c





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M
 

 
 
‡ They can import resources they lack at home
‡ Higher standards of living and greater satisfaction
‡ They can import goods for which they are a relatively
inefficient producer
‡ Specialization often results in increased output and
economies of scale
‡ Contributes to global interdependence
 M
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‡ When trade is voluntary: ‡ Wants exceed resources
±  
 expect to ± Choices are necessitated
gain from it, otherwise they by scarcity
would not trade
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‡ The first theory of international trade called

Mercantilism in England, in mid-16th century.
‡ Gold and silver were the currency of trade
‡ Country¶s interests was to maintain a trade
surplus, to export more than it imported
‡ By doing so, a country would accumulate gold
and silver and, consequently, increase its
national wealth and prestige²by an English
mercantilist writer Thomas Mun in 1630.
 {

 

‡ Problems with this theory is that it excludes the

fact that in some cases it is good to import
‡ If the import is completely refused, the population
will have to do without certain consumer items
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‡ Proposed by 

 in 1776 in his book
µc
m

 
¶
‡ He was a Scottish
Classical Economist
‡ Some of his great books
are µThe theory of Moral
Sentiments¶ and
µThe Wealth of Nations¶
 M !

‡ He said, µ A country has an absolute advantage in

the production of a product more efficiently than
any other country

‡ He said, µCountries should specialize in the

production of goods for which they have absolute
advantage and then trade these for goods
produced by other countries.
 M !

‡ Smith¶s basic argument that a country should

never produce goods that can buy at a lower cost
from other countries
’ :
‡ England should specialize in the production of
textiles and French in wine and then trade these
‡ Ghana and South Korea doing trade of cocoa and
rice
 {

 

‡ Smith¶s theory can not explain if there should be

trade when a country has absolute advantage on
all goods over other country
‡ In this case, a country might derive no benefits
from international trade
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‡ It is attributed to {
 
"
 an English
political economist in
1817 in his book
µ
  
’   
  ¶
‡ He was also a member
of Parliament,
Businessman,
Financier and
Speculator
 M !#

‡ Some countries have the advantage of

producing some goods at a lower cost
compared to other countries.
è The countries in the long run should specialize
in the business in which they enjoy
comparatively low cost advantage and export
the product while it will import other goods in
which other countries have comparatively low
cost advantage, if free trade is allowed

e.g. Japan in producing electronics and India in

textile
M !
 ’


  
M
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M
  

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‡ Potential world production is greater with

unrestricted free trade than it is with restricted
‡ Consumers in all nations can consume more if
there are no restrictions on trade
‡ Trade is a positive sum game in which all
countries that participate realize economic gains.
   


‡ The only element of the cost of production is

labour
‡ There are no trade barriers
‡ Trade is free from cost of transportation
 M 

‡ An advanced nation may gain an advantage by

shifting labour and resources to more profitable
goods such as microchips and away from less
profitable goods like potato chips. Thus there is a
chance that the advanced nation may buy all the
potato chips it wants as it has more wealth for
microchips
‡ Advanced industrial countries may keep
undeveloped countries on agriculture instead of
developing their own manufactures (which would
have made them competition for the industrialized
nations)
~
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‡ Swedish economists-Eli Heckscher(1919) & Bertil

Ohlin(1933)
‡ Ohlin-student of Hecksher

Eki Heckscher Bertil Ohlin

  



H-O Theory is based upon   
 :

1.The factor endowments are different in different
countries.
± E.g. Land-Argentina & Australia
± Labour- INDIA & China
± Capital-U.S.A & U.K.
2.Different commodities require for their production
different proportions of the factors of production.
 M !

‡ They gave a different explanation of comparative

advantage
‡ They argued that comparative advantage arises from
differences in national factor endowments (land, labor,
capital)
‡ Different factor endowments among countries explain
differences in factor costs.
‡ The more abundant a factor, the lower its cost
‡ Export those goods that make intensive use of factors
that are locally abundant, while importing goods that
make intensive use of factors that are scarce.
  

‡ It is based on the neo-classical theory which considers

land ,labour and capital as the factors of production.
‡ Factor endowments vary in quantity but are homogenous
qualitatively.
‡ Resources are fully employed in the trading countries.
‡ The production are fully employed in the trading countries.
‡ Technologies are same across countries.
 ’"c~#c~’"&'’"
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‡ H-O model takes these factors-land, labour &

capital±as against the one factor (labour) of the
classical model.
‡ It is cast within the framework of the general
equilibrium theory of value.
 M !

‡ It is more realistic because it is based on the

relative prices of factors which in turn
influences the relative prices of the goods,
while Ricardian theory considers the relative
price of goods only.
‡ Considers differences in relative productivity
of labor and capital as a basis of
international trade.
 M 

‡ Theory explains trade being due to differences in factor

proportions between countries. This implies that no trade
will take place between countries endowed with similar
factor endowments
‡ Theory ignores factors such as-transport cost, economies
of scale, etc.
‡ m  -price of commodity not determined by factors
of production
‡ (Swedish economist)-It is not applicable to
manufactured goods, where the costs largely depend
upon technology, management, scale of production, etc.
 M !

‡ Assumption that don¶t hold good in a dynamic

world
± fixed factor endowments
± Technology
‡ m contends the assumption of
immobility of factors between countries
‡ Theory is not supported by empirical evidence
  

M
c

 
Mc


‡    : "
 '
 in
mid-1960s
‡ Raymond Vernon was part of the
team that overlooked the Marshall
plan, the US investment plan to
rejuvenate Western European
economies after the Second World
War.
‡ He played a central role in the post-
world war development of the IMF
and GATT organisations.
‡ He became a professor at Harvard
Business School from 1959 to 1981
and continued his career at the John
F. Kennedy School of Government.
 M !

½
 
‡ Based on the observation that new products
had been developed by U.S firms and sold first
in U.S market
‡ Two fundamental principles-
1. Technology
2. Market size and structure
 M ###

ñ
 

‡ It was a trade theory beyond Ricardo¶s theory
‡ It is an internationalization process
‡ Products advanced in technology are produced &
sold in the home market
‡ Bypasses the trade barriers
‡ In the end the innovator becomes the importer of
the product
‡ It is produced by lesser developed countries or, if
the innovator has developed an MNC there
 M !

‡  :

(%  


1. New-product stage
2. Maturing-product stage
3. Standardized-product
stage


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%  


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À 
 
‡ Conditions for success:
± Availability of sufficient scientists and engineers
± Higher per capita income
‡ Flexibility in production
‡ Demand is relatively price inelastic
‡ Product features given more priority than price
‡ Close contact with the market
‡ Few players in the domestic market as
competitors
 M !

‡ How to meet increase in demand?

± Exports
± Foreign production
 M !

Î 
 
 

‡ Transition from 
(%  

%
± Price competition
± Technology is diffusing
‡ Price elastic demand for the product
‡ Standardization of production process
‡ Change in company strategy away from 
  toward 
$

 #
‡ Product differentiation
 M !

‡ Market growth slows

‡ Toward the end of this stage, foreign production
may even be exported to the home country
 M !

J   
 

‡ Technology becomes widely available
‡ Price competition
‡ Production shifted to less developed countries
‡ Offshore assembly
‡ Strategy to combat price competition-Product
differentiation
‡ Principal markets gets saturated
‡ Innovator¶s original advantage gets eroded



  

M

 
Mc
%’


U.S Photocopiers-*
 (1960)

Japan & Western Exported to advanced

Europe countries
Growth in demand
Joint venture-production
Fuji-Xerox(Japan)
Rank-Xerox(Great Britan)
Expiry of Xerox¶s patent
Entry of competitors
Canon(Japan)
Olivetti(Italy)

Import from low-cost foreign

U.S
sources (developing countries)
 M !

‡    
  
1961 1970s 1975

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 %~ c

 

 )
%
 
    


+,---
+./- +,-0+,1
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     
1948 1976 1987 1992

Introduced by Late New- 47% sales-foreign

Competition from product/early operations(18 countries)

 M# 2
$ Maturity stage
Price competition

‡ The New-Product stage lasted approximately for 30 years.

M !


 
‡ Finland
± sparsely populated
± Extremely cold climatic
condition
‡ How it developed
competitive edge?
 M !



‡ Germany is the leader in production of cars.
‡ It produces cars like VW, Mercedes ± Benz,
BMW, Formula one cars etc
‡ It sells its products in the home market
‡ It exports to the advanced countries like USA,
UK, France, etc & even in Asia
‡ It has not yet reached the third stage
 
Mc
%
 

‡ Helps organizations going for international

expansion
‡ New product development in a country does not
occur by chance
‡ The model is best applied to consumer oriented
physical products like electronic items
 
Mc
%{

 

‡ Duration of each stage is not known

‡ Doesn¶t explicitly state to make the choice
between-
 and 


‡ It doesn¶t explain which country¶s firms are most
likely to produce in any given market or which
firms will move first.
‡ Vaguely defines µ  ¶
 M !

ñ



‡ Its main assumption was that the diffusion of new
technology occurs slowly. By the late 1970¶s he
recognized that this assumption was no longer valid
‡ It assumed integrated firms producing in one nation,
then exporting and building facilities abroad. But now
the business landscape has become more
interrelated
‡ He emphasized the product level and not the
consumer side
‡ Foreign markets are composed of not only one set of
income earners but multiple income segment
M
 
%



‡ Global web of productive

activities
‡ Factors considered
± Comparative advantage Design Manufacture
(France) (Singapore)
± Factor endowments
‡ Gives competitive
advantage

Assembly
(China)
 M !

’    
 

‡ Stages involved
Japan & US
1. R&D R&D
2. Manufacture-std. electronic
comp.
 capital-intensive Mexico
 Semi-skilled labour
 Intense cost pressure  #
3. Manufacture-advanced 
 Laptop

 
#
comp.
 capital-intensive
 Skilled labour Singapore,
 Less cost pressure Taiwan,
4. Assembly  

 Malaysia,
 Low-skilled labour Japan & US #
South Korea
 Intense cost pressure
 M !

‡ By dispersing production activities to different

locations around the globe, the U.S manufacturer
is taking advantage of the differences between
countries identified by the various theories of
international trade.
 
% #

‡ The theories of international trade claim that

promoting 

 

is generally in the best
interests of a country
‡ US Govt.-placed tariff on Japanese imports of
LCD screens(1991)
± Protested by IBM and Apple Computer
± It was later reversed
‡ In contrast, US Govt. was forced by US firms to
place restrictions on imports of steel
c
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