Trade Theory, From Mercantilism To Free Trade

INTERNATIONAL BUSINESS & TRADE
Module 2: Trade Theory, from Mercantilism to Free Trade
LEARNING OUTCOMES
After you complete the required assignments you will be able to:
 Identify and explain the difference between Absolute and
Comparative Advantage
 Explain the Heckscher-Olin Theory
 Summarize Porter’s Theory of National Competitive
Advantage
Reading: Why Trade?

Goals:
 Discuss globalization of markets, economies, and jobs.
 Explain international trade, foreign direct investments, and global
monetary systems.
Read the article, “Why Trade?” from the Nobel Prize website linked below.
http://www.nobelprize.org/educational/economic-sciences/trade/ohlin.html
Video: Comparative Advantage and Trade

Goals:
monetary systems
Watch: https://youtu.be/38hvvAzgXZY
Reading: Competitive Advantage

Competitive advantage is defined as the strategic advantage one business entity
has over its rival entities within its competitive industry.
KEY POINTS
 A country is said to have a comparative advantage in the production of a

good (say cloth) if it can produce cloth at a lower opportunity cost than
another country.
 Competitive advantage seeks to address some of the criticisms of
comparative advantage.
 Competitive advantage occurs when an organization acquires or develops
an attribute or combination of attributes that allows it to outperform its
competitors.
Terms
Comparative advantage: The concept that a certain good can be produced more
efficiently than others due to a number of factors, including productive skills,
climate, natural resource availability, and so forth.
Opportunity cost: The cost of an opportunity forgone (and the loss of the benefits
that could be received from that opportunity); the most valuable forgone
alternative.
Examples
Opportunity cost – The opportunity cost of cloth production is defined as the

amount of wine for example, that must be given up in order to produce one more
unit of cloth.
Competitive advantage is defined as the strategic advantage one business entity

has over its rival entities within its competitive industry. Achieving competitive
advantage strengthens and positions a business better within the business
environment.
Competitive advantage seeks to address some of the criticisms of comparative

advantage. A country is said to have a comparative advantage in the production
of a good (say cloth) if it can produce cloth at a lower opportunity cost than
another country. The opportunity cost of cloth production is defined as the
amount of wine that must be given up in order to produce one more unit of cloth.
Thus, England would have the comparative advantage in cloth production relative
to Portugal if it must give up less wine to produce another unit of cloth than the
amount of wine that Portugal would have to give up to produce another unit of
cloth.
Competitive Advantage
The 640GB drive has a competitive advantage over the 500GB drive in terms of
both cost and value.
Michael Porter proposed the theory of competitive advantage in 1985. The

competitive advantage theory suggests that states and businesses should pursue
policies that create high-quality goods to sell at high prices in the market. Porter
emphasizes productivity growth as the focus of national strategies. This theory
rests on the notion that cheap labor is ubiquitous, and natural resources are not
necessary for a good economy. The other theory, comparative advantage, can
lead countries to specialize in exporting primary goods and raw materials that
trap countries in low-wage economies due to terms of trade. The competitive
advantage theory attempts to correct for this issue by stressing maximizing scale
economies in goods and services that garner premium prices.
Competitive advantage occurs when an organization acquires or develops an

attribute or combination of attributes that allows it to outperform its competitors.
These attributes can include access to natural resources, such as high grade ores
or inexpensive power or access to highly trained and skilled personnel human
resources. New technologies, such as robotics and information technology, are
either to be included as a part of the product or to assist making it. Information
technology has become such a prominent part of the modern business world that
it can also contribute to competitive advantage by outperforming competitors
with regard to Internet presence. From the very beginning (i.e., Adam Smith’s
Wealth of Nations), the central problem of information transmittal, leading to the
rise of middle men in the marketplace, has been a significant impediment in
gaining competitive advantage. By using the Internet as the middle man, the
purveyor of information to the final consumer, businesses can gain a competitive
advantage through creation of an effective website, which in the past required
extensive effort finding the right middle man and cultivating the relationship.
Reading: Absolute Advantage
Goals
By the end of this section, you will be able to:

monetary systems.
Absolute advantage and balance of trade are two important aspects of

international trade that affect countries and organizations.
KEY POINTS
Absolute advantage: In economics, the principle of absolute advantage refers to

the ability of a party (an individual, or firm, or country) to produce more of a good
or service than competitors, using the same amount of resources.
Net exports: The balance of trade (or net exports, sometimes symbolized as NX) is
the difference between the monetary value of exports and imports of output in
an economy over a certain period. It is the relationship between a nation’s
imports and exports.
Advantageous trade: Advantageous trade is based on comparative advantage
and covers a larger set of circumstances while still including the case of absolute
advantage and hence is a more general theory.
Terms
Absolute advantage: The capability to produce more of a given product using

less of a given resource than a competing entity.
Advantageous: Being of advantage; conferring advantage; gainful; profitable;
useful; beneficial; as, an advantageous position.
In the drive for international trade, it is important to understand how trade
affects countries positively and negatively—both how a country’s imports and
exports affect its economy and how effectively the country’s ability to create and
export vital goods effects the businesses within that country. Absolute advantage
and balance of trade are two important aspects of international trade that affect
countries and organizations.
European Free Trade Agreement
The European Free Trade Agreement has helped countries international trade
without worrying about absolute advantage and increases net exports.
Absolute Advantage
In economics, the principle of absolute advantage refers to the ability of a party

(an individual, a firm, or a country) to produce more of a good or service than
competitors while using the same amount of resources. Adam Smith first
described the principle of absolute advantage in the context of international
trade, using labor as the only input. Since absolute advantage is determined by a
simple comparison of labor productivities, it is possible for a party to have no
absolute advantage in anything; in that case, according to the theory of absolute
advantage, no trade will occur with the other party. It can be contrasted with the
concept of comparative advantage, which refers to the ability to produce a
particular good at a lower opportunity cost.
Balance of Trade
The balance of trade (or net exports, sometimes symbolized as NX) is the
difference between the monetary value of exports and imports in an economy
over a certain period. A positive balance is known as a trade surplus if it consists
of exporting more than is imported; a negative balance is referred to as a trade
deficit or, informally, a trade gap. The balance of trade is sometimes divided into
a goods and a services balance.
Video: Porter’s National Diamond Framework Explained

Porter’s National Diamond Framework explains why some countries tend to be
stronger in different industries in relation to other countries.
1. Factor Conditions
2. Related and Supporting Industries
3. Structure, Strategy and Rivalry
4. Demand Conditions
Watch: https://youtu.be/OZ4IFJ7Z8D4
Assignment: The “Trader Ruler Game”
This assignment has TWO parts (1. Play the game and 2. Post to the discussion):
I. To complete Trade Ruler Game you will need to:
1. Watch the Instructional Video that shows you how to get yourself set up
and ready to play
2. Click on the link for the “Trade Rule Game”
3. Complete your “rounds” and be sure to record your high score because you
will need this for your Discussion Posting
PLAY the Trader Ruler Game:

http://www.nobelprize.org/educational/economic-sciences/trade/
II. To complete the “Trade Ruler Discussion” –

1. In your initial post, include your name and your score (i.e., Linda Williams –
57,640). This is your 150 – 200 word post. Post your thoughts on your
experience as the Trade Ruler of your Island. In your initial post you should,
at a minimum, answer the following:
1. Which Island did you select?

2. Why did you select this one?
3. What would you have done DIFFERENTLY?
4. What did this teach you about comparative and competitive
advantage?
2. RESPOND to at least TWO of your classmates. (50 – 100 words each)

Trade Theory, From Mercantilism To Free Trade

Uploaded by

Copyright:

Available Formats

Trade Theory, From Mercantilism To Free Trade

Uploaded by

Document Information

Original Title

Copyright

Available Formats

Share this document

Share or Embed Document

Sharing Options

Did you find this document useful?

Is this content inappropriate?

Copyright:

Available Formats

Trade Theory, From Mercantilism To Free Trade

Uploaded by

Copyright:

Available Formats

INTERNATIONAL BUSINESS & TRADE

Module 2: Trade Theory, from Mercantilism to Free Trade

Reading: Why Trade?

Video: Comparative Advantage and Trade

Reading: Competitive Advantage

 A country is said to have a comparative advantage in the production of a

Opportunity cost – The opportunity cost of cloth production is defined as the

Competitive advantage is defined as the strategic advantage one business entity

Competitive advantage seeks to address some of the criticisms of comparative

Michael Porter proposed the theory of competitive advantage in 1985. The

Competitive advantage occurs when an organization acquires or develops an

By the end of this section, you will be able to:

Absolute advantage and balance of trade are two important aspects of

Absolute advantage: In economics, the principle of absolute advantage refers to

Absolute advantage: The capability to produce more of a given product using

In economics, the principle of absolute advantage refers to the ability of a party

Video: Porter’s National Diamond Framework Explained

I. To complete Trade Ruler Game you will need to:

PLAY the Trader Ruler Game:

II. To complete the “Trade Ruler Discussion” –

1. Which Island did you select?

2. RESPOND to at least TWO of your classmates. (50 – 100 words each)

You might also like