economics Economics () is the social science that studies the production, distribution, and consumption of goods and services. Economics focuses on the behaviour and interactions of economic agents and how economies work. Microeconomics analyzes ...

, gains from trade are the net benefits to economic agents from being allowed an increase in voluntary

trading Trade involves the transfer of goods and services from one person or entity to another, often in exchange for money. Economists refer to a system or network that allows trade as a market. An early form of trade, barter, saw the direct excha ...

with each other. In technical terms, they are the increase of consumer surplus plus producer surplus from lower

tariff A tariff is a tax imposed by the government of a country or by a supranational union on imports or exports of goods. Besides being a source of revenue for the government, import duties can also be a form of regulation of foreign trade and pol ...

s or otherwise liberalizing trade.

Dynamics

Gains from trade are commonly described as resulting from: * specialization in production from division of labor,

economies of scale In microeconomics, economies of scale are the cost advantages that enterprises obtain due to their scale of operation, and are typically measured by the amount of output produced per unit of time. A decrease in cost per unit of output enables ...

, scope, and

agglomeration Agglomeration may refer to: * Urban agglomeration, in standard English * Megalopolis, in Chinese English, as defined in China's ''Standard for basic terminology of urban planning'' (GB/T 50280—98). Also known as " city cluster". * Economies of ag ...

and relative availability of factor resources in types of output by farms, businesses, location and

economies An economy is an area of the production, distribution and trade, as well as consumption of goods and services. In general, it is defined as a social domain that emphasize the practices, discourses, and material expressions associated with the ...

* a resulting increase in total output possibilities * trade through

market Market is a term used to describe concepts such as: *Market (economics), system in which parties engage in transactions according to supply and demand *Market economy *Marketplace, a physical marketplace or public market Geography *Märket, an ...

s from sale of one type of output for other, more highly valued goods. Market incentives, such as reflected in

price A price is the (usually not negative) quantity of payment or compensation given by one party to another in return for goods or services. In some situations, the price of production has a different name. If the product is a "good" in the ...

s of outputs and inputs, are theorized to attract

factors of production In economics, factors of production, resources, or inputs are what is used in the production process to produce output—that is, goods and services. The utilized amounts of the various inputs determine the quantity of output according to the rel ...

, including labor, into activities according to

comparative advantage In an economic model, agents have a comparative advantage over others in producing a particular good if they can produce that good at a lower relative opportunity cost or autarky price, i.e. at a lower relative marginal cost prior to trade. Comp ...

, that is, for which they each have a low opportunity cost. The factor owners then use their increased income from such specialization to buy more-valued

goods In economics, goods are items that satisfy human wants and provide utility, for example, to a consumer making a purchase of a satisfying product. A common distinction is made between goods which are transferable, and services, which are not t ...

of which they would otherwise be high-cost producers, hence their ''gains from trade''. The concept may be applied to an entire economy for the alternatives of

autarky Autarky is the characteristic of self-sufficiency, usually applied to societies, communities, states, and their economic systems. Autarky as an ideal or method has been embraced by a wide range of political ideologies and movements, especiall ...

(no trade) or trade. A measure of total gains from trade is the sum of consumer surplus and producer profits or, more roughly, the increased output from specialization in production with resulting trade. Gains from trade may also refer to net benefits to a country from lowering barriers to trade such as

tariffs A tariff is a tax imposed by the government of a country or by a supranational union on imports or exports of goods. Besides being a source of revenue for the government, import duties can also be a form of regulation of foreign trade and po ...

on imports.

David Ricardo David Ricardo (18 April 1772 – 11 September 1823) was a British political economist. He was one of the most influential of the classical economists along with Thomas Malthus, Adam Smith and James Mill. Ricardo was also a politician, and a ...

in 1817 first clearly stated and proved the principle of comparative advantage, termed a "fundamental analytical explanation" for the source of gains from trade. But from publication of Adam Smith's ''

The Wealth of Nations ''An Inquiry into the Nature and Causes of the Wealth of Nations'', generally referred to by its shortened title ''The Wealth of Nations'', is the '' magnum opus'' of the Scottish economist and moral philosopher Adam Smith. First published in ...

'' in 1776, it was widely argued, that, with competition and absent market distortions, such gains are positive in moving toward

free trade Free trade is a trade policy that does not restrict imports or exports. It can also be understood as the free market idea applied to international trade. In government, free trade is predominantly advocated by political parties that hold econ ...

and away from autarky or prohibitively high import

. Rigorous early contemporary statements of the conditions under which this proposition holds are found in Samuelson in 1939 and 1962. For the analytically tractable general case of Arrow-Debreu goods, formal proofs came in 1972 for determining the condition of no losers in moving from autarky toward free trade. The proof does not state that no involvement is the best economic outcome. Rather, a large economy might be able to set taxes and subsidies to its benefit at the expense of other economies. Later results of Kemp and others showed that in an Arrow-Debreu world with a system of

lump-sum A lump sum is a single payment of money, as opposed to a series of payments made over time (such as an annuity). The United States Department of Housing and Urban Development distinguishes between " price analysis" and "cost analysis" by whether ...

compensatory mechanisms, corresponding to a

customs union A customs union is generally defined as a type of trade bloc which is composed of a free trade area with a common external tariff.GATTArticle 24 s. 8 (a) Customs unions are established through trade pacts where the participant countries set up ...

for a given subset set of countries (described by free trade among a group of economies and a common set of tariffs), there is a common set of ''world tariffs such that no country would be worse off than in the smaller customs union. The suggestion is that if a customs union has advantages for an economy, there is a worldwide customs union that is at least as good for each country in the world.

Measurement

Classical economists maintain that there are two methods to measure the gains from trade: 1)

international trade International trade is the exchange of capital, goods, and services across international borders or territories because there is a need or want of goods or services. (see: World economy) In most countries, such trade represents a significant ...

increases national income which helps us to get low priced imports; 2) gains are measured in

terms of trade The terms of trade (TOT) is the relative price of exports in terms of imports and is defined as the ratio of export prices to import prices. It can be interpreted as the amount of import goods an economy can purchase per unit of export goods. An i ...

. To measure the gains from the trade, comparison of a country's

cost of production Manufacturing cost is the sum of costs of all resources consumed in the process of making a product. The manufacturing cost is classified into three categories: direct materials cost, direct labor cost and manufacturing overhead. It is a factor i ...

with a foreign country's cost of production for the same product is required. However, it is very difficult to acquire the knowledge of cost of production and cost of imports in a domestic country. Therefore, terms of trade method is preferable to measure the gains from trade.

Factors affecting gains

There are several factors which determine the gains from international trade: # Differences in cost ratio: The gains from international trade depends upon the cost ratios of differences in comparative cost ratios in the two trading countries. The smaller the difference between exchange rate and cost of production the smaller the gains from trade and vice versa. # Demand and supply: If a country has elastic demand and supply gains the gains from trade are higher than if demand and supply are inelastic. # Factor availability: International trade is based on the specialization and a country specializes depending upon the availability of factors of production. It will increase the domestic cost ratios and thereby the gains from trade. # Size of country: If a country is small in size it is relatively easy for them to specialize in the production of one commodity and export the surplus production to a large country and can get more gains from international trade. Whereas if a country is large in size then they have to specialize in more than one good because the excess production of only one commodity can not be exported fully to a small sized country as the demand for good will reduce very frequently. So the smaller the size of the country, the larger the gain from trade. # Terms of Trade: Gains from trade will depend upon the terms of trade. If the cost ratio and terms of trade are closer to each other more will be the gains from trade of the participating countries. # Productive Efficiency: An increase in the productive efficiency of a country also determines its gains from trade as it lowers the cost of production and price of the goods. As a result, the country importing gains by importing cheap goods.

Static and dynamic gains from trade

The gains from trade can be clad into static and dynamic gains from trades. Static Gains means the increase in social welfare as a result of maximized national output due to optimum utilization of country's factor endowments or resources. Dynamic gains from trade, are those benefits which accelerate economic growth of the participating countries. Static gains are the result of the operation of the theory of comparative cost in the field of foreign trade. On this principle countries make the optimum use of their available resources so that their national output is greater which also raises the level of social welfare in the country. When there is an introduction of foreign trade in the economy the result is called the static gains from trade. Dynamic gains from trade relate to economic development of the economy. Specialization of the country for the production of best suited commodities which result in a large volume of quality production which promotes growth. Thus the extension of domestic market to foreign market will accelerate economic growth.

Notes

References

* Jagdish N. Bhagwati, Arvind Panagariya, and T. N. Srinivasan, 1998, 2nd ed
''Lectures on International Trade
', ch. 18 & 19, pp. 265-79. * Giovanni Facchini and Gerald Willmann, 2001. "Pareto Gains from Trade," ''Economia Politica'', pp. 207-216
1999 preprint version.
* Murray C. Kemp, 1995.
The Gains from Trade and the Gains From Aid: Essays in International Trade Theory.
* Paul R. Krugman, 1987. "Is Free Trade Passé?" ''Journal of Economic Perspectives'', 1(2), pp. 131-144. * Joy Mazumdar, 1996. "Do Static Gains from Trade Lead to Medium-Run Growth?" ''Journal of Political Economy'', 104(6), 1996, pp. 1328-1337. * Dr, Mrs. Mangla P. Jahgle, Dr. Mrs. Madhura Joshi, Mrs. Sumati V. Shinde, "International Economics",ed 2008, ch 5, pp 122–125 * M.L Jhingan,"International Economics",ed 2008,ch 16,pp 155 * K.K. Dewett, "Modern Economic Theory",2008,ch 55,pp 671–672

External links

Gains from Trade
from "International Trade," Arnold Kling

including graphs for consumer surplus and producer surplus

Gains from internal trade

Oscar Volij {{DEFAULTSORT:Gains From Trade Free trade Urban, rural, and regional economics