Globalisation — Why nations participate and reasons for restrictions
Why do nations trade? Outline changes to world trade as a result of globalisation. Discuss any justifications for restricting trade.
Various nations participate in world trade for a variety of reasons. Three major factors which motivate nations to trade are factor endowments, absolute advantage and comparative advantage. There are also many other benefits, which can be gained from world trade. These include increased production resulting in increased GDP and higher rates of economic growth, higher standards of living and also increased employment. The vast increase in globalisation has resulted in many countries becoming more efficient in specialised industries. Despite all of the above-mentioned benefits, nations still restrict trade to protect their domestic producers.
Each country has a different availability of resources. This is known as having different factor endowments. These differences exist for:
- Natural Resources Human Capital Human Made Capital
A country will trade with another country to allow for greater access to those goods and services that it cannot produce efficiently and at a reasonable price.
If a country can produce more of a good or service, using the least resources then it is said to have an absolute advantage. If one country has an absolute advantage in a particular product, then that product may be cheaper coming from that country so the other country will trade to get the cheaper product.
Comparative advantage is similar to absolute advantage. The difference is that it is when one country is relatively more efficient at producing one good or service than the other. It allows countries to specialise in the production of a good or service in which they have comparative advantage. Simply, the country with the lowest opportunity cost for producing one good has a comparative advantage. With a country specialising in a particular good or service, economies of scale apply and a country is able to produce the good or service more efficiently and cheaper than another country, hence countries trade to get the cheaper product.
When a country can specialise in a particular product, it allows for that country to have increased production. Production contributes to the nations Gross Domestic Product (GDP) or Gross National Product (GNP). This is the value of all things produced in a country in a year. If a country is producing more, then real output increases which is recorded in the GDP which in turn results in higher levels of economic growth. These are all reasons why nations take part in world trade.
An outline of the result of increased globalisation is shown below.
Increased Production (Comparative advantage allows a country to specialise in certain products)
Production Efficiencies (Due to increased competition, domestic producers are forced to be more efficient)
Improved Consumer Sovereignty (Consumers have access to more products at a cheaper price)
Exchange Gain (Countries receive money for their exports. This money can then be used to purchase imports)
Increased Employment (Employment increases in export industries)
Higher Incomes (Total output increases so real income raises)
Higher Rates of Economic Growth (Increased incomes mean more is produced to satisfy demand)
Higher Standards of Living (Higher incomes mean better living standards)
Governments may choose to restrict world trade in their country for a number of reasons. They do this to protect domestic producers. From an economic point of view, they can justify economic protection using two main arguments. Firstly they can take the Infant Industry otherwise known as sunrise industries approach. These are industries that are in the establishment phase. They have overheads during this phase. With high overheads it is difficult and almost impossible for them to compete against larger, foreign competitors. Restricting trade allows for these firms to establish themselves before entering the international market. Free trade restricts infant industries from establishing themselves.
The other economic justification for restricting trade is dumping. This refers to the practice of foreign firms selling their products at a price below production costs. There are three main reasons for international firms doing this:
- To get rid of excess stock To gain market share in the domestic market To drive out local producers
The practice of dumping makes it very hard for domestic firms to compete, which is why a government may restrict trade.
Apart from economic justifications for restricting trade there are a number of social and political arguments. A major one is that there may be reduced domestic employment as a result of world trade. Due to the increased foreign competition, it is inevitable that some local producers will collapse, hence reducing domestic employment. However on a larger scale, free trade will increase overall employment.
Another social and political argument is to do with cheap foreign labour. In some countries, the cost of labour is vastly cheaper than labour in others. This means that they could get an unfair advantage in trade due to production costs being comparatively lower. When this occurs, however, it fails to take into account the quality of the product, productivity and the different production techniques used.
The last social and political justification used is that of defence. Some claim that a nation should not rely heavily on world trade as it decreases its independence. These people claim that a country should have the ability to be self-sufficient in the event of a war or similar event.
By participating in world trade, countries can have a number of benefits including increased production, higher levels of economic growth, higher incomes and can also achieve a higher standard of living. Although taking part in world trade can provide many benefits, governments still choose to restrict trade in order to protect their own domestic producers from too much foreign competition.
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