International trade Study Guide

📖 Core Concepts International Trade – Exchange of goods, services, and capital across borders; a major share of many countries’ GDP. Exports / Imports – An export is a good/service sent out of a country; an import is the same good/service received. Both are recorded in the current account of the balance of payments. Comparative Advantage – Countries gain by specializing in the production of goods for which they have the lower opportunity cost. Factor‑Endowment (Heckscher‑Ohlin) Model – A nation’s abundant factor (labor, capital, land) shapes the types of goods it exports. New‑Trade‑Theory – Even similar‑priced countries trade because of economies of scale and product differentiation. Gravity Model – Bilateral trade ≈ (Economic size of each country) ÷ (Distance between them). Trade vs. Domestic Production – International trade often cheaper/efficient due to factor mobility limits, but introduces legal, quality, and resource‑security differences. --- 📌 Must Remember Opportunity Cost drives comparative advantage → lower‑cost producer exports, higher‑cost producer imports. Explicit Tariffs + Non‑tariff barriers (border delays, standards, language) raise the cost of international trade vs. domestic. Factor Mobility: Labor & capital move freely within a country, not across borders → trade is mainly in goods/services. Factor‑Import Substitution: Nations import labor‑intensive goods instead of importing labor directly (e.g., U.S. ↔ China). Gravity Equation (simplified): $$\text{Trade}{ij} \propto \frac{GDPi \times GDPj}{\text{Distance}{ij}}$$ Technology & Globalization expand trade by lowering transport costs and enabling services (tourism, banking, consulting). Institutional Bodies: WTO, UNCTAD, regional trade agreements set rules and resolve disputes. --- 🔄 Key Processes Export‑Import Recording Export → credit in exporter’s current account. Import → debit in importer’s current account. Comparative‑Advantage Determination Calculate opportunity cost of each good for each country. Specialize in lower‑cost good; trade for higher‑cost good. Gravity Model Estimation Gather GDP of both countries and distance. Plug into proportional formula to predict trade volume. Factor‑Import Substitution Identify factor‑intensive domestic shortage. Import finished goods embodying that factor. --- 🔍 Key Comparisons International vs. Domestic Trade Cost: International = tariffs + non‑tariff barriers; Domestic = minimal barriers. Factor Mobility: International = limited; Domestic = high. Comparative Advantage vs. Factor‑Endowment Basis: Opportunity cost vs. relative factor abundance. Prediction: CA predicts who trades; FE predicts what each country exports. New‑Trade‑Theory vs. Classical Models Assumption: Scale economies & product differentiation vs. only technology differences. --- ⚠️ Common Misunderstandings “Free trade means no tariffs at all.” – Many “free‑trade areas” still have non‑tariff barriers (standards, customs procedures). “Factor endowments guarantee export success.” – Technology, demand, and scale economies also crucial. “Diversifying partners always improves resource security.” – Outline notes diversification does not necessarily reduce insecurity. --- 🧠 Mental Models / Intuition “Trade as a Two‑Way Bridge”: Think of each country as a node; the bridge’s width (trade volume) is set by size (GDP) and distance (costs). Bigger, closer nodes have wider bridges. “Opportunity Cost Scale”: Visualize a seesaw; the side that tips lower (cheaper) is the good a country should produce. --- 🚩 Exceptions & Edge Cases Eco‑Tariffs: May be imposed to protect domestic industries lacking efficiency, overriding pure comparative advantage. Resource‑Security Risks: Remote sourcing can make supply chains vulnerable despite cost advantages. Legal & Quality Standards: Imported goods may face stricter standards than domestically produced equivalents. --- 📍 When to Use Which Choose Comparative Advantage analysis when assessing why a country should specialize based on opportunity costs. Use Factor‑Endowment (Heckscher‑Ohlin) model when the question focuses on resource abundance (labor vs. capital). Apply New‑Trade‑Theory when identical‑size economies trade differentiated products (e.g., cars, smartphones). Employ Gravity Model for estimating bilateral trade flow given GDPs and distance. --- 👀 Patterns to Recognize Pattern 1: Questions mentioning “lower opportunity cost” → answer involves comparative advantage. Pattern 2: References to “abundant labor/capital” → factor‑endowment model is relevant. Pattern 3: “Same‑size economies trading similar goods” → look for economies of scale / product differentiation (new‑trade‑theory). Pattern 4: Trade volume correlated with GDP × GDP / distance → gravity model clue. --- 🗂️ Exam Traps Distractor: “Tariff‑free = unrestricted trade.” – Wrong; non‑tariff barriers still exist. Near‑miss: “Factor mobility is higher internationally than domestically.” – Reversed; domestic mobility > international. Misleading choice: “Diversifying partners always reduces resource insecurity.” – Outline states diversification does not guarantee security. Trap: Selecting “comparative advantage” when the question actually asks about resource abundance (factor‑endowment). ---