2. International Trade Theory
What is international trade?
– Exchange of raw materials and manufactured
goods (and services) across national borders
Classical trade theories:
– explain national economy conditions--country
advantages--that enable such exchange to happen
New trade theories:
– explain links among natural country advantages,
government action, and industry characteristics
that enable such exchange to happen
Implications for International Business
3. Classical Trade Theories
Mercantilism (pre-16th century)
– Takes an us-versus-them view of trade
– Other country’s gain is our country’s loss
Free Trade theories
– Absolute Advantage (Adam Smith, 1776)
– Comparative Advantage (David Ricardo, 1817)
– Specialization of production and free flow of goods
benefit all trading partners’ economies
Free Trade refined
– Factor-proportions (Heckscher-Ohlin, 1919)
– International product life cycle (Ray Vernon, 1966)
4. The New Trade Theory
As output expands with specialization, an
industry’s ability to realize economies of scale
increases and unit costs decrease
Because of scale economies, world demand
supports only a few firms in such industries
(e.g., commercial aircraft, automobiles)
Countries that had an early entrant to such an
industry have an advantage:
– Fist-mover advantage
– Barrier to entry
5. New Trade Theory
Global
Strategic Rivalry
– Firms gain competitive advantage trough:
intellectual property, R&D, economies of
scale and scope, experience,first mover
advantage
National
Competitive Advantage
(Porter, 1990)
6. Mercantilism/Neomercantilism
Prevailed in 1500 - 1800
– Export more to “strangers” than we import to a
mass treasure, expand kingdom
– Zero-sum vs positive-sum game view of trade
Government intervenes to achieve a surplus in
exports
– King, exporters, domestic producers: happy
– Subjects: unhappy because domestic goods stay
expensive and of limited variety
Today neo-mercantilists = protectionists: some
segments of society shielded short term
8. Absolute Advantage
Adam Smith: The Wealth of Nations, 1776
Mercantilism weakens country in long run; enriches only
a few
A country
– Should specialize in production of and export products for
which it has absolute advantage; import other products
– Has absolute advantage when it is more productive than
another country in producing a particular product
G
Cocoa
G: Ghana
K: S. Korea
K
K'
G'
Rice
9.
10. Comparative Advantage
David Ricardo: Principles of Political Economy, 1817
Country should specialize in the production of those
goods in which it is relatively more productive... even
if it has absolute advantage in all goods it produces
Comparative adv. Incorporates oppurtunity cost
concept
Absolute Advantage is a special case of
Comparative Advantage
G
Cocoa
G: Ghana
K: S. Korea
K
K'
G'
Rice
11. Assumptions (absolute
&comparative)
Countries are driven only by the maximisation
of production &consumption.
Trade happens between only two countries
&consumption of only two goods
No transportation costs
Labour is the only factor considered for
production
Specialisation does not result in increased
efficiency
12. Factor Endowment theory
Heckscher (1919)-Ohlin (1933)
Differences
in factor endowments not on differences
in productivity determine patterns of trade
Absolute amounts of factor endowments matter
Leontief paradox(Wassily Leontief noble price
winner 1973)
– US has relatively more abundant capital yet imports
goods more capital intensive than those it exports
– Explanation(?):
US has special advantage on producing new products
made with innovative technologies
These may be less capital intensive till they reach
mass-production state
13. Theory of Relative Factor Endowments
(Heckscher-Ohlin)
Factor endowments vary among countries
Products differ according to the types of factors that
they need as inputs
A country has a comparative advantage in
producing products that intensively use factors of
production (resources) it has in abundance
Factors of production: labor, capital, land, human
resources, technology
14. International Product Life-Cycle (Vernon)
Most new products conceived / produced in the US in 20th
century
US firms kept production close to their market initially
Aid decisions; minimize risk of new product introductions
Demand not based on price; low product cost not an issue
Limited initial demand in other advanced countries initially
Exports more attractive than overseas production
When demand increases in advanced countries, production
follows
With demand expansion in secondary markets
Product becomes standardized
production moves to low production cost areas
Product now imported to US and to advanced countries
15. Product Life Cycle theory
Raymond Vermon (1960)
Six cycles
Cycle 1:New product development
Cycle 2:Sales in own country
Cycle 3:Limited sales in other countries
Cycle 4:regular exports from parent country
Cycle 5:Production in foreign country
Cycle 6:Reverse exports to parent country
16.
17. Classic Theory Conclusion
Free Trade expands the world “pie” for goods/services
Theory Limitations:
Simple world (two countries, two products)
no transportation costs
no price differences in resources
resources immobile across countries
constant returns to scale
each country has a fixed stock of resources and no efficiency
gains in resource use from trade
full employment
18. New Trade Theories
Increasing returns of specialization due to economies
of scale (unit costs of production decrease)
First mover advantages (economies of scale such that
barrier to entry crated for second or third company)
Luck... first mover may be simply lucky.
Government intervention: strategic trade policy
19. National Competitive Advantage
(Porter, 1990)
Factor endowments
Demand conditions
large, sophisticated domestic consumer base: offers an
innovation friendly environment and a testing ground
Related and supporting industries
land, labor, capital, workforce, infrastructure
(some factors can be created...)
local suppliers cluster around producers and add to
innovation
Firm strategy, structure, rivalry
competition good, national governments can create
conditions which facilitate and nurture such conditions
21. “So What” for business?
First
mover implications
Location
Foreign
Implications
Investment Decisions
Government
Policy implications
Hinweis der Redaktion
This is a test
Example: Medical Specialist is also the best medical secretary. Should this doctor spend any time on the secretarial part of the business? No? Why?
Lets continue with SL and the USA...
This time the terms have changed to give the USA the absolute adv. in both tea and wheat...
Real world: many countries and many goods
Transportation costs may decline with specialization
Prices in different countries can be (are) effected by exchange rates. Wheat and Tea are not necessarily a one-to-one swap
resources can move from country to country: labor (Mexico to US), capital
(constant returns to scale: specialization does not effect the amount of resources required to produce one ton of wheat or tea) both diminishing and increasing returns to specialization exist
assumed fixed stock of resources in each country. Trade can change the efficiency with which the resources are used and the stock of resources may change too (more people, more natural resources, more efficient use due to technology)
Full employment implies use of resources at full efficiency...
Commercial jet industry: studies show that 3 major manufacturers can survive. Boeing, McDonnell Douglas and Airbus already there... New entries discouraged... however, the largest potential customer is China and they want the capacity to produce... hence the battle Boeing is having with unions... either give China some of the value added activity to keep them out of mainline or lose out to Airbus or to a non-economic decision to start an industry.
Luck: DeHaviland in 50s. Comet fell out of sky. 707 captured the market. (some say it was not only luck but resources. B. had produced 707 on the back of technology developed for US military--spillover effect?? what of our claim that Airbus was subsidized??)
Factor Endowments:
basic factors: natural resources, climate, location, demographics
advanced factors: communications infrastructure, sophisticated and skilled labor, R&D, technological know-how
advanced factors are most important: they are the result of investment by individuals, companies and government (education, general skill and knowledge stimulation, basic R&D support)
Demand conditions: sophisticated home demand can create impetus for enhancing competitive advantage (Japanese consumer knowledgeable on cameras pushed J. industry to create advantage)
Related and Supporting industries:
internationally competitive suppliers. Creation of clusters of related industries. ex. German textile and apparel sector (high qual. cotton, wool, synthetic fibers, sewing machine needles, textile machinery)
Firm Strategy, Structure, and Rivalry within a nation:
Management ideologies: predominance of engineers in TMTs of Germ. and J. cos. helped improve manufacturing processes and product designs (Porter found top execs with finance backgrounds in US 70s. most CEOs of the 40 companies I studies were marketing specialists).
Vigorous domestic rivalry creates persistent comp. advantage in and industry: impr. efficiency and leads to international competitiveness.
Location: To produce laptop four stages:
Basic research and development of product design (US, Japan: Apple, IBM, Motorola, TI, Toshiba, Sony)
manufacture of standard electronic components (capital intensive, semi-skilled labor, high unit cost pressures: Sing., Taiwan, Malaysia)
manuf. of advanced components (screens) (cap. intensive, high skilled labor, no cost pressure: Japan)
final assembly (labor intensive, low skill, intense cost pressures: Mexico)
First mover implications: high initial investment with years of losses... Japan LCD displays, US abandoned early tech. leadership in this technology.
Policy:
Apple and IBM lobbied against tariffs on LCD display imports: J. was the low cost producer, A. and IBM used these displays, the increase in import duty would reduce the world competitiveness of the A. and IBM products...
Auto industry induced govt. to negotiate voluntary restraints in machine tools. result: limited competition from world-wide efficient suppliers caused the US companies to lose their WW competitive edge and lost its WW share since 85.