International Trade Theories - Assignment Example

Therefore, in order to have a positive balance of trade the nations tried exporting to other countries and restricting imports as it negatively affected their balances and hence their wealth. According to the mercantilism theory, there was a fixed amount of money present in the world and in order for one country to have more money; it had to export to other. So, mercantilism refers to the concept of exporting more and importing less (“Classical Theories of International Trade”, n.d.). Absolute Advantage Toward the end of the century, economic growth was being hindered by mercantilist policies.

Adam Smith in his book, The Wealth of Nations (1776) presented a response to mercantilism where he claimed that these policies granted the producers an advantage at the cost of a disadvantage to the consumers. Adam Smith’s theory did not regard imports as bad but rather mentioned imports as good because other countries may be making a particular good that is more appealing to the consumers therefore trade, imports as well as export, would be profitable and lead to better satisfaction for the consumers.

This meant that countries that had an “absolute advantage” in producing a particular good would produce that good and export it while it would import a good that another nation has an “absolute advantage” in (Theory of International Trade, n.d.). . The principle of comparative advantage has been described as that occurring as a result of specialization and the division of labor (Maneschi, 1998). According to the theory, due to technological or other factors some countries specialize in producing a particular good at a lower cost.

This implies that such countries have a “comparative advantage” in producing a particular good and should therefore export these goods to other countries. The same country should only import those goods in which it does not specialize that is has a comparative disadvantage in due to the higher relative costs. However, the theory also assumes that countries try to maximize their production and consumption which is not true in the real world at times. Balance of Trade Balance of trade refers to a country’s payments and receipts which results from the transactions of its residents.

In ideal conditions, the balance of the receipts and payments should be equal, which is the condition of a balanced trade. However, trade is not always balanced. The trade balance in some cases can even be a trade surplus and trade deficit. Trade surplus occurs when a country’s exports exceed their imports. Trade deficit occurs when a country’s imports are greater than its exports. Trade deficits are not necessarily bad as it depends upon the life cycle and the economy and therefore may assist the economy during expansion.

However, during a recession, trade deficits may prove to be detrimental for the economy. Influence of Government Governments play a pivotal role in encouraging or restricting international trade. The policies set by the government impact trade unlike free trade where there is no government role in the economy. Governments provide barrier to trade by setting