International Trade– Models, Benefits, Risks: Global Economic Outlook, 2013… Open Markets Drive Trade Development…

International Trade: Countries cannot live in isolation. They must mutually share their resources, technical know-how, products and services, and undertake international trade in order to grow their economies and prosper…

The world economies are closely inter-dependent; economic progress of all nations depends on their ties with other countries… International trade is a vital engine for economic development, and in most countries it represents a significant share of their gross domestic product (GDP)…

According to Ben Bernanke: In U. S., as best we can measure, international trade is critically important. According to one study that used four approaches to measuring the gains from international trade, the increase in trade since World War II has boosted U.S. annual incomes on the order of $10,000 per household (research by Bradford, Grieco, and Hufbauer).

The same study found that removing all remaining barriers to trade (i.e., free trade) would raise U.S. incomes anywhere from $4,000 to $12,000 per household. Other research has found similar results. Our willingness to trade freely with the world is indeed an essential source of our prosperity– and I think it’s safe to say that the importance of trade for the U.S. will continue to grow…

While international trade has been present throughout much of history, its economic, social, and political importance has been on the rise in recent centuries… The classical model of international trade was developed over 200 years ago by Adam Smith. He believed that different countries possessed unique advantages in the production of certain goods. He then showed that world output would rise if countries traded freely along the lines of their productive advantages…

Torrens and Ricardo expanded on this theory by showing that even if a country did not have an absolute advantage in any goods, both it and other countries would still benefit from international trade. This would be the case if countries specialized in the production of goods with which they had the greatest absolute advantage, or the least absolute disadvantage– this is known as law of comparative advantage

Pre-trade relative prices, in many cases, determine the direction of comparative advantage and therefore the direction of trade… International trade is most commonly recognized as the exchange of goods or products; however, trading services such as, expertise in a particular field or the ability to facilitate the trade of goods is another common form of foreign trade.

Trading capital on the foreign exchange market (FOREX) represents a third facet of international trade. Capital or currency held for foreign trade fluctuates in value hourly due to political, business, weather and other conditions and factors from nation to nation. Trading currency in the international market attempts to profit from the rising value of one nation’s currency through selling the lower value of another nation’s capital…

trade2

In the article Different Types of International Trade Models?  by Peter Hann writes: International trade models may be traced back at least to the theory of absolute advantage put forward by Adam Smith. This theory demonstrated that it was beneficial for a country to specialize and to engage in international trade if it could produce some goods more efficiently than its trading partners.

This theory was further developed by the comparative advantage theory of David Ricardo, which showed that a country should specialize in those goods in whose production it was comparatively efficient. Ricardo’s theory has been further refined in more recent times to produce neo-Ricardian theory that uses fewer assumptions than the original theory.

Other important international trade models include; the Heckscher-Ohlin theory that emphasizes the importance of factors of production in a country, and the gravity theory that looks at the size and proximity of trading partners. While Smith only demonstrated that international trade was beneficial in certain specific circumstances, Ricardo’s theory showed it always makes sense for a country to specialize in producing those goods and services in which it is comparatively most efficient. This specialization increases productivity and boosts the total output of the country.

A country does not need to have an absolute advantage in producing goods provided the opportunity cost of producing the goods is lower than that of its trading partners in producing same goods. Ricardo’s theory of comparative advantage uses numerous assumptions. For example, it assumes that the only input to industrial production is labor and that labor is mobile between industries, but not between countries.

Modern refinements to Ricardian theory have produced international trade models that can demonstrate comparative advantage across a range of goods and countries, rather than Ricardo’s original model that used two countries and two categories of goods. The Heckscher-Ohlin model of international trade emphasizes the resources available in each country and stresses the importance of factors of production in each country. The abundance of factors such as, labor or capital in a country determines the type of international trade the country engages in.

The country produces and exports goods that take advantage of the factors of production that are abundant, and will import those goods that require the input of factors of production that are scarce in the country. International trade models also include the gravity model that looks at the economic mass of each country and the distance between the trading partners. The gravity model arrives at a prediction of the trade flows between the countries based on these elements and other factors such as, the historical context between countries that have affected trading patterns…

trade WO-AL110_WTO_G_20120917184511

Global Economic Outlook 2013, May 2013 Update: According to the World Trade Organization (WTO); global commerce is set to grow by 3.3% in 2013, as persistent gloom in the EU led it to cut a previous forecast of 4.5%. The announcement marked the second time that the WTO has reined in its figures for 2013, after initially estimating that world trade would expand by 5.6%.

The WTO report said: In 2013, improved economic prospects for U. S. should only partly offset continued weakness in the EU, whose economy is expected to remain flat or even contract slightly according to consensus estimates; and, China’s growth should continue to outpace other leading economies, cushioning the slowdown, but exports will still be constrained by weak demand in the EU. As a result, this year looks set to be a near repeat of 2012, with both trade and output expanding slowly…

In 2012, the WTO said, global commerce expanded by 2.0% from the level in 2011, compared with growth of 5.2% that year. In 2012, the dollar value of world merchandise exports increased by 0.2% to $18.3 trillion… That trend was driven by falling prices for traded goods with commodities such as; coffee, cotton, iron ore and coal seeing major drops, while oil remained relatively stable. Meanwhile, the value of world commercial services exports rose by 2.0% to $4.3 trillion…

 In 2013, First Quarter Trade Results: Merchandise trade growth increased in major economies during the First Quarter of 2013. Compared to Fourth Quarter of 2012, value of merchandise imports and exports for the total of G7 and BRICS countries increased by 1.3% and 2.8%, respectively. Compared to the previous quarter, merchandise– imports and exports– increased in First Quarter of 2013 in most major economies, for example: Germany (by 3.9% and 4.8%), China (by 0.9% and 5.6%), Brazil (by 5.1% and 4.9%), U. S. (by 0.7% and 1.0%), Italy (by 1.4% and 3.2%), Canada (by 1.6% and 1.2%), France (by 0.5% and 1.9%), and Russian Federation (by 4.9% and 0.0%).

Conversely imports grew and exports contracted in South Africa (by 4.3% and minus 0.3%), while the opposite pattern (i.e. imports contracted and exports increased) held in UK (by minus 0.3% and 1.3%) and in India (by minus 0.9% and 6.1%). In Japan, imports contracted slightly in the First Quarter of 2013 (by minus 0.1%), whereas exports decreased more significantly (by minus 2.3%) for the fourth consecutive quarter…

Most countries of the world cannot have a growing economy or lift the wages and incomes of their citizens unless reach beyond their borders and sell products, services… to the world’s populations…  Exports support millions of jobs worldwide, for example; in U.S. more than 50 million workers are employed by companies that are engaged in global trade, and this represents approximately 40% of the U.S. private sector workforce…

Often overlooked is the fact that more than 97% of the quarter million U.S. companies that export are small and medium-sized enterprises (SMEs), and they account for nearly a third of U.S. merchandise exports… International investment is also critical to the future prospects of world business, for example; multinational corporations earn trillions of dollars in revenue through their foreign operations, which create tremendous value for stakeholders…

There are both benefits and pitfalls in international trade, and how these are managed determines the relative success of operations… Consider benefits: When trading internationally the universe of potential customers and suppliers increases significantly… The idea that a business relies solely on one market (e.g., home country) and directs all its resources into a single currency may prove to be more risky than it may first seem. Just look at the number of unprecedented global disasters over the last few years and the drastic impacts these have had on markets…

While expanding beyond home markets can increase sales, provide better profit margins, reduce pricing pressure, and could reduce seasonal market fluctuations… The ability to stand out from competitors is a crucial factor in business: In the home market your business may be viewed as comparable to competitors, but when placed in another country’s environment it may be considered a unique product or service not to be missed. By making the product or service available to worldwide buyers, you instantly create another life-line for the business… boost sales potential and allow your business to flourish…

However there are pitfalls, in international trade, and the key is managing risk… First and foremost, it’s crucial that you have a clear understanding of what international trade involves. It’s easy to become engulfed in the excitement of its benefits and marginalize risks… For example, it’s dangerous to assume that laws in countries are similar to those of the home country… and most critical is the development of meaningful relationships in the target countries…

With so many aspects to consider when trading at an international level, it’s easy to leave currency exchange to the last-minute, and it could have a negative impact on business’ profit, and if you do not plan ahead, the market’s volatility could always change the worth of the currency– and not always for the best…

International trade and investment is inevitable part of world economy, but international trade has to be approached sensibly and with a clear thought process so as to maximize the benefits and minimize the risks…