International trade theory
Adam Smith describes trade taking place as a result of countries having absolute advantage in production of particular goods, relative to each other.
In Book IV of his major work the Wealth of Nations, Adam Smith, discussing gains from trade, provides a literary model for absolute advantage based upon the example of growing grapes from Scotland.
Any undergraduate course in trade theory includes a presentation of Ricardo's example of a two-commodity, two-country model.
The Ricardian model does not directly consider factor endowments, such as the relative amounts of labor and capital within a country.
It was due to Jacob Viner's interest in explaining the migration of workers from the rural to urban areas after the Industrial revolution.
In this model labor mobility among industries is possible while capital is assumed to be immobile in the short run.
In the early 1900s, a theory of international trade was developed by two Swedish economists, Eli Heckscher and Bertil Ohlin.
Simultaneously, the income of the resource used intensively in the import-competing product decreases as its demand falls.
New trade theories are often based on assumptions such as monopolistic competition and increasing returns to scale.
The model mimics the Newtonian law of gravity which also considers distance and physical size between two objects.
This line of thought has brought Ricardo's theory of comparative advantage back to center stage."
At the international level, the basic laws require real exchange rates for tradables only (RER-T).
[21] Second phase: Ricardo's idea was even expanded to the case of continuum of goods by Dornbusch, Fischer, and Samuelson (1977).
Eaton and Kortum (2002)[24] inherited Ricardian model with a continuum of goods from Dorbusch, Fischer, and Samuelson (1977).
Third phase: Shiozawa [25] succeeded to construct a Ricardian theory with many-country, many-commodity model which permits choice of production techniques and trade of input goods.
[27][28] McKenzie[29] and Jones[30] emphasized the necessity to expand the Ricardian theory to the cases of traded inputs.
"[31] Paul Samuelson[32] coined a term Sraffa bonus to name the gains from trade of inputs.
Revolutionary change in communication and information techniques and drastic downs of transport costs have enabled an historic breakup of production process.
[43] Four generations of trade theories assumed full employment as one of initial conditions and could not treat unemployment.
Shiozawa, based on his discovery of a new definition of regular international value, succeeded to construct a new theory that permits unemployment.
[37][42] International trade can increase economic inequality in a country while strengthening democratic and rule of law institutions in underdeveloped democracies.
