Introduction
International trade has been a highly politicized topic for centuries, going back at least to the mercantilists of the 17th and 18th centuries, who believed that the purpose of trade was to accumulate gold by having exports exceed imports. Trade, or the desire to acquire new goods from abroad, also underlay much of the exploration of the New World and elsewhere, and much of the exploitation of human beings that took place in earlier centuries (cf., Marco Polo, Columbus, colonization and exploitation as in Sweetness and Power and the Congo Free State).
Because of their view that exports should exceed imports, mercantilists favored restrictions on trade (i.e., restrictions on imports) as a means of promoting a favorable trade balance. Beginning in the 18th century, however, economists made a compelling case for the advantages of free trade. We will begin to examine those arguments today, but before doing so, we'll first examine trade patterns and trends.
U.S. International Trade: Composition and Trends
We can see from recent data on the trade balance (transparency from WSJ) or from a longer overview (Parkin's Fig. 18.3) that the U.S. is a net importer. That is, our imports exceed our exports, and this has been the case for the past 20 years (for most of the period from 1960-1975 we were a net exporter). As we noted earlier in the course, the fact that we import more than we export means that we have to finance the difference by borrowing from foreigners or by selling our assets to them.
For many less developed countries (LDCs), trade has often involved exporting raw materials and agricultural output to industrialized countries and importing manufactured goods in return. From this perspective, one might imagine that this characterization applies in reverse to industrialized countries (i.e., they import raw materials and export manufactured goods). However, examination of data on U.S. exports and imports (Parkin's Table 18.1) shows that this is not the case.
In particular, when exports and imports are broken down into major categories, it is clear that the U.S. is a net exporter of agricultural products. The U.S. is also a net exporter of services, with travel & transportation and royalties & license fees as major contributors to the surplus of services. Our overall trade deficit stems primarily from our deficit in trade in manufactured goods, and we also have a deficit in industrial supplies & materials (with oil as the key element here).
Our overall trade deficit is linked to our deficit in manufactured goods, which accounted (in 1994) for 59 percent of our total imports. Industrial supplies & materials represented just over 20 percent of our imports, followed by services at 17 percent and agricultural products at 4 percent. Note, however, that while we import a lot of manufactured goods, we also export a lot: they represented (in 1994) 48 percent of our exports, followed by services (28 percent), industrial supplies & materials (17 percent), and agriculture (7 percent).
Looking at trade in manufactured goods in a little more detail, it is clear that we are heavy net importers of consumer goods and automotive vehicles & parts, while we have a slight trade surplus in capital goods. With respect to industrial supplies & materials, we import a lot in fuels, but otherwise have essentially balanced trade.
With respect to the geographical patterns of trade, Parkin shows that historically our major trading partners were Canada and countries in Europe and Latin America. More recently, however, Japan and other Asian economies have come to the fore as trading partners, and this year China has replaced Japan as the country with which we have the largest bilateral trade deficit. Overall, our exports and imports have gone from being roughly 5 percent of production and consumption in 1960 to more than twice that level at present. This reflects the increasing levels of trade worldwide, and this in turn means that we have a more open economy now than was the case 35 years ago.
Opportunity Cost, Comparative Advantage, and Gains from Trade
Parkin provides a nice simple model, using two countries, two goods, and the production possibility frontier, to illustrate key concepts pertinent to understanding and analysis of trade. In brief, his analysis shows that when opportunity costs differ between countries, the country with the lowest opportunity cost of producing a good has a comparative advantage in that good.
Further, comparative advantage is the source of the gains from international trade. Countries are able to buy some goods and services from other countries at lower opportunity costs than those at which they can produce the goods and services for themselves.
This results in gains from trade: compared to a no-trade situation, countries increase their production of goods and services in which they have a comparative advantage and decrease production where they do not, and their trade allows them to achieve higher consumption possibilities than exist in the absence of trade (see Parkin's Fig. 18.7).
It is tempting to think that absolute advantage (i.e., higher productivity in production of all goods) would negate the gains from trade. Put differently, how can a high-productivity country gain from trading with a low-productivity country?
However, as we saw earlier in the semester with a simple numerical example, and as Parkin argues in this chapter on trade, the cost of production in terms of the factors of production employed (i.e., productivity) is irrelevant to determining the gains from trade. What matters is the opportunity cost of one good in terms of other goods. Hence, whenever opportunity costs are different, everyone has a comparative advantage in something, and there are opportunities for gains from trade.