International trade Essay Example | Topics and Well Written Essays - 1750 words

International trade - Essay Example It will then look and how tariffs, quotas and subsidies affect real income in small countries. Lastly, it will look at arguments against free trade and their validity from a national perspective. The Ricardian Model of International Trade The Ricardian model of international trade is one of the earliest models of international trade. This model of trade emphasizes comparative advantage that comes about due to technological differences which act as a critical factor behind trading activities. Unlike the other theories of international trade that argue that trade only benefits certain countries and is unfavorable to others, this model contradicts this notion arguing that trade is beneficial for all countries that take part in the international trade (Feenstra, 2003). Its built on six basic assumptions: (1) Two countries are involved in the trade; (2) there are only two goods produced; (3) labor is the sole factor of production (Goodwin, Nelson, Harris, Roach, & Devine, 2009); (4) there is perfect competition across all markets such that goods are priced at cost in the nations producing them; (5) an assumption that labor is homogeneous within domestic boundaries, however, its productivity is different across the nations; and (6) the goods produced are viewed as homogeneous across the countries (Stern, 2011). According to this model of trade, gains from the trade become possible because of the comparative advantage. The basic idea is that if a country has to benefit from the trade, it is the country’s opportunity cost that matters and not its actual costs. The opportunity cost of a given product (a) is how much of some other product, (b); one country has to give up in order to produce one unit of the other product (a) (Carbaugh, 2010). Based on this explanation therefore, each country will stand to benefit only if it produces a particular good for which it has the lowest opportunity cost. A country’s opportunity cost is what will create gain in the fr ee trade. The gains from the trade are made possible due to comparative advantage that one country has over the other. Comparative advantage comes in if the opportunity cost of producing that good in terms of others goods is less compared to the other country. Thus if the opportunity cost of country A is lower than the opportunity cost of country B, then country A has a comparative advantage over country B. Therefore both countries benefit from the free trade if each country exports the goods with which it has a comparative advantage over the other. The Heckscher-Ohlin (H-O) Model of Trade Heckscher and Ohlin in there theory explain that the basis for international trade is due to factor endowments. This theory is an advancement of the Ricardian model of international trade that advocated for the comparative advantage as the basis for international trade. The Ricardian model failed to explain how the comparative cost advantage exists (Goodwin, Nelson, Harris, Roach, & Devine, 2009). This theory on the other hand proposes that this difference in comparative costs is due to: (1) differences in endowment of the factors of production; (2) the fact that production is dependent on the factors of production which are used with different degrees of intensity in the two countries. Therefore, this theory advances that the differences in factor intensities in the production functions of goods and the actual differences in relative factor endowments of the countries which explain international differences in the