Saturday, March 22, 2014
Chapter 5: Trade and Finance
Theories of Trade
• International trade amounts to about a sixth of the total economic activity in the world.
Although the global South accounts for a relatively small part of all trade in the world
economy, this is because its economic activity itself is only 40% of the world total.
International political economy — IPE, the study of politics of international economic
activities. Most frequently studied are trade, monetary relations, and multinational
• Two major approaches within IPE: Liberalism and mercantilism
• Mercantilism — belief that each state must protect its own interests at the expense of
others — not relying on international organizations to create a framework for mutual gains;
what matters is not so much a state’s absolute amount of wealth as its position relative to rival
Mercantilists believe that the outcome of economic negotiations matters for military power.
• Economic liberalism — belief in the possibility of cooperation to realize common gains.
By building international organizations, institutions, and norms, states can mutually beneﬁt
from economic exchanges.
It matters whether the state’s wealth is increasing in absolute terms.
• Marxism is a third theoretical/ideological approach to IPE. Economic exploitation as a force
that shapes political relations.
Most international economic exchanges include some element of mutual interests and some
element of conﬂicting interests = mixed interests.
• For liberals, the most important goal of economic policy is to create a maximum of total
wealth by achieving optimal efﬁciency (maximizing output, minimizing waste). For
mercantilists, the most important goal is to create the most favourable possible distribution of
• Liberalism sees individual households and ﬁrms as they key actors of the economy, and
government’s most useful role as one of noninterference in economics except to regulate
markets in order to help their efﬁcient functioning, or free trade.
Liberal economists are interests in maximizing the overall (joint) beneﬁts from exchange,
rather than how total beneﬁts are distributed among the parties.
• Interdependence — two or more states are simultaneously dependent on each other. States
that trade become mutually dependent on each other’s political cooperation in order to realize
economic gains through trade.
Trade-based wealth depends on international political cooperation. Liberals argue that
interdependence inherently promotes peace.
• Mercantilists prefer making trade serve a state’s political interests — favourable balance of trade.
The balance of trade is the value of a state’s imports relative to its exports. A state that
imports more than it exports has a negative balance of trade (trade deﬁcit).
In recent years, to balance its tare deﬁcit, the US has “exported” currency to China, Japan,
Europe, and other countries, which use the dollars to buy such things as shares of American
companies, US Treasury bills, or US real estate.
For one state to have a trade surplus, another must have a deﬁcit.
Comparative advantage — different states enjoy producing different goods (a concept
pioneered by Adam Smith and David Ricardo). States differ in their abilities to produce certain
▯1 Saturday, March 22, 2014
goods because of differences in natural resources, labour force characteristics, technology, and
etc. To maximize the overall create not wealth, each state should specialize in producing the
goods for which it has a comparative advantage and then trade for goods that another state
Costs of transportation and of processing the information in the trade (transaction costs) must be
in the costs of producing an item.
• International trade allocates global resources to states that have the greatest comparative
advantage in producing each kind of commodity. As a result, prices are both lower overall
and more consistent worldwide. Increasingly, production is oriented to the world market.
Economic beneﬁts of trade come with some drawbacks:
• Long-term beneﬁts may incur short-term costs
• The beneﬁts and costs tend to be unevenly distributed within a state. Some industries may
beneﬁt at the expense of others.
• Market imperfections reduce efﬁciency.
• Monopoly — when there is just one supplier of an item. Oligopoly — a monopoly shared by just
a few large sellers.
• Politics provides a legal framework for markets. Rules can be codiﬁed in international treaties,
but enforcement depends on practical reciprocity.
• Taxatioo nn markets generates revenue for the government and regulates economic activity by
Taxes applied to international trade itself are called tariffs, and are a frequent source of
international conﬂict. Tariffs not only restrict imports but also can be an important source of
• Sanctions — political power prohibits an economic exchange that would otherwise have
been mutually beneﬁcial. Enforcing sanctions is difﬁcult because participants have a ﬁnancial
incentive to break the sanctions through black markets or other means.
• Autarky — to avoid trading and instead try to produce everything a state needs by itself.
The theory of comparative advantage suggests this theory is ineffective.
• Protectionism — protection of domestic industries from international competition.
Protectionist trade policies are contrary to liberalism in that they seek to distort free markets
to gain an advantage for the state generally by discouraging imports of competing goods or
Governments also protect industries considered vital to national security.
Predatory practices — efforts to unfairly capture a large share of world markets, or even a near-
monopoly, so that eventually the predator can raise prices without fearing competition. Most
often these efforts entail dumping products in foreign markets at prices below the minimum
necessary to make a proﬁt.
These conﬂicts now generally are resolved through the WTO.
• Non-tariff barriers:
Imports can be limited by a quota. Quotas are imposed to restrict the growth of such imports.
• Subsidies are payments to a domestic industry that allow it to lower its prices without losing
money. Such subsidies are extensive in state-owned industries.
Subsidies include tax breaks, loans (or guaranteed private loans) or high guaranteed prices paid by
• Regulations make it hard to distribute and market a product even when it can be imported.
Environmental and labour regulations can function as non-tariff barriers as well.
▯2 Saturday, March 22, 2014
• When a state nationalizes an entire industry, such as oil production or banking, foreign
competition is shut out.
• Economic nationalism — use of economics to inﬂuence international power and relative
standing in the international system (a form of mercantilism)
World Trade Organization (WTO) a global, multinational IGO (inter-governmental
organization) that promotes, monitors, and adjudicates international trade. The WTO shapes
the overall expectations and practices of stats regarding international trade.
• The WTO is the successor organization to the General Agreement on Tariffs and
Trade (GATT) created in 1947 to facilitate freer trade on a multilateral basis. In 1995, the
GATT became the WTO, which incorporated the GATT agreements on manufactured
goods and extended the agenda to include trade in services and intellectual property.
The WTO has an international bureaucracy of about 600 people that monitors trade policies
and practices in each member state and adjudicates disputes among members.
• By 2012, 155 countries — including all the world’s major trading states — had joined the
• The WTO framework rests on the principle of reciprocity— matching states’ lowering of trade
barriers to one another. Uses the concept of nondiscrimination in the most-favoured
nation (MFN) concept which says that trade restrictions imposed by a WTO member on its
most-favoured trading partner must be applied equally to all WTO members. If Australia
applies a 20% tariff on auto parts imported from France, it must not apply a 40% tariff on
parts imported from the US. The WTO equalized barriers in a global framework to create a
level playing ﬁeld for all members.
• Generalized System of Preferences (GSP) by which rich states give trade concessions to
poor ones to help their economic development.
• Agricultural trade is politically more sensitive than trade in manufactured goods.
• In 2001, trade ministers meeting in Doha, Qatar, agreed to launch a new round of trade
negotiations, the Doha Round.
• The main obstacle remains the resistance of the industrial West to cut agricultural subsidies
as demanded by countries in the global south.
• Bilateral agreements covering trade are reciprocal agreements to trade between two states.
• Part of the idea behind GATT/WTO was to strip away the maze of bilateral agreements on
trade and simplify the system of tariffs and preferences. They have reduced the collective
goods problem inherent in multilateral negotiations and facilitated reciprocity as a means to
Regional free trade areas are groups of neighbouring states that agree to remove most or
all trade barriers within their area. Beyond free trade areas, states may reduce trade barriers
and adopt a custom tariff toward states that are not members of the agreement. This is known
as a customs union.
• The Unites States, Canada, and Mexico signed the North American Free Trade
Agreement (NAFTA) in 1994, following a Us-Canadian free trade agreement in 1988.
Initially Mexico’s currency dropped drastically relative to the dollar in 1994-1995.
• In 2007 the ten ASEAN countries met with China, Japan, India, Australia, and New Zealand
to begin negotiating an East Asian free trade area. The negotiations between ASEAN states
and China were successful, and in 2010, a free trade area went into effect between these
▯3 Saturday, March 22, 2014
countries. The ASEAN-China FTA is the world’s third largest free trade area, after the EU
• The Southern Cone Common Market (Mercosur) began in the early 1990s with Brazil,
Argentina, Uruguay, and Paraguay. Venezuela later joined. Chile, Bolivia, Columbia,
Ecuador, and Peru have joined as associate members. In 2002, the counties agreed to allow
their 250 million citizens free movement and residency across countries.
• The more states meet ht apolitical requirements of economic growth through bilateral and
regional agreements, the less they may depend on the worldwide agreements developed
through the WTO.
• Cartel — an association of producers or consumers, or both, of a certain product — forced to
manipulate its price on