B. Comparative Advantage and the Gains from International Trade

1.  Definitions

• Tariff - tax on imports

• Imports - goods and services bought domestically but produced in other countries
  
  - About 17 percent of U.S. Gross Domestic Product (GDP)

• Exports - goods and services produced domestically but sold in other countries
  
  - About 11 percent of U.S. GDP

• Dumping - selling goods for a price below the cost of production

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2.  Comparative advantage in international trade

• Comparative advantage - a country can produce a good or service with a lower opportunity cost than competitors

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• Gains from trade

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a.  Why there isn't complete specialization

(1)  Not all goods and services traded internationally

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(2) Production increasing opportunity cost

• Opportunity cost increases as more of a product is produced

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(3)  Tastes for products differ

• Products are differentiated - have different features

• Comparative advantage may be in different types of the same product

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b.  Reasons for comparative advantage

(1) Climate and natural resources

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(2) Relative abundance of labor and capital

• Some countries have more labor and/or capital than others

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(3) Technology

• Some countries have better technology than others

- Product technologies - ability to develop new products

- Process technologies - ability to improve productive processes

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(4) External economies

• Reductions in a firm's costs that result from an increase in the size of an industry

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3.  Restrictions on trade

a.  Free trade

• No restrictions on trade

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b.  Tariffs

• Tax on imports

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c.  Quotas and voluntary export restraints

• Quota - limit on the quantity of a good that can be imported into a country

• Voluntary export restraint - agreement between two countries to limit imports from one country to another

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d.  Other restrictions

(1)  Health and safety requirements

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(2)  Restrictions based on national security considerations

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4.  Opposition to free trade and globalization

• Globalization - countries become more open to foreign trade and investment

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•  Trade institutions

- General Agreement on Tariffs and Trade (GATT) - post-WWII

- World Trade Organization (WTO) - current

a.  Anti-globalization

• Arguments against globalization:

(1) Trade and investment destroys distinctive cultures of many countries

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(2)  Jobs relocated from high-income countries to low-income countries

• Lower environmental and safety regulations

• Lower wages paid

• Child labor sometimes used

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b.  Protectionism

• Use trade barriers to protect domestic firms from foreign competition

• Arguments for protectionism:

(1) Saving jobs

• Foreign competition drives domestic firms out of business

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(2) Protecting high wages

• Firms in high-income countries will have to pay lower wages to compete with firms in developing countries

(3)  Protecting infant industries

• Domestic firms may have high costs initially, need help until they gain experience and become more productive

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(4) Protecting national security

• Countries should not depend on other countries for goods critical to national defense