Theories of Trade and

Trade Policy Framework

Overview

Objectives
After going through this presentation you will be able
to:
Explain trade theories
Describe the international trade policy framework
Explain:
o General Agreement on Tariffs and Trade (GATT)
o World Trade Organization (WTO)
o Regional trade blocs
o International Chamber of Commerce (ICC)

Need for International Trade

Many economists have devoted their time to the study
of Why and How international trade takes place.
International trade takes place because countries
import goods that cannot be produced within the
country more economically than those available
outside their countries.
Such imports are to be financed by their own exports
of goods and services that are more expensive in other
countries.

Important and Widely Accepted

Trade Theories (1 of 5)
Theory of Absolute
Advantage

Theory of Comparative
Advantage
Heckscher-Ohlin (HO)
Theory
Factor-Price
Equalization Theory

You will learn more about

each theory in the subsequent
slides.

Important and Widely Accepted

Trade Theories (2 of 5)
Theory of Absolute
Advantage

Theory of Comparative
Advantage
Heckscher-Ohlin (HO)
Theory
Factor-Price
Equalization Theory

Adam Smith (17231790) was the

first to recognize benefits of
specialization in trade. He was a
Scottish social philosopher and
political economist.
Book: An Inquiry into the Nature
and Causes of the Wealth of
Nations (The Wealth of Nations)

Theory: Buy cheaper goods from

another country and sell ones
cheap goods to it so that both
countries can reap benefit.

Important and Widely Accepted

Trade Theories (3 of 5)
Theory of Absolute
Advantage

Theory of Comparative
Advantage
Heckscher-Ohlin (HO)
Theory
Factor-Price
Equalization Theory

David Ricardo refined Adam

Smiths idea of Absolute
Advantage to Comparative
Advantage.
Theory: A nations comparative
advantage depends on the
productivity of its labour.
How:
1. Compare productivity across
industries and countries.
2. Trade in the best goods.

Important and Widely Accepted

Trade Theories (4 of 5)
Theory of Absolute
Advantage

Theory of Comparative
Advantage
Heckscher-Ohlin (HO)
Theory
Factor-Price
Equalization Theory

Assumption: Different countries

have different quantities of
various factors of production such
as land, labour, capital, and
natural resources, but have
identical production functions.
Theory:
Explanation of productivity
difference in terms of the
relative factor endowments of
countries
Incorporation of the principle
of comparative advantage

Important and Widely Accepted

Trade Theories (5 of 5)
Theory of Absolute
Advantage

Theory of Comparative
Advantage
Heckscher-Ohlin (HO)
Theory
Factor-Price
Equalization Theory

Theory: Free mobility of factors of

production across national
boundaries maximizes efficiency
in a global economy.
Assumptions:
Prices of most abundantly
utilized resources tend to rise
while the prices of relatively
scarcely used resources fall.
Over a period of time, factorprice equalization eliminates
comparative advantage,
depending on factor price.

Relevance of Trade Theories

Trade theories do not explain the changes in
international markets completely.
Modern international trade takes place in a complex
environment; one theory cannot fully explain the
various issues involved.
However, trade theories provide an insight into how
international trade has charted its course over the
years.

International Trade Policy Framework

General Agreement on Tariffs and Trade (GATT) was
established after World War II to promote trade among
countries.

The goal of GATT was to create:

A strong and prosperous trading

system to propel growth
Since the establishment of GATT, there has been
tremendous growth in the volume of trade among
countries.

GATT and WTO: Introduction

The trading system was developed through a series of
trade negotiations called Rounds of Discussions held
under GATT. The areas of focus for GATT were as
follows:

Later, it covered areas

The
goal ofit GATT
was
a strong
and prosperous
Initially,
aimed
at to createsuch
as anti-dumping
trading
system to propel growth.
tariff reductions.
and non-tariff
measures.

Dumping refers to selling below fair market

value. By dumping, domestic producers and
traders may be driven out of the market.

GATT and WTO: Evolution

GATT evolved into the World Trade Organization (WTO)
and progressed as follows:
1

1986 to 1994: The Uruguay

round of discussions took
place.

1995: WTO came into being,

as a successor to GATT.

February 1997: Agreement

was reached on
telecommunication services
and tariff-free information
technology products.

Financial services deals

covering banking,
insurance, finance, and
securities were finalized.

2000: Talks on
agriculture and allied
products started.

Doha Development
Agenda (DDA) is now in
progress.

Regional Trade Blocs

Trade blocs are groups of countries that have
established preferential trade arrangement among
member countries. Regional trade blocs have the
following features:

They continue to exist

and exert influence
amidst increasing global
integration.

There are some potential

negative effects of such
regional trade
agreements. It is difficult
to disband such regional
blocs.

Major Regional Trade Blocs

Some of the major regional trade blocs are:

Association of
South East Asian
Nations (ASEAN)

Asia-Pacific
Economic Cooperation (APEC)

British
Commonwealth

European Union

North American
Free Trade
Association
(NAFTA)

Commonwealth of
Independent States
(CIS)

South Asian
Association for
Regional Cooperation (SAARC)

G7/G15/G77

ICC: Introduction
International Chamber of
Commerce (ICC) was
founded in 1919, after
World War I, with the aim
of providing support to:
Trade
Investment
Open markets
Free flow of capital

Its headquarter is in Paris,

France. ICC maintains
contact with members
through conferences and
biennial congresses.

International Court of
Arbitration was created in
1923. It has around
thousand companies in
over 130 countries as its
members.

ICC: Functional Wings

International Bureau of
Chambers of Commerce
(IBCC) was created in
1951. It was renamed
World Chambers
Federation in 2001.
International
Maritime
Bureau deals
with all types
of maritime
crimes.

Institute of World
Business Law was
created in 1979 to
study legal issues
relating to
international business.

Counterfeiting
Intelligence
Bureau and
Financial
Investigation
Bureau are two
other wings.

Three LondonBased Services

were established
to combat
commercial
crimes.

ICC Commercial Crimes Services coordinates the efforts of:

International Maritime Bureau
Counterfeiting Intelligence
Bureau
Financial Investigation Bureau

ICC and Banks

ICC has published many
documents for smooth
operation of international
trade. These documents are
used by all parties taking part
in international trade
transactions.
Banks being an integral part
of such trade, also use these
publications in their day-today operations.

Such ICC publications include:

Uniform Customs and
Practice for Documentary
Credits (UCPDC)
Uniform Rules for
Collection (URC)
International Commercial
Terms (INCO Terms)
These publications have
immensely helped
development of trade and
commerce among nations.

Summary
In this presentation you learnt:
Trade theories
The international trade policy framework
GATT
WTO
Regional trade blocs
ICC
Image Sources:
ASEAN: http://www.aadmerpartnership.org/wp-content/uploads/2012/09/ASEAN-Logo.gif
APEC: http://cdapec.ru/VWGDE/images/apec.jpg
British Commonwealth: http://img3.wikia.nocookie.net/__cb20130908160752/thehungergames/images/a/ab/Bcom-f.gif
European Union: http://europa.eu/about-eu/basic-information/symbols/images/flag_yellow_high.jpg
NAFTA: http://c85c7a.medialib.glogster.com/media/ea/ea46b2a4b0138da487ac8a219392a2044c5f8ddbff81c0f524aee035a68d2d99/nafta-logo.gif
CIS: http://react.usip.org/pub/m1/images/cois.png
SAARC: http://www.nepalnews.com/images/Photos/Politics/SAARC_logo.jpg
G7/G15/G77:
http://static.guim.co.uk/sys-images/Observer/Columnist/Columnists/2011/8/12/1313173934446/Italian-government-meetin-007.jpg