INTERNATIONAL TRADE IN GOODS AND SERVICES

International Trade in Goods and Services

International Trade in Goods and Services

Introduction

Generally, Trade Refers to the exchange of goods and services for money. International trade refers to sales that cross juridical borders. Thus, international trade can be defined as the exchange of goods and services across international boundaries. In most countries, it represents a significant share of Gross Domestic Product (GDP). International trade has been present throughout much of history (for example, the Silk Road and Amber Road).

However, the emergence of capitalism and accompanying industrialization and advanced transportation greatly increased the economic, social, and political importance of international trade.

There are many reasons why trade occurs between countries, among which are differences in technology, resource endowments, internal demand for goods and services, and existence of economies of scale in production. In sum the exchange takes place because of the differences in costs of production between the countries, and because it increases the economic well-being of each country.

Similarly there are several principal theories that attempt to explain international trade. Mercantilist theory, or mercantilism, asserted that a country should try to achieve a favorable balance of trade (export more than it imports), since this would increase the amount of gold in the surplus country. In order to achieve that, mercantilists advocated strict government control of all economic activity and economic nationalism. Classical economists, such as Adam Smith and David Ricardo, condemned mercantilism for its advocacy of government control over trade in order to achieve export surpluses.

Absolute Advantage and International Trade

Smith developed the theory of absolute advantage, according to which countries engage in trade since each of them has an absolute advantage in producing selected goods. Smith advanced the argument that when one nation is more efficient than another in production of one commodity, but less efficient than the other nation in producing a second commodity, then both nations can gain by specializing in the production of the commodity of its absolute advantage and exchanging part of its output for the other country's commodity.

Ricardo argued that even if one nation is less efficient than the other nation in the production of both commodities, there is still a basis for mutually beneficial trade. The countries should specialize in the production of the commodity in which the absolute advantage is the greatest, while it should import the commodity in which the absolute disadvantage is the greatest. The Ricardian model serves as an explanation for the existence and pattern of international trade based on relative (opportunity) cost advantages among different countries producing different commodities. The law, however, does not explain the very root of these advantages.

This question has been addressed by another principal theory of international trade, known as factor endowments theory, or the Heckscher-Ohlin theory. Different countries are differently endowed with economic resources that are used in the process of production. Countries differ as to the type and quantity of raw materials, their climate, the skill and size of their labor force, their stock of capital, and their ...