INTERNATIONAL TRADE

MEANING OF INTERNATIONAL TRADE

International trade is defined as the buying and selling of goods and services between two or more
countries. It simply means export and import. In export, there is outflow of goods and services but inflow
of money. In import, there is inflow of goods and services but outflow of money. On the basis of export
and import, any country may be in surplus or deficit. International trades between countries and across
continents have existed for centuries. Traditionally international trade consisted of goods like textile, food
items, precious metals and stones, and objects of art and various other items. We have come a long way
since the earlier times and International trade today has taken on new dimension. It was a fact earlier that
trade between two countries was not limited to economic activity alone but was an extension to political
and social ambitions. In this modern time, with the advancement of technology and globalization, it is
necessary for all countries to engage in international trade for their survival.

ROLE OF INTERNATIONAL TRADE

1. Specialization:
Every country can take more benefit specializing in the production of goods which can be
produced using local resources, technology and human resource. International specialization leads
to proper allocation of world’s resources and leads to production of goods under very favorable
conditions
2. Consumer satisfaction and benefits:
Consumers of a country can enjoy the consumption of goods and services produced in foreign
markets, which may be cheaper than the national products and which may not be produced in
their own country
3. Relief and help in economic crisis:
In times of inflation, disasters, scarcity, famine, depression, a country can solve the problems
through imports too.
4. Qualitative production:
There arises completion among the local and foreign markets. It helps in production of qualitative
products
 5. Agricultural and industrial development:
Countries which lack of raw materials and other products can easily acquire them through
imports. This helps in industrial development. Agriculture sector also can be developed through
import of fertilizers, pesticides and improved seeds.
6. Employment:
International trade helps the country to create employment opportunities. There in increase in
production and so there is requirement of increment in labor in field of insurance, trade, industry,
transportation and so on.
7. Exchange of culture:
Cultural exchange takes place between countries development when they enter into mutual
trading.
8. Others:
It enhances the domestic competitiveness and also takes advantage of international trade
technology. It helps in Increase sales and profits and Extend sales potential of the existing
products. It maintains cost competitiveness in your domestic market and enhances potential for
expansion of your business. It helps in gaining a global market share and reduction dependence
on existing markets. It also stabilizes seasonal market fluctuations

BALANCE OF TRADE

It is defined as net export i.e. relative export to import. It is systematic records of export and import. The
difference between total export and total import of a country in a fiscal year gives balance of trade. On the
basis of total export and total import, there are three types of balance of trade. They are

Favorable balance of trade:

if the total export is greater than total import, the country is said to have favorable balance of trade. In this
case, the inflow of money from export is greater than outflow of money due to import. This type of
international trade is said to be in surplus.

Unfavorable balance of trade:

if the total import is greater than total export, the country is said to have unfavorable balance of trade. In
this case, the inflow of money from export is less than outflow of money due to import. This type of
international trade is said to be in deficit
Zero balance of trade:

if the total export is equal to total import, the country is said to have zero balance of trade. In this case, the
inflow of money from export is equal to outflow of money due to import. This type of international trade
is said to be in balance

BALANCE OF PAYMENTS

It is defined as systematic records of all types of transaction of a country with the rest of the world. It is
the records of amount paid to and amount received from the rest of the world. The amount received may
be repayable or not and amount paid may be receivable or not. The amount receive are called receipts and
amount paid are called payments. There are 2 sides of balance of payment. They are receipts and
payments. The transactions recorded in balance of payment may be visible or not, repayable or not,
receivable or not. it includes expenditures made by a foreigner in the reporting country and expenditure
made by a domestic person in foreign countries, export and import, diplomatic expenditure of foreign
countries in the reporting country, factor income earned from and rest of the world and factor income
earned by foreigner form the reporting country, foreign lending and borrowing, foreigner’s investment in
the reporting county and investing of domestic entrepreneurs in foreign countries etc.

There are two accounts in balance of payment. They are

A. Current account.

The systematic records of short term transactions of a country with the rest of the world is called current
account. The transactions recorded in this account have effect for less than one year. It includes foreign
tourist expenditure in reporting countries, expenditure of domestic people in foreign countries, interest
received from and paid to other countries, remittance received and paid, diplomatic expenditures tec.
Short term receipts are recorded in receipt side of current account and short term payment are recorded in
the payment side of current account.

B.Capital account

The systematic record of long term transactions of a country with the rest of the world is called capital
account. The transactions recorded in this account have effect for more than one year. It includes capital
inflow and outflow, foreign lending and borrowing, repayment of foreign debt and principle of foreign
debt received. Long term receipts are recorded in receipt side of capital account and long term payment
are recorded in the payment side of capital account.
There are 3 types of balance of payment. They are

1. Favorable balance of payment:

If the total receipts are greater than total payment of a country form rest of the world, the country is said
to have favorable balance of payment. It means total inflow of money from the rest of the world in a year
is greater than total outflow of money to the rest of the world. Total receipt is the sum of total short term
receipt and total long term receipts. Total payment is the sum of total short term payment and total long
term payment.

2. Unfavorable balance of payment:

If the total receipts are less than total payment of a country form rest of the world, the country is said to
have unfavorable balance of payment. It means total inflow of money from the rest of the world in a year
is less than total outflow of money to the rest of the world.

3. Zero balance of payment:

If the total receipts are equal to total payment of a country form rest of the world, the country is said to
have zero balance of payment. It means total inflow of money from the rest of the world in a year is equal
to total outflow of money to the rest of the world.

FREE TRADE

The international trade without governmental intervention is called free trade. In this case, the
government doesn’t restrict export and import through any types of tariff and non tariff barrier there is
free movement if products from one country to another country. Each country can promote export only if
it produces qualitative goods with little cost. For it, there should be improvement in technology,
exploration of new resources, development of human resources, and improvement in qualities and so on.
Most of developed nations advocate in favor of free trade

Arguments in favor of free trade

1. Technical know-how:
If there is free trade each country can import technical equipments, plants, machines, tools and
manpower form other nations. The consumptions or use of these capital goods and human
resource can increase in technical know how.
2. Specialization:
Every country can take more benefit specializing in the production of goods which can be
produced using local resources, technology and human resource. International specialization leads
to proper allocation of world’s resources and leads to production of goods under very favorable
conditions.
3. Varieties of products:
In the domestic market, large number of goods and services can be supplied even it all required
commodities are not produced within a country. There is free import and this is possible.
4. Wide market: The domestic products can have wide market even in the foreign countries.
5. Large scale production:
Since, each domestic product can be sold even in foreign market, there is large scale production.
It is helpful to raise the income level and employment level too. There also arises completion
among the local and foreign markets. It helps in production of qualitative products too.
6. Compensation of lack of resources:
If there is free trade lack of some resources can be compensated by the resources available in the
country. The resources are imported either with manpower or exchanging with resources
available in the country.
7. High employment level:
Free trade helps the country to create employment opportunities. Each product is produces not
only to fulfill domestic demand but also to fulfill the demand in foreign market. Therefore, there
in increase in production and so there is requirement of increment in labor in field of insurance,
trade, industry, transportation and so on.
8. Capital formation:
For the capital formation the investment is required. For the investment, investible fund is
required. The investable fund comes from income generation by export.
9. Good diplomatic relationship:
The countries involved in international trade give and take products and services benefitting each
other. They will have good diplomatic relationship.
10. Diversification and modernization:
The free trade helps the country to diversify the industries and to modernize the way of life. The
varieties of goods for luxury, efficiency, high productivity etc are imported from different
countries and the life made more luxurious, well facilitated and efficient.
Arguments against free trade

1. Import dependency:
If there is free trade, the countries that are less developed cannot compete with the developed
countries. There is increase in import but not in export. The domestic market will be under the
control of foreign industries.
2. Colonization:
The country import dependent in nature has the fear of being colonized. It is because foreign
industries take the control of domestic market firstly and then control of domestic resources and
government.
3. Dumping:
The developed nations may sell their cheap and wasted goods to the less developed countries and
prices are usually high.
4. National Identity:
Every county has its own socio-cultural and linguistic values. The people have their own identity
but if there is free trade there may be import of the products against such socio-cultural values.
Moreover, the goods injurious to health and society may also be important.
5. Infant industries argument:
There may be industries just established. If there is free trade such infant industries cannot
compete with the foreign industries. The foreign products are qualitative advanced and less costly
than domestic products.
6. Dispute:
The countries involved in international trade may have dispute due to unequal benefits from the
trade to them. The disputes may take them the war.
7. Balance of payment argument:
If the country cannot export more even there is free trade and if there is increase only in import.
There is outflow of money in large amount than inflow of money. The balance of payment of the
country becomes unfavorable.
8. Employment argument:
The import dependent country cannot give employment opportunities to the people. There is high
unemployment if the country fails to compete with other countries in international trade.
9. Improper use of resources:
If there is free trade the resources may be used to produce only the goods demanded in the foreign
countries. It may bring exhaustion.
PROTECTIONISM

The doctrine of international trade with governmental intervention is called protectionism. According to
it, the government must protect the national interest with tariff an non tariff barriers. Domestic consumer,
industries and domestic socio cultural values should be protected or preserved by the government through
taxes, subsidies, and other different types of direct and indirect policy measures. The government may
prohibit the export to make available in sufficient quantities in domestic market. Ti may promote export
to earn money form the rest of the world. For it, it may impose taxes, less heavily or exempt or provide
subsidies form the export. However on the import it imposes custom duty heavily and so on. Most of the
less developed countries advocate in favor of protectionism.

Argument in favor of protectionism

1. Import independency:
If there protectionism, the countries that are less developed can compete with the developed
countries. There is increase in export too. The domestic market will not be under the control of
foreign industries.
2. No fear of colonization:
The countries that are import independent in nature, have no fear of being colonized. It is because
foreign industries will not take the control of domestic market firstly and then they will not
control on domestic resources and government.
3. No dumping:
The developed nations will not be able to sell their cheap and wasted goods to the less developed
countries and prices will be usually low.
4. National Identity:
Every county has its own socio-cultural and linguistic values. The people have their own identity
and if there is protectionism, there will not be import of the products against such socio-cultural
values and goods that are injurious to health and society.
5. Infant industries:
There may be industries just established. If there is protectionism, such infant industries will be
able to compete with the foreign industries.
6. Less dispute:
 The countries involved in protectionism, will have less dispute because they will have equal
benefits from the trade to them.
7. Balance of payment:
The country can export more when there is protectionism and if there is decrease only in import.
There is inflow of money in large amount than outflow of money. The balance of payment of the
country becomes favorable.
8. Employment:
The import independent country can give employment opportunities to the people. There is high
employment if the country can compete with other countries in international trade.

9. Proper use of resources:

If there is protectionism, the resources will used to produce the goods demanded in the domestic
market. It may bring proper use of resources.

Argument against protectionism

1. No technical know-how:
If there exists protectionism then there exists many barriers and each country can’t easily import
technical equipments, plants, machines, tools and manpower form other nations. It brings
problems in consumptions or use of these capital goods and human resource can thus limits in
technical know how.
2. Lack of specialization:
Countries must use only those products which can be produced using local resources, technology
and human resource. They can’t more benefit of specializing in the production of goods which
can be produced using international resources, technology and human resource. No International
specialization leads to improper allocation of world’s resources and leads to lesser production of
goods under unfavorable conditions.
3. Lack of Varieties of products:
In the domestic market, large number of goods and services can’t be supplied and all required
commodities cannot be produced within a single country because of lack of required resources in
limited area. 4. Wide market: The domestic products can have wide market even in the foreign
countries.
4. Small scale productions:
 Since, domestic product cannot be sold in foreign market without any barrier, there is small scale
production. It thus creates difficulty in raising the income level and employment level too. There
is no completion among the local and foreign markets.
5. No compensation for lack of resources:
If there is protectionism then there arises lack of some resources which cannot be compensated by
the resources available in the country. The resources cannot be easily imported either with
manpower or exchanging with resources available in the country.
6. Low employment level:
Protectionism doesn’t help the country to create employment opportunities. Each product is
produces only to fulfill domestic demand not to fulfill the demand in foreign market. Therefore,
there is decrease in production and so there is lesser requirement of increment in labor in field of
insurance, trade, industry, transportation and so on.
7. Less capital formation:
For the capital formation the investment is required. For the investment, investible fund is
required. But the investable fund doesn’t easily come from export due to many barriers.
8. Not good diplomatic relationship:
The countries involved in protectionism do not give and take products and services benefitting
each other. They will not have good diplomatic relationship.
9. No diversification and modernization:
The varieties of goods for luxury, efficiency, high productivity etc cannot be imported from
different countries and the life is not made more luxurious, well facilitated and efficient.

COMPARATIVE COST THEORY OF INTERNATIONAL TRADE

This theory is developed by a classical economist David Ricardo. According to this theory, the
international trade between two countries is possible only if each of them has absolute or comparative
cost advantage in the production of at least one commodity. This theory is based upon following
assumption

 There are only two countries and two commodities

 There is no governmental intervention in export and import
 Only labor is factor of production. Quantity of labor used gives cost of production
 There is perfect mobility of labor within the country but not between the countries
 There is no cost of transportation between the countries
  The law of constant returns to scale operates in production.
 The units of labor is homogeneous
 The units of each commodity in both countries are homogeneous

According to comparative cost advantage theory of international trade, each country exports the
commodity in which it has cost advantage and imports the commodity in which it has cost disadvantage.
This theory can be explained as following:

A. Comparative cost advantage

If a country can produce both commodities with less cost than another country but in different ratio, the
country is said to have comparative cost advantage

country Labor required to produce clothe Labor required to produce shoe

Nepal 10 4

India 20 12

ratio 10/20=0.5 4/12=0.33

In the above table, the cost of production of clothe in Nepal is only 50% of cost of production of clothe in
India. In case of shoes, the cost of production is only 1/3rd of cost in India. It shows that Nepal can
produce both commodities with fewer cots than India. But in order to take advantage, it produces only
shoes land let India produce clothe for it. Nepal produces shoes and exports to India. India produces
clothe and exports to Nepal. If they do so, both of them can take benefits.

B. Absolute cost advantage:

If a country can produce a commodity with less cost but has to bear more cost in the production of
another commodity than another country then the country is said to have absolute cost advantage. In this
case, both of the countries produce and export the commodities in which they have absolute cost
advantage

country Labor required to produce clothe Labor required to produce shoe

Nepal 10 8

India 20 4

ratio 10/20=0.5 8/4=2

In the above table, the cost of production of clothe in Nepal is less than in India. But cost of production of
shoes is less in India than in Nepal. In this case, Nepal is said to have absolute cost advantage in
production of clothe but absolute cost disadvantage in production of shoes. India is said to have absolute
cost advantage in production of shoes but absolute cost disadvantage in production of clothe. Therefore,
Nepal produces only clothe and exports to India. India produces only shoes and exports to Nepal. Doing
it, both the countries can take benefit.

C. No cost advantage:

If a country can produce both commodities with less cost than another country but in equal ratio, the
country is said to have no cost advantage.

country Labor required to produce clothe Labor required to produce shoe

Nepal 10 4

India 20 8

ratio 10/20=0.5 4/8=0.5

In the above table, Nepal is shown able to produce both commodities with less cost than India in equal
ratio. It means Nepal has no cost advantage. It is loss to the Nepal to import any commodity form India.
That’s why it decides to produce both goods for itself. Therefore, India too produces both goods for itself.
Hew is no trade between them.

Criticisms

 This theory is not applicable if there are more than two countries and more than two commodities
  In every country there is more or les government intervention in international trade
 There is cost of transportation form one country to another country
 The units of labor are not homogeneous and the workers are paid more or less in different
countries
 There may be increasing or decreasing returns to scale
 Labor is not perfectly mobile within the country too. In the modern era, there is mobility of labor
form one country to another
 The commodities produced in the different countries differ in quality, taste, size, quantity etc.

WORLD TRAD ORGANIZATION (WTO)

The World Trade Organization (WTO) is an international, multilateral organization which deals with the
global rules of trade between nations. It is the policeman of global trade. Its main function is to ensure
that trade flows as smoothly, predictably and freely as possible. Headquarter of WTO is located
in Geneva, Switzerland. It was established in 1 January 1995. The first concept initiation was done by
Uruguay Round negotiations (1986-94). Till the data of 2 March 2013 there are 159 countries as a
member in WTO. It has estimated budget of 197 million Swiss francs for 2013. There are 640 secretarial
staff .the director general of WTO is Pascal Lamy (Director-General)

Objectives:

 Administering WTO trade agreement

 Raising standard of living and incomes
 Promoting full employment,
 Expanding production and trade
 Optimum utilization of world’s resources
 Forum for trade negotiations
 Handling trade disputes
 Monitoring national trade policies
 Technical assistance and training for developing countries
 Cooperation with other international organizations

Principles:
  Trading system should be discrimination free in the sense that a country cannot favor another
country or discriminate against foreign product or services.
 A trading system should be more free and there should be little trade barriers.
 A trading system should be predictable where foreign companies and governments can be sure
that trade barriers would not be raised and markets will main open.
 A trading system should be more competitive.
 A trading system should be more accommodating for less developed counties giving them more
time to adjust, greater flexibility and more privileges

SOUTH ASIAN FREE TRADE AGREEMENT (SAFTA)

The agreement on south Asian free trade area (SAFTA) was signed by all the member states of SAARC
during the 12th SAARC summit held in Islamabad on 4-6th January. As a result, SAFTA came into force
from 1st January, 2006. SAFTA is a motivation for the commitment to strengthen intra SAARC economic
cooperation to maximize the realization of the region’s potential for trade and development for the benefit
of their people, in spirit of mutual accommodation, with full respect for the principle of sovereign
equality, independence and territorial integrity of all states.

Objectives:

 To promote and enhance mutual trade and economic cooperation among contacting states
 To eliminate barriers to trade in and to facilitate the cross border movement of goods between the
territories of contracting states
 To promote conditions of fair competition in the free trade area and ensuring equitable benefits to
all contracting states, taking into account their respective levels an pattern if economic
development
 To create effective mechanism for the implementation and application for joint administration,
resolution of disputes
 To establish a framework for further regional cooperation to expand and enhance the mutual
benefits

PRINCIPLES OF SAFTA

 SAFTA will be governed by rules, regulations, decisions, understanding, and protocols.

 The contracting states affirm their existing rights and obligations.
 SAFTA shall be based and applied on the principle of overall reciprocity and mutual advantages.
 SAFTA shall involve in free movement of goods.