal direction. The revenues from agriculture, energy and mining increased sharply and helped the Latin American economies expand by more than 5 percent in 2006 (Fatoni, 2007). Resources destined to expand social services to the population and reduce poverty became available.
In Brazil, the realization of social plans such as the Bolsa Familia, the rise of minimum wages, brought more stability to the purchasing power of the middle class (Varela & Kwen, 2015). Over the last decade, 25 million Brazilian consumers moved from the lowest income classes to the middle class. This resulted in a powerful middle class of 95 million consumers and making the emerging market of Brazil an interesting one for foreign investors.
Emerging economies and internationalization motives
Motives, such as cheaper production or logistic costs are not the only reason of
internationalization (Peng, 2008). With an increasing disposable income and wealth of the middle income classes, emerging markets become attractive for developed country firms to expand overseas and gain market share (Peng, 2003). As foreign enterprises gain more interest in internationalizing their businesses in emerging economies, at the same time,
emerging economy governments are changing their domestic policies in order to become more market-oriented and attract more foreign investors.
Yet, a weak institutional environment accompanied by political instability in these countries deters inward foreign direct investment. The lack of a strong legal framework increases opportunism, rent shifting, bribery, and corruption (Hoskisson et al., 2000). A growing interest for the efficiency of the institutional context of these countries arose since institutions affect economic performance (North, 1990). As the institutional capacity is key for attracting inward FDI these characteristics of emerging markets subsequently have a negative influence on the uncertainty and risk assessment for both domestic and foreign investors (Rondinelli, 1998: in Hoskisson et al, 2000).
In this thesis, we try to understand the institutional context of the Latin American countries and its impact on foreign entrant strategies. The institutional approach has been used often over the last years in order to understand the differences between home and host countries and the implication on international business strategies. The next chapter contains a thorough discussion of what institutions are, how they work and the shared characteristics in emerging economies.
2.2 An institution-based view
In this chapter, the institution-based view is divided in subchapters. The academic history and research on institutions is first discussed, followed by how they are related to economic performance. In addition, four dominant characteristics of emerging economies in institutional transition are set out which will form the spine of formulating the research
What are institutions?
The use of the term institution has gained widespread popularity over the last decades, not exclusively in the IB literature but other disciplines too including, social sciences,
philosophy, sociology and politics (Delios & Henisz, 2000; Hodgson, 2006; Rodriguez, Uhlenbruck, & Eden, 2005). The most common description in the IB literature of what
institutions are, is given by Douglass North (1990). He described institutions as ‘’the rules of
the game within a society’’. According to North (1990), these rules metaphorically stand for the formal rules and informal constraints that structure the political, economic and social interaction (North, 1990: 97). Institutions develop differently and evolve incrementally in each place where they are of relevance, such as countries and economic markets. Formed throughout history they create order and reduce uncertainty. For example, formal rules can consist of the judiciary system, e.g. the law, property rights and the resolution of disputes. Informal constraints at the other end can consist of sanctions, taboos, traditions and codes of conduct.
After North (1990), the sociologist W. Richard Scott also developed a conceptualization of institutions which he structured in three pillars: a regulative, a normative and a cognitive one. According to Scott (1995), these three pillars or dimensions of institutions consist of
structures and activities that provide stability and meaning to social behavior (p. 33). The regulative pillar has the capacity to establish rules. It comes down to the explicit regulative processes such as rule-setting, monitoring and sanctioning activities. The normative pillar includes both the norms and values within a system, where norms specify how things should be done, and values, which are the conceptions of the desirable behavior. The cognitive pillar lays emphasis on the centrality of cognitive elements of institutions and is mainly stressed by anthropologists. In order to understand or explain any action, not only the objective
conditions, but also the subjective meanings must be taken into account (Weber, 2009). Although, the three pillars address a different level of institutional conceptualization, they all provide a basis for legitimacy. Institutions govern societal transactions in the areas of politics (e.g., corruption, transparency), law (e.g., economic liberalization, regulatory regime), and society (e.g., ethical norms, attitudes toward entrepreneurship) (Peng, Wang & Jiang, 2008; Scott, 1995). It is clear both North (1990) and Scott (1995) use two approaches to describe the institutional context; an economical and a sociological one. North (1990), as an economic historian places more emphasis on the regulative pillar, exhibited by the rule systems and enforcement mechanisms. Scott (1995), as a sociologist, stresses also the normative and cognitive pillars of institutions. According to DiMaggio and Powell (1991), the cognitive pillar would be the main difference between classic and new institutionalism. Ultimately, the different approaches are complementary to each other.
In this paper we are specifically interested in institutions as a set of fundamental political, social and legal ground rules in one market (Davis & North, 1971; Peng & Heath, 1996; 2006). For this reason, both the definitions provided by both North (1990) and Scott (1995) will be used in order to identify and describe institutions. Additionally, by incorporating both definitions to this study, the chance of excluding possible arguments related to strategy formulation and the institutional environment of the country is kept to a minimum.
Institutional context, isomorphism and performance
As stated earlier, the institutional perspective has gained popularity over the last decades and is nowadays considered as one of the most descriptive and analytical ways to provide
organizations seek external legitimacy by complying with their institutional context which in turn, makes their existence and actions desirable and appropriate in the view of customers, suppliers, and the government (Brouthers, 2002; Dacin, 1997; DiMaggio and Powell, 1983; Estrin, Baghdasaryan, and Meyer, 2009; Guillén, 2002; Meyer, 2001; Meyer et al., 2009). Achieving this external legitimacy may provide firms access to resources vital to its survival and profitability. Boddewyn and Brewer (1994) argue that external legitimacy is more likely to occur when the firm puts effort in partnerships with local firms and personal relationships with the agencies of the host environment. Thus, adaptation to the national institutional context plays a key role in the competitive advantage of the firm (Kostova & Roth, 2002; Oliver, 1997).
It is important to understand that the relationship between the institutional context and the business environment is not a static one. Rather, the relationship between the institutional context and the business environment is dynamic and adaptive throughout time (Chung & Beamish, 2005). The institutional framework in which the firm is embedded affects the actions of the firm because it has a great impact on the strategic choices managers make (Peng & Heath, 2006). In other words, the strategic choices of a firm are selected within and constrained by the institutional framework. The strategy of the firm must adapt in order to fit its institutional context.
Institutional context and competitiveness
Economy-wide aspects such as corporate tax rates, the legal system and its enforcement, property rights and regulatory regime can constrain the competitiveness of the firm (Porter, 2000). We can speak of a clear interaction between the institutional framework in one country and the organizations which in turn shapes the economic activity. This has been
emphasized by several prominent economists and sociologists (Aoki, 1990; Granovetter, 1984; North, 1990; Williamson, 1985).
As the institutional context has an impact on the organizational level, it also affects the country’s competitiveness (Hill, 1995; Porter, 1990) and economic development (Davis & North, 1971) on a national and international level. In other words, the institutional framework affects a country’s economic performance by its effect on the costs of exchange and
production (North, 1990: 5-6). The presence of strong institutions in one country indicates a good competitiveness and a good economic development (Poster & Smith, 2010). Especially, for countries that are in transition, the dependence on a strong institutional framework is great (Peng, 2003). On a slightly more nuanced and sociological account of the role of institutions and their effect on economic development, Nee and Opper (2009) argue that the key to fostering long-term capitalistic development, lies in the bureaucratic quality. As they put it:
‘’The lower the bureaucratic quality, the higher the level of uncertainty faced by economic actors and the less the calculability in both short and long-term planning…’’ (Nee & Opper, 2009, p. 299)
It may come as no surprise that the index ‘’bureaucratic quality’’ has a strong positive effect on the economic development leaving African countries at the bottom of the scale while the Netherlands and the Scandinavian countries rank at the top (Poster & Smith, 2010).
Institutional Transition
In emerging economies, governments need to pursue an institutional transition in order to set up institutions that support the adapted economic direction. For example, emerging
frameworks, from focusing and central planning to market competition. The regulative pillar of institutions needs to change as well as the norms, values and attitudes towards
privatization and foreign direct investment (Hoskisson etal, 2000; Peng, 2003).
Consequently, the adapted institutional framework will also have an impact on the investment of foreign entrants (Xia, Boal & Delios, 2009).
Institutional transitions can be incremental or discontinuous depending on the reason for the institutional transition to take place. According to North (1990) institutional change is usually an incremental process because change typically comes in the form of marginal adjustments in the complex rules, norms and enforcement that constitute the institutional framework. At the other end, scholars like Gersick (1991) and Tushman and Romanelli (1985) argue that although institutional changes take place over relatively long periods, institutions can also evolve by punctuated transformations. We agree with the notion that institutions can evolve discontinuously, however additional commentary by Peng and Heath (1996) must be taken into account. Institutional change can happen overnight. For example, the governments of Central and Eastern Europe abolished central planning and liberalized their markets in the 1990s. However, it will always be the formal rules that can be changed with the stroke of a pen (Peng, 2003). The informal constraints within a society evolve incrementally. Moreover, the break down of old institutions and the construction of new ones does not necessarily have to occur simultaneously. Although institutional transitions increase order and reduce
uncertainty in the long run, in the short run they can lead to considerable chaos and increased costs (Oliver, 1992). This may bring a lot of uncertainties when doing business.
Consequently, the informal constraints become of higher importance within society. In other words, they become a more important feature in regulating the economic exchange during the institutional transition (Peng, 2003). With the absence of formal rules, it comes down to the
normative, and cognitive structures and activities within a society that are able to provide stability and meaning to social behavior (Scott, 1995).
According to North (1990), lagging or underperforming institutions lead to three central features: (1) high measurement costs, (2) continuous clientization efforts, i.e. the
development of repeat-exchange relationships with other partners, however imperfect and (3) intensive bargaining at every margin, i.e. the one holding better information will raise the costs of transacting to the other party and therefore have higher revenues. In emerging economies, the market economy is expanding with a high pace generating new or shifted demands from the institutional framework and urging the countries carry out institutional transition efforts.
The institutional transition in Latin America
From an economic point of view, even though the United States and the European union have a much higher income per capita, the region of Latin America is very interesting to foreign investors. The total purchasing power has increased faster in Latin America than in most developed and emerging economies since the 1950s (Vassolo, Castro & Gomez-Mejia, 2011).
In the 1980s, Latin America aspired an integration into the world economy. A shift in ideologies was needed changing the mentality from import-substitution to one of export-promotion. By attracting foreign inward FDI, it was believed that competition would increase and innovation could flourish. By adopting institutional and macroeconomic reforms FDI was stimulated. Elements of these reforms included the privatizations of state-owned
enterprises (SOEs) and joining regional trading associations such as the Mercosur and WTO (Treviño & Mixon, 2004).
Since efficient markets depend on strong market supporting institutions (North, 1990), an institutional reform needed to be pursued, replacing the existent governing framework with a new one (Treviño, Mixon Jr. & Upadhyaya, 2005). Emerging economies that pursue an institutional reform share a number of characteristics: (a) the existence of institutional voids, (b) the abrupt and arbitrary alteration of the ‘’rules of the game’’ (c) economic liberalization and the adoption of a free-market system (d) the existence of a large proportion of informal economic activity. These characteristics are further discussed in the following section and sub research questions are formed in order to gain a clear understanding of the institutional
context in Latin America.
a. The existence of institutional voids
When markets work smoothly, as they do in advanced economies, the market supporting institutions are almost invisible (McMillan, 2007). On the contrary, in less developed markets, the absence of a strong institutional framework is noticeable. The markets suffer a greater variety of market failure resulting in more stiff and poorly functioning (Khanna & Palepu, 2000). The development of effective capital, labor, goods and services, and technology markets is held back by the institutional voids they face (Khanna & Palepu, 1999). For example, financial markets in emerging economies lack adequate disclosure, have weak corporate governance and control, and are often constrained by poor legal protection and high transaction costs (Khanna & Palepu, 2000; Peng, Li Su, Pinkham, & Chen, 2009). Investors and particularly foreign investment firms are thence discouraged. Especially, when they need to undertake large or long-term projects (Lazzarini & Musacchio, 2001).
Khanna and Palepu (1999), did research on institutional voids and found that highly
diversified business groups can particularly perform well in the institutional context of most developing countries. Conglomerates can add value in developing countries by imitating some of the functions of formal institutions. Yet, FDI inflows in Latin America do not exclusively come from large and diversified business groups. Thus, the presence of institutional voids may affect businesses and their strategies in different ways when controlling for their size of industry in which they operate. Therefore, the following sub question is formed:
Sub question (SQ) 1: How do stakeholders experience the institutional voids of Latin America?
b. The abrupt and arbitrary alteration of the ‘’rules of the game’’
Institutional reforms demand adapted governing frameworks. The ‘’rules of the game’’ can be altered in an abrupt and arbitrary way by the government in order to initiate the transition (Vassolo, Castro & Gomez-Mejia, 2011). Another characteristic is that the regulation of competition can be poor. In this disarray companies tend to work with two strategies. The first strategy is underpinned in the intangible assets of the firm. It is a network-based strategy which makes use of the interpersonal ties and interorganizational relationships of the firm (Powell, 1990). The second strategy that is relevant puts emphasis on its competitive resources and capabilities such as financing and marketing efforts. This is a market-based strategy whereas the firm is not or less depended on the networks, relationships and connections (Peng, 2003).
As the relationship between the institutional context and the business environment is a dynamic one, organizations and firms particularly often need to increase their lobbying activities in order to secure their business positions. These lobbying activities tend to have a less transparent nature in emerging markets than developed markets. When the risk of
arbitrary changes in the institutional context and its regulation is poor, the value of being part of a business group becomes greater (Khanna & Palepu, 2000). In this thesis no
discrimination on firm size or nature of stake is made. Therefore, the next sub research question is formed:
Sub question (SQ) 2: How do stakeholders experience the abrupt and arbitrary alteration of the ‘’rules of the game’’?
c. Government policies favoring economic liberalization and the adoption of a free-market system
In the early 1980s the UK launched extensive privatization plans, which were successful and soon copied by developed and emerging economies globally (Perotti & Van Oijen, 2001). Latin American governments were compelled to open up their markets and financial sectors to foreign investors. Late 1980s Argentine, Brazil, Chili, Mexico and Venezuela began with the first liberalization of the stock markets and opened up for foreign investors (Henry, 2000). Perotti and Van Oijen (2001) found that by liberating the stock markets emerging economies gradually reduced their perceived political risk during their period of sustained privatization. An underlying reason would be that successful privatization programs require institutional reforms that significantly contribute to stronger legal frameworks, ultimately leading to increased investor confidence. Liberating the market can also do justice to the
country when the market works smoothly. It is an indicator that the institutions work accordingly.
In order to examine how the government policies are adapted or changed over time in order to facilitate economic liberalization and the adoption of a free-market system, the following sub research question is formed:
Sub question (SQ) 3: How do stakeholders experience the government policies favoring economic liberalization and the adoption of a free-market system?
d. The existence of a large proportion of informal economic activity
Despite the progress and improvements of the last decades, Latin America still faces a vulnerable institutional context due the institutional voids, abrupt and arbitrary alteration of the rules of the game and weak market infrastructure. This institutional context of
underdeveloped institutions incubates extralegal business activities and causes corruption to prosper (Vassolo, Castro & Gomez-Mejia, 2011). According to de Soto (2000), the extralegal sector is a key element of the Latin American economies.
Since the government does not provide a strong and enforced legal framework, people organize themselves into separate extralegal groups of economic activity (de Soto, 2000). In the 1980s this extralegal or informal sector was still considered to be relatively small but research revealed the contrary. However, over the last decades a new class of entrepreneurs has arisen from these extralegal populations with their own legal arrangements. The
Mexico’s economic activity resided in extralegal activities and continued to grow rapidly since then. In Brazil, despite the construction industry reported a mere 0,1% growth in 1995, cement sales grew approximately 20% in the first six months of 1996. This apparent anomaly was due to the 60-70% of the region’s construction industry that never got recorded. The same phenomenon also took place in Peru. Though the construction industry was declining, cement sales were increasing for the construction of houses, buildings and businesses that were not legally registered (de Soto, 2000: 76). In a different study, Mesquita and Lazzarini (2008), studied small and medium-sized businesses in Argentina’s furniture industry. They found out that over 98% of vertical and horizontal relationships are based on interpersonal commitments and word of mouth communication. These informal interdependences and network clusters come into existence because entrepreneurs do not trust speed and reliability of the legal system (Rocha, 2006). As a result, alliances and relationships that hold little to no legal or contractual protection emerge. Thus, legal registered companies need to compete in an environment, whereas an enormous extralegal sector plays by a different set of rules (Vassolo, Castro & Gomez-Mejia, 2011).
It is important to notice that contrary to popular wisdom, operating in the extralegal sector goes hardly without charge (de Soto, 2000). Doing business in the extralegal sector is taxed by the lack of good property law and continually having to hide operations from the
authorities. Entrepreneurs cannot reduce risks by declaring limited liability or obtaining insurance coverage. Moreover, they constantly fear government detection and extortion from corrupt officials. For example, bribes, extending from ‘’free samples’’ and special ‘’gifts’’ to cash make up for 15% of Peru’s gross income from manufacturing in the extralegal sector. These enormous numbers of extralegal business activity are no new phenomenon. It is the outcome of governments failing to define a legal framework and set up institutions that
coincide with the way citizens live and work. This was also the case when the Industrial Revolution started in Europe. Governments were overwhelmed with a growing extralegal sector, poverty, corruption and social discontent. According to De Soto (2000), governments need to modify and adapt their company and property law to the needs of the entrepreneurs accustomed to the extralegal framework. Only when people recognize or believe in the potential benefits the legal framework of a country can bring them, laws will be regarded and obeyed (Gruter, 1991).
As London and Hart (2004) put it, doing business within the extralegal sector plays a
different and more substantial role in emerging economies than in advanced economies. Next to desire to hide unauthorized activities, entrepreneurs are discouraged to enter the legal business landscape by the high degree of bureaucracy dominating the business environment. For example, it takes 83 days to register a business in Brazil, 25 days in Argentina and 26 in Peru. On the contrary it takes 0,5 days to register a business in New Zealand, 1,5 days in Canada and 4 days in the Netherlands (The World Bank, 2016).
The informal sector exists in every country over the world but in a different extent and not always with the same nature. Therefore, the next sub question is formed:
Sub question (SQ) 4: How do foreign stakeholders experience the informal economic activities in Latin America?
2.3 Market Entry Mode
Foreign entry strategies are constructed by three components: (1) the rationale for market selection, (2) the choice of entry mode and (3) staffing and establishing foreign operations as illustrated in Figure 1. In this thesis, the second component of foreign entry strategy will be examined though an institution-based view.
Figure 1. The components of foreign entry strategy
Source: Author
Entry modes
The entry strategy of the firm in a host market is a crucial element of international expansion (North, 1990; Uhlenbruck, Rodriguez & Eden, 2006). In the international business and strategy literature, entry modes have long been associated with varying degrees of resource commitment, exposure to risk, degree of control, and profit return (Delios & Henisz, 2003; London & Hart, 2004; Pan & Tse, 2000). The choice of entry mode has been studied through different theoretical perspectives, starting with the transaction cost perspective in the
beginning of the 1900s. IB and strategy scholars have studied the industry and resources based perspective, the transaction cost and the OLI have been some of the most popular ones of the last decades until the emergence of the institution based view. As each perspective can have a significant impact on the choice of market entry, so can the national institutional
environment of a country (Henisz and Delios, 2001; Martin, Swaminathan, and Mitchell, 1998; Rodriguez, Uhlenbruck, and Eden, 2005; Xia, Boal & Delios, 2009).
Firms naturally seek the highest degree of control and profit return for the lowest resource commitment and exposure to risk. Additionally, multiple authors studying the
internationalization strategies of MNEs have consistently suggested that MNEs seek
institutional isomorphism through their choice of market entry in the host country (Estrin et al., 2009; Guillén, 2002; Meyer et al., 2009). Departing from these two concepts, the hierarchical model of choice of entry modes is used for this thesis (Pan & Tse, 2000). Accordingly, previous studies have showed that MNEs tend to prefer the hierarchical entry strategies because they tend to achieve a higher level of internal isomorphism and
consistency. The headquarters are more capable of transferring knowledge, skills and routines to the subsidiaries and are more effective into integrating the local businesses into their global operations (Davis et al, 2000; Gupta & Govindarajan, 1991; Kostova & Zaheer, 1999; Zaheer, 1995). In other words, by using hierarchical entry strategies, firms can maintain their traditional mode of operations and put more emphasis in strengthening their global
capabilities (Peng, 2003; Peng and Heath, 1996).
In figure 2 the Hierarchical model of choice of entry modes by Pan and Tse (2000) is displayed, which will be leading in this chapter. The hierarchy of the levels resembles the level of commitment, risk exposure and degree of control. First, the mode of entry depends on whether the firm wants equity in the host country or not. If the firm chooses for a non-equity mode, the level of commitment is lower as well as the risk exposure and the degree of control.
Figure 2. A hierarchical model of choice of entry modes.
Source: Pan, Y., & Tse, D. K. (2000).
The first option is Export, which stands for the lowest resource commitment and risk
exposure. The firm can choose to export its product directly to the host country. This requires a lot of time, energy and staff resources, however, the firm is still in control of pricing and brand image. In contrast, indirect export does not allow direct contact with the end customer since the firm has an intermediary in the form of an agent or distributor who also takes a margin. Secondly, moving from left to right to the next option of entry mode choice, the firm can choose for contractual agreements which can be divided into licensing, alliances and
R&D contracts. If the firm wants to increase its resource commitment and degree of control,
Choice of Entry Modes
Non-Equity Modes Export Direct Indirect Others Contractual Agreements Licensing Alliance R&D Contracts Others Equity Modes Equity Joint Ventures Minority EJV 50% share EJV Majority EJV Wholly Owned Subsidiary Greenfield Acquisition Others
difference between a JV and a WOS is that a JV is a joint internationalization between two parties whereas a WOS is a sole internationalization practice. In other words, to start a JV, a firm will need a partner with whom a new firm will be created. According to Hennart (2000), joint ventures occur when the bundling of the firms creates synergy. The two firms together can create more value by their complementary inputs unlike when the cooperation would take place by paying ex ante for the contribution of the other. While some authors present
empirical evidence that MNEs with internationalization experience are less likely to set up JVs (e.g., Gatignon & Anderson, 1988; Hennart, 1991) other present conflicting findings (e.g., Gomes-Casseres, 1989; Padmanabhan & Cho, 1996), leaving the IB literature inconclusive on this topic.
On the contrary, the foreign firm will choose for a WOS if the complementary resources can be purchased on the market. Here, the firm can choose between a Greenfield and an
Acquisition. The choice between Acquisition and a Greenfield investment is rarely influenced
by legal issues (Xu & Shenkar, 2002). Entering a foreign market by acquiring a local player is a prominent internationalization strategy which is mostly used by MNEs that wish to gain relatively quick access to the foreign market (Pan & Tse, 2000; Yin & Shanley, 2008; Xia et al., 2008). This strategy is also favored by firms pursuing a product and geographic
diversification strategy (Hollensen, 2004). However, even though the foreign firm has acquired the local player, just like with a JV a collaboration with the local player must be developed. Especially in the first critical phase where the acquired subsidiary now must integrate with the foreign company, difficulties can arise from the differences in
organizational and national culture (Hollensen, 2010). For example, studies have pointed out that foreign firms that made an acquisition in Central Eastern Europe (CEE) countries were
integrate the acquired firm (Meyer & Lieb-Daczy, 2003; Whitley & Cza ban, 1998). This observation echoes with the proposition that the national institutional environment of the host country may affect the entry strategy of the foreign entrant. This can be traced back to the pillars of national institutions where organizational values and practices are rooted in the normative and cognitive dimension (Kostova & Zaheer, 1999; Scott, 1995).
The problems that acquisitions entail, can be a motive for firms to build their subsidiaries in the host countries from scratch. In this case, the firm chooses for a Greenfield. This entry mode is particularly popular when production logistics is a major industrial success factor and there are no suitable companies are available to take over or when acquisition is too expensive. A Greenfield is often viewed as the strategy with the highest resource
commitment since firms may choose to invest in a production line in the host country.
Entry strategy in emerging economies
Over the last decades many IB and strategy scholars have done research on MNE behavior and choice of entry modes. Research identified a homogeneous trend in the entry mode strategy of MNEs. Firms with multiple entries, tend to use the same strategy across the different host countries (Padmanabhan & Rao, 1999). In other words, the more experienced firms get in internationalizing their business by using a particular strategy, the more likely they are to use this strategy again in another host country (Baum & Korn, 1999: 177). While these findings may hold ground for the internationalization path of firms in developed economies, this is not the case when the institutional distance between the home and host country is relatively large, as it is in emerging economies.
Foreign investors take interest in these developing economies but face great challenges when formulating an entry strategy. The two main strategies are (1) local adaptation and (2)
leveraging the global competitive resources (Boisot & Child, 1999). In the first case, foreign entrants choose to ‘’go local’’ by adapting their corporate strategy to the local conditions and playing the networking game. This usually happens in the form of joint ventures and strategic alliances with local players in order to develop long-term relationships. In the second case, firms implement global routines and standards, with a strong emphasis on speeding up local operations. In this case, foreign entrants prefer full ownership of the subsidiary and enter through Greenfields (Meyer & Estrin, 2001; Uhlenbruck & de Castro, 2000). This strategy depends fully on the resources of the multinational. Which entry strategy the firm choses depends on the institutional pressures it faces.
Xu, Pan and Beaminsh (2004) present empirical evidence regarding gaining legitimacy by complying with the external pressures of the host environment. An effective strategy would be entering the emerging economy by sharing ownership with a local player. A local player can provide access to local know-how and its existing network of suppliers and consumers. From an institutional perspective, this indicates that a Joint Venture or Acquisition are suitable strategies in emerging economies. However, this only holds ground for the regulatory dimension of institutions. When controlling for the normative and cognitive dimensions, JVs and Acquisitions would not be a suitable strategy since conflicts are more likely to arise though differences in norms, values and practices. Moreover, an acquisition can especially be overwhelming on the cognitive dimension (Xu & Shenkar, 2002). It serves as a painful reminder to the foreign company of their loss of competitiveness accompanied with diverse consequences on employment, such as downsizing. Aside from this, the number
typically controlled by dominant stakeholders (e.g. families), business groups or the state (Khanna and Palepu, 2000; Lin et al., 2008). The institutional pressures foreign firms face will ultimately define the strategy the foreign firm choses to enter the host country (Peng, 2003). This brings us to the research question of this thesis:
RQ: How is the institutional environment of Latin America constructed and how does it affect the entry strategy of Dutch firms?
3. Methodology
This section presents the methodology used to address the research question of this study. First, the motives for a qualitative research approach are explained. Secondly, the overall research design and the sample for this study are explained. Finally, an evaluation of the methodology is made.
3.1. Research Design
Motives for qualitative research
In this thesis, a qualitative research approach will be used for three reasons. First, the principal orientation to the role of theory in relation to research is inductive, whereas the researcher aspires the generation of theory by the formulated concepts. An effort has been made in the theoretical framework in order to identify the three pillars of the institutional context and their nature. However, abstract relationships and concepts and implicit assumptions still dominate the research literature. Since the research question puts an emphasis on how foreign firms’ choices are influenced by the institutional context of
emerging countries, the epistemological orientation of qualitative research is interpretivism, meaning that the researcher aspires an understanding of the social world through an
examination of the interpretation of that world by its participants. This research method is particularly helpful for the exploration and examination of these relationships, concepts and assumptions (London & Hart, 2004). Secondly, when controlling for the ontological
orientation of qualitative research, there is a fit. The basic principle here is constructionism, which implies that social properties are outcomes of the interactions between individuals, rather than phenomena ‘out there’ and separate form those involved in its construction. This is in line with the notion that organizations do not operate individually but are affected by
is supported by Hoskisson et al., (2000) who recognize the usefulness of qualitative exploratory research in examining strategies in emerging economies. This thesis puts an emphasis on how foreign firms’ choices are affected by the institutional context of emerging economies. Accordingly, the nature of qualitative research makes it most suitable.
Design
The research question of this study is concerned with how the institutional context of
emerging economies can influence strategic entry decisions of firms. In order to address this research question and arrive at a deep understanding on the matter, this research design is constructed in a way to get a clear understanding of the institutional context of Latin America before the examination of entry strategies is done. This is accomplished by breaking down the research question (1) How is the institutional context of Latin America constructed? and (2) How does it affect the entry strategy of Dutch firms? To a large extent, these questions are answered by ten semi-structured interviews. In chapter 2, four characteristics of emerging economies facing an institutional transition were discussed. These characteristics and their corresponding sub questions form the foundation of answering the first part of the research question as illustrated in figure 3.
Figure 3. The sub questions of relevance to understand the institutional context of Latin
America.
Source: Author
Sample
The construction of the sample was determined by two independent variables: (1) Emerging economies and (2) Stakeholders. For the variable Emerging economy, Latin American countries were selected because of their underrepresentation in the IB literature and because of their common historical origins and culture as they experienced Spanish and Portuguese colonization efforts in the 15th and 16th century. Additionally, their comparable levels of development in terms of economy, political stability and turn to the left-wing political parties in the 20th century could indicate similar institutional environments as they evolve
incrementally and are formed through out history (North, 1990).
Institutional context of Latin America
SQ1: How do stakeholders experience the
institutional voids of Latin America?
SQ2: How do stakeholders experience the abrupt
and arbitrary alteration of the ''rules of the game''?
SQ3: How do stakeholders experience the
government policies favoring economic liberalization and the adaption of a free-market
system?
SQ4: How do foreign stakeholders experience the
impacts foreign strategies. For this reason, other stakeholders who have a direct relationship with the emerging economy and the foreign firm are also included in the sample of
interviews. Firms are not solely involved and concerned with the institutional environment or the only ones that can provide insights. The IB literature indicates that often multinational firms pursue one global strategy, however, this would mean that a large amount of relevant data would not be uncovered. This was the main motive for a different strategic approach in this thesis. In this thesis we include the relevant stakeholders regarding the industry on three different levels: the firm, the consultant and the chamber of commerce.
The firm is interested in the emerging market for commercial reasons such as market-seeking motives, resources or production motives. It is exposed to the institutional context and its strategic choices are constrained by it. The consultants have a commercial interest in the firms that want to expand their businesses overseas. Consultants are able to provide business services such legal support, but also consult the firm in market entry decisions, investment and even local representation. As their interest is guided by mainly commercial purposes such as revenue, we also included a party with a more neutral standing point: The Chamber of Commerce. The Chambers of Commerce are organizations initiated and partly established by the Dutch government in order to support businesses in specific emerging economies.. The Dutch government is one that has emphasized the importance of international trade and has been making many efforts to promote international trade in Latin America over the past decade. The members of the Chambers are physically present and exposed to this institutional context on a daily basis for all their business activities. Moreover, with the respondents having a Dutch background, they are able to make a clear presentation and interpretation of the institutional context, its characteristics and impact on foreign firms’ strategies.
According to North (1990) and Oliver (1991) ‘’both the formal and informal constraints of the institutional framework must be taken into account when any analysis of firm behavior is done’’. For this reason, there is no discrimination between the different aspects of
institutions. We view the different aspects of institutions as the independent variable, since these ultimately establish the context in which firms act and compete.
3.2 Evaluation of methodology
Reliability and validity
In terms of external reliability, the degree in which this study can be replicated is one of the major weaknesses of this study. According to LeCompte and Goetz (1982), it is not possible to ‘freeze’ a social setting and the arguments for the initial study and make it replicable. Some of the variables that have a strong influence on this social setting are time, the global economy, politics and the financial wealth of the company wanting to invest. Especially in the case of emerging economies, ‘’freezing’’ the setting is nearly impossible since one of their main characteristics is the volatile economy (Hoskisson, 2000; Peng, 2008). In this sense, the external reliability is a criterion that is difficult to meet in most of qualitative research.
The internal reliability of a study questioned when a study makes use of more than one observer. An inter-observer consistency must be met in what the researchers see and hear and agree about it. However, this is not the case in this study because there is only one observer. In contrast with the external reliability, the internal validity is recognized as one of the strong suits of qualitative research (LeCompte & Goetz, 1982). Internal validity is defined as
the observation of the researchers and the theoretical ideas they developed is perceived as strong.
A potential risk of this methodology would be the interpretation of causal relationships deriving from the author himself as opposed to causal relationships being described directly by the interviewees. To address this risk, the author attempted to describe all findings according to the quotes of the interviewees. Additionally, the interviews were constructed in open questions, giving the respondents the freedom to respond with answers that came to mind first and answers that were most relevant to the case. Follow-up questions were asked according to the answers provided in order to focus more on the institutional aspects. Also, to increase the internal validity of this thesis, other influences such as country-, industry- and resource-based factors were included in the analysis of the interviews. By capturing alternative explanations of the firm’s strategic decisions and addressing these rival explanations other than the institutional context the fit between the observations and accumulation of theoretical ideas is protected (Yin, 2009).
As this study depends heavily on the conducted interviews vulnerabilities still remain. The risk of the respondents understanding questions differently than they are meant to exists and generates a risk of misinterpretation of the answers given related to strategy formulation.
The external validity refers to the degree to which the findings of the study can be
generalized across social settings (Bryman, 2015). In this case, this is the degree to which the institutional context of Latin America drives businesses to certain strategic decisions and entry modes. The external validity of qualitative research is considered to be relatively low. This limitation is caused by the generally small sample seizes in qualitative research. This
thesis, makes use of ten interviews but tries to address this issue by choosing a different approach to collecting data. Instead of enlarging the data sample, data from three different levels of involvement regarding the research question is gathered: the firm, the consultant, the
3.3 Data
The interviews were conducted between November 2015 and March 2016. The collection of relevant data started with an inductive semi structured interview with the consultancy firm HollandBrazil. This interview was held as a pilot interview, in order to identify matters that are relevant for the next interviews and to gain advice.
In total, eleven interviews were conducted, however, one interview was not included in the dataset as it did not meet the qualitative criteria. Ten interviews are included in the dataset of this thesis. From the ten interviews, two were conducted with firms, four with Chambers of Commerce and four with consultancy firms. In table 1 the descriptives about the interviewed firms are demonstrated.
Table 1
Participating firms and descriptives
Firms
Name Jumbo Maritime Van Oord
Industry Offshore Shipping Offshore Dredging Size in number of employees 200-500 4000-5000 Age ≈40 ≈150 Local presence Latin America
Argentina, Brazil, Chile, Colombia, Curaçao, Ecuador, Peru
Argentina, Brazil, Colombia, Mexico, Panama, Peru Business activity Latin America Contractor of Petrobras.
Setting up the infrastructure in order to transport the raw oil and gas from the
ocean to the refinery. Shipping of modules.
Placing the network of pipelines on the seabed.
Construction of foundation for oil and gas
refineries
Activity
respondent Market analyst Market analyst
In table 2 the participating Chambers of Commerce and the interviewed respondents are presented. Often, the Chambers of Commerce had a supervisory board which was assembled by representatives of large Dutch companies in the corresponding country. In the case of Cámara de Comercio Argentino-Holandesa (CCAH) (Spanish for, Argentine Dutch Chamber of Commerce) the interview was conducted with two respondents: the general manager and the commercial consultant.
Table 2
Participating Chambers of Commerce and descriptives
Chambers of Commerce Name Cámara de Comercio Argentino-Holandesa (CCAH) Holland Brazil Chamber of Commerce (HBCC) Holland House Colombia (HHC) Netherlands Chamber of Commerce and Industry in Mexico Business activity Trade missions Market Entry Business Support Business Promotion Networking Market Entry Business Support Business Promotion Networking Market Entry Business Support Business Promotion Networking Market Entry Business Support Networking Number of members ≈90 ≈120 ≈120 Unknown Size of
members All All All All
Activity respondent General manager Commercial consultant Managing
director Executive director
Managing director Source: Author
goodwill to offer a variety of services to companies that wish to expand their business activities in Latin America.
Table 3
Participating consultancy firms and descriptives
Consultants
Name ACCESS Latin
America TRANSFER Latin Business Consultancy HollandBrazil BizzBrazil Active in Argentina, Brazil, Chile, Colombia, Ecuador, Peru Argentina, Brazil, Chile, Colombia, Mexico, Peru Brazil Brazil Number of clients ≈50 ≈1800 ≈35 Unknown Business activity Representation Partner Selection Market research Starting up a business Project Management Trading Investment Services Market research Partner selection Export support Legal & Accountancy Trade missions Representation Partner Selection Market research Starting up a business Legal & Accountancy Trade missions Networking Starting up a business Creating footholds Market research Project support
Respondent Business agent CEO
Founding partner & managing director Founder Source: Author Data analysis
The interviews were recorded on the iPad of the researcher. The audio files were transcribed and imported in NVivo the qualitative data analysis computer software package. NVivo was used to structure and analyze the non-numerical data derived from the interviews. NVivo was used to classify and arrange information relevant to the research question by creating nodes
about a specific theme is acquired. When coding the transcribed text, data was labeled, separated and organized.
According to Charmaz (2006), selective or focused coding is best method to keep the coded data manageable. Therefore, the researcher started coding with a prepared list of codes and themes that emerged through the literature. However, the researcher had an open attitude towards new themes and codes. At last, a list of 70 codes was formed, in which the number of references varied between one and ten sources. The codes and themes with the highest perceived relevancy, or in other words, the highest amount of references were interpreted and are discussed in the the following chapter.
4. Results
4.1 How do stakeholders experience the presence of institutional voids?
In the conducted interviews, all respondents mentioned the presence of institutional voids. These voids were not always described as an absence of strong market supporting institutions but also expressed in terms of lacking efficiency, being complex and ambiguous. The
institutional voids in Latin America were mainly the outcome of the failing regulative pillar of institutions. Within this regulative dimension, two issues were central in all interviews: the bureaucratic deficiency and the fiscal policies of Latin America.
Bureaucracy
Bureaucracy was a theme that was invoked in all interviews and gained much attention. It is described as one of the main reasons why foreign firms spend a lot of time discovering the vast and complex regulative institutions of the countries and often still fail. Noticeable is the nature of the bureaucratic deficiency. The high degree of bureaucracy in the examined countries was not necessarily described as a direct consequence of underdeveloped national institutions, rather, it is created by the state in order to generate more jobs. By this,
‘’administrative’’ jobs are created in the public sector, whereas efficiency is not a high priority. The priority here is to create employment. Secondly, by making this sector less accessible, it enforces the protectionist regulatory regime, which is often pursued for political means.
The local market and everything associated with it, the government and all its little empires must be kept busy… And efficiency, no, that is not a priority for them. Efficiency is not important to them. So, for a lot of these sub-institutions of the
government, it is far more important to them that jobs are generated for the people.
- Managing director, Netherlands Chamber of Commerce and Industry in Mexico
Fiscal policy
As the respondents mentioned, the fiscal policy in Latin America can be quite extensive and troubling for businesses, local and foreign. For example, in Brazil the tax regime counts over 72 different taxes associated with three levels of paying taxes to the state: local, regional and national. According to PwC (2012), the average time companies spend globally on tax
compliance is 268 hours a year (nearly seven weeks based on a 40hour week). South America counts the highest time to comply with taxes despite the introduction of the electronic filing and payment systems. In Brazil in particular, this average is 2.600 hours per year to comply with the Brazilian tax code. As the nation has developed with such a high pace, each region developed many and varying tax codes, some of which contradict with one another.
Also, as two of the respondents mentioned, it is not uncommon to adjust or compensate state budgets by raising and adjusting taxes. Of course this has an impact on businesses efforts, foreign or national. On top of this, still, some markets in Latin America are not accessible for foreign investors to import their goods because of the fiscal barrier.
Yes, Brazil is super protectionist. The tax policy is one of the examples, they force businesses to open up factories just because it is nearly impossible to import their products and sell it for a somewhat reasonable price. – Managing director, HBCC
Because foreign entrants want to keep the invested resources in the subsidiary to a minimum, the subsidiaries often have a weak financial status towards local businesses and the
government. This results in the exclusion of participation by foreign subsidiaries in local tenders despite the strong financial position of the parent company. Also, a certain degree of discrimination was mentioned where local businesses are chosen above international
businesses even when they have local presence by a greenfield in the country.
‘’… And yes, we do not have a large entity, we try to not let much pass through, for example in Colombia. So, they tell you that your financial position is not strong enough to manage the project. There are many rules and a strong financial and fiscal position is one of them. It becomes hard to participate while you have a large and strong international firm behind you. It can be challenging…’’ – Market analyst, Van
Oord.
‘’…As I mentioned before, we set up a local entity in order to be recognized as one, that saves a lot of trouble but still, local players are privileged. That just what happens with tenders…’’ – Market analyst, Van Oord.
4.2 How do stakeholders experience the abrupt and arbitrary changes to the ‘’rules of the game’’
Also this characteristic of institutional transition was mentioned in all interviews. Already discussed in the previous section on bureaucracy and fiscal policy, it is not uncommon for Latin American governments to adjust or abruptly changing the ‘’rules of the game’’.
