Free trade is defined as the absence of government intervention of any kind in international trade, so that trade takes place without any restrictions/barriers between individuals or firms in different countries
There is general agreement among economists that while free trade and the reduction of trade barriers have a positive effect on economic growth and stability, protectionism (opposes free trade) may have negative effects on aspects of economic growth and welfare
Liberalisation of trade can cause significant and unequally distributed losses, and the economic dislocation of workers in import-competing sectors
Specialisation and Trade
Specialisation occurs when an individual, firm or country concentrates production on one or a few goods and services
Here, we are referring to specialisation by a country in the production of a range of goods or services it can produce efficiently (at a low cost)
A country that does not trade must produce all goods and services consumed, and therefore cannot specialise
However, if it uses its resources to specialise in the production of those goods and services it can produces more efficiently (with lower costs of production), it can produce more of these, and trade some of them for other goods produces more efficiently in other countries
This way an economy is able to produce a greater quantity of output because it does not ‘waste’ its spare resources on producing goods and services at a relatively high cost
It can also increase consumption of goods and services, because by exporting part of its larger domestic output in exchange for other output produced more cheaply elsewhere, it can acquire a larger overall quantity of goods and services
This, in summary, is the theory of comparative advantage, which we will be looking at
Differences in the distribution of resources in terms of quantity and quality will affect the cost of supplying goods and services
If production costs differ, then countries will benefit by specialising in the goods and services in which they are most efficient; exporting surplus production and important those goods and services in which they are less efficient at producing domestically
The principle of Absolute advantage
A country is said to have an absolute advantage in the production of a good or service over another country if it can produce a greater quantity of that good with the same quantity of inputs (or the same quantity of output with fewer inputs) Kemp, Parry, 2020
This means that a country with
Assumptions
The world consists of 2 countries
Each country produces and consumes 2 goods
Resources are perfectly mobile - resources can be shifted between industries with zero displacement cost