INTERNATIONAL ECONOMICS

Appleyard, D. R., Field, A. J., Cobb, S. L. .

International Economics, 8th edition, McGraw Hill
EARLY TRADE THEORIES -> Mercantilism and Classical Trade
Theories

MERCANTLISM
- 16TH to middle of 18th century

general idea
-> positive correlation between economic growth and wealth accumulation

zero-sum game
-> one country’s economic gain, the expense of another

labor theory of value

-> commodities valued in the terms of their labor content

2 stages :
a) BULLIONISM - 17TH century
-> bullionism -> use&exchange of precious metals
-> block imports (high tariffs and quotas) & encourage exports (subsidized)
-> (X>M -> richer country)
-> emperor wanted for each economic unit (craftsman) to have a positive trade balance
-> leads to stockpiling of gold/silver
-> regulation of production
-> labor control -> crafts guides -> good labor quality, ability to export, country’s wealth
-> low wages -> low production costs -> country’s products more competitive globally
-> large families -> more labor force -> subsidies & encouragement of large families
-> wealth with holdings of precious materials > nation’s product capacity

b) MATURE STAGE
-> having a positive trade balance most of the time (trade surplus) -> impossible
-> new idea -> some economic unit can have a deficit BUT COUNTRY AS A WHOLE HAS TO BE
IN SURPLUS
-> import raw materials ex. Iron, iron bars NOT final ex. Carriage -> create value -> export !
ATTACK OF David Hume -> price-specie1-flow mechanism
-> continue to accumulate profits, no harm to country’s int. competitive position
country A :
-> accumulation of precious metals, X>M - Ms P and W
-> Ms would then  competitiveness in surplus country
country B : loss of precious metals, M>M - Ms P and W
-> Ms competitiviness

Not possible to attain trade surplus/deficit long-term !

- movement of speices will bring trade blanace to zero, naturally
Mechanism that always seeks to equalize value of exports and imports !
-> ex. The reason behind M>X -> they have imported more raw materials, that will eventually
become final goods, ready for exporting -> X M

Explanation -> quantity theory of money

Ms x V(money velocity) = P(price) x Y(real output level, all Q of goods produced) (TRxGDP)

- change in one variable, affects the other

-> elastic in S-Run (P expenditures for the traded goods), L-run (less elastic)
-> perfect competition (P behavior, W behavior, both flexible to changes)
-> gold standard -> current prices pegged2 to gold, easily convertible P into gold

Adam Smith, 1776- critique to Mercantilism :

-> trade is not a zero-sum game
-> nation’s wealth reflected in their productive capacity (ability to produce final g&s)
-> goal : enlarge the production of goods&services rather than acquiring speices (hold gold)
-> environment in which people have right to pursue own interests -> market economy
 nation’s productivity =  growth =  profits
->  division & specialization of labor =  nation’s productivity
-> still a bit of government intervention provides the best working environment
– laissez fair -> law&regualiton obedience

Theory of ABSOLUTE ADVANTAGES

-> country should specialize in and export those commodities in which they have an absolute
advantage
-> produce only those goods that are made with the fewest resources (labor hours)
compared to others -> production of those goods requires less labor per unit than at their
trading partners

1 money in the form of coins rather than notes.

2 Fixed
 EX. Smith’s Absolute Advantages theory

CLOTH WINE Price ration in Autarky

- opportunity costs
ENGLAND 1 h/yard 4 h/barrel 1𝑤
4𝑐
PORTUGAL 2 h/yard 3 h/barrel 1𝑤
1.5𝑐

𝟏𝒄 𝟏𝒄
- 1 barrel of wine, exchanges 4 yards of cloth in ENGLAND 𝟏 = =𝟒𝒄
𝒘 𝟎.𝟐𝟓𝒘
𝟒

-> abs.adv. in production of cloth

-> less L/h for producing cloth than wine
-> if they produced wine instead of cloth -> only 1 barrel of wine while opportunity cost is to
produce 4 units of cloth ! so better to produce cloth instead of wine

𝟏𝒄 𝟏𝒄
- 1 barrel of wine, exchanges 1.5 yards of cloth in PORTUGAL 𝟐 = = 𝟏. 𝟓 𝒄
𝒘 𝟎.𝟔𝟔 𝒘
𝟑
-> abs.adv. in production of wine
-> less L/h for producing wine than cloth

Benefit for both -> specialize in production in their low-cost commodity and import the
other that is cheaper to produce abroad
-> trade is not a zero-sum game -> both can benefit from trade if produce cheaper good at
home and import more expensive one
-> absolute advantages -> natural resources (ex. climate)

For example, the United States may produce 700 million gallons of wine per year, while Italy
produces 4 billion gallons of wine per year. Italy has an absolute advantage because it
produces many more gallons of wine – the output – in the same amount of time – the input
– as the United States.

-> industry is located where the greatest absolute advantage exists

-> labor and capital move to the area where productivity and returns are the greatest
Continue to move until factors are equalized
Classical trade theories

David Ricardo, 1817- Theory of COMPARATIVE ADVANTAGES

-> critique to Smith -> relative not absolute efficiency counts
-> ONLY produce the good that can be made more efficiently
-> complete specialization -> maximizes world output !

Assumptions :
-> 2 countries, 2 commodities
-> fixed endowment3 of resources (labor supply is fixed)
-> fixed but different level of technology among countries
-> constant production costs (increase of output by 10%, also inputs inc. by 10%)
so the Labor hours/unit of production don’t change regardless quantity produced
-> factors of production immobile externally (sectors) – do not move between countries – a
worker from Croatia cannot go to Germany and work there the same job
while perfectly mobile internally -> in Croatia from Agrokor marketing to Adris marketing
-> labor theory of value – input/labor ratio the same in all countries
-> full employment
-> perfect competition – no one is strong enough to influence the market
-> transport costs, trade barriers not included

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