ADM 3318 Lecture Notes - Lecture 6: Factor Endowment, Diminishing Returns, Comparative Advantage
16 Jun 2018
School
Department
Course
Professor
Trade Theory
Some theories and economists
Adam Smith on free trade and prior to that - David Hume on anti
mercantilism (and zero sum game)
○
David Ricardo on comparative advantage
○
Heckscher & Ohlin add an emphasis on factor endowments
○
•
In short
Trade increases production and consumption
○
Definitive gain from trade
Even more so when countries leverage their advantages
§
○
Appears true even in situations where one country is efficient in multiple
areas and leverages comparative advantage
○
•
Some key assumptions
No transportation costs
○
Prices are the same, there is no foreign exchange rates and it is as good as
barter
○
Constant returns to scale for the resource
Sometimes producing something might require less or more
resources than before
§
After a while, you will need more resources to produce higher
quality products
§
○
Easy diversion of resources (deployment) from one kind of output to
another
A worker with one set of skills might not be able to switch jobs so
easier
§
Job skills are not substitutable
§
○
Both countries have fixed set of resources and trade does not alter this
scenario
○
No effect of trade on income distribution within the country
Trade affects income distribution
§
A person won't be able to just switch jobs just because they want to
§
○
Some impacts of these assumptions
Law of diminishing returns
Quality of resource at play□
Interplay of resources allocation - more land or more people
for any one activity
□
§
Dynamic effects
Country's resources may be impacted
Release of "resources" blocked earlier due to inefficient
usage
®
□
Competitive forces at work□
§
○
•
Theories
Heckscher Ohlin - More on Comparative Advantage
The argument
Comparative advantage not just based on efficiency in
production but also differential national factor endowments
□
Can be land, labour, capital, or any other □
Theoretically powerful and seems to explain trade theory to a
very large degree
□
§
○
The Product Life Cycle Theory
The argument
New products get developed in advanced societies - largely
driven by domestic wealth and therefore consumption
This incentivises new products and also pushes down
cost
®
□
In the meanwhile, demand for these products is continuously
felt in other countries - insufficient to manufacture locally
□
This changes as demand pricks up in other countries □
Domestic cost pressures push production out of the host
country
□
New set of nations may develop comparative advantages
based on the "new" skills which could include just labour
arbitraging
□
§
○
The New Trade Theory
Key arguments
Economies of scale dictate significant advantages in trade
Some countries is so good in creating a product, they
create the trade direction
®
No other country is able to compete with them
®
First mover advantage is very important
It can define a market
◊
®
□
Resultantly, "cost" of these goods will be low - propelling
consumption
□
The scale will result in truly "global" output and support a
handful of firms
Only a few firms are able to compete with each other,
since its so competitive
®
□
§
The issue
Is government intervention acceptable?
This contradicts all free-trade theory's basic argument
of "only market intervention"
®
Its possible that a firm becomes a global monopoly
®
Consumers would have to pay a higher price for
products since there is virtually no competition
®
□
§
○
Theory of Competitive Advantage
Michael Porter
Why are some nations very successful? Wat are the factors
that contribute to this?
Building on comparative advantage, the argument
really is that these four factors can influence each
other and that the government can influence
"demand", "structure, through regulations, etc.
◊
Firm strategy, structure and rivalry
Domestic conditions of the firm's competitive
situation - how competing firms are structured
and organized in term of rivalry
◊
Management ideology and focus
◊
Domestic rivalry push towards efficiency and
skilling
◊
®
Factor endowments - Factors of production
Can be labour - in current scenario, skilled labour
◊
Infrastructure (telecommunications, roads,
transportation, warehouses, factories)
◊
Hierarchy of factors - basic and advanced
◊
®
Demand conditions
Domestic demand, local consumptions, local
requirements
The more demand, the better for the
company
}
◊
Drives product development, innovation and
initial demand trust
Also aided by/depends on levels of
sophistication of the consumer
}
◊
®
Related and supporting industries
Competitive supplier/vendor relationships that
exist
◊
Supporting and complementary industries
◊
Business clusters help knowledge dissemination
◊
®
□
Why do countries that "should succeed" fail?□
Comparative Advantage vs. Competitive Advantage □
§
○
•
Class 6 -Jan. 24th
Wednesday, January 24, 2018
08:28
Document Summary
Adam smith on free trade and prior to that - david hume on anti mercantilism (and zero sum game) Heckscher & ohlin add an emphasis on factor endowments. Even more so when countries leverage their advantages. Appears true even in situations where one country is efficient in multiple areas and leverages comparative advantage. Prices are the same, there is no foreign exchange rates and it is as good as barter. Sometimes producing something might require less or more resources than before. After a while, you will need more resources to produce higher quality products. Easy diversion of resources (deployment) from one kind of output to another. A worker with one set of skills might not be able to switch jobs so easier. Both countries have fixed set of resources and trade does not alter this scenario. No effect of trade on income distribution within the country. A person won"t be able to just switch jobs just because they want to.
