11.8.1 Why Countries Trade

International trade today differs from economic exchange conducted centuries ago in its speed, volume, geographic reach, complexity, and diversity. However, it has been going on for centuries, and its fundamental character–the exchange of goods and services for other goods and services or money–remains unchanged. That brings us to the question of why nations trade. Nations clearly trade a lot, but it is not quite as obvious why they do so. Put differently, why do private individuals and firms take the trouble of conducting business with people who live far away, speak different languages, and operate under different legal and economic systems, when they can trade with fellow citizens without having to overcome any of those obstacles? It seems obvious that if one country is better at producing one good and another country is better at producing a different good (assuming both countries demand both goods) that they should trade.

What happens if one country is better at producing both goods? Should the two countries still trade? This question brings into play the theory of comparative advantage and opportunity costs. The everyday choices that we make are, without exception, made at the expense of pursuing one or several other choices. When you decide what to wear, what to eat for dinner, or what to do on Saturday night, you are making a choice that denies you the opportunity to explore other options. The same holds true for individuals or companies producing goods and services. In economic terms, the amount of the good or service that is sacrificed to produce another good or service is known as opportunity cost.

For example, suppose Switzerland can produce either one pound of cheese or two pounds of chocolate in an hour. If it chooses to produce a pound of cheese in a given hour, it forgoes the opportunity to produce two pounds of chocolate. The two pounds of chocolate, therefore, are the opportunity cost of producing the pound of cheese. They sacrificed two pounds of chocolate to make one pound of cheese. A country is said to have a comparative advantage in whichever good has the lowest opportunity cost. That is, it has a comparative advantage in whichever good it sacrifices the least to produce. In the example above, Switzerland has a comparative advantage in the production of chocolate. By spending one hour producing two pounds of chocolate, it gives up producing one pound of cheese, whereas, if it spends that hour producing cheese, it gives up two pounds of chocolate.

Thus, the good in which a comparative advantage is held is the good that the country produces most efficiently (for Switzerland, its chocolate). Therefore, if given a choice between producing two goods (or services), a country will make the most efficient use of its resources by producing the good with the lowest opportunity cost, the good for which it holds the comparative advantage. The country can trade with other countries to get the goods it did not produce (Switzerland can buy cheese from someone else). The concepts of opportunity cost and comparative advantage are tricky and best studied by example: consider a world in which only two countries exist (Italy and China) and only two goods exist (shirts and bicycles). The Chinese are very efficient in producing both goods. They can produce a shirt in one hour and a bicycle in two hours. The Italians, on the other hand, are not very productive at manufacturing either good. It takes three hours to produce one shirt and five hours to produce one bicycle.

The Chinese have a comparative advantage in shirt manufacturing, as they have the lowest opportunity cost (1/2 bicycle) in that good. Likewise, the Italians have a comparative advantage in bicycle manufacturing as they have the lowest opportunity cost (5/3 shirts) in that good. It follows, then, that the Chinese should specialize in the production of shirts and the Italians should specialize in the production of bicycles, as these are the goods that both are most efficient at producing. The two countries should then trade their surplus products for goods that they cannot produce as efficiently.

A comparative advantage not only affects the production decisions of trading nations, but it also affects the prices of the goods involved. After the trade, the world market price (the price an international consumer must pay to purchase a good) of both goods will fall between the opportunity costs of both countries. For example, the world price of a bicycle will be between 5/3 shirt and two shirts, thereby decreasing the price the Italians pay for a shirt while allowing the Italians to profit. The Chinese will pay less for a bicycle and the Italians less for a shirt than they would pay if the two countries were manufacturing both goods for themselves.

In reality, of course, trade specialization does not work precisely the way the theory of comparative advantage might suggest, for a number of reasons:

• No country specializes exclusively in the production and export of a single product or service.
• All countries produce at least some goods and services that other countries can produce more efficiently.
• A lower income country might, in theory, be able to produce a particular product more efficiently than the United States can but still not be able to identify American buyers or transport the item cheaply to the United States.

As a result, U.S. firms continue to manufacture the product. Generally, countries with a relative abundance of low-skilled labor will tend to specialize in the production and export of items for which low-skilled labor is the predominant cost component. Countries with a relative abundance of capital will tend to specialize in the production and export of items for which capital is the predominant component of cost.

Many American citizens do not fully support specialization and trade. They contend that imports inevitably replace domestically produced goods and services, thereby threatening the jobs of those involved in their production. Imports can indeed undermine the employment of domestic workers.

From what you have just read, you can see that imports supply products that are either 1) unavailable in the domestic economy or 2) that domestic enterprises and workers would be better off not making so that they can focus on the specialization of another good or service. Finally, international trade brings several other benefits to the average consumer. Competition from imports can enhance the efficiency and quality of domestically produced goods and services. In addition, competition from imports has historically tended to restrain increases in domestic prices.

11.8.2 Global Interdependence

The tremendous growth of international trade over the past several decades has been both a primary cause and effect of globalization. The volume of world trade increased twenty-seven-fold from $296 billion in 1950 to $8 trillion in 2005. Although international trade experienced a contraction of 12.2 percent in 2009—the steepest decline since World War II—trade is again on the upswing. As a result of international trade, consumers around the world enjoy a broader selection of products than they would if they only had access to domestically made products. Also, in response to the ever-growing flow of goods, services and capital, a whole host of U.S. government agencies and international institutions have been established to help manage these rapidly developing trends. Although increased international trade has spurred tremendous economic growth across the globe—raising incomes, creating jobs, reducing prices, and increasing workers’ earning power—trade can also bring about economic, political, and social disruption. Since the global economy is so interconnected, when large economies suffer recessions, the effects are felt around the world. One of the hallmark characteristics of the global economy is the concept of interdependence. When trade decreases, jobs, and businesses are lost. In the same way that globalization can be a boon for international trade; it can also have devastating effects. Activities such as the choice of clothes you buy have a direct impact on the lives of people working in the nations that produce

There are several elements that are responsible for the expansion of the global economy during the past several decades: new information technologies, reduction of transportation costs, the formation of economic blocs such as the North American Free Trade Association (NAFTA), and the reforms implemented by states and financial organizations in the 1980s aimed at liberalizing the world economy.

Trade liberalization, or deregulation, has become a ‘hot button’ issue in world affairs. Many countries have seen great prosperity thanks to the disintegration of trade regulations that had otherwise been considered a harbinger of free trade in the recent past. The controversy surrounding the issue, however, stems from enormous inequality and social injustices that sometimes comes with reducing trade regulations in the name of a bustling global economy.

Given the dislocations and controversies, some people question the importance of efforts to liberalize trade and wonder whether the economic benefits are outweighed by other unquantifiable negative factors such as labor exploitation. With globalization, competition occurs between nations having different standards for worker pay, health insurance, and labor regulations. Corporations benefit from lower labor costs found in developing regions, thanks to free-trade agreements and a new international division of labor. A worker in a high-wage country is thus increasingly struggling in the face of competition from workers in low-wage countries. Entire sectors of employment in developed countries are now subject to this growing international competition, and unemployment has crippled many localities. The outcome has been an international division of labor in all sectors of the economy. In particular, manufacturing is increasingly being contracted out to lowercost locations, which are often found in developing countries with no minimum wage and few environmental regulations.

A good example of international division of labor can be found in the clothes-making industry. What was once a staple industry in most developed Western economies has now been relocated to developing countries in Central America, Asia, Eastern Europe, North Africa,  and elsewhere.

11.8.3 Information Technology (IT) and the Process of Globalization

In nearly every corner of the world, from Mumbai to Madrid, one cannot enter a café or walk down the street without seeing someone talking, texting, or surfing the Internet on their cell phones, laptops or tablet PCs. Information Technology (IT) has become ubiquitous and is changing every aspect of how people live their lives.

IT is a driving factor in the process of globalization. Improvements in the early 1990s in computer hardware, software, and telecommunications greatly increased people’s ability to access information and economic potential. These developments have facilitated efficiency gains in all sectors of the economy. IT drives the innovative use of resources to promote new products and ideas across nations and cultures, regardless of geographic location. Creating efficient and effective channels to exchange information, IT has been the catalyst for global integration. Globalization accelerates the change of technology. Every day it seems that a new technological innovation is being created. The pace of change occurs so rapidly many people are always playing catch up, trying to purchase or update their new devices. Technology is now the forefront of the modern world creating new jobs, innovations, and networking sites to allow individuals to connect globally. Check this ICMP Ping Request World Map & Hilbert map.

The First Industrial Revolution used water and steam power to mechanize production. The Second used electric power to create the mass production. The Third used electronics and information technology to automate production. Now a Fourth Industrial Revolution is building on the Third, the digital revolution that has been occurring since the middle of the last century.

It is characterized by a fusion of technologies that is blurring the lines between the physical, digital, and biological spheres. Many argue that the Fourth Industrial Revolution has the potential to raise global income levels and improve the quality of life for populations around the world. To date, those who have gained the most from it have been consumers able to afford and access the digital world; technology has made possible new products and services that increase the efficiency and pleasure of our personal lives. Ordering a cab, booking a flight, buying a product, making a payment, listening to music, watching a film, or playing a game—any of these can now be done remotely and easily.

The digital economy permeates all aspects of society, including the way people interact, the economic landscape, the skills needed to get a good job, and even political decision-making. Our emerging digital economy has the potential to generate new scientific research and breakthroughs, fueling job opportunities, economic growth, and improving how people live their lives. These changes are happening all around us. In Kenya, mobile data is being used to identify malaria infection patterns and identify hotspots that guide government eradication efforts. Vehicle sensor data from delivery trucks, combined from mapping data analytics, has enabled companies to save millions of gallons of fuel and reduce emissions by the equivalent of taking thousands of cars off the road for a year. Farmers from Iowa to India are using data from seeds, satellites, and sensors to make better decisions about what to grow and how to adapt to changing climates. The ways in which people connect with others, with information, and with the world is being transformed through a combination of technologies. These technologies will help us solve increasingly sophisticated problems, while big data will assist us in complex decision-making. The sharing economy is a model in which people and organizations connect online to share goods and services. It is also known as collaborative consumption or peer-to-peer exchange. Two of the best-known examples of the sharing economy are Uber (transportation) and Airbnb (housing).

The blockchain is a digital “ledger” technology that allows for keeping track of transactions in a distributed and trusted fashion. It replaces the need for third-party institutions to provide trust for financial, contract, and voting activities. Bitcoin and other digital currencies are some of the most well-known examples of applications of block chain technology. In the future, technological innovation could lead to long-term gains in efficiency and productivity.

Transportation and communication costs are predicted to drop, with logistics and global supply chains becoming more effective, the cost of trade will diminish, which should open new markets and drive economic growth. At the same time, as the economists Erik Brynjolfsson and Andrew McAfee have pointed out, the revolution could yield greater inequality, particularly in its potential to disrupt labor markets. As automation substitutes for labor across the entire economy, the net displacement of workers by machines might exacerbate the gap between returns on capital and returns to labor. We cannot foresee at this point which scenario is likely to emerge, and history suggests that the outcome is likely to be some combination of the two.

In addition to being a key economic concern, inequality represents the greatest societal concern associated with the Fourth Industrial Revolution. The largest beneficiaries of innovation tend to be the providers of intellectual and physical capital—the innovators, shareholders, and investors—which explains the rising gap in wealth between those dependent on capital versus labor. Technology is, therefore, one of the main reasons why incomes have stagnated, or even decreased, for a majority of the population in high-income countries: the demand for highly skilled workers has increased while the demand for workers with less education and lower skills has decreased. The result is a job market with a strong demand at the high and low ends, but a hollowing out of the middle.

It is also important to remember that development is not evenly distributed over time and space. There are still many people around the world who have not yet realized the benefits delivered by previous industrial revolutions. Around 1.2 billion people don’t have reliable access to energy. Another 2.3 billion don’t have clean water and sanitation. More than 4 billion don’t have access to the internet. Here, the Fourth Industrial Revolution could serve as a formidable accelerator of social and economic inclusion, particularly for the developing world. Recently the World Economic Forum identified five innovations which have the potential to positively impact the lives of smallholder farmers:

11.8.3.1. Improved access to electricity to increase efficiency and reduce food loss

Electricity is hardly a new innovation, but there are still many people – almost two-thirds of sub-Saharan Africa, for example – who lack access. Even where energy infrastructure exists, the cost can often be a barrier. Access to affordable, reliable and sustainable energy enables smallholders to improve efficiencies in land preparation, planting, irrigation and harvesting. It also allows them to use certain methods for storing, cooling and preserving goods. The ability of smallholder farmers to participate in global food systems depends on their access to electricity.

11.8.3.2 Increased internet connectivity to access information and knowledge to improve productivity on their farms

For many of us, the internet is a fundamental part of everyday life. According to the UN  over 2.9 billion people – more than 37% of the world’s population – remain unconnected to the web. The vast majority of smallholder farmers live in remote areas, where good, fast internet connectivity reaches less than 30% of the population. Women constitute almost half of the agricultural labor force in developing countries, yet they are less likely to access the internet than men in the same communities. If this “digital divide” were closed, smallholder farmers could access information and knowledge related to weather, rainfall or market demand, allowing them to grow and harvest food more efficiently. Timing has increasingly become a key source of competitiveness, and access to real-time information is crucial. To be truly transformational, internet access must be reliable, affordable and secure.

11.8.3. Mobile devices and platforms connect smallholder farmers to markets

Connectivity is not only about access to information – it is also about access to services. For example, mobile banking can give smallholder farmers access to formal financial services such as banking and loans, which they all too often lack. Take the example of Trringo: this smartphone app is being hailed as the Uber for tractors thanks to how it has disrupted India’s farm equipment renting process. Investing in a mobile phone as an agricultural tool has perhaps become the single most strategic decision by a smallholder farmer, and we need to make sure we’re doing everything we can to facilitate such smart investments.

11.8.3.4 Unique identifiers improve data about farmers, for farmers

Unique identifiers are commonly used in the developed world. When you log on to Amazon or Netflix, the site knows who you are and makes personalized recommendations based on what you have purchased or viewed before. But data about smallholder farmers in developing economies is largely based on samples and extrapolations and is thus unreliable or incomplete. With unique identifiers, businesses could offer tailored services, policy-makers could make more informed decisions, and knowledge institutions could make better assessments of farmers’ circumstances. For example, the eWallet system in Nigeria has allowed the government to identify and deliver input subsidies directly to farmers based on personal and biometric information provided by smallholder farmers. As with all innovations, this technology is not a silver bullet. For unique identifiers to improve farmers’ lives, data systems must be able to guarantee that data remains anonymous for the privacy and security of individuals.

11.8.3.5 Geospatial analysis to help farmers make informed decisions

Geospatial technologies can help both policy-makers, and individual farmers assess, monitor and plan the use of their natural resources. If smallholder farmers had access to foundational technologies – like electricity, the internet, and mobile phones – then they too could use geospatial analysis to make decisions about the management of their farms and other assets. In this realm, FAO and Google are partnering to make geospatial tracking and mapping products more accessible. If geospatial technologies were easy to download and use, a smallholder in Colombia could discover the distance to the nearest river, or a farmer in Malawi could use sensors to more efficiently manage their farm. Some of the technologies we’ve discussed here are hardly new, so it might seem odd to see them on a list of innovations that could transform the lives of smallholders. But for these farmers, access and adoption of technology are not automatic. It is, therefore, our duty to ensure smallholder farmers are not left behind in the Fourth Industrial Revolution. Strong digital infrastructure is crucial for smallholders to access and create tools that empower them to make decisions about their farms and businesses. As innovation evolves, let’s continue to question how the benefits of technology are being shared and how these benefits can nurture the smallholder farmers who feed the world.