Theories of International Trade and International Investment By: DewaAyuKartikaVenska DwiPardianto ZakkyZamrudi
Chapter Outline • International Trade in general and its Importance • Mercantilism • Theory of Absolut Advantage • Theory of Comparative Advantage • The Heckschers-Ohlin Model • The product Life cycle theory of trade • Contemporary trade theories • Porter’s diamond
International Trade in general and its Importance country country commerce Social culture Political
International Trade in general and its Importance background: • Cost production • Increases the welfare commerce International Trade
Mercantilism • Economic cultural philosophy at 16th-17th century (economic state building) • The mercantilist is an expert in mercantilism • involve governmental intervention in economic life • Self sufficiency • wealth which they believe is measured by the amount of gold bullions • Extend power and prestige of country International Trade
Mercantilism • How??? • Tax exemptions • Loans • Subsidies • Building a network of overseas colonies • Forbidding colonies to trade with other nations • And other form of state regulation International Trade
Mercantilism • Another mercantilism form (Austria-Prusia) • Cameralism • Developed at central Europe • How??? • Encouragement towards new industry • Immigrant openness (economic capabilities) • Model farm • Taxation reformation International Trade
Mercantilism • The rivalries was the colonialism A B C A B C International Trade Mother country Mother country Raw material goods goods
Mercantilism • Critics towards mercantilism • Vincent de Gournay(1712–1759): “laissez faire, laissez passer,” whichmay be freely translated as “leave things alone, let goods pass.” • David Hume (1711–1776)—who proved that bullionism was self-defeating because it was necessarily inﬂationary • Adam Smith (1723–1790), Wealth of Nations International Trade
Theory of Absolut Advantage(Adam smith) • “An Inquiry into the Nature and Causes of the Wealth of Nations” • factors that led to increased wealth in a community • recognizing the parallel contribution of the manufacturing industry International Trade
Theory of Absolut Advantage(Adam smith) • Problems that found: • Labor skill • Proportion of productive to unproductive labor International Trade “People of the same trade seldom meet together even for merriment and diversion, but the conversation ends in a conspiracy against the public, or on some contrivance to raise prices.”
Theory of Absolut Advantage(David Ricardo ) • a country can produce some goods more efﬁciently than other countries • Based on the fact that advantage is: • Natural (climate) • Acquired (technology) International Trade
Theory of Comparative Advantage(David Ricardo ) • Comparative advantage refers to a country’s ability to produce a particular good with a lower opportunity cost than another country. International Trade
Theory of Comparative Advantage(David Ricardo ) International Trade
The Heckscher-Ohlin Proportions Factor : 1920 Eli Heckscher and Bertil Ohlin Nobel Prize in Economics in 1977. International Trade
Capitalist Economy Individual and Business Physical Capital Socialist Economy Government Productive Capital
Most Economy Today • Productivity Capital : Government • Most Of the Capital : Private Citizens International Trade
H-O Models Ratio of the quantity of capital to the quantity of labor in process as the capital-labor ratio H-O theorem predicts: The pattern of trade between countries based on the characteristics of the countries International Trade
Distinction between H-O production technologies are the same Ricardian Production technologies differ between countries International Trade
Main Result Overall, the H-O factor proportions theory of comparative advantage states that international commerce compensates for the uneven geographic distribution of productive resources (land, labor, and capital) factors are abundant to locations where they are scarce International Trade
Concept Advanced countries, which have the ability and the competence to innovate besides having high-income levels, and engage in mass consumption become initial exporters of goods. However, they lose their exports initially to developing countries and subsequently to less developed countries and eventually become importers of these goods. International Trade
Louis Wells identiﬁes these four phases • 1. United States exports strength • 2. Foreign production starts • 3. Foreign production becomes competitive in export markets • 4. Import competition begins. International Trade
Product Cycle In the introductory stage of a product’s life, sales are typically slow and proﬁts negative. In the growth stage, both sales and proﬁts rise at a rapid rate. During maturity, sales volume may continue to rise at a declining rate and proﬁt may stay high. In the decline state, both sales and proﬁt decrease. International Trade
The product cycle hypothesis Does not refer to the willingness to buy, which is a function of culture. Culture inﬂuences greatly the willingness to buy through changes in values, norms, attitudes, business customs, and practices International Trade
product life cycle andIPLC • Product Life Cycle: to rejuvenation or rebirth in international markets of a product that is in decline domestically for market-related reasons or is close to extinction • IPLC: essentially circular and from the product life cycle concept with its numerous variations. . The sequential stages are introduction, growth, maturity, decline, and extinction in the international markets International Trade
Porter’s Diamond of National Advantage • Michael Porter (1990),20 a Harvard business professor, believes that standard classical theories on comparative advantage are inadequate. • According to Porter, a nation attains a competitive advantage if its firms are competitive.
Four Keys Elements • Factor conditions (i.e., the nation’s position in factors of production, such as skilled labor and infrastructure) • Demand conditions (i.e., sophisticated customers in home market) • Related and supporting industries (i.e., the importance of clustering) • Firm strategy, structure, and rivalry (i.e., conditions for organization of companies, and the nature of domestic rivalry).
Factor condition • Factor conditions refer to inputs used as factors of production—such as labor, land, natural resources, capital, and infrastructure.
Demand Conditions • Porter states that a sophisticated domestic market is an important element in producing competitiveness.
Related and Supporting Industries • Porter continues with his theory by stating that a set of strongly related and supporting industries is important for firms to be competitive.
Avantages Disavantages • Potential poaching of your employees by rival companies. • Obvious increase in competition possibly decreasing markups. • Potential technology knowledge spillovers. • An association of a region on the part of consumers with a product and high quality and therefore some market power. • An association of a region on the part of applicable labor force.
Firm Strategy, Structure, and Rivalry • Strategy • Capital markets • Individual’s Career Choises 2. Structure 3. Rivalry
The Diamond as a System • When there is a large industry presence in an area. • Upstream firms • Downstream firms • Attracted by the good set of specific factors
Implications for Governments Governments can influence all four of Porter’s determinants through a variety of actions such as: • subsidies to firms, either directly (money) or indirectly (through infrastructure) • tax codes applicable to corporation, business, or property ownership • educational policies that affect the skill level of workers • establishment of technical standards and product standards, including environmental regulations • government’s purchase of goods and services • antitrust regulation.
Porter has emphasized the role of chance in the model. Random events can either beneﬁt or harm a ﬁrm’s competitive position • major technological breakthroughs or inventions • political decisions by foreign governments • acts of war and destruction • dramatic shifts in exchange rates • sudden price shocks affecting input goods (such as the oil price shock in the early 1970s) • sudden surges or drops in world demand or sudden shifts in consumer preferences.
1. It focuses too strongly on developed economies. 2. The government’s role can be both positive and negative. 3. Chance is difficult to predict. Situations can change very quickly and unexpectedly. 4. Porter says that firms, not countries, compete in international markets. 5. Porter describes four distinct stages of national competitive development: • Factor-driven (e.g., Singapore) • Investment-driven (e.g., Korea) • Innovation-driven (e.g., Japan, Italy, Sweden) • Wealth-driven (e.g., Great Britain, with the United States and Germany somewhere between innovation-driven and wealthdriven), which is characterized by decline. 6. Porter argues that only outward foreign direct investment (FDI) is valuable in creating competitive advantage and inbound FDI does not increase domestic competition significantly because the domestic firms lack the capability to defend their own markets and face a process of market share erosion and decline. 7. Porter contends that reliance on natural resources alone is insufficient. 8. The Porter model does not adequately address the role of MNCs.
Closing Case • Question: What issues of international trade are addressed in this case? What international trade theories are implied? • Have big resources • The factors of big resources is coffe its easy to plant and have long lifetime in everywhere. • Five traders domination to make comproming the price