Chapter 5: International Trade Theory

Firm Strategy, Structure, and Rivalry

-Strategic decisions of firms have lasting effects on future competitiveness, but equally important is industry structure and rivalry among companies. -The more intense the struggle to survive among domestic companies, the greater is their competitiveness. This heightened competitiveness helps them to compete against imports and against companies that might develop a production presence in the home market.

Exporting Clusters

Are those that export products or make investments to compete outside the local area and can lead to long term prosperity.

Related and Supporting Industries

Companies in internationally competitive industries do not exist in isolation. Supporting industries provide inputs, forming clusters of related activities in the same region that reinforce productivity and competitiveness.

Trade Interdependence

Countries lie on a scale with total trade dependence at one end and total independence at the other. Complete independence was considered desirable from the 16th through 18th centuries but its not desirable today!

Benefits of International Trade

Creates new entrepreneurial opportunities, expands the choices of goods and services, and creates jobs. ( For every $1B increase in exports, 22,800 jobs are created in the US.

Trade Dependence (Dangers)

Dangers of trade dependency If a nation experiences economic recession or political turmoil, the dependent nation can experience economic problems. Trade today is characterized by a certain degree of interdependency, which often reflects trade between a company's subsidiaries.

Factor Proportions Theory: Labor vs Land & Capital Equipment

Factor proportions theory breaks resources into two categories: (1) labor and (2) land and capital equipment. It predicts that a country will specialize in products that require labor if labor cost is low relative to land and capital costs, and vice versa.

Government and Chance

Government policies toward industry and export and import regulations can hurt or help competitiveness. -Chance events also can influence national competitiveness; they can help competitiveness or threaten it

Government Intervention

Governments intervened in international trade to maintain a trade surplus. They banned certain imports, imposed tariffs or quotas, and subsidized home-based industries to expand exports. Removal of gold and silver from the nation was outlawed.

Absolute Advantage

Is the ability of a nation to produce a good more efficiently than any other nation (produce a greater output using the same, or fewer, resources). Adam Smith reasoned that international trade should not be burdened by tariffs and quotas, but should flow according to market forces. A country should produce the goods in which it holds an absolute advantage and trade with others to obtain the goods it needs but does not produce efficiently.

First- Mover Advantage

Is the economic and strategic advantage gained by being the first company to enter an industry. It creates a barrier to entry for potential rivals and may allow a country to dominate in a product.

Comparative Advantage

Is the inability of a nation to produce a good more efficiently than other nations, but an ability to produce that good more efficiently than it does any other goods. Thus, trade is still beneficial even if one country is less efficient in the production of two goods, as long as it is less inefficient in the production of one of the goods.

Colonialism

Mercantilist nations acquired colonies as sources of inexpensive raw materials and markets for higher-priced finished goods. Trade among mercantilist nations and their colonies expanded wealth and created armies and navies to control colonial empires and protect shipping.

Trade Surpluses

Nations increased wealth through a trade surplus- when the value of a nations exports exceeds the value of imports. Avoid trade deficits.

Mercantilism

Nations should accumulate financial wealth, usually in the form of gold, by encouraging exports and discouraging imports. Other measures of a nation's well-being, such as living standards or human development, are irrelevant. It was practiced from around 1500 to the late 1700s by European nations, including Britain, France, the Netherlands, Portugal, and Spain.

Factor Conditions

Porter acknowledges the importance of basic factors (such as labor, natural resources, climate, and surface features) in what a country produces and exports, but adds the significance of advanced factors. a.Advanced factors include skill levels of the workforce and quality of the technological infrastructure. Account for the sustained competitive advantage that a country enjoys in a product.

Demand Conditions

Sophisticated buyers in the home market are important to national competitive advantage in a product area. A sophisticated domestic market drives companies to modify existing products to include new design features and develop new products and technologies.

National Competitive Advantage

States that a nation's competitiveness in an industry depends on the capacity of the industry to innovate and upgrade. This theory attempts to explain why some nations are more competitive in certain industries. The Porter diamond (the basis of national competitiveness) consists of: (1) factor conditions; (2) demand conditions; (3) related and supporting industries; and (4) firm strategy, structure, and rivalry.

Factor Proportions Theory

States that countries produce and export goods that require resources (factors) that are abundant and import goods that require resources in short supply. Thus, the theory focuses on the productivity of the production process.

Flaws of Mercantilism

The main problem with mercantilism is that it viewed international trade as a zero-sum game—a nation benefits only at the expense of other nations. But if all nations barricade their markets from imports and push their exports onto others, international trade would be severely restricted. Also, it kept colonial markets poor: they received little money for raw materials but were charged high prices for finished goods.

Factor Proportion Theory: The Leontief Paradox

Theory not supported by studies that examine trade flows. b.Wassily Leontief tested whether the United States, which uses an abundance of capital equipment, exports goods requiring capital-intensive production, and imports goods requiring labor-intensive production. He found U.S. exports require more labor-intensive production than its imports; called the Leontief Paradox. c.One explanation is that factor proportions theory considers a country's production factors to be homogeneous—particularly labor. But labor skills vary greatly within a country.

New Trade Theory

argues: (1) there are gains to be made from specialization and increasing economies of scale; (2) companies first to market can create barriers to entry; and (3) government may play a role in assisting its home-based companies. It emphasizes productivity rather than resources.

International trade

is the purchase, sale or exchange of goods and services across national borders

International Product Life Cycle

states that a company will begin exporting its product and later undertake foreign direct investment as the product moves through its life cycle (a country's export eventually becomes its import).