economics chapter 13

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Occurs when a firm or a country concentrates production on one or a few goods and services. In international trade theory, specialization forms the basis for the gains from trade, arising when countries specialize according to their comparative advantage, and when firms specialize in production of goods and services that offer them economies of scale. Specialization of labor occurs when workers perform one or a few tasks, and is one factor leading to economies of scale.

Factor endowments

The factors of production that a country is ‘endowed with’, or possesses. Differing factor endowments among countries suggests that different countries are better suited to the production of certain kinds of goods and services than others, or, to put it differently, they are more efficient in the production of some things rather than others. Differing factor endowments form the basis of the theory of comparative advantage. (Also known as ‘resource endowments’.)

Foreign exchange

Refers to foreign national currencies, i.e. for any country, it refers to currencies other than its own.

Free trade

The absence of government intervention of any kind in international trade, so that trade takes place without any restrictions (or barriers) between individuals or firms in different countries.

Absolute advantage

Refers to the ability of a country to produce a good using fewer resources than another country, or, what is the same thing, the ability of a certain amount of resources in a country to produce more than the same resources can produce in another country.

Theory of absolute advantage

According to this theory, if countries specialize in and export the goods in which they have an absolute advantage (can produce with fewer resources), there results an improvement in resource allocation and increased production and consumption in each country.

Comparative advantage

Arises when a country has a lower relative cost, or opportunity cost, in the production of a good than another country. Forms the basis of the theory of comparative advantage.

Theory (or law) of comparative advantage

According to this theory (also known as a law), as long as opportunity costs in two (or more) countries differ, it is possible for all countries to gain from specialization and trade according to their comparative advantage; this results in an improvement in the global allocation of resources, resulting in greater global output and consumption. Is a more powerful explanation of the gains from trade than the theory of absolute advantage.

World Trade Organization (WTO)

An international organisation that provides the institutional and legal framework for the trading system that exists between member nations worldwide, responsible for liberalizing trade, operating a system of trade rules and providing a forum for trade negotiations between governments, and for settling trade disputes.

Trade protection

Government intervention in international trade through the imposition of trade restrictions (or barriers) to prevent the free entry of imports into a country and protect the domestic economy from foreign competition.


Taxes on imported goods; they are the most common form of trade restriction. Tariffs may serve two purposes: to protect a domestic industry from foreign competition (a protective tariff); or to raise revenue for the government (a revenue tariff). Whatever the purpose, the impacts on the economy are the same.

Import quota (quota)

A type of trade protection that involves setting a legal limit to the quantity of a good that can be imported over a particular time period (typically a year). (More generally, a ‘quota’ is a limited or fixed number of things.)

Administrative barriers

Trade protection measures taking the form of administrative procedures that countries may use to prevent the free fl ow of imports into a country; these may include customs procedures involving inspections and valuation, controls on packaging, and others. Often considered to be a kind of ‘hidden’ trade protection as they don’t involve obvious trade protection measures such as tariffs and quotas.

Infant industry

A new domestic industry that has not had time to establish itself and achieve efficiencies in production, and may therefore be unable to compete with more ‘mature’ competitor firms from abroad. The presence of infant industries is considered to be one of the strongest arguments in favor of trade protection policies in developing countries.


The practice of selling a good in international markets at a price that is below the cost of producing it (usually by providing export subsidies); while it is illegal according to international trade rules, many countries practice it anyway. Forms the basis of the anti-dumping argument in favor of trade protection. See also anti-dumping.

Anti-dumping and quotas

An argument that justifies trade protection policies: if a country’s trading partner is suspected of practicing dumping, then the country should have the right to impose trade protection measures (tariffs or quotas) to limit quantities of the dumped good; see dumping.

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