Introduction

The buying and selling of goods and services across national borders is known as international
trade. International trade is the backbone of our modem, commercial world, as producers in
various nations try to profit from an expanded market, rather than be limited to selling within
their own borders. There are many reasons that trade across national borders occurs, including
lower production costs in one region versus another, specialized industries, lack or surplus of
natural resources and consumer tastes.
International trading provides countries and consumers the chance to be exposed to those
services and goods that are not available in their own country. International trading lets the
developed countries use their resources effectively like technology, capital and labor. As many
of the countries are gifted with natural resources and different assets (labor, technology, land and
capital), they can produce many products more efficiently and sell at cheaper prices than other
countries. A country can obtain an item from another country if it cannot effectively produce it
within the national boundaries.
International trade has flourished over the years due to many benefits it has offered to different
countries across the globe. With the help of modem production techniques, highly advanced
transportation systems, transnational corporations, outsourcing of manufacturing and services,
and rapid industrialization, the international trade system is growing and spreading very fast.
International trade and economic growth
International trade has played an important role as a major driver of economic growth for the
latter half of the 20th century. Nations with strong international trade have become prosperous
and have the power to control the world economy. International trade has a major role in
economic development of any country. International trade has significant role in following key
areas of economic development:
1. Through specialization and increased world output, international trade expands the range of
commodities available to the population and thus increases choice and welfare of the population.
International trade provides countries with access to resources, which they may not have
naturally. It provides access to markets for products which may not be consumed domestically.
In this way, international trade stimulates economic growth.
2. Trade leads to increased and more efficient use of a nation’s resources.
3. International trade leads to higher output, increased consumption and higher rewards for those
sectors where a country has comparative advantage.
4. International trade helps to attract foreign investment to exploit a country’s comparative
advantage. This can also result into investment in other sectors of the economy. For example,
mining and export of minerals can lead to new investments in power generation.
5. International trade may lead the development of infrastructure such as roads, rails, power
plants and telecommunications to facilitate trade.
6. Foreign trade, especially the export sector may encourage the development of local
entrepreneurs and skilled labour. Trade leads to travel and exposure to different places and
cultural, which can promote learning and enhance experience.
7. International trade enhances competitiveness of domestic industry as domestic industry is
required to compete with international products which may be of superior quality and at a lesser
price.
From an individual company’s point of view international marketing offers following
benefits:
i) Enables overcoming domestic marketing constraints like saturated market, small size of
market, recession in domestic market etc.
ii) Helps to achieve economies of scale of production.
iii) Company can tap growth opportunities in other countries.
iv) Sometimes selling in international markets may enable to earn high profits in overseas
markets than domestic market
v) Company can avail benefit of government policies and regulations like tax concessions and
other incentives.
vi) Company can enjoy spin-off benefits like improvement image of a company and develop
better products in domestic market also due to development of quality culture in company.

Theories of International Trade

Broadly international trade theories can be classified into two types viz. Classical theories and
Modem theories. Classical theories were based on number of assumptions related to various
aspects like nature of markets, technology, demand, and returns to scale etc. These theories were
not questioned till end of 19th century. After this period, many assumptions became invalid due
to rapid technological changes, structural changes in economies of many countries, increasing
imperfections of markets, state interventions in trade markets and growth of multinational
companies.
Classical theories
1. The Theory of Absolute Advantage
This theory was developed in 1776 by Adam Smith, an economist. He states that a country
should export a commodity that can be produced at a lower cost than can other nations.
Conversely, it should import a commodity that can only be produced at a higher cost than other
nations. According to Adam Smith, international trade occurred because of the absolute
advantage by a particular country in a particular product and absolute advantage enjoyed by
another country in another product.
Limitations- assumption of a perfect market, lazzie farie, assumption of two commodities
2. The Theory of Comparative Advantage
This theory was developed by a British economist David Ricardo (1772-1823) which is an
extension of theory of labour value and its application to the trade between countries. “The
Labour Theory of Value” states that the relative prices of goods are determined by the amount of
labour embodied in the goods. Countries which have abundant labour, have low labour/wage
costs and hence enjoy absolute advantage in production of some goods. Ricardo states that “Each
country will specialize in production of those commodities in which it has greater comparative
advantage or least comparative disadvantage”.
The main difference between Adam Smith’s theory and Ricardo’s theory is the comparative
costs as against absolute costs. Ricardo proved that for the trade to happen between countries
absolute advantage is neither relevant nor necessary and that comparative advantage is sufficient.
The principle of comparative advantage provides the basis for specialization amongst nations.
The present day economists have rejected comparative cost theory on account of following
reasons:
i) Ricardo has taken into account labour as only one factor of production. Quality of labour input
varies within as well as between different countries.
ii) This theory has not considered other factors of production like land, capital and enterprise
which should have been considered along with labour. A country would export a product if its
international price is more than the domestic opportunity cost.
iii) This theory would fail if the trading partners are of unequal size.
iv) The theory has not considered product demand which also dictates the price of the product.
3. The Theory of Reciprocal Demand
This theory was developed by John Stuart Mill (1806-1873), an English economist. Mill’s theory
considers demand side of international trade as both supply and demand matter for trade to take
place between countries. According to Mill within the limits set by comparative cost conditions,
international value of goods traded will depend upon the strength of each country’s demand for
the other country’s product.
The limitation of this theory is that it accepts many assumptions underlying the theory of
Comparative Advantage.
Modern Theories
1. Factor Endowments Theory or Hecksher- Ohlin Theory.
Swedish economists Hecksher and Ohlin developed this theory independently in 1920 and 1933
respectively. This theory is based on a few propositions as given below:
i) International trade is based on differences in prices as between nations.
ii) Costs of production i.e. payments to factors differ from country to country which are called as
factor prices.
iii) Due to differences in availabilities of factors of production, factor prices differ in different
countries in relation to demand of that country. Hence, products differ in factor requirements
while countries differ in factor endowments. According to Hecksher-Ohlin, a country may use
factors of production in different combinations or proportions in the production of goods, which
is called as “Factor Proportions”. According this theory, a country exports that commodity which
it can produce by using its abundant factor more intensely and imports that commodity which it
cannot afford to produce by using the scarce factors intensely. Thus, a capital-rich country will
be a low cost producer of capital goods and a country with abundant labour will be a low cost
producer of labour intensive goods like cloth, wheat etc.
Following are some criticism points against Hecksher-Ohlin theory:
i) It is unrealistic in character as it is based on simplified and unrealistic assumptions
like perfect competition, full employment of productive resources etc.
ii) This theory fails to explain “Leontief Paradox”. According to this theory relative
factor prices are determined by the supply of productive factors in the two countries.
However, in reality the relative factor prices are determined not only by the supply of
productive factors but also by the demand for their services. If the demand factor is
more powerful than the supply factor, then it is possible that the capital abundant
country may specialize in production and export of labour intensive goods. This is
called as “Leontief Paradox”. Leontief, who studied factor composition of USA
exports and imports, concluded that USA exports were labour intensive and imports
were capital intensive in spite of the fact that USA is capital abundant.
iii) This theory is static in nature.

2. Theory of International Factor Movements

In today’s modem world Multi National Corporations (MNCs) do transfer specific natural
resources, factor services and technology, on account of their multi country operations.
Professor Peter Gray considered the role of MNCs In the flow of goods and services between
countries and established link between foreign direct investment, international production and
international trade. According to him, capital and technology can move to countries where
complimentary resources like labour are available cheap. Thus, available global supplies of
resources get reallocated among countries through MNCs, resulting in larger production in world
and larger trade in world.
However, in reality, in present dynamic situations of world trade none of these trade theories fits
fully. This is on account of constant changes in comparative advantages, factor combinations,
technology changes and state intervention.
Main actors of International Trade
From the above discussion it could be concluded that in today’s time of modern economy the
following are the main actors in relation to international trade-
1. States
2. Corporations
3. International organizations
4. Physical person