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Trade

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?The voluntary exchange of goods, services, assets, or money between one person or organization and another ?Both parties believe they will gain from the exchange or else they would not complete it

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International Trade

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?Trade between residents of two countries ?Residents may be individuals, firms, not-for-profit organizations, or other forms of associations

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Classic Country-Based Theories

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?Focused on the individual country in examining patterns of exports and imports ?Mercantilism ?Absolute Advantage ?Comparative Advantage ?Comparative Advantage with Money ?Relative Factor Endowments

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Commodities

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Standardized, undifferentiated goods such as oil, sugar, or lumber that are typically bought on the basis of price rather than brand name

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Firm-Based Theories

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?Useful in describing patterns of trade in differentiated goods

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Differentiated Goods

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Goods such as automobiles, consumer electronics, and personal care products, for which brand name is an important component of the customer's purchase decision

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Mercantilism

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?A 16th-century economic philosophy that maintains that a country's wealth is measured by its holding of gold and silver ?A country's goal should be to enlarge holdings of gold and silver by: -promoting exports -discouraging imports

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Disadvantages of Mercantilism

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?Confuses the acquisition of treasure with the acquisition of wealth ?Weakens the country because it robs individuals of the ability to -trade freely -benefit from voluntary exchanges ?Forces countries to produce products it would otherwise not in order to minimize imports

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Neomercantilists

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?Modern supporters of mercantilism, who hold that a country should erect barriers to trade to protect its industries from foreign competition; also called protectionists -American Federation of Labor -Textile manufacturers -Steel companies -Sugar growers -Peanut farmers

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Theory of Absolute Advantage

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?Created by Adam Smith ?Suggests that a country should export those goods and services for which it is more productive than other countries are and import those goods and services for which other countries are more productive than it is ?Created by Adam Smith ?A country can consume more goods than it could have done in the absence of trade ?Invisible hand in the market ?If you have absolute advantage in everything, you should trade with others

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Theory of Comparative Advantage

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?Created by David Ricardo States that a country should produce and export those goods and services for which it is relatively more productive than other countries are and import those goods and services for which other countries are relatively more productive than it is

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Differences between Comparative and Absolute Advantage

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?Absolute versus relative productivity differences ?Comparative advantage incorporates the concept of opportunity cost

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Opportunity Cost

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The value of what is given up to get the good or service in question

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Theory of Comparative Advantage with Money

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?One is better off specializing in what one does relatively best ?Produce and export those goods and services one is relatively best able to produce ?Buy other goods and services from people who are better at producing them

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What determines the products for which a country will have a comparative advantage?

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?Factor endowments (types of resources) vary among countries ?Goods differ according to the types of factors that are used to produce them

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Theory of Relative Factor Endowments

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?Also called the Heckscher-Ohlin Theory ?Suggests a country should export those goods that intensively use those factors of production that are relatively abundant in the country (resources)

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Leontief Paradox

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Empirical finding that U.S. exports are more labor intensive than U.S. imports, which is contrary to the predictions of the theory of relative factor endowments

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Emergence of Modern Firm-Based Trade Theories

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?Growing importance of MNCs ?Inability of the country-based theories to explain and predict the existence and grown of intraindustry trade ?Failure of Leontief and others to empirically validate country-based Heckscher-Ohlin theory

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Firm-Based Trade Theories

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?Country Similarity Theory ?Product Life-Cycle Theory ?Global Strategic Rivalry Theory ?Porter's National Competitive Advantage

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Country Similarity Theory

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?Explains the phenomenon of intraindustry trade (as opposed to interindustry trade) ?Theory stating that international trade in manufactured goods will occur between countries with similar income levels and at a similar stages of economic development

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Interindustry Trade

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?The exchange of goods produced by on industry in country A for goods produced by a different industry in country B -Exchange of French wines for Japanese clock radios

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Intraindustry Trade

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Trade between two countries of goods produced by the same industry

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Product Life-Cycle Theory

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?Developed in the 1960s by Raymond Vernon ?A theory that races the evolution of international trade and investment as a product evolves through the stages of new product, maturing product, and standardized product

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New Product Stage

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A firm develops and introduces an innovative product in response to a perceived need in the domestic market

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Maturing Product Sate

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Demand for the product expands dramatically as consumers recognize its value

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Standardized Product Stage

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?The market for the product stabilizes ?The product becomes more of a commodity, and firms are pressured to lower their manufacturing costs as much as possible by shifting production to facilities in countries with low labor costs ?The product begins to be imported into the innovating firm's home market

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Product Cycle Production

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?Domestic Production -Begins in stage 1, peaks in stage 2, and slumps in stage 3 ?Exports -Begins in stage 1, peaks in stage 2, and becomes a net importer of the product in stage 3 ?Foreign Competition -Begins at the end of stage 1, expand their product capacity in stage 2, less developed countries may become net exporters of the product in stage 3

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Global Strategic Rivalry Theory

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?Developed in the 1980s by Paul Krugman and Kevin Lancaster ?Firms struggle to develop sustainable competitive advantage ?Advantage provides ability to dominate global marketplace ?Focus: strategic decisions firms use to compete internationally

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Sustaining Competitive Advantage

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?Owning intellectual property rights ?Investing in research and development ?Achieving economies of scale or scope ?Exploiting the experience curve

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Porter's Diamond Theory of National Competitive Advantage

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?Success in international trade comes form the interaction of four country- and firm-specific elements: -factor conditions -demand conditions -related and supporting industries -firm strategy, structure, and rivalry

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Review of Country-Based Theories

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?Country is unit of analysis ?Emerged prior to World War II ?Developed by economists ?Explain interindustry trade ?Includes: -Mercantilism -Absolute Advantage -Comparative Advantage -Relative Factor Endowments (Heckscher-Ohlin)

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Review of Firm-Based Theories

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?Firm is unit of analysis ?Emerged after World War II ?Developed by business school professors ?Explain intraindustry trade ?Includes: -Country Similarity Theory -Product Life Cycle -Global Strategic Rivalry -National Competitive Advantage

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Foreign Portfolio Investments

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Investments made in a host country by foreign investors not for purposes of control

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Foreign Direct Investments (FDI)

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?Investments made for the purpose of actively controlling property, assets, or companies located in a host country ?Mainly comes from developed countries

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International Investment Theories

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?Ownership Advantage ?Internalization ?Dunning's Eclectic Theory

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Ownership Advantage Theory

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?Theory stating that foreign direct investment occurs because of ownership of valuable assets that confer monopolistic advantages in foreign markets ?A firm owning a valuable asset that creates a competitive advantage domestically can use that advantage to penetrate foreign markets through FDI

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Transaction Costs

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The costs entering into a transaction, that is, those connected to negotiating, monitoring, and enforcing a contract

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Internalization Theory

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?Suggests that FDI is more likely to occur when transaction costs with a second firm are high ?Also states that when transaction costs are low, firms are more likely to contract with outsiders and internationalize by licensing their brand names or franchising their business operations

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Dunning's Eclectic Theory

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?FDI reflects both international business activity and business activity internal to the firm ?3 Conditions of FDI: -Ownership advantage -Location advantage -Internalization advantage

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Supply Factors Affecting FDI

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?Production costs ?Logistics ?Resource availability ?Access to technology

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Demand Factors Affecting FDI

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?Customer access ?Marketing advantages ?Exploitation of competitive advantages ?Customer mobility

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Political Factors Affecting FDI

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?Avoidance of trade barriers ?Economic development incentives

MGMT 450 – Chapter 6 – Flashcards

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