Foreign trade, otherwise called international trade, is the exchange of goods and services between two or more countries. The principle underlying the buying and selling between one country and another is specialisation. The theory of international trade, therefore, is based on the principle of comparative cost propounded by David Richards. The theory states that a country should specialise in the production of goods and services which it has advantage over another country. This, he pointed out, will bring about the production of goods at cheaper cost. For example, Nigeria purchases goods like automobiles and electronics from oversea countries and sell cocoa, palm oil and rubber to other countries.
Types of Foreign Trade
- Bilateral trade: Bilateral trade is a trade agreement in which two countries exchange goods and services. It occurs when each country tries to balance its payments and receipts separately and individually with every other country.
- Multilateral trade: Multilateral trade is a type of international trade in which a country trades with many other countries. This ensures international division of labour. It is a type of trade in which many countries exchange goods and services, e.g. Nigeria trades with the USA, Britain and Russia. Multilateral trade is necessary if the total volume of world trade is to be raised to its maximum.
- Internal Trade
Internal trade, also known as domestic trade or home trade involves the exchange of goods and services among the people within a particular country. Internal trade involves the buying and selling of goods and services within a particular country e.g. Nigeria.
The items of internal trade include those goods and services which are produced and sold internally or locally. In Nigeria for example, such items include yam, coffee, maize, rice and many other locally manufactured goods.
Similarities and Differences between International Trade and Internal trade
- Both international trade and internal trade involve the use of money as a medium of exchange.
- They are also similar in that they both involve a degree of specialisation between the trading partners, since specialisation causes exchange.
- Both forms of trade involve the activities of middlemen.
- Both trades involve the buying and selling of goods and services.
- Both of them arise due to inequitable distribution of natural endowments and production resources.
- Foreign trade involves the exchange of goods and services across national frontiers while internal trade involves the exchange of goods within the borders of a country.
- In foreign trade, buyers and sellers use different currencies whereas buyers and sellers in home trade use the same type of currency.
- There is possibility of restriction – tariffs, import duties, export duties, quotas, embargoes – when goods are exchanged across national boundaries while this does not occur in home trade.
- There are differences in systems of weighing and measuring in one country vis-à-vis another. A country has only one system of such weighing and measuring.
- Differences in transport cost due to distance between buyers and sellers, documentation requirement, need for insurance in respect of foreign trade distinguish foreign trade from home trade.
- There are also differences in legal systems and culture under international trade but the legal systems are the same in domestic trade.
- Foreign trade requires knowledge of new languages and interpretations while in domestic trade, a common language is used.
REASONS FOR FOREIGN TRADE
Countries engage in international trade for the following reasons:
- Uneven distribution of natural resources: Natural resources are unevenly distributed. While some countries are naturally blessed, others have little or no natural resources. This necessitates international trade.
- Differences in climatic condition: The climatic condition of the earth varies from one region to another. This variation gives rise to growth of different crops, hence the need for exchange.
- Differences in technology: The level of technology differs from one nations of the world to another. Some countries with advanced technology can produce some industrial products at reduced cost and sell to the less developed countries.
- Differences in skills: The inhabitants of a region may develop special skills in the production of a commodity such that it acquires special reputation for its skill. This can necessitate foreign trade.
- Expansion of market for products: Foreign trade came into existence because of the need to widen the market for goods produced by a country.
- Differences in the efficient use of natural resources: Foreign trade may arise because of differences in efficiency in the use of natural resources.
- Differences between patterns of production and consumption: The differences between patterns of production and consumption in different countries necessitate international trade.
- Differences in taste: Differences in taste of various countries call for international trade.
- Desire to improve the standard of living: Countries engage in international trade in order to improve the standard of living of the people.
Advantages of International Trade
- Sources of revenue: International trade is a source of revenue for nations of the world. Nigeria derives 90% of its revenue from the sale of crude oil to other countries. Taxes can also be imposed on exported and imported goods.
- Promotion of economic development: International trade helps countries to gain technical knowledge which accelerates economic developments e.g. farmers in Nigeria can now import tractors, harvesters etc. to practice large scale farming.
- Provision of employment opportunities: As a result of international trade contacts, foreign investors can establish firms in sister countries which will create employment opportunities for its citizens.
- It leads to international specialisation: Through international trade, countries will specialise in the production of goods for which they have comparative advantage over others. This will make prices of such goods cheaper.
- Increase in world output: When countries specialise in the production of goods and services in which they have comparative advantage and where full utilisation of resources is made, the world output will increase.
- Availability of variety of goods: Through foreign trade, wide variety of goods are made available. West African countries can import cars, electronics, shoes and equipment etc. from other countries. New products are produced for new markets.
- Acquisition of skills and ideas: Through international trade, new ideas, skills and techniques can be acquired to improve the quality of goods and services.
- It fosters closer international relationship: Foreign trade brings about prospects for peace in the world. There is familiarity, understanding, peace and harmony in the world when people from different races trade together.
- Increase in standard of living: Since there is exchange of different goods and services among countries, the standard of living increases. People can get what they need which they cannot ordinarily produce.
- Equitable distribution of natural resources: Natural resources found in one country are used in another country of the world through foreign trade.
Disadvantages of International Trade
- Encouragement of dumping: International trade can lead to dumping of goods into the less developed countries by multinational companies from the developed nations. These countries therefore become dumping grounds for all kinds of products.
- It affects infant industries: Foreign trade also affects newly established industries (infant industries) negatively as they cannot compete favourably with their well established foreign counterparts.
- Destruction of cultural values of a country: Importation of certain goods such as x-rated films, and immoral fashion, etc. can destroy the moral and cultural values of a country. It can thus lead to decadence in social norms. For example in Nigeria, massive importation and use of mini-skirts from America is anti-cultural and against our social norms.
- Importation of dangerous or harmful goods: Through foreign trade, harmful or dangerous goods can be imported into a country by unscrupulous businessmen.
- Creation of balance of payment deficit: This is possible when foreign trade is not restricted and the level of import is higher than export. This may lead to a drain in the foreign exchange reserve which can result in balance of payment problems.
- Unemployment: Foreign trade can lead to unemployment because continued importation of cheaper products from foreign countries may reduce the level of production of local industries producing similar products and this may result in retrenchment of workers.
- Reduction of effort to attain selfreliance: Uncontrolled and unrestricted inflow of goods can reduce effort to attain self-reliance because the people can always get what they want from abroad, hence the culture of self-sufficiency will be destroyed.
- It leads to exploitation: The developed nations which are highly industrialised may use their advantageous position to exploit the less developed countries.
DIVISIONS OF FOREIGN TRADE
International trade can be divided into import, export and entrepot.
- Import Trade
Import trade is the act of buying goods and services from other countries. It involves purchase of goods and services from a foreign country. It is sometimes restricted to control a country’s balance of payment deficit. The goods are imported either in response to direct orders or on consignment.
Import trade is divided into: visible and invisible trade.
- Visible Imports: Visible imports consist of goods that can be seen and touched, i.e ., tangible goods which come from other countries. Nigeria’s visible imports, for example, include automobiles, electronics, machinery, rice, etc.
- Invisible Import: Invisible imports consist of services that cannot be seen or touched, rendered by other countries. Examples of invisible imports are banking, tourism, aviation. This will appear in the balance of payments.
- Export Trade
Export trade is the act of selling goods and services to other countries. It is the selling of a country’s products abroad. Some governments frequently attempt to encourage exporters by introducing export subsidy. Exports can equally be divided into: visible and invisible exports.
- Visible Export: This consists of goods which are sold in oversea’s market, i.e ., to other countries. In Nigeria, visible exports are cotton, cocoa, palm oil, crude oil, textiles, etc.
- Invisible Export: Invisible export consists of services rendered to other countries. Such services include transport, banking, insurance and consultancy services.
Entrepot is a form of foreign trade in which goods are shipped to one port and subsequently re-exported and shipped to another port. If customs duties had been paid on imported goods and are later re-exported, the duty can be claimed back. Simply put, entrepot is the re-exporting of goods imported from other nations.
BARRIERS OR PROBLEMS ASSOCIATED WITH INTERNATIONAL TRADE
There are so many problems associated with international trade, but the following can be identified:
- Distance: The cost of freight, whether by road, air or sea is high, as well as the risk of loss or damage since most merchants do not always take insurance policy.
- Difference in Currency: Fluctuations in exchange rate may work against the volume of transactions as well as non-availability of foreign currency.
- Difference in Language is a serious set back international trade: Most countries experience translation problems which result in loss of accurate meaning to words and terms. Also understanding communications among countries becomes more difficult. Engagement of interpreters involves extra cost.
- Difference in Culture: Plays important role in slowing down the pace of international trade. In particular, the choice of symbols, signs and trademarks are limited since the country may not understand them. Cultural taboos inhibit trade.
- Difference in Legal System/Emigration Laws: Business is not regulated by the law of the importing country but by international law. There is need for the knowledge of other countries’ laws, to assist countries/ business men in trade transactions.
- Difference in weights and measures: The issue of weight and measures creates a problem of conversion from imperial to metric system, etc.
- Political instability: The issue of frequent change of government and rampant coups as well as wars and disagreement among nations disturb trade.
- Imposition of tariff – quotas, exchange rates control: Flexible customs regulations and tariff limit the extent of foreign trade.
- Documentation: Too many documents are required which involve extra cost and personnel, thereby slowing down transactions among nations.
- Government Policy: Foreign trade can be hindered by the political ideologies of different countries. A country can deliberately decide not to trade with another country because of its political differences, e.g. The USA and Libya owing to the 1988 Lockerbie aircraft bombing.
- Transportation and Communication: Businessmen from different nations especially African countries find it difficult to contact their partners in other countries because of poor communication and transport facilities. This hinders foreign trade greatly.
BALANCE OF TRADE AND BALANCE OF PAYMENTS
- Balance of trade
Balance of trade refers to the total value of goods sold and bought by a country during a given period, usually a year. When visible exports equal visible imports in monetary terms we have balance of trade. A positive balance of trade means that a country is exporting more in monetary terms than it is importing while a negative or unfavourable balance of trade means that a country is importing more in monetary terms than it is exporting.
- Balance of Payments
Balance of payments can be defined as a statement or record showing the relationship between a country’s total payments to other countries and its total receipts from them in a year. A country’s balance of payments can be divided into three parts, namely: current account, capital account and monetary movement account.
Components of Balance of Payments
- Current Account: This is composed of receipts and payments for visible and invisible services. Invisible services are insurance, banking, transportation, interest payment and tourism while visible goods are automobiles, cocoa, crude oil, etc.
- Capital Account: This is made up of the inflow and outflow of capital-both long and short terms. It consists of capital movement in form of investments, loans and grants.
- Monetary Movement Account: This account shows how the balance of both current and capital accounts are settled.
Favourable Balance of Payments
Favourable balance of payment occurs when the receipts from invisible and visible export trade is greater than payments to other countries on invisible and visible imports trade. A credit balance can be used to increase investment abroad or to add to a country’s gold reserve.
Unfavourable Balance of Payments
Unfavourable balance of payments is used for a debit balance in the balance of payments. It means that payments on visible and invisible import is greater than receipts on visible and invisible exports. It can be referred to as adverse or deficit balance.
Remedy for Deficit/Adverse Balance of Payments
- Imposition of tariffs will reduce importation of goods by increasing their prices.
- Devaluation of domestic currency.
- Establishment and promotion of import-substitution industries.
- Borrowing from financial institutions, e.g. IMF
- Increase in domestic production of goods.
- Sales of foreign investment and assets.
- Export promotion by granting tax concession to export based industries.
- Quantitative control like quota system, import licence or outright ban can be used to reduce imports.
- Control of foreign exchange transaction.
TARIFFS OR RESTRICTIONS TO TRADE
Tariffs are taxes or duties imposed on imports and exports by the government of a country. The idea behind tariffs is to restrict the volume of trade or improve the international terms of trade.
Reasons for imposition of tariffs or restriction of trade
The reasons why countries impose tariffs or restrictions on international trade include the following:
- To protect infant industries: Tariffs are imposed to protect infant industries from undue competition with foreign firms.
- Generation of revenue: Tariffs are also imposed to generate revenue for the country. Many countries derive their revenue from import and export duties.
- To prevent dumping: Tariffs are imposed to prevent dumping of goods from foreign countries. This is to prevent foreign goods from being sold at prices lower than the home price.
- To improve balance of payments deficit: By imposing tariffs on imported goods, the unfavourable balance of payments can be corrected because importation will be discouraged.
- Retaliatory measures: This can be used in retaliation against countries which impose taxes on their imports.
- To prevent importation of dangerous goods: Dangerous or harmful goods from other countries are prevented from being imported, through restriction.
- Employment generation: Countries impose tariffs to encourage the establishment of local industries or enhance the expansion and growth of existing ones so as to provide job opportunities.
- Political motive: Tariffs can be introduced as discriminatory measure against unfriendly countries.
- To promote self-sufficiency: Tariffs are also imposed on imported goods to enable a country be self sufficient in production of numerous goods.
- To check consumption pattern: If all sorts of goods are allowed to come into the country, the citizens will develop uncontrolled appetite for foreign goods.
- To protect strategic industries: Tariff may be used in most cases to protect certain strategic industries.
TOOLS OR INSTRUMENTS OF TRADE RESTRICTION
Tools or instruments normally used for international trade restriction include the following:
- Import duties or tariffs: This is a tax imposed on imported goods to reduce the amount of trade.
- Foreign exchange control: Trade can be controlled by reducing the foreign exchange available for trade transactions.
- Devaluation: By lowering the value of a country’s currency vis-à-vis others, importation becomes costly while export becomes cheaper.
- Embargo: This is the prohibition or outright ban placed on some imported goods.
- Import monopoly: This refers to a situation in which the government of a country takes over the importation of certain goods which are only essential to the country.
- Import quota: Import quota restricts imports by imposing a limit on the quantity of goods that can be imported in a particular country.
- Preferential duties: In order to either encourage or discourage the importation of certain goods from certain countries, discriminate duties are charged on these goods.
- Excise duties reduction: This method helps to reduce the prices of locally made goods so as to enable people to patronise them instead of foreign made goods.
- Import licence: Import licence is a permit that allows an importer to bring a certain quantity of foreign goods into a country and allows him to purchase the foreign currency required to pay for them.
- Export Promotion
Export promotion also called export drive may be defined as any policy by which government encourages producers of goods for export to produce and export more in order to earn more foreign exchange.
Measures taken by government towards export promotion
- Reduction of export duties: Export can be promoted by reducing export duties.
- Subsidy for export based industries: The cost of producing commodities by export based industries can be subsidised.
- Granting of tax incentives: Tax incentives can be given to export based industries.
- Setting up of export promotion agencies: Export promotion agencies to encourage exporters can be set up, e.g. export processing zone (EPZ) in Calabar.
- Retention of part of foreign exchange earned by exporters: Exporters should be allowed to retain part of the foreign exchange earned from exports.
- Infrastructural development: Infrastructural facilities like seaports, airports, communication, etc. should be developed so as to facilitate or promote exportation of goods.
- Reduction of freight rate: Freight rate on exports can be reduced to encourage exporters.
- Granting of credit facilities: Credit facilities can be granted or offered to exporters in order to promote export.
- Devaluation of local currency: The local currency can be devalued to make export cheaper.
- Organising international trade fairs: International trade fairs should be organised periodically in order to attract foreign importers.
PROCEDURES FOR INTERNATIONAL TRADE
For international trade to take effect, certain procedures must be followed. The step-by-step procedures are:
- The importer and exporter will be brought together through different means, e.g. letter of inquiry.
- The next step is for the producer to send quotations to the buyer in response to the letter of inquiry. The quotation will show the description and features of the products.
- After receiving the quotation, the importer will place an order with the manufacturer. The indent will show details of the goods, price and date of delivery.
- The next step is to make arrangement for payment through any agreed means of payment, e.g. documentary credit, telegraphic mail transfer etc.
- Then, an arrangement for the goods to be shipped through a shipping company will be made. The shipping agent will get all the necessary documents like shipping note, calling forward note etc, the goods will be packed and well arranged in containers.
- The exporter will then prepare and send copies of bill of lading to the importer in advance. Other documents that will accompany the consignment will be prepared and sent.
- When the goods arrive, the clearing agent will process and complete all necessary documents. The agent will check the manifest to ensure that the goods are on board. The customs will assess the consignment and compute the duties to be paid.
- The goods will be taken to the warehouse after all necessary documentation have been completed.
TERMS OF TRADE
Terms of trade may be defined as the rate at which a country’s exports exchange for its imports. It is expressed as a relationship between the prices a country receives for its exports and the prices it pays for imports. In other words, terms of trade is the price ratio between exports and imports. Terms of trade is usually measured by the mathematical formula below:
Terms of trade = index of export price / index of import price × 100/1
A country’s terms of trade are said to improve when this ratio increases and to worsen when it decreases. The terms of trade are favourable if the average price of exports is higher than the average price of imports. Exports become relatively more expensive than imports. The index of terms of trade would therefore be more than 100. If the prices of exports rise in relation to the prices of imports, the terms of trade will improve, since a given quantity of exports will pay for more imports. Favourable terms of trade leads to a rise in the real national income.
The terms of trade are unfavourable if the average import price is higher than the average export price, which results in more expensive imports than exports and this situation worsen terms of trade. When terms of trade are unfavourable, the index would be less than 100 and this reduces the real national income.
Terms of trade in West Africa
Terms of trade in West African countries have been witnessing an unfavourable or worsening trend because the prices of their imports have been increasing relative to prices of exports.
Reasons for the worsening terms of trade include:
- Most West African countries are producers and exporters of primary products e.g. agricultural produce and crude minerals.
- They import lots of capital goods in an effort to industralise thereby increasing imports more than exports.
- There has been a fall in the demand for certain primary products of West African countries. This is due to the development of substitutes by the developed nations. This leads to a decrease in the price of export and increase in prices of imports.
- The production of low quality of manufactured products is also a problem. This is due to low level of technological development. The importation of high quality manufactured products, therefore increases importation over exportation.
How to improve terms of trade
The terms of trade can be improved by any method which will increase the price of exports relative to imports. These methods include:
- Use of inflationary policy.
- Appreciation of the currency.
- Imposition of higher export duties on commodities with an inelastic demand.
- A reduction in the demand for imports.
- Through collective bargaining, developing countries could achieve higher prices for their exports.
- Improvement on the quality of manufactured goods.
- There should be increased internal use of primary products in production.
TERMINOLOGIES IN INTERNATIONAL TRADE
- Free trade: Free trade refers to non-restriction on international trade. Buying and selling can take place between different countries without the imposition of artificial barriers such as absence of custom duties quotas, embargoes. There is perfect mobility of commodities and factors of production between countries.
- Infant industries: Infant industries are newly established industries. They are still in their tutelage and must be protected from foreign competition, to safeguard their survival.
- Devaluation: Devaluation is the lowering of the exchange value of a country’s currency vis-à-vis other currencies. This makes import to be expensive and export to be more attractive.
- Depreciation: Depreciation refers to the fall in the value of a country’s currency against other currencies as a result of the interplay of the forces of demand and supply.
- Dumping: Dumping is the practice of selling goods in foreign countries at lower prices than what are obtainable in the exporting country.