SlideShare a Scribd company logo
1 of 57
Download to read offline
INTERNATIONAL TRADE THEORIES
Why do Nations Trade?
(i) Nations are different
- Unequal distribution of natural resources
- Difference in Technology
- Cost Advantages:
Cost of production for the same product differs among
different locations
Better explained by the Theories of Absolute Advantage and
Comparative Advantage
- Different Preferences:
Americans prefer Basmati rice grown in India (taste differences)
Due to different income levels
(ii) To achieve economies of scale in production
- The New Trade Theory
Supplyconditions(production
possibilities)
Demand
conditions
Why study trade theory?
• Talks about benefits of international trade
– theories show why countries should trade for
products/ services even when they can produce them
domestically (Classical theories)
• Talks about patterns of international trade
– theories show why countries specialize the way they
do (Factor endowment theories)
• Talks about the role of intervention
– theories help articulate the role of government policy
(tariffs, quotas, etc.)
“International trade theories has long held that
…..some trade is better than no trade, and more
trade is better than less trade, and free trade is
better than restricted trade…”
Free trade is a situation where a government does
not influence international trade through quotas
and tariffs
“…. Free trade is considered to be fair trade,
because what is free must be fair…” !!!!
An overview of trade theory
• Adam Smith: The theory of absolute advantage, 1776
• Ricardo: The theory of comparative advantage, 1817
• Heckscher-Ohlin theory: 20th century
• Leontief Paradox: 1954
• Bretton Woods System : 1944
international trade theories
Learning objective :-
Differentiate between Absolute Advantage and
Comparative Advantage theory
In economics, the principle of absolute advantage refers to the ability of a party (an
individual, or firm, or country) to produce more number of a good product or service
than competitors, using the same amount of resources.
Terms
The theory of comparative advantage is an economic theory about the
potential gains from trade for individuals, firms, or nations that arise from
differences in their factor endowments or technological progress. In an economic
model, an agent has a comparative advantage over another in producing a
particular good if he can produce that good at a lower relative opportunity cost i.e.
at a lower relative marginal cost prior to trade
The existence of a comparative
advantage allows both parties to
benefit from trading, because each
party will receive a good at
a price that is lower than
its opportunity cost of producing
that good.
Absolute advantage compares the productivity of different
producers or economies. The producer that requires a smaller
quantity inputs to produce a good is said to have an absolute
advantage in producing that good.
The accompanying figure shows the amount of output Country A
and Country B can produce in a given period of time . Country A
uses less time than Country B to make either food or clothing.
Country A makes 6 units of food while Country B makes one unit,
and Country A makes three units of clothing while Country B
makes two. In other words, Country A has an absolute advantage
in making both food and clothing
Absolute Advantage :-
Comparative advantage refers to the ability of a party
to produce a particular good or service at a lower
opportunity cost than another. Even if one country
has an absolute advantage in producing all goods,
different countries could still have different
comparative advantages. If one country has a
comparative advantage over another, both parties can
benefit from trading because each party will receive a
good at a price that is lower than its own opportunity
cost of producing that good. Comparative advantage
drives countries to specialize in the production of the
goods for which they have the lowest opportunity
cost, which leads to increased productivity.
For example, consider again Country A and Country B in .
The opportunity cost of producing 1 unit of clothing is 2
units of food in Country A, but only 0.5 units of food in
Country B. Since the opportunity cost of producing clothing
is lower in Country B than in Country A, Country B has a
comparative advantage in clothing.
Thus, even though Country A has an absolute advantage in
both food and clothes, it will specialize in food while
Country B specializes clothing. The countries will then trade,
and each will gain.
The Heckscher – Ohlin Model
The Heckscher – Ohlin Model
Cause of trade
– International differences in labour productivity –
Ricardian view
– Differences in countries resources – H-O model.
• Developed by Eli Heckscher and Bertil Ohlin
• Also called Factor-proportions Theory – because it
discusses:
– The proportions in which different factors of production are
available in different countries, and
– The proportion in which they are used in producing different
goods
• Assumptions
– Two factors of production – capital & labour
– Two countries (India and Japan), differ in factor
abundance/ endowments
– Two commodities – Steel and Cloth
– Steel is more capital intensive and Cloth is more
labour intensive in both countries
– Both goods uses both factors and the relative factor
intensities are the same for each good in the two
countries.
• Based on these postulates, the H-O model
predicts that the capital surplus country
specializes in the production and export of
capital-intensive goods and the labour surplus
country specializes in the production and
export of labour-intensive goods.
Consider two countries :
The H-O Theorem
Countries tend to export goods whose
production is intensive in factors with
which they are abundantly endowed.
Gains from Trade
Trade leads to convergence of relative
prices, which in turn has strong effect on
the relative earnings of the factors of
production.
H-O Theory: Summary
• Provides a different explanation of comparative
advantage.
• Comparative advantage arises from difference in
national factor endowments.
• Difference in factor endowments explains the
differences in factor costs (prices).
• The more abundant a factor, the lower its cost.
• This theory assumes that technologies are the
same across countries.
H-O theory has more commonsense appeal
Example: the US has long been a substantial exporter of
agricultural goods, reflecting in part its unusual
abundance of arable land
China exports labour-intensive manufactured goods
reflecting China’s relative abundance of low-cost labour
The US, which lacks abundance labour imports these
goods from China
Note: it is relative, not absolute, endowments
that are important
H-O Theory: Summary
Testing the Heckscher-
Ohlin Model
Leontief Paradox
Wassily Leontief received a Nobel prize in 1973 for his
contribution to the input output analysis. Three of his
students, Paul Samuelson, Robert Solow and Vernon Smith
are also recipients. The Heckscher Ohlin theory states that
each country exports the commodity which uses its abundant
factor
intensively. The HO theory was generally accepted on the
basis of casual empiricism. Moreover, there wasn't any
technique to test the HO theory until the input output
analysis was invented. The first serious attempt to test the
theory was made by Professor Wassily W. Leontief in 1954.
The first
Empirical
Test of the
HO
theory
Result: Leontief reached a paradoxical conclusion that
the US—the most capital abundant country in
the
world by any criterion—exported labor intensive
commodities and imported capital intensive
commodities. This result has come to be known
as the Leontief Paradox.
[para = contrary to, doxa = opinion]
Criticism- At first, Leontief was criticized on statistical grounds.
Swerling (1953)- complained that 1947 was not a typical
year: the postwar disorganization of production overseas
was not corrected by that time.
Leontief's
Second
Test-
In 1956 Leontief repeated the test for US imports and
exports which prevailed in 1951. In his second study,
Leontief aggregated industries into 192 industries. He
found that US imports were still more capital
intensive
than US exports. US imports were 6% more capital
intensive. (The transition of the US
economy from a wartime to peace time economy was
not complete until the 1960s)
Baldwin's
Third
Test-
More recently, Professor Robert Baldwin (1971)
used the 1962 US trade data and found that US
imports were 27% more capital intensive than
US exports. The paradox continued. [There
were some computational problems in this
study.]
Afterwards, there were no new empirical
studies on US trade.
JAPAN
East
Germany
• Tatemoto and Ichimura (1959) studied Japan's trade
pattern and discovered another paradox. Japan was a labor
abundant country, but exported capital intensive goods
and
imported labor intensive goods. Japan's overall trade
pattern was inconsistent with HO.
• Stolper and Roskamp (1961) applied Leontief's method
to
the trade pattern of East Germany. East Germany's
exports
were capital intensive. About 3/4 of EG's trade was with
the
communist bloc, and EG was capital abundant relative to
its
trading partners. Thus, the EG case was consistent with
Trade Patterns of Other Countries
 Wahl (1961) studied Canada's trade pattern.
Canadian exports were capital intensive. Most
of Canadian trade was with the US. The result
was inconsistent with HO.
CANADA
INDIA
 Bharadwaj (1962) studied India's trade
pattern. India's exports were labor
intensive. Consistent with HO theory.
However, Indian trade with the US was
not. Indian exports to the US were capital
intensive.
1. Leontief: US was more efficient
 Leontief himself suggested an explanation for his own paradox.
He argued that US workers may be more efficient than foreign
workers. Perhaps U.S. workers were three times as effective as
foreign workers. Note that this increased effectiveness of the
American workers was not due to a higher capital labor ratio,
because we assume that countries have identical technologies
and hence identical Capital labor ratios. It means that the
average American worker is three times as effective as he would
be in the foreign country.
 Given the same K/L ratio, Leontief attributed the superior
efficiency of American labor to superior economic organization
and economic incentives in the U.S. However, Leontief found
very few believers among economists.
Explanations for the LP
2. Factor Intensity Reversal
 If a commodity is produced by a labor intensive process in the
labor rich country and also by the capital intensive process in
the capital rich country, then factor intensities are reversed in
the production of that commodity.
Example: agriculture is labor intensive in India but
Capital intensive in US.
 If the US imports agricultural products, then an LP occurs in
the US, because a capital abundant country is importing the
capital intensive product.
 If the US exports agricultural products, then an LP occurs in
India, because a labor abundant country, India, is importing
the labor intensive good.
 William Travis (1964) argued that tariff may have been
responsible for the LP. However, tariffs tend to reduce trade
volume, but not reverse commodity trade pattern. In other
words, an import tariff cannot induce a country to export
goods that intensively use its scarce factor. It would only
reduce the volume of goods which it would export in the
absence of a tariff.
 Baldwin (1971) showed that this indeed was the case.
Without tariff, the capital labor ratio of imports would have
fallen by 5%, which is not sufficient to resolve the LP.
Remark-  Tariffs and transport costs tend to reduce the
volume of trade, but not reverse the pattern
of trade.
3. Tariffs and Transport Costs
 A capital abundant country need not export the capital
intensive good if her tastes are strongly biased toward Capital
intensive goods. Thus, LP can be explained if the US had a
strong consumption bias toward the capital intensive goods.
Stefan ValavanisVail (1954)
Example
of
demand
bias-
 Switzerland leads the world in per capita annual chocolate
consumption, 22.5 pounds per person! (Swiss Chocolate).
Per capita consumption of chocolates is less than 5 pounds
in the United States. Per capita consumption of seafood in
Japan is 60 kg per year while that of the US was about 15
pounds in 2001. Thus, the Japanese people consumes 10
times as much seafood as Americans per person. When
commodities are narrowly classified, there exists a
considerable difference in tastes and consumption patterns
between trading countries.
4. Demand Bias
 Human capital has not been taken into account in evaluating
LP. The idea is simple. Human capital is created by education.
Education, like investment in physical capital, requires time
and uses up resources. Leontief did not include the value of
human capital in his calculations. But he argued that US
exports were skilled Labor intensive than US imports.
5. Human Capital
 These analyses show that presence of human
capital can play an important role in determining
trade patterns between countries. However,
available empirical evidence is not very conclusive
either way.
Evaluation-
Porter’s Diamond Theory
Of
Comparative Advantage
It provides a sophisticated tool for analyzing
competitiveness with all its implications. The essence of
his argument is that ‘The home nation influences the
ability of its firms to succeed in particular
industries.’ Michael Porter considers that these four
attributes shape the environment :
 Factor conditions/ Factor endowments
 Demand Conditions
 Related and supporting industries
 Firm strategy, structure and rivalry
Porter speaks of these above attributes as constituting the
diamond.
The industry is the arena in which the competitive
advantage is won or lost.
Michael E.Porter’s Diamond Model
Firm Strategy,
Structure and Rivalry
Demand Conditions
Related And Supporting
Industries
Factor
Cond itions
Being the inputs which effect the competition in any
industry
comprises a no.of categories such as human resources,
capital resources, physical resources, infrastructure
resources.
Depending upon the degree of investment required for the
possession of a particular factor, factor’s of production are
divided into two groups:
BASIC FACTORS : They require the modest, private and
social investment. They include natural resources, climate ,
location, semi-skilled labour.
ADVANCED FACTORS : These comprises of the highly
educated personnel, research facilities. These factors require
the large and sustained investments for their development.
Factor conditions
There is another division which accounts for the
establishment of the competitive advantage most.
These are as follows :
Generalized factors: The meaning comes from
their name as they could be deployed in a wide
range of industries.
Specialized factors : They are characterised by
narrow field of application due to the higher
degree of the customization to the needs of a
particular industry.
Contd...
Demand Conditions
Porter emphasises that role home demand plays in
upgrading competitive advantage. Firms are typically most
sensitive to the needs of their closests customers. This
means that, regardless of the state of the other determinats
in the daimond, competitively in an industry it is
impossible to achieve unless demand conditions allow for a
successful realisation of firm’s products. The sources of
this are being divided into the 3 broad attributes:
 Home demand cpomposition
 Demand side and pattern of growth
 Internalization of domestic demand
Related and supporting
industries
The third attribute is the related and supporting industries.
Important benefit of home based suppliers is expressed in
the process of innovation and upgrading. Supplier help firms
to perceive new methods and opportunities to apply new
technology.
Related industries are those in which the firms can share in
the value chain. Another way by which related industries
could influence competitiveness is by means of pulling
through the demand for complementary products and
services.
Firm Strategy, Structure and
Rivalry
The fourth broad attribute of national competitive advantage
in porters model is the strategy structure and rivalry of firms
within a nation.
This is reflective of company goals and individual goals as
well as national prestige and national priority. Domestic
rivalry not only creates pressure to innovate but to innovate
in ways that upgrade the competitive advantages of a nation
firms.
Their pressure lowers the significance of advantages
created through the little effort and investment.
Porters considerers the two additional variables which are not
as important as the determinants but are significnat in
shaping the direction of the influence.
These two are Chance and Government.
Chance : These are developments beyond the control of
firms such as pure investors etc.
Government : It is important to extent to which its
policies can influence the entire system
of determinants either in the direcion of
undermining or enhancing competitive
advantage.
Contd...
Conclusion
He contents that the degree to which a nation is likely to achieve
international success in a certain industry is a function of the
combined impact of the four attributes. He argues that the
presence of all the four factor components is usually required for
this diamond to boost its competitive advantage .
international trade theories
 Before World War I, nearly all of the world economy
was on the gold standard
 A government would define a unit of its currency as
worth a particular amount of gold, ready to sell/buy any
amount of gold at that time
 The currency was convertible
 could be converted into gold freely
 The currency’s price in terms of gold was its parity
international trade theories
 The Bretton woods system was born in 1944 in Bretton
Woods, New Hampshire , endorsed by the 730
delegates of 44 countries.
 Goal:
 To establish a postwar international monetary
system of convertible currencies, fixed exchange
rates and free trade.
BUT
 With 2 rival plans !!
 Keynes’ plan centred on the idea that a new international
financial institution, the International Clearing Union,
would be created whose role was much like that of a central
bank.
 The ICU would issue an international currency called the
Bancor and its value would be fixed in terms of gold.
 Countries would then set par values in terms of Bancor and
create accounts with the ICU which would be used to settle
trade.
 The American plan foresaw a world free of trade
restrictions and of currencies that were pegged, all
overseen by an international institution that had
significant veto power over parity changes.
 For this reason the White Memorandum focused on
creating another institution known as the United Nations
Stabilisation Fund.
 Each nation would contribute a quota of their domestic
currency and gold to the UNSF and would fix the value of
their currency in terms of unitas,
 Features from both the memorandum were taken and this
led to the creation of Bretton woods system.
 This was accompanied by the creation of international
institutions, including the International Bank for
Reconstruction and Development( presently known as
WORLD BANK )and the International Monetary Fund
(IMF).
 IMF was entrusted with the supervision of the new
international monetary system and with granting loans to
deal with balance of payments difficulties,whereas the
WORLD BANK specialised in granting loans for the
reconstruction of Europe and for development purposes.
 To establish stable exchange rates;
 To eliminate exchange controls;
 To bring about convertibility of currencies and to
supervise orderly maintenance of exchange rates.
 The first problem encountered was the question of
choosing the appropriate exchange rate regime, i.e.
Whether a fixed exchange rate system or a floating rate
system or any other variant of either of these two or a
combination of both.
 The experts gathered at Bretton Woods finally chose the
fixed exchange rate system with some flexibility also called
adjustable peg or adjustable par values.
 Second problem: was to have an institution with both
authority and resources to facilitate and ensure the smooth
working of the fixed exchange rate system. To achieve this,
the INTERNATIONAL MONETARY FUND(IMF) was set up
in1946.
 Fixed but adjustable peg was chosen. Therefore, the
dollar was pegged to gold at the fixed rate of USD
35/ounce and the United States was prepared to
buy/sell unlimited amount of gold at this price.
 Other countries were required to declare the rates of
their currencies in terms of gold/dollar and to defend
the declared rates in the forex market by buying and
selling dollars, exchange rate could only vary within
the INTERVENTION POINTS, initially fixed at +/- 1%.
 Multilateral trade
 World economic growth and trade.
 The BW suffered from a no. of problems that led to its
eventual demise.
 FIRST PROBLEM: countries which are IMF members
are required to declare parity rates of their currencies
in terms of gold/ dollar.
 SECOND PROBLEM: to ensure flexibility, par values
are allowed to fluctuate but only within a margin of
not exceeding 1% on either side of the parity rate. In
December, 1971, this margin was increased to 2.25% .
 THIRD PROBLEM: whenever the fluctuations in the exchange
rate exceed permitted margins, the countries are obliged to
intervene in the exchange market to keep the fluctuations within
the permitted band.
 FOURTH PROBLEM: to keep the fluctuations in the exchange
rates within limits, central banks of member countries have to
maintain adequate foreign exchange reserves, and if the reserves
are found inadequate, members countries are eligible to borrow
foreign currencies temporarily.
 LAST, if the foreign exchange difficulties persist over long
periods, the situation is described as “fundamental
disequilibrium”, and in this situation if borrowings exceeds in
amount and duration corrective measures are taken by the
countries concerned.
 BW System worked very well during 1946-71. and
proved beneficial to the growth of the economics
particularly in the western world.
 Problems started developing from 1964 and led finally
to the collapse of the system in 1971.
3 main problems that led to collapse:
(1) adjustment (2) liquidity (3) confidence
The entry of US in Vietnam War.
 The huge military spending for purchase of material and supplies for war led to
inflation in the US; and this in turn affected the competitiveness of US exports.
 While Germany and japan were resisting revaluation of their currencies.
 1962, france began to exchange dollars for gold despite the objection of the
united states.
 French action led other countries to worry about whether sufficient gold would
remain for them after the French had finished selling dollars.
 Feeling the pressure, the united states, on 15th august 1971, responded to a
record USD30 billion trade deficit by making the dollar inconvertible into gold,
led to the collapse of BWS !!
international trade theories
THANK YOU

More Related Content

What's hot

Classical Theory Of International Trade
Classical Theory Of International TradeClassical Theory Of International Trade
Classical Theory Of International TradeKRN_KPR2010
 
Tariff restriction ppt
Tariff restriction pptTariff restriction ppt
Tariff restriction pptSami Swati
 
Meeting 1 - Introduction to international economics (International Economics)
Meeting 1 - Introduction to international economics (International Economics)Meeting 1 - Introduction to international economics (International Economics)
Meeting 1 - Introduction to international economics (International Economics)Albina Gaisina
 
International Trade Theories
International Trade TheoriesInternational Trade Theories
International Trade Theoriesshanmugapriya
 
Comparative vs absolute advantage
Comparative vs absolute advantageComparative vs absolute advantage
Comparative vs absolute advantageDevraj Chamlagai
 
Adam Smith theory of international trade
Adam Smith theory of international tradeAdam Smith theory of international trade
Adam Smith theory of international tradezeddem
 
Factor endowments and the heckscher ohlin theory (chapter 5)
Factor endowments and the heckscher ohlin theory (chapter 5)Factor endowments and the heckscher ohlin theory (chapter 5)
Factor endowments and the heckscher ohlin theory (chapter 5)Rasel Ahamed
 
Exchange rate theories
Exchange rate theoriesExchange rate theories
Exchange rate theoriesTanuj Poddar
 
Mills theory of reciprocal demand
Mills theory of reciprocal demandMills theory of reciprocal demand
Mills theory of reciprocal demandVIMLA CHOUDHARY
 
Meeting 3 - Rybczynski theorem (International Economics)
Meeting 3 - Rybczynski theorem (International Economics)Meeting 3 - Rybczynski theorem (International Economics)
Meeting 3 - Rybczynski theorem (International Economics)Albina Gaisina
 
Comparative advantage
Comparative advantageComparative advantage
Comparative advantageYana Qlah
 
Patinkin real balance effect
Patinkin real balance effectPatinkin real balance effect
Patinkin real balance effectsenthamizh veena
 
Hecsher-ohlin theorem, Modern theory of international trade.
Hecsher-ohlin theorem, Modern theory of international trade.Hecsher-ohlin theorem, Modern theory of international trade.
Hecsher-ohlin theorem, Modern theory of international trade.hailey college of commerce
 
Meeting 5 - Leontief Paradox (International Economics)
Meeting 5 - Leontief Paradox (International Economics)Meeting 5 - Leontief Paradox (International Economics)
Meeting 5 - Leontief Paradox (International Economics)Albina Gaisina
 

What's hot (20)

International Economics
International EconomicsInternational Economics
International Economics
 
Heckscher ohlin
Heckscher ohlinHeckscher ohlin
Heckscher ohlin
 
Harrod domar
Harrod domarHarrod domar
Harrod domar
 
Classical Theory Of International Trade
Classical Theory Of International TradeClassical Theory Of International Trade
Classical Theory Of International Trade
 
International Economics: Introduction
International Economics: IntroductionInternational Economics: Introduction
International Economics: Introduction
 
Tariff restriction ppt
Tariff restriction pptTariff restriction ppt
Tariff restriction ppt
 
Meeting 1 - Introduction to international economics (International Economics)
Meeting 1 - Introduction to international economics (International Economics)Meeting 1 - Introduction to international economics (International Economics)
Meeting 1 - Introduction to international economics (International Economics)
 
Devaluation Marshall Learner Approach
Devaluation Marshall Learner ApproachDevaluation Marshall Learner Approach
Devaluation Marshall Learner Approach
 
International Trade Theories
International Trade TheoriesInternational Trade Theories
International Trade Theories
 
Comparative vs absolute advantage
Comparative vs absolute advantageComparative vs absolute advantage
Comparative vs absolute advantage
 
Fixed and Floating exchange rate
Fixed and Floating exchange rateFixed and Floating exchange rate
Fixed and Floating exchange rate
 
Adam Smith theory of international trade
Adam Smith theory of international tradeAdam Smith theory of international trade
Adam Smith theory of international trade
 
Factor endowments and the heckscher ohlin theory (chapter 5)
Factor endowments and the heckscher ohlin theory (chapter 5)Factor endowments and the heckscher ohlin theory (chapter 5)
Factor endowments and the heckscher ohlin theory (chapter 5)
 
Exchange rate theories
Exchange rate theoriesExchange rate theories
Exchange rate theories
 
Mills theory of reciprocal demand
Mills theory of reciprocal demandMills theory of reciprocal demand
Mills theory of reciprocal demand
 
Meeting 3 - Rybczynski theorem (International Economics)
Meeting 3 - Rybczynski theorem (International Economics)Meeting 3 - Rybczynski theorem (International Economics)
Meeting 3 - Rybczynski theorem (International Economics)
 
Comparative advantage
Comparative advantageComparative advantage
Comparative advantage
 
Patinkin real balance effect
Patinkin real balance effectPatinkin real balance effect
Patinkin real balance effect
 
Hecsher-ohlin theorem, Modern theory of international trade.
Hecsher-ohlin theorem, Modern theory of international trade.Hecsher-ohlin theorem, Modern theory of international trade.
Hecsher-ohlin theorem, Modern theory of international trade.
 
Meeting 5 - Leontief Paradox (International Economics)
Meeting 5 - Leontief Paradox (International Economics)Meeting 5 - Leontief Paradox (International Economics)
Meeting 5 - Leontief Paradox (International Economics)
 

Viewers also liked

Leonteif paradox presentation
Leonteif paradox presentationLeonteif paradox presentation
Leonteif paradox presentationhasyimah ismail
 
International trade theories
International trade theoriesInternational trade theories
International trade theoriesvalliappan1991
 
5 paradox leontief dan harberler
5 paradox leontief dan harberler5 paradox leontief dan harberler
5 paradox leontief dan harberlerJuni Effendi
 
Theories of international trade
Theories of international tradeTheories of international trade
Theories of international tradenisaa89
 
The triad and international business
The triad and international businessThe triad and international business
The triad and international businesskamran
 
International Theories
International TheoriesInternational Theories
International Theoriesfathima habeeb
 
Absolute Advantage Theory
Absolute Advantage TheoryAbsolute Advantage Theory
Absolute Advantage Theoryzeddem
 
International business: THEORIES OF INTERNATIONAL TRADE
International business: THEORIES OF INTERNATIONAL TRADEInternational business: THEORIES OF INTERNATIONAL TRADE
International business: THEORIES OF INTERNATIONAL TRADERoni Kumar
 
International Trade
International TradeInternational Trade
International TradeEthel
 
IBE303 Lecture 5
IBE303 Lecture 5IBE303 Lecture 5
IBE303 Lecture 5saark
 
Global Business Theories Teachback Presentation
Global Business Theories Teachback PresentationGlobal Business Theories Teachback Presentation
Global Business Theories Teachback Presentationdunham16
 
International Trade Example
International Trade ExampleInternational Trade Example
International Trade ExampleOrmita Hong Kong
 
Comparative Advantage model of Trade theory
Comparative Advantage model of Trade theoryComparative Advantage model of Trade theory
Comparative Advantage model of Trade theoryjas.bhatia
 
Foundations of Modern Trade Theory
Foundations of Modern Trade TheoryFoundations of Modern Trade Theory
Foundations of Modern Trade Theoryreoharsa
 
1.2 opportunity cost and factors of production
1.2 opportunity cost and factors of production1.2 opportunity cost and factors of production
1.2 opportunity cost and factors of productionmsanne
 
Absolute advantage theory
Absolute advantage theoryAbsolute advantage theory
Absolute advantage theoryVignesh bfsc
 
Basis and Need for International Trade
Basis and Need for International TradeBasis and Need for International Trade
Basis and Need for International TradeRituJain777
 
C03 Krugman Labor productivity and Comparative Advantage: The Ricardian Model
C03 Krugman Labor productivity and Comparative Advantage: The Ricardian ModelC03 Krugman Labor productivity and Comparative Advantage: The Ricardian Model
C03 Krugman Labor productivity and Comparative Advantage: The Ricardian ModelAsusena Tártaros
 

Viewers also liked (20)

Leonteif paradox presentation
Leonteif paradox presentationLeonteif paradox presentation
Leonteif paradox presentation
 
International trade theories
International trade theoriesInternational trade theories
International trade theories
 
5 paradox leontief dan harberler
5 paradox leontief dan harberler5 paradox leontief dan harberler
5 paradox leontief dan harberler
 
Theories of international trade
Theories of international tradeTheories of international trade
Theories of international trade
 
The triad and international business
The triad and international businessThe triad and international business
The triad and international business
 
International Theories
International TheoriesInternational Theories
International Theories
 
International Trade Theory : Absolute Advantage Theory
International Trade Theory : Absolute Advantage Theory International Trade Theory : Absolute Advantage Theory
International Trade Theory : Absolute Advantage Theory
 
Absolute Advantage Theory
Absolute Advantage TheoryAbsolute Advantage Theory
Absolute Advantage Theory
 
International business: THEORIES OF INTERNATIONAL TRADE
International business: THEORIES OF INTERNATIONAL TRADEInternational business: THEORIES OF INTERNATIONAL TRADE
International business: THEORIES OF INTERNATIONAL TRADE
 
International Trade
International TradeInternational Trade
International Trade
 
IBE303 Lecture 5
IBE303 Lecture 5IBE303 Lecture 5
IBE303 Lecture 5
 
Global Business Theories Teachback Presentation
Global Business Theories Teachback PresentationGlobal Business Theories Teachback Presentation
Global Business Theories Teachback Presentation
 
International Trade Example
International Trade ExampleInternational Trade Example
International Trade Example
 
Comparative Advantage model of Trade theory
Comparative Advantage model of Trade theoryComparative Advantage model of Trade theory
Comparative Advantage model of Trade theory
 
Foundations of Modern Trade Theory
Foundations of Modern Trade TheoryFoundations of Modern Trade Theory
Foundations of Modern Trade Theory
 
1.2 opportunity cost and factors of production
1.2 opportunity cost and factors of production1.2 opportunity cost and factors of production
1.2 opportunity cost and factors of production
 
Absolute advantage theory
Absolute advantage theoryAbsolute advantage theory
Absolute advantage theory
 
International trade-theories-1226929140596587-8
International trade-theories-1226929140596587-8International trade-theories-1226929140596587-8
International trade-theories-1226929140596587-8
 
Basis and Need for International Trade
Basis and Need for International TradeBasis and Need for International Trade
Basis and Need for International Trade
 
C03 Krugman Labor productivity and Comparative Advantage: The Ricardian Model
C03 Krugman Labor productivity and Comparative Advantage: The Ricardian ModelC03 Krugman Labor productivity and Comparative Advantage: The Ricardian Model
C03 Krugman Labor productivity and Comparative Advantage: The Ricardian Model
 

Similar to international trade theories

Grp3 international trade theories m2
Grp3 international trade theories m2Grp3 international trade theories m2
Grp3 international trade theories m2Shashank Singh
 
International Trade Theories .pptx
International Trade Theories       .pptxInternational Trade Theories       .pptx
International Trade Theories .pptxpriyanshujaiswal38
 
Theories of international trade
Theories of international tradeTheories of international trade
Theories of international tradevandana singh
 
Theories of international trade
Theories of international tradeTheories of international trade
Theories of international tradeDhriti Saka
 
Theory of absolute advantage.1
Theory of absolute advantage.1Theory of absolute advantage.1
Theory of absolute advantage.1Anup Singh
 
International Business.pptx
International Business.pptxInternational Business.pptx
International Business.pptxharrisrahman2
 
Economics-Theories of International Trade.
Economics-Theories of International Trade.Economics-Theories of International Trade.
Economics-Theories of International Trade.Chhavi Sharma
 
The Hecksher Ohlin Theory
The Hecksher Ohlin TheoryThe Hecksher Ohlin Theory
The Hecksher Ohlin Theoryclincy cleetus
 
International trade theory
International trade theoryInternational trade theory
International trade theoryajaykumar2049
 
International trade theories and whith explain
International trade theories and whith explainInternational trade theories and whith explain
International trade theories and whith explainGeletaChala
 
International Trade (1).pptx
International Trade (1).pptxInternational Trade (1).pptx
International Trade (1).pptxRichaSwaraj
 
Trade Theories.pptx
Trade Theories.pptxTrade Theories.pptx
Trade Theories.pptxBhatAamir10
 
13InternationalTrade_Lecture.pdf
13InternationalTrade_Lecture.pdf13InternationalTrade_Lecture.pdf
13InternationalTrade_Lecture.pdfAmbassadors1
 
Trade model extensions and applications
Trade model extensions and applicationsTrade model extensions and applications
Trade model extensions and applicationsreoharsa
 

Similar to international trade theories (20)

Grp3 international trade theories m2
Grp3 international trade theories m2Grp3 international trade theories m2
Grp3 international trade theories m2
 
International Trade Theories .pptx
International Trade Theories       .pptxInternational Trade Theories       .pptx
International Trade Theories .pptx
 
Aqui
AquiAqui
Aqui
 
Theories of international trade
Theories of international tradeTheories of international trade
Theories of international trade
 
Theories of international trade
Theories of international tradeTheories of international trade
Theories of international trade
 
Theory of absolute advantage.1
Theory of absolute advantage.1Theory of absolute advantage.1
Theory of absolute advantage.1
 
Tadele Power Point.pptx
Tadele Power Point.pptxTadele Power Point.pptx
Tadele Power Point.pptx
 
International Business.pptx
International Business.pptxInternational Business.pptx
International Business.pptx
 
Economics-Theories of International Trade.
Economics-Theories of International Trade.Economics-Theories of International Trade.
Economics-Theories of International Trade.
 
chapter II.pptx
chapter II.pptxchapter II.pptx
chapter II.pptx
 
L.n international trade
L.n international tradeL.n international trade
L.n international trade
 
The Hecksher Ohlin Theory
The Hecksher Ohlin TheoryThe Hecksher Ohlin Theory
The Hecksher Ohlin Theory
 
International trade theory
International trade theoryInternational trade theory
International trade theory
 
Trade theories
Trade theoriesTrade theories
Trade theories
 
International trade theories and whith explain
International trade theories and whith explainInternational trade theories and whith explain
International trade theories and whith explain
 
Trade theory
Trade theoryTrade theory
Trade theory
 
International Trade (1).pptx
International Trade (1).pptxInternational Trade (1).pptx
International Trade (1).pptx
 
Trade Theories.pptx
Trade Theories.pptxTrade Theories.pptx
Trade Theories.pptx
 
13InternationalTrade_Lecture.pdf
13InternationalTrade_Lecture.pdf13InternationalTrade_Lecture.pdf
13InternationalTrade_Lecture.pdf
 
Trade model extensions and applications
Trade model extensions and applicationsTrade model extensions and applications
Trade model extensions and applications
 

More from Arushi Verma

Mountain man- beer company
Mountain man- beer company Mountain man- beer company
Mountain man- beer company Arushi Verma
 
Netflix- business model
Netflix- business modelNetflix- business model
Netflix- business modelArushi Verma
 
SHODH- MARKET RESEARCH FOR ECONOMY HOUSING
SHODH- MARKET RESEARCH FOR ECONOMY HOUSINGSHODH- MARKET RESEARCH FOR ECONOMY HOUSING
SHODH- MARKET RESEARCH FOR ECONOMY HOUSINGArushi Verma
 
The Harvard Graduate Student Housing Survey
The Harvard Graduate Student Housing SurveyThe Harvard Graduate Student Housing Survey
The Harvard Graduate Student Housing SurveyArushi Verma
 
FOREIGN EXCHANGE MARKET
FOREIGN EXCHANGE MARKETFOREIGN EXCHANGE MARKET
FOREIGN EXCHANGE MARKETArushi Verma
 
Theory of motivation
Theory of motivationTheory of motivation
Theory of motivationArushi Verma
 
queuing theory/ waiting line theory
queuing theory/ waiting line theoryqueuing theory/ waiting line theory
queuing theory/ waiting line theoryArushi Verma
 
Production planning techniques- aggregate planning
Production planning techniques- aggregate planningProduction planning techniques- aggregate planning
Production planning techniques- aggregate planningArushi Verma
 
Caste discrimination
Caste discriminationCaste discrimination
Caste discriminationArushi Verma
 
Shifting landscape of lgbt org research
Shifting landscape of lgbt org researchShifting landscape of lgbt org research
Shifting landscape of lgbt org researchArushi Verma
 
General electronics marketing method
General electronics marketing methodGeneral electronics marketing method
General electronics marketing methodArushi Verma
 
capacity planning om
capacity planning omcapacity planning om
capacity planning omArushi Verma
 

More from Arushi Verma (13)

Mountain man- beer company
Mountain man- beer company Mountain man- beer company
Mountain man- beer company
 
Netflix- business model
Netflix- business modelNetflix- business model
Netflix- business model
 
SHODH- MARKET RESEARCH FOR ECONOMY HOUSING
SHODH- MARKET RESEARCH FOR ECONOMY HOUSINGSHODH- MARKET RESEARCH FOR ECONOMY HOUSING
SHODH- MARKET RESEARCH FOR ECONOMY HOUSING
 
The Harvard Graduate Student Housing Survey
The Harvard Graduate Student Housing SurveyThe Harvard Graduate Student Housing Survey
The Harvard Graduate Student Housing Survey
 
FOREIGN EXCHANGE MARKET
FOREIGN EXCHANGE MARKETFOREIGN EXCHANGE MARKET
FOREIGN EXCHANGE MARKET
 
business plan
business plan business plan
business plan
 
Theory of motivation
Theory of motivationTheory of motivation
Theory of motivation
 
queuing theory/ waiting line theory
queuing theory/ waiting line theoryqueuing theory/ waiting line theory
queuing theory/ waiting line theory
 
Production planning techniques- aggregate planning
Production planning techniques- aggregate planningProduction planning techniques- aggregate planning
Production planning techniques- aggregate planning
 
Caste discrimination
Caste discriminationCaste discrimination
Caste discrimination
 
Shifting landscape of lgbt org research
Shifting landscape of lgbt org researchShifting landscape of lgbt org research
Shifting landscape of lgbt org research
 
General electronics marketing method
General electronics marketing methodGeneral electronics marketing method
General electronics marketing method
 
capacity planning om
capacity planning omcapacity planning om
capacity planning om
 

Recently uploaded

Talent Management research intelligence_13 paradigm shifts_20 March 2024.pdf
Talent Management research intelligence_13 paradigm shifts_20 March 2024.pdfTalent Management research intelligence_13 paradigm shifts_20 March 2024.pdf
Talent Management research intelligence_13 paradigm shifts_20 March 2024.pdfCharles Cotter, PhD
 
Slicing Work on Business Agility Meetup Berlin
Slicing Work on Business Agility Meetup BerlinSlicing Work on Business Agility Meetup Berlin
Slicing Work on Business Agility Meetup BerlinAnton Skornyakov
 
Cracking the ‘Business Process Outsourcing’ Code Main.pptx
Cracking the ‘Business Process Outsourcing’ Code Main.pptxCracking the ‘Business Process Outsourcing’ Code Main.pptx
Cracking the ‘Business Process Outsourcing’ Code Main.pptxWorkforce Group
 
The End of Business as Usual: Rewire the Way You Work to Succeed in the Consu...
The End of Business as Usual: Rewire the Way You Work to Succeed in the Consu...The End of Business as Usual: Rewire the Way You Work to Succeed in the Consu...
The End of Business as Usual: Rewire the Way You Work to Succeed in the Consu...Brian Solis
 
Borderless Access - Global B2B Panel book-unlock 2024
Borderless Access - Global B2B Panel book-unlock 2024Borderless Access - Global B2B Panel book-unlock 2024
Borderless Access - Global B2B Panel book-unlock 2024Borderless Access
 
Plano de marketing- inglês em formato ppt
Plano de marketing- inglês  em formato pptPlano de marketing- inglês  em formato ppt
Plano de marketing- inglês em formato pptElizangelaSoaresdaCo
 
Harvard Business Review.pptx | Navigating Labor Unrest (March-April 2024)
Harvard Business Review.pptx | Navigating Labor Unrest (March-April 2024)Harvard Business Review.pptx | Navigating Labor Unrest (March-April 2024)
Harvard Business Review.pptx | Navigating Labor Unrest (March-April 2024)tazeenaila12
 
Borderless Access - Global B2B Panel book-unlock 2024
Borderless Access - Global B2B Panel book-unlock 2024Borderless Access - Global B2B Panel book-unlock 2024
Borderless Access - Global B2B Panel book-unlock 2024Borderless Access
 
Developing Coaching Skills: Mine, Yours, Ours
Developing Coaching Skills: Mine, Yours, OursDeveloping Coaching Skills: Mine, Yours, Ours
Developing Coaching Skills: Mine, Yours, OursKaiNexus
 
Tata Kelola Bisnis perushaan yang bergerak
Tata Kelola Bisnis perushaan yang bergerakTata Kelola Bisnis perushaan yang bergerak
Tata Kelola Bisnis perushaan yang bergerakEditores1
 
Building Your Personal Brand on LinkedIn - Expert Planet- 2024
 Building Your Personal Brand on LinkedIn - Expert Planet-  2024 Building Your Personal Brand on LinkedIn - Expert Planet-  2024
Building Your Personal Brand on LinkedIn - Expert Planet- 2024Stephan Koning
 
Fabric RFID Wristbands in Ireland for Events and Festivals
Fabric RFID Wristbands in Ireland for Events and FestivalsFabric RFID Wristbands in Ireland for Events and Festivals
Fabric RFID Wristbands in Ireland for Events and FestivalsWristbands Ireland
 
Intellectual Property Licensing Examples
Intellectual Property Licensing ExamplesIntellectual Property Licensing Examples
Intellectual Property Licensing Examplesamberjiles31
 
Borderless Access - Global Panel book-unlock 2024
Borderless Access - Global Panel book-unlock 2024Borderless Access - Global Panel book-unlock 2024
Borderless Access - Global Panel book-unlock 2024Borderless Access
 
Anyhr.io | Presentation HR&Recruiting agency
Anyhr.io | Presentation HR&Recruiting agencyAnyhr.io | Presentation HR&Recruiting agency
Anyhr.io | Presentation HR&Recruiting agencyHanna Klim
 
Borderless Access - Global Panel book-unlock 2024
Borderless Access - Global Panel book-unlock 2024Borderless Access - Global Panel book-unlock 2024
Borderless Access - Global Panel book-unlock 2024Borderless Access
 
To Create Your Own Wig Online To Create Your Own Wig Online
To Create Your Own Wig Online  To Create Your Own Wig OnlineTo Create Your Own Wig Online  To Create Your Own Wig Online
To Create Your Own Wig Online To Create Your Own Wig Onlinelng ths
 
IIBA® Melbourne - Navigating Business Analysis - Excellence for Career Growth...
IIBA® Melbourne - Navigating Business Analysis - Excellence for Career Growth...IIBA® Melbourne - Navigating Business Analysis - Excellence for Career Growth...
IIBA® Melbourne - Navigating Business Analysis - Excellence for Career Growth...AustraliaChapterIIBA
 
Data skills for Agile Teams- Killing story points
Data skills for Agile Teams- Killing story pointsData skills for Agile Teams- Killing story points
Data skills for Agile Teams- Killing story pointsyasinnathani
 
Live-Streaming in the Music Industry Webinar
Live-Streaming in the Music Industry WebinarLive-Streaming in the Music Industry Webinar
Live-Streaming in the Music Industry WebinarNathanielSchmuck
 

Recently uploaded (20)

Talent Management research intelligence_13 paradigm shifts_20 March 2024.pdf
Talent Management research intelligence_13 paradigm shifts_20 March 2024.pdfTalent Management research intelligence_13 paradigm shifts_20 March 2024.pdf
Talent Management research intelligence_13 paradigm shifts_20 March 2024.pdf
 
Slicing Work on Business Agility Meetup Berlin
Slicing Work on Business Agility Meetup BerlinSlicing Work on Business Agility Meetup Berlin
Slicing Work on Business Agility Meetup Berlin
 
Cracking the ‘Business Process Outsourcing’ Code Main.pptx
Cracking the ‘Business Process Outsourcing’ Code Main.pptxCracking the ‘Business Process Outsourcing’ Code Main.pptx
Cracking the ‘Business Process Outsourcing’ Code Main.pptx
 
The End of Business as Usual: Rewire the Way You Work to Succeed in the Consu...
The End of Business as Usual: Rewire the Way You Work to Succeed in the Consu...The End of Business as Usual: Rewire the Way You Work to Succeed in the Consu...
The End of Business as Usual: Rewire the Way You Work to Succeed in the Consu...
 
Borderless Access - Global B2B Panel book-unlock 2024
Borderless Access - Global B2B Panel book-unlock 2024Borderless Access - Global B2B Panel book-unlock 2024
Borderless Access - Global B2B Panel book-unlock 2024
 
Plano de marketing- inglês em formato ppt
Plano de marketing- inglês  em formato pptPlano de marketing- inglês  em formato ppt
Plano de marketing- inglês em formato ppt
 
Harvard Business Review.pptx | Navigating Labor Unrest (March-April 2024)
Harvard Business Review.pptx | Navigating Labor Unrest (March-April 2024)Harvard Business Review.pptx | Navigating Labor Unrest (March-April 2024)
Harvard Business Review.pptx | Navigating Labor Unrest (March-April 2024)
 
Borderless Access - Global B2B Panel book-unlock 2024
Borderless Access - Global B2B Panel book-unlock 2024Borderless Access - Global B2B Panel book-unlock 2024
Borderless Access - Global B2B Panel book-unlock 2024
 
Developing Coaching Skills: Mine, Yours, Ours
Developing Coaching Skills: Mine, Yours, OursDeveloping Coaching Skills: Mine, Yours, Ours
Developing Coaching Skills: Mine, Yours, Ours
 
Tata Kelola Bisnis perushaan yang bergerak
Tata Kelola Bisnis perushaan yang bergerakTata Kelola Bisnis perushaan yang bergerak
Tata Kelola Bisnis perushaan yang bergerak
 
Building Your Personal Brand on LinkedIn - Expert Planet- 2024
 Building Your Personal Brand on LinkedIn - Expert Planet-  2024 Building Your Personal Brand on LinkedIn - Expert Planet-  2024
Building Your Personal Brand on LinkedIn - Expert Planet- 2024
 
Fabric RFID Wristbands in Ireland for Events and Festivals
Fabric RFID Wristbands in Ireland for Events and FestivalsFabric RFID Wristbands in Ireland for Events and Festivals
Fabric RFID Wristbands in Ireland for Events and Festivals
 
Intellectual Property Licensing Examples
Intellectual Property Licensing ExamplesIntellectual Property Licensing Examples
Intellectual Property Licensing Examples
 
Borderless Access - Global Panel book-unlock 2024
Borderless Access - Global Panel book-unlock 2024Borderless Access - Global Panel book-unlock 2024
Borderless Access - Global Panel book-unlock 2024
 
Anyhr.io | Presentation HR&Recruiting agency
Anyhr.io | Presentation HR&Recruiting agencyAnyhr.io | Presentation HR&Recruiting agency
Anyhr.io | Presentation HR&Recruiting agency
 
Borderless Access - Global Panel book-unlock 2024
Borderless Access - Global Panel book-unlock 2024Borderless Access - Global Panel book-unlock 2024
Borderless Access - Global Panel book-unlock 2024
 
To Create Your Own Wig Online To Create Your Own Wig Online
To Create Your Own Wig Online  To Create Your Own Wig OnlineTo Create Your Own Wig Online  To Create Your Own Wig Online
To Create Your Own Wig Online To Create Your Own Wig Online
 
IIBA® Melbourne - Navigating Business Analysis - Excellence for Career Growth...
IIBA® Melbourne - Navigating Business Analysis - Excellence for Career Growth...IIBA® Melbourne - Navigating Business Analysis - Excellence for Career Growth...
IIBA® Melbourne - Navigating Business Analysis - Excellence for Career Growth...
 
Data skills for Agile Teams- Killing story points
Data skills for Agile Teams- Killing story pointsData skills for Agile Teams- Killing story points
Data skills for Agile Teams- Killing story points
 
Live-Streaming in the Music Industry Webinar
Live-Streaming in the Music Industry WebinarLive-Streaming in the Music Industry Webinar
Live-Streaming in the Music Industry Webinar
 

international trade theories

  • 2. Why do Nations Trade? (i) Nations are different - Unequal distribution of natural resources - Difference in Technology - Cost Advantages: Cost of production for the same product differs among different locations Better explained by the Theories of Absolute Advantage and Comparative Advantage - Different Preferences: Americans prefer Basmati rice grown in India (taste differences) Due to different income levels (ii) To achieve economies of scale in production - The New Trade Theory Supplyconditions(production possibilities) Demand conditions
  • 3. Why study trade theory? • Talks about benefits of international trade – theories show why countries should trade for products/ services even when they can produce them domestically (Classical theories) • Talks about patterns of international trade – theories show why countries specialize the way they do (Factor endowment theories) • Talks about the role of intervention – theories help articulate the role of government policy (tariffs, quotas, etc.)
  • 4. “International trade theories has long held that …..some trade is better than no trade, and more trade is better than less trade, and free trade is better than restricted trade…” Free trade is a situation where a government does not influence international trade through quotas and tariffs “…. Free trade is considered to be fair trade, because what is free must be fair…” !!!!
  • 5. An overview of trade theory • Adam Smith: The theory of absolute advantage, 1776 • Ricardo: The theory of comparative advantage, 1817 • Heckscher-Ohlin theory: 20th century • Leontief Paradox: 1954 • Bretton Woods System : 1944
  • 7. Learning objective :- Differentiate between Absolute Advantage and Comparative Advantage theory In economics, the principle of absolute advantage refers to the ability of a party (an individual, or firm, or country) to produce more number of a good product or service than competitors, using the same amount of resources. Terms The theory of comparative advantage is an economic theory about the potential gains from trade for individuals, firms, or nations that arise from differences in their factor endowments or technological progress. In an economic model, an agent has a comparative advantage over another in producing a particular good if he can produce that good at a lower relative opportunity cost i.e. at a lower relative marginal cost prior to trade
  • 8. The existence of a comparative advantage allows both parties to benefit from trading, because each party will receive a good at a price that is lower than its opportunity cost of producing that good.
  • 9. Absolute advantage compares the productivity of different producers or economies. The producer that requires a smaller quantity inputs to produce a good is said to have an absolute advantage in producing that good. The accompanying figure shows the amount of output Country A and Country B can produce in a given period of time . Country A uses less time than Country B to make either food or clothing. Country A makes 6 units of food while Country B makes one unit, and Country A makes three units of clothing while Country B makes two. In other words, Country A has an absolute advantage in making both food and clothing
  • 10. Absolute Advantage :- Comparative advantage refers to the ability of a party to produce a particular good or service at a lower opportunity cost than another. Even if one country has an absolute advantage in producing all goods, different countries could still have different comparative advantages. If one country has a comparative advantage over another, both parties can benefit from trading because each party will receive a good at a price that is lower than its own opportunity cost of producing that good. Comparative advantage drives countries to specialize in the production of the goods for which they have the lowest opportunity cost, which leads to increased productivity.
  • 11. For example, consider again Country A and Country B in . The opportunity cost of producing 1 unit of clothing is 2 units of food in Country A, but only 0.5 units of food in Country B. Since the opportunity cost of producing clothing is lower in Country B than in Country A, Country B has a comparative advantage in clothing. Thus, even though Country A has an absolute advantage in both food and clothes, it will specialize in food while Country B specializes clothing. The countries will then trade, and each will gain.
  • 12. The Heckscher – Ohlin Model
  • 13. The Heckscher – Ohlin Model Cause of trade – International differences in labour productivity – Ricardian view – Differences in countries resources – H-O model. • Developed by Eli Heckscher and Bertil Ohlin • Also called Factor-proportions Theory – because it discusses: – The proportions in which different factors of production are available in different countries, and – The proportion in which they are used in producing different goods
  • 14. • Assumptions – Two factors of production – capital & labour – Two countries (India and Japan), differ in factor abundance/ endowments – Two commodities – Steel and Cloth – Steel is more capital intensive and Cloth is more labour intensive in both countries – Both goods uses both factors and the relative factor intensities are the same for each good in the two countries.
  • 15. • Based on these postulates, the H-O model predicts that the capital surplus country specializes in the production and export of capital-intensive goods and the labour surplus country specializes in the production and export of labour-intensive goods.
  • 17. The H-O Theorem Countries tend to export goods whose production is intensive in factors with which they are abundantly endowed. Gains from Trade Trade leads to convergence of relative prices, which in turn has strong effect on the relative earnings of the factors of production.
  • 18. H-O Theory: Summary • Provides a different explanation of comparative advantage. • Comparative advantage arises from difference in national factor endowments. • Difference in factor endowments explains the differences in factor costs (prices). • The more abundant a factor, the lower its cost. • This theory assumes that technologies are the same across countries.
  • 19. H-O theory has more commonsense appeal Example: the US has long been a substantial exporter of agricultural goods, reflecting in part its unusual abundance of arable land China exports labour-intensive manufactured goods reflecting China’s relative abundance of low-cost labour The US, which lacks abundance labour imports these goods from China Note: it is relative, not absolute, endowments that are important H-O Theory: Summary
  • 20. Testing the Heckscher- Ohlin Model Leontief Paradox
  • 21. Wassily Leontief received a Nobel prize in 1973 for his contribution to the input output analysis. Three of his students, Paul Samuelson, Robert Solow and Vernon Smith are also recipients. The Heckscher Ohlin theory states that each country exports the commodity which uses its abundant factor intensively. The HO theory was generally accepted on the basis of casual empiricism. Moreover, there wasn't any technique to test the HO theory until the input output analysis was invented. The first serious attempt to test the theory was made by Professor Wassily W. Leontief in 1954. The first Empirical Test of the HO theory Result: Leontief reached a paradoxical conclusion that the US—the most capital abundant country in the world by any criterion—exported labor intensive commodities and imported capital intensive commodities. This result has come to be known as the Leontief Paradox. [para = contrary to, doxa = opinion]
  • 22. Criticism- At first, Leontief was criticized on statistical grounds. Swerling (1953)- complained that 1947 was not a typical year: the postwar disorganization of production overseas was not corrected by that time. Leontief's Second Test- In 1956 Leontief repeated the test for US imports and exports which prevailed in 1951. In his second study, Leontief aggregated industries into 192 industries. He found that US imports were still more capital intensive than US exports. US imports were 6% more capital intensive. (The transition of the US economy from a wartime to peace time economy was not complete until the 1960s)
  • 23. Baldwin's Third Test- More recently, Professor Robert Baldwin (1971) used the 1962 US trade data and found that US imports were 27% more capital intensive than US exports. The paradox continued. [There were some computational problems in this study.] Afterwards, there were no new empirical studies on US trade.
  • 24. JAPAN East Germany • Tatemoto and Ichimura (1959) studied Japan's trade pattern and discovered another paradox. Japan was a labor abundant country, but exported capital intensive goods and imported labor intensive goods. Japan's overall trade pattern was inconsistent with HO. • Stolper and Roskamp (1961) applied Leontief's method to the trade pattern of East Germany. East Germany's exports were capital intensive. About 3/4 of EG's trade was with the communist bloc, and EG was capital abundant relative to its trading partners. Thus, the EG case was consistent with Trade Patterns of Other Countries
  • 25.  Wahl (1961) studied Canada's trade pattern. Canadian exports were capital intensive. Most of Canadian trade was with the US. The result was inconsistent with HO. CANADA INDIA  Bharadwaj (1962) studied India's trade pattern. India's exports were labor intensive. Consistent with HO theory. However, Indian trade with the US was not. Indian exports to the US were capital intensive.
  • 26. 1. Leontief: US was more efficient  Leontief himself suggested an explanation for his own paradox. He argued that US workers may be more efficient than foreign workers. Perhaps U.S. workers were three times as effective as foreign workers. Note that this increased effectiveness of the American workers was not due to a higher capital labor ratio, because we assume that countries have identical technologies and hence identical Capital labor ratios. It means that the average American worker is three times as effective as he would be in the foreign country.  Given the same K/L ratio, Leontief attributed the superior efficiency of American labor to superior economic organization and economic incentives in the U.S. However, Leontief found very few believers among economists. Explanations for the LP
  • 27. 2. Factor Intensity Reversal  If a commodity is produced by a labor intensive process in the labor rich country and also by the capital intensive process in the capital rich country, then factor intensities are reversed in the production of that commodity. Example: agriculture is labor intensive in India but Capital intensive in US.  If the US imports agricultural products, then an LP occurs in the US, because a capital abundant country is importing the capital intensive product.  If the US exports agricultural products, then an LP occurs in India, because a labor abundant country, India, is importing the labor intensive good.
  • 28.  William Travis (1964) argued that tariff may have been responsible for the LP. However, tariffs tend to reduce trade volume, but not reverse commodity trade pattern. In other words, an import tariff cannot induce a country to export goods that intensively use its scarce factor. It would only reduce the volume of goods which it would export in the absence of a tariff.  Baldwin (1971) showed that this indeed was the case. Without tariff, the capital labor ratio of imports would have fallen by 5%, which is not sufficient to resolve the LP. Remark-  Tariffs and transport costs tend to reduce the volume of trade, but not reverse the pattern of trade. 3. Tariffs and Transport Costs
  • 29.  A capital abundant country need not export the capital intensive good if her tastes are strongly biased toward Capital intensive goods. Thus, LP can be explained if the US had a strong consumption bias toward the capital intensive goods. Stefan ValavanisVail (1954) Example of demand bias-  Switzerland leads the world in per capita annual chocolate consumption, 22.5 pounds per person! (Swiss Chocolate). Per capita consumption of chocolates is less than 5 pounds in the United States. Per capita consumption of seafood in Japan is 60 kg per year while that of the US was about 15 pounds in 2001. Thus, the Japanese people consumes 10 times as much seafood as Americans per person. When commodities are narrowly classified, there exists a considerable difference in tastes and consumption patterns between trading countries. 4. Demand Bias
  • 30.  Human capital has not been taken into account in evaluating LP. The idea is simple. Human capital is created by education. Education, like investment in physical capital, requires time and uses up resources. Leontief did not include the value of human capital in his calculations. But he argued that US exports were skilled Labor intensive than US imports. 5. Human Capital  These analyses show that presence of human capital can play an important role in determining trade patterns between countries. However, available empirical evidence is not very conclusive either way. Evaluation-
  • 32. It provides a sophisticated tool for analyzing competitiveness with all its implications. The essence of his argument is that ‘The home nation influences the ability of its firms to succeed in particular industries.’ Michael Porter considers that these four attributes shape the environment :  Factor conditions/ Factor endowments  Demand Conditions  Related and supporting industries  Firm strategy, structure and rivalry Porter speaks of these above attributes as constituting the diamond. The industry is the arena in which the competitive advantage is won or lost.
  • 33. Michael E.Porter’s Diamond Model Firm Strategy, Structure and Rivalry Demand Conditions Related And Supporting Industries Factor Cond itions
  • 34. Being the inputs which effect the competition in any industry comprises a no.of categories such as human resources, capital resources, physical resources, infrastructure resources. Depending upon the degree of investment required for the possession of a particular factor, factor’s of production are divided into two groups: BASIC FACTORS : They require the modest, private and social investment. They include natural resources, climate , location, semi-skilled labour. ADVANCED FACTORS : These comprises of the highly educated personnel, research facilities. These factors require the large and sustained investments for their development. Factor conditions
  • 35. There is another division which accounts for the establishment of the competitive advantage most. These are as follows : Generalized factors: The meaning comes from their name as they could be deployed in a wide range of industries. Specialized factors : They are characterised by narrow field of application due to the higher degree of the customization to the needs of a particular industry. Contd...
  • 36. Demand Conditions Porter emphasises that role home demand plays in upgrading competitive advantage. Firms are typically most sensitive to the needs of their closests customers. This means that, regardless of the state of the other determinats in the daimond, competitively in an industry it is impossible to achieve unless demand conditions allow for a successful realisation of firm’s products. The sources of this are being divided into the 3 broad attributes:  Home demand cpomposition  Demand side and pattern of growth  Internalization of domestic demand
  • 37. Related and supporting industries The third attribute is the related and supporting industries. Important benefit of home based suppliers is expressed in the process of innovation and upgrading. Supplier help firms to perceive new methods and opportunities to apply new technology. Related industries are those in which the firms can share in the value chain. Another way by which related industries could influence competitiveness is by means of pulling through the demand for complementary products and services.
  • 38. Firm Strategy, Structure and Rivalry The fourth broad attribute of national competitive advantage in porters model is the strategy structure and rivalry of firms within a nation. This is reflective of company goals and individual goals as well as national prestige and national priority. Domestic rivalry not only creates pressure to innovate but to innovate in ways that upgrade the competitive advantages of a nation firms. Their pressure lowers the significance of advantages created through the little effort and investment.
  • 39. Porters considerers the two additional variables which are not as important as the determinants but are significnat in shaping the direction of the influence. These two are Chance and Government. Chance : These are developments beyond the control of firms such as pure investors etc. Government : It is important to extent to which its policies can influence the entire system of determinants either in the direcion of undermining or enhancing competitive advantage. Contd...
  • 40. Conclusion He contents that the degree to which a nation is likely to achieve international success in a certain industry is a function of the combined impact of the four attributes. He argues that the presence of all the four factor components is usually required for this diamond to boost its competitive advantage .
  • 42.  Before World War I, nearly all of the world economy was on the gold standard  A government would define a unit of its currency as worth a particular amount of gold, ready to sell/buy any amount of gold at that time  The currency was convertible  could be converted into gold freely  The currency’s price in terms of gold was its parity
  • 44.  The Bretton woods system was born in 1944 in Bretton Woods, New Hampshire , endorsed by the 730 delegates of 44 countries.  Goal:  To establish a postwar international monetary system of convertible currencies, fixed exchange rates and free trade. BUT  With 2 rival plans !!
  • 45.  Keynes’ plan centred on the idea that a new international financial institution, the International Clearing Union, would be created whose role was much like that of a central bank.  The ICU would issue an international currency called the Bancor and its value would be fixed in terms of gold.  Countries would then set par values in terms of Bancor and create accounts with the ICU which would be used to settle trade.
  • 46.  The American plan foresaw a world free of trade restrictions and of currencies that were pegged, all overseen by an international institution that had significant veto power over parity changes.  For this reason the White Memorandum focused on creating another institution known as the United Nations Stabilisation Fund.  Each nation would contribute a quota of their domestic currency and gold to the UNSF and would fix the value of their currency in terms of unitas,
  • 47.  Features from both the memorandum were taken and this led to the creation of Bretton woods system.  This was accompanied by the creation of international institutions, including the International Bank for Reconstruction and Development( presently known as WORLD BANK )and the International Monetary Fund (IMF).  IMF was entrusted with the supervision of the new international monetary system and with granting loans to deal with balance of payments difficulties,whereas the WORLD BANK specialised in granting loans for the reconstruction of Europe and for development purposes.
  • 48.  To establish stable exchange rates;  To eliminate exchange controls;  To bring about convertibility of currencies and to supervise orderly maintenance of exchange rates.
  • 49.  The first problem encountered was the question of choosing the appropriate exchange rate regime, i.e. Whether a fixed exchange rate system or a floating rate system or any other variant of either of these two or a combination of both.  The experts gathered at Bretton Woods finally chose the fixed exchange rate system with some flexibility also called adjustable peg or adjustable par values.  Second problem: was to have an institution with both authority and resources to facilitate and ensure the smooth working of the fixed exchange rate system. To achieve this, the INTERNATIONAL MONETARY FUND(IMF) was set up in1946.
  • 50.  Fixed but adjustable peg was chosen. Therefore, the dollar was pegged to gold at the fixed rate of USD 35/ounce and the United States was prepared to buy/sell unlimited amount of gold at this price.  Other countries were required to declare the rates of their currencies in terms of gold/dollar and to defend the declared rates in the forex market by buying and selling dollars, exchange rate could only vary within the INTERVENTION POINTS, initially fixed at +/- 1%.
  • 51.  Multilateral trade  World economic growth and trade.
  • 52.  The BW suffered from a no. of problems that led to its eventual demise.  FIRST PROBLEM: countries which are IMF members are required to declare parity rates of their currencies in terms of gold/ dollar.  SECOND PROBLEM: to ensure flexibility, par values are allowed to fluctuate but only within a margin of not exceeding 1% on either side of the parity rate. In December, 1971, this margin was increased to 2.25% .
  • 53.  THIRD PROBLEM: whenever the fluctuations in the exchange rate exceed permitted margins, the countries are obliged to intervene in the exchange market to keep the fluctuations within the permitted band.  FOURTH PROBLEM: to keep the fluctuations in the exchange rates within limits, central banks of member countries have to maintain adequate foreign exchange reserves, and if the reserves are found inadequate, members countries are eligible to borrow foreign currencies temporarily.  LAST, if the foreign exchange difficulties persist over long periods, the situation is described as “fundamental disequilibrium”, and in this situation if borrowings exceeds in amount and duration corrective measures are taken by the countries concerned.
  • 54.  BW System worked very well during 1946-71. and proved beneficial to the growth of the economics particularly in the western world.  Problems started developing from 1964 and led finally to the collapse of the system in 1971.
  • 55. 3 main problems that led to collapse: (1) adjustment (2) liquidity (3) confidence The entry of US in Vietnam War.  The huge military spending for purchase of material and supplies for war led to inflation in the US; and this in turn affected the competitiveness of US exports.  While Germany and japan were resisting revaluation of their currencies.  1962, france began to exchange dollars for gold despite the objection of the united states.  French action led other countries to worry about whether sufficient gold would remain for them after the French had finished selling dollars.  Feeling the pressure, the united states, on 15th august 1971, responded to a record USD30 billion trade deficit by making the dollar inconvertible into gold, led to the collapse of BWS !!