“The Great Trade Collapse” was a consequence of the 2008 financial crisis and it happened while the world GDP dropped by 1%, but world trade dropped by 10%.This global trade collapse is not a common occurrence as it happened over almost all the countries in the world. The reasons given by the analysts is the sudden drop in almost a synchronized demand, supply, credit constraint and disruption in global chain values.
In order to place the importance of international trade on its proper perspective it is necessary to analyze its background and forming theories.
1. Mercantilism
According to http://www.encyclopedia.com, Thomas Mun (1571–1641), English writer on economics, was the third son of a substantial London family and is often referred to as the last of the early mercantilists. His grandfather was an officer of the mint and acquired a coat of arms, his uncle was also an officer of the mint, and his stepfather was a director of the newly formed East India Company. Nothing is known of his education, but it is presumed, since there were close links between the Indian and the Mediterranean trades, that he served his apprenticeship in the latter. In fact, he says in one of his books that he lived for some time in Italy. He became a prominent and rich member of the East India Company 16302. Absolute Advantage
2. TheWealth of Nations
According to www.britannica.com , Adam Smith 1723—1790 was born in Edinburgh, Scotland. Social philosopher and political economist is known primarily for a single work—An Inquiry into the Nature and Causes of the Wealth of Nations (1776), the first comprehensive system of political economy—Smith is more properly regarded as a social philosopher whose economic writings constitute only the capstone to an overarching view of political and social evolution. A country has an absolute advantage in the production of a product when it is more efficient than any other country in producing it If two countries specialize in production of different products (in which each has an absolute advantage) and trade with each other, both countries will have more of both products available to them for consumption
3. Comparative Advantage
According to www.britannica.com, David Ricardo, 1772—1823 was born in London, England, English economist who gave systematized, classical form to the rising science of economics in the 19th century. His laissez-faire doctrines were typified in his Iron Law of Wages, which stated that all attempts to improve the real income of workers were futile and that wages perforce remained near the subsistence level. David Ricardo pronounced that “ even if one country has an absolute advantage in producing two products over another country, trading with that other country will still yield more output for both countries than if the more efficient producer did everything for themselves.”
4. Factor endowments: The Heckscher-Ohlin Theory
According to this theory, “countries with plentiful natural resources will generally have a comparative advantage in products using those resources. Comparative advantage arises from differences in national factor endowments, such as land, labor, or capital, as opposed to Ricardo’s theory which stresses productivity.”
In 1953 Wassily Leontief advanced his Leontief Paradox. It theorized that since the U.S. has abundant capital compared to other nations, the country would export capital-intensive goods and import labor-intensive goods but data shows that this not the case. Therefore, Ricardo’s theory seemed to be more predictive. However, factor endowments--and controlling technological differences does yield a predictive model.
5. The Product Life-Cycle Theory
In the 1960′s, Raymond Vernon attempted to explain global trade patterns. When a new product is introduced in a country, as demand grows, demand also appears in other developed nations which give rise to exports. But as other developed nations begin to produce the same product the initial country has the incentive to set up production in those countries where cost of production is lower making this original country that introduced the product an importer of this product. The flaw with the theory is that not all products originate in the same country as several new products are introduced simultaneously to international trade.
6. New Trade Theory
In the 1970′s the success of economies of scale, increased trade and the variety of goods available to consumers while decreasing the average cost of those goods. This notion is that international trade benefits all nations even they do not differ in resource endowments or technology. Nobel Prize recipient Paul Krugman was the first to notice this trend and develop a new international trade theory based on economies of scale where giant corporations outsource some production to countries with lower cost endowments.
New trade theory is not at odds with Comparative Advantage, since it identifies first mover advantage as an important source of comparative advantage. The debate today is now centered on whether a government should provide subsidies to the endowments of production that can help grow domestic industries in such way that companies can gain first mover advantage.
After considering all the different factors which make international economics and trade work, it becomes obvious that should an individual country decide to jump ship from international trade world this country’s domestic economy will soon withered on the vine.
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