This document discusses various theories of international trade, including mercantilism, absolute advantage, comparative advantage, factor proportions theory, product life cycle theory, and theories of national competitive advantage. It also outlines common instruments of trade policy such as tariffs, subsidies, quotas, and anti-dumping policies. Finally, it discusses political and economic arguments that governments use to intervene in international trade such as protecting infant industries and pursuing strategic trade policy.

1. BUSS 5251 International Business
Topic 3
International Business Environment –
Trade Theories

2. Overview Of Seminar
• Overview of Trade Theories.
• Regulating trade and investment.
• The role of the WTO.

3. THEORIES OF TRADE
• Mercantilism (1500 – late 1700s)
• Absolute advantage (Adam Smith, 1776)
• Comparative advantage (Ricardo, 1817)
• Factor-proportions theory (Heckscher-Ohlin
1933)
• Product Life Cycle (PLC) Theory (Vernon,
1966)
• National Competitive Advantage (Porter, 1990)

4. MERCANTILISM
• Theory that nations should accumulate financial wealth, usually in the
form of gold.
• Encourage exports and discourage imports.
• Living standards or human development are irrelevant.
• Was followed by Britain, France, The Netherlands, Portugal , and Spain
from about 1500 to late 1700s.
• National governments intervened to maintain a trade surplus by barring
certain imports or imposing restrictions such as tariffs or quotas.

5. THEORY OF ABSOLUTE ADVANTAGE
• a country’s wealth depends on the availability of goods
and services to its citizens.
• different countries produce some goods and services
more efficiently than others and hence they can sell what
they do best to gain absolute productivity advantages
over other countries.
• a country exports goods and services that it can produce
more efficiently than the importing country.
• a country imports the goods that can be produced more
efficiently abroad. (Smith, 1776)
Smith, A. (1776), An Inquiry into the Nature and Causes of the Wealth of Nations, (reprinted 1998 in Washington, Regnery Publishing).

6. TWO TYPES OF ABSOLUTE ADVANTAGE
• Natural Advantage
• What if a country does not have such
natural advantage?
• Acquired Advantage

7. Absolute Advantage

8. • a country tends to specialise in those products and
services that it can produce more efficiently than
others, regardless of whether other countries can
produce them even more efficiently.
• a country imports goods and services that
– Are comparatively more efficient to produce abroad
– Are comparatively more desired than abroad
• And exports goods and services that
– Are comparatively more efficient to produce than abroad
– Are comparatively more desired abroad
COMPARATIVE ADVANTAGE
Ricardo, D. (1817), On the Principles of Political Economy and Taxation (reprinted 1996 in New York, Prometheus Books).

9. Comparative Advantage

10. FACTOR-PROPORTIONS (HECKSCHER-
OHLIN ) THEORY
• Relative costs of production factors (labour, land,
raw materials) determine what a country produce
and export, using abundant, and therefore cheaper,
production factors
• The Leontief Paradox (1954).
Heckscher, E. (1991) Heckscher-Ohlin Trade Theory, Cambridge, MA, MIT Press.

11. PRODUCT LIFE CYCLE (PLC) THEORY
• Location of sales and production changes
as a product goes through different stages
of its life cycle.
Vernon, R. (1966), “International Investment and International Trade in the Product Life Cycle”,
Quarterly Journal of Economics, May, pp. 190-207.

13. Porter’s National Competitive Advantage
Theory
• Firm strategy, structure and rivalry
• Factor conditions: Basic and Advanced
• Demand conditions
• Related and supporting industries
• Government and Chance

14. National Competitive
Advantage: Porter’s Diamond

19. Instruments Of Trade Policy
The main instruments of trade policy are:
•Tariffs
•Subsides
•Import Quotas
•Voluntary Export Restraints
•Local Content Requirements
•Administrative Polices
•Antidumping Policies

20. Tariffs
•Tariffs are taxes levied on imports that effectively raise the
cost of imported products relative to domestic products
•Specific tariffs are levied as a fixed charge for each unit of
a good imported (for example $10 per unit)
•Ad valorem tariffs are levied as a proportion of the value of
the imported good (for example 10% on the price of the
unit).

21. Subsidies
•Subsidies are government payments to domestic
producers
•Consumers typically absorb the costs of subsidies
Subsidies help domestic producers in two ways:
•they help them compete against low-cost foreign
imports
•they help them gain export markets

22. Import Quotas And Voluntary
Export Restraints
•Import quotas directly restrict the quantity of some good that
may be imported into a country
•Tariff rate quotas are a hybrid of a quota and a tariff where a
lower tariff is applied to imports within the quota than to those
over the quota
•Voluntary export restraints are quotas on trade imposed by the
exporting country, typically at the request of the importing
country’s government
•A quota rent is the extra profit that producers make when supply
is artificially limited by an import quota

23. Local Content Requirements
•A local content requirement demands that
some specific fraction of a good be
produced domestically
•Local content requirements benefit
domestic producers, but consumers face
higher prices

24. Administrative Policies
•Administrative trade polices are
bureaucratic rules that are designed to make
it difficult for imports to enter a country

25. Antidumping Policies
•Dumping refers to selling goods in a foreign market below their costs
of production, or selling goods in a foreign market below their “fair”
market value
•Dumping enables firms to unload excess production in foreign markets
•Some dumping may be predatory behavior, with producers using
substantial profits from their home markets to subsidize prices in a
foreign market with a view to driving indigenous competitors out of that
market, and later raising prices and earning substantial profits
•Antidumping polices (or countervailing duties) are designed to
punish foreign firms that engage in dumping and protect domestic
producers from “unfair” foreign competition

27. Anti-Dumping Initiations by Exporting Country-2013
China 74
Korea, Republic of 25
Taipei, Chinese 16
Thailand 14
United States 13
India 11
Japan 11
European Union 8
Malaysia 8
Germany 7
Brazil 6
Indonesia 6
Total 283
Source: World Trade Organization

28. Anti-Dumping Initiations by Reporting Country - 2013
Brazil 54
United States 39
India 29
Australia 20
Argentina 19
Canada 17
Indonesia 14
China 11
Colombia 11
South Africa 10
Korea, Republic of 8
Malaysia 8
Total 283
Source: World Trade Organization

30. The Case For Government Intervention
Arguments for government intervention:
•Political arguments are concerned with protecting the
interests of certain groups within a nation
•Economic arguments are typically concerned with
boosting the overall wealth of a nation

31. Political Arguments For Free Trade
Political arguments for government intervention include:
•protecting jobs
•protecting industries deemed important for national
security
•retaliating to unfair foreign competition
•protecting consumers from “dangerous” products
•furthering the goals of foreign policy
•protecting the human rights of individuals in exporting
countries

32. Economic Arguments
For Intervention
Economic arguments for intervention
include:
•the infant industry argument
•strategic trade policy

33. The Infant Industry Argument
•The infant industry argument suggests that an industry
should be protected until it can develop and be viable and
competitive internationally
•The infant industry argument has been accepted as a
justification for temporary trade restrictions under the WTO
•However, it can be difficult to gauge when an industry has
“grown up”

34. Strategic Trade Policy
•Strategic trade policy suggests that in cases where there
may be important first mover advantages, governments can
help firms from their countries attain these advantages
•Strategic trade policy also suggests that governments can
help firms overcome barriers to entry into industries where
foreign firms have an initial advantage