International Trade Ing. Jana Šimáková, Ph.D. simakova@opf.slu.cz •Purchase, sale, or exchange of goods and services across national borders •International trade is one of the driving forces of globalization –Economic meaning of globalization is the increased openness of economies to international trade, financial flows, and foreign direct investment •International trade enhances economic growth –Increases the efficiency of the allocation of resources –Provides larger capital and product markets, –Assists specialization based on comparative advantages –Increases the efficiency of the flow of capital among countries •Importance of international trade to a nation can be examined by its trade volume relative to its total output Essentials of International Trade International Trade •Imports are goods and services that a domestic economy purchases from other countries •Exports are goods and services that a domestic economy sells to other countries •The terms of trade is the ratio of the price of exports to the price of imports –Increasing terms of trade indicate improvement. –Decreasing terms of trade indicate deterioration. •Net exports = Exports – Imports –If positive, there is a trade surplus –If negative, there is a trade deficit Terminology of International Trade International Trade •A country that does not trade with other countries is referred to as a closed economy or being in autarky; the price of goods and services is the autarkic price •An economy that is not closed is an open economy –If there are no restrictions to trade, the price of goods and services is the world price •Free trade is the case in which there are no restrictions on a country’s trade with other countries –Trade protections are restrictions on trade that prevent pricing based on supply and demand. –Capital restrictions are limits on the flow of funds into or out of a country – Terminology of International Trade International Trade •Inflation –Consumers and corporations in country with higher inflation will most likely purchase more goods by import (due to high local inflation), while the country’s exports to other countries will decline. •National income –As the real income level rises, so does consumption of goods. A percentage of that increase in consumption will most likely reflect an increased demand for foreign goods. •Government policies –A country’s government can have a major effect on its balance of trade by its policies on subsidizing exporters, restrictions on imports, or lack of enforcement on piracy. •Exchange rates –As the currency strengthens, goods exported by that country will become more expensive to the foreign countries. As a consequence, the demand for such goods will decrease. Simultanously, imported goods will become cheaper for domestic consumptions and this demand will be higher. Factors Affecting International Trade Flows International Trade •???What are the net exports of your home country??? •???What are the main features of development of exports and imports in your home country in last 5 years??? • •Check statistical data of Balance of Payments (current account) of your home country. Find, what is the value of the net exports. Describe the main features of international trade in your home country in last 5 years. Are there any subsidies for exports or restrictions on imports? – • Questions and Applications International Trade •???What are benefits and costs of international trade for involved countries??? • – • Questions and Applications International Trade •BENEFITS –Gain from exchange and specialization –Greater economies of scale –Greater product variety –Increased competition –More efficient resource allocation –More jobs and new entrepreneurial opportunities • Benefits and Costs of International Trade International Trade •COSTS –Greater income inequality –Loss of jobs in developed countries –Adjustments as resources are reallocated •Total volume of international trade in merchandise and services was 20.44 trillion USD in 2016 –15.71 trillion USD (76.9%) merchandise and 4.73 trillion USD (23.1%) services •World output impacts international trade as growing output stimulates growth in trade and vice versa •World trade grows faster than world output •Persistent pattern of merchandise trade among nations –Trade between the world’s high-income economies accounts for roughly 60% –Trade between high-income countries and low- and middle-income nations accounts for around 34% –Trade between low- and middle-income nations accounts for only about 6% Trade and World Output International Trade Product Groups of World Merchandise Trade (2006-2016) International Trade (bil. USD) (index 2006 = 100) Product Groups of World Services Trade (2006-2016) International Trade (bil. USD) (index 2006 = 100) Growth of World Merchandise Trade and Real GDP International Trade (index 2006 = 100) (Annual percentage change and ratio) •???Which countries are major exporters and importers in merchandise trade??? – • Questions and Applications International Trade Leading Exports and Imports in Merchandise Trade (2016) International Trade (bil. USD) (bil. USD) https://data.worldbank.org/indicator/NE.TRD.GNFS.ZS?locations=CZ-CN-IN-1W The Top Importers and Exporters of the World’s 18 Most Traded Goods (2018) Trade Theory Timeline International Trade (bil. USD) (bil. USD) Pages from CH05_FINAL_WILD5753_06_SE_C05 •Nations should accumulate financial wealth, usually in the form of gold, by encouraging exports and discouraging imports •Three pillars of mercantilism –Maintain trade surplus –Government intervention –Exploit colonies •Flows of mercantilism –World trade is a zero-sum game –Limits colonies‘ market potential –Constrains output and consumption Foundations of Mercantilism International Trade The trade theory of mercantilism argues that nations should accumulate financial wealth, usually in the form of gold, by encouraging exports and discouraging imports. •European sea-faring nations practiced mercantilism from around 1500 to the late 1700s. •These countries acquired colonies in Africa, Asia, and the Americas as sources of inexpensive raw materials and as markets for higher-priced finished goods. •Mercantilist nations used profits from this trade to create armies and navies to control colonies and protect their shipping. Mercantilism has several inherent flaws: •First, it views international trade as a zero-sum game. This is the idea that a nation benefits from trade only at the expense of other nations. •Second, market potential in the colonies was less than it could have been had people there received higher prices for their resources. •Third, mercantilist policies constrained the potential output and consumption for both the colonies and the mercantilist nations. •Ability of a nation to produce a good more efficiently than any other nation (greater output using same or fewer resources) • • • • • • •Specialization and trade allows each to produce and consume more • • Absolute Advantage International Trade 1 resource unit = 1 ton rice or 1/5 ton tea Riceland Tealand 1 resource unit = 1/6 ton rice or 1/3 ton tea •Absolute advantage is the ability of a nation to produce a good more efficiently than any other nation. •This means that the nation can produce a greater amount of output using the same amount of, or fewer, resources. •Assume that Riceland and Tealand produce rice and tea, transporting goods costs nothing, and each nation produces and consumes its own rice and tea. •In Riceland, one resource unit produces one ton of rice or one-fifth of a ton of tea. •In Tealand, one resource unit produces one-sixth ton of rice or one-third ton of tea. •This means that Riceland has an absolute advantage in rice production and Tealand has an absolute advantage in tea production. •Specialization and trade –Riceland gets five times more tea than it would have produced itself –Tealand gets two times more rice than it would have produced itself – – Trade Gains: Absolute Advantage International Trade Pages from CH05_FINAL_WILD5753_06_SE_C05-2 •Assume that Riceland and Tealand expend additional resource units to produce extra rice and tea, respectively, and then trade additional output with the other nation on a one-to-one basis. •This means that Riceland expends an additional resource unit to produce one extra ton of rice that it then trades with Tealand to obtain one ton of tea. Riceland gets four-fifths of a ton more tea than the one-fifth of a ton it would have produced itself with one additional resource unit. •Tealand expends an additional resource unit to produce an extra one-third of a ton of tea that it then trades with Riceland to obtain one-third of a ton of rice. Tealand gets one-sixth of a ton more rice than the one-sixth of a ton it would have produced itself with one additional resource unit. •Specialization and trade gives Riceland five times more tea than it would have produced itself, and gives Tealand two times more rice than it would have produced itself. •This means that if each country specializes in the area in which it has an absolute advantage, world output (and consumption) of both goods increases. In other words, each nation benefits from specialization and trade. •Inability of a nation to produce a good more efficiently than other nations, but an ability to produce that good more efficiently than it does any other good –A country is less efficient in the production of all goods, but it is less inefficient in the production of one good • • • • • • • Comparative Advantage International Trade 1 resource unit = 1 ton rice or 1/2 ton tea Riceland Tealand 1 resource unit = 1/6 ton rice or 1/3 ton tea •Comparative advantage is the inability of a nation to produce a good more efficiently than other nations, but an ability to produce that good more efficiently than it does any other good. •This means that a country is less efficient in the production of all goods, but it is less inefficient in the production of one good. •Again, assume two countries, two products, and transporting goods costs nothing. •In Riceland, one resource unit produces one ton of rice or one-half of a ton of tea. •In Tealand, one resource unit produces one-sixth of a ton of rice or one-third of a ton of tea. •This means that Riceland has absolute advantages in both goods because it is more efficient at producing each one. •However, Tealand has a comparative advantage in tea production because it produces tea more efficiently than it produces rice. •Specialization and trade –Riceland gets two times more tea than it would have produced itself –Tealand gets two times more rice than it would have produced itself – – Trade Gains: Comparative Advantage International Trade Pages from CH05_FINAL_WILD5753_06_SE_C05-3 •Again, assume that Riceland and Tealand expend additional resource units to produce extra rice and tea, respectively, and then trade additional output with the other nation on a one-to-one basis. •This means that Riceland expends an additional resource unit to produce one extra ton of rice that it then trades with Tealand to obtain one ton of tea. Riceland gets one-half of a ton more tea than the one-half of a ton it would have produced itself with one additional resource unit. •Likewise, Tealand expends an additional resource unit to produce an extra one-third of a ton of tea that it then trades with Riceland to obtain one-third of a ton of rice. Tealand gets one-sixth of a ton more rice than the one-sixth of a ton it would have produced itself with one additional resource unit. •Specialization and trade gives Riceland two times more tea than it would have produced itself, and gives Tealand two times more rice than it would have produced itself. •This means that if Riceland holds an absolute advantage in the production of each good and Tealand holds a comparative advantage in the production of one good, world output (and consumption) of both goods increases. In other words, each nation can still benefit from specialization and trade. •Nations strive only to maximize production and consumption •Only two countries produce and consume just two goods –There are more than 190 countries and countless products are produced, traded, and consumed •No transportation costs of traded goods –Transportation costs are a major expense of international trade •Labor is the only resource used to produce goods and it cannot cross borders –Production clearly needs additional resources and labor is increasingly mobile •Specialization does not create efficiency and improvement gain Assumptions and Limitations International Trade •Countries produce and export goods that require resources (factors) in abundance, and import goods that require resources in short supply •It predicts that a country will specialize in products that require labor if its cost is low relative to that of land and capital, and vice versa •Leontief Paradox: the United States exports require more, not less, labor-intensive production than its imports •Possible explanations of Leontief Paradox –Theory assumes nation’s production factors to be homogeneous, particularly labor, although labor skills vary greatly within a country –Theory is better predictor when expenditures on labor are considered – – Factor Proportions Theory International Trade •A company begins by exporting its product and later undertakes foreign direct investment as a product moves through its life cycle International Product Life Cycle International Trade M05a The international product life cycle theory states that a company will begin exporting its product and later undertake foreign direct investment as the product moves through its life cycle. This means that a country’s export will eventually become its import. •In stage 1, the new product stage, high purchasing power and buyer demand encourage a company to design and introduce a new product concept. Although there is virtually no export market initially, exports increase late in this stage. •In stage 2, the maturing product stage, the domestic market and markets abroad become fully aware of the existence of the product and its benefits. Demand rises and is sustained over a fairly lengthy period of time. Near the end of this stage, sales begin in developing nations and manufacturing is established there. •In stage 3, the standardized product stage, competition from companies selling similar products pressures companies to lower prices to maintain sales levels. A search for low-cost production bases abroad begins and the home market may begin importing the product. •Fundamentals –Gains from specialization and economies of scale –Companies first to market create barriers to entry –Government may help by assisting home companies – •First-mover advantage –Economic and strategic advantage of being first to enter an industry –May create a formidable barrier to market entry for potential rivals – – – New Trade Theory International Trade New trade theory says that: •There are gains to be made from specialization and increasing economies of scale. •Companies first to market can create barriers to entry. •And Government may play a role in assisting its home-based companies. According to the theory, as a firm specializes and its output increases, it realizes economies of scale and its unit cost of production declines. The company can then expand, lower prices, and force competitors to produce a similar level of output if they are to remain competitive. •A major part of the theory is the first-mover advantage—which is the economic and strategic advantage gained by being the first company to enter an industry. •This advantage creates a barrier to entry for potential rivals and may allow a country to dominate in a product. •Nation’s competitiveness in an industry depends on the industry’s capacity to innovate and upgrade, which in turn depends on four main determinants (plus government and chance) • •Factor conditions •Demand conditions •Related and supporting industries •Firm strategy, structure, and rivalry • • – – – National Competitive Advantage International Trade •Factor conditions –Basic conditions are primarily natural endowments of resources –Advanced factors result from a nation’s innovation and education, including the skill levels of the workforce and the quality of its technological infrastructure • •Demand conditions –Sophisticated home-market buyers drive companies to improve existing products and develop entirely new products and technologies –This should improve the competitiveness of the entire group of companies in a market – • – – – National Competitive Advantage – Determinants International Trade •Related and supporting industries –Companies in an internationally competitive industry do not exist in isolation –Supporting industries form “clusters” of economic activity in the geographic area –Each industry reinforces the competitiveness of every other industry in the cluster •Firm strategy, structure and rivalry –Highly skilled managers are essential because strategy has lasting effects on firm competitiveness –Domestic industry whose structure and rivalry create an intense struggle to survive strengthens competitiveness – • – – – National Competitive Advantage – Determinants International Trade Related and supporting industries also feature prominently in national competitive advantage theory. •Companies in internationally competitive industries do not exist in isolation. •Rather, supporting industries arise to provide inputs and form regional clusters of related activities that reinforce productivity and competitiveness. •Exporting clusters—those that export products or invest outside a region—can become a region’s source of long-term prosperity. Firm strategy, structure, and rivalry also play roles in national competitive advantage theory. •Strategic decisions have lasting effects on future competitiveness, as do industry structure and rivalry between companies. •In general, the more intense the rivalry between domestic companies, the greater is their global competitiveness. Heightened competitiveness at home helps businesses to compete against imports and against foreign companies trying to develop a presence in the domestic market. •A tariff is a tax levied by a government on imported goods –Intended to protect domestic industries –Increases welfare of domestic country if (1) there is no retaliation, and (2) the deadweight loss is less than the benefit from improving trade •An import quota is a restriction on the quantity of a good that can be imported –Controlled through import licenses –Importers earn quota rents if they charge a higher price with a quota •An export subsidy is a payment by a government to a firm when it exports a specified good –Encourages firms to shift to export goods, increases the domestic price –A voluntary export restraint is a voluntary limit on goods exported to a specific country –Allows exporter to earn quota rents Trade and Capital Restrictions International Trade •Domestic content provisions are requirements that a specific portion of value-added or components be produced domestically. •Capital restrictions are controls placed on ownership of assets, either of foreign assets or of ownership of domestic assets by foreign persons or firms. •The effect of restrictions on trade and capital depends on whether the country is a price taker or can affect price: –A small country in the context of international trade is a price taker. –A large country in this context can influence the price. • Trade and Capital Restrictions International Trade Trade and Capital Restrictions – Summary of Effects International Trade Tariff Import Quota Export Subsidy Voluntary Export Restraint (VER) Impact on Importing country Importing country Exporting country Importing country Producer surplus + + + + Consumer surplus - - - - Government revenue + Mixed - 0 National welfare Small country - - - - Large country + + - - Price + + + + Domestic consumption - - - - Domestic production + + + + Trade Imports - - - Exports + •A trading bloc is an agreement among countries to work toward eliminating trade barriers. Trading blocs may be regional (e.g., NAFTA, EU), yet there are different degrees of integration possible • Trading Blocs International Trade •Increased competition –Lowers prices and increases quantity •Cost of production declines –Easier access to natural resources and technology •Increased access to technology and knowledge •Increased specialization •Greater opportunity for economies of scale •Increased employment •Increased income •Increased interdependence among members –Less chance of conflicts Why Trading Blocks? International Trade THANK YOU FOR YOUR ATTENTION J