1. Intra-Company Trade

Most cross border trade in manufactured products in North America is done by capital intensive firms that design, develop, build as well as market their products within their networks of suppliers and subsidiaries in the three NAFTA countries. Most of the NAFTA trade in manufactured products is therefore intra-industry--indeed intra company--trade. As the Bombardier module makes clear, as Bombardier has expanded its market within North America, it has also expanded its holdings of facilities in the NAFTA countries. So here's a question for students of international trade: why? The older explanations of why trade occurs are based on Ricardo's concept of comparative advantage and the H-O-S (Hecksher, Ohlin Samuelson) theory of factor abundance: Exports reflect factor abundance, e.g. labour intensive countries export products using processes that rely on non-skilled labour. Other countries, more capital intensive, export products that use more capital intensive processes. Perhaps Bombardier's Mexican investments might be explained in this way. (A case on Bombardier's Mexican operations is under development.)

But what about the US facilities? Does factor abundance adequately explain the decisions to invest from Canada in the US for constructing LRT vehicles? Some possible factor-based explanations: (1) high skilled labour in the US that is either cheaper or more productive than in Canada; (2) lower fixed costs (land, facilities and financial terms) than in Canada; (3) high transportation costs for inputs and outputs so that it is more profitable to build closer to US clients; (4) persistent border barriers, such as tariffs, security checks, other administrative delays; (5) other factors, such as contract and client management, requiring proximity to clients; (6) incentives created by the public sector buyer (so-called 'offsets' or commitments to create local subcontracting opportunities to a certain level of spending, as a condition of the obtaining the contract).

A discussion along these lines offers the instructor an opportunity to sharpen students' appreciation of the differences between comparative advantage, competitiveness, and explanations for international trade. But do factor-based explanations adequately account for intra-firm trade? For if the mix of factors is more favourable in the US, why isn't Bombardier located there and shipping final product to clients from that as home base?

A different explanation which has won the support of analysts since the 1980s, suggests that what is going on in the kind of trade we see in the Bombardier case is based not on factors, but on knowledge-based resources that the company transfers from the home to the foreign facility: These knowledge-based resources to be sure are reproducible by the company in the foreign market but strictly speaking are not obtainable as factor because they represent in part the non-tradable management routines (organizational learning and management-created competitive advantages)[1].

A number of policy implications flow from this explanation. They suggest that government policies for education, intellectual property rights (IPR) protection, tax and procurement policies, support for R&D, tax policy, etc. can create advantages that will draw foreign investment. In this case, Bombardier has decided to transfer its production know how to facilities in the US so that the designers can work continuously with clients and others to fine tune and localize the VLR technology that Bombardier owns. Why not use a partnership instead of a vertical ownership relationship? To be sure for many of the sub-components, Bombardier will do just that. But for final assembly, customer relations, technical assistance, indeed for building the final product and working with the client, Bombardier prefers to control that directly through people who work for it and not for employees of other companies whom they cannot control as closely. In other words, vertical controls minimizes the transaction costs of the contract while working with key, pre-qualified suppliers on subcomponents, offers superior economies of scope (greater variety at less cost, and controlled by technical specifications that have to be met by the contractor. Examining that relationship will allow the instructor to discuss Coase's theory of the firm, transaction costs and Dunning's "Eclectic Theory" (OLI=ownership, locational and internalization assets or capabilities.)[2]

2. Public Choice and Mass Transit

The Bombardier case raises the question why passenger rail (heavy or light) has such a difficult time winning public acceptance in North America compared to Europe. One reason: the populations in North America are more dispersed. Therefore the rider density required to make the systems pay for themselves in a business case is not available everywhere. But then European mass transit also runs at a deficit and is justified as a public good: in some cases as a "merit good" because it showcases and promotes advanced transit technologies, in most cases as a public good whose benefit to the general interest outweighs the cost per capita required to design, build and maintain it.

In contrast to Europe, in North America the automobile was designed for a mass market rather than an elite one. Public policy and resources focused on road transport which served more uses (commercial and passenger), was less costly to build and maintain than rail and cars which were in effect personal transportation systems. Indeed, the regulation of rail and the exemption of cars, trucks and buses from coming under the same agency is an interesting element in the history of US regulation. Car passengers go where they want without waiting for public transportation companies to extend services, and when they want, irrespective of mass transit schedules. Additionally, families pay the maintenance bills for their cars--unlike mass transit which requires some combination of fares and tax to cover fixed and variable costs. Mass transit riders in the US are typically not car owners, or if they do own cars, their income per capita is such that they are not indifferent to high daytime parking charges and toll fees in some urban centers (e.g. New York City).

More recently, however, with the growth and spread of major cities across state boundaries, and the construction by a combination of federal and local money to build and maintain the elaborate highway networks to sustain them, more and more transportation experts are coming around to viewing highways and mass urban transit as two sides of the same coin--urban transit systems. Indeed, underutilized light rail systems now seem to offer the additional benefits of easing congestion on local highways.

Transit Benefits 2000 Working Paper: An FTA Policy Paper outlines in its opening chapter a brief history of mass transit public funding from the 1970s onward and the analytical tools employed to evaluate those projects. The second chapter illustrates the use of transit corridor models to measure the time saving benefits of inter-modal transit choices: how available mass transit can reduce road usage enough to alleviate delays due to peak hour congestions. Indeed, this possibility lies behind the recent expansion of light rail systems in the United States. Subsequent chapters detail study and study designs used to show the benefits mass transit can deliver to urban areas. Such studies provide ammunition to proponents of LR systems arguing for tax-funded support for their construction, operation and maintenance.

To understand the LR decision facing communities of voters from a public choice perspective, it is useful to remember that public and private benefits cited in those studies have to be financed by people who may not themselves benefit directly. The box below may suggest some responses:

The analysis suggests that LR projects can be understood as almost entirely driven by external costs and benefits: the main beneficiaries are those who supply the system, but of course who are paid rather than pay themselves. The benefits are enjoyed by the community and financed by the community "as a whole". But those who pay--mainly property tax payers--may not be those who themselves actually derive any benefit from the system. Peak-hour drivers for whom the roads are now freer of congestion benefit. Those who receive new LR service and voluntarily decide to use it benefit--but may in the process discomfit existing LR service users if they add congestion on other branches of the pre-expansion lines.

How might this situation be adjusted? One way would be if the gains from increased community productivity (see the Econometric analysis of mass transit, in chapter 5 of the Mass Transit Benefits working paper) were passed on to taxpayers in higher property values or lower property taxes. Another approach might be to take into account the environmental benefits of reducing road traffic. Can students think of others? (e.g. making mass transit free or at least significantly below the costs of driving. What about adding costs to private transport--lowering speed limits, raising tolls, especially at peak hours?)

Consider also the mechanism for decision-making: the box above, based on a community referendum, is only one approach. Another would be to add a higher level of decision-maker (say, state or federal) to help cover extra costs and ensure all stakeholders obtain substantial net benefits (or no net costs) from the decision to go ahead with the LR project.

This raises the question of what constitutes "the public interest? Is it just the aggregate of individual stakeholder interests, or something more (or less)?

3. Examining the Selling of Mass Transit

Light Rail Now! is a pro-VLR train lobby organization that tracks LR development across the US. Their website is: http://www.lightrailnow.org. See in particular "Light Rail Growth Leads Again as Public Transit Ridership Exceeds 10 Billion Trips for First Time in Nearly 50 Years" on that website. Also on that website is a list of upcoming LR mass transit projects in the US. (New LR Systems Planned).

After looking through the website and the TB 2000 working papers, students should be in a position to suggest strategies by which Bombardier might be able to expand its sales. (1) What coalition do the proponents of light transit systems need to prevail? (2) What groups would be likely to form blocking coalitions? (3) What decision-mechanism ought to be envisaged? (4) Such coalition formation offers the opportunity for a multi-party negotiation role play exercise, based on identifying the representative groups and assigning a scale of negotiating aims to each, plus some brief negotiating instructions.

Note: Once adopted, mass transit programs may become caught in the “mass transit” death spiral caused ultimately by the need to continue to cover the fixed costs and maintenance costs from operations.

It works like this: after the system is built and starts up, highway congestion at peak hours is indeed reduced. But this attracts riders off the MT system, back onto the road. This puts additional pressure on fare revenues or the extent of existing services. MT companies thus raise fares or cut services or both, which in turn reduces rider-ship even more. This in turn creates pressure for expanding the highway, given the "failure" of the MT program....and so on. Notably the TB 2000 working papers contain no analysis of capital costs and their impact on the inter-modal elasticities after the initial goals of the system have been achieved. For a systems-dynamic model of the MT death spiral, see John D. Sterman (2000) Business Dynamics: Systems Thinking and Modeling for a Complex World, McGraw Hill 185-188.