CHAPTER TWELVE
INTERNATIONAL TRADE
A trade involving the exchange of goods and services between two or more countries.
Comparative and absolute advantage
If the exchange is between two countries only, then it is referred to as bilateral trade, but if it is between more than
two countries then it is referred to as multilateral trade.
A country has an absolute advantage in those products in which it has a productivity edge over other countries; it
takes fewer resources to produce a product. A country has a comparative advantage when a good can be produced at
a lower cost in terms of other goods. Countries that specialize based on comparative advantage gain from trade. A
country has a comparative advantage when a good can be produced at a lower cost in terms of other goods. The
question each country or company should be asking when it trades is this: “What do we give up to produce this
good?” It should be no surprise that the concept of comparative advantage is based on this idea of opportunity cost.
Specialization is also used to describe the occurrence when a country shifts resources to focus on producing a good
that offers comparative advantage.
Advantages of International Trade
It enable the country to get access to wider range/variety of goods and services from other countries
It enable the country to get what it does not produce
It helps in promoting peace among the trading countries
It enable the country to specialize in its production activities where they feel they have an advantage
It earns the country revenue through taxes and licenses fees paid by the importers and exporters in the country
It enable the country to dispose of its surplus goods and services thereby avoiding wastage
It creates employment opportunities to the citizens of that country either directly or indirectly
It may lead to the development of the country through importation of capital goods in to the country
It encourages easy movement of factors of production across the borders of the countries involved
It enable countries to earn foreign exchange which it can use to pay for its imports
A country may be able to obtain goods and services cheaply than if they have been produced locally
During hard times or calamities such as wars, the country is able to get assistance from the trading partners
It brings about competition between the imported and locally produced goods, leading to improvement in their
quality
It gives the country an opportunity to exploit fully its natural resources, due to increased market
Disadvantages of International trade
o It may lead to collapse of the local industries, as people will tend to go for the imported goods. The collapse
may also lead to loss of employment
o It may also lead to importation of harmful foods and services such as drugs and pornographic materials
o May lead to over depending on imported commodities especially the
essential ones, making the country to be a slave of the other countries,interfering with their sovereignty
o It may make the country to suffered during emergencies if they mainly rely on the imported goods
o May make the country to suffer from import inflation
o May lead to acquisition of bad culture from other countries as a result of their interactions
May lead to unfavorable balance of payment, if the import is higher than exports.
Terms of Trade
This refers to the rate at which the country’s export exchanges with those from other country.
That is:
Terms of trade = price index of exports/imports
It determine the value of export in relations to import so that a country can know whether it’s trade with the other
country is favourable or unfavourable.
Favourable terms of trade will make the country spent little on import and gain a lot of foreign exchange from other
ECONOMICS CHAPTER 12 INTERNATIONAL TRADE NOTES PREPARED BY MR. ANTONY AMBIA Page 1
, countries For example;
Then table below shows trade between Kenya and China in the year 2004 and 2005, with the Kenyan government
exporting and importing to and from china, and China also importing and Exporting from and to Kenya.
Factors that may lead to either favourable or unfavourable terms of trade
The country is experiencing a favourable terms of trade if:
The prices of imports decline and those of export remains the constant
The prices of imports declines while those of exports increase
The price of imports remains constant while those of exports increase
The prices of import and export increases but the rate of increase in export is higher
Both prices decrease but the decrease in import prices is higher
The country will experience unfavourable terms of trade if;
Prices of import increases while those of exports decline
Prices of import remains constant while those of export declines
Prices of import increase as the export remains constant
Both prices increase, but for imports increases at a higher rate than export
Both prices decrease, but for export decreases at a higher rate than import
Reasons for differences in terms of trade between countries
The terms of trade may differ due to:
i. The nature of the commodity being exported. If a country exports raw materials, or unprocessed agricultural
products, its terms of trade will be unfavourable, as compared to a country that exports manufactured goods
ii. Nature of the commodity being imported. A country that imports manufactured goods is likely to have
unfavourable terms of trade as compared to that which imports raw materials or agricultural produce
iii. Change in demand for a country’s export. An increase in demand for the country’s export at the world market
will make it have favourable terms of trade as compared to those with low demand at the world market
iv. Existing of world economic order favouring the products from more developed countries.
This may make the developing countries to have deteriorating terms of trade
v. Total quantity supplied. A country exporting what most countries are exporting will have their products trading at
a lower price, experiencing unfavourable terms of trade as compared to a country that export what only few
countries export
vi. Trade restrictions by trading partners. A country with no trading restrictions is likely to import more products,
leading to unfavourable terms of trade, as compared to if it impose trade restrictions
Balance of trade
This is the difference between value of country’s visible exports and visible imports over a period of time. If the
value of visible/tangible export is higher than the value of visible/tangible imports, then the country experiences
favourable terms.
If less than the invisible value, then the country is experiencing unfavourable.
The country is at equilibrium if the value of visible export and import is the same
Balance of payments
This is the difference in the sum of visible and invisible export and the visible and invisible imports.
If positive then it means the country is having favourable terms, while if negative, then it means unfavourable It
goes beyond the balance of trade in that it considers the following.
The countries visible/tangible export and import of goods (visible trade).
The countries invisible/services exported and imported in the country (invisible trade)
The inflow and outflow of investment (capital goods)
Balance of Payment account
This is the summary showing all the transactions that have taken place between a particular country and the rest of
the world over a period of time.
ECONOMICS CHAPTER 12 INTERNATIONAL TRADE NOTES PREPARED BY MR. ANTONY AMBIA Page 2
INTERNATIONAL TRADE
A trade involving the exchange of goods and services between two or more countries.
Comparative and absolute advantage
If the exchange is between two countries only, then it is referred to as bilateral trade, but if it is between more than
two countries then it is referred to as multilateral trade.
A country has an absolute advantage in those products in which it has a productivity edge over other countries; it
takes fewer resources to produce a product. A country has a comparative advantage when a good can be produced at
a lower cost in terms of other goods. Countries that specialize based on comparative advantage gain from trade. A
country has a comparative advantage when a good can be produced at a lower cost in terms of other goods. The
question each country or company should be asking when it trades is this: “What do we give up to produce this
good?” It should be no surprise that the concept of comparative advantage is based on this idea of opportunity cost.
Specialization is also used to describe the occurrence when a country shifts resources to focus on producing a good
that offers comparative advantage.
Advantages of International Trade
It enable the country to get access to wider range/variety of goods and services from other countries
It enable the country to get what it does not produce
It helps in promoting peace among the trading countries
It enable the country to specialize in its production activities where they feel they have an advantage
It earns the country revenue through taxes and licenses fees paid by the importers and exporters in the country
It enable the country to dispose of its surplus goods and services thereby avoiding wastage
It creates employment opportunities to the citizens of that country either directly or indirectly
It may lead to the development of the country through importation of capital goods in to the country
It encourages easy movement of factors of production across the borders of the countries involved
It enable countries to earn foreign exchange which it can use to pay for its imports
A country may be able to obtain goods and services cheaply than if they have been produced locally
During hard times or calamities such as wars, the country is able to get assistance from the trading partners
It brings about competition between the imported and locally produced goods, leading to improvement in their
quality
It gives the country an opportunity to exploit fully its natural resources, due to increased market
Disadvantages of International trade
o It may lead to collapse of the local industries, as people will tend to go for the imported goods. The collapse
may also lead to loss of employment
o It may also lead to importation of harmful foods and services such as drugs and pornographic materials
o May lead to over depending on imported commodities especially the
essential ones, making the country to be a slave of the other countries,interfering with their sovereignty
o It may make the country to suffered during emergencies if they mainly rely on the imported goods
o May make the country to suffer from import inflation
o May lead to acquisition of bad culture from other countries as a result of their interactions
May lead to unfavorable balance of payment, if the import is higher than exports.
Terms of Trade
This refers to the rate at which the country’s export exchanges with those from other country.
That is:
Terms of trade = price index of exports/imports
It determine the value of export in relations to import so that a country can know whether it’s trade with the other
country is favourable or unfavourable.
Favourable terms of trade will make the country spent little on import and gain a lot of foreign exchange from other
ECONOMICS CHAPTER 12 INTERNATIONAL TRADE NOTES PREPARED BY MR. ANTONY AMBIA Page 1
, countries For example;
Then table below shows trade between Kenya and China in the year 2004 and 2005, with the Kenyan government
exporting and importing to and from china, and China also importing and Exporting from and to Kenya.
Factors that may lead to either favourable or unfavourable terms of trade
The country is experiencing a favourable terms of trade if:
The prices of imports decline and those of export remains the constant
The prices of imports declines while those of exports increase
The price of imports remains constant while those of exports increase
The prices of import and export increases but the rate of increase in export is higher
Both prices decrease but the decrease in import prices is higher
The country will experience unfavourable terms of trade if;
Prices of import increases while those of exports decline
Prices of import remains constant while those of export declines
Prices of import increase as the export remains constant
Both prices increase, but for imports increases at a higher rate than export
Both prices decrease, but for export decreases at a higher rate than import
Reasons for differences in terms of trade between countries
The terms of trade may differ due to:
i. The nature of the commodity being exported. If a country exports raw materials, or unprocessed agricultural
products, its terms of trade will be unfavourable, as compared to a country that exports manufactured goods
ii. Nature of the commodity being imported. A country that imports manufactured goods is likely to have
unfavourable terms of trade as compared to that which imports raw materials or agricultural produce
iii. Change in demand for a country’s export. An increase in demand for the country’s export at the world market
will make it have favourable terms of trade as compared to those with low demand at the world market
iv. Existing of world economic order favouring the products from more developed countries.
This may make the developing countries to have deteriorating terms of trade
v. Total quantity supplied. A country exporting what most countries are exporting will have their products trading at
a lower price, experiencing unfavourable terms of trade as compared to a country that export what only few
countries export
vi. Trade restrictions by trading partners. A country with no trading restrictions is likely to import more products,
leading to unfavourable terms of trade, as compared to if it impose trade restrictions
Balance of trade
This is the difference between value of country’s visible exports and visible imports over a period of time. If the
value of visible/tangible export is higher than the value of visible/tangible imports, then the country experiences
favourable terms.
If less than the invisible value, then the country is experiencing unfavourable.
The country is at equilibrium if the value of visible export and import is the same
Balance of payments
This is the difference in the sum of visible and invisible export and the visible and invisible imports.
If positive then it means the country is having favourable terms, while if negative, then it means unfavourable It
goes beyond the balance of trade in that it considers the following.
The countries visible/tangible export and import of goods (visible trade).
The countries invisible/services exported and imported in the country (invisible trade)
The inflow and outflow of investment (capital goods)
Balance of Payment account
This is the summary showing all the transactions that have taken place between a particular country and the rest of
the world over a period of time.
ECONOMICS CHAPTER 12 INTERNATIONAL TRADE NOTES PREPARED BY MR. ANTONY AMBIA Page 2
