978-1305500891 Chapter 5 Lecture Note

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CHAPTER 5

TRADING INTERNATIONALLY

LEARNING OBJECTIVES

After studying this chapter, you should be able to:

1. use the resource-based and institution-based views to answer why nations trade.

2. understand classical and modern theories of international trade.

3. realize the importance of political realities governing international trade.

4. participate in two leading debates concerning international trade.

5. draw implications for action.

GENERAL TEACHING SUGGESTIONS

Many people view trade in a way similar to the mercantilists centuries ago: it is a zero sum game

in which one nation must lose if another wins. Smith and Ricardo indicated that it can be a

win/win game. However, with all the news about loss of jobs due to outsourcing and the trade

deficit, there are those who feel that theory and reality do not match.

One way to help students reconcile theory and reality is to help them understand that the real

problem (if it is a problem) is change and that all kinds of change can create threats for some and

opportunities for others regardless of whether it involves a change in technology, markets, laws

or changes in nature such as a shift in the direction of a river or changes in weather patterns.

Nevertheless, in spite of all the variety of changes that affect our economy, many tend to blame

most of U.S. economic ills on the change caused by trade and they see only the glass half

empty–only those who suffer from trade and not those who benefit. Furthermore, given the level

of passion underlying the misunderstandings, you should have no problem generating discussion

and you may wish to use the formal debate technique as a way to explore trade issues in a way

that the students can bring out both sides.

OPENING CASE DISCUSSION GUIDE

Opening Case: Emerging Markets: Is China the Largest Trading Nation of the World?

Both merchandise and services are exported and imported. China is now the world’s largest

merchandise exporter. Manufacturing is 33% of China’s GDP. Chinese exports have become

popular because they deliver value, are rare, and possess hard-to-imitate attributes. China joined

the World Trade Organization in 2001 and established free trade agreements with countries and

groups of countries where it can sell its merchandise. China has also grown as an importer—it is

now the second-largest merchandise importer. The majority of its imports are raw materials.

Although China continues to grow as a trader, it is currently behind the United States. In the

future, it could pass the United States to become the largest economy in the world.

CHAPTER OUTLINE: KEY CONCEPTS AND TERMS

Sections I through V of Chapter 5

I. WHY DO NATIONS TRADE?

1. Key Concept

The resource-based view suggests that nations trade because some firms in one nation

generate valuable, unique, and hard-to-imitate exports that firms in other nations find it

beneficial to import. The institution-based view argues that as “rules of the game,”

different laws and regulations governing international trade aim to share gains from

trade.

2. Key Terms

Balance of trade is the aggregation of importing and exporting that leads to the

country-level trade surplus or deficit.

Export is selling abroad.

Import is buying from abroad.

Merchandise (goods) are tangible goods being traded.

Services are intangible services being traded.

Trade deficit is an economic condition in which a nation imports more than it

exports.

Trade surplus is an economic condition in which a nation exports more than it

imports.

II. THEORIES OF INTERNATIONAL TRADE

1. Key Concepts

Classical theories include (1) mercantilism, (2) absolute advantage, and (3) comparative

advantage. Modern theories include (1) product life cycle, (2) strategic trade, and (3)

national competitive advantage.

2. Key Terms

Absolute advantage is the economic advantage one nation enjoys that is absolutely

superior to other nations.

Classical trade theories are the major theories of international trade that were

advanced before the 20th century, which consist of (1) mercantilism, (2) absolute

advantage, and (3) comparative advantage.

Comparative advantage is the relative (not absolute) advantage in one economic

activity that one nation enjoys in comparison with other nations.

Diamond theory is a theory that suggests that the competitive advantage of certain

industries in different nations depends on four aspects that form a “diamond.” Also

known as the theory of national competitive advantage of industries.

Factor endowment is the extent to which different countries possess various factors

of production such as labor, land, and technology.

Factor endowment theory (or Heckscher-Ohlin theory) is a theory that suggests

that nations will develop comparative advantages based on their locally abundant

factors.

First-mover advantage is a benefit that accrues to firms that enter the market first

and that late entrants do not enjoy.

Free trade is the idea that free market forces should determine how much to trade

with little or no government intervention.

Modern trade theories are the major theories of international trade that were

advanced in the 20th century, which consist of (1) product life cycle, (2) strategic

trade, and (3) national competitive advantage of industries.

Opportunity cost is the cost of pursuing one activity at the expense of another

activity, given the alternatives (other opportunities).

Product life cycle theory is a theory that accounts for changes in the patterns of

trade over time by focusing on product life cycles.

Protectionism is the idea that governments should actively protect domestic

industries from imports and vigorously promote exports.

Resource mobility is an assumption that a resource used in producing a product for

one industry can be shifted and put to use in another industry.

Strategic trade policy is a government policy that provides companies a strategic

advantage in international trade through subsidies and other supports.

Strategic trade theory is a theory that suggests that strategic intervention by

governments in certain industries can enhance their odds for international success.

Theory of absolute advantage is a theory that suggests that under free trade, a

nation gains by specializing in economic activities in which it has an absolute

advantage.

Theory of comparative advantage is a theory that focuses on the relative (not

absolute) advantage in one economic activity that one nation enjoys in comparison

with other nations.

Theory of mercantilism is a theory that suggests that the wealth of the world is

fixed and that a nation that exports more and imports less will be richer.

Theory of national competitive advantage of industries is a theory that suggests

that the competitive advantage of certain industries in different nations depends on

four aspects that form a “diamond.” Also known as the diamond theory.

III. REALITIES OF INTERNATIONAL TRADE

1. Key Concepts

The net impact of various tariffs and nontariff barriers (NTBs) is that the whole nation is

worse off while certain special interest groups (such as certain industries, firms, and

regions) benefit. Economic arguments against free trade center on (1) protectionism and

(2) infant industries. Political arguments against free trade focus on (1) national security,

(2) consumer protection, (3) foreign policy, and (4) environmental and social

responsibility.

Key Terms

Administrative policy is bureaucratic rules that make it harder to import foreign

goods.

Antidumping duty is a tariff levied on imports that have been “dumped” (selling

below costs to “unfairly” drive domestic firms out of business).

Deadweight cost is net losses that occur in an economy as a result of tariffs.

Import quota is restrictions on the quantity of imports.

Import tariff is a tax imposed on imports.

Infant industry argument is the argument that if domestic firms are as young as

“infants,” in the absence of government intervention, they stand no chance of

surviving and will be crushed by mature foreign rivals.

Local content requirement is a requirement stipulating that a certain proportion of

the value of the goods made in one country must originate from that country.

Nontariff barrier (NTB) is a trade barrier that relies on nontariff means to

discourage imports.

Subsidy is government payments to domestic firms.

Tariff barrier is a trade barrier that relies on tariffs to discourage imports.

Trade embargo is politically motivated trade sanction against foreign countries to

signal displeasure.

Voluntary export restraint (VER) is an international agreement that shows that

exporting countries voluntarily agree to restrict their exports.

IV. DEBATES AND EXTENSIONS

1. Key Concepts

The first debate deals with whether persistent trade deficit is of grave concern or not. The

second deals with whether service trade will benefit or hurt rich countries.

2. Key Terms

None

V. MANAGEMENT SAVVY

1. Key Concepts

Managers should discover and leverage the comparative advantage of world-class

locations. Monitor and nurture current comparative advantage of certain locations and

take advantage of new locations. Be politically active to demonstrate, safeguard, and

advance the gains from international trade.

2. Key Terms

None