Reasons for Trade
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Lower Prices:
o Goods and Services are traded at a lower price than domestic ones.
o Trade allows domestic producers access to cheaper raw materials.
Greater Choice:
o Access to products from a number of countries as well as domestically.
Differences in resources:
o Certain countries lack certain resources, normally raw materials, particularly
minerals and oil.
o These resources are often required to produce other products.
Economies of Scale:
o Producing for an international market allows for much more production, and thus
economies of scale are much easier to achieve.
o Lowers costs for producers.
o Specialisation also results in efficient resource usage which lowers the long run
average cost curve.
o Increased efficiency.
Increased Competition
o Leads to greater efficiency and lower prices for consumers.
Comparative Advantage Theory:
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Absolute Advantage
o A country produces a good using fewer resources than that of another country.
Comparative Advantage
o A country can produce a good at a lower opportunity cost than that of another
country.
o What gives a country a comparative advantage?
 Large amount of arable land  comparative advantage in agricultural goods
 Etc
Limitations of Comparative Advantage Theory:
o Assumed producers and consumers have perfect knowledge and are aware of where
the least expensive goods can be purchased.
o Assumed there are no transport costs.  Reality this is not true.
o Assumed that the two economies are only producing to goods.  Not a big problem
o Assumed no economies or diseconomies of scale
o Assumed that goods are the same…e.g. Sony TV is different from Panasonic TV
therefore it is difficult to say Japan has a comparative advantage in TVs
o Assumed factors of production remain in the country:
 However, developed countries may invest capital in LDCs for example
o Assumed that perfectly free trade exists.