Nature of International Trade, Labour Productivity and Comparative Advantage

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Subject: Nature of International Trade, labor Productivity and comparative advantage


Trade refers to buying and selling of goods and services for money or money's worth. It involves transfer or exchange of goods and services for money or money's worth. The manufacturers or producer produces the goods, then moves on to the wholesaler, then to retailer and finally to the ultimate consumer.

Trade is essential for satisfaction of human wants, Trade is conducted not only for the sake of earning profit; it also provides service to the consumers. Trade is an important social activity because the society needs uninterrupted supply of goods forever increasing and ever changing but never ending human wants.

Different Types of Trade

Trade can be divided into following two types, viz.

  • Internal or Home or Domestic trade.
  • External or Foreign or International trade

1. Internal Trade

Internal trade is also known as Home trade. It is conducted within the political and geographical boundaries of a country. It can be at local level, regional level or national level. Hence trade carried on among traders of Delhi, Mumbai, etc. is called home trade.

Internal trade can be further sub-divided into two groups, viz.

  • Wholesale Trade: It involves buying in large quantities from producers or manufacturers and selling in lots to retailers for resale to consumers. The wholesaler is a link between manufacturer and retailer. A wholesaler occupies prominent position since manufacturers as well as retailers both are dependent upon him. Wholesaler act as a intermediary between producers and retailers.
  • Retail Trade: It involves buying in smaller lots from the wholesalers and selling in very small quantities to the consumers for personal use. The retailer is the last link in the chain of distribution. He establishes a link between wholesalers and consumers. There are different types of retailers small as well as large. Small scale retailers include hawkers, peddlers, general shops, etc.

2. External Trade

External trade also called as ForeignHYPERLINK "" trade. It refers to buying and selling between two or more countries. For instance, If Mr. X who is a trader from Mumbai sells his goods to Mr. Y another trader from New York then this is an example of foreign trade.

External trade can be further sub-divided into three groups, viz.

  • Export Trade: When a trader from home country sells his goods to a trader located in another country, it is called export trade. For e.g. a trader from India sells his goods to a trader located in China.
  • Import Trade: When a trader in home country obtains or purchase goods from a trader located in another country, it is called import trade. For e.g. a trader from India purchase goods from a trader located in China.
  • Entrepot Trade: When goods are imported from one country and then re-exported after doing some processing, it is called entrepot trade. In brief, it can be also called as re-export of processed imported goods. For e.g. an Indian trader (from India) purchase some raw material or spare parts from a Japanese trader (from Japan), then assembles it i.e. convert into finished goods and then re-export to an American trader (in U.S.A).

Reasons of Trade:

  • Different factor endowments– some economies are rich in natural resources while others have relatively little. Trade enables economies to specialize in the export of some resources and earn revenue to pay for imports of other goods.
  • Increased welfare– specialization (where countries have a comparative advantage – see the next section for more detail on this) and trade allow countries to gain a higher level of consumption than they would do domestically and this leads to increased welfare and higher living standards.
  • To gaineconomies of scale– with specialization and production on a larger scale than may be possible domestically, a country may be able to gain more economies of scale. This will lead to lower average costs and benefit consumers through lower prices.
  • Diversity of choice– trade enables us to access goods and services that we may not be able to produce ourselves. What would be an example in your country of goods that you can only get through trade?
  • Political / historical reasons– some trade takes place for political and other reasons relating to history and tradition, though this is generally diminishing in importance.
  • Increased competition– increased global competition may help to spur domestic productivity improvements and give domestic firms a better incentive to innovate and improve their products. This will benefit consumers.
  • Trade may be an‘engine for growth’– increased trade may help to spur greater domestic economic growth and drive further improvements in living standards.

Labor productivity

Labor productivityis the amount ofgoodsandservicesthat aworkerproduces in a given amount of time. It is one of several types ofproductivitythateconomistsmeasure. Workforce productivity can be measured for a firm, a process, an industry, or a country. It is often referred to asWorkforce productivity.

Workforce productivity can be measured in 2 ways, in physical terms or in price terms.

  • The intensity of labor-effort, and the quality of labor effort generally.
  • The creative activity involved in producing technical innovations.
  • The relative efficiency gains resulting from different systems of management, organization, co-ordination or engineering.
  • The productive effects of some forms of labor on other forms of labor.

The factors affecting labor productivity or the performance of individual work roles are of broadly the same type as those that affect the performance of manufacturing firms as a whole. They include:

(1) Physical-organic, location, and technological factors.

(2) Cultural belief-value and individual attitudinal, motivational and behavioural factors.

(3) International influences – e.g. levels of innovativeness and efficiency on the part of the owners and managers of inward investing foreign companies.

(4) Managerial-organizational and wider economic and political-legal environments.

(5) Levels of flexibility in internal labor markets and the organization of work activities – e.g. the presence or absence of traditional craft demarcation lines and barriers to occupational entry.

(6) Individual rewards and payment systems, and the effectiveness of personnel managers and others in recruiting, training, communicating with, and performance-motivating employees on the basis of pay and other incentives.

Comparative Advantage

Comparative advantage is an economic theory about the potentialgains from tradefor individuals, firms, or nations that arise from differences in theirfactor endowmentsortechnological progress.In aneconomic model, anagenthas a comparative advantage over another in producing a particulargoodif she can produce that good at a lower relativeopportunity costorautarky price i.e. at a lower relativemarginal costprior to trade. The closely-relatedlaworprinciple of comparative advantageholds that underfree trade, an agent will produce more of and consume less of a good for which she has a comparative advantage. Further, if two countries capable of producing the same two commodities engage infree HYPERLINK ""trade, then each country will increase its overall consumption by exporting the good for which it has a comparative advantage while importing the other good, provided that there exist differences inlabor productivitybetween both countries.


Protectionism is the economic policy of restraining trade between states (countries) through methods such as tariffs on imported goods, restrictive quotas, and a variety of other government regulations designed to allow fair competition between imports and goods and services produced domestically.

This policy contrasts with free trade, where government barriers to trade are kept to a minimum. In recent years, protectionism has become closely aligned with anti-globalization and anti-immigration. The term is mostly used in the context of economics, where protectionism refers to policies or doctrines which protect businesses and workers within a country by restricting or regulating trade with foreign nations.

Methods of Protectionism

A variety of methods have been used to achieve protectionist goals. These include:

  • Tariffs: Typically, tariffs (or taxes) are imposed on imported goods. Tariff rates usually vary according to the type of goods imported. Import tariffs will increase the cost to importers, and increase the price of imported goods in the local markets, thus lowering the quantity of goods imported, to favor local producers. Tariffs may also be imposed on exports, and in an economy with floating exchange rates, export tariffs have similar effects as import tariffs. However, since export tariffs are often perceived as 'hurting' local industries, while import tariffs are perceived as 'helping' local industries, export tariffs are seldom implemented.
  • Import quotas: To reduce the quantity and therefore increase the market price of imported goods. The economic effects of an import quota are similar to that of a tariff, except that the tax revenue gain from a tariff will instead be distributed to those who receive import licenses. Economists often suggest that import licenses be auctioned to the highest bidder, or that import quotas be replaced by an equivalent tariff.
  • Administrative barriers: Countries are sometimes accused of using their various administrative rules (e.g. regarding food safety, environmental standards, electrical safety, etc.) as a way to introduce barriers to imports.
  • Anti-dumping legislation: Supporters of anti-dumping laws argue that they prevent "dumping" of cheaper foreign goods that would cause local firms to close down. However, in practice, anti-dumping laws are usually used to impose trade tariffs on foreign exporters.
  • Direct subsidies: Government subsidies (in the form of lump-sum payments or cheap loans) are sometimes given to local firms that cannot compete well against imports. These subsidies are purported to "protect" local jobs, and to help local firms adjust to the world markets.
  • Export subsidies: Export subsidies are often used by governments to increase exports. Export subsidies have the opposite effect of export tariffs because exporters get payment, which is a percentage or proportion of the value of exported. Export subsidies increase the amount of trade, and in a country with floating exchange rates, have effects similar to import subsidies.
  • Exchange rate manipulation: A government may intervene in the foreign exchange market to lower the value of its currency by selling its currency in the foreign exchange market. Doing so will raise the cost of imports and lower the cost of exports, leading to an improvement in its trade balance. However, such a policy is only effective in the short run, as it will most likely lead to inflation in the country, which will in turn raise the cost of exports, and reduce the relative price of imports.