Comparative Advantage and the Product Cycle Theory

When Raymond Vernon introduced the Product Cycle Theory 1966, he argued that the behaviour of corporations was shaped by a determined life cycle that their products followed. When a product is marketed to the public in its earliest stages, profits would steadily increase as demand rises due to economies of scale, since the larger the production run, the cheaper the costs. Demand will eventually level off as most of the target market would already own the product, and profits decrease again. When profits decline to the point when it is no longer feasible to continue production, the initial firms may decided to discontinue the product completely. However, they may also choose to sell or license the product to other firms, usually in other developing countries. This eventually led to the diffusion of technology where the knowledge to produce a given product is no longer exclusive to a handful of companies.

Vernon’s theory can be best applied Japan’s economic policies when it ws recovering from the Second World War, it had focused on expanding manufacturing, information, and service-based economies to make up for its dense population and lack of natural resources. It was also resistant to foreign direct investment but allowed foreign corporations to license their products to domestic firms. This had allowed quick economic growth for Japan while protecting the country from foreign ownership, and after Japan had opened its borders to the rest of the world, only a few foreign companies were able to find a market as most companies had already licensed their original products there. Soon, the owners of the original products began to face even steeper competition as Japan started to make better versions of the licensed products, at a more efficient rate as well. There is now another revelation in the Product Cycle Theory, the spread of technology and information-based economies has allowed countries to create their own comparative advantages.

When David Ricardo first introduced the concept of comparative advantages, he did not realise that they could be moved due to further globalisation in the future. Comparative advantages at that time were always exclusive to geographical location. For example, Norway has oil while Botswana has diamonds, both valuable physical goods whose deposits were limited to a certain place. But due to the rise of information and service-based economies, all countries can create their comparative advantages by simply educating the population and offering the same products at a lower cost. Educating the population might require effective administration, but these efforts are also helped by corporations when they license products or outsource projects, since the local population become exposed to new technologies. Japan was an earlier example in the 20th Century, and now the continued expansion of companies abroad has also boosted the economy, and technological innovation of other developing countries, such as China, India, and Brazil. These developments may prove to be troubling for developed economies in Europe and North America, as they are quickly losing the advantage of innovation. The future population of developed countries will now face intense competition from all corners of the world.

Above Photo: The Norwegian Oil Museum in Stavanger, also known as the country’s ‘Oil Capital.’ (Ben Bodien, Flickr)

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