International Trade

This study material explores the concept of economic integration, the relation between integration and economic development, the Ricardian trade model, and more in the context of international trade.

Running head: INTERNATIONAL TRADE
International Trade
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1INTERNATIONAL TRADE
Table of Contents
Measure of economic integration....................................................................................................2
Relation between integration and economic development..............................................................3
Ricardian trade model......................................................................................................................4
Absolute advantage......................................................................................................................4
Comparative advantage...............................................................................................................5
Production Possibility Frontier....................................................................................................5
Autarky relative price..................................................................................................................6
Optimal consumption and optimal production............................................................................7
Reference list...................................................................................................................................9

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Measure of economic integration
In a globalized world, the concept of economic integration indicates arrangements held
between two or more nations that include removal of trade barriers (tariff and non-tariff) and
integrate the conduct of monetary and fiscal policy. Economic integration are of three types.
These are integration in terms of goods and services, integration in the factor market and
integration in financial market1. The paper evaluates degree of economic integration between
Sweden and Italy by measuring trade flows as a percentage of Gross Domestic Product. Volume
of export and import together indicate trade flow of nation. Finally, degree of openness has been
computed by expressing trade flows as a percentage of GDP using the following formula.
Openness=( Export of goods∧services +Import of goods∧services)
GDP ×100
Besides trade flows, there are other indicators that can capture economic integration. One
such measure is flow of credit between two nation measured in terms of foreign direct
investment or foreign portfolio investment. Other indicators of economic integration might flow
of emigration and immigration, degree of offshoring and such others.
1 Sannwald, Rolf, and Jacques Stohler. Economic Integration. Vol. 2162. Princeton University Press, 2015.

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2002 2004 2006 2008 2010 2012 2014 2016
40.00%
50.00%
60.00%
70.00%
80.00%
90.00%
100.00%
Openess of Italy and Sweden
Openness (Italy) Openness (Sweden)
Year
Openness
Figure 1: Economic openness of Sweden and Italy
As shown from the above figure, openness in Sweden is much higher than that in Italy.
Trend in openness however is almost similar for both the nation. Openness initially increases
since 2003 and reached to the peak in 2007. It then declined in 2008 both Italy and Sweden and
then again started to increases. The trend of openness thus shows increasing tendency of both the
nation to integrate economically with rest of the world.
Relation between integration and economic development
Economic integration by establishing relation between two nations generally has a
positive effect on economic welfare of both the nations. Without trade, production and
consumption of a country is constraint by resource availability. By participating in trade, country
can expands consumption beyond production. Opening to trade allows producers to sell excess of
their production as export at a higher price. All these have a beneficial effect on economic
development2. In this paper, per capita GDP is used as a proxy measure for economic
2 Kobayashi, Kiyoshi, et al., eds. Economic Integration and Regional Development: The ASEAN Economic
Community. Routledge, 2017.

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development. Correlation between openness and per capita GDP has been estimated to analyze
the relation between the two. The correlation between openness and economic development for
Italy and Sweden are 0.41 and 0.57 respectively. The positive correlation implies economic
integration has positive association with economic development. Integration with rest of the
world thus helped the two nations.
Ricardian trade model
Each Italian worker can produce either 1 shoe or 2 calculators per units of time. In case of
Sweden, each worker can produce either 4 shoes or 2 calculators. Based on the information,
absolute and comparative advantage of Italy and Sweden can be determined in the following
way.
Absolute advantage
Table 1: Absolute advantage of Italy and Sweden
Number of units /unit of time Shoe Calculator
Italy 1 2
Sweden 4 2
As shown from the above table, Italian workers can produce 1 shoe while Swedish
workers can produce 4 shoes with unit time. Sweden therefore has an absolute advantage in shoe
production as more shoes can be produced in Sweden per unit of time. Workers in both the
nations are able to produce 2 calculators per unit of time. For calculators therefore both the
nations are same state.

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Comparative advantage
Comparative advantage of a nation is defined in terms of opportunity cost of production.
Country facing a relatively lower opportunity cost is said to enjoy comparative advantage3.
Table 2: Comparative advantage of Italy and Sweden
Opportunity Cost Shoe Calculator
Italy 2/1 = 2 ½
Sweden 2/4 = 1/2 4/2 = 2
In producing 1 calculator, Italy has to sacrifice ½ shoe. Sweden on the other hand
sacrifices 2 shoes to obtain 1 calculator. As Italy needs to sacrifice less number of calculators
compared to Sweden, opportunity cost of Calculator is lower in Italy. Italy therefor has a
comparative advantage in producing calculators. Opposite is the case for Shoe. Sweden has a
lower opportunity cost for shoe production and therefore enjoy a comparative advantage in shoe
production.
Production Possibility Frontier
Italy has a total of 80 workers and Sweden has a total of 60 workers. With all the workers
Italy can either produce 80 shoes or produce 160 calculators. Sweden using all the labors can
either produce 240 shoes or produce 120 calculators.
( Slopeof PPF ) Italy= 80
160
3 Leamer, Edward E., and Robert M. Stern. Quantitative international economics. Routledge, 2017.

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¿ 1
2
( Slopeof PPF ) Sweden= 240
120
¿ 2
Figure 2: Production Possibility Frontier of Italy and Sweden
Autarky relative price
Autarky relative prices of goods are same as the opportunity cost.
( Relative price of calculator )Italy= Price of calculators
Price of shoes
¿ 1
2

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( Relative price of calculator )Sweden= Price of calculators
Price of shoes
¿ 4
2
¿ 2
Optimal consumption and optimal production
In autarky, countries do not exchange goods and service with other nations. Under such
condition, using available resources all countries need to produce all goods4. Number of
available workers in Italy is 80. If Italy divides the number of workers equally between shoes
and calculators, then optimal shoe production in Italy is 40 and that for calculator is 80. Number
of available worker in Sweden is 60. Similar to Italy, if Sweden divides number of workers
equally between production of shoes and calculators then optimal number of shoe production in
Italy is 120 while that for calculator is 60. Under autarky as countries cannot consume beyond
its production, optimal consumption is exactly same as optimal production.
4 Chacholiades, Miltiades. The pure theory of international trade. Routledge, 2017.

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Figure 3: Optimal consumption and production in Sweden
Figure 4: Optimal consumption and production in Italy

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Reference list
Chacholiades, Miltiades. The pure theory of international trade. Routledge, 2017.
Kobayashi, Kiyoshi, et al., eds. Economic Integration and Regional Development: The ASEAN
Economic Community. Routledge, 2017.
Leamer, Edward E., and Robert M. Stern. Quantitative international economics. Routledge,
2017.
Sannwald, Rolf, and Jacques Stohler. Economic Integration. Vol. 2162. Princeton University
Press, 2015.