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0:01
[Music] In the introductory video to this International Economics course, I challenged you to "think like an Economist". We discussed in brief, the history of Globalization and International Trade, and in this chapter we look into the Basis for Trade, Terms of Trade, and Gains from International Trade in terms of production and consumption. As you read this chapter and watch the video, you will get acquainted with some key historical
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figures who founded concepts of international trading, and will see how those concepts have matured to present day trade theory. International trade has always been viewed as a process of expanding influence financially and politically, with economic dominance translated into political power. In this video session, we will take a closer look into modern trade theory, talk in more detail about comparative and absolute advantage, get an idea of what are constant opportunity costs, and more.
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The conclusions made are supported by a lot of empirical evidence that you will read more about in the textbook.
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[Music] An average car has thousands of parts produced by hundreds of suppliers from dozens of countries what makes this possible is not only the international trading system but also international supply chains over the years the costs of transport and communication have fallen making it possible for companies to split up their production lines into different production facilities now more and more each stage of production occurs not just in a separate factory but in an entirely
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different country for example a car might have an engine made in Germany a wiring harness from Tunisia an exhaust filter system from South Africa and finally be assembled in Mexico this type of production is a major reason why global trade has grown so fast the volume of world trade today is 27 times larger than it was in 1950.
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Supply chains can allow poor countries to start manufacturing goods for the global market by locating activities in countries where lower costs of living mean labour costs are also low or in countries where raw materials are located the total cost of production can be reduced this helps companies create new or better products without continually raising the final price paid by consumers yet while there are many benefits to supply chains there are also some risks if a country
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that's part of the supply chain experiences a natural disaster for example then a delay in production in that country affects activities further down the supply chain this affects not only the production of the final product but also the intermediate goods as well in 2011 floods in Thailand affected the final production of goods around the world ranging from electronic goods to cars and shoes also when countries do not coordinate their regulatory policies
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that is the rules that help ensure health and safety supply chains can be affected for example a chemical company that imports ingredients for aspirin and acetaminophen into the United States must comply with similar or overlapping regulations from five different agencies the agencies sometimes fail to communicate among themselves and this delays the shipment of products to counter this governments and corporations are working to smooth out
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some of those kinks in the supply chain to minimize red tape while still protecting health and safety by taking a closer look at how supply chains operate policies can be better designed to help both producers and consumers another shortcoming is that rules of existing trading agreements between countries usually don't mesh well with supply chain trade in order to help correct this trade officials should do more to think supply chain when designing trade
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agreements so the rules in these agreements can help supply chains work better in the future [Music]
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[Music]
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The ideas discussed here will be revisited throughout this course, in different contextual settings, which, I believe, will contribute to your ability to make your own judgements on the issues discussed. We will start this session with another glimpse into history. About 600 years ago a group of merchandise traders called the Mercantilists were one of the first initiators of trade exchanges. They established elementary business practices for trading goods between countries.
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Businesses and Governments worked together to establish some standards for international trade in an effort to promote favorable trade balances. This was the time when governments had a leading role in trade through introducing tariffs, quotas and regulating other commercial policies. Gold and silver were treated as the international currency, extremely valued as a symbol of wealth. Accumulation of wealth was generally associated with Nation Building.
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An early doctrine of David Hume asserted that a nation's favorable trade balance was only possible in the short-run. Eventually conditions would change as a leading country would increase wealth, thus improving the standards of living, leading to more purchases of Foreign Made goods. In time, the trade balance would shift to favor a net-exporter giving that nation the favored surplus status. The Scottish economist and moral philosopher Adam Smith wrote in the last quarter of the
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18th century "The Wealth of Nations" to offer one of the world's first descriptions of what builds a nations' wealth. Today it is considered a keystone in classical economics. Released at the beginning of the Industrial Revolution, Smith touched upon broad topics such as the division of labor, productivity, and free markets.
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Smith advanced the idea that production costs among countries differ because of the difference in productivity of labor, due to factor inputs like raw materials and acquired knowledge. The premise was that a country's people become advanced because of skill development and techniques, and as a result, out-compete their trading partners in product manufacturing; such a nation enjoys an Absolute Advantage. Smith considered factors from a Supply Side perspective; keep that in mind.
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He was the first philosopher and economist who defined the concept of the Labor Theory of Value postulating that LABOR is the only variable factor of production within a country.
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The principle of Absolute Advantage implies that a nation ultimately becomes the lowest cost provider of a product among its trading partners. For the world to benefit from specialization, or division of labor, trading partners must produce goods, for which one of them, holds Absolute Advantage. A Nation will import goods for which it has an Absolute Cost Disadvantage.
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A cursory look at an example of two countries, each making two products, shows the United States holding an Absolute Advantage in the production of Cloth, with the United Kingdom holding it for Wine. According to Smith, specialization creates an increase in world-wide output, as each nation specializes in what it does at the lowest cost. Specialization, by increasing productivity in separate countries leads to an increase in world output as well.
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David Ricardo, a British businessman, in 1800 read Smith's The Wealth of Nations. He was duly impressed, and extended the analysis with a twist to Smith's theory of one specialty for each country. Ricardo explored the scenario of a "Super Production Country" that was more efficient in the production of all or many goods traded. His postulates became known as the Principles of Comparative Advantage. He focused on the relative cost differences in the production of goods between nations.
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[Music]
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We don't really know what life is like inside North Korea we do know that it's ruled by this guy we know that it's the subject of numerous insane rumors and we know that the sealed borders prevent us from learning much of anything else but one thing that is becoming a little bit more clear is the state of the Hermit kingdoms economy one that may have been built on the backs of smugglers and the black market for the most part the economy in North Korea is run by the
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government that includes imports exports and manufacturing in fact private trade is illegal but that doesn't stop it from happening over the last couple of decades North Koreans have developed a gray market or an informal economy one that's not monitored controlled or taxed by the government and according to one North Korea expert its success can be partially attributed to Kim Jong hoon tujhe new policy is a remarkably friendly towards the private business
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because his fossa was answered he isolated from toleration of the private economy to an occasional support of the private economy and then back to attempts to eradicate private economy Kim Jong-un's policy is different it's a quite tacit approval and encouragement and support of the private economic activities and if that's true if Kim Jong-eun really does support more private business then this is big news sure he still might rule the country with dark age tactics like using executions as a
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means to flex his power but he is North Korea's first leader in a long time to support an economic system that even slightly resembles a free market but it's not just Kim jong-un who's helping the North Korean economy the gray market has origins in a flourishing black market one that was brought upon by a devastating famine in the mid 1990s back then the government had a public distribution system that gave out food to its citizens based on political
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affiliation and loyalty the famine collapsed the system and forced citizens to fend for themselves insert black market here North Korean leadership knew that they had to either look the other way or see their peoples stars but the black market soon grew past its origins and became a place for goods that were illegal or unavailable.
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Within Ricardo's simplified model, countries with an Absolute Disadvantage, compared to other nations, may still have a basis for mutually advantageous trade. This trade exchange becomes possible if the country with an Absolute Disadvantage specializes in the production of a good in which it is relatively less inefficient. By this, Ricardo meant that the inefficient country should focus on production of goods in which absolute disadvantage is the least.
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Concentrate on what you do comparatively better. Here I recommend you to carefully read this short list of the principles of trade theory in its earlier simplified version. This theory conformed with political and economic realities of the initial phase of industrialization. It is interesting to compare those principles to the modern trade theory to observe how dramatically the role of money has changed, as well as the role of labor and of advanced technologies.
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All together these changes transformed the concept of international trade into the status we see it today.
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[Music] According to Smith and Ricardo, labor was the dominant factor in production, homogeneous in its use and application, and the only variable factor of production. We will now expand this statement to explore other factors directly associated with production costs.
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The Production Possibilities Schedule, also called a Transformation Schedule, explores the topic of the maximum output possible for each nation when considering all factors of production including, labor, technology, resources, and barriers to production and trade, used in their most efficient manner.
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Marginal Rate of Transformation expresses how much a country must give up of one product, to get one additional unit of a different product through trade. This can be thought of as an Opportunity Cost Tradeoff.
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[Music] In order to explore tradeoffs faced by nations when importing and exporting goods, we will hold certain conditions constant while changing other conditions. We will explore the Basis for Trade, the Direction of Trade, and Potential Overall Gains from Trade, while using the constant conditions approach. Constant costs, supply, demand, and profits are part of this assumption of constant conditions and are used primarily for demonstration purposes.
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In the real world, they are variable and will be explored more, later in this class. Autarky is another example of a constant condition, meaning there is a complete lack of trade to or from the subject nation. Economists will often use this term to identify a starting point for a subject nation"s trade balance transformation. We will look at a hypothetical example of the production of wheat and automobiles between the US and Canada.
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Let"s have a look at gains generated from Specialization in production based on Comparative Advantage. Specialization can result in production gains, when a country focuses all their attention on producing only one product. In this case, each country holds a dual production horizon of exportable goods. When the US changes from dual production to only automobiles, the output increases from 40 to 120. Similarly, Canada concentrating only on Wheat, increases production from 80 to 160.
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The net efficiency shows an increase in the number of automobiles and Wheat globally produced.
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Consumption Gains from trade are realized due to increased production in each country. Post-trade consumption is determined by the rate at which one country"s export product is traded for the other country"s export product. The Terms of Trade define which products are traded in the international marketplace. Each nation specializes in the product they hold a comparative advantage for, creating in this way a net gain from specialization, which leads to more products becoming available
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in the market. The allocation of this increased production will be consumed relative to the nation"s patterns of use. In this case, Consumption increases in each nation by 20 automobiles and 20 bushels of wheat.
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In the state of Mitch Whican in Southwest Mexico they call it green gold avocados Mexico is the top producer of the fruit and the US is its biggest customer and if this is the gold then this is the jackpot American football's biggest game the Super Bowl spurred on by surreal primetime adverts the many fans it's just not game day without guacamole made mainly with avocados from here a massive 35,000 tons of Mexican avocados are going to be turned into
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guacamole this Sunday but even as they take pride of place in US living rooms there's a threat that they could suddenly get more expensive that's because Donald Trump's threatening to change or rip up NAFTA the free trade agreement between the U.S. Mexico and Canada that would mean border taxes for imports including avocados that Trump has floated could be as high as 20% we asked someone who helped negotiate the original NAFTA deal if that's possible
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he cannot do it so that will not happen I mean imposing at a duty of 20% of Mexican and agricultural products is I mean he has no powers to do it so it's an empty empty threat economists told us the highest duty the US could impose on avocados is around 7% but still an increase the U.S. guacamole lovers would have to pay impact will be on the US consumers they will share the cost with the producers workers here are concerned more expensive avocados could mean fewer
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sales and jobs scary now because our pricing they and US consumers can only wait to see how the upcoming trade negotiations will hit their green gold John Holman al Jazeera Mitsuocan
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The concept of Consumption Gains from Trade, as discussed here, allows us to assume that when production of specific goods is globally increased, both countries will increase utilization of these goods building the consumption on the rate of pre-trade use. The Terms of Trade establish a set of trade-offs between pre-trade consumption and post-trade exchanges.
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The Terms of Trade for domestic production and consumption establish a baseline of trading conditions within the domestic economy. The combination of Specialization Gains and Consumption Gains realized through trade, influence export price negotiations. Sellers will seek terms of trade "more favorable" than the domestic markets can support. At least they will seek terms no less favorable, than can be secured at home.
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When gains are simultaneously realized between nations, active in trading, the exchange in specialized goods, results in expanding productivity horizons beyond what each nation could accomplish independently. This leads to the growth of economies brought about from specialization, increased consumption, and higher efficiencies. In our example, results have been expressed with our two nations producing only two products,
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each specializing in the production of their comparative advantage merchandise. Treat this as a starting point for the concept of global improvements made possible through trade.
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Domestic cost-ratios describe how nations exchange products based on their domestic costs of production. Their independent trading costs establish boundaries of trade parameters defining the Outer Limits of Equilibrium Terms of Trade. At the basic level of understanding, producers would not provide output beyond these production limits. The zone between the production cost ratios, creates mutually beneficial trade parameters, enjoyed by both nations.
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This is the acceptable horizon of international trade relationships.
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Smith formulated initial concepts in The Wealth of Nations, and Richardo amplified them as applied to international trade, and the division of labor, leading to increases in both consumption and production. John Stewart Mill continued the trend of research, by advancing the Theory of Reciprocal Demand to consider production costs within each nation, as a key determinant in formulating the output terms of trade for each partner.
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When market demand for products is not equal, consumer preferences dictate fluctuations in prices. The country producing a more demanded product, benefits from higher productivity and growth. Reciprocal demand determines, what the actual terms of trade will be within those limits. Through time, the producer of more demanded goods benefits from dynamic gains. The Theory of Reciprocal Demand steps in when we consider two nearly identical nations,
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in terms of population and wealth, engaged in trading activities. Given the similarity of their economic profiles, their factors of demand will have a pronounced effect on market prices. Consumption and trade gains will be noticeable, and market prices will show signs of improvement. When one country is large and the other is small, the larger country will have advantage over the smaller one, in terms of product demand and the resulting optimal mix of goods.
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The smaller country is able to increase production for its comparative advantage goods for export, and the larger country is able to purchase all of them.
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Flying under the radar can benefit the smaller country. Although it cannot edge out the larger nation when producing goods, it can increase its own production, knowing that its products will find a trading home because of price advantages in the trading market. The larger nation will continue to produce comparative-disadvantage goods, because the smaller nation will not be able to increase production to meet co-market demand - at least not in the short-run.
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The concept of Commodity Terms of Trade expresses the international trade ratio, measuring the relation between the prices a nation acquires for its export, and the prices it pays for imports. Of course, prices are always changing, so an index of price changes explains the relative movements between commodities in Real terms. This becomes especially important when considering economic growth and contraction among countries, as trade is conducted.
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Trading among nations goes through cycles with advantages and disadvantages for each partner. A country enjoying improved terms of trade will benefit from increased export prices, and vice versa. We are looking now at a table of comparative terms of trade from 2013 for several developed countries. This static view of trade exchanges is best considered, when comparing annual data, to notice changes in the terms of trade for the subject nation, and trading partners.
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When viewed through time, the analyst will find, how the world gains from trade are measured for each country, and who is improving their position, and who is falling.
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And welcome back US automaker General Motors is expanding its reach in mainland China the company has just been given permission to build a new 1.3 billion dollar Cadillac Factory by the National Development and Reform Commission it will be located in Shanghai and produced 150,000 cars a year with GM having a plant in China potential car buyers would no longer have to pay a 25% import tariff just over 30,000 Cadillacs were sold last
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year compared to nearly 200 thousand Mercedes 400,000 Audi's and over 300,000 BMWs but there is controversy over whether the plant should be built GM was bailed out of bankruptcy by the US government back in 2009 and now with so many millions of dollars to be invested in China some are questioning whether the country is benefiting from US taxpayers dollars GM says it will invest 11 billion dollars in the mainland by 2016.
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[Music]
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Studying constant-cost trade factors is useful for conceptual understanding of how nations interact in the international trading arena. Shifting the focus, we'll take a look at the availability of resources, when countries experience benefits of specialization, and reallocate existing resources to put them to the highest and best use. The ripple effect of productivity from specialization, is a large contributor to a company's and a nation's efficiency and growth potential.
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Dynamic gains from international trade, flow from increased output and income, which leads to more savings and investments, generally yielding a higher rate of economic growth.
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Here, we need to mention the importance of change which becomes relevant in the context of our current compressed time. This is how we know time - through change, which often invalidates old patterns of thought in today's shifting world of fluid economies. Static or fixed views of production models, or patterns, such as comparative advantage, would mean a failure to adjust to changes dictated by technological progress.
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Competition among nations for higher productivity, has become a powerful driver of cost and production changing trends. Productivity gains for each country are rarely equal, with one country improving in one sector, and another in a different sector. This causes a refocus for each nation, when defining the terms of trade. As this happens, the Subject nation may see advantages, to shift resources to a different segment of production, as it captures benefits from economies of scale.
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As economies mature, producers increase their reliance on employees to extract higher value from the production horizon. A cadre of highly trained and motivated employees create an upward mobility of accomplishments, that can spill into associated sectors and throughout the entire economy. An increasing trend of compensation to employees is seen, and is generally accepted, as a condition of inflation in the economy.
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We see this, as an outward slope from the origin of the production possibilities curve. On this diagram, the movement from A to B shows that the production tradeoff, between automobiles and wheat is not a straight line, with equal tradeoffs. The differential makes the opportunity cost of producing autos more expensive in terms of the wheat foregone for auto production. This is shown by the Marginal Rate of Transformation becoming steeper, as we move along the production
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possibilities curve from A to B.
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Opportunity Costs of production, will increase with movements along the production possibilities curve and can be considered between two countries with different products. On the left side, we see a production possibilities curve for the US, at point A to produce 18 units of Wheat, and 5 Automobiles. On the right, Canada produces at point A' 17 Automobiles and 6 bushels of Wheat. Creating tangent lines at these production points for each country, we see the US line
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is flatter, or more horizontal, than Canada's line. Because line tU.S. is flatter than line tC, Automobiles are relatively cheaper in the US, and Wheat is relatively cheaper in Canada. Recognizing the Law of Comparative Advantage, the US will export Automobiles to Canada, and Canada will export Wheat to the US. Specialization between markets is seen, as trading continues from both nations until the relative costs of each product from each nation equalize.
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This is seen with movements along the Production Possibilities curves to points B and B'. The tt lines show the international terms of trade solution. This solution is favorable for both nations, because tt is steeper than tU.S. and flatter than tC. Effects of Increasing Costs influence both nations differentially, with exports and imports finding equalization, based on the relative market power for each nation.
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Seventy percent or so of our sales are non-us 70 percent 70 percent how much does that change since you came to this company when I got here was 50/50 and it was 50/50 for years and years and years and years no way until the big US slowdown in 2001 and the explosion in emerging markets if 70 percent of your revenue then is coming from overseas is this the trajectory that the world is on for the for the near-term at least yeah and probably the midterm as well we need
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China as much as they need us if not more so think about it this way we're a country of 300 million people relatively slow growth economy relatively slow growth and population mature economy a wonderful Society China 1.2 1.3 billion people high growth lots of people going into middle class lots of people progressing and developing and guess what they want to do they want to turn the lights on they want to drive on roads they want all the modern
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conveniences that we have they want to live like us and we at caterpillar supply a lot of that infrastructure that makes that happen why wouldn't we want that marketplace open to us and do all we can to to really lead and be a winner in China also why not more jobs here in America why not put all the cat jobs in this country well in our business we just can't do that these machines are huge we ship them all over the world and what we try to do is some manufacturing
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assemble a majority of products where they're sold to avoid shipping develop local suppliers and most importantly really recognize the local market and if we're shipping those from the US to the middle of Russia or South America sometimes we do that certainly but for the volume high volume machines we've got to be there and and that's just the way we do it and that's important for us and it's good for America it's good for Kelly why is it good for America
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creating things over there a lot of that engineering a lot of those components most of the intellectual property all come from the United States because that's where we were born and raced this company's been here 85 years so every time we export one of these motor graders in the background here to anywhere it goes there's a lot of roots right here in the United States and I think that's good for all of it.
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We continue this discussion by looking at Production and Consumption Gains and the Trade Triangle. Production Gains from specialization brought about by trading, show overall increases of 3 automobiles and 3 bushels of wheat between our trading partners. As the US specializes in automobiles production it moves along the production possibilities curve from point A to B. Canada moves from A' in the direction of B'. In this relationship, the US exports automobiles, and Canada exports Wheat.
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Production Gains, are seen as a movement of the joint production possibilities line. We can find that post-trade consumption, will be met at points B and B', with the US producing 14 bushels of Wheat and 12 automobiles. Canada producing 13 automobiles and 13 bushels of Wheat. Consumption Gains from trade are seen by the US, maintaining their consumption of 5 autos and increasing wheat consumption to 21 bushels. Canada increases consumption to 20 autos, and holds wheat consumption at 6 bushels.
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The US imports 7 bushels of wheat from Canada while Canada imports 7 automobiles from the US. Overall production expands in both markets, with each country increasing production of the goods it holds competitive advantage for. However, in this example both countries continue to consume the same amount of goods, produced after the trade effect was factored in. Production Gains are realized from Specialization, but Consumption Gains maintained the pre-trade
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levels for each country's comparative advantage products, but increased consumption only of the imported goods. With trade, partners can select consumption points along the matured International Terms of Trade horizon. The US and Canada may each select a consumption point consistent with the one prior to trade, for post trade consumption points at C and C'.
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The principle of comparative advantage means, that with specialization and free trade, a nation may enjoy both production gains and consumption gains. A Nation's trade triangle denotes its exports, imports, and terms of trade. In our simplified two-nation, two-product world, the trade triangle of one nation, equals that of the other nation; one nation's exports equal the other nation's imports, and there is one equilibrium terms-of-trade solution.
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[Music] tensions between Mexico in the United States are at an all-time high President Donald Trump has threatened a 20% import tax on Mexican goods in order to make Mexico pay for a border wall some senators even including Trump's Republican counterparts like Lindsey Graham have opposed the idea of a tariff considering the toll it would take on both American and Mexican citizens for starters Mexico is highly reliant on the
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United States as an importer of goods and not just agriculturally as some believe in 2016 the three largest Mexican exports for the United States were electrical machinery and equipment nuclear reactors and motor vehicles together the US and Mexico make up more than half a trillion dollars a year in bilateral trade and a restrictive tax could potentially cripple the Mexican economy but it would also cripple the US economy at least in the short term and
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make things more complicated and more expensive in almost every area of an American consumers life for example let's say you drive down to the local supermarket to pick up a bacon lettuce tomato and avocado sandwich the car you're driving to the store is potentially built with a large number of Mexican made parts in 2016 about 35% of the Chevrolet Malibu was made with imported parts and Mexico is the top foreign supplier of car parts to the
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United States this is despite Chevrolet being owned by General Motors a classically American car company with a high tariffs on these parts the US will have to increase trade with countries like China which is already the USA's largest trade partner or if that proves too expensive the US would have to set up the same manufacturing plants domestically which could increase the cost of American-made cars and that's sandwich you bought it wouldn't be as
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cheap or possibly even available without low tax trade with Mexico most avocados for example don't come from the United States about two-thirds of avocados are imported and 90% of those come from Mexico it's unlikely that US producers would be able to match the output of Mexican farms at least not at first as a newly planted avocado tree takes about four to five years to bear fruit the bacon in the BLT a is another cause for concern Mexico imports 83 percent of
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America's exported slaughter hogs which are pigs bred specifically for food Mexico can easily bump up its own tariffs or simply look elsewhere for meat which would force pig farmers in the U.S. to find a new importer for nearly all of their excess livestock as for the tomato well it isn't as big of a problem to grow them in the United States it may not be their price but their quality that'll suffer many American tomato growers are located in
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Florida the second largest producer in the United States Florida suffers from regular heavy rains which degrades the quality of tomatoes on the vine as they ripen meanwhile Mexican tomatoes are grown in sunshine on cheaper land using cheaper labor and all of this is ignoring the ability to buy the Mexican source sandwich to begin with supermarkets have enormous overhead paying for staff refrigeration electricity shipping and so on which
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they're only able to sustain by selling cheap goods at a higher price a tax on Mexico will mean that prices will have to rise and supermarkets may have to find new sources some of these stores may not even survive a price increase. [Music]
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Partial Specialization reflects the fact that increasing costs constitute a mechanism, that forces expenses in different trading nations to converge. When no cost differential exists between nations, the incentive to specialize for exporting advantages is muted. We recognize in world markets, that host countries will continue to produce some of the products demanded in the domestic market, but their competition through international markets will diminish.
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Often, the deployment of goods domestically will reflect cost differentials accountable to transportation, import tariff costs, and preferences for domestically produced goods, we also call this differentiated products.
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[Music]
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Employment levels in Nations are related to the available work force, total spending in the economy, and the regulations that govern the labor market. Nations concentrate their efforts on the goods they hold a Comparative Advantage to produce. But this Comparative Advantage is transitory with nations taking a leadership trading position, forfeiting it to another nation, then taking leadership again or transitioning efforts to a different commodity's production horizon.
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These cycles cause some people to lose their jobs, while others may gain employment in newly introduced industries. International-Trade influences the consistency of jobs in an economy, as workers and capital are allocated to the areas, or industries, where they each hold a comparative advantage on an international scale. Comparing data for domestic Unemployment rates against the value of goods imported to the US, we conclude that imports have not been a contributing factor
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to Unemployment in our economy.
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[Music]
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We have covered the topic of Comparative Advantage in the production of goods. Let us now look at a specific example of a manufacturer in Ohio making products under a household name - Rubbermaid. Due to suppliers' cost increases for resin, the company was forced to increase product costs. Retailers responded by seeking offshore producers of comparable products, and within 5 years the company was sold, and a thousand people lost their jobs in Wooster. I ask you,
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Was this caused by Globalization, or was it a factor of cost competition that Rubbermaid could not overcome? Are you looking critically at the conclusions made in the textbook? Think it through, Think Like an Economist.
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[Music] There are thousands of products produced by thousands of companies in hundreds of countries, all competing for shares of a profitable global market. Comparative Advantage has been introduced in this course under simplified conditions, but we need to explore how this understanding can be applied in real world situations. In simplified terms, Comparative Advantage can be determined quickly, but when many products
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and companies are combined, each subject to different trade policies, the discovery of Competitive Advantage positions is cumbersome to determine. Many analysts create a spectrum of comparative advantage positions along a sliding scale to rank products between countries showing relative comparison cost positions. Because traders are continuously seeking mutually beneficial terms of trade, buyers and sellers
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seek opportunities to optimize their trading portfolios necessitating on-the-fly adjustments to the spectrum shown here.
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The theory of comparative advantage is focused on benefits of specialization and trade. When extended to the level of many products and countries it becomes a lot more complex. According to the Ricardian model, technological differences in countries lead to different labor productivities, which in turn, influences comparative advantage. There exists relationship between relative labor productivity and international trade patterns within countries.
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Government regulations are also important factors influencing international trade. They must all be considered together to view a clear picture.
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[Music]
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Low cost producers of competitive-quality products take a leading position in global markets. High cost producers are forced out of business. Exit Barriers can be found in response to a business' strategic plans, that were initially established to position the company advantageously in the marketplace. It may appear in the form of contractual commitments for increasing employee salaries, maintenance of total employment levels, raw material suppliers, antiquated production plants, or other items
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normally considered as variable costs of production. When these factors are binding on the business, their conversion to new technologies or production enhancements, may be overturned by the fixed costs of binding terms. This can cause the business to lose its Comparative Advantage, and eventually force them to leave the marketplace. Exit Barriers present companies with unanticipated obstacles to change.
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Where some companies may be able to make adjustments to their production possibilities, others must liquidate operations as their lowest cost alternative.
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We've been telling you that this day was coming and today US Steel is closing its blast furnace in Fairfield the move leaves more than 1,000 people out of work WIAT 42 news reporter Alex Finney has more sherry and Jim I spoke with the manager of the US Steel out of Pittsburgh today who tells me that they plan on taking down this facility here in Fairfield in an orderly manner now that means they start the layoffs today but they could be lasting into the
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coming days as well now this is really something that has been in the works for several months after an idle twice this year now comes of course the permanent closing the Jefferson County Commission voted today to contribute 15,000 dollars to the United Way food bank to feed the displaced workers they say they will be offering educational services along with other services to help retrain these workers we have a great many resources to help help these displaced workers the
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problem we have is getting the word out in the community that there are funds available and there are programs available to help these displaced workers we want to bring that forth to the community so that these people can be in the assisting the tubular operations and the electric furnace construction project will not be affected now the corporate office tells me that these displaced workers will have the opportunity to transfer to
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another facility they have 13 plants nationwide in Fairfield tonight Alex Finney WIAT 42 news coverage you can count on.
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Ricardo read The Wealth of Nations by Smith to expound on his theories as he offered to consider additional international market variations. Since Ricardo's work, others have applied the model to actual market interactions to find that generally markets respond within his forecast patterns. Predictably, limitations of the theories from a century ago are found in the consideration of Labor variability between suppliers.
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Production and distribution costs are highly variable between nations and must be taken into account. Differences in product quality between suppliers and nations, are a consideration that must be taken in unison with cost. These findings are consistent with theoretical advances to explain how nations trade goods and services. Empirical tests of comparative advantage conducted early and more recently have agreed with Ricardo's two-country model, stating that productivity of labor
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is a determinant to the export of goods. It was tested with data from the USA and UK and confirmed - there is a positive relationship between the two factors.
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Supply chain is made up of plan source make and deliver and everything you see in the store comes through our supply chain Starbucks is involved in the journey of the bean all the way from planting it in the coffee farm to brewing that perfect cup of coffee and delivering it to our customer I'm outrageously proud of the coffee that we make you can't buy better coffee we are enabling that experience that Starbucks experienced to happen. Here at Starbucks we make a lot of coffee!
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Planning in our supply chain involved planning everything from raw materials through manufacturing to our retail markets the coffee department sources the best coffee in the world for us to then roast and package Starbucks has one of the most unique distribution channel with the number of daily deliveries as well as the multiple temperature requirements that's complexity.
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My job here is to make sure that every coffee we get all of the products we buy we manufacture we distribute our ethically and environmentally responsible sustainability is about good business the Starbucks makes the coffee but we also work with the manufacturers of the cups and the napkin cocoa tea the lunch to the dairy items everything that you can possibly think of it's in a store our delivery team makes it all happen
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being creative taking risks with new ideas is how you make your career what makes working at Starbucks so special to me is the sense of family and the passion for what we're doing we're not making widgets or making the best coffee in the world! [Music]
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Since Ricardo, many analytics wrote on the topic, given the expansive changes in the world economic arena: commerce advanced immeasurably alongside technology, and international trade has become a lot more diversified and hence, more complex. Global supply chains have appeared in response to higher and faster demand for economic exchanges sweeping the world. Global Supply Chains are created to assemble each component of a product in the location, where price and quality are optimized.
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Transportation efficiencies have increased options to distribute manufacture and partial assembly services offshore, with final assembly at the most advantageous locations.
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So how does a garage startup become the most valuable company in the world well Apple Computer did it by selling 93 million iPhones last year and 40 million iPads and the only reason they didn't sell more is that they can't make them fast enough but that relentless demand has raised uncomfortable questions about how these precious objects are made and how the people that make them are treated a few weeks ago the company invited me to witness its first-ever
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third party audit of its biggest Chinese supplier Foxconn for the record our parent company Disney and Apple have strong ties our CEO sits on their board and the Steve Jobs Trust is Disney's largest individual shareholder but I only agreed to report exactly what I saw on this the first look inside the eye factory we arrive at dawn this is the entrance no idea what to expect but eager for a glimpse of the mysterious place that builds the stuff that fills
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our lives we're met by a top Foxconn executive who refuses to confirm that inside all these buildings they're working on top-secret projects for Intel Nintendo Dell and many others but Apple has allowed him to show me how they build the world's most popular objects of desire the ones that turn a little garage startup and do a company more valuable than Exxon a brand more beloved I'm told this is the very first time any reporter from any country we will Don static proof jackets or full
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bunny suit and take numerous air showers because one speck of dust can ruin an entire line there is one obvious reason for Apple's legendary secrecy over the years if the world sees this line it might change the way people think in this line unlike any other product the launch of a sexy new Apple gadget is a cultural event and that cult following comes in part from a mystique cultivated brilliantly by Steve Jobs between the extraordinary and I urge you to get
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hands-on and see for yourself I'll admit I'm among the millions who bought into the idea that these are not just dependable appliances they're works of art carefully wrapped and pristine boxes lovingly sold and museum like stores I don't know about you but when I'm enjoying a delicious steak knowing where it came from changes the experience how many steps are there but it is time now to think different about Apple because here it is
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this is where your iPhone was born and these are the people who brought it to life my name is Bill nice to meet you I'm first struck by how young male not 13 unlike some of the horror stories I'd heard but 17, 18 no one looked over 30 I know many came from poor villages out in the countryside with the hope of making $2 an hour but their haircuts proved that teens style lives everywhere I was expecting more automated assembly more robots but the sleep machines that
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dazzle and inspire and change the lives of people 8 to 80 are mostly made by hand after hand after hand behold the camera module for the iPad look at that tiny and intricate this is and get this with two shifts that can make 300,000 of these in a single day it takes around 5 days and 325 sets of hands to assemble an iPad they tell me and they can turn a raw hunk of aluminum into a sleek design complete with the bitten Apple logo at the rate of 10,000
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an hour the end of this process I find 27 year old Xiao yang who carves the aluminum burrs from three thousand apples every shift what are you thinking about while you're working a lot of times I think about how tired I am the mother of two tells me I think about resting.
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A supervisor will give the occasional order in mandarin but on this line the machines do most of the talking while the people work in silence and they will repeat that motion and hear that fembot voice a few thousand times more before lunch their 12-hour shifts are broken up by two hour long meal breaks when they march single-file to a massive canteen and pay around 70 cents for a plate of meat and rice if they eat fast enough then catch a few winks back at their
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spot on the line the Foxconn executive tells me it's not exhaustion but a Chinese post meal tradition so this is homeless how long have you guys worked here and lived here after 12 hours here many head home to a nearby dorm room they share with seven other workers there is an internet cafe and a soccer field they even offer classes in English and other studies but most are here to work most left their families to work because back home there are a few good jobs.
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Outsourcing, or offshoring, actively taking place during the last few decades, enables companies to complete final assembly near the location of the customer, or move services abroad, where labor costs are cheaper. This can reduce import tariffs and other barriers to trade. Outsourcing enables firms to move into higher degrees of specialization as producers are concentrated on increasingly finite tasks. Each "specialist" group concentrates their efforts on the component's production.
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For the primary manufacturer, this facilitates several advantages, including the protection of full-production patent rights; no single component manufacturer sees the entire product's schematic.
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Outsourcing has been embraced by several big names in the US: Ford, Apple, Boeing, and others. In some cases it was driven by increased profits for the company, higher productivity in foreign nations, stable employment concerns, and of course a reduction in the number of employees due to higher costs. In Boeing's case, production of the 787 was scheduled to enter service in May 2008, but because of multiple delays the airliner's maiden flight took place in December 2009.
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The aircraft has suffered from several in-service problems, notably fires on board related to its lithium-ion batteries. Redesign of the battery components was competed by Boeing and in April 2013 the 787 was returned to passenger service. Today, about 200 Boeing 787 aircraft have been deployed around the world. The aircraft was released, although production delays added time to its schedule. On the other hand, Boeing is not alone in final product postponements, other Boeing
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aircraft have faced delays and recall problems, the same as mechanical paraphernalia released by other large manufacturers around the world. Were Global Supply Chains the cause of the delays, or was it par for the course? How would you find the answer?
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After a three-year delay Boeing finally delivers the first 787 Dreamliner to All Nippon Airways at a ceremony at Everett Washington the aircraft had originally been scheduled for 2008 but the plane maker has suffered a series of setbacks including an onboard blaze on a test flight in January is going to be remembered as a day as one of the most important in the history of the Boeing Company and also in the history of commercial air travel and I know that today September 26 will be forever
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remembered as the dawn of a new day in aviation I want to turn this key over to you the Dreamliner boasts the industry's largest windows cleaner air and higher cabin humidity to allow passengers to arrive at their destination in a freshest state Boeing's difficulty in hitting production targets has hurt the company still shares rose some three percent as the markets reacted positively to the delivery the plane made of lightweight composite materials
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is 20 percent more fuel-efficient than those currently in service
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The most noticeable trend to American workers has been a movement of low paying, low skilled jobs offshore as companies seek lower costs of production. However, lately this trend has been moderating because of the equalization of labor costs between markets. We discussed in Chapter 1 how this equalization is predictable and expected. From our perspective, the lower cost for Mexican and Asian labor has attracted commensurate jobs from US industries.
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Foreign nations with big populations of workers have filled the needs. They also have invested in training programs - business education for their workers. People started earning higher salaries through marginal benefit of international businesses. Their costs to the businesses increased. Besides, other circumstances have become unpleasantly obvious, such as costs of shipping goods, delays in time, import duties and tariffs for products shipped into the US, and Geopolitical
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unrest disrupting supply chains. So, some production sectors are starting to come back home. Reshoring is the process of bringing jobs back to the US, to complete final assembly here, closer to the final consumers of products. These trends are not conclusive in terms of the future rates of change, but they are worthy of your attention.
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Now, some conclusions. International trade definitely provides economic gains for trading nations. Discussions about the impact of trade on jobs have focused on some positive and negative aspects. There are winners and losers in International Trade, like in any business activity. We extended the principle of comparative advantage to more than two products and more than two countries - empirical evidence based on tests conducted, proves that basic postulates by Ricardo were right.
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However, with changes in economic conditions, the application of old-time theories and some principles have changed as well. A discussion of exit barriers demonstrates how intended results can hamper competitiveness in domestic and international markets. We discussed global supply chains as one of the most eloquent examples of extreme economic connectedness. Discussion of outsourcing for some successful industrial giants, including the U.S. auto industry, and Apple.
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However, experience of Boeing demonstrates potential challenges, when a firm gives up control of part of its production process.
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