Introduction to International Trade

and Finance

International Trade and Finance

Module Code: SCMC 2013
Lecturer : Ruchira Gunarathna
Objectives
Understand basics of International Trade
Identify the difference between Domestic trade and
international trade
Understand Export, import and Balance of trade
Discuss barriers in international trade
Identify why firms are interested in international trade
International Trade
International trade is the purchase and sale of goods
and services by companies in different countries.
Consumer goods, raw materials, food, and machinery
all are bought and sold in the international
marketplace.
Domestic Trade

Domestic trade is the exchange of domestic goods

within the boundaries of a country. Domestic
trade may also be sub-divided into 2 categories:
wholesale and retail.
Wholesale : Wholesale trade is a business activity that involves
buying products in bulk from producers and selling them in
smaller quantities to retailers
Retail : Retail business/trade means purchasing the goods from the
wholesalers/manufacturers and selling them to the final consumers for a
profit.
Key differences between Domestic trade
and International trade
 Area of operation: Domestic trade operates within the home country, while
international trade activities are spread across the globe.
 Different currencies: International businesses deal with multiple currencies
and the fluctuation of exchange rate can affect the profitability of your business.
 Policies and regulation: Businesses participate in international trade will
have to face the unique regulations, policies, law taxation, tariff and quotas
imposed by different countries.
 Target market and customers: It is much easier to conduct market research
and study your customers when doing business domestically. Cultural and
language differences can also become barriers to your business and market
research on a global scale.
 Shipping and logistics: Trading to foreign countries will have to deal with the
complications and risks involved in international transportation and logistics.
For example, the complexity of Incoterms can present challenges for both
importers and exporters.
Importance of International Trade
In the global era, international trade has bridged the gap between
producers, sellers, and consumers.
Comparative Advantage: Through international trade, a
nation gains expertise in a particular product or service and
develops a reputation. For instance, the US has a comparative
advantage in capital goods.
Global Development and Economic Growth: An increase in
cross-border commerce boosts the local economy of the
involved countries.
Attaining Economies of Scale and Specialization: As the
demand for imported goods from a particular nation increases
—the country becomes well known for the particular product—
production is ramped up. The producing country brings down
the cost of production by achieving economies of scale.
Importance of International Trade

 More Choices for Consumers: When the market is flooded with

imported goods and services, the buyers have more options to select
from. Customer decisions are dictated by preference and purchasing
power. Increased options also mean more competition for the
producers—increased product innovation and product quality.
 Access to Abundant Raw Material: Many nations lack a particular
resource that is required for manufacturing goods. Via international
trade, even the rarest natural resources can be acquired.
For example, to manufacture batteries used in electric vehicles cobalt is
required; 70% of the world’s cobalt is found in the Republic of Congo.
But, through international commerce, other countries can acquire the
mineral.
International Trade Benefits
The benefits of international trade are as follows:
Price Stability: When the goods or services are
exchanged globally, their prices standardize in the
international market.
Enhances Technological Know-How: There is an
exchange of technology between countries—which
also contributes to GDP.
Variety of goods : Consumers get to enjoy different
types of goods
Improved quality of local products
Continuous Supply
 International Trade Drawbacks
Let us now go through the various problems caused by cross
border commerce:
Adverse Effect on Domestic Consumption: The import
of goods or services from foreign countries results in the
falling demand for local products. Domestic players may
suffer drastically.
Political Influence: Sometimes, trade is dictated by
political agenda—it does not benefit the economy.
Environmental Cost: When a nation receives
foreign direct investment, increased production can
cause environmental issues—global warming, carbon
emission, air pollution, and water pollution.
Threats to National Security
Barriers to International Trade
In international trade, importers and exporters are quite
often confronted with problems arising from the
movements of goods from one country to another and are
simultaneously subject to the different legislation,
customs and practices of these countries.

Exporters want to be certain that they are paid when

their goods have been shipped or dispatched because
the goods will be out of their control.
Importers want to be certain that they receive goods
that conform to what has been ordered.
Import and Export
Import and Export
Exports earn money for a country, while imports mean
expenses.
For example, India is a country that has a huge number of
qualified manpower in the IT sector. This manpower exports
its services to companies doing business in other countries
thus earning foreign currency for India. On the other hand,
India is dependent for oil and arms on other countries and
needs to import them for its energy requirements as well as
its army. It can spend the foreign currency it earns through
exports to import goods and services it is deficient in. This is
the basic concept behind exports and imports.
EXPORTERS’ RISKS
Arrangements for selling goods abroad are often more complex than those
connected with home market sales due to following reasons:
 Geographical Factors: The exported goods are sold to buyers who, for
geographical reasons, are likely to be less known to the seller’s own country.
 Legal System: The buyer will often be subject to a different legal system
and trade customs from those in the exporter’s country.
 Language: The languages of the exporters and importers may be different,
thus there would be need for translating the basic text and its related
implications.
 Non-Payment: Exporting tends to entail a greater risk of non-payment
than domestic sales. This risk is known as the buyer’s risk.
 Tariff barriers—import duty, export duty, or anti-dumping duty.
 Non-tariff barriers—Embargoes, government restrictions on imports, and
import quotas.
IMPORTERS’ RISKS
Seller’s risks : Delays in production, Quality Issues
Exchange Risks: Export trade involves a financial
transaction in a foreign currency either to the buyer or to
the seller, or sometimes to both, and hence entails
exchange risks.
Exchange Control: Export trade may involve exchange
control regulations, both in the seller’s and the buyer’s
country, and a variety of further risks for the seller.
Political Risks: There are risks in the event of war or
national disaster between countries. These risks are also
known as country risks.
International Trade Types

Import: Primarily, when a country is incapable of

producing products domestically, goods are imported.
Export: When a country produces surplus goods or
services of international quality, it can sell these
outside its geographical boundaries. Such
international selling of products is termed export
trade.
Entrepot: It is a blend of import and export. Country
A buys goods or services from country B and sells them
to country C after adding some value to the goods.
Goods are exported due to the following reasons:
Higher value in the international market
International quality
Excess production in the domestic market
Increasing demand in the global market
Goods and services are imported goods due to the
following reasons:
Low price
Superior quality
Lack of availability in the domestic market
Excessive demand
Low supply
Examples #1
Let us look at some examples to better understand global
commerce.
Let us assume that there are two countries, X and Y. X produce rice at a very
low price (in comparison to Y). X is a developing nation. Y, on the other
hand, cannot grow rice on its land despite having a flourishing economy—
due to the unfavorable climate and soil.
Example #2

In 2022, Europe started importing natural gases from

Qatar instead of Russia. Before the war, Russia fulfilled
almost 40% of Europe’s natural gas requirements.
Consequentially, Qatar has signed various long-term
contracts with the US (natural gas imports).
Balance of Trade
Key Factors about Balance of Trade
 Balance of trade (BOT) is the difference between the value of a
country's imports and exports for a given period and is the
largest component of a country's balance of payments (BOP).
 A country that imports more goods and services than it exports
in terms of value has a trade deficit while a country that exports
more goods and services than it imports has a trade surplus.
 Viewed alone, a favorable balance of trade is not sufficient to
understand the health of an economy. It is important to
consider the balance of trade with respect to other economic
indicators, business cycles, and other indicators.
 The United States regularly runs a trade deficit, while China
usually runs a large trade surplus.
Calculating the Balance of Trade

BOT=Exports−Imports​
A country's exports of goods in a given year are worth $100 million, and its
imports of goods are worth $80 million. To calculate the balance of trade, you
would subtract the value of the imports from the value of the exports:
 Balance of trade = Exports - Imports
= $100 million - $80 million
= $20 million
In this example, the balance of trade is $20 million, which means that the
country has a trade surplus of +$20 million.

It's important to note that the balance of trade is typically measured in the currency of the country whose
trade balance is being calculated.
For example, if the country in the above example is the United States, the balance of trade would be
measured in US dollars. If the country is Japan, it would be measured in Japanese yen,
Calculating the Balance of Trade
The United States imported $239 billion in goods and
services in August 2020 but exported only $171.9
billion in goods and services to other countries.
So, in August, the United States had a trade balance of
-$67.1 billion, or a $67.1 billion Trade deficit .
Balance of Trade: Favorable vs. Unfavorable
A favorable balance of trade, also known as a trade
surplus, occurs when a country exports more goods than it
imports.
This means that the country is earning more from its exports
than it is spending on its imports, and it is generally seen as a
sign of economic strength.
A trade surplus can be a result of a country having a
competitive advantage in the production and export of
certain goods
Or it can be the result of a country's currency being relatively
undervalued, making its exports cheaper for foreign buyers.
Balance of Trade: Favorable vs.
Unfavorable
An unfavorable balance of trade, also known as a trade
deficit, occurs when a country imports more goods than it
exports.
This means that the country is spending more on imports
than it is earning from exports, and it can be a cause for
concern if it persists over a long period of time.
A trade deficit can be the result of a country having a
comparative disadvantage in the production of certain goods.
Or it can be the result of a country's currency being relatively
overvalued, making its imports cheaper and its exports more
expensive.
Balance of Payment
In general, a favorable balance of trade is seen as a
positive sign for a country's economy, while an
unfavorable balance of trade is seen as a negative sign.
However, it's important to note that a trade deficit or
surplus is not always a sign of economic strength or
weakness, and other factors such as a country's overall
economic growth, business cycle, employment rate,
and inflation rate should also be taken into account.
Business Cycle
Understanding Business Cycle
In essence, business cycles are marked by the
alternation of the phases of expansion and contraction
in aggregate economic activity, and the co-movement
among economic variables in each phase of the cycle.
Aggregate economic activity is represented by
country’s GDP, Industrial production, employment,
income, sales ect
What is Recession ?
A recession is actually a
specific sort of vicious
cycle, with cascading
declines in output,
employment, income,
and sales that feedback
into a further drop in
output, spreading
rapidly from industry to
industry and region to
region.
What is Recovery ?
Business cycle recovery
begins when that
recessionary vicious
cycle reverses and
becomes a virtuous
cycle, with rising output
triggering job gains,
rising incomes, and
increasing sales
that feedback into a
further rise in output
Special Considerations
A country with a large trade deficit borrows money to
pay for its goods and services, while a country with a
large trade surplus lends mo
In some cases, the trade balance may correlate to
a country's political and economic stability because it
reflects the amount of foreign investment in that
country to deficit countries.
A trade surplus or deficit is not always a viable indicator
of an economy's health, and it must be considered in
the context of the business cycle and other economic
indicators.
Special Considerations
For example, in a recession, countries prefer to export
more to create jobs and demand in the economy. In
times of economic expansion, countries prefer to
import more to promote price competition, which
limits inflation.
Balance of Payments
Balance of Payments
Balance of payments is a record of all international
economic transactions made by a country's residents,
including trade in goods and services, as well as financial
capital and financial transfers.
Balance of Trade vs. Balance of Payments
The balance of trade is the difference between a
country's exports and imports of goods, while the
balance of payments is a record of all international
economic transactions made by a country's residents,
including trade in goods and services, as well as financial
capital and financial transfers.
The balance of trade is a part of the balance of
payments and is represented in the current account,
which also includes income from investments and
transfers such as foreign aid and gifts.
Balance of Trade vs. Balance of Payments
It's important to note that the balance of trade and the
balance of payments are not the same thing, although
they are related.
The balance of trade measures the flow of goods into
and out of a country, while the balance of payments
measures all international economic transactions,
including trade in goods and services, financial capital,
and financial transfers.
Balance of Trade vs. Balance of Payments
A country can have a positive balance of trade (a trade
surplus) and a negative balance of payments (a deficit)
if it is exporting more goods than it is importing, but it
is also losing financial capital or making financial
transfers.
Conversely, a country can have a negative balance of
trade (a trade deficit) and a positive balance of
payments (a surplus) if it is importing more goods
than it is exporting, but it is also receiving a large
amount of financial capital or making financial
transfers.
Trade Balances
 How Do Changes in a Country's
Exchange Rate Affect the Balance of
Trade?
When the price of one country's currency increases, the
cost of its goods and services also increases in the
foreign market. For residents of that country, it will
become cheaper to import goods, but domestic
producers might have trouble selling their goods abroad
because of the higher prices. Ultimately, this may result
in lower exports and higher imports, causing a trade
deficit.
What Is a Favorable Balance of
Trade?
A favorable balance of trade occurs when a country's
exports exceed the value of its imports. This indicates a
positive inflow of money to stimulate local economic
activity.
How Can a Country Gain a
Favorable Balance of Trade?
Many seek to improve their balance of trade by investing
heavily in export-oriented manufacturing or extracting
industries.
It is also possible to improve the balance of trade by
placing tariffs on imported goods, or by devaluing the
country's currency.
How Do We Measure
Balance of Trade?
The balance of trade is typically measured as the
difference between a country's exports and imports of
goods. To calculate the balance of trade, you would
subtract the value of a country's imports from the value
of its exports. If the result is positive, it means that the
country has a trade surplus (favorable balance of trade),
and if the result is negative, it means that the country
has a trade deficit (unfavorable balance of trade).
https://www.youtube.com/watch?v=G7jMWmGvo2o
Why firms are interested in
International trade
Reduced dependence on your local market
Your home market may be struggling due to economic
pressures, but if you go global, you will have immediate
access to a practically unlimited range of customers in
areas where there is more money available to spend, and
because different cultures have different wants and
needs, you can diversify your product range to take
advantage of these differences.
Why firms are interested in International
trade
Increased chances of success
Unless you’ve got your pricing wrong, the higher the volume of
products you sell, the more profit you make, and overseas trade is
an obvious way to increase sales. In support of this, UK Trade and
Investment (UKTI) claim that companies who go global are 12%
more likely to survive and excel than those who choose not to
export.
Increased efficiency
Benefit from the economies of scale that the export of your goods
can bring – go global and profitably use up any excess capacity in
your business, smoothing the load and avoiding the seasonal peaks
and troughs that are the bane of the production manager’s life.
Why firms are interested in International
trade
Increased productivity
Statistics from UK Trade and Investment (UKTI) state that
companies involved in overseas trade can improve their
productivity by 34%
Economic advantage
Take advantage of currency fluctuations – export when the
value of the pound sterling is low against other currencies, and
reap the very real benefits. Words of warning though; watch
out for import tariffs in the country you are exporting to, and
keep an eye on the value of sterling. You don’t want to be
caught out by any sudden upsurge in the value of the pound, or
you could lose all the profit you have worked so hard to gain
Why firms are interested in International
trade
Innovation
Because firms are exporting to a wider range of
customers, you will also gain a wider range of feedback
about your products, and this can lead to real benefits.
In fact, UKTI statistics show that businesses believe that
exporting leads to innovation – increases in break-
through product development to solve problems and
meet the needs of the wider customer base.
Growth
Facilitate the growth of the company
Why firms are interested in International
trade
Minimize Risk
Businesses expand internationally to offset the risk of
stagnating growth in their home country as well as in
other countries where they are operating.
Acquire Resources
Developing and emerging countries have large deposits
of minerals, metals and land for agricultural production,
the western multinationals eye these markets in order to
get access to the resources.