International Trade and Finance: Theories, Policies, and Institutions
TEMA 2: International Trade Theories and Policies
Classical Trade Theories
Free Trade and Comparative Advantage
Smith, Ricardo, and Heckscher-Ohlin advocate for free trade based on the principle of comparative advantage, where countries specialize in producing goods they are most efficient at.
Ohlin suggests that advanced countries specialize in capital-intensive goods, while poor countries focus on labor-intensive goods.
Stolper-Samuelson theorem states that owners of abundant factors of production benefit from free trade, while those with scarce factors may oppose it.
New Trade Theory and Strategic Trade Policy
New Trade Theory emphasizes the role of economies of scale and first-mover advantages in international trade, suggesting that government intervention can be beneficial in certain cases.
Porter’s Diamond framework identifies four determinants of national competitive advantage: factor endowments, demand conditions, related and supporting industries, and firm strategy, structure, and rivalry.
Political and Economic Rationales for Intervention
Political intervention aims to protect the interests of specific groups, such as domestic industries and jobs, from foreign competition.
Economic intervention seeks to boost overall wealth through measures like:
- Infant industry argument: Protecting new industries until they can compete internationally.
- Strategic trade policy: Helping domestic firms gain first-mover advantages in global markets.
Instruments of Trade Policy
Governments use various instruments to regulate international trade, including:
- Tariffs: Taxes on imported goods.
- Subsidies: Government payments to domestic producers.
- Import quotas: Restrictions on the quantity of imports.
- Voluntary export restraints: Quotas imposed by exporting countries.
- Local content requirements: Mandating a certain proportion of domestic production in goods.
- Administrative policies: Bureaucratic rules that hinder imports.
- Anti-dumping policies: Measures against goods sold below production cost.
The World Trade Organization (WTO)
The General Agreement on Tariffs and Trade (GATT), established after World War II, aimed to reduce trade barriers and promote free trade. In 1995, it was replaced by the World Trade Organization (WTO), which has a broader mandate and a more effective dispute settlement mechanism.
The WTO’s principles include:
- Market liberalism
- Non-discrimination
- A comprehensive set of trade rules
Key areas of focus for the WTO include anti-dumping policies, agricultural protectionism, intellectual property rights, and market access for non-agricultural goods and services.
Regional Trade Agreements
Regional trade agreements (RTAs) have proliferated since the 1950s, with varying levels of economic integration:
- Preferential trade agreements: Liberalize trade in selected products.
- Free trade areas: Eliminate tariffs and quotas among member countries.
- Customs unions: Establish a common external tariff.
- Common markets: Allow free movement of factors of production.
- Economic unions: Coordinate macroeconomic policies.
The European Union is the most advanced example of economic integration.
TEMA 1: The Global Political Economy
Hegemonic Stability Theory
Hegemonic stability theory posits that a stable global economic order requires a single dominant state with the capability and willingness to enforce rules and prevent free-riding.
Stages of Development in the World Economy
- Mercantilism (pre-1870): Characterized by state intervention and protectionism.
- Liberal era (1870-1913): Marked by industrial revolution, free trade, and the gold standard.
- Interwar period (1914-1945): A period of economic nationalism and protectionism.
- Post-war period (1945-1970): The golden era of economic growth and multilateralism under the Bretton Woods system.
- Globalization (post-1970): Increasing interdependence, global trade, and the rise of transnational corporations (TNCs).
The Gold Standard and Bretton Woods System
The gold standard, with fixed exchange rates pegged to gold, aimed to achieve balance of trade equilibrium and reduce uncertainty. The Bretton Woods system, established after World War II, was an adjustable peg system with the US dollar as the reserve currency. Its collapse in 1971 led to a shift towards floating exchange rates.
China’s Rise
China’s economic success is attributed to a combination of factors, including:
- Foreign direct investment
- Active industrial policy
- State-led capitalism
- Selective decoupling from the global economy
- Strong leadership
Transnational Corporations (TNCs)
TNCs play a significant role in shaping the world economy by coordinating global production and taking advantage of geopolitical differences.
TEMA 3: The International Monetary System
Exchange Rates
Exchange rates determine the value of one currency relative to another. Different types of exchange rates include:
- Spot exchange rate: The current exchange rate.
- Forward exchange rate: The exchange rate for a future date.
- Nominal exchange rate: The exchange rate at a given time.
- Real exchange rate: The nominal exchange rate adjusted for inflation.
- Effective exchange rate: A weighted average of exchange rates against a basket of currencies.
Exchange Rate Regimes
- Floating exchange rates: Determined by supply and demand in the foreign exchange market.
- Fixed exchange rates: Set at a predetermined level by governments.
- Dirty float: A mix of floating and government intervention.
- Pegged exchange rate: Fixed to a reference currency.
Monetary and Fiscal Policy
Governments use monetary and fiscal policy to achieve internal and external balance. Expansionary policies stimulate economic growth, while contractionary policies aim to control inflation.
Financial Crises
Financial crises can take various forms:
- Currency crisis: Speculative attacks on a currency, leading to depreciation.
- Banking crisis: Loss of confidence in the banking system.
- Foreign debt crisis: Inability to service foreign debt obligations.