International Economics and Trade – Lecture 2
[ Part 1 – Chapter 3 - "Competitive vs Comparative Advantage"]
Now I wanted to briefly address the relationship between comparative advantage as we found it in the Ricardo story versus the competitive advantage which is at the business level. In the first year you had International Business, in this textbook there is often the reference being made between the relationship between international economics and business competitiveness, but often you also have a sort of confusing usage of competitive and comparative advantage as they are basically the same thing or what is exactly their relationship. And that is what this story is supposed to be about. It is in the simple context of a two country, two commodity, one factor of production story.
But like I said it is just to show you the relationship. When you think of competition what you usually think about is for example car firms competing with each other, computer firms competing with each other. That is usually the product level. In the story here it would be all the x’s here represents firm in the cloth sector and they compete with each other trying to get market share. And we also have in the wine sector in the United States, also firms they are competing with each other. What you usually don’t consider to be competition is this firm with this one.
Cloth and wine, completely different products, competition doesn’t take place there.
The same thing could be said for the European Union. It has a lot of firms competing with each other in the cloth sector, it has a lot of firms competing with each other in the wine sector and that is basically it. If these two countries remain separate then we have let’s say four clusters of competition. Cloth in the US, wine in the US. Cloth in the EU and wine in the EU. And of course that entire situation changes when we have trade.
Because then all of a sudden competition also takes place across borders. We now have cloth firms in the United States competing with cloth firms in the European Union. We have wineries in California trying to compete with wineries in France, it all takes place on the global market. Now, you all realise that this circle representing some winery in California, when they suddenly are confronted with the opportunity to engage in international trade, for some reasons market in foreign countries are going to open, they want to go to these foreign markets. So will the winery in France. That winery will start to see the US as its market, they all want to expand, that is what businesses do. One thing which the firms in question absolutely are not interested in is some economist which comes along and says what a minute if I look at the opportunity costs here, 6/4 and 1/2 , I think the EU has a comparative advantage in wine. You wineries there in California just forget about it. That is ridiculous. Firms don’t think that way. If it is a big firm, if it’s a multinational. If it is a large national firm, they have shareholders, they have banks to repay. They are all wanting to expand. Comparative advantage at this point is completely irrelevant for the simple business objective of growth. Where is comparative advantage is going to start enter the story here.
That is when we realise that when all these circles want to expand and all these x’s want to expand then finally they are going to meet up. Not on end-product markets but on factor markets. Because in order to expand they are going to have to get more, in this case, labour. Not only are the x’s are going to compete for each other with labour, but the x’s and the o’s, the cloth and the wine are also going to do that. Now how do you expect in the simple model that type of competition for factors happen? Well you are going to see people, personnel, managers, from all these x’s and o’s go to the labour market and try to attract labour but remember, but, we economist always start with the idea that there is...
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