Who can produce more freezers? Germany

Who can produce more dishwashers? Germany

Therefore, Germany has an absolute advantage in the production of both freezers and dishwashers, simply because they can produce more than Italy.

So should Germany and Italy trade? To answer this, we must look at opportunity cost.

GermanyCost of producing 1 freezer = ½ dishwasherCost of producing 1 dishwasher = 2 freezers ItalyCost of producing 1 freezer = ¼ dishwasherCost of producing 1 dishwasher = 4 freezers

When Germany decides to produce 1 freezer, it forgoes the opportunity to produce ½ of a dishwasher.

When Italy decides to produce 1 freezer, it forgoes the opportunity to produce ¼ of a dishwasher.

Which nation gives up the least, or has the lowest opportunity cost, when they produce 1 freezer? Italy

GermanyCost of producing 1 freezer = ½ dishwasherCost of producing 1 dishwasher = 2 freezers

ItalyCost of producing 1 freezer = ¼ dishwasherCost of producing 1 dishwasher = 4 freezers

When Germany decides to produce 1 dishwasher, it forgoes the opportunity to produce 2 freezers.

When Italy decides to produce 1 dishwasher, it forgoes the opportunity to produce 4 freezers.

Which nation gives up the least, or has the lowest opportunity cost, when they produce 1 dishwasher? Germany

GermanyCost of producing 1 freezer = ½ dishwasherCost of producing 1 dishwasher = 2 freezers ItalyCost of producing 1 freezer = ¼ dishwasherCost of producing 1 dishwasher = 4 freezers

A country is said to have a comparative advantage in whichever good has the lowest opportunity cost.

If Italy specializes in the production of freezers and Germany specializes in the production of dishwashers, more freezers and dishwashers will be able to be produced.

Then the nations can trade for each other’s goods.

In the end, both nations will be able to consume more freezers and dishwashers than they could have with no trading.

Recall our equation for GDP:GDP = C + I + G + NX

• NX stands for net exports and could be written as (X-M), or (exports – imports).

• If a nation subtracts the value of its imports from the value of its exports and ends up with a positive number, then that nation has a trade surplus.

• If a nation subtracts the value of its imports from the value of its exports and ends up with a negative number, then that nation has a trade deficit.

The balance-of-payments accounts of a country record the payments and receipts of the residents of the country in their transactions with residents of other countries. The balance of payments includes the current account (trade in merchandise/services), the capital account (trade in capital), and the financial account (flows related to investment in business, real estate, bonds and stocks).

Note: a country could have a trade deficit and a balance of payments surplus.

Table 1 The U.S. Balance of Payments, 2004

Tariff: a tax on imported goods Quota: a limit on the number of a specific

good that can come into a country from another country

Embargo: a ceasing of all trade … no imports, no exports

Standards: regulations in one country that keep goods from another nation out (environmental or safety standards)

Subsidies: government payments to business to help them pay for the costs of production … seen as a barrier to trade b/c it gives the subsidized industry an unfair advantage in global markets

Tariffs, quotas, embargoes, and standards have the same effect – supply falls and prices rise.

Subsidies lower the cost of production for domestic producers, causing supply to increase and prices to decrease.

b. Identify costs and benefits of trade barriers over time.

For trade barriers: Infant industries argument: If a nation has

developing industries, it must protect them from competition from well-established businesses in other countries that can produce more efficiently.

National security argument: Certain industries, such as steel and energy, are of vital importance to a nation’s national security and thus must be protected.

Dependency argument: A nation should not allow itself to become too dependent on other nation’s for its own well-being.

Against trade barriers: Efficiency argument: Specialization and

trade is more efficient. A nation should not support an industry that is inefficient – this is a waste of resources.

When nations specialize and trade, both parties gain. Production and consumption increase, as does standard of living. Erecting barriers to free trade deprives nations of these benefits of trade.

European Union (EU): a monetary union (the euro) of most of the nations of Europe designed to make trade easier

North American Free Trade Association (NAFTA): an association between the nations of North America (US, Canada, Mexico) designed to limit trade barriers

Association of Southeast Asian Nations (ASEAN): free trade association of SE Asian nations

European Union (EU)

NAFTA

ASEAN