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McGraw-Hill/Irwin
©2008 The McGraw-Hill Companies, All Rights Reserved
International TradeInternational Trade
Chapter 35 Chapter 35
2
U.S. Trade Patterns
The U.S. is the largest player in global product and resource markets.
3
Imports
The U.S. imported more than $2.2 trillion of goods and services in 2006.
Imports are goods and services purchased from foreign sources.
4
Exports
We exported $1 trillion of goods and $431billion in services in 2006.
Exports are goods and services sold to foreign buyers.
5
Export Ratios
6
Trade Balances
The trade balance is the difference between the value of exports and imports.
Any imbalance in America’s trade must be offset by reverse imbalances elsewhere.
Trade balance = exports – imports
7
Trade Balances
Trade deficit is the amount by which the value of imports exceeds the value of exports in a given time period.
Trade surplus is the amount by which the value of exports exceeds the value of imports in a given time period.
8
Trade Balances: 2006
9
Bilateral Trade Balances:Top Deficit Countries
Country Trade Balance
(in billions of dollars) China –233 Japan –88 Canada –73 Mexico –64 Germany –48
10
Bilateral Trade Balances:Top Surplus Countries
Country Trade Balance
(in billions of dollars) Netherlands +14 U.A.E. +11 Australia +10 Hong Kong +10 Belgium +7
11
Motivation to Trade
Why trade when . . .
. . . we import many of the things we also export.
. . . we could produce many of the other things we import.
. . . we seem to seem to worry so much about trade imbalances.
LO2
12
Specialization
Trade allows nations to specialize and specialization increases total output.
Trade increases world output and the standards of living in all trading countries.
LO2
13
Production and Consumption Without Trade
The gains from trade can be illustrated using production possibilities curves.
Production possibilities – The alternative combinations of final goods and services that could be produced in a given time period with all available resources and technology.
LO2
14
Production and Consumption Without Trade
In the absence of trade, a country’s consumption possibilities are identical to its production possibilities.
Consumption possibilities - The alternative combinations of goods and services that a country could consume in a given time period.
LO2
15
Consumption Possibilities Without Trade
U.S. ProductionPossibilities
French ProductionPossibilities
Bread Wine Bread Wine100 0 15 080 10 12 1260 20 9 24
40 30 6 3620 40 3 480 50 0 60
LO2
16
Consumption Possibilities Without Trade
OU
TP
UT
OF
BR
EA
D
(zill
ions
of l
oave
s pe
r ye
ar)
60
10OUTPUT OF WINE (zillions of barrels per year)
U.S. production possibilities
0 20 30 40 50 60
20
40
80
100 A
B
C
D
E
F
LO2
17
Consumption Possibilities Without Trade
OU
TP
UT
OF
BR
EA
D(z
illio
ns o
f loa
ves
per
year
)
15
10OUTPUT OF WINE (zillions of barrels per year)
French production possibilities
0 20 30 40 50 60
5
10
20
25
G
H
I
J
K
L
LO2
18
Production and Consumption With Trade
To assess the potential gain from trade, we need to consider the combined output of trading nations.
By increasing the mix of output in each trading country, we can increase total world output.
LO2
19
Mutual Gains
Each country produces those goods it makes best, then trades with other countries to acquire the goods it desires to consume.
When a country engages in international trade, its consumption possibilities always exceed its production possibilities.
LO2
20
Consumption Possibilities Without Trade
Bread WineU.S. (at point D) 40 30France (at point I) 9 24
World total 49 54
LO2
21
Consumption Possibilities With Trade
Bread WineU.S. (at point C) 60 20France (at point K) 3 48
World total 63 68
LO2
22
Consumption Possibilities With Trade
QU
AN
TIT
Y O
F B
RE
AD
(zill
ions
of l
oave
s pe
r ye
ar)
60
10QUANTITY OF WINE (zillions of barrels peryear)
(a) U.S. production andconsumption
0 20 30 40 50 60
20
40
80
100 A
C
D
120
N
Production and consumption without trade
Consumption withtrade
Production withtrade
LO2
23
Consumption Possibilities With Trade
QU
AN
TIT
Y O
F B
RE
AD
(zill
ions
of
loav
es p
er y
ear)
15
10QUANTITY OF WINE (zillions of barrels peryear)
(b) French production and consumption
0 20 30 40 50 60
5
10
20
K
Productionwith trade
Consumption with tradeMI
Production andconsumption without trade
LO2
24
Gains from Specialization
Old Mix ofOutput
New Mix ofOutput
Bread Wine Bread WineUnited States 40 30 60 20
(point D) (point C)France 9 24 3 48
(point I) (point K)World total 49 54 63 68
LO2
25
Pursuit of Comparative Advantage
Although international trade can make everyone better off, it’s not obvious which goods should be traded, or on what terms.
LO1
26
Opportunity Costs
The decision to export is based on comparative advantage.
Comparative advantage - The ability of a country to produce a specific good at a lower opportunity cost than its trading partners.
Opportunity cost - The most desired goods or services that are forgone in order to obtain something else.
LO1
27
Comparative Advantage
Comparative advantage refers to the relative (opportunity costs) of producing particular goods.
World output, and thus potential gains from trade, will be maximized when each country pursues its comparative advantage.
LO1
28
Absolute Costs Don’t Count
The absolute advantages in production do not matter.
Absolute advantage – The ability of a country to produce a specific good with fewer resources (per unit of output) than other countries.
LO1
29
Terms of Trade
The terms of trade establish the trading rate.
Terms of trade is the rate at which goods are exchanged – the amount of good A given up for good B in trade.
30
Limits to the Terms of Trade
A country will not trade unless the terms of trade are superior to domestic opportunities.
The terms of trade between two countries will lie somewhere between their respective opportunity costs in production.
31
Searching for the Terms of Trade
Wine
France
0 10 20 30 40 50 60 70 80 90 100 110
306090
120
Bre
ad Consumption possibilities
Production possibilitiesL M K
UnitedStates
0 10 20 30 40 50 60 70 80 90 100 110
20406080
100
Bre
ad
DC
X
N
YConsumptionpossibilities
Productionpossibilities
A
32
The Role of Markets and Prices
The decision to import or export a particular good is often left up to the market decisions of individual consumers and producers.
33
The Role of Markets and Prices
The terms of trade, like the price of any good, will depend on the willingness of market participants to buy or sell at various prices.
34
Protectionist Pressures
Although the potential gains from trade are impressive, not everyone favors free trade.
Imports typically compete with a domestic industry.
LO3
35
Microeconomic Pressures
The affected industries will try to restrict imports in order to preserve their own jobs and incomes.
LO3
36
Import-Competing Industries
Workers and producers who compete with imported products – who work in import-competing industries – have an economic interest in restricting trade.
LO3
37
Export Industries
Trade not only alters the mix of output but also redistributes income from import-competing industries to export industries.
LO3
38
Net Gain
Trade restrictions designed to protect specific microeconomic interests reduce the total gains from trade.
LO3
39
Additional Pressures
Selfish micro interests are not the only source of trade restrictions.
Other arguments are used to restrict trade.
LO3
40
National Security Concerns
Essential defense-related goods are vital during times of war.
A war could disrupt this flow leaving us vulnerable.
Exporting vital technology to a potential enemy is not wise.
LO3
41
Dumping
Import competing industries are placed at risk when goods are consistently dumped in a nation.
Dumping is the sale of goods in export markets at prices below domestic prices.
LO3
42
Infant Industries
Even normal export prices might make it difficult or impossible for a new domestic industry to develop.
These industries may need temporary protection from imports.
LO3
43
Infant Industries
Trade restrictions are justified only if there is tangible evidence that the industry can develop a comparative advantage reasonably quickly.
LO3
44
Improving the Terms of Trade
The distribution of the gains from trade depends on the terms of trade.
Putting restrictions on imports can move the terms of trade in our favor
We would end up with a larger share of the gains from trade.
LO3
45
Barriers to Trade
The microeconomic losses associated with trade give rise to a constant clamor for trade restrictions.
LO3
46
Embargoes
The sure-fire way to restrict trade is simply to eliminate it.
An embargo is a prohibition against trading particular goods.
LO3
47
Tariffs
A more frequent trade restriction is a tariff.
A tariff is a tax (duty) imposed on imported goods.
A tariff makes imported goods more expensive to domestic consumers, and less competitive with domestically priced goods.
LO3
48
“Beggar-Thy-Neighbor”
The curtailment of imports looks like an easy solution to the problem of domestic unemployment.
Tariffs inflict harm on foreign producers.
When foreign countries retaliate with tariffs of their own, world trade shrinks and unemployment increases in all countries.
LO3
49
Quotas
The same outcome of a tariff can be attained more directly by imposing an import quota.
A quota is a limit on the quantity of a good that may be imported in a given time period.
LO3
50
Comparative Effects
The effect of quotas on trade is different than the effect of tariffs.
LO3
51
No-Trade Equilibrium
The equilibrium price is completely determined by domestic demand and supply curves.
Equilibrium price – The price at which the quantity of a good demanded in a given time period equals the quantity supplied.
LO3
52
Free-Trade Equilibrium
Free trade allows the import of unlimited quantity of foreign supplies at the world price.
Free trade results in reduced prices and increased consumption.
LO3
53
Tariff-Restricted Trade
Tariffs raise the price of imports and shifts the import supply curve upward.
Domestic prices rise, domestic production rises, and domestic consumption falls.
LO3
54
Quota-Restricted Trade
Quotas are a greater threat to competition than tariffs because quotas preclude additional imports at any price.
LO3
55
Impact of Trade Restrictions
S1
PR
ICE
(do
llars
per
uni
t)
QUANTITY (units per year)
(a) No-trade equilibrium
D1
p1
0 q1
LO3
56
Impact of Trade Restrictions
S1
PR
ICE
(do
llars
per
uni
t)
QUANTITY (units per year)
D1
p2
p1
q2qd
S2
0
(b) Free-trade equilibrium
B
q1
LO3
57
Impact of Trade Restrictions
p3
qt
S1
PR
ICE
(do
llars
per
uni
t)
QUANTITY (units per year)
D1
p1
q3
S3
C
0
(c) Tariff-restricted trade
S2p2
q2qd q1
LO3
58
Impact of Trade Restrictions
S1
PR
ICE
(do
llars
per
uni
t)
QUANTITY (units per year)
D1
p1
q40
(d) Quota-restricted trade
p2
q2q1
p4
S4
Q
LO3
59
Voluntary Restraint Agreements
A slight variant of quotas has been used in recent years.
A voluntary restraint agreement (VRA) is an agreement to reduce the volume of trade in a specific good – a “voluntary” quota.
LO3
60
Nontariff Barriers
Embargoes, export controls, tariffs, and quotas are the most visible barriers to trade, but they are only the tip of the iceberg.
LO3
61
Nontariff Barriers
The U.S. uses product standards, licensing restrictions, restrictive procurement practices, and other nontariff barriers to restrict roughly 15 percent of imports.
LO3
62
An Increasingly Global Market
Trade policy is a continuing conflict between the proponents of free trade and the special interests that profit from trade protection.
63
Multilateral Trade Pacts
The long-term trend is towards lowering trade barriers, thereby increasing global competition.
Protectionist forces are being countered by the worldwide recognition of the gains from trade.
Exporters and firms that use imported inputs push for free trade.
64
Global Pacts: GATT and WTO
The granddaddy of the multilateral, multiyear free-trade pacts was the General Agreement on Tariffs and Trade (GATT).
65
WTO
The 1994 GATT pact created the World Trade Organization (WTO) to enforce free-trade rules.
The WTO has become the world’s trade police force.
66
WTO Protests
Some people see free trade as a mixed blessing.
Environmentalists worry about depletion of resources, congestion and pollution.
Labor organizations worry about depressed wages and working conditions.
Third World countries worry about an unfair trade playing field.
67
Regional Pacts
Groups of nations have moved even faster toward open markets by developing regional trade pacts.
68
NAFTA
In December 1992, the United States, Canada, and Mexico signed the North American Free Trade Agreement (NAFTA).
The ultimate goal of NAFTA is to eliminate all trade barriers between these three countries.
69
CAFTA
The success of NAFTA prompted a similar 2005 agreement between the U.S. and central American nations.
The Central American Free Trade Agreement (CAFTA) aims to eliminate tariffs and standardize trade and investment policies in CAFTA nations.
70
European Union
The European Union (EU) is a regional pact that virtually eliminates national boundaries between 25 countries.
The EU eliminated trade barriers and permits full inter-country mobility of workers and capital.
In effect, Europe has become one large unified market.
McGraw-Hill/Irwin
©2008 The McGraw-Hill Companies, All Rights Reserved
International TradeInternational Trade
End of Chapter 35 End of Chapter 35