International Theories


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  • Economic Theory provides an outlet for research in all areas of economics based on rigorous theoretical reasoning and on topics in mathematics that are supported by the analysis of economic problems. Published articles contribute to the understanding and solution of substantive economic problems.
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International Theories

  1. 1. International Economic Theory
  2. 2. International Trade Theory <ul><li>Overview </li></ul><ul><li>Mercantilism </li></ul><ul><li>Absolute Advantage </li></ul><ul><li>Comparative Advantage </li></ul><ul><li>Competitive -Porter’s Diamond </li></ul><ul><li>Product Life Cycle Theory </li></ul><ul><li>New Trade Theory </li></ul>
  3. 3. An Overview of Trade Theory <ul><li>Free Trade occurs when a government does not attempt to influence, through quotas or duties, what its citizens can buy </li></ul><ul><li>from another country or what they can produce and sell to another country. </li></ul><ul><li>The Benefits of Trade allow a country to specialize in the manufacture and export of products that can be produced most efficiently in that country. </li></ul>
  4. 4. An Overview of Trade Theory <ul><li>The Pattern of International Trade displays patterns that are easy to understand (Saudi Arabia/oil or Mexico/labor intensive goods). Others are not so easy to understand (Japan and cars). </li></ul>
  5. 5. mercantilism <ul><li>Mercantilism is a trade theory holding that nations should accumulate financial wealth, usually in the form of gold ( forget things like living standards or human development ) by encouraging exports and discouraging imports </li></ul>
  6. 6. Mercantilism: mid-16th century <ul><li>A nation’s wealth depends on accumulated treasure </li></ul><ul><ul><li>Gold and silver are the currency of trade </li></ul></ul><ul><li>Theory says you should have a trade surplus. </li></ul><ul><ul><li>Maximize export through subsidies. </li></ul></ul><ul><ul><li>Minimize imports through tariffs and quotas </li></ul></ul><ul><li>Flaw: restrictions, impaired growth </li></ul>
  7. 7. Theory of absolute advantage <ul><li>Adam Smith: Wealth of Nations ( 1776) argued: </li></ul><ul><ul><li>Capability of one country to produce more of a product with the same amount of input than another country </li></ul></ul><ul><ul><li>A country should produce only goods where it is most efficient, and trade for those goods where it is not efficient </li></ul></ul><ul><li>Trade between countries is, therefore, beneficial </li></ul><ul><li>Assumes there is an absolute balance among nations </li></ul>
  8. 8. Theory of absolute advantage <ul><li>… destroys the mercantilist idea since there are gains to be had by both countries party to an exchange </li></ul><ul><li>… questions the objective of national governments to acquire wealth through restrictive trade policies </li></ul><ul><li>… measures a nation’s wealth by the living standards of its people </li></ul>
  9. 10. Theory of comparative advantage <ul><li>David Ricardo: Principles of Political Economy </li></ul><ul><li>Extends free trade argument </li></ul><ul><ul><li>Efficiency of resource utilization leads to more productivity </li></ul></ul><ul><ul><li>Should import even if country is more efficient in the product’s production than country from which it is buying. </li></ul></ul><ul><ul><li>Look to see how much more efficient. If only comparatively efficient, than import. </li></ul></ul>
  10. 11. Theory of comparative advantage <ul><li>Makes better use of resources </li></ul><ul><li>Trade is a positive-sum game </li></ul>
  11. 13. Simple Extensions of the Ricardian Model <ul><li>Diminishing returns: </li></ul><ul><ul><li>More a country produces, at some point, will require more resources. </li></ul></ul><ul><li>However: </li></ul><ul><ul><li>Free trade can increase a country’s production resources, and </li></ul></ul><ul><ul><li>Increase the efficiency of resource utilization. </li></ul></ul>
  12. 14. Examples of National Comparative Advantage <ul><li>China is a low labor cost production base </li></ul><ul><li>India’s Bangalore region offers a critical mass of IT workers </li></ul><ul><li>Ireland’s repositioning enabled a sophisticated service economy </li></ul><ul><li>Dubai, a previously obscure Emirate, has been transformed into a knowledge-based economy </li></ul>
  13. 15. Limitations of comparative advantage <ul><li>Driven only by maximization of production and consumption </li></ul><ul><li>Only 2 countries engaged in production and consumption of just 2 goods? </li></ul><ul><li>What about the transportation costs? </li></ul><ul><li>Only resource – labour (that too, non-transferable) </li></ul><ul><li>No consideration for ‘learning theory’ </li></ul>
  14. 16. Assumptions of Absolute Advantage and Comparative Advantage <ul><li>Resources fully employed </li></ul><ul><li>Countries primarily interested in profit maximization </li></ul><ul><li>Two countries, two commodities — not very realistic. </li></ul><ul><li>Costs of transportation not considered </li></ul><ul><li>Assume that resources can move from one good to another domestically but not free to move internationally </li></ul>
  15. 17. Competitive advantage <ul><li>Competitive advantage is a position a firm occupies against its competitors. </li></ul><ul><li>three methods for creating a sustainable competitive advantage are through </li></ul><ul><ul><li>cost leadership, </li></ul></ul><ul><ul><li>differentiation </li></ul></ul><ul><ul><li>focus </li></ul></ul><ul><li>The primary factors of competitive advantage are innovation, reputation and relationships . </li></ul>
  16. 18. contd
  17. 19. Theory of national competitive advantage <ul><li>The theory attempts to analyze the reasons for a nations success in a particular industry </li></ul><ul><li>Porter studied 100 industries in 10 nations </li></ul><ul><ul><li>Postulated determinants of competitive advantage of a nation based on four major attributes </li></ul></ul><ul><ul><ul><li>Factor endowments </li></ul></ul></ul><ul><ul><ul><li>Demand conditions </li></ul></ul></ul><ul><ul><ul><li>Related and supporting industries </li></ul></ul></ul><ul><ul><ul><li>Firm strategy, structure and rivalry </li></ul></ul></ul>
  18. 20. <ul><li>Success occurs where these attributes exist. </li></ul><ul><li>More/greater the attribute, the higher chance of success </li></ul>
  19. 21. Examples of Firm Competitive Advantage <ul><li>Nokia’s design and technology leadership in telecommunications </li></ul><ul><li>Samsung’s leadership in flat-panel TV </li></ul><ul><li>Herman Miller’s design leadership </li></ul><ul><li>in office furniture </li></ul><ul><li>(e.g., Aeron chairs) </li></ul>
  20. 22. Limitations of Early Trade Theories <ul><li>Do not take into account the cost of international transportation </li></ul><ul><li>Tariffs and import restrictions can distort trade flows </li></ul><ul><li>Scale economies can bring about additional efficiencies </li></ul>
  21. 23. Limitations of Early Trade Theories <ul><li>When governments selectively target certain industries for strategic investment, this may cause trade patterns contrary to theoretical explanations </li></ul><ul><li>Today, countries can access needed low-cost capital on global markets </li></ul><ul><li>Some services do not lend themselves to cross-border trade </li></ul><ul><li>full employment </li></ul>
  22. 24. Product life-cycle Theory R. Vernon (1966) <ul><li>Trade theory holding that a company will begin by exporting its product and later undertake foreign direct investment as the product moves through its lifecycle </li></ul><ul><li>As products mature, both location of sales and optimal production changes </li></ul><ul><li>Affects the direction and flow of imports and exports </li></ul>
  23. 25. Product life-cycle
  24. 26. Limitations of PLC <ul><li>There is no set amount of time </li></ul><ul><li>No real proof that all products must die </li></ul><ul><li>The theory can lead to an over-emphasis on new product releases at the expense of mature products </li></ul><ul><li>Individual products </li></ul>
  25. 27. Limitations of PLC <ul><li>No stress product redesign </li></ul><ul><li>Most appropriate for technology-based products </li></ul><ul><li>Some products not easily characterized by stages of maturity </li></ul><ul><li>Most relevant to products produced through mass production </li></ul><ul><li>Globalization and integration of the economy makes this theory less valid </li></ul>
  26. 28. New trade theory <ul><li>In industries with high fixed costs: </li></ul><ul><ul><li>Specialization increases output, and the ability to enhance economies of scale increases </li></ul></ul><ul><ul><li>Learning effects are high. These are cost savings that come from ‘learning by doing’ </li></ul></ul>
  27. 29. New trade theory - applications <ul><li>Typically, requires industries with high, fixed costs </li></ul><ul><ul><li>World demand will support few competitors </li></ul></ul><ul><li>Competitors may emerge because of “ First-mover advantage” </li></ul><ul><ul><li>Economies of scale may preclude new entrants </li></ul></ul><ul><ul><li>Role of the government becomes significant </li></ul></ul><ul><li>Some argue that it generates government intervention and strategic trade policy </li></ul>
  28. 30. Bibliography <ul><li> </li></ul><ul><li> </li></ul><ul><li> </li></ul><ul><li> </li></ul><ul><li> </li></ul><ul><li>A. O'Sullivan & S.M. Sheffrin (2003). Economics. Principles & Tools . </li></ul>
  29. 31. <ul><li>THANK </li></ul><ul><li>YOU </li></ul>