Question

International trade should be based on:

Group of answer choices

the law of one price

purchasing parity

comparative advantage

absolute advantage

Answer 1

The International Trade is most preferably based on the Comparative Cost advantage principle. Firstly we need to understand the concept of comparative advantage. Comparative advantage is an economic term that refers to an economy's ability to produce goods and services at a lower opportunity cost than that of trade partners. A comparative advantage gives a company the ability to sell goods and services at a lower price than its competitors and realize stronger sales margins. Comparative advantage suggests that countries will engage in trade with one another, exporting the goods that they have a relative advantage in productivity.

Now we need to look at the Absolute cost advantage theory. Absolute advantage is when a producer can produce a good or service in greater quantity for the same cost, or the same quantity at lower cost, than other producers. By specialization, division of labor, and trade, producers with different absolute advantages can always gain over producing in isolation. Absolute advantage is related to comparative advantage, which can open up even more widespread opportunities for the division of labor and gains from trade.

If we look at the concept of Purchasing Power parity, which is based on the Law of one price. The law of one price explains that, the price of an identical asset or commodity will have the same price globally, regardless of location, when certain factors are considered.The law of one price takes into account a friction less market, where there are no transaction costs, transportation costs, or legal restrictions, the currency exchange rates are the same, and that there is no price manipulation by buyers or sellers.