Welcome To Grade-XII: Goodmorning All

GOODMORNING ALL,
WELCOME TO GRADE-
XII ECONOMICS ONLINE
SESSION
UNIT- 3.3 INTERNATIONAL TRADE
TODAY’S TOPIC DISCUSSION
RICARDIAN COST THEORY/ COMPARATIVE COST THEORY (VVI)
MEANING OF TRADE DEFICIT/ MEASURE TO REDUCE DEFICIT
TRADE
LAST SESSION DISCUSSION
• Meaning of International Trade/ Foreign Trade
• Importance of International Trade/ Foreign Trade
• Concept of Balance of Trade (BOT)
• Concept of Balance of Payment (BOP)
• Meaning of Free Trade/Arguments in Favor (Advantages)/Arguments against (Disadvantages)
• Meaning of Protectionism/Arguments in Favor (Advantages)/Arguments against
(Disadvantages)
• Meaning of Exchange Rate/Types of Exchange Rate: Fixed and Floating exchange rate
• Comparative cost theory/ Ricardian theory (VVI)
MEANING OF FREE TRADE
• The concept of free trade was developed by classical economists Adam Smith, Ricardo and
others. Free trade is the international exchange of goods and services without any restriction or
barriers. Free trade refers to that state in which there is unrestricted exchange of goods and
services among the various countries of the world. It is the policy of non-interference by the
government in foreign trade.
• According to Adam Smith, “the term free trade is used to denote that system of commercial
policy which draws no distinction between domestic and foreign commodities and, therefore
neither imposes additional burden on the latter nor grants any special favors to the former.
ARGUMENTS IN FAVOR OF FREE
TRADE/ADVANTAGES OF FREE TRADE
1. Benefit of specialization: Free trade permits to specialize in products which they can produce relatively efficiently.
2. Maximum utilization of resources: Free trade ensures proper and most efficient use of productive resources of the
country and of the world as a whole.
3. Expansion of market: Free trade widens the market for goods and services. Due to free trade, any market place in a
world can be a market for given goods.
4. Benefit to consumer: Free trade increases the choice of the consumer and provides quality goods at reasonable
price.
5. Economic development: Free trade promotes economic development by encouraging division of labor, and
specialization, widening the market size, stimulating healthy competition for promoting efficiency, etc.
6. International co-operation: Free trade promotes co-operation and mutual understanding among the nations
ARGUMENTS AGAINST FREE TRADE/DISADVANTAGE OF FREE
TRADE
1. Dominates infant industries

2. Unhealthy competition
3. Creates dependency
4. Possibility of unemployment
5. Harmful to underdeveloped countries
6. Trade of harmful products
PROTECTIONISM
Home Country: Export—Providing

facilities(Encouraging Export)
Import—Barrier/ Restriction Imposed
WHAT IS PROTECTIONISM?
Protectionism is the practice of following protectionist trade policies. A protectionist

trade policy allows the government of a country to promote domestic producers, and
thereby boost the domestic production of goods and services by imposing tariffs or
otherwise limiting foreign goods and services in the marketplace.
According to J.L Hanson, “ Protection means the imposition of duties on imports
inorder to protect home producer of these commodities by making foreign produced
goods and exempting native goods of a similar character with the intention of
preventing the market the country concerned.”
ARGUMENTS IN FAVOR/ADVANTAGES OF PROTECTION POLICY
1. Development of infant industries

2. Development of basic and large scale industries
3. Proper utilization of resources
4. Creates employment opportunities
5. Self sufficiency
6. Reduces supply of domestic currency
ARGUMENTS AGAINST OR DISADVANTAGES OF PROTECTION
1. Creation of monopolies
2. Loss to consumer
3. Decrease in competitive capacity
4. Unequal distribution income
5. Reduces foreign relation
MEANING OF EXCHANGE RATE
Definition: An exchange rate is the price of a country's currency in terms of

another currency. In other words, it represents how many units of a foreign
currency a consumer can buy with one unit of their home currency.
TYPES OF EXCHANGE RATE:
Exchange rates can be either fixed or floating. Fixed exchange rates are
decided by central banks of a country whereas floating exchange rates are
decided by the mechanism of market demand and supply.
1. WHAT IS A FIXED EXCHANGE RATE?
A fixed exchange rate is a regime applied by a

government or central bank that ties the country's
official currency exchange rate to another country's
currency .The purpose of a fixed exchange rate system
is to keep a currency's value within a narrow band.
2. WHAT IS A FLOATING EXCHANGE RATE?
A floating exchange rate is an exchange rate system where a

country’s currency price is determined by the foreign exchange
market, depending on the relative supply and demand of other
currencies. A floating exchange rate is not restrained by trade
limits or government controls, unlike a fixed exchange rate.
KEY TO REMEMBER (DIFFERENCES BETWEEN
FIXED AND FLOATING)
FIXED EXCHANGE RATE FLOATING EXCHANGE RATE
1. Forex market
1. Government or Central Bank 2. Depreciation and Repreciation done
2. Devaluation and Revaluation done by according to demand and supply of
government currency in market
3. All types of currency 3. Mainly currency Yen, dollar, Euro and
British
FLOATING EXCHANGE RATE ( CONCEPT OF
CRAWLING PEGGED AND CRAWLING BAND)
LET US SUPPOSE 1$= 120.13 NRS agilo din voli palta 121.12
Aba hamle karobar garnu paryo manam floating vayo forex market
ma demand ra supply le $(120.1—121.15) let’s guess..
Crawling band: fluctuate vayo ra central bank ko fixed rate ma then
crawling band.
Crawling peg: fluctuate vayo manam badi $122 then central bank fix
rate manxam.
JUST FOR KNOWLEDGE
FORWARD RATE: AJA JATI DEAL MA VAXA TETI NAI FUTURE

MA PAYMENT GARNE CHAYE RATE BADHOS YA GHATOS
SPOT RATE: ON THE SPOT RATE IS FIXED (PRESENT RATE)

Payment timing 2 days
COMPARATIVE COST THEORY OF INTERNATIONAL TRADE RICARDIAN COST THEORY (VVI FOR
BOARD EXAM)
(COST- 4 STEPS)
1. Introduction
David Ricardo propounded the comparative cost theory of international trade.
It is also known as classical theory of international trade.
According to this theory, the international trade between two countries is possible only if each of
them has absolute or comparative cost advantage in the production of at least one commodity.
According to Ricardo, “ Other things being equal, a country tends to specialize in the export of
those commodities in the production, of which it has maximum comparative cost advantages or
minimum comparative disadvantages.”
2. ASSUMPTIONS
1. The theory is based on two country – two commodity model.

2. The tastes of the people are same in both countries.
3. Labor is the only factor of production.
4. The labor units are homogenous.
5. Labor is perfectly mobile within the country but completely immobile among countries.
6. The production takes place under constant cost condition.
7. There are no transportation charges between countries.
3. MAIN EXPLANATION
According to comparative cost advantage theory of international trade, each country exports the
commodity in which it has cost advantage and imports the commodity in which it has cost
disadvantage. This theory can be explained as following:
a. Comparative cost advantage: If a country can produce both commodities with less cost than
another country but in different ratio, the country is said to have comparative cost advantage.
TO BE CONTINUED.. MAIN EXPLANATION
In the table above, the cost of production of shirt in Nepal is only 50% of cost of production of
shirt in India. In case of shoes, the cost of production is only 33% of cost of India. It shows that
Nepal can produce both commodities with fewer costs than India. But in order to take advantage,
it produces only shoes and let India produce shirt for it. Nepal produces shoes and exports to
India. India produces shirt and exports to Nepal. If they do so, both of them can take benefits.
4. CRITICISMS:
1. The model of two countries and two commodities is unrealistic.

2. Labor is not only the factor of production.
3. There is cost of transportation from one country to another
country.
4. In modern era, there is mobility of labor from one country to
another.
MEANING OF TRADE DEFICIT
The trade deficit occurs when the value of

imports is greater than the value of exports.
This could reflect a lack of competitiveness
or high levels of consumer spending on
imports.
MEASURE TO REDUCE TRADE DEFICIT (CID FEE)
1. Consume less save more

2. Improvement of Production
3. Depreciate exchange rate
4. Foreign Loans
5. Encouragement to Foreign Investment
6. Encouragement to Foreign Tourist

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GOODMORNING ALL,

1. Dominates infant industries

Home Country: Export—Providing

Protectionism is the practice of following protectionist trade policies. A protectionist

1. Development of infant industries

Definition: An exchange rate is the price of a country's currency in terms of

A fixed exchange rate is a regime applied by a

A floating exchange rate is an exchange rate system where a

FIXED EXCHANGE RATE FLOATING EXCHANGE RATE

FORWARD RATE: AJA JATI DEAL MA VAXA TETI NAI FUTURE

SPOT RATE: ON THE SPOT RATE IS FIXED (PRESENT RATE)

1. The theory is based on two country – two commodity model.

1. The model of two countries and two commodities is unrealistic.

The trade deficit occurs when the value of

1. Consume less save more

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