International arbitrage: the role of digital networks

31 Mag
Foto del profilo di Olga Annushkina

by Olga Annushkina

SDA Professor of Strategic and Entrepreneurial Management

We do arbitrage all the time. Our daily routines consisting of private and work-related decisions are all about measuring and comparing the differences. An online purchase of a car insurance via a quote calculator: price arbitrage. Choosing a certain restaurant with a dinner with friends: benefits arbitrage. Using public transport vs. car: time arbitrage. Delocalization of an assembly line to an emerging market: labour cost arbitrage. Delocalization of an R&D centre close to a university hub: knowledge arbitrage.

To large extent, globalisation processes are all about arbitrage too – resources, products and services are shifted among countries in attempt to capture the opportunities arising from the differences among markets.
Digital networks, reducing barriers to international markets and connecting companies at the global level, have become a major catalyst of cross-border arbitrages.

Internationalization as an arbitrage process

We attribute the first recorded explanation of the international tradewrold  phenomena to Adam Smith’s concept of the absolute advantage, when country A is more efficient in the production of a certain good than country B: those differences created opportunities for trade. Since the first overseas trips by ancient merchant ships the global demand had been constantly seeking to benefit from the differences among countries. International business activities thrive thanks to the differences in natural resources endowment (mineral resources, climate, water, etc.), in quality (or productivity) to cost ratio of labour resources (skilled and unskilled), in legislation (leading to the differences in fiscal pressure, in costs invested for safety and performance of products and services), in industrial structure (availability of adjacent industries contributing to a higher quality and lower cost of the final product), in the business context (for instance, the intensity of competition leading to higher degree in innovation and quality).

How digital networks enable cross-border arbitrage

Digital technologies became important enablers of globalization by allowing businesses and individuals to significantly simplify the access to the international arbitrage opportunities. In fact, digital global flows were the focus of the recent McKinsey’s report on globalization.

Technology made feasible the offshore outsourcing of a large variety of white collar jobs not only in information technology: other jobs are being outsourced to the English-speaking India, but also to Argentina, Brazil, Bulgaria, China, Czech Republic, Hungary, Jordan, Lithuania, Mexico, Philippines, Poland, Slovenia, Russia, Ukraine and so on. Outsourced jobs include such qualified “white collar” activities as medical diagnostics, accounting, advanced engineering design, news reporting, stock analysis, legal services. Skilled workers overseas analyse X-Ray scans, process loan and credit card applications, prepare financial reports for the investors. The use of smart sensors, robots, unmanned aerial, surface or underwater systems allows multinationals to seemingly monitor and collect data on the production or mining facilities across the national boundaries.

globe-3Digital channels allowed smaller businesses to exploit demand arbitrage opportunities by facilitating the access to customers across the globe. The need to achieve the necessary scale to start selling abroad is no longer an obstacle to the internationalization of smaller businesses: “born-global” start-ups and SMEs are extensively using AliBaba, Amazon and Ebay as their cross-border trading platforms and social media to reach their global audience. Recently AliBaba started connecting small businesses short of working capital with overseas investors; SMEs may also benefit from partnerships offered by AliBaba intermediation with logistics and certification services providers.

With regard to the intangible cross-border flows, data localization and cross-border data transfers are one of the mostly debated policy issues, in particular in Europe. Policy-makers still have to analyse the advantages and threats arising from seamless cross-border data flows.

If we move to the next level, we pass from digitally enabled arbitrage of data storage and use to digitally-enabled knowledge arbitrage. One example is knowledge arbitrage from developed to developing economies facilitated by online education opportunities thus giving access to young and adults to the stocks of knowledge accumulated in the developed countries.

Cross-border knowledge arbitrage facilitated by digital technology is going way far beyond the educational potential of MOOCs: business models travel from country to country and are being constantly imitated, replicated and improved by local entrepreneurs. In Europe, the most famous case is Rocket Internet, an incubator, or, better, a “clone factory”, launched by German Samwer brothers. Rocket Internet states its mission as: to transfer working business models enabled by a large or less extent by digital technologies to underserved markets. Since its foundation in 2007 the organization incubated dozens of start-ups across the globe including BillPay (a “PayPal for Germany”), clones in Asia, online auction places, a dating website, a taxi app and so on.

o-BALANCECapturing the benefits of digitally enabled arbitrage

To sum up, digital technologies allow companies to reap the benefits of tangible and intangible arbitrage opportunities across the globe. More traditional business models have to be checked periodically throughout all their components for the possibilities to benefit from a vast variety of arbitrage options enabled by digital technologies described above: (a) cross-border arbitrage on cost and quality of various value chain activities, (b) cross-border demand arbitrage, (c) cross-border knowledge arbitrage and (d) and cross-border business model arbitrage.

The major challenge for companies is to proactively capture the arbitrage opportunities rather than keep on replicating the existing “best practices” following the examples of existing competitors or innovative “new entrants”. During strategic planning and budgeting processes any initiative, recurrent and new, should be verified for the abovementioned possibilities of capturing tangible and intangible international differences with the help of digital technologies. Organizationally, it means appointing people in charge of reviewing the decision-making criteria for the approvals of projects and therefore of the resources allocation.

Along with its benefits, digitally-enabled arbitrage certainly raises the concerns about the legal implication and security of cross-border data storage and data transfer. As in the famous Woody Allen’s quote, digital arbitrage certainly holds great future opportunities and it might also hold some pitfalls. And “the trick will be to avoid the pitfalls, seize the opportunities, and get back home by six o'clock."

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  1. […] In the previous post we spoke a lot about differences related to doing business abroad. Different language, culture, economic and industrial structures, legal environment – all these barriers are forcing companies to the adaptation of their business models. Research shows, however, that successful economic adaptation is not all. In our strategy courses we keep on arguing that companies are competing with their people rather than with products: “Management is about human beings”,  said Peter Drucker. And people across the globe are managed with similar principles even if with different practices: “What managers do in West Germany, in Britain, in the United States, in Japan, or in Brazil is exactly the same. How they do it may be quite different.” Attention to people and society, people directly or indirectly linked to the company, is becoming crucial in achieving the sustainability of foreign operations, in particularly in emerging markets. […]

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