IB Final Exam 04 28 2014 CHAPTER 6 International trade and Factor Mobility Theory Laissez Faire Vs Interventionist Approaches to Exports and Imports Countries enact policies to influence which countries can produce a given product more efficiently and whether countries will permit imports to compete against their domestically produced goods and services Helps managers focus on what products to export import how much to trade and with whom to trade with Some nations take laissez faire approach allows market forces to determine trading relations Free Trade Theories absolute advantage and comparative advantage take a laissez faire approach because they prescribe the governments should not intervene directly to affect trade Mercantilism and Neomercantilism prescribe great deal of government intervention in trade Import DEMAND REASONS High quality products Lower priced products Products not produced domestically To provide consumer with variety To reduce the risk of supply shortages SUPPLY REASONS Export to Use excess capacity Achieve economies of scale Spread sales risk Increase profitability Increase market share ADAM SMITH S THEORY The Wealth of Nations 1776 A country s wealth is based on its available goods and services rather than gold Theories of Trade Patterns includes examining theories of country size factor proportions and country similarity Also consider theories dealing with the dynamics of countries trade competitiveness including product life cycle theory and diamond of national competitive advantage theory Trade Theories and Business Mercantilism Neo Mercantilism Natural Advantage Acquired Advantage Absolute Advantage Comparative Advantage Factor Proportions Factor Mobility Theory stability and dynamics of countries depend largely on land labor capital technology these factors remain very important Interventionist Theories 1 Mercantilism holds that a countries wealth is measured by its holdings of treasure usually meaning its gold Countries should export more than they import and if successful receive gold from countries that run deficits Nation states emerged from this time period and gold empowered central governments to raise armies and invest in national institutions to solidify peoples primary allegiances to new nations Government policies to export more than import governments restricted imports and subsidized production that otherwise couldn t be compete in domestic of export markets Favorable Balance of trade or trade surplus still indicates that a country is exporting more than it imports Unfavorable balance of trade or trade deficit indicates a country imports more than it exports 2 Neomercantilism describes the approach of countries that try to run favorable balances of trade in an attempt to achieve some social or political objective Free Trade Theories 1 Absolute Advantage different countries produce some goods more efficiently than others and questions why the citizens of any country should have to buy domestically produced goods when they can buy them more cheaply abroad If trade were unrestricted a country would specialize in those products that gave it a competitive advantage Resources would shift to the efficient industries because it couldn t compete in inefficient ones It can increase its efficient for three reasons o 1 Labor become more skilled by repeating tasks o 2 Labor wouldn t lost time in switching production from one kind of product to another o 3 Long production runs would provide incentives for developing more effective working method s The country then uses its excess specialized production to buy more imports than otherwise could ve produced A Natural advantage in creating a product or service comes from climatic conditions access to certain natural resources or availability of certain labor forces The more two countries natural advantages differ the more likely they will favor trade with one B Acquired Advantage countries that are competitive in manufactured goods usually in either product or process another technology o Product technology it enables a country to produce a unique product or one that is easily distinguished from those of competitors o Process technology a country s ability to efficiently produce a homogenous product one not easily distinguished by competitors Countries that develop distinctive or less expensive products have acquired advantages until producers in another country match them successfully Through technology it has created new products displaced old ones and altered trading partner relationships Technology may be used to overcome natural advantages Resource Efficiency specialization increases the production of both products by trading with each other global efficiency is optimized and the two countries can have more coffee and more wheat than they would without trade efficiently 2 Comparative Advantage global efficiency gains may still result from trade if a country specializes in what it can produce most efficiently regardless of whether other countries can product the same products more Theories of Specialization Assumptions and Limitations While the theories of specialization absolute advantage and comparative advantage offer policymakers a greater understanding of free trade they are based on a number of assumptions that may not always be valid Specifically the theories assume that full employment exists that economic efficiency is the primary goal of countries that the division of gains is acceptable to both countries that the world is composed of only two countries and two products that there are no transportation costs that advantages are static products and services and that while resources can move freely within a country they are immobile internationally Keep in mind that the theories can apply to trade in services as well as trade in products and that they apply to situations in which multi country production takes place Trade Patterns Theory must deal with the amount product composition or partners a country will have if it follows a free trade policy Non tradable goods products and services that are seldom practical to export because of high transportation costs produced in very country Theory of Country Size large countries usually depend less on trade than small ones countries with large land areas are more apt to have varied climates and assortment of natural resources Large countries Brazil US China India import much less of consumption needs than small nations Netherlands Uruguay Distance