FBM 1101 PRINCIPLES OF ECONOMICS

LEC 8 INTERNATIONAL TRADE

Trade is defined as a practice of buying and selling of goods and services for
money. It involves transfer or exchange of goods and services for money or money's
worth. The manufacturers or producer produces the goods, then moves on to the
wholesaler, then to retailer and finally to the ultimate consumer.
Trade is essential for satisfaction of human wants, Trade is conducted not only for
the sake of earning profit; it also provides service to the consumers. Trade is an
important social activity because the society needs uninterrupted supply of goods for
ever increasing and ever changing but never ending human wants. Trade has taken
birth with the beginning of human life and shall continue as long as human life exists
on the earth. It enhances the standard of living of consumers. Thus we can say that
trade is a very important social activity.
Trade can be divided into two types, viz.,
 Internal or Home or Domestic trade.
 External or Foreign or International trade
Internal trade is also known as Home trade. It is conducted within the political and
geographical boundaries of a country. It can be at local level, regional level or national
level.
Internal trade can be further sub-divided into two groups, viz.,
1. Wholesale Trade: It involves buying in large quantities from producers or
manufacturers and selling in lots to retailers for resale to consumers. The
wholesaler is a link between manufacturer and retailer. A wholesaler occupies
prominent position since manufacturers as well as retailers both are dependent
upon him. Wholesaler act as an intermediary between producers and retailers.
2. Retail Trade: It involves buying in smaller lots from the wholesalers and selling in
very small quantities to the consumers for personal use. The retailer is the last link
in the chain of distribution. He establishes a link between wholesalers and
consumers. There are different types of retailers small as well as large. Small scale
retailers include hawkers, peddlers, general shops, etc.
External Trade
External trade also called as Foreign trade. It refers to buying and selling between
two or more countries. For instance, If Mr. X who is a trader from Mumbai sells his goods
to Mr. Y another trader from New York then this is an example of foreign trade.
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External trade can be further sub-divided into three groups, viz.,
 Export Trade: When a trader from home country sells his goods to a trader
located in another country, it is called export trade. For e.g. a trader from India
sells his goods to a trader located in China.
 Import Trade: When a trader in home country obtains or purchase goods from a
trader located in another country, it is called import trade. For e.g. a trader from
India purchase goods from a trader located in China.
 Entrepot Trade: When goods are imported from one country and then re-
exported after doing some processing, it is called entrepot trade. In brief, it can be
also called as re-export of processed imported goods. For e.g. an Indian trader
(from India) purchase some raw material or spare parts from a Japanese trader
(from Japan), then assembles it i.e. convert into finished goods and then re-
export to an American trader (in U.S.A).

Why do countries trade?

Countries trade with each other when they do not have the resources, or
capacity to satisfy their own needs and wants. In such a case, a country will be
importing the required resources from other countries that provide the resource of
better quality, at a cheaper price or that is more easily available. In case if a country is
having abundant resources, country can produce a surplus, and trade to other countries
that are in need of the product.
The production of goods and services in countries that need to trade is based on
two fundamental principles, first analysed by Adam Smith in the late 18th Century
(in The Wealth of Nations, 1776), these being the division of labour and specialisation.
Division of labour
In its strictest sense, a division of labour means breaking down production into
small, interconnected tasks, and then allocating these tasks to different workers based
on their suitability to undertake the task efficiently. When applied internationally, a
division of labour means that countries produce just a small range of goods or services,
and may contribute only a small part to finished products sold in global markets. For
example, a bar of chocolate is likely to contain many ingredients from numerous
countries, with each country contributing, perhaps, just one ingredient to the final
product.

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Specialisation
Specialisation is the second fundamental principle associated with trade, and
results from the division of labour. Given that each worker, or each producer, is given a
specialist role, they are likely to become efficient contributors to the overall process of
production, and to the finished product. Hence, specialisation can generate further
benefits in terms of efficiency and productivity.
Specialisation can be applied to individuals, firms, machinery and technology,
and to whole countries. International specialisation is increased when countries use
their scarce resources to produce just a small range of products in high volume. Mass
production allows a surplus of good to be produced, which can then be exported. This
means that goods and resources must be imported from other countries that have also
specialised, and produced surpluses of their own.
When countries specialise they are likely to become more efficient over time. This
is partly because a country's producers will become larger and exploit economies of
scale. Faced by large global markets, firms may be encouraged to adopt mass
production, and apply new technology. This can provide a country with a price and
non-price advantage over less specialised countries, making it
increasingly competitive and improving its chances of exporting in the future.
In 1817, David Ricardo, a businessman, economist, and member of the British
Parliament, wrote a treatise called On the Principles of Political Economy and Taxation.
In this treatise, Ricardo argued that specialization and free trade benefit all trading
partners, even those that may be relatively inefficient. To see what he meant, we must
be able to distinguish between absolute and comparative advantage.
A country has an absolute advantage in producing a good over another country
if it uses fewer resources to produce that good. Absolute advantage can be the result of
a country’s natural endowment. For example, extracting oil in Saudi Arabia is pretty
much just a matter of “drilling a hole.” Producing oil in other countries can require
considerable exploration and costly technologies for drilling and extraction—if indeed
they have any oil at all. The United States has some of the richest farmland in the world,
making it easier to grow corn and wheat than in many other countries. Guatemala and
Colombia have climates especially suited for growing coffee. Chile and Zambia have
some of the world’s richest copper mines. Chile will provide copper and Guatemala will
produce coffee, and they will trade. When each country has a product others need and

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it can be produced with fewer resources in one country over another, then it is easy to
imagine all parties benefitting from trade.
A country has a comparative advantage when a good can be produced at a
lower cost in terms of other goods. The question each country or company should be
asking when it trades is this: “What do we give up to produce this good?” in economic
sense, the opportunity cost. For example, if Zambia focuses its resources on producing
copper, its labor, land and financial resources cannot be used to produce other goods
such as corn. As a result, Zambia gives up the opportunity to produce corn. How do we
quantify the cost in terms of other goods? Simplify the problem and assume that Zambia
just needs labor to produce copper and corn. Suppose if a company takes 10 hours to
mine a ton of copper and 20 hours to harvest a bushel of corn. This means the
opportunity cost of producing a ton of copper is 2 bushels of corn whereas the
opportunity cost of producing a bushel of corn is 0.2 ton of copper. Since the
opportunity cost of producing a bushel of corn is lesser compared to that of copper, the
company can take up mining of copper and import the required corn from other
countries.

Advantages of trade
 Better use of resources: The producer tries to control the cost by optimum
combination of factors of production. So there is no misuse of production factors.
 Economies of scale: The producers are able to produce their product in large
quantities at comparatively low cost.
 Cultural Diversity: The import and export of goods and services introduces the
taste and preference of one group of people to the rest of the world.
 Monopoly: It eliminates monopoly, sometimes goods and services can be
imported and surplus can be exported. In both cases the seller cannot create
monopoly in the market.
 Employment opportunities: Creates better employment opportunities
 International relations: It brings friendly relations with other countries.
 Transfer of technology: With the development of trade relations, they can
transfer improved method, machinery for inventions and innovations.
 World peace: Helps to maintain peace between different countries.

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Disadvantages of trade
 Local industry suffers: Domestic industry finds it difficult to compete with other
countries from which goods are imported at cheaper price or better quality.
 Excessive use of natural resources: After involving in international trade market,
countries want to export in bulk quantity. They must produce goods in bulk
which involve utilization of natural resources.
 Shortage in local market: For capturing market share, countries involve too much
as a result they face shortage in the local market and notice hike in prices.

INTERNATIONAL TRADE
International trade is the exchange (buying and selling) of goods and services
between countries. The imports are purchases and exports are sales to foreign
countries. The ultimate goal of international trade policies of any country is the
expansion of market share for goods and services and gives us a choice between
products from all over the world. The need for international trade arises due to uneven
distribution of natural resources, climatic conditions, growth rate, technology and
professional management. Total trade equals exports plus imports. In 2015, world trade
was $32.9 trillion. That's $16.67 trillion in exports plus $16.2 trillion in imports.
An international trade exists for the following reasons:
1. There is an uneven distribution of natural resources in different countries. Therefore,
international trade exists to bridge the gap across geographical boundaries.
2. All countries possess diverse strengths and weaknesses in terms of land, labour,
capital and technology. By focusing on industries with comparative advantage, cost
and operations efficiencies are reaped via specialisation.
3. It provides consumers the opportunity to be exposed to those goods and services that
are not available in their own country.
4. It reduces dependency on domestic market by expanding customers’ demand in
other countries.
5. It enhances economic growth and contributes significantly to the country’s Gross
Domestic Product.
Balance of Payment (BOP)
Balance of Payment is the difference between the value of goods and services
exported out of a country and the value of goods and services imported into the
country.
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 The balance is said to be favorable when the value of the exports exceeded that
of the imports (i.e. exports exceed imports), and unfavorable when the value of the
imports exceeded that of the exports (i.e. imports exceed exports). On the other hand,
where visible exports is equal to visible imports, there is a balanced of trade.
Trade Barriers
Free and fair international trade is an ideal situation as free trade is beneficial to all
participating countries. However, various types of barriers/restrictions are imposed by
different countries on international marketing activities. Such imposed or artificial
restrictions on import and exports are called Trade barriers which are unfair and harmful
to the growth of free trade among the nations. The trade barriers can be broadly
divided into two broad groups-
i) Tariffs
A tariff is any tax or fee collected by a government on the goods or services that
are imported from other countries. It acts as revenue for the governments. It is the most
common way practiced by countries to reduce its import. The most important tariff
barrier is the customs duty imposed by the importing country. A tax may also be
imposed by the exporting country on its export. However, governments rarely impose
tariff on export, because countries want to sell as much as possible to other countries.
ii) Non-Tariff barriers
Non-tariff barrier is any barrier other than a tariff that raises an obstacle to free
flow of goods in overseas markets. Non-tariff barriers, do not affect the price of the
imported goods but only the quantity of imports. Eg: Quota System,

MULTILATERAL TRADE AGREEMENTS:

With the objective of defining rules for international trade and regulating trade
flows, several trade agreements were signed by the member countries like GATT.

GENERAL AGREEMENT ON TARIFF AND TRADE (GATT)

A treaty created following the conclusion of World War II. The general
agreement on tariffs and trade (GATT) was implemented to further regulate world trade
to aide in the economic recovery following the War. GATT’s main objective was to
reduce the barriers of international trade through the reduction of tariffs, quotas and
subsidies. GATT was formed in 1947 and signed into international law on January 1,
1948, GATT remained one of the focal features of international trade agreements until it

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was replaced by the creation of the World Trade Organization on January 1, 1995. The
foundation of GATT was laid by the proposal of the international trade Organization in
1945, however the ITO was never completed.
GATT was signed by twenty-three countries including India in 1948 as a way of
jump-starting the trade liberalization process. The GATT consists of a set of promises, or
commitments, that countries make to each other regarding their own trade policies. The
goal of the GATT was to make trade freer (i.e., to promote trade liberalization) through
reductions in trade barriers among the member countries.
Eight rounds of discussions and negotiations were undergone by the member
countries. The negotiations were mainly focused on reducing the trade barriers thereby
liberalizing the trade. The Uruguay Round was the last of eight completed rounds of the
GATT. Discussion for the round began in Montevideo, Uruguay, in 1986, and it was
hoped that the round would be completed by 1990.
As a result of seven completed GATT rounds, by the mid-1980s tariffs in the main
developed countries were as low as 5 percent to 10 percent and there was less and less
room for further liberalization. At the same time, there were a series of trade issues that
sidestepped the GATT trade liberalization efforts over the years. In those areas—like
agriculture, textiles and apparel, services, and intellectual property—trade barriers of one
sort or another persisted. Thus the ambitious objective of the Uruguay Round was to
bring those issues to the table and try to forge a more comprehensive trade
liberalization agreement.

URUGUAY ROUND
The Eighth Round, called the Uruguay Round in 1986 was Launched at Uruguay
and concluded at Geneva after 8 years. It was the last round as far as GATT was
concerned because at the end of this round, it was decided by the participating
countries to replace GATT by WTO from 1st January 1995. The negotiations took place
on the following matters:-
1. Tariff and non-tariff measures.
2. Trade in services.
3. TRIPS agreement.
4. TRIMS agreement.
5. Trade in textiles.
6. Trade in agriculture.

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 7. Creation of WTO, etc.
The main highlight of Uruguay Round are-
1. Trade in services-
For the first time in the history of GATT, trade in services like banking, insurance,
travel etc. has been brought under multilateral agreement. The inclusion of services in
the agreement reflects the growing importance of services in the world economy. The
GATTs agreement introduces a number of general obligations in the services.
2. Anti-dumping measures-
The developed countries have increasingly resorted to anti-dumping measures.
The Uruguay round seeks to introduce new rules relating to dumping, which would
benefit the developing nations.
3. Trade Related Intellectual Property Rights (TRIPs)-
At the Uruguay round, the TRIPs agreement was signed. The TRIPs agreement
provides protection of intellectual property rights including patents, trademarks,
copyrights, etc. This agreement is expected to boost research and development and
investment in property rights.
4. Agreement on Agriculture-
The agreement on agriculture was signed. The main objective was to increase
market access to agriculture items in member nations. The member nations have to
change or remove their non-tariff barriers like quotas on agriculture items.
5. Trade-Related Investment Measures (TRIMs)-
At the Uruguay round, the TRIMs agreement was signed. The TRIMs agreement
introduces a number of measures by member countries to treat foreign investments on
par with domestic investments and also removal of quantitative restrictions on imports.
Certain measures that discriminate against foreign investments were to be withdrawn
by member nations, such as dividend balancing requirements.
6. Agreement on Textiles and Clothing-
The MFA (Multi-Fiber agreement) was in force since 1973. Under MFA the
developed countries (France, USA, Canada, Japan England etc.) that were importing
textiles and clothing from developing nations were imposing quotas. At the Uruguay
round, it was decided to withdraw MFA within a period of 10 years (by 01-01-2005).
MFA has been withdrawn, which would benefit the textile exporting counties including
India.

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WORLD TRADE ORGANIZATION (WTO)
The world trade organization (WTO) is an international body dealing with rules
relating to international business operations. The organization is responsible for global
agreements, negotiations and ensures regulations and various trade policies/rules and
to keep them within agreed limits and bounds. The WTO started functioning from 1st
January 1995 as a result of Uruguay Round of negotiations. WTO is the successor to the
General Agreement on Tariffs and Trade (GATT). GATT has ceased to exist as a separate
institution and has become part of the WTO. WTO has larger membership that GATT.
India is one of the founder members of WTO.
The World Trade Organization provides a forum for continuing negotiation to
liberalize the trade in goods and services through the removal of barriers and the
development of rules in new trade-related subject areas.
Whereas the GATT only covered trade in goods and for the most part excluded
agricultural and textile products, the WTO covers trade in services and intellectual
property rights, as well as trade in all goods, including agricultural and textile products.

OBJECTIVES OF WTO:
i. Free trade i.e. trade without discrimination
ii. Growth of less developed countries.
iii. Protection and preservation of environment.
iv. Optimum utilization of available world’s resources.
v. Raising living standard of citizens of member counties.
vi. Settlement of trade disputes among member countries through consultation and
dispute settlement procedures.
vii. Generating employment opportunities at global.
viii. Enlargement of production and trade.

Agreement on Agriculture (AOA)

In 1995, the year that the WTO was established, the first effective rules governing
international trade in agriculture and food were introduced. Following the Uruguay
Round negotiations, all agricultural products were brought under multilateral trade
rules by the WTO’s Agreement on Agriculture.

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 The Agreement is made up of three ‘pillars’: market access, export competition
and domestic support. All WTO members, except least developed countries (LDCs), were
required to make commitments in all these areas in order to liberalise agricultural trade.
The agreement on agriculture is the first serious steps in reform of international rules
governing agricultural trade.
The obligation and disciplines incorporated in the agreement on agriculture,
therefore related to
1. Increased market access for agricultural trade by restricting the imports from
foreign producers.
2. Domestic support policies on agricultural trade- Domestic support policies include a
variety of measures aimed at raising the income of producers and sustaining the
profitability of domestic farming.
3. Export subsidies on agricultural products- Providing export subsidies to the
producers thereby resulting in the increase of export.

EXIM POLICY
EXIM policy means the policy relating to exports and imports. In other words, it is
the policy relating to foreign trade/international marketing. Even policies relating to
export promotion are covered within the scope of the EXIM policy. In India policy is
formulated and announced by the Ministry of Commerce, Government of India. DGFT
(Directorate General of Foreign Trade) is the main governing body in matters related to
Exim Policy is regulated by the Foreign Trade Development and Regulation Act, 1992.
Indian EXIM Policy contains various policy related decisions taken by the
government in the sphere of Foreign Trade, i.e., with respect to imports and exports
from the country and more especially export promotion measures, policies and
procedures related thereto. Trade Policy is prepared and announced by the Central
Government (Ministry of Commerce). India's Export Import Policy also known as Foreign
Trade Policy, in general, aims at developing export potential, improving export
performance, encouraging foreign trade and creating favorable balance of payments
position.
The government of India introduces the EXIM policy, normally for a period of five
years. The EXIM policy provides a list of initiatives and procedural guidelines for the
exporters and importers. In 2004, the government of India renamed the EXIM policy as
Foreign Trade Policy.
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MAIN OBJECTIVES OF INDIA‘S FOREIGN TRADE POLICY
In general, the principal objectives of India’s foreign trade policy are as follows.
1. To strengthen the base for export production for promoting exports.
2. To place special emphasis on exports to generate high net foreign exchange.
3. To simplify and streamline import-export procedures.
4. To facilitate technological up gradation of domestic production so as to make Indian
goods globally competitive.
5. To reduce import through import substitution, encouragement to indigenous
production and thereby to conserve foreign exchange for better purposes and use.
6. To act as an effective instrument of economic growth by giving thrust to employment
generation, especially in semi-urban and rural areas.
7. To offer different types of export incentives, concessions and facilities so as to
encourage manufacturers and exporters to take more initiative in export promotion.
Exports are made attractive/profitable through such export incentives.
8. To import continuity and stability to foreign trade policy.
9. To encourage the attainment of high and internationally accepted standards of
quality and there enhance the image of India’s products abroad.
10. To establish the framework for globalization of India’s foreign trade.

INTERNATIONAL TRADE IN AGRICULTURE IN INDIA

Agriculture is the dominant sector of Indian economy, which determines the

growth and sustainability. About 65% of the population still relies on agriculture for
employment and livelihood. Indian agriculture however, has milestones. The green
revolution transformed India form a food deficient stage to a surplus food market. In a
span of 3 decades, India became a net exporter of food grains. Remarkable results were
achieved in these fields of dairying and oil seeds through white and yellow revolutions.
The sector could not however maintain its growth momentum in the post green
revolution years, the strategic growth in agriculture and the accelerated growth in
industry reversed the structure of national GDP in Indian economy. Despite these major
structural transformations, the agriculture sector continues to accommodate the major
share of the workforce. The sector is prone to output fluctuations even after establishing
better input facilities and technology like irrigation, High yielding seeds, changes in
cropping pattern etc.
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 India is yet to emerge as significant trade partner in the world agriculture market.
India holds around 1% of the global trade-in agricultural commodities. With the
ongoing trade negotiations under the WTO, Indian Agriculture needs to reorient its
outlook and enhance competitiveness to sustain growth from a demand side.

With India being a major negotiator on world agriculture trade, it can be

expected that Indian agriculture trade will expand in the years to come. This process
started with the India signing the Agreement on Agriculture (AOA) during the Uruguay
Round. Now that the fourth Ministerial of WTO at Doha has mandated further
negotiations on agriculture trade to improve market access, India can look forward to a
bright trade prospects in agriculture with proper policy support.

The Indian Agriculture Industry is on the brink of a revolution that will modernize
the entire food chain, as the total food production in India is likely to double in the next
ten years. As per recent studies the turnover of the total food market is approximately
Rs.250000 crores (US $ 69.4 billion) out of which value-added food products comprise
Rs.80000 crores (US $ 22.2billion). The Government of India has also approved
proposals for joint ventures, foreign collaborations, industrial licenses and 100% export
oriented units envisaging an investment of Rs.19100crores (US $ 4.80 billion) out of
which foreign investment is over Rs. 9100 crores (US $ 18.2 Billion).

The agricultural food industry also assumes significance owing to India's sizable
agrarian economy, which accounts for over 35% of GDP and employs around 65 per
cent of the population. Both in terms of foreign investment and number of joint-
ventures / foreign collaborations, the consumer food segment has the top priority. The
other attractive features of the Indian agro industry that have the capacity to lure
foreigners with promising benefits are the deep sea fishing, aqua culture, milk and milk
products, meat and poultry segments. Excellent export prospects, competitive pricing of
agricultural products and standards that are internationally comparable has created
trade opportunities in the agro industry. This further has enabled the Indian Agriculture
Industry Portal to serve as a means by which every exporter and importer of India and
abroad, can fulfill their requirements and avail the benefits of agro related buy-sell trade
leads and other business opportunities. This Indian agro industry revolution brings
along the opportunities of profitable investment. From canned, dairy, processed, frozen

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food to fisheries, meat, poultry, food grains, alcoholic beverages & soft drinks, the Indian
agro industry has dainty areas to choose for business.

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