International Trade: Theory, Terms & Nepal’s Role

```mermaid
mindmap
  root((International Trade))
    Why Trade?
      Absolute Advantage
      Comparative Advantage
    Terms of Trade
      Balance of Trade
      Exchange Rate
    Barriers to Trade
      Tariffs
      Quotas
      Embargoes
    Nepal's Trade
      Major Partners
      Trade Deficit
      Export/Import Goods

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What is International Trade?

International trade is the exchange of goods and services between countries. Countries trade because:

• They do not have enough resources to produce everything they need.
• They can produce goods more efficiently than others (cheaper or better quality).
• They want to access new markets to sell their products.

Example: Nepal imports petroleum, electronics, and vehicles from India and China because it cannot produce them efficiently. In return, Nepal exports hydroelectricity, garments, and jute to these countries.

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Theories of International Trade

Two main theories explain why countries trade:

1. Absolute Advantage (Adam Smith)

• A country has an absolute advantage if it can produce a good using fewer resources than another country.
• Example:
  • Suppose Country A can produce 10 shirts in 1 hour, while Country B can produce only 5 shirts in the same time.
  • Country A has an absolute advantage in shirt production.

Visual:

Country A: 10 shirts/hour
Country B: 5 shirts/hour

→ Country A should specialize in shirts and trade with Country B for other goods.

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2. Comparative Advantage (David Ricardo)

• Even if a country is less efficient in producing a good, it should specialize in what it does relatively better.
• Example:
  • Suppose:
    • Country X takes 10 hours to make 1 ton of rice or 5 hours to make 1 ton of wheat.
    • Country Y takes 5 hours for 1 ton of rice or 10 hours for 1 ton of wheat.
  • Country X has an absolute advantage in both, but Country Y should produce rice (where it is relatively better) and trade with Country X for wheat.

Mermaid Table (Opportunity Cost Comparison):

Key Idea:

• Trade benefits both countries even if one is better at everything.
• Nepal should focus on goods it produces efficiently (e.g., hydroelectricity, textiles) and import others.

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Terms of International Trade

1. Balance of Trade

• Balance of Trade (BOT) = Exports – Imports
  • Trade Surplus → Exports > Imports (good for economy)
  • Trade Deficit → Imports > Exports (common in Nepal)

Example (Nepal 2022):

• Exports = $10 billion
• Imports = $15 billion
• BOT = $10B – $15B = –$5B (Trade Deficit)

Visual (Nepal’s Trade Flow):

(Shows Nepal imports more than it exports, mainly from India and China.)

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2. Exchange Rate

• Exchange rate = Price of one currency in terms of another (e.g., 1 USD = ~120 NPR).
• Affects imports and exports:
  • If NPR weakens (1 USD = 130 NPR), Nepal’s exports become cheaper for foreigners → more exports.
  • If NPR strengthens (1 USD = 110 NPR), imports become cheaper → more imports.

Example:

• If Nepal exports $1M worth of cards, when NPR weakens to 1 USD = 130 NPR, it gets 130M NPR instead of 110M NPR.

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Barriers to International Trade

Governments use trade barriers to protect local industries. Common types:

Why do countries use barriers? ✅ Protect local jobs (e.g., Nepal’s garment industry). ✅ Reduce dependence on imports. ❌ Can lead to higher prices for consumers. ❌ May cause retaliation from other countries.

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Nepal’s International Trade

1. Major Trading Partners

Nepal’s top trade partners (2023):

1. India (60% of total trade)
2. China (20%)
3. USA, Japan, Germany (smaller shares)

Mermaid Pie Chart:

2. Nepal’s Exports & Imports

Why the Trade Deficit?

• Nepal imports more because:
  • It lacks industrial capacity (e.g., no oil refineries).
  • Many goods are cheaper abroad (e.g., Chinese electronics).
  • Dependence on India for fuel, medicine, and machinery.

(Shows Nepal’s reliance on raw material exports and high-tech imports.)

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3. Challenges & Solutions

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Solved Example (NEB Style)

Question: "Country A can produce 20 units of cloth or 10 units of food in a day. Country B can produce 10 units of cloth or 20 units of food in a day. Which country has a comparative advantage in cloth? Show gains from trade."

Solution:

1. Find Opportunity Costs:

   • Country A:
     • 1 cloth = 0.5 food (10 food / 20 cloth)
     • 1 food = 2 cloth (20 cloth / 10 food)
   • Country B:
     • 1 cloth = 2 food (20 food / 10 cloth)
     • 1 food = 0.5 cloth (10 cloth / 20 food)

2. Comparative Advantage:

   • Country A has a lower opportunity cost for cloth (0.5 food vs. 2 food).
   • Country A should specialize in cloth.

3. Gains from Trade:

   • Country A produces only cloth and trades some for food from Country B.
   • Both countries get more goods than if they produced everything alone.

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NEB Board-Style Questions

Short Answer (5 marks)

1. "Explain the difference between absolute advantage and comparative advantage with an example."

   • Answer:
     • Absolute advantage = Producing more efficiently (e.g., Country X makes 20 shirts vs. Country Y’s 10).
     • Comparative advantage = Producing at a lower opportunity cost (e.g., Country Y gives up less food to make shirts).

2. "Why does Nepal have a trade deficit? Give two reasons."

   • Answer:
     • Nepal imports more (machinery, fuel) than it exports.
     • Lack of industries → relies on foreign goods.

Long Answer (10 marks)

3. "Discuss the advantages and disadvantages of tariffs. How does Nepal use tariffs?"
   • Answer:

     Advantages	Disadvantages
     ✅ Protects local industries (e.g., garments)	❌ Increases prices for consumers
     ✅ Reduces imports	❌ May lead to retaliation from trading partners
     ✅ Generates government revenue	❌ Hurts poor who buy imported goods

     • Nepal’s use: Charges 35% tariff on some Chinese electronics to protect local shops.

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Exam Tip

✅ Memorize:

• Absolute vs. comparative advantage (key difference: resources vs. opportunity cost).
• Nepal’s top 3 exports/imports (hydroelectricity, garments vs. petroleum, electronics).
• Trade barriers (tariff, quota, embargo) and their effects.

✅ Practice:

• Calculate opportunity costs in numerical questions.
• Draw trade flow diagrams (e.g., Nepal-India trade).
• Debate: "Should Nepal reduce tariffs on Chinese goods?" (Use pros/cons from the table above.)

❌ Avoid:

• Confusing balance of trade with balance of payments (this unit only covers trade).
• Forgetting Nepal’s dependence on India (always mention in essays).

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Final Thought: International trade helps Nepal access goods it cannot produce and earn foreign exchange. However, a trade deficit means Nepal must improve exports (e.g., more hydroelectricity, better-quality garments) to balance trade. Understanding comparative advantage is key to solving real-world trade problems!