THE GLOBAL

TRADE
ENVIRONMENT
MODULE 2
LEARNING OBJECTIVES
1. Understand and explain key theories of international trade, including comparative advantage
and factor endowment theory.

2. Identify various types of trade barriers (tariffs, quotas, non-tariff barriers) and assess their
impact on global trade.

3. Analyze the roles and functions of global trade organizations such as the WTO, IMF, and World
Bank.

4. Explore the importance of trade facilitation in enhancing global trade efficiency and economic
development.

5. Assess the challenges and opportunities of operating in a global trade environment.

MAJOR THEORIES OF INTERNATIONAL
TRADE
An understanding of how major trade theories have evolved is important.
1. Theories provide an appreciation for the progress made in
understanding how trade (and gains from trade) really works in an open
economy.
2. Theories present a rationale why restriction to trade should be
minimized even when domestic economic and business conditions seem
awful.
MAJOR THEORIES OF INTERNATIONAL
TRADE
1. Wealth Accumulation as a Basis for Trade Theory: Mercantilism
2. Specialization as a Basis for Trade Theory: Absolute and
Comparative Advantage
3. Factor Endowments as a Basis for Trade Theory: Heckscher-Ohlin
and Factor Price Equalization
4. Porter’s “Diamond” Model of National Competitive Advantage
MERCANTILISM
MERCANTILISM is a theory of international trade that supports the
premise that a nation could only gain from trade if it had a trade
surplus, that is, more exporting than importing.
 The oldest form of trade theory
Practiced during the 1500-1750 period as Europe emerged from
the feudal systems of the Middle Ages and moved toward
nationalism.
MERCANTILISM
The objective of mercantilists was to see that, as a nation, the value of exports
must always exceed those of imports so that the country would have a trade
surplus.
Exports generate income, causing gold or silver to flow into the country.
 National wealth was seen as the foundation of national power and global
influence.
 Mercantilists also believed that accumulation of gold and silver by way of
exportation was the only way that countries without gold and silver mines could
become wealthy.
MERCANTILISM
If every trading nation decided to increase its exports and decrease its imports,
there would be a surplus of exported goods in the world market.
UNPLEASANT RESULTS:
1. The surplus of exports in the world market would depress prices, and,
therefore, earning for exporting countries (in the form of gold and silver) would
drop.
2. The demand for exports drops, competitors in the export market would want
to undersell each other by further lowering their pries to get rid of their exports.
Specialization as a Basis for Trade Theory:
Absolute and Comparative Advantage
ADAM SMITH, known as the father of free market and open trade systems,
recognized the absurdity of mercantilism during the mid-18th century.
 Adam Smith’s international trade theory was his belief that free trade
encourages countries to specialize in the production of those goods and services
that they most efficiently produce.
1. Theory of Absolute Advantage
2. Theory of Comparative Advantage
ABSOLUTE ADVANTAGE
ABSOLUTE ADVANTAGE is the ability of one country to produce a
good or service more efficiently than another.
 It means that a producer can produce a good or service in greater
quantity for the same cost or the same quality at a lower cost or the
producer can produce the same quantity of product/service for a
lesser quantity of inputs, and, therefore, lower marginal costs that
other producers without compromising the quality.
COMPARATIVE ADVANTAGE
COMPARATIVE ADVANTAGE is the ability of one country that has an
absolute advantage in the production of two or more goods (or
services) to produce one of them relatively more efficiently than the
other.
 Refers to the country’s capability to produce specific goods or
manufacture multiple types of goods with limited resources at lower
marginal cost and opportunity cost compared to other countries.
Factor Endowments as a Basis for Trade Theory:
Heckscher-Ohlin and Factor Price Equalization
FACTOR ENDOWMENT is the quantity and quality of factors of
production (land, labor, capital, and technology) that a country owns
In the 1930s, two Swedish economists, Eli Heckscher and Bertil
Ohlin, refined David Ricardo’s theory of comparative advantage and
showed that nations primarily export goods and services that
intensely use their abundant factors of production.
H-O THEORY
The HECKSCHER-OHLIN (H-O) theory attributes the comparative
advantage of a nation to its factor endowments: land (quantity,
quality, and mineral resources beneath it), labor (quantity and skills),
capital (cost), and technology (quality).
H-O THEORY
Key assumptions:
1. Perfect competition in the marketplace
2. Perfect immobility of factors of production among countries
FACTOR PRICE EQUALIZATION THEORY
FACTOR PRICE EQUALIZATION THEORY states that when factors are
allowed to move freely among trading nations, efficiency further
increases, which leads to superior allocation of the production of
goods and services among countries.
 The theory (attributed to Paul A. Samuelson) that when factors of
production are allowed to move freely among nations as a result of
international trade, the prices of identical factors of production will
be equalized across said nations.
PORTER’S “DIAMOND” MODEL OF
NATIONAL COMPETITIVE ADVANTAGE
Porter neatly explains his model in
terms of a “diamond” that consists of
four groups of company-specific and
country-specific characteristics
positioned at the edge of a diamond.
Porter’s model also explains that the
interaction of these four groups of
characteristics will determine a
county’s competitive advantage in the
global arena.
THE PRACTICE OF TRADE POLICY
TRADE POLICY refers to all government actions that seek to alter the
size of merchandise and/or service flows from and to a country.

 The main instrument of trade policy has been import tariffs and
quotas; however, more recently, nontariff barriers and export
subsidies have become equally important in international business.
MAIN INSTRUMENTS OF TRADE POLICY
TARIFFS are taxes on imports; also known as custom duties in some
countries.
FORMS:
1. Specific Tariff – an import tax that assigns a fixed dollar amount
per physical unit
2. Ad Valorem - a tax on imports levied as a constant percentage of
the monetary value of one unit of the imported good
MAIN INSTRUMENTS OF TRADE POLICY
PREFERENTIAL DUTIES is an especially advantageous or low import
tariff established by a nation for all or some goods of certain
countries and not applied to same goods of other countries.
TYPES:
1. Bilateral or Regional preferences
2. Unilateral preferences
MAIN INSTRUMENTS OF TRADE POLICY
GENERALIZED SYSTEM OF PREFERENCES (GSP) is an
agreement where a large number of developed countries
permit duty-free imports of a selected list of products that
originate from specific countries.
MAIN INSTRUMENTS OF TRADE POLICY
EXPORT SUBSIDY refer to a negative tariff or tax break
aimed at boosting exports.
TYPES:
1. Direct Cash Payment 3. Low-Interest Loans
2. Tax Incentive 4. Subsidized Inputs
MAIN INSTRUMENTS OF TRADE POLICY
EXPORT TAXES are taxes meant to raise export cost and
divert production for home consumption.
MOST FAVORED NATION (MFN) is an agreement among
WTO countries in which any tariff concession granted by
one member to any other country will automatically be
extended to all other countries of WTO.
MAIN INSTRUMENTS OF TRADE POLICY
Countries have resorted to imposing various forms of nontariff
barriers to restrict imports and, hence, trade.
IMPORT QUOTAS are regulations that limit the amount or number of
units of products that can be imported to a country.
An EXPORT QUOTA is a government-imposed limit on the quantity
or value of specific goods that a country can export within a given
period. Unlike import quotas, which protect domestic industries
from foreign competition.
MAIN INSTRUMENTS OF TRADE POLICY
A QUANTITATIVE RESTRICTION (QR) is a trade policy tool where a country
imposes a strict limit on the quantity or value of specific goods that can be
imported or exported during a given period. This includes import quotas and
export quotas.
CHARACTERISITICS:
1. Directly limits trade volume
2. More restrictive than tariffs
3. Used to protect domestic industries or manage scare resources
MAIN INSTRUMENTS OF TRADE POLICY
VOLUNTARY EXPORT RESTRAINT (VER) is a nontariff barrier in which
an efficient exporting nation agrees to limit exports of a product to
another country for a temporary period.
VERs are usually negotiated agreements rather than unilateral
restrictions; often to avoid stricter trade barriers like tariffs or
quotas.
MAIN INSTRUMENTS OF TRADE POLICY
DOMESTIC CONTENT PROVISIONS are regulations requiring that a
certain percentage of the value of imports be sourced domestically.
These policies aim to promote local industries, create jobs, and
reduce reliance on imports, but they can also lead to higher
production costs and trade disputes.
CURRENT PRACTICE OF MANAGED TRADE
MANAGED TRADE refers to agreements, sometimes temporary, between
countries (or group of countries) that aim to achieve certain trade outcomes for
the countries involved.
Aims to replace global market or economic forces with government actions to
determine trade outcomes.
Under a managed trade regime, economic policy makers may use various
socioeconomic or geopolitical rationales to protect specific companies or
industries and achieve particular strategic objectives.
CURRENT PRACTICE OF MANAGED TRADE
SOCIOECONOMICS explores the relative negative impact of open trade
upon society’s welfare, as well as government policy measures that are
implemented to minimize the negative outcomes to society in a country.
FORMS:
1. Countertrade 4. Questionable Labor Practices and
2. Export Cartels Environmental Considerations
3. Infant Industry Agreement 5. Health and Safety
CURRENT PRACTICE OF MANAGED TRADE
COUNTERTRADE is an agreement in which an exporter of goods or services to
another country commits to import goods or services of corresponding value from
that country.
The terms of export and import exchange are predetermined through
negotiations.
Countries participate in countertrade, especially when they do not have adequate
amounts of foreign currencies to pay for their imports.
Countries may also pursue countertrade because they may not be capable of
producing goods of international quality or because banking service embargo has
been imposed on them.
CURRENT PRACTICE OF MANAGED TRADE
EXPORT CARTELS are a group of countries that could effectively
control export volume to keep their export prices, revenues, and
economic growth stable or high.
All cartel members must agree not to cheat on the agreement
(production quotas), substitutes for the commodity/good in question
must not exist, and demand for a particular product must be
relatively inelastic.
CURRENT PRACTICE OF MANAGED TRADE
INFANT INDUSTRY ARGUMENT is a temporary provision of
protection to nascent industries that have good prospects of
becoming globally competitive in the medium term.
This expects that economies of scale and the comparative advantage
of an industry can only be exploited by providing temporary
protection.
CURRENT PRACTICE OF MANAGED TRADE
QUESTIONABLE LABOR PRACTICES AND ENVIRONMENTAL
CONSIDERATIONS
Developed countries may restrict imports from developing countries that
implement unethical labor practices and violate basic human rights.
The International Labor Organization (ILO) standards does not accept the
use of child labor, unusually long work hours, below subsistence-level
wages in the production of exports, or working under dangerous
conditions with toxic chemicals.
CURRENT PRACTICE OF MANAGED TRADE
HEALTH AND SAFETY
Every country has the sovereign right to protect the health and
physical safety of its citizens from contaminated imports.
Food safety measures introduced to protect the entry of harmful
pets and diseased via imported foods, animals, and plants are a
justifiable means to protect human life and physical health.
CURRENT PRACTICE OF MANAGED TRADE
GEOPOLITICAL RATIONALE
NATIONAL SECURITY
Countries have been using the national security argument to
manage trade and to protect domestic firms.
CURRENT PRACTICE OF MANAGED TRADE
STRATEGIC INDUSTRIES
Some countries provide protection to strategic industries that have a significant
cultural or employment impact in certain sectors of an economy – the so-called
national champions – when these champions are unable to compete globally.
EMBARGOES are trade sanctions that are imposed upon a nation to restrict
trade with that country.
Embargoes, which often may not be universally enforces, are meant to “punish”
a country for perceived unacceptable international behavior.
GLOBAL INSTITUTIONS
TRADE FACILITATION
Trade facilitation refers to the simplification, modernization, and harmonization
of trade processes to reduce barriers and costs in international commerce.
KEY ELEMENTS;
1. Customs Modernization
2. Harmonization of Standards
3. Infrastructure Development
4. Transparency and Predictability
TRADE FACILITATION
Role in Global Trade Efficiency:
1. Reduces trade costs
2. Accelerates supply chain processes
3. Boosts competitiveness of businesses
4. Enhances transparency and security
TRADE FACILITATION
Contribution to Economic Development:
1. Stimulates economic growth
2. Encourages industrialization and innovation
3. Job creation and social development
4. Strengthens regional trade cooperation
CHALLENGES OF OPERATING IN A GLOBAL
TRADE ENVIRONMENT
1. Trade barriers and tariffs
2. Geopolitical risks and trade wars
3. Regulatory and compliance issues
4. Logistics and supply chain issues
5. Cultural and language barriers
OPPORTUNITIES OF OPERATING IN A
GLOBAL TRADE ENVIRONMENT
1. Emerging markets growth
2. Technological advancements in trade
3. E-commerce and digital trade expansion
4. Regional trade agreements and economic integration
5. Sustainability and green trade initiatives
STRATEGIES FOR OVERCOMING GLOBAL
TRADE CHALLENGES
1. Diversification of suppliers and markets
2. Investment in digital trade technologies
3. Compliance with international standards
4. Leveraging trade agreements and free trade zones
5. Cultural adaptation and market research