4.1 - Specialisation and trade Flashcards
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What does it mean if a country has a comparative advantage?
When a country is able to produce a good more cheaply relative to other goods produced. It has a lower opportunity cost.
What is the theory of comparative advantage?
Countries find specialisation mutually advantageous if the opportunity costs are different.
- opportunity cost is the sacrifice of alternative products made when you specialise in another.
What is absolute advantage?
When a country is able to produce a good more cheaply in absolute terms compared to another country.
- the country is able to produce a greater quantity of a good using same factors of production
Assumptions and limitations of theories of comparative and absolute advantage.
- comparative advantage assumes there are no transport costs (could lower or prevent comparative advantage)
- Assumes that costs are constants and there are no economies of scale to help increase gains of specialisation
- Assumes goods are homogenous (this is unlikely)
- assumes factors of production are perfectly mobile ( no tarrifs or other trading barriers and there is perfect ) knowledge
- difficult to conclude a country has comparative advantage if goods cannot be perfectly compared.
- Ignores possible externalities of producing/consuming the good.
- whether or not a trade takes place depends on terms of trade of both countries.
What are the advantages of specialisation and trade in an international context?
- Greater competition
> provides incentive to innovate
> creates new g/s + new production methods
> increases consumer welfare - Greater consumer choice
> international market opens consumers to larger variety of g/s - Countries/firms can benefit from economies of scale
> have access to larger markets
> increases demand for their goods
> increase output and benefit from EOS
> lowers average costs
> lower prices fall onto consumers and firms as firms are more efficient - Increase economic growth/raise living standards
> countries are able to specialise in g/s they have comparative advantage in
> output increases (reduce unemployment, labour is derived demand)
>higher economic growth rate (>increase in real wages>increase standards of living) - lower prices
> comparative advantage allows countries to specialise, producing at lowest opportunity cost
> factors of production exploited so they can lower overall production costs - able to produce good at lowest cost per unit
> lower prices fall onto consumers
What are disadvantages of specialisation and trade in an international context?
- environmental costs
> transport + increased output - Danger of dumping by foreign firms
> large supply of g/s leading to falling prices of them
> If domestic firms are less competitive than their foreign competitors, may end up making a loss at this lower price
> forced out of the market.
> lead to further problems for the country such as a large increase in the unemployment rate. - Structural unemployment
> domestic firms may be out-competed in global market
> labour is derived demand - if demand for a firms good declines - unable to provide jobs
> worse if workforce is immobile as more sensitive they are to changes in demand causing a decrease in output - Over-dependence
> increase in exposure to external shocks:
> eg: recession, conflicts, political issues, price falls in exports - lead to decrease in export revenue/import cuts - countries rely on this - Trade deficit on current account
> Countries that do not have a comparative advantage will suffer from low export revenue and relatively high import expenditure
> likely to experience large trade deficits, thus reducing aggregate demand and economic growth rates.
> typical developing countries who lack global competitiveness and are importing for necessity goods will suffer. - loss of sovereignty + culture
> With an increase in trade, languages and cultures have blended impacting on some indigenous languages and cultures.
> Countries have also lost some sovereignty as they are more easily influenced by dominant trading partners - Global Monopolies Emerge
> As transnational firms grow in size and increase market power,
> they can dictate prices and output in many regions.
> They are also able to to influence governments and gain access to raw materials through bribery and corruption