Professional Documents
Culture Documents
Amanpreet Kang
Recap
What will we learn in the subject? Concerned with answering what, how and whom? Depends on ownership of resources and their allocation Market, command and mixed International economics external influence, economic relationship and interdependence Nations Categories basis of income, developed and developing status, newly industrialized economies, transition economies Regional integration, economic gap, NIE
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Basics
Economic ideas, concept, theory/theoretical framework Examples of economic ideas tribals In India, elsewhere All theoretical frameworks are related to stages of economic development Meaning/ relevance of an idea related to the stage of economic development What happens in the economy gets reflected in the economic thought
Basics
We are discussing 14th to 18th Century Merchants as a class emerged
Problems, perceptions and activities Needed some changes in the society for their own benefit Acquired capital through trade and margin
Basics
Felt that state should intervene Cameralism increase wealth Ideas did not work
Promoted trade but ignored agriculture France and Germany suffered
Physiocrats/ Physiocracy near nature William Petty circulation of wealth in the society Productive, proprietary, sterile class Only productive activity? Nature works with human beings State should be third party and not intervene
Basics
Mercantilism was the economic philosophy underlying early European colonial policy. The object of mercantilism was to increase the wealth of the Mother Country (England) in gold and silver. To accomplish that goal, a favorable balance of trade was desired. That means that a nation would sell more than it would purchase, thus creating a surplus in the treasury. The name of the philosophy points out the importance of merchants in this policy. Merchants would sell products to foreign nations and purchased items to be sold within the nation. Theorists using this model tended to view the market as a pie that was up for grabs. Wealth was always gained at the expense of other nations. For some, the ideal was to become self-sufficient. The nation would produce everything its people needed and buy nothing from foreign nations -- thus the idea of the trade deficit. Since the ideal could not be accomplished in the real world of economics, the object of mercantilism was to minimize imports that cost money and maximize exports and the trade that brought money in to the nation.
Mercantilism
Nascent stage of development of economic ideas. Group of ideas and policies. 15th to 18th Century (approximately) Mercantilism is closely associated with trade and commercial activities of an economy. Economic counterpart of political nationalism and prevalent during the days when nation states were formed. Colbertism in France Cameralism in Germany Mercantilism aimed at state power; primary agent for unification; interested in the wealth of nations; expression of capital needs of the rising merchant class needed a strong state to protect them and needed capital for trade.
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Mercantilism
Only a wealthy country could have and maintain strong armed forces and nations unity is a prerequisite for states power. Mercantilists wanted an enhancement of state power through economic means. Later theorists differed from mercantilists in not the objective of strengthening the state but the means applied to achieve this objective. To mercantilists - state power was the military power which in turn needed wealth (money and treasure) and to others state power would emerge from the wealth and productive power of nations. 2 additional forces lure for gold and discovery of new trade routes to expand foreign trade, add new colonies, etc.
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Mercantilism
Devices and mechanisms for achieving mercantilist objectives: 1. Balance of trade and specie flow Bullionism Mercantilism Proper 2. Quantity of Money and Rate of Interest inflationary effect, decrease in interest rates and increase finance resource Other regulations Payment of wages Regulation of trade by the nation state additional income sources like insurance and freight charges
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3.
Mercantilism
Criticisms: Not all nations could have a positive/ surplus balance of trade Gain of one state at the loss of the others
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Basics
Competition perfect??? 2 countries 2 products Only one factor of production Labor mobile between sectors and not countries Constant returns to scale Technology is constant No transport costs
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Analytical Tools
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Thus, the production possibility curve represents efficient Good Y output combinations. All possible combinations of
final output (including non-optimal combinations) is called the production possibility set
Good X
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C1
C2
W1
W2
Good X
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C1
P2
W2
Good X
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Good X
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Good X
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A2 E A A1
B B2 B1
Good X
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Perfect competition
No transport costs
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Cars
US aC J aC
Japan
Japan
Note that the USA is more efficient than Japan for the production of Food (requires 2 < 3 labourers), while Japan is more efficient than the USA in the production of cars (requires 6 < 8 labourers). In autarky (without international trade) both countries will produce both goods if consumers demand both Food and Cars.
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production of cars:
production of food:
-1
+4
+1
-2
0
+2
25
27
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EU
Kenya
EU aF K aF
EU
Kenya
2
4
8
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Note that the EU is more efficient than Kenya in the production of both goods, requiring 2 < 4 laborers for Food and 8 < 24 laborers for Chemicals. Why would the EU trade with Kenya? Note: EU is twice more productive in Food, and three times in Chem. In autarky (without international trade) both countries will produce both goods if consumers demand both Food and Chemicals.
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Conclusion:
production of chem. production of food
EU
+1 -4
Total labor available and maximum production levels Total labor available EU Kenya 200 120 EU Kenya Maximum production Food 100 30 Chemicals 25 5
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E1 World ppf D
Chemicals
Cmax
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More than two countries Variable costs of production Production under conditions of increasing costs
Production under conditions of increasing costs
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Capital charges
Examines the effect of international trade on factor prices and states that free international trade equalises factor prices between countries, relatively and absolutely, and thus serves as a substitute for international factor mobility.
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Factors of production are considered scarce or abundant in relative terms and not absolute terms.
In country A vs. B: Supply of labour = 25 units vs. 12 units Supply of capital = 20 units vs. 15 units Relative ? Absolute ?
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Both product and factor markets in both countries are characterised by perfect competition
Factors of production are perfectly mobile within each country but immobile between countries
Techniques of producing the identical goods are the same in both countries
Factor intensity varies between goods.
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Free international trade equalises factor prices between countries, relatively and absolutely, and this serves as a substitute for international factor mobility.
International trade increases demand for abundant factors leading to increase in their prices and decrease in the demand for scarce factors, leading to a fall in their prices, because when nations trade, specializations take place on the basis of factor endowments.
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Leontief Paradox
US has scarce labour, abundant capital If factor proportions theory is correct, US should export, capital intensive goods Leontiefs test disapproved this hypothesis Took 2 factors, labour and capital Assumed US decreased production of exports and imports by $1mn. When exports decreased, capital and labour are set free. As imports have been decreased, more labour & capital needed to manufacture the same quantity of imports. As US exports are capital intensive and imports labour intensive, labour freed, will not be sufficient to manufacture labour intensive imports. Also, there will be extra capital available.
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Leontief Paradox
Leontiefs test however showed that ratio of capital to labour was higher in import substitution industries than export industries. He hence concluded that America participated in international trade by specialisation in labour intensive rather than capital intensive lines of production.
Explanation: 1) Leontief suggested: Though labour was scarce vis--vis capital, effective supply of labour was greater because of higher productivity of American labour. Exclusion from study certain factors, which would also determine the countrys productive capacity.
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Leontief Paradox
2) Production functions i.e. ways of producing goods are not identical between countries. Leontief should have studied whether goods imported into US were capital or labour intensive. 3) Differences in demand patterns domestic demand not considered. A country may consume goods that are produced using its abundant factor. 4) Trade barriers 5) Human capital and R&D 7) Factor intensity reversal Depending on the use of a factors of production in production process. Production process may vary between countries.
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Availability and Non Availability Theory 4 basis of availability factor natural resources, technological progress, product differentiation, government policy. Absence of free trade and competition, limits trade to goods that cannot be produced by the importing country. The most important restriction on international trade are those imposed 49 by governments and by cartels.
1) Factor conditions: Depends on how efficiently and effectively are the factors employed. Advanced factors (R&D in sophisticated disciplines, highly educated personnel, modern communication infrastructure, etc.) Specialised factors (knowledge base in specific fields, narrowly skilled personnel, infrastructure with specialised properties, etc.) Basic factors (natural resources, climate, location, unskilled and semiskilled labour, etc.) Generalised factors (highway system, supply of debt capital, etc.)
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1) Factor conditions: Advanced and specialised factors are more critical in determining competitive advantage than the basic factors and generalised factors. Development of advanced and specialised factors demands concerted efforts and sustained investments in human and physical capital. Countries will succeed in industries where they are good at factor creation. Selective disadvantages in basic factors force a company to innovate and upgrade.
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2) Demand conditions: 3 attributes of home demand which influence competitive advantage are: Composition of home demand Size and pattern of growth of home demand Mechanism by which nations domestic demands are transmitted to foreign markets. Home demand gives the companies a clear and early picture of emerging buyer needs Demanding buyers pressurize companies to innovate faster.
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2) Demand conditions: Size and pattern of home demand reinforces the national advantage in an industry. Large home market size can lead companies to achieve economies of scale or learning. It also helps in case the same products are demanded in other countries also. Domestic demand internationalises and pull the products and services abroad.
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3) Related and supporting industries: If related and supporting industries are internationally competitive, they create advantages in downstream industries in several ways such as supply of most cost efficient inputs in an efficient way. Advantageous in innovating and upgrading based on close working relationships.
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4) Firm Strategy, structure and rivalry: Creation, organisation and management of companies Domestic rivalry powerful stimulating effect on others. Creates pressure to innovate and innovate in ways that upgrade the competitive advantage of a nations firms.
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Role of government and chance: Government influences each of the 4 determinants by industrial, fiscal and monetary policies, promotional and regulatory measures in respect of industry and trade Chance effects competitive position because of major technological breakthroughs and new inventions, political decisions by foreign governments, wars, shifts in financial markets, discontinuities in input costs, surges in world or regional demand
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Assignment
Cases Discussed 1) Case 1: Costa Rica: Using Foreign Trade to Trade up Economically Questions given in class 2) Case 2: Factor Mobility Theory in Information Technology Industry Questions at the end of the case
Reading material provided (mail sent) 3) International Investment and International Trade in the Product Cycle by Raymond Vernon Discuss what will be the direction of trade as per Vernons IPLC 4) The Competitive Advantage of Nations by Michael E. Porter
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References
1. International Economics, Francis Cherunilam (5th Edition), Mc Graw Hill 2. International Economics, BO Sodersten and Geoffrey Reed (3rd Edition), Macmillan 3. International Economics, Paul Krugman and Maurice Obstfeld (6th Edition), Pearson Education
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