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3.1 Theory of International Trade
Trade is the transfer of the ownership of goods or services from one person or entity to another in exchange for other goods, services, or money. In the era of
globalization, trade does not only occur in a single country. Trade between two traders is called bilateral trade, while trade between more than two traders is
called multilateral trade. According to Oktaviani, et al. 2009, trade that is conducted between the population of one country and the population of another
country, on the basis of mutual agreement, is called international trade. Population can be either inter-individual individual to individual, between the individual
and the government of a country, or a state government with other governments.
Adam Smith 1776 first developed the theory of international trade. Adam Smith stated that trade among nations is influenced by its absolute advantages.
When a country has the best technology and specialization in the production of one good it has an absolute advantage. The country that has an absolute advantage
will gain from export. In 1821, David Ricardo developed the theory of comparative advantage. This theory state that even if a country has no absolute
advantage in producing two types of goods than any other country, the beneficial trade can occur as long as the ratio of prices between countries are different than
in an autarky situation. Furthermore, the development of trade patterns proposed by Eli Heckscher 1919 and Bertil Ohlin 1924 explained that the Heckscher
Ohlin HO theory is also called the factor-proportion theory because it stresses on the interaction between the different proportions of the country’s production
factors, as well as the differences in the usage of these factors on producing a wide range of items. The HO model predicts that a country tends to export the
good, which uses its abundant factor intensively.
The new trade theory is the modification of assumptions on the HO and Ricardian models result. The market
structure in this new trade theory is different than with perfect competition. The concept of monopolistic competition was introduced by Krugman 1980, and
states that the two main assumption are differentiated goods and increasing returns to scale. Krugman et al., 2012.
In both domestic and international trade, all of the participants traders, consumers, etc. are seeking benefit from the economic activity. Each country
trades to gain profit, as well as gain the more efficient incentive from the trade. In addition to the profit motive, Krugman, et al. 2012 revealed that the main
reasons for international trade are as follows:
1. Countries trade because they are different from each other. 2. Countries trade in order to achieve economies of scale economics of
scale. Theoretically, a country e.g.,: country A will tend to export a commodity,
Y, to another country e.g.,: country B, if the domestic price of commodity Y from country A prior to the international trade is relatively lower than the price
of the same commodity in country B. The relatively low prices in country A are caused by excess supply, which means that the domestic production exceeds
domestic consumption, thus enabling a country to sell its production to another country country B.
On the other hand, country B exhibits excess demand, which means that the domestic consumption exceeds domestic production. Consequently, the price of
14 the commodity in country B is relatively higher than the price in country A. As a
result of the excess demand, country B buys the commodity that is relatively cheaper from country A. Thus, the differences in needs between country A and
country B lead to international trade between the two countries. Price in the international market is the price of the balance between world supply and world
demand. Changes in world production will affect the world supply, while the changes in world consumption will affect the world demand. Both of these
changes will ultimately affect the world price.
In Figure 5, Panel A and Panel C shows the equilibrium in country 1 and country 2 before the international trade, the equilibrium price in country 1 is A,
while the equilibrium price in country 2 is A
I
. The international trade will occur if the international price is higher than A and lower than A
I
. If the international price PE is equal to A, then excess demand ED of good B will occur in country 2.
If the international price is equal to A
I
, then excess supply ES of good A will occur in country 1. From Panel A and Panel C, the supply S and demand D
curves will be formed. The S and D curves will determine the price that occurs in the international market E. With trade, country 1 will export the commodity A at
B-E, while country 2 will import commodity B at B
I
-E
I
, with equilibrium occurring at point E.
Figure 5 International Trade Curve Source: Salvatore, 1997
3.2 Concept of Competitiveness
Competitiveness deals with the ability and performance of a firm, sub- sector or country to sell and supply goods and services in a given market, in
relation to the ability and performance of other firms, sub-sectors or countries in the same market. The term may also be applied to markets, where it refers to the
extent to which the market structure may be regarded as perfectly competitive. This usage is not relevant in discussing the extent to which individual firms are
“competitive”. Analysis of the comparative and competitive advantage is an approach, which is often used as an indicator for measuring the competitiveness of
a commodity. The concept of competitiveness in international trade is related to the advantages of one commodity or the ability of one country to produce a
commodity more efficiently than another countries Porter 1990. Many experts Quantity
Price
A
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