1. Topic
International Trade Theory
presented by: Mahrukh pervaiz sheikh

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International Trade
Purchase, sale, or exchange of goods and
services across national borders
 People have larger selection of products
 Important engine for job creation

3. An Overview of Trade Theory
Free Trade occurs when a government does not
attempt to influence, through quotas or duties,
what its citizens can buy from another country or
what they can produce and sell to another country.
The Benefits of Trade allow a country to
specialize in the manufacture and export of
products that can be produced most efficiently in
that country.
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4. An Overview of Trade Theory
The history of Trade Theory and Government
Involvement presents a mixed case for the role of
government in promoting exports and limiting
imports. Later theories appear to make a case for
limited involvement.
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Trade Theory Timeline

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Mercantilism mid 16th century
A nation’s wealth depends on accumulated
treasure
Three pillars
Maintain trade
surplus
Government
intervention
Gold and silver are
the currency
of trade.
Maximize exports
through subsidies.
Minimize imports
through tariffs
and quotas.

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Absolute Advantage
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
1 resource unit = 1 ton rice or
1/5 ton tea
Riceland
1 resource unit = 1/6 ton rice or
1/3 ton tea
Tealand

8. Theory of Comparative Advantage
David Ricardo: Principles of Political Economy
(1817).
Should trade even if country is more efficient in the
production than its trading partner.
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
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Factor Proportions Theory
Countries produce and export goods that require
resources (factors) in abundance, and import goods
that require resources in short supply
Two factor types
Land and CapitalLabor

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Leontief Paradox
Research discovered evidence opposite the
prediction of factor proportions theory
 U.S. exports are more labor-intensive than U.S. imports
Possible explanation
 Theory assumes nation’s production
factors to be homogeneous
 Theory is better predictor when
expenditures on labor are considered

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International Product Life Cycle
A company begins by exporting its product and later
undertakes foreign direct investment as a product moves
through its life cycle

12. The New Trade Theory
Began to be recognized in the 1970s.
Deals with the returns on specialization where
substantial economies of scale are present.
Specialization increases output, ability to enhance
economies of scale increase.
In addition to economies of scale, learning effects also
exist.
Learning effects are cost savings that come from
“learning by doing”.
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13. Application of the New Trade Theory
Typically, requires industries with high, fixed
costs.
World demand will support few competitors.
Competitors may emerge because “they got
there first”.
First-mover advantage.
Some argue that it generates government
intervention and strategic trade policy.
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14. First-Mover Advantage
Economies of scale may preclude new entrants.
Role of the government.
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National Competitive Advantage
Nation’s competitiveness in an industry
depends on the industry’s capacity to innovate
and upgrade, which in turn depends on four
main determinants

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Porter’s Diamond
Determinants of National Competitive Advantage
Factor Condition
Firm Strategy,
Structure and
Rivalry
Demand Conditions
Related and
Supporting
Industries
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Factor Conditions
Basic factors Advanced factors
Nation’s resources
(large workforce, natural
resources, climate, and
surface features)
Result of investing in education
and innovation
(skill of workforce segments,
technological infrastructure)
Basic factors can spark initial production, but advanced factors account for
sustained competitive advantage

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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

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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

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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 its
competitiveness