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Detailed notes of international trade covering comparative and absolute advantage.Benefits and consequences of international trade along with pass paper questions
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Economics:- Factors Of Production
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Cambridge economics OPPORTUNITY COST In-detail, summarized notes.
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International TradeInternational trade is the exchange of goods and services between countries.
An import is the purchase of foreign goods and services by domestic consumers and
export is the sale of domestic products to foreign buyers.
An open economy is one that engages in international trade with other nations and
a closed economy is one that does not deal in foreign trade.
International trade improves consumer choice and total welfare.
How does International Trade differ from Trade within a Country?
• International trade involves exchange of goods and services across national
boundaries.
• Problems of communications due to language barriers.
• High costs of transportation.
• Need to translate advertising and other promotional material into local languages
taking into consideration cultural sensitivities.
• Difficulties of conversions of foreign exchange.
• Different governmental legal requirements.
• There may be restrictions imposed by governments and international
organizations on the movement of goods into, and at times out of countries.
• Increased risks due to outbreaks of wars and changes in governmental policies.
Theory of International Trade
International trade takes place because countries have different factor (resource)
endowments. They differ in the supply and quality of labour, capital equipment, land
and enterprise and the type of climate they have. The differences in factor endowment
affect the types of products countries produce and the quality and quantity of the
products, as well as their cost of production. It is usually easier to move goods and
services between countries than factors of production, and so international trade
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, occurs. There are some aspects of world trade that can be explained by absolute
advantage.
Absolute advantage occurs when a country can create more of a product with the
same amount of factor inputs than another country. Adam Smith was the first to
describe absolute advantage in the context of International Trade. He wrote that “an
absolute advantage exists when a nation or economic region is able to produce a good
or service more efficiently (using the same amount of resources) than a second nation
or region. The origin of the said advantage could be natural (climate, soil, abundance
of various natural resources…) or acquired (knowledge, skills, special man-made
resources…).”
The model below is built on the following assumptions.
1. Only two countries involved in the trade.
2. Each can produce just two products.
3. Productivity differs between them so varying quantities are produced
4. Production costs and opportunity costs are constant.
5. Transport costs between countries are negligible.
6. Each country devotes half its resources towards the production of each good.
7. The exchange rate lies between the opportunity cost ratios of production of the two
countries.
Example
Let us assume that there are two countries Indonesia and Brazil producing two
products, rice and coffee. With an equal set of resources, the following output can be
produced.
Output of
Rice Coffee
(tonnes) (tonnes)
Indonesia 500 200
Brazil 200 500
Total Output 700 700
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