The theory of comparative advantage. David Ricardo
Basic reason for trade is the diversity of
conditions between countries.
The trade depends upon comparative advantage, not upon
absolute advantage (people produce things which they are relatively best at,
not things they can do most).
A model of comparative advantage.
Look at the notes done in lesson (2 lands,
2 goods, different production possibilities)
Domestic trading ratio(DTR)- 10units of food=4units of
International trade is always beneficial whenever there is
a difference in the opportunity cost ratios between 2 countries.
An international trading ratio- somewhere between DTR-s of
different countries. Depends upon the forces of supply and demand in the
If the international trade is started, in
the short-run people in industries that have not the comparative advantage will
go to bankruptcy.
Exchange-too high leads to trade deficit(M>X), too low
Multilateral trade- several countries
Specialisation is never complete.
Factor price equalisation-international
trade tends to equalise factor prices (wage and land) without changing them,
but changing the products. They will never be completely equal because of the
customs and transportation costs. Also apply if people have different tastes,
then the product prices would be more equal after IT.
Limitations of comparative advantage:
1.Obstacles to trade.
tariffs and quotas
political frontiers and
(safety requirements and too complex rules)
(distortion of different patterns)
3.Factor immobility (prices don't rise easily)
4.Increasing costs(diseconomies of scale)
5.Over-specialisation and dependency.
UK is least protective to its home market
(no tariffs), but EC is for non-EC countries.
on foreign market below production price.
industries in homeland (if just established)