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New Trade Theories

Fourth Edition

Dr. Utpal Chattopadhyay Asst. Professor, NITIE

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The New Trade Theory

Began to be recognized in the 1970s. Deals with the returns on specialization where substantial economies of scale are present. Specialization increases output, ability to enhance economies of scale increase. In addition to economies of scale, learning effects also exist. Learning effects are cost savings that come from learning by doing.
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Application of the New Trade Theory

Typically, requires industries with high, fixed costs. World demand will support few competitors. Competitors may emerge because they got there first.

First-mover advantage.

Some argue that it generates government intervention and strategic trade policy.

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First-Mover Advantage

Economies of scale may preclude new entrants. Role of the government.

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Porters Diamond
(Harvard Business School, 1990)

The Competitive Advantage of Nations. Looked at 100 industries in 10 nations. Thought existing theories didnt go far enough. Question: Why does a nation achieve international success in a particular industry?

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Comparative Advantage Vs. Competitive Advantage

Comparative Advantage corresponds to specific factors for sourcing inputs and marketing outputs such as relative factor costs, availability, price and quality of products and the size, growth and accessibility of markets. Competitive Advantage, on the other hand, is derived from firm specific assets and it describes the proprietary elements of the firm that distinguishes it from its competitors. Comparative and competitive advantage are not entirely independent concepts, as comparative advantage of a nation may contribute to competitive advantage of firms originating or located in that country and vice-versa.

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Porters View on Competitive Advantage

Whereas comparative advantage is derived from the resource endowment of the country and is therefore external to the policy system, the competitive advantage is factor performance and technology driven and thus alterable through policy changes and managerial action (Porter, 1990).

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Determinants of National Competitive Advantage

Factor endowments:nations position in factors of production such as skilled labor or infrastructure necessary to compete in a given industry.

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Determinants of National Competitive Advantage

Factor endowments:nations position in factors of production such as skilled labor or infrastructure necessary to compete in a given industry. Demand conditions:the nature of home demand for the industrys product or service.

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Determinants of National Competitive Advantage

Factor endowments:nations position in factors of production such as skilled labor or infrastructure necessary to compete in a given industry. Demand conditions:the nature of home demand for the industrys product or service. Related and supporting industries:the presence or absence in a nation of supplier industries or related industries that are nationally competitive.
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Determinants of National Competitive Advantage

Factor endowments:nations position in factors of production such as skilled labor or infrastructure necessary to compete in a given industry. Demand conditions:the nature of home demand for the industrys product or service. Related and supporting industries:the presence or absence in a nation of supplier industries or related industries that are nationally competitive.

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Firm strategy, structure and rivalry:the conditions in the nation governing how companies are created, organized, and managed and the nature of domestic rivalry.
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Porters Diamond
Determinants of National Competitive Advantage
Firm Strategy, Structure and Rivalry
Factor Endowments

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Demand Conditions

Figure 4.6

Related and Supporting Industries

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The Diamond

Success occurs where these attributes exist.

More/greater the attribute, the higher chance of success.

The diamond is mutually reinforcing.

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Determinants of National Competitive Advantage

Chance
Company Strategy, Structure, and Rivalry

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Two external factors that influence the four determinants.

Factor Conditions Related and Supporting Industries

Demand Conditions

Government

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Factor Endowments

Taken from Heckscher-Ohlin Basic factors: natural resources climate location demographics Advanced factors: communications skilled labor research technology
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Advanced Factor Endowments

More likely to lead to competitive advantage. Are the result of investment by people, companies, government.

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Relationship of Basic to Advanced Factors

Basic can provide an initial advantage. Must be supported by advanced factors to maintain success. No basics, then must invest in advanced factors.

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Demand Conditions

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Demand creates the capabilities. Look for sophisticated and demanding consumers.

impacts quality and innovation.

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Related and Supporting Industries

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Creates clusters of supporting industries that are internationally competitive. Must also meet requirements of other parts of the Diamond.

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Firm Strategy, Structure and Rivalry

Management ideology can either help or hurt you. Presence of domestic rivalry improves a companys competitiveness.

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Evaluating Porters Theory

If Porter is right, we would expect his model to predict the pattern of international trade that we observe in the real world. Countries should be exporting products from those industries where all four components of the diamond are favorable, while importing in those areas where the components are not favorable. Too soon to tell.
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Implications for Business

Location implications:makes sense to disperse production activities to countries where they can be performed most efficiently. First-mover implications:It pays to invest substantial financial resources in building a firstmover, or early-mover, advantage. Policy implications:promoting free trade is generally in the best interests of the homecountry, although not always in the best interests of the firm. Even though, many firms promote open markets.
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Evaluating Porters Model

Porters model triggered a wave of debate on the subject.

Many appreciated Porters diamond model for providing a broad framework that combines strategic management and international economics to explain the competitive advantage of nations. The critics, however, cited the model as a set of theoretical commonplaces.
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Evaluating Porters Model

The model is more suited for more advanced countries and it lacked applicability in smaller or developing economies (Rugman, 1991) . Porter did not appropriately consider the forces of globalization and multinationals The dynamic interplay of the multinationals in various countries can affect the competitiveness of such countries. But by assigning no role to multinationals, an important aspect of competitiveness was ignored. (Dunning, 1992 1993).
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Evaluating Porters Model

Dynamic influences of a few important factors such as technology, international business, labour costs, and exchange rates on international competitiveness were not duly considered by Porters model (Narula & Daly, 1993). The government should be given a more prominent role than has been assigned by the Porters model (De Man, 1994). Davies and Ellis (2000) described Porters analysis as hopelessly rich but gloriously wrong.
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Evaluating Porters Model

In spite of certain shortcomings of the Diamond Model, Porters contribution in the competitiveness theory cannot be undermined. In fact, following Michel Porters work, the subject of competitiveness has been receiving increasing attention of the economists, management scholars and the policy makers. The large number of works that have come into existence from 1990s on the areas of national, regional, industry and firm competitiveness proves this point.
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