International Economics

Ma. Daniela Conde

Josselyn Arevalo

“Peace, commerce, and honest friendship with all nations...entangling alliances

with none” (Thomas Jefferson, 1801) Trading in Economy is one of the most important

topic to analyze. That’s why Economics has multiple models to analyze this relationship.

Trade is a basic economic concept. It determines the relationship between two individuals

or more, that have a good or service exchanging. Economists are constantly in

disagreement about some topics, but we universally agree that free trade–meaning the

opportunity to engage in voluntary exchange or trade–is beneficial on all sides. To

summarize this mutual benefit, economists often say “There are gains from trade.” (The

Lybrary of Economics and Liberty, 2008). In this essay there will be a summary of the

basic models from trading.

First of all, we have the most known and basic model, Gravity Model. It was

presented in 1962., by Jan Tinberger. Who proposed that the size of bilateral trade flows

between any two countries can be approximated by employing the ‘gravity equation’,

which is derived from Newton’s theory of gravitation. (Economics O, 2008). The theory

of gravitation implies that two planets are connected two another one based in the size

and distance of them, it is equal on trading. When we talk about the size, it refers in the

GDP of the country, and the distance is the trade cost of distribution. This model premises

said that, a bigger distance or cost, the trading decrease, but a bigger GDP the trading

increase. The equation representation of the Gravity Model of Trade is as follows:

Fij=G*Mi*Mj/Dij
In this formula G is the constant, F stands for trade flow, D stands for the distance and M

stands for the economic dimensions of the countries that are being measured.

A second model that we analyze, is Ricardo’s theory of comparative advantage.

The theory states that a country should specialize in producing the goods in which it has

comparative advantage. A country has comparative advantage in comparison to another

country when it has the least opportunity cost in producing a specific good. The

determinants of comparative advantage are labor productivity and labor costs. However,

there are several arguments that limits this theory, principally based on the assumptions

of the model, some of the most important ones are that it assumes that the only mobile

factor is labor, and it has total mobility from industry to industry. Then it assumes that a

country can specialize only in tradable goods (Golub & Hsieh, 2000). Even though its

critics, the Ricardian model is still very useful for bilateral analysis of trade between

countries and there are several ways to analyze and apply comparative advantage

nowadays.

Finally, the factor mobility model, that assumes the following. First that the

production functions are homogeneous, meaning that marginal, productivity only

depends in the proportions in which factors are combined. Second, that one commodity

needs a greater proportion of one factor than the other commodity. And lastly, factors

endowment are such to exclude specialization. In a two-country, two-factor model. One

of these countries is more labor intensive and produces mainly labor insensitive

commodity, and the other is more capital intensive and produces mainly capital

insensitive commodity. There’s trade between the two countries, but when one of them

limits trade by applying a tariff or prohibition to importation, this will make the price of

the prohibited good to increase, and the marginal productivity of the factor needed to
produce it to increase too. In order to satisfy internal demand of the product, the country

will import the factors for making the prohibited good and satisfy its demand. As it can

be seen, factor mobility incremented with the need of the factors that produced the

prohibited good. After this, the tariff is no longer necessary, eh economy has reached a

new and higher equilibrium with a higher level of production.

In the other hand, the same theory argues that increase impediments to factor

movements stimulate trade. If the government applies a tax for imported factors, as for

example capital. Then the equilibrium price of the good that need capital will rise, and

the prices would not be equalized. As this happens, the country will find it convenient

importing the good itself from other countries increasing trade (Mundell, 2003).

We analyze three of the most known models of patterns of trade in Economy. Each

of one has the same aim, that is understand the mechanisms of trading, the efficiency of

each relationship. Every model has pros and cons, but is important to known each of one

and to applied each model, dependently in the situation. Some assumptions, and in other

cases the lack of them, will determine the use of an specific model.
References

Golub, S., & Hsieh, C.-T. (2000). Classical Ricardian Theory of Comparative

Advantage Revisited. Blackwell Publishers.

Mundell, R. (2003). International Trade and Factor mobility . JSTOR.

Charney, T. (2011). The Gravity Equation in International Trade, NBRE.

Economics.(2008).Gravity Theory of trade pattern. Sts