What is free trade? Free trade is international trade of goods and services without tariffs or other trade barriers. Krugman (1987) in Is Free Trade Passé looking for a real free trade which is depend on perfect competition and constant returns. Nowadays, countries are more likely to follow Strategic Trade Policy that give domestic firms, households or factors of production an advantage over foreign ones.
Comparative advantage theory has many assumptions one of them is constant returns, it is traditional models of international trade. Constant returns is the changes in output resulting from a proportional change in all inputs (where all inputs increase by a constant factor). If output increases by that same proportional change then there are constant returns to scale. For example, suppose our inputs are capital or labor, and we double each of these, our output will be exactly double.
Perfect competition a market structure characterized by a large number of firms so small relative to the overall size of the market, such that no single firm can affect the market price or quantity exchanged. Perfect competition and constant returns go together; without constant returns, the assumption of perfect competition becomes very hard to work. Nowadays, the idea of constant returns has moved because according to, Krugman (1987) "in the last ten years the traditional constant returns, perfect competition of international trade have been supplemented and to some extent supplanted by new breed of models that emphasizes increasing returns and imperfect competition"(p. 131). In modern economics perfect competition cannot hold up because country more likely to use increasing returns rather than constant returns. Imperfect competition lead to oligopoly or monopolistic market, when a firm has too much control over the market of a particular good or service and can charge more than its market value. Krugman (1987) "increasing returns are as fundamental a cause of international trade as comparative advantage". Increasing returns mean imperfect competition.
The principle of comparative advantage was formulated by Ricardo, his theory depend on that labor is the only factor of production. However. Swedish economists Eli Heckscher and Bertil Ohlin put a new theory know as the factor-endowment theory, they see that factor endowment theory is used to determine nation’s comparative advantage; countries are likely to be abundant in different types of resources. According to John (2008) in the Heckscher–Ohlin model of trade, "each nation's comparative advantage is traced to its particular endowments of different factors of production: that is, basic input such as land, labour, and capital that are used in different proportions in the production of different goods and services" (p. 99). in other words, product depend on other factor beside the labor, which is land, capital, technology and resource endowments. For example, a country with a high ration of capital to labor...