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Ch. 31: International Ch. 31: International TradeTrade

James R. Russell, Ph.D., Professor of Economics & Management, Oral Roberts James R. Russell, Ph.D., Professor of Economics & Management, Oral Roberts UniversityUniversity©2005 Thomson Business & Professional Publishing, A Division of Thomson ©2005 Thomson Business & Professional Publishing, A Division of Thomson LearningLearning

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What Does the U.S. What Does the U.S. Export and Import?Export and Import?

ExportsExports: automobiles, : automobiles, computers, aircraft, computers, aircraft, corn, wheat, corn, wheat, soybeans, scientific soybeans, scientific instruments, coal, and instruments, coal, and plastics.plastics.

ImportsImports: petroleum, : petroleum, automobiles, clothing, automobiles, clothing, iron and steel, office iron and steel, office machines, footwear, machines, footwear, fish, coffee, and fish, coffee, and diamonds.diamonds.

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Why Do People In Different Why Do People In Different Countries Trade with One Countries Trade with One Another?Another?

International trade exists for the International trade exists for the same reasons that trade at any level same reasons that trade at any level exists: individuals trade to make exists: individuals trade to make themselves better off.themselves better off.

Some countries will be able to Some countries will be able to produce some goods that other produce some goods that other countries cannot produce or can countries cannot produce or can produce only at extremely high produce only at extremely high costs.costs.

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Comparative Comparative AdvantageAdvantage

Comparative AdvantageComparative Advantage: : situation where a country can situation where a country can produce a good at a lower produce a good at a lower opportunity cost than another opportunity cost than another country.country.

Countries specialize in the Countries specialize in the production of the good in which production of the good in which they have a comparative advantagethey have a comparative advantage

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Comparative Comparative AdvantagesAdvantages

After specializing in production, After specializing in production, countries must negotiate the countries must negotiate the terms of trade.terms of trade.

The profit motive determines the The profit motive determines the pattern of international trade. The pattern of international trade. The profit motive is consistent with profit motive is consistent with comparative advantage.comparative advantage.

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Exhibit 1: Production Possibilities in Two Countries

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Exhibit 2: Both Countries Gain from Specialization and Trade

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Self-TestSelf-Test

Suppose the United States can produce 120 Suppose the United States can produce 120 units of X at an opportunity cost of 20 units units of X at an opportunity cost of 20 units of Y, and Great Britain can produce 40 units of Y, and Great Britain can produce 40 units of X at an opportunity cost of 80 units of Y. of X at an opportunity cost of 80 units of Y. Identify favorable terms of trade for the two Identify favorable terms of trade for the two countries.countries.

If a country can produce more of all goods If a country can produce more of all goods than any other country, would it benefit than any other country, would it benefit from specializing and trading? Explain your from specializing and trading? Explain your answer.answer.

Do government officials analyze data to Do government officials analyze data to determine what their country can produce determine what their country can produce at a comparative advantage?at a comparative advantage?

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Trade RestrictionsTrade Restrictions

Specialization and Specialization and international trade international trade benefit individuals in benefit individuals in different countries. different countries. But, every person But, every person may not gain.may not gain.

Consumers’ Surplus = Consumers’ Surplus = Maximum Buying Maximum Buying Price – the Price Paid.Price – the Price Paid.

Producers’ Surplus = Producers’ Surplus = Price Received – Price Received – Minimum Selling PriceMinimum Selling Price

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Exhibit 3: Consumers’ and Producers’ Surplus

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TariffsTariffs

TariffTariff: a tax on imports. : a tax on imports. Consumers receive more consumers’ Consumers receive more consumers’

surplus when tariffs do not exist and less surplus when tariffs do not exist and less when they do.when they do.

Producers receive less producers’ surplus Producers receive less producers’ surplus when tariffs do not exist and more when when tariffs do not exist and more when they do exist.they do exist.

The effects of the tariff are a decrease in The effects of the tariff are a decrease in consumers’ surplus, an increase in consumers’ surplus, an increase in producers’ surplus, and an increase in producers’ surplus, and an increase in tariff revenues for government.tariff revenues for government.

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Exhibit 4: The Effects of a Tariff

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QuotasQuotas

QuotaQuota: a legal limit on the amount of a good : a legal limit on the amount of a good that may be imported.that may be imported.

A quota reduces the supply of a good and raises A quota reduces the supply of a good and raises the price of imported goods to domestic the price of imported goods to domestic consumers.consumers.

The effects of a quota are a decrease in The effects of a quota are a decrease in consumers’ surplus, an increase in producers’ consumers’ surplus, an increase in producers’ surplus, and an increase in total revenue to the surplus, and an increase in total revenue to the importers who sell the allowed number of importers who sell the allowed number of imported units.imported units.

Because the loss to consumers is greater than Because the loss to consumers is greater than the increase in producers’ surplus plus the gain the increase in producers’ surplus plus the gain to importers, there is a net loss as a result of the to importers, there is a net loss as a result of the quota.quota.

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Exhibit 5: The Effects of a Quota

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Why Nations Restrict Why Nations Restrict TradeTrade National Defense ArgumentNational Defense Argument: certain : certain

industries should remain based in our industries should remain based in our country, especially if they manufacture country, especially if they manufacture items vital to our defense. Items this items vital to our defense. Items this argument has been used for for include: argument has been used for for include: pens, pottery, peanuts, papers, candles, pens, pottery, peanuts, papers, candles, thumbtacks, tuna fishing, and pencils.thumbtacks, tuna fishing, and pencils.

Infant Industry ArgumentInfant Industry Argument: new : new industries must be protected from older, industries must be protected from older, established foreign competitors until they established foreign competitors until they are mature enough to compete. are mature enough to compete. However, removing protection is almost However, removing protection is almost impossible.impossible.

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Why Nations Restrict Why Nations Restrict Trade (cont.)Trade (cont.)

Antidumping ArgumentAntidumping Argument: domestic : domestic industries need to be protected from industries need to be protected from foreign dumping. Dumping is the sale of foreign dumping. Dumping is the sale of goods abroad at a price below cost and the goods abroad at a price below cost and the price charged in the domestic market. price charged in the domestic market. But, domestic consumers benefit from But, domestic consumers benefit from dumping.dumping.

Foreign–Export–Subsidies ArgumentForeign–Export–Subsidies Argument: : Some governments subsidize the firms Some governments subsidize the firms that export goods. Firms hold that this that export goods. Firms hold that this forces them to compete with both the firm forces them to compete with both the firm and the government in question.and the government in question.

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Why Nations Restrict Why Nations Restrict Trade (cont)Trade (cont)

Low Foreign Wages ArgumentLow Foreign Wages Argument: A : A country’s low wage advantage may be country’s low wage advantage may be offset by its productivity disadvantage. offset by its productivity disadvantage. High wages means high productivity. High wages means high productivity. Low wages mean low productivity.Low wages mean low productivity.

Saving Domestic Jobs ArgumentSaving Domestic Jobs Argument: : This argument is actually most of the This argument is actually most of the previous arguments but in disguise. previous arguments but in disguise.

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What Price Jobs?What Price Jobs?

Important Questions to Important Questions to ask about “Saving ask about “Saving Jobs”:Jobs”:

1.1. How many domestic jobs How many domestic jobs in the firms that produce in the firms that produce good good XX are being saved are being saved because of the tariff?because of the tariff?

2.2. How much do consumers How much do consumers have to pay in higher have to pay in higher prices to save those jobs?prices to save those jobs?

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What Price Jobs?What Price Jobs?

””Voluntary” Voluntary” Export Restraint Export Restraint (VER)(VER): an : an agreement between agreement between two countries in two countries in which the exporting which the exporting country country “voluntarily” agrees “voluntarily” agrees to limit its exports to limit its exports to the importing to the importing country.country.

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World Trade World Trade OrganizationOrganization

““[The WTO’s] overriding objective is to help [The WTO’s] overriding objective is to help trade flow smoothly, freely, fairly, and trade flow smoothly, freely, fairly, and predictably.” predictably.”

Functions include: administering trade Functions include: administering trade agreements, acting as a forum for trade agreements, acting as a forum for trade negotiation, settling trade disputes, reviewing negotiation, settling trade disputes, reviewing national trade policies, assisting developing national trade policies, assisting developing countries in trade policy issues, and cooperating countries in trade policy issues, and cooperating with other international organizations.with other international organizations.

The WTO, in theory, is supposed to lead to freer The WTO, in theory, is supposed to lead to freer international trade, and there is some evidence international trade, and there is some evidence that is has done just this.that is has done just this.

Critics often say that it has achieved this Critics often say that it has achieved this objective at some cost to a nation’s sovereignty.objective at some cost to a nation’s sovereignty.

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Self-TestSelf-Test

Who benefits and who loses from Who benefits and who loses from tariffs? Explain your answer.tariffs? Explain your answer.

Identify the directional change in Identify the directional change in consumers’ surplus and producers’ consumers’ surplus and producers’ surplus when we move from free trade surplus when we move from free trade to tariffs. Is the change in consumers’ to tariffs. Is the change in consumers’ surplus greater than, less than, or surplus greater than, less than, or equal to the change in producers’ equal to the change in producers’ surplus?surplus?

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Self-TestSelf-Test

What is a major difference What is a major difference between the effects of a quota between the effects of a quota and the effects of a tariff?and the effects of a tariff?

Outline the details of the Outline the details of the infant industry argument for infant industry argument for trade restriction.trade restriction.

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Coming Up (Ch. 32): Coming Up (Ch. 32): International FinanceInternational Finance