B416: The Evolution of Global Economies

Lecture 5 : International Trade and Factor Mobility Theory

Learning Outcomes

By the end of this lecture, you should understand the following:

• To understand theories of international trade

• To explain how free trade improves global efficiency

• To identify factors affecting national trade patterns

• To explain why a country’s export capabilities are dynamic

• To understand why production factors, especially labourand capital, move internationally

• To explain the relationship between foreign trade and international factor mobility

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3

Laissez-Faire vs. Intervention

• Trade theory helps answer– What products should we import and export?

– How much should we trade?

– With whom should we trade?

• Laissez-faire approach– Free trade theories – absolute advantage and

comparative advantage

• Intervention approach– Mercantilism and neomercantilism

4

Laissez-Faire vs. Intervention

International Operations and Economic Connections

5

Theories of Trade Patterns

• Theories explore

– country size

– factor proportions

– country similarity

• Theories explore trade competitiveness

– Product life cycle

– Diamond of national advantage

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Trade Theories and BusinessWhat Major Trade Theories Do and Don’t Discuss: A Checklist

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Factor Mobility Theory

• A country’s competitiveness depends on

– quality and quantity of production factors

• Land

• Labour

• Capital

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Theories that support government intervention in the flow of trade

• Mercantilism countries should export more than they import

–Maintain a favorable balance of trade

• trade surplus

–Avoid an unfavorable balance of trade

• trade deficit

• Neomercantilism run an export surplus to achieve social or political objectives

Interventionist Theories

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Free Trade Theories

• Two theories that support free trade

– Absolute advantage theory

– Comparative advantage theory

• Market forces should determine trade

– specialization

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Theory of Absolute Advantage

• Theory of absolute advantage (Adam Smith)– different countries produce some goods more

efficiently than others

• Free trade brings – Specialization

• natural advantage• acquired advantage

– product technology– process technology

– Greater efficiency– Higher global output

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Theory of Absolute Advantage

Production Possibilities under Conditions of Absolute Advantage

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Theory of Comparative Advantage

• Theory of comparative advantage (David Riccardo)

– free trade can increase global output even if one country has an absolute advantage in the production of all products

• Consider

– comparative advantage

– absolute disadvantage

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Theory of Comparative Advantage

Production Possibilities under Conditions of Comparative Advantage

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Theories of Specialization:

Theories of specialization make assumptions that may not be valid

– full employment

– economic efficiency

– division of gains

– two countries, two commodities

– transport costs

– statics and dynamics

– services

– production networks

– mobility

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How Much Does A Country Trade?

• Theory of country size

– large countries depend less on trade than small countries

• Large countries usually

–export a smaller portion of output and import a smaller part of consumption

–have higher transportation costs for foreign trade

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What Does A Country Trade?

• Factor proportions theory (Eli Heckscher and Bertil Ohlin)

– factors in relative abundance are cheaper than factors that are relatively scarce

• But

– production factors are not homogenous

• labour

• Process technology

– capital versus labour

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What Does A Country Trade?

Worldwide Trade by Major Sectors

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Choosing Trading Partners

• Country similarity theory

– most trade occurs among developed countries

• share similar market characteristics

• produce and consume much more than developing countries

• Trading partners are affected by

– Cultural similarity

– Political relations between countries

– Distance

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Product Life Cycle Theory• The product life cycle theory - the production location of certain

manufactured products shifts as they go through their life cycle

• Four stages– Introduction

• Innovation in response to observed need.• Exporting by the innovative country• Evolving product characteristics.

– Growth• Increases in exports by the innovating country.• More competition. Increased capital intensity.• Some foreign production.

– Maturity• A decline in exports from the innovating country.• More product standardization.• More capital intensity.• Increased competitiveness of price.• Production start-ups in emerging economies.

– Decline• A concentration of production in developing countries.• An innovating country becoming a net importer.

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Product Life Cycle TheoryLife Cycle of the International Product

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Diamond of National AdvantageThe diamond of national advantage

– Four conditions are important for gaining and maintaining competitive superiority• Demand conditions• Factor conditions• Related and supporting industries• Firm strategy, structure, and rivalry

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Why Production Factors Move

• Factor mobility theory

– focuses on why production factors move, the effects of that movement on transforming factor endowments, and the impact of international factor mobility on world trade

• Capital and labour move internationally to

– gain more income

– flee adverse political situations

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Effects of Factor Movements

• Factor movements alter factor endowments• Factor movements can be substantial for some

countries, and insignificant for others• The movement of labour and capital are

intertwined• Pros and cons of outward and inward

migration– Brain drain– Remittances

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Trade and Factor Mobility

• There are pressures for the most abundant factors to move to areas of scarcity

• The lowest costs occur when trade and production factors are both mobile

• Factor mobility through foreign investment often stimulates trade because of– the need for components

– the parent’s ability to sell complimentary products

– the need for equipment for subsidiaries

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Trade and Factor Mobility

Unrestricted Trade, Factor Mobility, and the Cost of Tomatoes

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In What Direction Will Trade Winds Blow?Issues to consider

1. Displacement of jobs as developed countries shift production to more rapidly developing countries

2. Relationships among land, labour, and capital will continue to evolve

3. Continued trend toward a more finely tuned specialization of production among countries

Monitor– As economies grow, efficiencies of multiple production locations

also grow because they can all gain sufficient economies of scale– Small-scale production methods may enable countries to produce

many goods efficiently for their own consumption– Output from 3D printers– Services are growing more rapidly than products as a portion of

production and consumption within developed countries

And Now…Work Outside the Lecture

Preparation

For

Padagogic

Style

Preparation

Time Budget

Individual

TaskGroup Task Output Week 5 Preparation Activity

Read Chapter 6 International Business - 14th

Edition by Daniels, Radebaugh &

Sullivan, (available via DawsonEra)

Seminar 5 30 Minutes Read above Material + Seminar material

Workshop 5 1 HourOnline Collaboration Activities relating Group

Presentation in Week 6

2 HourLecture 5

End of presentation

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