Why do nations trade?

1
Why do nations trade?

• A simple guide into the history
• and theory of international trade

2
What will I talk about?

• Links between the history and the theories of
  international trade
• Most important trade theories and their
  implications

You wont see

• Complex math
• Complex charts

3
Model of Intl. Trade Relations
Country B
Country A
Goods Services
Production Factors
Capital, Labour, Technology
Trade Policy
Tariffs, Non-Tariff Barriers Currency Exchange
Rates International Organisations
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The major theories

• Absolute advantage
• Comparative advantage
• Factor abundance theory
• Modern explanations

Lets start, then!
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Ancient Times
3rd-4th

• First trade barter exchange between tribes (ca.
  5000 B.C.)
• Trade centres China, India, Egypt, Phoenicia,
  Babylon, Persia, Greece, Rome
• Inventions money, wheel, weighing and measuring
  system, commercial law, sails, commodity
  exchanges
• First trade routes established

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Ancient Times
3rd-4th

• No intensive international trade
• Lack of safe and low-cost transportation
• Dispersed trade centres (from global perspective)
• Long-distance routes mostly for luxurious goods
• Stability of the commodity structure, practically
  until the colonial conquest

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Silk Road
3rd-4th
8
Amber Road
3rd-4th
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Middle Ages
13th-14th

• Lower importance of cities as trade centres
• Feudal system- lords, vassals and fiefs (land
  given to a vassal by their lord)
• Decreasing intensity of international trade
• Trade centres Byzantium, Arabia, Italian cities
  (Venice, Genoa, Firenze, Pisa), Hansa
• Banking system, bills of exchange, credits for
  production
• Trade big share of products necessary for
  sailing (sailcloth, wood, tar, salt)

Marco Polo at court of Kubilai Khan c.1280
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Hansean Trade
13th-14th
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Age of Discovery
15th-16th

• Bartholomew Diaz Cape of Good Hope (1487)
• Vasco da Gama new sea route to India (1498)
• Christopher Columbus the discovery of America
  (1492)
• Ferdinand Magellan expedition around the world
  (1519-21)
• Colonial conquest

Take a look at http//www.ucalgary.ca/applied_his
tory/tutor/eurvoya/
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Mercantilism
15th-16th

• Colonial conquest the basis
• Not a theory, rather a set of policy guidelines
• Positive trade balance
• Governments as gold-collectors
• High protectionism against import

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Industrial revolution
17th-18th

• Significant growth of output
• Major change in trade volume and commodity
  structure
• First trade patterns

(Europe) manufactured goods
(Colonies) tropical products
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Theory of absolute advantage
18th

• Adam Smith, The Wealth of Nations 1776
• First classical theory
• Simple analysis of the causes of trade patterns
• Major assumptions two countries, two goods, no
  additional trade costs, labour as the only
  production factor

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Theory of absolute advantage
18th

• Example

Unit costs (hours of labour) HOME FOREIGN
              2 4
              4 1
How can Home get oil?
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Theory of absolute advantage
18th

• Example (cont.)

Unit costs (hours of labour) HOME HOME FOREIGN FOREIGN
  Production Import Production Import
              2 4 4 1
              4 2 1 4
Countries produce and export goods, which
production costs are lower than abroad!
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Theory of comparative advantage
19th

• David Ricardo, 1817
• The most influencing classical theory
• Same assumptions two countries, two goods, no
  additional trade costs, labour as the only
  production factor

Question What if a country produces both goods
at a lower cost?
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Theory of comparative advantage
19th

• Example

Unit costs (hours of labour) HOME FOREIGN
              1 4
              2 3
How does it work now?
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Theory of comparative advantage
19th

• Example (cont.)

Unit costs (hours of labour) HOME HOME FOREIGN FOREIGN
  Production Import Production Import
              1 2 4 3
              2 1 3 4
Why does it work now, either?Compare the
opportunity costs!
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Theory of comparative advantage
19th

• Example (cont.)

Unit costs (hours of labour) HOME FOREIGN
              1 (0,5) 4 (1,33)
              2 (2) 3 (0,75)
Lower opportunity costs decides about
comparative advantage
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Transportation revolution
19th

• Sea and land steam-powered transportation
• Goods traded in large volumes
• Diminishing transportation and communication
  costs soaring trade
• New trade patterns (West developing countries)

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Factor abundance theory
20th

• E. Hecksher, B. Ohlin, 1930s
• Two countries two goods
• Two production factors labour and capital
• Same technology of production
• No transportation costs

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Factor abundance theory
20th

• Example

Factor resources HOME FOREIGN Technology Technology
Factor resources HOME FOREIGN
              800 400 4 1
              100 600 2 6
Compare factor abundance and factor-consumption

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Factor abundance theory
20th

• Example (cont.)
• Home is labour abundant
• Foreign is capital abundant
• Oranges are labour consuming
• Cars are capital - consuming

Home will export oranges Foreign will export
cars.
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Leontief paradox
20th 50s

• Leontief made an empirical research to verify the
  H-O theory using data on the U.S. trade
• He surprisingly found that the U.S. a
  capital-abundant country exported more
  labour-consuming goods
• Possible explanation assumptions underlying the
  H-O theory no longer reflected fast-changing
  situation in the post-war world economy
• This inspired economists to look for new
  explanations to international trade

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New trends in a post-war world
late 20th

• Fall of colonial empires led to a growing number
  of independent states

2010
1935
Source WTO
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New trends in a post-war world
late 20th

• Variety of actors in international trade

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New trends in a post-war world
late 20th

• Intraindustry trade similar products are
  imported and exported

IIT Exporti - Importi
IIT Exporti Importi
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New trends in a post-war world
late 20th
Grzegorz Karpiuk Koordynator projektu Program
rozwoju WSIiZ Uczelnia Jutra

• New actors international organisations

Source WTO
Source Wikipedia
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New trends in a post-war world
II pol. XXw

• New actors multinational corporations

2004 2004 2004
No. Company Country Market value (USD bln)
1 ExxonMobil USA 405,2
2 General Electric USA 372,1
3 Microsoft USA 273,7
4 Citigroup USA 247,7
5 BP UK 231,9
6 Royal Dutch/Shell NED/UK 221,5
7 Wal-Mart Stores USA 218,6
8 Pfizer USA 198,0
9 JohnsonJohnson USA 194,7
10 Bank of America USA 188,8
2009 2009 2009
Company Country Market value (USD bln)
ExxonMobil USA 335.54
PetroChina CHN 270.56
Wal-Mart Stores USA 193.15
China Mobile CHN 175.85
ICBC CHN 170.83
Microsoft USA 143.58
Procter Gamble USA 141.18
ATT USA 140.08
Johnson Johnson USA 138.29
Royal Dutch Shell NED 135.10
Zródlo Forbes, http//www.forbes.com/lists/2009/1
8/global-09_The-Global-2000_MktVal.html
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New trends in a post-war world
late 20th

• Trade structure

Value 2004 (bn USD) Value 2008 (bn USD) Value 2009 (bn USD)
GOODS 8907 15775 12147
Agricultural 783 1342 1169
Fuel and minerals 1281 3530 2263
Manufactures 6570 10458 8355
SERVICES 2125 3730 3312
Transport 500 875 704
Tourism 625 945 854
Other 1000 1910 1754
Source World Trade Report 2010, WTO
32
late 20th
Source World Trade Report 2014, WTO
33
late 20th
Source World Trade Report 2014, WTO
34
late 20th
Source World Trade Report 2014, WTO
35
late 20th
continued from the previous slide
Source World Trade Report 2014, WTO
36
late 20th
Source World Trade Report 2014, WTO
37
late 20th
continued from the previous slide
Source World Trade Report 2014, WTO
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Leading exporters and importers of goods (bn USD)
late 20th
Source World Trade Report 2014, WTO
39
Leading exporters and importers of services (bn
USD)
late 20th
Source World Trade Report 2014, WTO
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Leading importers (bn USD)Goods
Services
late 20th
Source World Trade Report 2010, WTO
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Statistical Data on Trade
late 20th
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Globalisation
late 20th

• Global financial market
• Institutional development of international trade
• McDonaldisation global convergence of
  customer preferences towards certain products
• Increase of FDI flow
• Dominating position of MNEs
• Geographical development of value chains
  (distribution channels)
• Knowledge-based economy emerged
• Lower importance of states in the global trade
• New sector of economy knowledge management

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Modern theories
20th, 60s

• Imitation lag theories (Posner, 1961)
• Technological gap between
• the Leader and the Rest of World

lag in reaction
lag in demand
TRADE
Leader starts production
Demand occurs in the Rest of World
Rest of World starts production
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Modern theories
20th, 60s

• Theory of overlapping demands (Linder, 1961)

Country Ahigh GDP
Country Bavg. GDP
Country Clow GDP
Explanation of the intra industry trade
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New theories
20th, 60s

• International product life cycle (Vernon, 1966)
• Uses a marketing concept of product life cycle
• Explains international trade foreign direct
  investments (FDI) , intra-industry trade (IIT).
• Three actors
• Leader
• Developed countries (DC)
• Rest of World (RW)
• Empirical evidence proves the theory can explain
  the developments in the post-war international
  trade flows of teletransmission equipment

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• Simulation of the intl product life cycle - cars

Time T0 Leader starts production of cars. No
international trade so far
Produce
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• Simulation of the intl product life cycle - cars

Time T1 Leaders domestic market matures.
Demand for cars arises in DC Trade is initiated
Produce
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• Simulation of the intl product life cycle - cars

Time after T1 Leader is the only exporter of
cars. Growing demand in DC causes trade growth.
Produce
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• Simulation of the intl product life cycle - cars

Time T2 Leader is still the only exporter of
cars. Demand for cars emerges in RW, which
begins import.
Produce
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• Simulation of the intl product life cycle - cars

Time T2 Technological advancement in DC and
Leaders outward FDIs make it possible to start
production in DC. Leader can now import
cheaper cars from DC (IIT)
Produce
Produce
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• Simulation of the intl product life cycle - cars

Time after T2 Leaders exports to DC decreases,
RWs imports Increases as RW starts importing
cars from DC.
Produce
Produce
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• Simulation of the intl product life cycle - cars

Time T3 DC become the major exporter of cars.
The Leaders market share decreases.
Produce
Produce
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• Simulation of the intl product life cycle - cars

Time T4 Leader ceases the domestic production of
cars. In pursuit of lower costs the Leader starts
outward FDIs to the RW, which becomes a car
maker.
Produce
Produce
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• Simulation of the intl product life cycle - cars

Time T4 RW starts exports of cars to the Leader
and the DCs. The price is competitive due to low
labour costs.
Produce
Produce
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• Simulation of the intl product life cycle - cars

Time T4 T5 DCs start to invest in RW (outward
FDIs). RW becomes the major producer and
exporter of cars
Produce
Produce
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• Simulation of the intl product life cycle - cars

Time T5 T6 RW becomes the only producer and
exporter of cars.
Produce