International Trade Principles and Theories

International Trade

International trade is a set of trade and capital flows between different countries. There has always been international trade. In the twentieth century, with the development of transport, trade became more intense and thus was a source of expertise in those countries.

Main Background

No country can survive an autarky regime because they don't have enough natural resources, or resources are more expensive to produce domestically, and/or there is a lack of technology.

As a result, developed countries (North America, European Union, Japan) specialize in the production of manufactured goods and high technology.

Spain

In the case of foreign trade, Spain has a persistent trade deficit. The value of exports represents only 78% of the value of imports. The main export sectors of the Spanish economy are the automobile industry, food, furniture, and footwear.

Theory of International Trade

Absolute Advantage

Each country specializes in the production of goods where it has an absolute advantage, which allows for more efficient manufacturing using less expensive resources.

Adam Smith

Adam Smith proposed the theory of absolute advantage in 1776 in his book The Wealth of Nations.

A country has an absolute advantage in the manufacture of a product if it needs to use a smaller amount of factors (resources) than other countries to obtain the same quantity of the product.

Consequently, the international specialization of production allows firms to lower costs and ultimately leads to greater prosperity for all involved in trade. Today, this theory is still valid: countries tend to produce and export products manufactured more cheaply than others.

Conclusion

It is preferable to buy a good from a foreign country if producing it domestically is more expensive.

Comparative Advantage

Each country should specialize in the production of those goods in which it has a comparative advantage.

David Ricardo

David Ricardo developed this theory in 1817 in his work on political economy.

The theory of comparative advantage explains how exchange occurs between two countries when one of them has an absolute productive advantage. It addresses the limitations of Smith's theory.

Conclusion

Each country will specialize in the manufacture of goods where it is relatively more efficient.