This document discusses various economic theories of international trade and foreign direct investment. It begins by explaining the theories of absolute and comparative advantage in trade. It then introduces several modern firm-based theories that help explain intraindustry trade, including country similarity theory, product life cycle theory, and theories about sustaining competitive advantage. The document also discusses Porter's diamond of national competitive advantage and different types of international investment.
Comparative Advantage and International Trade Theories
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Absolute Advantage
Export those goods and services for
which a country is more productive
than other countries
Import those goods and services for
which other countries are more
productive than it is
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Comparative Advantage
Produce and export those goods and
services for which it is relatively more
productive than other countries
Import those goods and services for
which other countries are relatively
more productive than it is
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Differences between Comparative and
Absolute Advantage
Absolute versus relative productivity
differences
Comparative advantage incorporates
the concept of opportunity cost
– Value of what is given up to get the good
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Table 6.2 The Theory of Comparative
Advantage: An Example
Wine 4 1
Clock
radios
6 5
France Japan
OUTPUT PER HOUR OF LABOR
9 4
116
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Relative Factor Endowments
What determines the products for
which a country will have a
comparative advantage?
– Factor endowments vary among countries
– Goods differ according to the types of
factors that are used to produce them
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Relative Factor Endowments_2
A country will have a comparative
advantage in producing products that
intensively use resources (factors of
production) it has in abundance
– China: labor
– Saudi Arabia: oil
– Argentina: wheat
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Modern Firm-Based Trade Theories
Country Similarity Theory
Product Life Cycle Theory
Global Strategic Rivalry Theory
Porter’s National Competitive
Advantage
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Country Similarity Theory
Explains the phenomenon of
intraindustry trade
– Trade between two countries of goods
produced by the same industry
• Japan exports Toyotas to Germany
• Germany exports BMWs to Japan
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Country Similarity Theory_2
Trade results from similarities of
preferences among consumers in
countries that are at the same stage of
economic development
Most trade in manufactured goods
should be between countries with
similar per capita incomes
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Global Strategic Rivalry Theory
Firms struggle to develop sustainable
competitive advantage
Advantage provides ability to dominate
global marketplace
Focus: strategic decisions firms use to
compete internationally
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Porter’s National
Competitive Advantage
Success in trade comes from the
interaction of four country and firm
specific elements
– Factor conditions
– Demand conditions
– Related and supporting industries
– Firm strategy, structure, and rivalry
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Figure 6.5 Porter’s Diamond of
National Competitive Advantage
Firm Strategy,
Structure,
and Rivalry
Related and
Supporting
Industries
Factor
Conditions
Demand
Conditions
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Figure 6.6 Theories of
International Trade
Country-Based Theories
Country is unit of analysis
Emerged prior to WWII
Developed by economists
Explain interindustry trade
Include
– Mercantilism
– Absolute advantage
– Comparative advantage
– Relative factor endowments
Firm-Based Theories
Firm is unit of analysis
Emerged after WWII
Developed by business school
professors
Explain intraindustry trade
Include
– Country similarity theory
– Product life cycle
– Global strategic rivalry
– National competitive
advantage
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Types of International Investments
Does the investor seek an active
management role in the firm or merely
a return from a passive investment?
– Foreign Direct Investment
– Portfolio Investment
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Ownership Advantages
A firm owning a valuable asset that
creates a competitive advantage
domestically can use that advantage to
penetrate foreign markets through FDI
Why FDI and not other methods?
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Internalization Theory
FDI is more likely to occur when
transaction costs with a second firm are
high
Transaction costs: costs associated
with negotiating, monitoring, and
enforcing a contract
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Dunning’s Eclectic Theory
FDI reflects both international business
activity and business activity internal
to the firm
3 conditions for FDI
– Ownership advantage
– Location advantage
– Internalization advantage
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Table 6.5 Factors Affecting
the FDI Decision
Supply Factors Demand Factors Political Factors
Production costs Customer access Avoidance of trade
barriers
Logistics Marketing advantages Economic development
incentives
Resource availability Exploitation of
competitive advantages
Access to technology Customer mobility