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The emergence of free trade and the importance of comparative advantage

History of trade.

Over time trade expanded from amongst families and their neighbors as people ere exposed to new goods from faraway places and developed a taste of them continued to grow as traders became kingdoms then the kingdoms later developed to empires

The growth in trade led to the emergence of the influential merchant class, these merchants braved hardships and their activities helped the modern world.


it is a theory that founded the idea of a country, and therefore individuals are better off if the value of a countries export is greater than the value of imports.

Merchants had an obvious flaw, whereby if a country is always trying to give export more than it gives on the imports and everyone else is playing the same game, then someone is going to lose.

Free trade.

Scottish thinker Adam Smith, was influential in ending mercantilism whereby he argued that in the wealth of nations that if a country is specialized in what it produces, and freely trade it with those products, then the society would be better off that way.

Wealth-sum total of all that people of a nation produce.

Free trade leads to greater wealth

Theory of comparative advantage.

David Ricardo argued that it is better of for a country tom specialize in what it is at best produces at the lowest opportunity cost and then trade it for whatever else that it needed.

There are two concepts that he argued out

  • Absolute advantage
  • Comparative advantage

Absolute advantage.

It exists where one can produce more to a good or a service than someone else or if one can produce that good or service faster than someone else.

It implies that you are more efficient that is able to produce more with the same resources.

Comparative advantage.

It exists if one produces a good or a service at a lower opportunity cost than someone else.

To calculate the comparative advantage, one must determine the opportunity cost that each person faces when producing.

It is easy to overlook comparative advantage when determining who should produce what.

This theory allows one to understand how the American economy has changed over the last 60 years.


For developing countries that mainly produce raw (often called primary) products, such as mining and agricultural goods: (select all that apply, there are one to four possible correct answers)
Arguments for “comparative advantage” can be seen as developmental “dead ends”
Persistently low export prices cannot generate the revenue for the expensive manufactured/high tech imports needed for development
“Comparative advantage” is often based on just a few primary products
Jobs are often low wage and low skilled

Those that caution against free trade generally argue:
Free trade leads to dislocations which can cost people their jobs

Arguments in favor of free trade often include each of the following: (select all that apply, there are one to four possible correct answers)
Free trade produces overall economic growth and jobs in sectors where the country has a comparative advantage
Open trade fosters lower prices for consumers
Everyone benefits when countries produce and sell what they do most efficiently
Free trade promotes interdependence among countries and helps maintain international peace

The idea of comparative advantage is that:
States should specialize in producing the goods which they produce best and trade for goods that other states produce best

The United States:
Has run significant trade deficits since the 1970s

Classic liberal trade theory holds the view that:
Free trade without governmental interference will eventually benefit all economies in the international system by ensuring efficiency in the production and distribution of goods and services

Which two thinkers are most closely associated with setting the roots of classical liberalism?
Adam Smith and David Ricardo

Mercantilists (economic nationalists) believe:
Governments should regulate trade to advance national interests and power

The most traditional protectionist barriers to trade are:
Tariffs (taxes on imports), though they are no longer the main form of protectionism for most countries

The U.S.’s Smoot-Hawley Act:
Has been credited with triggering a spiral of restrictions on trade by other countries, helping spark the Great Depression

Mercantilist approaches to establish desired trade balances and trade profiles include:
Promoting exports and protecting the economy by restricting imports

An example of an “export promotion” technique is:
Direct export subsidies, or paying local producers for their exports, helping them better compete with foreign firms

Which of the following is an example of a protectionist policy that had negative effects?
The Smoot-Hawley Act

Non-tariff Barriers (NTBs) include (select all that apply, there are one to four possible correct answers):
Administrative requirements, such as customs procedures
Health and safety standards
Voluntary Export Restraints

European economic integration was initiated with the creation of:
The European Coal and Steel Community, which integrated an industry key to war-making potential

Since the creation of the WTO in 1995:
Only one round of international trade negotiations has been initiated (the Doha Round), and it has gotten nowhere

One key reason international trade negotiations have stalled is because:
Remaining tariff barriers are in areas where poorer countries often have an advantage, such as the politically sensitive agriculture sector

Losing a case through the WTO disputes settlement mechanism could lead a country to face:
Economic sanctions or a withdrawal of trade concessions by the winning state

The Bretton Woods institutions were created after WWII:
To promote stability in international economics and, hence, strengthen international peace

France protects its television and movie industries from U.S. competition because:
Of a fear of cultural imperialism

When the European Union placed restrictions on the importation of U.S. beef containing growth hormones because of the EU’s concern for public health, the U.S. government considered this policy a form of:
Protectionism, sparking a case before the WTO

When countries raise taxes to give export subsidies to newly established exporting companies:
Their current citizens sacrifice so that future generations may benefit as “infant industries” seek to transform into powerful businesses

Why is trade policy “inevitably politicized”?
There are winners and losers with trade policies, and groups pressure governments to adopt policies beneficial to them

The North American Free Trade Agreement (NAFTA):
Has led to some lower skilled jobs shifting to Mexico, where wages are lower

President George W. Bush’s decision to impose a temporary 30 percent tariff on imported steel in 2002 (select all that apply, there are one to four possible correct answers):
Helped the steel industry by allowing U.S steel producers to gain a larger share of the local market
Was seen by some as a political move to help the president’s reelection chances in key electoral states
Hurt U.S. automakers, who had to pay higher prices for steel

Company costs can often be lower if (select all that apply, there are one to four possible correct answers):
Pensions, healthcare, and paid vacation rules are eliminated
Minimum wage and workplace safety regulations are cut
Age and gender discrimination laws are removed, allowing them to terminate employees at will

Proponents of free trade argue:
Trade increases overall employment, and can shift jobs to where a country has comparative advantages

Consumers (select all that apply, there are one to four possible correct answers):
Often do not know the conditions in which foreign goods are made
Have to grapple with whether to buy foreign goods that might have been made in sweatshops

Definitions are found on the “Maps,” “Country Profile,” and “Rank by Variable” tabs by clicking on a variable name. Using one of these tabs, drill into “Barriers to Trade” and click on “Prevalence of Non-Tariff Barriers” (here’s the path: ECONOMICS/Market Access/Trade Profile/Barriers to Trade/Prevalence of Non-Tariff Barriers). Within the definition, what are listed as Non-Tariff Barriers (NTBs)?
Health and product standards, technical and labeling requirements, etc.

States use different types of trade strategies to try to improve economic outcomes, some are more “classic liberal,” believing that freer trade will eventually benefit all economies, while others pursue more protectionist policies to try to guide the market and help local producers and populations. Recreate the bar chart of “Barriers to Trade” above and list the countries from more open (scoring highest) to more protected (scoring lowest).
Singapore, Chile, U.S, Ireland, China

The value of a country’s currency can have a significant impact on economic outcomes. For example, an overvalued currency will strengthen the ability to purchase imports, while an undervalued currency will allow a country to sell exports at lower prices. The RCII’s Currency Over/Under Valuation variable has the following definition: “Overvaluations are expressed as negative percentages, indicating a need for the exchange rate to depreciate. Undervaluations are expressed as positive percentages, indicating a need for the exchange rate to appreciate. Neither a high level of undervaluation or overvaluation is desirable.”

Use the chart above of U.S. and China Currency Over/Under Valuation (raw data). In 2008-2009, with the onset of the Great Recession, which was true:
The U.S. currency was significantly overvalued, while the Chinese currency was significantly undervalued.

The map above shows that much of Europe scores well in “Customs Logistics”, an important part of the trade process. (Customs Logistics is defined as “Efficiency in the clearance process–i.e., speed, simplicity, and predictability of formalities–by customs and other border control agencies”). Which country has the world’s best customs logistics?

Order the following countries from the country that exports the highest volume to the country that exports the lowest volume by recreating the chart above or using “Aggregate Exports (Bil USD)” on Rank by Variable.
China, India, Russia, Brazil, South Africa

Using the longitudinal charting function on the RCII’s Charts tab, create a chart of the United States with the variables Total Trade (% of GDP) and Aggregate Total Trade (Bil USD). Which chart below reflects the large discrepancy between the United States score on these two variables?

And here’s a couple questions for you to ponder: Why does this discrepancy exist? And why is it important?
Really loww

Below is a map of “Current Account Balance (% GDP),” whose path is ECONOMICS/Macro-Economic Indicators/Broad Economy/Current Account Balance (% GDP).

Broadly, a country’s current account balance is its “net trade in goods and services” (some countries run a trade surplus; some countries run a trade deficit). Please match the country below with its current account balance as a percentage of its Gross Domestic Product. This data is easy to find on the Maps, Rank by Variable, or Rankings Tile/Tab.

Question to ponder: What accounts for the big discrepancy in the current account balances (% GDP)?
United States-2.51

Whirlpool claims its foreign competitors engage in unfair competition. What are examples in the video of what “unfair competition” means (select all that apply, there are one to four possible correct answers)?
Companies selling their washing machines at prices lower than what they’re charging for the same washing machines back home
Companies getting direct funding (subsidies) from the government
Companies selling their washing machines at prices lower than their cost of production

Because Samsung and LG faced retaliatory tariffs placed on them by U.S. regulators:
They moved some production to China (and later Thailand, Vietnam, and the U.S.), which didn’t face the tariffs placed on South Korea

As a result of the trade conflict over washing machines:
The price of both foreign and domestically produced washers has gone up

With respect to the charge that LG and Samsung take advantage of unfair trade practices as far as washing machines are concerned: (select all that apply, there are one to four possible correct answers)
U.S. regulators in the Obama and Trump administrations have repeatedly agreed that the companies are breaking international trade rules
LG and Samsung have argued they follow the rules 100%, and simply have better products than Whirlpool

To get Samsung and LG to invest in their states:
South Carolina and Tennessee have offered significant investment incentives, similar to the advantages the firms received in South Korea

Because of the new tariffs placed on imported steel, aluminum, and other products by the Trump administration, the video points to which specific product the Canadians and Europeans area targeting for retaliation?
Washing machines

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