Specialisation and foreign trade

If people specialise they are more productive – if you are like me, you probably could not make a good pair of shoes, do brain surgery or advise on investing for pensions! We tend to do what we are best at. Imagine the result if we did what we are worst at!

Countries are the same – if they concentrate on what they are best at, they produce more and better goods or services. As a rule of thumb, countries that follow a protectionist policy (protecting their industries from foreign competition) are trying to do what they are worst at, or at least not trying to do what they could be best at. Most economists would probably think that protectionism is not exactly a good idea.

Two concepts of “advantage”

Absolute advantage – this means a country can produce more of almost everything than another, i.e., it is a wealthy country. The USA can produce more than Egypt for instance – clearly, the USA has an absolute advantage over Egypt. It is of no particular interest as an idea: the rich are just rich!

Comparative advantage – this means that a country is better at producing something, but not necessarily everything, than another. For instance, Sweden is better at making marine engines than the UK, but we are better at organising financial markets and insurance. All countries are better at doing a few things more than others.

Comparative advantage is the one that matters in economics and it is the main reason why countries trade with each other. We do not simply buy pineapples from tropical countries because it is too cold to grow them here. We could in fact grow them under glass and with heating, but we clearly lack a comparative ad- vantage in the pineapple producing business. Hawaii on the other hand has a strong comparative advantage in that area.

The gains from trade

If a country tries to produce everything for itself, it will stay poor. Examples: China under Mao Zedong and Russia under Stalin both followed such a policy and the people suffered a very low standard of living as a result. The message is that trade helps the people in a country to gain wealth!

The gains from trade consist of:

· Comparative advantage – we do what we are best at and thus produce more. We then exchange our surplus with other countries for something we are less good at. Both the other countries and our country do better and enjoy higher living standards as a result.

· Economies of scale – if we specialise we can follow a system of mass production, and lower our costs. We can then exchange the surplus with other countries. Economies of scale are examined in Unit 2.

· We can gain wider consumer choice e.g., we can drive Volvos, Renaults or BMW’s, as well as lo- cally-made Fords!