International Trade (Intl Trade) 101: International Trade Theories - Product Life Cycle Theory, Vernon New Maturing Standardised Products Production Shifts

What This Is

Product Life Cycle Theory, developed by Raymond Vernon, explains how the production and trade of a product change over time as it moves through four stages: New, Maturing, Standardized, and Declining. This theory matters in international trade because it helps companies understand how to adapt their production, marketing, and distribution strategies to changing market conditions. For example, a US company that imports smartphones from China might need to adjust its supply chain and logistics as the product moves from a new, high-tech product to a standardized, mass-produced item.

Key Terms & Rules

• New Product Stage: Characterized by high demand, high prices, and limited competition. Companies often invest heavily in research and development to create new products.
• Maturing Product Stage: Demand slows, prices decrease, and competition increases. Companies focus on improving efficiency and reducing costs.
• Standardized Product Stage: Demand is stable, prices are low, and competition is intense. Companies focus on mass production and cost reduction.
• Declining Product Stage: Demand decreases, prices drop, and competition becomes even more intense. Companies may need to discontinue production or find new markets.
• Production Shifts: Companies may shift production from high-wage countries to low-wage countries to reduce costs.
• Vernon's Hypothesis: Companies tend to move production from high-wage countries to low-wage countries as the product moves from the new to the standardized stage.
• Trade Barriers: Governments may impose trade barriers, such as tariffs or quotas, to protect domestic industries from foreign competition.
• Global Value Chains: Companies may create global value chains by outsourcing production to different countries to take advantage of comparative advantages.
• Comparative Advantage: Countries specialize in producing goods and services in which they have a lower opportunity cost, leading to increased efficiency and productivity.
• Opportunity Cost: The value of the next best alternative that is given up when a choice is made.

Step-by-Step Process

1. Identify the Product Life Cycle Stage: Determine the stage of the product life cycle to understand the market conditions and competition.
2. Analyze the Production Costs: Calculate the production costs in different countries to determine the most cost-effective location.
3. Assess the Trade Barriers: Research the trade barriers imposed by governments to determine the impact on production and trade.
4. Evaluate the Global Value Chain: Determine the potential benefits of creating a global value chain by outsourcing production to different countries.
5. Consider the Comparative Advantage: Identify the comparative advantage of different countries to determine the most suitable location for production.
6. Develop a Production Strategy: Based on the analysis, develop a production strategy that takes into account the product life cycle stage, production costs, trade barriers, global value chains, and comparative advantage.

Common Mistakes

• Mistake: Assuming that a product is always in the new stage, leading to over-investment in research and development.
• Correction: Understand the product life cycle stage to determine the appropriate investment strategy.
• Example: A company that imports smartphones from China might need to adjust its investment strategy as the product moves from a new, high-tech product to a standardized, mass-produced item.
• Mistake: Failing to consider the trade barriers imposed by governments, leading to unexpected costs and delays.
• Correction: Research the trade barriers imposed by governments to determine the impact on production and trade.
• Example: A US company that imports textiles from India might need to pay tariffs or quotas, leading to increased costs and reduced competitiveness.

Exam / Certification Tips

• Common Question Patterns: Questions may ask you to identify the product life cycle stage, analyze production costs, or evaluate trade barriers.
• Tricky Distinctions: Be aware of the differences between the new and maturing stages, as well as the standardized and declining stages.
• Memory Aids: Use the acronym "NEW" to remember the product life cycle stages (New, Maturing, Standardized, and Declining).
• Key Concepts: Focus on the key concepts of production costs, trade barriers, global value chains, and comparative advantage.

Quick Practice Scenario

A Chinese exporter sells smartphones to a US importer under FOB Shanghai. Who pays for the main carriage?

Answer: The buyer (US importer) pays for the main carriage.

Explanation: Under FOB (Free on Board), the seller is responsible for delivering the goods to the buyer's ship or aircraft, but the buyer is responsible for the main carriage (transportation) from the ship or aircraft to the final destination.

Last-Minute Cram Sheet

• Product Life Cycle Theory: Describes how the production and trade of a product change over time.
• New Product Stage: Characterized by high demand, high prices, and limited competition.
• Maturing Product Stage: Demand slows, prices decrease, and competition increases.
• Standardized Product Stage: Demand is stable, prices are low, and competition is intense.
• Declining Product Stage: Demand decreases, prices drop, and competition becomes even more intense.
• Production Shifts: Companies may shift production from high-wage countries to low-wage countries to reduce costs.
• Vernon's Hypothesis: Companies tend to move production from high-wage countries to low-wage countries as the product moves from the new to the standardized stage.
• Trade Barriers: Governments may impose trade barriers, such as tariffs or quotas, to protect domestic industries from foreign competition.
• Global Value Chains: Companies may create global value chains by outsourcing production to different countries to take advantage of comparative advantages.
• Comparative Advantage: Countries specialize in producing goods and services in which they have a lower opportunity cost, leading to increased efficiency and productivity.
• Opportunity Cost: The value of the next best alternative that is given up when a choice is made.
• FOB: Free on Board, a trade term that describes the point at which the seller's responsibility ends and the buyer's responsibility begins.
• Incoterms: International commercial terms that describe the responsibilities of the seller and buyer in a trade transaction.
• UCP 600: Uniform Customs and Practice for Documentary Credits, a set of rules that governs letter of credit transactions globally.
• LC Discrepancy: A discrepancy in a letter of credit that may result in a delay or rejection of the payment.
• Confirmed LC: A letter of credit that is guaranteed by a bank, providing additional security to the seller.
• Unconfirmed LC: A letter of credit that is not guaranteed by a bank, providing less security to the seller.