International trade I Flashcards
Explain the concept of opportunity costs.
Opportunity cost is the highest valued alternative that must be given up
Opportunity costs = cost of the good in terms of another good - how many units of one good we have to give up to produce one unit more of the other good
What is the distinction between absolute and comparative advantage
Absolute advantage: more efficient in all industries
Absolute advantage is determined by absolute costs, whereas comparative advantage is determined by opportunity costs (which are in turn determined by relative costs)
What is gains from trade and why does it occur?
When countries sell goods and services to each other, this exchange is almost always to their mutual benefit
Does not imply that all members of a country benefit equally
Basic reasons for Gains from Trade
1. Comparative Advantage
› Countries differ either in their resources or in their technology
› Countries gain from specialization in things they have a comparative advantage in
- Economies of scale
› Countries produce only a limited range of goods
› They can produce each of these goods at a larger scale and hence more efficiently than if they tried to produce everything
Explain the Ricardo model
Ricardo model: comparative advantage arises from differences in labour productivity
Potential reason: technology
A country may be less efficient in all sectors (absolute disadvantage) -> what matters is comparative advantage: relative costs rather than absolute costs!
Countries specialize in the good in which they have a comparative advantage (CA)
Export the CA good, import the other good
What are the gains from specialization according to the Ricardo model?
Reallocate resources towards the relatively most efficiently produced good
Overall production and consumption increase
Distribution of gains among countries unclear, at least one country gains, but for sure no country loses
What is autarky?
Both countries produce both goods (self-sufficient)
What are the shortcomings of the Ricardo model?
Predicts extreme specialization in a single good, which is not observable in the real world.
Ignores the effects on distribution of income within countries - workers in different sectors gain differently (or even lose) from trade despite overall gain
Describe the Heckscher-Ohlin model
In the Ricardo model, CA (comparative advantage) is due to differences in technology. There is only one factor of production (labour)
In the Heckscher-Ohlin model, CA is due to differences in endowments.
Two (or more) factors of production
Countries differ in their (relative) endowments with different factors
Countries tend to export goods whose production is intensive in factors with which the countries are abundantly endowed
› Capital abundant countries specialize in the production of capital-intensive goods
› Labour abundant countries specialize in the production of labour-intensive goods
Explain how specilization due to economies of scale can result in gains and name one factor that can influence what the country ends up specializing in
In the traditional view (Ricardo + Heckscher-Ohlin) gains derive from specialization in industries with comparative advantage
The more “modern view”: Gains derive from specialization due to economies of scale (increasing returns to scale).
Countries gain from producing a limited range of products efficiently, rather than trying to produce everything
Which products a country ends up producing can be a matter of chance and is less important
But often there is a relationship with natural factor endowments (e.g. design/furniture industry in Sweden)
What is the difference between inter and intra-industry trade?
Specialization in certain industries gives rise to inter-industry trade (trade between industries)
• Example: Germany exports cars to China; China exports apparel to Germany
But the majority of today’s trade is intra-industry trade (trade within industries)
• Example car industry: Germany exports BMW to France; France exports Peugeot to Germany
What are the reasons for intra-industry trade and what are the gains from intra-industry trade?
Reasons for intra-industry trade:
• Economies of scale at firm level: larger quantities can be produced more efficiently
• Trade enlarges the market: each firm can produce at a larger scale and thus at lower average cost + a larger number of firms can be supported
Gains from intra-industry trade:
• Larger product variety Example: Lego toys (Danish) vs. Playmobil toys (German) in Denmark
• Lower prices
Explain differences between smaller and larger countries in terms of intra- and inter-industry trade
Large countries (such as Germany) can sustain exports of products from large portfolio of industries - More intra-industry trade in large countries
Small countries (such as Denmark) need to specialize in exporting few products - More inter-industry trade in small countries
What are trade barriers and which countries do they have the largest effect on?
Trade barriers: all costs of getting a good to the final consumer other than the cost of producing the good itself
Moreover, trade barriers affect some countries more than others. Often hardest hit are less developed countries, whose exports are concentrated in low-skill, labor-intensive products that industrialized countries often protect
Name three types of trade barriers
Transportation costs (e.g. freight costs and time costs)
Internal trade and transaction costs (e.g. contract enforcement costs, legal and regulatory costs, local distribution, etc.)
Policy barriers (protectionist measures) • Tariffs: taxes on imports • Non-tariff barriers: e.g. bureaucratic rules concerning approval of products, national product standards, quotas on imports, subsidies to domestic products, ….
Policy barriers protect domestic industries from foreign competition, but costly to consumers (both individuals and firms)
When was the first age of globalization and what were the driving forces?
Early 19th century
Driven by invention of steam power (ships, railway) and telegraph - “death of distance”
