An Introduction to

International Economics
Dominick Salvatore
John Wiley & Sons, Inc.

Lecterer: M.A. Nguyen Thai Ha

Department: Faculty of Economics
Office Hour:
Email: hant@uef.edu.vn
REVIEW

Globalization

International
Economies

Subjects in
International
Economies

Current
Problems
Dale R. DeBoer
09/19/2020 University of Colorado, Colorado Springs 2
 CHAPTER 2:
INTERNATIONAL TRADE THEORY

Dale R. DeBoer
09/19/2020 University of Colorado, Colorado Springs 3
 Learning Objectives
1. Understand the law of comparative advantage
2. Understand the theory of product life cycle in
International Business
3. Explain the Porter’s Diamond Model and its
implications for business

Dale R. DeBoer
09/19/2020 University of Colorado, Colorado Springs 4
 Learning Objectives 1

Understanding the law of comparative

advantage

Dale R. DeBoer
09/19/2020 University of Colorado, Colorado Springs 5
Mercantilism
 Mercantilism suggests that it is in a country’s
best interest to maintain a trade surplus – to
export more than it imports

https://www.youtube.com/watch?v=b4pnutYN97U
Dale R. DeBoer
09/19/2020 University of Colorado, Colorado Springs 6
Mercantilism
 It views trade as a zero-sum game - one in
which a gain by one country results in a loss
by another

Dale R. DeBoer
09/19/2020 University of Colorado, Colorado Springs 7
Mercantilism
 Mercantilism advocates government intervention to achieve
a surplus in the balance of trade
• Restrictions on imports – tariff barriers, quotas or non-tariff
barriers
• Accumulation of foreign currency reserves and gold and silver
reserves
• Granting of state monopolies to particular firms (trade and
shipping)
• Subsidies of export industry
• Government investment in R&D to maximize the efficiency and
capacity of domestic industry
• Allowing copyright/intellectual theft from foreign companies
• Limiting wages and consumption of the working class
• Control of colonies Dale R. DeBoer
09/19/2020 University of Colorado, Colorado Springs 8
 TRADE SURPLUS

- Maintain its position as the EXPORT POWER

in the period 2009 - 2016
- In 2016:
+ Export turn-over: $ 2.12 trillion
+ Import turn-over: $ 1.59 trillion
=> Trade surplus: $ 0.53 trillion
 CHINA'S TRADE BALANCE IN THE PERIOD 2009-2016
(Unit: trillion USD)
CHINA'S BALANCE TRADE DURING THE PERIOD 2009-2016
2.5

1.5

1
0.6 0.53
0.5 0.38 0.38
0.19 0.18 0.16 0.23
0
1 2 3 4 5 6 7 8

Trade Balance Export turn-over Import turn-over

Source: UN Comtrade (2017)

 TRADE POLICIES

Currency Devaluation Policy

DEFINATION?
 CAUSE

Encourage
export.

AD= C +G +I +(X-M)
 CAUSE

Increasing
foreign direct
investment
( FDI).

AD= C +G +I +(X-M)
Absolute Advantage
• Adam Smith argued that a country has
an absolute advantage in the
production of a product when it is
more efficient than any other country
in producing it
• According to Smith, countries should
specialize in the production of goods
for which they have an absolute
advantage and then trade these goods
for the goods produced by other
countries

Dale R. DeBoer
09/19/2020 University of Colorado, Colorado Springs 14
Absolute Advantage

200
Units of
Resource

Dale R. DeBoer
09/19/2020 University of Colorado, Colorado Springs 15
Absolute Advantage

10 units 1 ton

20 units 1 ton
Dale R. DeBoer
09/19/2020 University of Colorado, Colorado Springs 16
Absolute Advantage
Ghana has an absolute advantage in
the production of cocoa

200 units 10 units 20 tons

200 units 20 units 10 tons

Dale R. DeBoer
09/19/2020 University of Colorado, Colorado Springs 17
Absolute Advantage

40 units 1 ton

10 units 1 ton
Dale R. DeBoer
09/19/2020 University of Colorado, Colorado Springs 18
Absolute Advantage
South Korea has an absolute
advantage in the production of rice

200 units 40 units 5 tons

200 units 10 units 20 tons

Dale R. DeBoer
09/19/2020 University of Colorado, Colorado Springs 19
 Dale R. DeBoer
09/19/2020 University of Colorado, Colorado Springs 20
what might happen
when one country has
an absolute advantage
in the production of all
goods?

Dale R. DeBoer
09/19/2020 University of Colorado, Colorado Springs 21
Comparative Advantage
Ricardo’s theory of comparative
advantage suggests that
• countries should specialize in the
production of those goods they
produce most efficiently and
• buy goods that they produce less
efficiently from other countries, even
if this means buying goods from other
countries that they could produce
more efficiently at home

Dale R. DeBoer
09/19/2020 University of Colorado, Colorado Springs 22
 Comparative Advantage

10 units 1 ton

13.33 units 1 ton

Dale R. DeBoer
09/19/2020 University of Colorado, Colorado Springs 23
 Comparative Advantage

Dale R. DeBoer
09/19/2020 University of Colorado, Colorado Springs 24
Table 5.2 Comparative Advantage and the Gains from Trade

Dale R. DeBoer
09/19/2020 University of Colorado, Colorado Springs 25
Comparative Advantage vs Absolute Advantage
• Can gain in production of MORE THAN
ONE good
• Ability of a nation to specialize in the
production of the good for which it
can be produced at a lower cost in
terms of other goods

• Can gain by production of ONE good

• Exists when one nation can produce
goods more cheaply than another nation
Dale R. DeBoer
09/19/2020 University of Colorado, Colorado Springs 26
Qualifications and Assumptions
The simple example of comparative advantage
assumes:
• only two countries and two goods
• zero transportation costs
• similar prices and values
• resources are mobile between goods within
countries, but not across countries
• fixed stocks of resources
• no effects on income distribution within countries
Dale R. DeBoer
09/19/2020 University of Colorado, Colorado Springs 27
 Heckscher – Ohlin Theory
• Ricardo’s theory suggests that comparative
advantage arises from differences in
productivity

• Eli Heckscher and Bertil Ohlin argued that

comparative advantage arises from
differences in national factor endowments –
the extent to which a country is endowed
with resources like land, labor, and capital
• The Heckscher-Ohlin theory predicts that countries will export goods
that make intensive use of those factors that are locally abundant,
while importing goods that make intensive use of factors that are
locally scarce
Dale R. DeBoer
09/19/2020 University of Colorado, Colorado Springs 28
 Factor Endowments

• Factor endowments refer to a nation’s position in

factors of production necessary to compete in a given
industry

• A nation's position in factors of production can lead to

competitive advantage

• These factors can be either basic (natural resources,

climate, location) or advanced (skilled labor,
infrastructure, technological know-how)
Dale R. DeBoer
09/19/2020 University of Colorado, Colorado Springs 29
 Factor Endowments

Dale R. DeBoer
09/19/2020 University of Colorado, Colorado Springs 30
Labor

09/19/2020 31
· The declining agricultural sector is dominated by cultivation and plantations
(rice, coffee, cashew nuts, corn, pepper, sweet potatoes, peanuts, cotton,
rubber and tea) as well as aquaculture. It represented 18.1% of the GDP in
2016, which dropped to 15.9% in 2017 and it employed 41.8% of the
workforce in 2016, however, that number increased to 48% the following
year.

· Industry accounts for 36.4% of the GDP and employs 22.9% of the
population, remaining the driving engine of the Vietnamese growth, even
though its importance has been declining. The sector remains dominated by
large state-owned groups. The country's main industries are textiles, the food
industry, furniture, plastics and paper. The energy sector has been booming
for the past several years (coal, hydrocarbons, electricity, cement, steel
industry). Despite being a 'newcomer' in the oil industry, Vietnam has
become the third largest Southeast Asian producer. The country has also
invested in high value-added industries such as cars, electronic and computer
technologies (software).

· The services sector is driven by tourism and telecommunications. These

profitable sectors contributed strongly to the economic health of the country
in recent years and should continue to do so in the future. The tertiary sector
represents 45.5% of the GDP and employs 35.2% of the Vietnamese
workforce.
 Learning Objectives 2

Understand the
theory of product life
cycle in International
Business

Dale R. DeBoer
09/19/2020 University of Colorado, Colorado Springs 33
 Product Life Cycle Theory

Dale R. DeBoer
09/19/2020 University of Colorado, Colorado Springs 34
 Dale R. DeBoer
09/19/2020 University of Colorado, Colorado Springs 35
 Product Life Cycle Theory
• The product life-cycle theory, proposed by Raymond Vernon,
suggested that as products mature both the location of sales
and the optimal production location will change affecting the
flow and direction of trade
• Vernon argued that the size and wealth of the U.S. market gave
U.S. firms a strong incentive to develop new products
• Vernon argued that initially, the product would be produced
and sold in the U.S., later, as demand grew in other developed
countries, U.S. firms would begin to export
• Over time, demand for the new product would grow in other
advanced countries making it worthwhile for foreign producers
to begin producing for their home markets

Dale R. DeBoer
09/19/2020 University of Colorado, Colorado Springs 36
Product Life Cycle Theory
• U.S. firms might also set up production facilities in those
advanced countries where demand was growing limiting the
exports from the U.S.
• As the market in the U.S. and other advanced nations matured,
the product would become more standardized, and price the
main competitive weapon
• Producers based in advanced countries where labor costs were
lower than the United States might now be able to export to
the U.S.
• If cost pressures became intense, developing countries would
begin to acquire a production advantage over advanced
countries
• The United States switched from being an exporter of the
product to an importer of the product as production becomes
more concentrated in lower-cost foreign locations
09/19/2020 37
New Trade Theory
• T

09/19/2020 38
New Trade Theory
• New trade theory suggests that the ability of firms to
gain economies of scale (unit cost reductions
associated with a large scale of output) can have
important implications for international trade
• New trade theory suggests that:
 through its impact on economies of scale, trade
can increase the variety of goods available to
consumers and decrease the average cost of
those goods
 in those industries when output required to attain
economies of scale represents a significant
proportion of total world demand, the global
market may only be able to support a small
number of enterprises
09/19/2020 39
New Trade Theory
 Without trade, nations might not be able to produce
those products where economies of scale are
important
 With trade, markets are large enough to support the
production necessary to achieve economies of scale
 So, trade is mutually beneficial because it allows for
the specialization of production, the realization of
scale economies, and the production of a greater
variety of products at lower prices

09/19/2020 40
Economies of Scale, First Mover Advantages,
and The Pattern of Trade
• The pattern of trade we observe in the world economy
may be the result of first mover advantages (the
economic an strategic advantages that accrue to early
entrants into an industry) and economies of scale
• New trade theory suggests that for those products
where economies of scale are significant and represent
a substantial proportion of world demand, first movers
can gain a scale based cost advantage that later entrants
find difficult to match

Dale R. DeBoer
09/19/2020 University of Colorado, Colorado Springs 41
Implications of New Trade Theory
• Nations may benefit from trade even when they do not
differ in resource endowments or technology
• A country may dominate in the export of a good simply
because it was lucky enough to have one or more firms
among the first to produce that good
• While this is at variance with the Heckscher-Ohlin theory,
it does not contradict comparative advantage theory, but
instead identifies a source of comparative advantage
• An extension of the theory is the implication that
governments should consider strategic trade policies that
nurture and protect firms and industries where first mover
advantages and economies of scale are important

Dale R. DeBoer
09/19/2020 University of Colorado, Colorado Springs 42
 Learning Objectives 3
Explain the Porter’s Diamond Model and its
implications for business

Dale R. DeBoer
09/19/2020 University of Colorado, Colorado Springs 43
 National Competitive Advantage:
Porter’s Diamond

09/19/2020 44
 Factor Endowments
• Factor endowments refer to a nation’s position in
factors of production necessary to compete in a
given industry

• A nation's position in factors of production can lead

to competitive advantage

• These factors can be either basic (natural resources,

climate, location) or advanced (skilled labor,
infrastructure, technological know-how)

09/19/2020 45
 Firm Strategy, Structure, and Rivalry
• Firm strategy, structure, and rivalry refers to the
conditions governing how companies are created,
organized, and managed, and the nature of domestic
rivalry
• The conditions in the nation governing how companies
are created, organized, and managed, and the nature of
domestic rivalry impacts firm competitiveness
• Different management ideologies affect the development
of national competitive advantage
• Vigorous domestic rivalry creates pressures to innovate,
to improve quality, to reduce costs, and to invest in
upgrading advanced features
Dale R. DeBoer
09/19/2020 University of Colorado, Colorado Springs 46
Evaluating Porter’s Theory
Government policy can:
• affect demand through product standards
• influence rivalry through regulation and antitrust
laws
• impact the availability of highly educated workers
and advanced transportation infrastructure.
• The four attributes, government policy, and chance
work as a reinforcing system, complementing each
other and in combination creating the conditions
appropriate for competitive advantage

09/19/2020 47
Implications for Managers
There are three main implications for international
businesses:
• location implications
• first-mover implications
• policy implications

09/19/2020 48
 Location
• Different countries have advantages in different
productive activities
• It makes sense for a firm to disperse its various
productive activities to those countries where they
can be performed most efficiently
• International trade theory suggests that firm that fail
to do this, may be at a competitive disadvantage

Dale R. DeBoer
09/19/2020 University of Colorado, Colorado Springs 49
 First Mover Advantage

• Being a first mover can have important competitive

implications, especially if there are economies of scale
and the global industry will only support a few
competitors

• Firms that establish a first-mover advantage may

dominate global trade in that product

Dale R. DeBoer
09/19/2020 University of Colorado, Colorado Springs 50
 Government Policies
• Government policies with respect to free trade or
protecting domestic industries can significantly
impact global competitiveness
• Businesses should work to encourage governmental
policies that support free trade
• Firms should also lobby the government to adopt
policies that have a favorable impact on each
component of the diamond

Dale R. DeBoer
09/19/2020 University of Colorado, Colorado Springs 51