abhishreshthaa
Abhijeet S
Why Do countries trade?
Adam Smith - Absolute productivity advantages.
David Ricardo - Relative productivity advantages.
Heckscher-Ohlin - Relative abundance of factors of production.
Alternatives theories
Consequences of trade
Arbitrage opportunities
Traders in the U.S. could profit by selling domestic wheat in exchange of foreign cloths.
Traders in the rest of the world could profit by selling cloths in exchange of U.S. wheat.
Production specialization
As a result of the arbitrage opportunities, the demand of U.S. wheat increases while the demand of cloths decreases. The opposite takes place in the rest of the world. Therefore, the U.S. will specialize in the production of wheat and the rest of the world in the production of cloths.
Equalization of prices
To insure that the demands of wheat and cloth are equalized to the production possibilities of the two countries, the arbitrage opportunities must be eliminated. This requires price equalization.
Consumption possibilities are increased
Because the single equilibrium price must be between the pre-trade prices, no country will be worse-off by trading.
Arbitrage opportunities
Traders in the U.S. could profit by selling domestic wheat in exchange of foreign cloths.
Traders in the rest of the world could profit by selling cloths in exchange of U.S. wheat.
Production specialization
As a result of the arbitrage opportunities, the demand of U.S. wheat increases while the demand of cloths decreases. The opposite takes place in the rest of the world. Therefore, the U.S. will specialize in the production of wheat and the rest of the world in the production of cloths.
Equalization of prices
To insure that the demands of wheat and cloth are equalized to the production possibilities of the two countries, the arbitrage opportunities must be eliminated. This requires price equalization.
Consumption possibilities are increased
Because the single equilibrium price must be between the pre-trade prices, no country will be worse-off by trading.
WHO GAINS AND LOOSES FROM TRADE?
The owners of the production factor more intensively used in the expanding sector will gain. (In the previous example, the land owners in the U.S. and the workers in the rest of the world.)
The owners of the production factor more intensively used in the contracting sector will loose. (In the previous example, the workers in the U.S. and the land owners in the rest of the world.)
ECONOMIES OF SCALE:
Trade affects the technology of a country
Adam Smith - Absolute productivity advantages.
David Ricardo - Relative productivity advantages.
Heckscher-Ohlin - Relative abundance of factors of production.
Alternatives theories
Consequences of trade
Arbitrage opportunities
Traders in the U.S. could profit by selling domestic wheat in exchange of foreign cloths.
Traders in the rest of the world could profit by selling cloths in exchange of U.S. wheat.
Production specialization
As a result of the arbitrage opportunities, the demand of U.S. wheat increases while the demand of cloths decreases. The opposite takes place in the rest of the world. Therefore, the U.S. will specialize in the production of wheat and the rest of the world in the production of cloths.
Equalization of prices
To insure that the demands of wheat and cloth are equalized to the production possibilities of the two countries, the arbitrage opportunities must be eliminated. This requires price equalization.
Consumption possibilities are increased
Because the single equilibrium price must be between the pre-trade prices, no country will be worse-off by trading.
Arbitrage opportunities
Traders in the U.S. could profit by selling domestic wheat in exchange of foreign cloths.
Traders in the rest of the world could profit by selling cloths in exchange of U.S. wheat.
Production specialization
As a result of the arbitrage opportunities, the demand of U.S. wheat increases while the demand of cloths decreases. The opposite takes place in the rest of the world. Therefore, the U.S. will specialize in the production of wheat and the rest of the world in the production of cloths.
Equalization of prices
To insure that the demands of wheat and cloth are equalized to the production possibilities of the two countries, the arbitrage opportunities must be eliminated. This requires price equalization.
Consumption possibilities are increased
Because the single equilibrium price must be between the pre-trade prices, no country will be worse-off by trading.
WHO GAINS AND LOOSES FROM TRADE?
The owners of the production factor more intensively used in the expanding sector will gain. (In the previous example, the land owners in the U.S. and the workers in the rest of the world.)
The owners of the production factor more intensively used in the contracting sector will loose. (In the previous example, the workers in the U.S. and the land owners in the rest of the world.)
ECONOMIES OF SCALE:
- There are economies of scale if the unit cost of production declines as more units are produced.
- Economies of scale are internal if they pertain to a particular firm (The unit costs of a firm decline as the firm expands).
- Economies of scale are external if they pertain to a particular industry within a geographical area (The unit costs of a firm decline as the industry expands).
- Economies of scale are important because it affects the competitive structure of a particular industry.
- Firms have the ability to set a price different from competitors because of product differentiation.
- The demand elasticity depends on the variety of goods produced (numbers of firms in the market).
- Free entry, however, makes sure that firms do not make profits (above the normal rate)
Trade affects the technology of a country
- Trade provides access to new products. Specially important are capital goods which embodies better technologies.
- Trade creates incentives to innovate because of the greater competition with the need to improve productivity.
- Trade also creates incentives to innovate because gives access to a larger market to which firms can spread the fix costs of R&D.
- However, specialization in low-tech industry may be detrimental to the long-run growth of certain countries.