Product life-cycle theory
The product life-cycle theory is an economic theory that was developed by Raymond Vernon in response to the failure of the Heckscher-Ohlin model to explain the observed pattern of international trade. The theory suggests that early in a product's life-cycle all the parts and labor associated with that product come from the area in which it was invented. After the product becomes adopted and used in the world markets, production gradually moves away from the point of origin. In some situations, the product becomes an item that is imported by its original country of invention. A commonly used example of this is the invention, growth and production of the personal computer with respect to the United States.
The model applies to labor-saving and capital-using products that (at least at first) cater to high-income groups.
In the new product stage, the product is produced and consumed in the US; no export trade occurs. In the maturing product stage, mass-production techniques are developed and foreign demand (in developed countries) expands; the US now exports the product to other developed countries. In the standardized product stage, production moves to developing countries, which then export the product to developed countries.
The model demonstrates dynamic comparative advantage. The country that has the comparative advantage in the production of the product changes from the innovating (developed) country to the developing countries.
There are five stages in a product's life cycle:
The location of production depends on the stage of the cycle.
Stage 1: Introduction
New products are introduced to meet local (i.e., national) needs, and new products are first exported to similar countries, countries with similar needs, preferences, and incomes. If we also presume similar evolutionary patterns for all countries, then products are introduced in the most advanced nations. (E.g., the IBM PCs were produced in the US and spread quickly throughout the industrialized countries.)
Stage 2: Growth
A copy product is produced elsewhere and introduced in the home country (and elsewhere) to capture growth in the home market. This moves production to other countries, usually on the basis of cost of production. (E.g., the clones of the early IBM PCs were not produced in the US.) The Period till the Maturity Stage is known as the Saturation Period.
Stage 3: Maturity
The industry contracts and concentrates—the lowest cost producer wins here. (E.g., the many clones of the PC are made almost entirely in lowest cost locations.)
Stage 4: Saturation
This is a period of stability. The sales of the product reach the peak and there is no further possibility to increase it. This stage is characterized by:
- Saturation of sales (at the early part of this stage sales remain stable then it starts falling).
- It continues till substitutes enter into the market.
- Marketer must try to develop new and alternative uses of product.
Stage 5: Decline
Poor countries constitute the only markets for the product. Therefore almost all declining products are produced in developing countries. (E.g., PCs are a very poor example here, mainly because there is weak demand for computers in developing countries. A better example is textiles.)
Note that a particular firm or industry (in a country) stays in a market by adapting what they make and sell, i.e., by riding the waves. For example, approximately 80% of the revenues of H-P are from products they did not sell five years ago. The profits go back to the host old country.
- Hill, Charles W.L. International Business: Competing In The Global Marketplace. New York: McGraw-Hill, 2007.
- Appleyard, Dennis R. Alfred J. Field Jr., Steven L. Cobb. International Economics. Boston: McGraw-Hill, 2006.