Text IV. Export as an important part of foreign trade

Every country, regardless of size, ideology, or state of development, participates in international trade. Trade theorists have tried to explain why states trade and how they benefit from it largely under assumptions of static conditions that hold all domestic factors of production (land, other natural resources, labor, and capital) in fixed supply. The resulting theory of comparative advantage is rich in its implications about the gains from trade, the following among them: (1) Any country can increase its income by trading, because the world market provides an opportunity to buy some goods at relative prices that are lower than those which would prevail at home in the absence of trade. (2) The smaller the country the greater this potential gain from trade, but all countries benefit to some extent. (3) A country will gain most by exporting commodities that it produced, using its abundant factors of production most intensively, while importing those goods whose production would require relatively more of the scarcer factors of production.

The theory of comparative advantage is posed here in the very simple form developed by David Ricardo during the nineteenth century: two countries, two goods, and only one factor of production, labor. Some of the complexities of the real world can be incorporated into the theory, however. A trading world of many countries can be handled by taking the home country, say Kenya, and treating the rest of the world as its trading partner. The Swedish economists Eli Heckscher and Bertil Ohlin during the first half of the twentieth century expanded the theory to deal with two factors, such as labor and capital.

Before trade, a country both produces and consumer at a point like A. With trade, a country produces at a point like B and can increase its consumption of both goods and move to a higher indifference curve at C.

We divided the economy into production of X goods and Y goods, without being specific about the nature of those goods. In Figure 1, the economy of our home country is divided instead into exportable goods, such as rice, that are produced using relatively land- and labor-intensive methods, and importable goods, such as cloth, produced using relatively capital-intensive methods. As shown in the diagram, the home country is relatively well-endowed with land and labor, so the production frontier is skewed to the right; this depicts the country’s greater capacity to produce rice than cloth. The country’s collective utility in consuming these goods is represented by the community indifference curves.

Without trade, the home country achieves its greatest utility by producing and consuming at point A, the tendency of the indifference curve I and the production frontier. The slope at A determines the domestic relative price of rice in terms of cloth. Assume that the rest of the world is better endowed with capacity than with labor and land relative to the endowments of the home country and that world consumers have tastes broadly similar to those of the home country. Then on world markets the relatively higher production of cloth compared with the demand for cloth will drive its price lower than in the home country. Since only relative prices matter, these two statements mean the same thing: in world markets the price of rice in terms of cloth will be higher than in the home country.

TEST I

Choose the correct word. Only one word is correct. Fill in the following gaps.

1. Mechanisms for financing exports and imports have evolved in response to a problem: … of trust.

a) abundance b) lack c) amount d) costs

2. … seen the letter of credit, the US exporter ships the products to France.

a) to be b) having c) being d) done

3. Title to the products is given in the bank in the form of a document called a bill of ...

a) credit b) trust c) investment d) lading

4. In return the US exporter tells the bank … for the products, which the bank does.

a) to pay b) to ship c) to manage d) to sell

5. The documents for requesting this payment is referred to as a … .

a) assignment b) draft c) visa d) bill

6. The bank, … for the products, passes the title on to the French importer, whom the bank trust.

a) being paid b) to have paid c) having paid d) have been paid

7. At the time or later, … on their agreement, the importer reimburses the bank.

a) to be depended b) to depend c) depending d) to have depended

8. A letter of credit, abbreviated as L/C, stands at the center of international commercial … .

a) transaction b) assignments c) drafts d) letters

9. The letter of … states the bank will pay a specified sum of money to a beneficiary, normally the exporter, on presentation of particular, specified documents.

a) drafts b) assessment c) credit d) payment

10. The French importer applies to the local bank for … of a letter of credit.

a) assurancing b) issuance c) giving d) representing

11. The local French bank undertakes a credit check of the … .

a) exporter b) importer c) bank d) layer

12. If the French bank is satisfied with its creditworthiness, it will issue a letter of … .

a) credit b) lading c) intent d) condolence

13. In addition the French bank will charge the importer a … for this service.

a) fee b) fine c) credit d) tax

14. Typically this amounts to between 0,5 percent and 2 percent of the value of the letter of credit, … on the importer’s creditworthiness and the size of the transaction.

a) to have depended b) depending c) to be depended d) had depended

15. If the French bank is satisfied with the French importer’s creditworthiness it will … a letter of credit.

a) print b) issue c) accuse d) purchase

16. The letter stares the French bank will pay the U.S. exporter for the … so long as it is shipped in accordance with certain specified instructions.

a) merchandise b) credit c) check d) bell

17. At this point the letter of credit becomes a financial … between the French bank and the U.S. exporter.

a) sum b) contract c) requirement d) measure

18. The French bank … the letter of credit to the U.S. exporter’s bank.

a) pays b) returns c) sends d) performs

19. The U.S. bank tells the exporter it has received a letter of credit and he can … the merchandise.

a) attracts b) ship c) applies d) approves

20. After the exporter has shipped the merchandise, he draws a … to the French bank.

a) letter b) draft c) money d) approval

21. The exporter attaches the required documents and presents the draft to the U.S. … for payment.

a) government b) office c) bank d) agent

22. The U.S. bank forwards the letter of credit and associated documents to the … bank.

a) American b) French c) European d) World

23. When the U.S. bank receives the funds, it will pay the U.S. … .

a) exporter b) importer c) layer d) the third person

24. Once the French bank has transferred the funds to the U.S. bank, it will collect … from the French importer.

a) documents b) payment c) draft d) credit

25. Alternatively the French bank may allow the importer some time to resell the … before requiring payment.

a) ship b) product c) merchandise d) documents

26. The great advantage of this system is that both the French importer and the U.S. exporter are likely to … reputable banks.

a) trust b)visit c)carry d) solve

27. An exporter may find that … a letter of credit will facilitate obtaining pre-export financing.

a) being b) to have been c) having d) having been

28. … the letter of credit, the U.S. bank might be willing to lend the exporter funds to process and prepare merchandise for shipping to France.

a) to have seen b) having seen c) to be seen d) being seen

29. International practice is to use … to settle trade transactions.

a) selling b) baying c) paying d) credit

30. Switch trading refers to the use of specialized … trading houses in a countertrade arrangement.

a) importer b) exporter c) third-party d) managing

31. Even when counter trade is not the only option for structuring an export … many countries prefer counter trade to cash deals.

a) transaction b) purchase c) merchandise d) deal