The reasons for international trade — common mistakes

While absolute advantage is a foundational concept, it cannot explain why trade occurs when one country is more efficient at producing everything. For this, you must use the theory of comparative advantage, which is more frequently tested.

In data response questions, you will often be required to calculate opportunity costs from a table of output or resources. Remember the formula: Opportunity Cost of Good A = Quantity of Good B foregone / Quantity of Good A gained. The country with the lower number has the comparative advantage in Good A.

When drawing the gains from trade, be precise. Your diagram should show: 1) The original PPC. 2) The point of specialisation on the PPC. 3) A correctly drawn 'trade line' starting from the specialisation point. 4) A clearly marked point of consumption on the trade line that is outside the PPC.

Be careful not to assume an 'improvement' in the ToT is always beneficial. If it is caused by a fall in demand for imports, it's positive. But if it's caused by a rise in export prices that makes the country's goods uncompetitive, the volume of exports could fall, harming the current account balance.

Always show opportunity cost calculations in comparative advantage questions — marks are awarded for working, not just stating who specialises in what.

It should trade because of comparative advantage. Even if it is more efficient at producing all goods, it will have a lower opportunity cost in one particular good. By specialising in that good and trading, it can obtain other goods even more cheaply (in terms of resources saved) than producing them itself. This specialisation increases total world output and allows the country to achieve a higher level of consumption.

Not necessarily. An improvement means export prices rise relative to import prices. If this is due to strong global demand for a country's exports, it is beneficial. However, if the higher export prices are due to domestic inflation making goods less competitive, the quantity of exports may fall significantly, potentially worsening the current account balance and leading to unemployment in export industries.

No, the distribution of gains is determined by the final Terms of Trade. The country whose Terms of Trade improve the most compared to its pre-trade opportunity cost ratio will gain a larger share. For example, if the world price settles very close to Country A's domestic opportunity cost, Country B will receive the majority of the gains from the trade.