Modern Trade Theories

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International Economics
Chapter 3

• Modern Trade Theories

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Chapter 3 Modern Trade Thoeries

• 3.1 The Existence of Intraindustry trade
• 3.2 Technological gap, Product life Cycle and
  International Trade
• 3.3 Theory of Overlapping Demands
• 3.4 Economies of Scale, Imperfect competition,
  and International Trade
• 3.5 Reciprocal Dumping

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3.1 The Existence of Intraindustry Trade

• Advanced industrial countries have increasingly
  emphasized intraindustry trade two-way trade in
  a similar commodity.
• Intraindustry trade involves flows of goods with
  similar factor requirements. countries that are
  net exporters of manufactured goods embodying
  sophisticated technology also purchase such goods
  from other countries.

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3.1 The Existence of Intraindustry Trade

• Intraindustry Trade in the U.S., 2002
• ( in Billion of Dollars)

Category Exports Imports
Motor Vehicles 60.39 168.1
Electrical machinery 82.7 81.2
Office machines 39.7 76.9
Telecommunications equipment 24.9 66.3
Power-generating equipment 34.4 34.0
Industrial machinery 31.8 35.2
Scientific instruments 29.2 20.9
Transportation equipment 46.1 20.2
Chemicals 16.8 30.2
Apparel and clothing 8.0 63.8
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3.1 The Existence of Intraindustry Trade

• Reasons for Intraindustry Trade
• Transportation costs
• Seasonal
• Manufacturers in each country produce for the
  majority consumer tastes within their country
  while ignoring minority consumer tastes
• Overlapping demand segments in trading countries
• Economies of scale

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Chapter 3 Modern Trade Thoeries

• 3.1 The Existence of Intraindustry trade
• 3.2 Technological gap, Product life Cycle and
  International Trade
• 3.3 Theory of Overlapping Demands
• 3.4 Economies of Scale, Imperfect competition,
  and International Trade
• 3.5 Reciprocal Dumping

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3.2 Technological Gap, Product Life Cycle and
International Trade

• Technological gap is a cause of international
  trade and determines the flow of international
  trade.

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3.2 Technological Gap, Product Life Cycle and
International Trade

• T0-T1 the stage of demand lag
• the time lag from the invention of new products
  in innovating countries to the acceptance of
  importing countries.
• T0-T3 the stage of imitation lag
• the time interval from the invention of new
  products in innovating countries to generic
  production until the import is zero.
• T0-T2 the stage of response lag
• the time lag from the invention of new products
  to imitation of importing countries.
• T2-T3 the stage of grasp lag
• from imitation to no import until the generic
  production can meet domestic demand and turn to
  export.
• T1-T3 is the trading period caused by
  technological gap.

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3.2 Technological Gap, Product Life Cycle and
International Trade

• The technological gap theories explain the causes
  of trade among different countries from the
  perspective of comparative advantage, and prove
  that leading technology can form comparative
  advantage even among the countries with close
  endowments and tastes.
• However, the theory hasnt explained the transfer
  of trade flow and the causes of the emergence and
  disappearance of technological gap.

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3.2 Technological Gap, Product Life Cycle and
International Trade

• The life cycle of products means all products
  will experience the course of innovation, growth,
  maturity and decline.
• The stage of new products
• The stage of mature technique
• The stage of standardization

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3.2 Technological Gap, Product Life Cycle and
International Trade

• Model of Product Life Cycle

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3.2 Technological Gap, Product Life Cycle and
International Trade

• O- t1
• the introduction of new products
• t1-t2
• the growing period of products
• t2-t3
• the maturing period of products
• t3-t4
• The innovating country can manufacture the
  identical cheaper products than the inventing
  country by native cheap non-skilled labor, sell
  in the international market and compete with the
  inventing country.
• After t4
• Imitation countries begin to sell products to the
  inventing country, and the output of the
  inventing country will decrease so substantially
  as to come to a full stop. And the life cycle of
  the products will finish.

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Chapter 3 Modern Trade Thoeries

• 3.1 The Existence of Intraindustry trade
• 3.2 Technological gap, Product life Cycle and
  International Trade
• 3.3 Theory of Overlapping Demands
• 3.4 Economies of Scale, Imperfect competition,
  and International Trade
• 3.5 Reciprocal Dumping

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3.3 Theory of Overlapping Demands

• Wealthy (industrial) countries will likely trade
  with other wealthy countries, and poor
  (developing) countries will likely trade with
  other poor countries. The Linder hypothesis is
  thus known as the theory of overlapping demands.

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3.3 Theory of Overlapping Demands

• Linder does not rule out all trade in
  manufactured goods between wealthy and poor
  countries.
• There will always be some overlapping of demand
  structures some people in poor countries are
  wealthy, and some people in wealthy countries are
  poor.
• However, the potential for trade in manufactured
  goods is small when the extent of demand overlap
  is limited.

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Chapter 3 Modern Trade Thoeries

• 3.1 The Existence of Intraindustry trade
• 3.2 Technological gap, Product life Cycle and
  International Trade
• 3.3 Theory of Overlapping Demands
• 3.4 Economies of Scale, Imperfect competition,
  and International Trade
• 3.5 Reciprocal Dumping

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3.4 Economies of Scale, Imperfect Competition,
and International Trade

• Many industries are characterized by economies of
  scale (also referred to as increasing returns),
  so that the more efficient production is, the
  larger the scale at which it takes place.

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3.4 Economies of Scale, Imperfect Competition,
and International Trade

• Where there are economies of scale, doubling the
  inputs to an industry will more than double the
  industrys production.
• Relationship of Input to Output for a
  Hypothetical Industry

Output Total Labor Input Average Labor Input
5 10 2
10 15 1.5
15 20 1.3
20 25 1.25
25 30 1.2
30 35 1.17
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3.4 Economies of Scale, Imperfect Competition,
and International Trade

• Economies of Scale as a Basis for Trade

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3.4 Economies of Scale, Imperfect Competition,
and International Trade

• Economies of scale provide additional cost
  incentives for specialization in production.
• Instead of manufacturing only a few units of each
  and every product that domestic consumers desire
  to purchase, a country specializes in the
  manufacture of large amounts of a limited number
  of goods and trades for the remaining goods.
• Specialization in a few products allows a
  manufacturer to benefit from longer production
  runs which lead to decreasing average costs.

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3.4 Economies of Scale, Imperfect Competition,
and International Trade

• Trade and Specialization under Decreasing Costs

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3.4 Economies of Scale, Imperfect Competition,
and International Trade

• As South Korea moves to the right of Point A
  along its PPF, the relative cost of steel
  continues to decrease until South Korea totally
  specializes in steel production at Point C.
• Similarly, as the United States moves to the left
  of Point B along its PPF, the relative cost of
  computers continues to fall until the United
  States totally specializes in computers.
• Both countries can attain consumption points that
  are superior to those attained in the absence of
  trade.

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3.4 Economies of Scale, Imperfect Competition,
and International Trade

• In monopolistic competition models, two key
  assumptions are made to get around the problem of
  interdependence.
• First, each firm is assumed to be able to
  differentiate its product from that of its
  rivals.
• Second, each firm is assumed to take the prices
  charged by its rivals as given.

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3.4 Economies of Scale, Imperfect Competition,
and International Trade

• Equilibrium in Monopolistically Competitive Market

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3.4 Economies of Scale, Imperfect Competition,
and International Trade

• The number of firms in a monopolistically
  competitive market, and the prices they charge,
  are determined by two relationships.
• On one side, the more firms there are, the more
  intensely they compete, and hence the lower is
  the industry price. This relationship is
  represented by PP.
• On the other side, the more firms there are, the
  less each firm sells and therefore the higher is
  its average cost. This relationship is
  represented by CC.
• The equilibrium price and number of firms occur
  when price equals average cost, at the
  intersection of PP and CC.

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3.4 Economies of Scale, Imperfect Competition,
and International Trade

• Monopolistic Competition and Trade
• The number of firms in a monopolistically
  competitive industry and the prices they charge
  are affected by the size of the market.
• In larger markets there usually will be both more
  firms and more sales per firm consumers in a
  large market will be offered both lower prices
  and a greater variety of products than consumers
  in small markets.

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3.4 Economies of Scale, Imperfect Competition,
and International Trade

• An increase in the size of the market allows each
  firm, given other things equal, to produce more
  and thus have lower average cost. This is
  represented by a downward shift from CC1 to
  CC2.The result is a simultaneous increase in the
  number of firms (and hence in the variety of
  goods available) and fall in the price of each.

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Chapter 3 Modern Trade Thoeries

• 3.1 The Existence of Intraindustry trade
• 3.2 Technological gap, Product life Cycle and
  International Trade
• 3.3 Theory of Overlapping Demands
• 3.4 Economies of Scale, Imperfect competition,
  and International Trade
• 3.5 Reciprocal Dumping

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3.5 Reciprocal Dumping

• In general, the practice of charging different
  customers different prices is called price
  discrimination.
• The most common form of price discrimination in
  international trade is dumping, a pricing
  practice in which a firm charges a lower price
  for exported goods than it does for the same
  goods sold domestically.

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3.5 Reciprocal Dumping

• Each firm has an incentive to raid the other
  market, selling a few units at a price that is
  lower than the home market price but still above
  marginal cost.
• If both firms do this, however, the result will
  be the emergence of trade even though there is no
  initial difference in the price of the good in
  the two markets and there are some transportation
  costs.
• The situation in which dumping leads to a two-way
  trade in the same product is known as reciprocal
  dumping.