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KAB B411: INTERNATIONAL TRADE IN AGRICULTURE

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1 COMMON TERMS USED IN TRADE
Ad valorem Duty
This is a duty levied according to the value of the goods
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g
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African Growth and Opportunity Act (AGOA)
Contained in the USA Trade and Development Act of 2000, this is a nonreciprocal trade
agreement that aims to promote trade and economic cooperation between the United
States and eligible sub-Saharan countries
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Airway Bill
A document evidencing a contract of carriage between the shipper and airline for carriage
of goods
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(A waybill lists the goods being carried, shows the point of origin, destination, consignor,
consignee and transportation charges
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Goods are
regarded as having been dumped if the export price of the goods exported to Kenya is less
than the comparable price, in the ordinary course of trade, for the product when destined
for consumption in the exporting country and if the importation of the goods causes injury
to or retardation of a Kenyan industry
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Certificate of Origin
This is a document indicating the country of origin of goods being imported
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It is used to ensure that goods originating in
certain countries get the preferential treatment that they are entitled to
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Commissioner

KAB B411: INTERNATIONAL TRADE IN AGRICULTURE

This is the Commissioner of Customs appointed according to the Kenyan legislation, to be
responsible for the management and control of Customs, including the collection of and
accounting for customs revenue
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g
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Common Market
Integration of the markets of the partner states in a regional trade agreement e
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EAC,
COMESA, into a single market in which there is free movement of capital, labour, goods and
services
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Cost, Insurance and Freight (CIF)
The seller pays the costs and freight necessary to bring the goods to the named port of
destination as well as procures marine insurance against the buyer’s risk of loss or damage
to the goods during carriage
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The costs are then passed on to the buyer (see FOB)
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East African Customs Union Protocol
Officially titled the Protocol on the Establishment of the East African Customs Union
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East African Customs Management Act
The Act applying to the East African Community partner states regarding the Customs
Union
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Export Processing Zone (EPZ)
A designated part of Customs territory where any goods introduced are generally regarded,
in so far as import duties and taxes are concerned, as being outside Customs territory but
are restricted by controlled access
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The buyer therefore has to bear all cost and risks of loss or
damage to the goods from that point
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Identical Goods
Goods which are the same in all respects, including physical characteristics, quality and
reputation
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It
contains a summary of the information contained in the supporting documentation such as
the invoice, the packing list, certificate of origin, the seller’s and importer’s names,
addresses and related details
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It is issued by a bank to the seller at the request of a buyer
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Manifest
This is a detailed list of cargo being carried on board by a carrier such as aircraft or ship, it
includes quantity, identifying marks, consignor and consignee of each item
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Most Favoured Nation (MFN)
A trade policy commitment on the part of one nation to extend to another nation tariff rates
as low as applies to any other “most favoured nations,” and to treat imports from that
nation without discrimination
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The principle is therefore that member countries should not
discriminate among countries, and not treat a country less favourably than another in all
matters connected with foreign trade in goods
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Prohibited Goods
Goods whose importation, exportation, or carriage coastwise is prohibited under the
provisions of the country’s laws
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Rules of Origin
These are rules which set the criteria for determining the origin of a product
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For example, a product
which is deemed to originate from a certain country may be eligible for preferential
treatment while the same product from a different country is not granted the same
treatment
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Its main objective is to help trade flow smoothly, freely, fairly and
predictably
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Zero Rate
Tariff rate at zero percent such as zero percent customs duty charged on the value of an
imported product, this means no customs duty is charged
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2 WHAT IS INTERNATIONATIONAL TRADE?
International trade is a branch of international economics
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International economics is a field of study
that assesses the implications of international trade, international investment, and
international borrowing and lending
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Its focus is on the interrelationships among aggregate economic variables such as
GDP, unemployment rates, inflation rates, trade balances, exchange rates, interest rates,
and so on
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Its
focus is on the significance of trade imbalances, the determinants of exchange rates, and
the aggregate effects of government monetary and fiscal policies
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Its content includes basic supply-and-demand
analysis of international markets; firm and consumer behavior and the effects of market
distortions
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The objective of an international trade
course is to understand the effects of international trade on individuals,
businesses/producers, government and the effects of changes in trade policies and other
economic conditions
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In
most countries, it represents a significant share of gross domestic product (GDP)
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That is, about one third of the produced goods and services are exchanged
internationally around the world
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In studying international trade it is always important to imagine of a situation where there
was no trade between nations i
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nations were self sufficient? It it possible? Perhaps it
happened before civilization? Was Africa trading before colonization? Were there nations
before then? Perhaps the barter trade system accross communities was sort of high level
trade during those times?!
Autarkic/closed economy
 Autarky is the quality of being self-sufficient
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 Autarky exists whenever an entity can survive or continue its activities without
external assistance or international trade
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3 THE REASONS FOR TRADE
Differences in Technology
Advantageous trade can occur between countries if the countries differ in their
technological abilities to produce goods and services
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Differences in Resource Endowments
Advantageous trade can occur between countries if the countries differ in their
endowments of resources
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), and the sophistication of its capital stock (machinery, infrastructure, communications
systems)
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Individuals in different countries may have different preferences or demands for
various products
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Canadians may demand more beer, the Dutch more
wooden shoes, and the Japanese more fish than Kenyans would, even if they all faced the
same prices
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Economies of scale refer to a production process in which
production costs fall as the scale of production rises
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Existence of Government Policies
Government tax and subsidy programs alter the prices charged for goods and services
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In these circumstances, advantageous trade may arise solely due to differences in
government policies across countries
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4 IMPORTANCE OF INTERNATIONAL TRADE
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Enhances the domestic competitiveness
Takes advantage of international technology
Increase sales and profits
Extend sales potential of the existing products
Maintain cost competitiveness in your domestic market
Enhance potential for expansion of your business
Gains a global market share
Reduce dependence on existing markets
Stabilize seasonal market fluctuations
It enhances international relations
It contributes to international development

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Also the equivalent amount of money that
nations/individuals are willing to exchange their goods for involves terms of trade
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For example, countries that export oil will see an increase in their ToT when oil
prices go up, while the ToT of countries that import oil would decrease
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6 DETERMINANTS OF THE TERMS OF TRADE
The terms of trade ultimately decided on by the two trading producers/farmers/nations
will depend on a variety of factors
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In order to have a basis for the importance of international trade
next we describe many of these factors using producers (Smith and Jones)
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Economists assume that most products
exhibit diminishing marginal utility
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In effect, we expect people to get
tired of eating too many oranges
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As long as the same assumption holds for Farmer Jones, the tenth
apple for him will be worth less than the first orange, and he will be willing to trade at least
one for one
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Uncertainty
In this situation, each farmer is unlikely to have well-defined preferences
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One
simple way to resolve this uncertainty is for the farmers to offer free samples of their
products before an exchange is agreed on
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Free
samples, on the other hand, can be risky
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He might decide not to trade at all
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This is why many supermarkets offer free samples in their aisles and why drink
companies sometimes give away free bottles of their products
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If
Farmer Smith came to the market with one hundred oranges to Farmer Jones’s ten apples,
then the terms of trade would likely be different than if the farmers came to the market
with an equal number
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Size
The sizes of the apples and oranges are likely to influence the terms of trade
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Quality
The quality of the fruits will influence the terms of trade
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Suppose the apples are filled with worm holes
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Or consider the vitamin, mineral, and calorie contents of each
of the fruits
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For
example, apples can be eaten raw, turned into applesauce, squeezed into juice, made into
pies, or covered with caramel
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What if apples grew at the top
of tall trees that required a precarious climb? What if predatory wolves lived in the orange
grove? Surely these farmers would want to take these factors into account when deciding
the terms for exchange
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The more difficult it is to
produce something, the scarcer that item will be
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Each
farmer has an incentive to embellish the quality and goodness of his product and perhaps
diminish the perception of quality of the other product
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He might argue that oranges are consumed by beautiful movie stars who
drive fast cars, while apples are the food of peasants
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The more persuasive Farmer Smith is, the more likely he is to get a
better deal in exchange
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In this case, differences
in the persuasive abilities of the two farmers can affect the final terms of trade
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The utility one ultimately receives may be less
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However,
this outcome will arise only if expectations are not realized
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Perhaps the person has read some reviews of the movie or has heard from friends
that the movie is very good
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However, suppose this person winds up hating the movie and feels like
it was a complete waste of time
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This is one reason
individuals may lose from trade, but it can only occur if information is imperfect
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Persuasion
may take the form of outright lies if the farmers do not expect to meet again
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He passes through town with a
variety of elixirs and promises that each will surely cure your ailment and possibly do
much more
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But this type of con game is more
likely when only one transaction is expected
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Government Policies
If a taxman stands ready to collect a tax based on the amounts traded between the two
farmers, this is likely to affect the terms of trade
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Morality
Imagine that Farmer Smith was raised to always tell the truth, while Farmer Jones missed
those lessons during his upbringing
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Coercion
Finally, the terms of trade can also be affected by coercion
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At the extreme, he could demand all of Farmer Smith’s
oranges and not give up any apples in exchange
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KAB B411: INTERNATIONAL TRADE IN AGRICULTURE

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1 ABSOLUTE ADVANTAGE
Adam Smith’s original statement of the case for trade, contained in his epic The Wealth of
Nations (1776), Smith assumed that each country could produce one or more commodities
at a lower real cost than its trading partners
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Absolute
advantage compares the quantity of inputs required to produce a good
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That is, the most efficient producer (the
one with the highest productivity) has an absolute advantage
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For example, if 10 hours of labor are
required to produce a shirt, and 40 hours to produce a pair of shoes, then four shirts
will exchange for one pair of shoes
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This argument holds for a given market area within which
labor can move freely from one industry to another and one place to another
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In our example of shirts and shoes, no one would give more
than four shirts for one pair of shoes because that would entail a cost of more than 40
hours of labor to obtain a pair of shoes
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No one would accept fewer than four shirts for one pair of
shoes for the same reason
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Because of legal and cultural restrictions, however, labor does not move freely between
nations
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If labor requirements differ across countries, then
in the absence of trade, prices of goods will differ across countries
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He instead
demonstrated the proposition that a nation benefited from trade in which it exported those
commodities it could produce at lower real cost than other countries, and imported those
commodities it produced at a higher real cost than other countries
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Suppose in Kenya it takes 30 days to produce a bolt of cloth and 120 days to produce a
barrel of wine, whereas in Nigeria it takes 100 days to produce a bolt of cloth and only 20
days to produce a barrel of wine
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) Clearly, Kenya
has an absolute advantage in cloth production – it can produce a bolt of cloth at a lower real
cost than can Nigeria– whereas Nigeria has an absolute advantage in wine production
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The benefit derives
from obtaining the imported commodity at a lower real cost through trade than through

KAB B411: INTERNATIONAL TRADE IN AGRICULTURE

direct production at home
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Kenya will benefit if it can
trade less than four bolts of cloth for one barrel of wine, Nigeria will benefit if it can obtain
more than one-fifth of a bolt of cloth for one barrel of wine
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Days of labour required
Country to produce
Nigeria
Kenya
Wine (1 barrel)
20
120
Cloth (1 bolt)
100
30
By shifting 120 days of labor from wine to cloth, Kenya could produce four additional bolts
of cloth, worth five barrels of wine in trade with Nigeria
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Nigeria obtains a similar gain through specialization in wine
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If Kenya moves 600 labor days from wine production to cloth, while Nigeria
shifts 600 labor days in the opposite direction, the production changes shown in the table
below
Nigeria

Kenya

Total

Wine (barrels)

30

-5

25

Cloth (bolts)

-6

20

14

With no increase in labor inputs, the combined economy of the two countries gains 14 bolts
of cloth and 25 barrels of wine
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If 1,200 labor
days were shifted by each country instead of 600, the gains would be twice as large
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Brazil can produce coffee at a lower real cost than Kenya
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2 THE RICARDIAN MODEL: COMPARATIVE ADVANTAGE
The Ricardian model focuses on comparative advantage and is perhaps the most important
concept in international trade theory
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Unlike other models, the Ricardian framework predicts
that countries will fully specialize instead of producing a broad array of goods
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The main merit of Ricardian model
is that it assumes technology differences between countries
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KAB B411: INTERNATIONAL TRADE IN AGRICULTURE

For an individual person to have a comparative advantage in some good, he must be
able to produce that good with a smaller opportunity cost
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A common principle to guide the division of labor
is comparative advantage
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This supports the fact that countries follow their comparative advantage
and allows for specialization
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It is the ability to produce a product most efficiently
given all the other products that could be produced
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Comparative advantage explains how trade can create value for both parties even when
one can produce all goods with fewer resources than the other
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It is the main concept of the pure theory of
international trade
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The factors of production are completely mobile between alternative uses within a
country
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The factors of production are completely immobile externally; that is, they do not
move between countries
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A labor theory of value is employed in the model
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From a production standpoint this
implies that (a) no other inputs are used in the production process, or (b) any other
inputs are measured in terms of the labor embodied in their production, or (c) the
other inputs/labor ratio is the same in all industries
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The level of technology is fixed for both countries, although the technology can
differ between them
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Thus, the hours of labor per unit of production
of a good do not change, regardless of the quantity produced
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There is full employment of resources
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No single consumer or
producer is large enough to influence the market; hence, all are price takers
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There are no government-imposed obstacles to economic activity
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Origins of the theory
Comparative advantage was first described by Robert Torrens in 1815 in an essay on the
Corn Laws
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However the term is usually attributed to David Ricardo who explained it in his 1817 book
On the Principles of Political Economy and Taxation in an example involving England and
Portugal
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However the relative costs of
producing those two goods are different in the two countries
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In Portugal both are easy to
produce
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Conversely England
benefits from this trade because its cost for producing cloth has not changed but it can now
get wine at a lower price, closer to the cost of cloth
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Examples
The following hypothetical examples explain the reasoning behind the theory
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Example 1
Two men live alone on an isolated island
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The first man is young, strong, and educated
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He has an absolute advantage in all activities
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He has an absolute disadvantage in all economic activities
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Despite the fact that the younger man has absolute advantage in all activities, it is not in the
interest of either of them to work in isolation since they both can benefit from
specialization and exchange
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Such an arrangement will increase total production for a given amount of
labor supplied by both men and it will benefit both of them
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The productive capacities and
efficiencies of the countries are such that if both countries devoted all their resources to
Food production, output would be as follows:
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Northland: 100 tonnes
Southland: 400 tonnes

If all the resources of the countries were allocated to the production of Clothes, output
would be:
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Northland: 100 tonnes
Southland: 200 tonnes

Assuming each has constant opportunity costs of production between the two products and
both economies have full employment at all times
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The price mechanism must be working to provide perfect competition
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There seems to be no mutual benefit in trade between the economies, as
Southland is more efficient at producing both products
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Northland's opportunity cost of producing one tonne of Food is one tonne of
Clothes and vice versa
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5 tonne of
Clothes
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Southland has a
comparative advantage in food production, because of its lower opportunity cost of
production with respect to Northland
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Assumptions in Example 2

KAB B411: INTERNATIONAL TRADE IN AGRICULTURE
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Two countries, two goods - the theory is no different for larger numbers of
countries and goods, but the principles are clearer and the argument easier to follow
in this simpler case
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Full employment - if one or other of the economies has less than full employment
of factors of production, then this excess capacity must usually be used up before
the comparative advantage reasoning can be applied
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This
does not invalidate the principles of comparative advantage, but it does limit the
magnitude of the benefit
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In real economies this cost will be
incurred: capital will be tied up in plant (sewing machines are not sowing machines)
and labour will need to be retrained and relocated
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Immobility of factors of production between countries - why are there different
rates of productivity? The modern version of comparative advantage (developed in
the early twentieth century by the Swedish economists Eli Heckscher and Bertil
Ohlin) attributes these differences to differences in nations' factor endowments
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For example: suppose the US has a relative
abundance of capital and India has a relative abundance of labor
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Then the US
will have a comparative advantage in making cars, and India will have a
comparative advantage in making cloth
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The principle of comparative
advantage still applies, but who has the advantage in what can change
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It is ignored and not factored in
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This takes place before specialization
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Example 3
The economist Paul Samuelson provided another well known example in his Economics
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However, if this lawyer focused on the task of being an attorney and, instead of pursuing

KAB B411: INTERNATIONAL TRADE IN AGRICULTURE

both occupations at once, employed a secretary, both the output of the lawyer and the
secretary would increase
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In fact, in many real world examples where comparative advantage is attainable
may in fact require a trade deficit
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As the markets change over time, the ratio of goods produced by one country versus
another variously changes while maintaining the benefits of comparative advantage
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Macroeconomic monetary policy is often adapted to address the depletion of a nation's
currency from domestic hands by the issuance of more money, leading to a wide range of
historical successes and failures
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3 CRITICISM OF RICARDIAN THEORY
The following are the important limitations of Ricardian Comparative Theory
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But
international trade is among many countries with many commodities
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Labour Theory of value developed
by classical economists has too many limitations and thus is not applicable to the reality
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Full employment
The assumption of full employment helps the theory to explain trade on the basis of
comparative advantage
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Cost of production, even in
terms of labour, may change as the countries, at different levels of employment move
towards full employment
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Demand is ignored
The Ricardian theory concentrates on the supply of goods
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The theory explains
international trade in terms of supply and takes demand for granted
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At the same time
their mobility between nations was never totally absent
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Though it is unrealistic to assume not to have any restriction
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Poor countries
find it difficult to enjoy the comparative advantage in the production of labour intensive
commodities due to the protectionist policies followed by developed countries
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In the
Ricardian example, England is specialising fully on cloth and Portugal on wine
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It
is possible if two countries happens to be almost identical in size and demand
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Static Theory
The modern economy is dynamic and the comparative cost theory is based on the
assumptions of static theory
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It does not consider
the effect of growth
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They are in the process of change in quality of their labour force,
quality of capital, technology, tapping of new resources etc
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KAB B411: INTERNATIONAL TRADE IN AGRICULTURE

Constant Returns to Scale
Another drawback of the Ricardian principle of comparative costs is that assumes constant
Returns to scale and thus constant cost of production in both the countries
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Similarly if Portugal has a comparative advantage in producing wine, it will not produce
cloth; but import all cloth from England
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A time will come when it will not be reasonable for Portugal to
import cloth from England because of increasing cost of production
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This
phenomenon has not been explained by the theory of comparative costs

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