Economic Rationale of Trade
The potential economic benefits of international or inter-regional trade are
numerous and well known since the seminal work of Adam Smith (1776)
and David Ricardo (1817). Without trade, each country must produce a
set of basic goods to satisfy the requirements of the national economy.
In the above example, four countries are each producing four different
goods. National markets tend to be small, impairing potential economies
of scale, which results in higher prices. Product diversity also tends
to be limited because of the market size and standards (such as safety
or component size) may even be different. The difficulties in
producing a vast array of goods is linked with differences in
levels of development.
With trade, competition increases and a rationalization of production
often takes place as comparative advantages are being exploited. The outcome of trade liberalization
usually involves a specialization
of production and the trade of surpluses between partners. Greater economies of scale achieved through specialization
result in lower prices and higher profits. A situation of interdependency is thus created
as each trading partner depends on the other for an array of goods.
An absolute specialization of the production rarely takes place in
reality but some sectors, such as toys and apparels have experienced
a high level of specialization and geographical clustering.