International Trade Theories: Absolute, Comparative Advantage & Product Life Cycle
International Trade Theories
1. Absolute Advantage Theory: If there were no trade barriers, each country would specialize in products where they have an absolute advantage. This specialization, driven by economies of scale, would lower costs and increase overall welfare through trade.
2. Comparative Advantage Theory: This theory suggests that each country should specialize in producing goods where they have a greater comparative advantage. This leads to efficient production for both domestic consumption and export.
3. Terms of Trade (RRI): The terms of trade measure how a country’s trading conditions evolve. If the price of an essential imported raw material increases, the RRI of the producing countries will worsen.
4. Measuring Terms of Trade (RRI): The RRI is calculated as Px / Pm, where Px is the export price index and Pm is the import price index.
5. The Four Stages of the Product Life Cycle:
- Introduction: Manufacturing and sales occur in the same country, where the market is well-understood. Innovation happens in developed countries with high-income consumers and specialized technicians. Production is labor-intensive, and the innovative entrepreneur holds a monopoly. Demand is limited and price-sensitive. Initial exports begin.
- Growth: Monopoly profits attract competitors. Domestic demand increases, justifying higher production. Manufacturing may decentralize to foreign countries with high transport costs or tariff barriers. Some foreign competitors may disappear.
- Maturity: The product becomes a commodity, and profits decrease due to competition. Production may shift to developing countries with cheaper labor to reduce costs and maintain business.
- Decline: The product loses appeal due to newer or better alternatives. Production and demand decline in industrial countries but may grow in developing countries, which export to developed nations.
6. Current Account Balance: Division and Definition: The current account includes imports and exports, service purchases and sales, income from investments or work, and current transfers.
- Trade Balance: Reflects exports and imports of goods.
- Balance of Income: Records revenue and costs from work or investment.
- Balance of Services: Records income and expenditure from services performed by a country for the outside world and vice versa.
- Scale Transformation: Collects revenue and expenses from ongoing operations.
7. Criteria for the Global Competitiveness Report:
- National Economic Potential
- Internationalization
- Human Capital
- Science and Technology
- Address
- Infrastructure
- Funding
- Government