‘A country has a comparative
advantage in producing a good if the opportunity cost of producing that good in
terms of other goods is lower than it is in other countries’ (Krugman, Obstfeld, & Melitz, 2015). David Ricardo was
an economist who researched the theory comparative advantage, which would go on
to become basis for modern theories even today. (Ricardo, 1817). Ricardo believes that countries should
specialise in producing goods that other countries may not want to produce
because of lack of the factors of production that could be used efficiently.

‘International trade issues generally pose three types of
questions for economists. The ?rst is based on explanations of trade ?ows
between at least two nations. The second refers to the nature and extent of
gains or losses to an economy. Finally, the third issue concerns the effects of
trade policies on an economy’  (Morgan &
Katsikeas, 1997)
The absolute advantage model was developed by Adam Smith (1776) that would go
on to become the basis of future theories of international trade. It stated
that trade was a positive sum game and both countries would stand to gain from
engaging in international trade. It criticised mercantilist theory as Smith
(1776) thought that the aim of each country was to not become richer but
actually produce what it had an ‘absolute advantage’ in. Countries are able to
gain if each devotes resources to the generation of goods and services in which
they have an economic advantage (Ricardo, 1817; Smith, 1776). In figure 1 of
the appendix it can be seen that India can producer 1 pair of shoes and 2.5
meters of cloth if they distribute their resources evenly, while China produces
8 meters of cloth to one pair of shoes. This shows that India doesn’t have an
absolute advantage while China has an absolute advantage in both shoes and
cloth. However, China loses 4 meters of cloth to a single pair of shoe while
India loses just 2.5 meters. This trade-of is known as opportunity cost when
there is a decision to be made to forego something in order to produce another good (Krugman,
Obstfeld, & Melitz, 2015).

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Classical Theories

trade has been synonymous with civilisations since recorded
ancient history. Trade is the reason why many empires grew and other were
desecrated. Nations used the benefits from trade to fund expansions and to fuel
growth. Trade has evolved highly, from taking place by few merchants traversing
along delirious paths such as Old Silk Route to global integration experienced
today with the aid of rapid communication and multinational expansion. Through
lower barriers to trade and open economies countries can be successful in a
highly competitive playing field. Free trade brings benefits to all nations.
This theme forms the foundation of any discussion for international trade’
Caves et al. 1999 p 199The past few decades saw many innovations which have
made our life so comfortable, such as the personal computer and other
innovations in technology brought along by integration of R&D efforts and
diversity amongst the workforce (Chesbrough, 2003) In this essay I will
analyse and comment on classical and modern trade theories such as Comparative
Advantage, Heckscher-Ohlin Model and Internalisation theories amongst others. I
aim to distinguish which of these theories are most relevant for countries and
business to forecast future trends.

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