4.1.2 Specialisation and Trade

Question 1

List the Assumptions of Comparative Advantage

Answer 1

Two countries and two goods: The theory assumes there are only two countries producing two different goods.
Constant opportunity costs: It assumes that the opportunity costs of producing one good in terms of the other remain constant for both countries.
Fixed resources: It assumes that the resources (labor, capital, etc.) are fixed and cannot be reallocated between the production of the two goods.
Perfect competition: The theory assumes perfect competition in both countries, meaning no monopolies or market distortions.
Free trade: It assumes that there are no trade barriers or restrictions like tariffs, quotas, or subsidies.
Homogeneous goods: It assumes that the goods produced are of identical quality in both countries.

Question 2

What are the Limitations of Comparative Advantage?

Answer 2

Impractical assumptions: The assumptions of constant opportunity costs and fixed resources are often unrealistic in the real world.
Ignores economies of scale: It does not consider economies of scale, which can lead to more efficient production as the scale of production increases.
Ignores non-economic factors: The theory ignores non-economic factors such as strategic or national security concerns, which may influence a country’s trade policies.
Short-term focus: It is a long-term theory and may not explain short-term fluctuations in trade patterns.
Distributional effects: Comparative advantage may benefit a country as a whole, but it may not benefit all individuals or industries within a country equally.

Question 3

What are the Advantages of Specialization and Trade in an International Context?

Answer 3

1. Efficiency and Productivity: Specialization allows countries to focus on producing what they are most efficient at, leading to increased productivity and economic growth.
2. Consumer Benefits: International trade provides consumers with a wider variety of goods and services at competitive prices, improving their standard of living.
3. Resource Allocation: It enables efficient resource allocation as countries can allocate resources to industries where they have a comparative advantage, reducing wastage.
4. Economies of Scale: Specialization often leads to larger production scales, which can result in economies of scale, further reducing production costs.
5. International Cooperation: Trade fosters peaceful international relations and cooperation as countries become interdependent.

Question 4

What are the Disadvantages of Specialization and Trade in an International Context?

Answer 4

1. Job Displacement: Specialization can lead to job displacement in industries where a country does not have a comparative advantage, causing structural unemployment and social issues.
2. Dependency: Over-reliance on imports for critical goods can make a country vulnerable to supply disruptions or price fluctuations.
3. Income Inequality: While trade can benefit a nation as a whole, it may exacerbate income inequality if the gains are not equitably distributed.
4. Environmental Concerns: Specialization in resource-intensive industries may lead to environmental degradation if not regulated properly.
5. Trade Imbalances: Persistent trade deficits can lead to indebtedness and economic instability for some countries.
6. Loss of Domestic Control: Relying on imports for essential goods can compromise a nation’s control over its own economy and security.