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INTERNATIONAL TRADE. The exchange of Goods and Services between countries is called International Trade. Domestic Vs International Trade Main differences: 1.Immobality of factors of Production:
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INTERNATIONAL TRADE The exchange of Goods and Services between countries is called International Trade. Domestic Vs International Trade Main differences: 1.Immobality of factors of Production: Factors of Production can move freely from one region to another within the same country but crossing international boundaries is a different story.
2. Nature of Competition: The nature of competition is equal within the Same country but completely different between countries. e.g. Prices of goods is equal between Kabul and Jalalabad but it will be different between Kabul and Peshawar. 3.Differences in natural resources: Some countries may have one kind of natural resources in abundance while some other nations may posses other resources in larger quantity. e.g. Saudi Arab is endowed with petroleum resources and Pakistan with fertile soil. This difference makes the capabilities for production of various goods quite unequal.
4. Different currencies: Each nation uses a different currency. This creates difficulties in valuation of Goods. Such difficulty does not arise in domestic trade. 5. Restrictions of Trade: Trade between various parts of one country is more or less free. But there are many restrictions on international trade put by Government.
6. Ignorance: People have more knowledge about the conditions in their own country than about other countries. Thus it is more convenient for them to sell and buy goods in some part of their own country than in foreign land. 7. Government Policies: Govt policies within the country is the same But it is totally different between countries.
Advantages and Disadvantages of International Trade Advantages: • A country can get those commodities which it cannot produce itself. e.g. Pakistan cannot grow tea so they can import it. • A country can get those commodities at cheaper rates which it can produce only at higher cost. Japan can produce cotton but it is cheaper for her to import it from Pakistan. • Foreign trade enables countries to specialize in production of those commodities for which its resources are more suitable.
4. During natural calamities a country can get food stuffs from other countries. 5. International trade helps in industrial and agricultural development. A country can import materials, machinery, equipment, fertilizers etc which are needed for economic development. 6. International trade, extends markets. Due to large scale production average cost decreases which leads to economies of scale.
7. International trade prevents local monopolies. Because of fear of cheap imports the local producers cannot create monopoly and exploit the consumers. Disadvantages: • Due to excessive exports a country may exhaust its essential non-renewable resources. • Flag may follow trade, as it happened in sub-continent.
3. Foreign trade can brings harmful products in a country. For example import of opium to china during last century seriously damaged the health of local people. 4. Some countries become too much dependant on other countries for food or essential raw materials. So if there is any trouble in one country it will automatically affect the later one. 5. Specialization in some commodities increases the chances of economic instability. Like Pakistan depends too much on exports of cotton products. If it faces some problems regarding production of cotton it will lead the economy towards instability.
Comparative Advantage Theory • Different factor endowments mean some countries can produce goods and services more efficiently than others – specialisation is therefore possible: • Absolute Advantage: • Where one country can produce goods with fewer resources than another • Comparative Advantage: • Where one country can produce goods at a lower opportunity cost – it sacrifices less resources in production.
Theory of Absolute advantage A trade theory which holds that by specializing in the production of goods which they can produce more efficiently than others, nations can increase their economic well being. cloth grain Pakistan 10(hrs) 20(hrs) Afghanistan 20(hrs) 10(hrs)
Absolute advantage means a country is the lowest cost producer of that good.Adam Smith had explained the theroy of international trade on the basis of absolute advantage.Accoriding to this principle,trade between two countries A and B will take place when one country A can produce some commodity(cloth) at a lower cost than country B…………….contue……
Example: country A can produce one unit of cloth by 5 hours of labour while B produces a unit of cloth of similar cloth in 10 hours of labour.
Theory of Comparative Advantage The theory of absolute advantage was later modified by David Ricardo. He explained that trade takes place on the basis of comparative advantage and existence of absolute is not a necessary condition.
“it benefits a country to specialize in the production of that commodity in which it has the greatest comparative advantage or the least comparative dis advantage.” Pakistan Afghanistan Cotton(one unit) 10 hrs. 50 hrs. Radio(one unit) 5hrs 10hrs
Suppose, Afghanistan offers Pakistan 3 radios against 1 unit of cotton. Pakistan will accept this offer, because Pakistan is getting an extra radio. If Pakistan will produce with in the country, it can make only 2 radios by giving up one unit of cotton. On the other hand, Afghanistan is also saving two radios. If Afghanistan grows cotton itself, it will have to sacrifice 5 radios for 1 unit of cotton, where as through trade it gives us only 3 radios for 1 unit of cotton imported.Thus,both countries get benefitted from trade.
Gain from trade: Trade between two countries take place when there is some gain for both. Total production with out trade: Pakistan: 1 units of cotton +2 radios(cost 20hrs) Afghnis: 1 unit of cotton+5 radios(cost 100hrs) Pak +Afgh : 2 units of cot+7radio(cost120hrs)
Total production with trade: When Pakistan produces only cotton and Afghanistan radio….. Pakistan : 2 units of cotton + 0 radio Afghanist: 0 units of cotton + 10 radios Pkstn+ Afgh :2 units of cotton + 10 radios Gain from trade = 3 radios
Balance of Trade Balance of trade is the difference between the value of Goods exports and Imports of a country for a particular year. Balance of trade = Exports Minus Imports When Exports are greater than Imports, from trade terminology we are saying the country has surplus in trade. When imports exceeds exports we are saying the country has deficit in trade (Adverse in Balance of trade)
The Balance of Payments • The record of all economic transactions between one country and the rest of the world for one financial year. • Trade in goods • Trade in services • Income flows = Current Account • Transfer of funds and sale of assets and liabilities = Capital Account
Disequilibrium in Balance of Payments When the receipts and the payments in current account is not equal it is disequilibrium in Balance of Payments. Causes of Deficit in Balance of Payments • Decrease in Exports: When exports of a country falls it will lead the economy towards deficit in Balance of Payments. Following are some reasons in this regard.
Inflation: When there is Inflation in economy, the prices of exportable items increases. Consequently other countries will demand less for the country products and Exports decreases. ii) Decrease in Production: The Production of exportable item may decrease due to war, strikes, depression ect. will lead to decrease in exports. iii) Trade restrictions: Some time other countries impose heavy custom duties or fix quotas or ban imports from a country. It lowers exports of a country.
2) Rise in Imports: The Country deficit in Balance of payments sometimes may be a reason of rise in Imports. Imports may rise because of • Rapid increase in Population: Due to excessive increase in population of a country we need more and more quantity of food items and other consumer goods. If domestic sources are not enough it will have to Import.
ii) Economic Development: When economic development is going on, the country needs more and more machinery, equipment and materials. iii) Invisible Imports: A country may be spending huge amounts on invisible imports in the form of banking, education and on travels and frequent foreign tours of Govt leaders.
