Chapter 9 Notes
Chapter 9 Notes ECON-E 201 Peter Olsen
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ECON-E 201 Peter Olsen
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Date Created: 03/12/15
Lecture 12 I Examples of National Specialties in Trade A Specializations from Resources 1 Saudi Arabia Oil 2 Canada Timber 3 US Grain Oil Natural Gas 4 Spain Olive Oil 5 Mexico Tomatoes 6 Jamaica Aluminum Ore 7 Italy Wine Israel Citrus Fruit B Not from resources Japan Cars consumer electronics US Software music movies aircraft Switzerland Watches Korea Steel ships Hong KongPakistan Textiles Great Britain Financial services ll International Trade A Assume 1 Many buyers none quotlargequot 2 Many sellers none quotlargequot 3 Homogeneous good 4 Domestic economy small relative to the world B Comparative Advantage and SampD Model 1 World price vs domestic price a Lower price shows i Comparative advantage b World Price lt Domestic Price i Comparative advantage outside domestic economy 2 No trade vs Trade allowed a Supply curve importing nation b Equilibrium quantity Graphical Representation i Quantity without trade ii Trade imposes a oor or ceiling and the equilibrium must adjust iii Sellers that are below the world price can compete with world sellers iv Supply becomes perfectly elastic at the world price v Distance between zero quantity and the point where the world price intersects with 00 OWU39lbULJNI I the supply curve represents the domestic output vi New equilibrium quantity with trade is where the world price intersects the demand curve viiDistance between domestic output and equilibrium quantity with trade represents the imports 3 Trade and Well Being a Trade increases total surplus because the losses of the losing surplus either consumers or producers are smaller than the gains of the winning surplus 4 Domestic Welfare Effects IMPORTER a Consumers better off b Producers worse off c Consumer gain gt producer loss d Net Gain from trade 5 Effects of a Tariff a Tariff tax on an imported good b lnitial Situation i Trade exists ii Price without tariff World price iii Underconsumption of domestic consumers and overproduction of domestic producers Chapter 9 International Trade l The Determinants of Trade A The Equilibrium without Trade 1 When an economy cannot trade in world markets the price adjusts to balance domestic supply and demand B The World Price and Comparative Advantage 1 World Price the price prevailing in world markets 2 World Price gt Domestic Price a The country should export their goods b World has a comparative advantage in producing that good 3 World Price lt Domestic Price a The country should import goods b The country has a comparative advantage over the world in producing that good 4 Trade among nations is ultimately based on comparative advantage a Trade is bene cial because it allows each nation to specialize in doing what it does best II The Winners and Losers from Trade 1 All countries are assumed to be price takers in the world economy A The Gains and Losses of an Exporting Country 1 2 3 U39lgt Once trade is allowed the domestic price rises to meet the world price Buyers are worse off because consumer surplus decreases Sellers are better off because producer surplus increases Total Surplus increases Domestic quantity supplied differs from the domestic quantity demanded but the market is still in equilibrium because there is another participant in the market the rest of the world World demand curve is perfectly elastic because the country can sell as many goods at the world price that it wants Conclusions a When a country allows trade and becomes an exporter of a good domestic producers of the good are better off and domestic consumers of the good are worse off b Trade raises the economic wellbeing of a nation in the sense that the gains of the winners exceed the losses of the losers B The Gains and Losses of an Importing Country 1 2 mm Once trade is allowed the domestic price falls to equal the world price The world supply curve is perfectly elastic because the country can buy as many goods as it wants as the world price Producers are worse off because producer surplus decreases Sellers are better off because consumer surplus increases Total surplus increases Conclusions a When a country allows trade and becomes an importer of a good domestic consumers of the good are better off and domestic producers of the good are worse off 7 b Trade raises the economic wellbeing of a nation in the sense that the gains of the winners exceed the losses of the losers Nations sometime fail to enjoy the gains from trade because the losers from free trade are better organized than the winners so they lobby for trade restrictions like tariffs or quotas C The Effects of a Tariff 1 2 3 4 900 10 11 12 Tariff a tax on imported goods Free Trade Domestic Price World Price A tariff raises the price of imported goods above the world price by the amount of the tariff Domestic suppliers can now sell their good for the world price tariff amount a Price is closer to the price that would prevail without trade Reduces the quantity of imports and moves a market closer to the equilibrium that would exist without trade Domestic sellers are better off and domestic buyers are worse off while the government raises revenue Consumer surplus decreases Producer surplus increases Government Revenue quantity of aftertariff imports x size of tariff Total Surplus decreases and the fall of total surplus is called the deadweight loss of the tariff Tariffs cause a deadweight loss because they distort incentives and push the allocation of scarce resources away from the optimum a Encourages domestic producers to increase production overproduction deadweight loss b Encourages domestic consumers to reduce consumption of the good underconsumption deadweight loss lmport quotas are another way to restrict trade similar to tariffs but the import quota creates a surplus for those who obtain import licenses rather than government revenue if the fee for the license is charged by the government the result is the exact same as that of the tariff D Other Bene ts of International Trade 1 2 Increased Variety of Goods goods produced in different countries are not exactly the same Lower Costs Through Economies of Scale some goods can be produced at a low cost only if they are produced in large quantities 3 Increased Competition trade fosters competitions and gives the invisible hand a better chance to work its magic 4 Enhanced Flow of Ideas the transfer of technological advances around the world is often thought to be linked to the trading of goods that embody those advances II The Arguments for Restricting Trade A The Jobs Argument 1 Opponents of free trade argue that international trade destroys domestic jobs a Yet free trade creates jobs at the same time that it destroys them b Imposes hardship in the short run but allows the country to enjoy a higher standard of living in the long run c Comparative advantage proves that every country will be able to have jobs because there is at least one thing that country has a comparative advantage in B The National Security Argument 1 When an industry is threatened with competition from other countries opponents of free trade argue that the industry is vital to national security a If a country were to become dependent on another country for a resource and then war broke out that country could be cut off from access to those resources b This argument is valid but is often used too quickly by producers C The InfantIndustry Argument 1 New industries want temporary trade restrictions to help them get started 2 Older industries argue that they need trade restrictions to adjust to new conditions 3 Difficult to implement in practice 4 Temporary policies are hard to remove D The Unfair Competition Argument 1 Free trade is only desirable only if all countries play by the same rules so the rules and legislations on a certain industry should be the same in every country E The ProtectionasaBargainingChip Argument 1 Trade restrictions can be useful when bargaining with trading partners a One country will add a tariff on one good is the other country doesn t remove a tariff on a different good
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