Question

Based on the “Trade and Prosperity: The case of Mexico” opening case of the chapter, briefly describe the transition that Mexico has gone through from the beginning of the 1980s – till recently? (5 points)

Answer 1

[1] One of the better-known advocates of this philosophy, known as mercantilism, was Thomas Mun, a director of the British East India Company. In a letter written in the 1630s to his son, he said: “The ordinary means therefore to increase our wealth and treasure is by Foreign Trade, wherein wee must ever observe this rule; to sell more to strangers yearly than wee consume of theirs in value. . . . By this order duly kept in our trading, . . . that part of our stock which is not returned to us in wares must necessarily be brought home in treasure.

[2] Mercantilists believed that governments should promote exports and that governments should control economic activity and place restrictions on imports if needed to ensure an export surplus. Obviously, not all nations could have an export surplus, but mercantilists believed this was the goal and that successful nations would gain at the expense of those less successful. Ideally, a nation would export finished goods and import raw materials, under mercantilist theory, thereby maximizing domestic employment.

Then Adam Smith challenged this prevailing thinking in The Wealth of Nations published in 1776. Smith argued that when one nation is more efficient than another country in producing a product, while the other nation is more efficient at producing another product, then both nations could benefit through trade. This would enable each nation to specialize in producing the product where it had an absolute advantage, and thereby increase total production over what it would be without trade. This insight implied very different policies than mercantilism. It implied less government involvement in the economy and a reduction of barriers to trade.

.[3] Ricardo observed that trade will occur between nations even where one country has an absolute advantage in producing all the products traded.

Ricardo showed that what was important was the comparative advantage of each nation in production. The theory of comparative advantage holds that even if one nation can produce all goods more cheaply than can another nation, both nations can still trade under conditions where each benefits. Under this theory, what matters is relative efficiency.

Economists sometimes compare this to the situation where even though a lawyer might be more proficient at both law and typing than the secretary, it would still pay the lawyer to have the secretary handle the typing to allow more time for the higher-paying legal work. Similarly, if each country specializes in the products where it is comparatively more efficient, total production will be higher and consumers will have more goods to utilize.

Smith and Ricardo considered only labor as a “factor of production.”   In the early 1900s, this theory was further developed by two Swedish economists, Bertil Heckscher and Eli Ohlin, who considered several factors of production

[4] The so-called Heckscher-Ohlin theory basically holds that a country will export those commodities that are produced by the factor that it has in relative abundance and that it will import products whose production requires factors of production where it has relatively less abundance. This situation is often portrayed in economics textbooks as a simplified model of two countries (England and Portugal) and two products (textiles and wine). In this simplified portrayal, England has relatively abundant capital and Portugal has relatively abundant labor, and textiles are relatively capital intensive whereas wine is relatively labor intensive. With these conditions, both nations would be better off if they freely traded, and under such a situation of free trade, England would export textiles and import wine. This would maximize efficiency, resulting in more total production of textiles and wine and cheaper prices for consumers than would be the case without trade. Through empirical studies and mathematical models, economists almost universally believe that this model holds equally well for multiple products and multiple countries.

[5] In fact, economists consider this law of comparative advantage to be fundamental. As Dominick Salvatore says in his basic economics textbook International Economics, the law of comparative advantage remains “one of the most important and still unchallenged laws of economics. . . . The law of comparative advantage is the cornerstone of the pure theory of international trade.