According to economic principles, trading is based on supply and demand of goods and services. Briefly discussed, there are two methods of trading, international and domestic. International trading is more complex with origins dating back thousands of years. After the World War II period, a worldwide movement toward a free trading policy ensued. As a result, the World Trade Organization (WTO) was created to negotiate and remove trade restriction. The WTO has enabled a more robust trading environment for the United States, especially with countries such as China and Japan in which there is a high demand for their goods and services. Items such as comparative and absolute advantage as well as import quotas and tariffs must be understood to maneuver properly within the international market.
Comparative Advantage and Absolute Advantage
In most businesses there is always some form of competition. It is the advantage over the competition that makes the market and businesses successful. One such advantage is the absolute advantage, defined as "the ability of an individual, a firm, or a country to produce more of a good or service than competitors, using the same amount of resources" (Hubbard & O'Brien, 2010). A business can have an absolute advantage just by producing more goods or services than the competition. However, the competition can have a comparative advantage over another business when it can produce goods or services at a much lower opportunity cost than their competitor (Mankiw, 2008). When using the same or fewer resources to obtain equal results, this is referred to as comparative advantage. Some businesses will spend more money or resources just to produce more than their competition. The most profitable approach would be to use less money or resources so that the profit margin will be higher than the business spending more. When used in trade, the principle states, "The basis for trade is comparative advantage, not absolute advantage" (Hubbard & O'Brien, 2010). In trade it is best that a country pick an industry that would gives them a comparative advantage rather than an absolute advantage. The country could then trade for goods or services that would otherwise give them an absolute advantage if they would produce it themselves.