Chapter 17Chapter 17International TradeInternational Trade

Why Do Nations Trade?Why Do Nations Trade?

There is an unequal distribution There is an unequal distribution of resourcesof resources

High school terms – other High school terms – other countries have stuff that we countries have stuff that we don’tdon’t

All nations need goods and All nations need goods and services, but may not have the services, but may not have the factors of production factors of production requiredrequired

Resource DistributionResource Distribution Natural Resources – Farm land, Natural Resources – Farm land,

mineral deposits, oil, natural gas, mineral deposits, oil, natural gas, water, woodlandswater, woodlands U.S. Strengths – farm landU.S. Strengths – farm land U.S. Weaknesses – none (though oil U.S. Weaknesses – none (though oil

consumption far exceeds supply)consumption far exceeds supply)

Resource DistributionResource Distribution

Human Capital – knowledge and skills Human Capital – knowledge and skills of workers, overall education levelof workers, overall education level U.S. Strengths – very high literacy U.S. Strengths – very high literacy

rate, largest network of universitiesrate, largest network of universities U.S. Weaknesses – noneU.S. Weaknesses – none

Resource DistributionResource Distribution Physical Capital – manmade objects Physical Capital – manmade objects

used to produce other goods and used to produce other goods and servicesservices U.S. Strengths – extensive U.S. Strengths – extensive

communications network, roads and communications network, roads and transportationtransportation

U.S. Weaknesses – noneU.S. Weaknesses – none

How Do Nations Decide What How Do Nations Decide What to Produce and Trade?to Produce and Trade?

David Ricardo’s David Ricardo’s Law of Comparative Law of Comparative AdvantageAdvantage Absolute Advantage – you can Absolute Advantage – you can

produce it at a lower cost than produce it at a lower cost than other countries (effectively other countries (effectively meaningless)meaningless)

Comparative Advantage – your Comparative Advantage – your opportunity cost is lower than other opportunity cost is lower than other countries for producing that goodcountries for producing that good

The best results come from trading The best results come from trading based on comparative advantagebased on comparative advantage

Huh?Huh?

U.S. can make 2 barrels of oil, U.S. can make 2 barrels of oil, or 6 bales of wheator 6 bales of wheat

Mexico can make 1 barrel of Mexico can make 1 barrel of oil, or 1 bale of wheatoil, or 1 bale of wheat

Who has the absolute Who has the absolute advantage for oil?advantage for oil?

For wheat?For wheat?

Huh?Huh?

What is the U.S. opportunity What is the U.S. opportunity cost for each barrel of oil?cost for each barrel of oil?

What is Mexico’s opportunity What is Mexico’s opportunity cost for each barrel of oil?cost for each barrel of oil?

Who has the comparative Who has the comparative advantage for oil?advantage for oil?

For wheat?For wheat?

Benefit of Trading Based on Benefit of Trading Based on Comparative AdvantageComparative Advantage

Each side will bargain to Each side will bargain to make the best deal possiblemake the best deal possible

The U.S. can produce its own The U.S. can produce its own oil, or send wheat to Mexico oil, or send wheat to Mexico in exchange for oilin exchange for oil

If Mexico accepts 2 wheat for If Mexico accepts 2 wheat for 1 oil, both side profit1 oil, both side profit

Trade and EmploymentTrade and Employment

Trading based on comparative Trading based on comparative advantage creates advantage creates specializationspecialization – – countries only produce what they can countries only produce what they can produce at lower opportunity costs produce at lower opportunity costs than othersthan others

Specialization can cause Specialization can cause unemployment in an individual unemployment in an individual sector, but it also makes goods sector, but it also makes goods cheaper, overallcheaper, overall

U.S. Exports and ImportsU.S. Exports and Imports

U.S. is the world’s largest exporter and U.S. is the world’s largest exporter and importerimporter

Imports: Imports: 1. Industrial supplies and materials1. Industrial supplies and materials 2. Consumer goods 2. Consumer goods 3. Capital goods3. Capital goods

Exports: Exports: 1. Capital goods1. Capital goods 2. Industrial supplies and materials2. Industrial supplies and materials 3. Consumer goods3. Consumer goods

U.S. Exports and ImportsU.S. Exports and Imports

Trade Surplus – when a country exports Trade Surplus – when a country exports more than it imports (more money coming more than it imports (more money coming in to the country than going out)in to the country than going out)

Trade Deficit – when a country imports Trade Deficit – when a country imports more than it exports (more money going more than it exports (more money going out than coming in)out than coming in) U.S. Balance of Trade for 2007 - $708.5 U.S. Balance of Trade for 2007 - $708.5

Billion Trade Deficit ($1.6 trill. in exports Billion Trade Deficit ($1.6 trill. in exports - $2.3 trill. in imports)- $2.3 trill. in imports)

Trade BarriersTrade Barriers

Definition – restriction on Definition – restriction on trade of goods to or from trade of goods to or from foreign countriesforeign countries

Trade BarriersTrade Barriers Import Quota – limit on number Import Quota – limit on number

of goods that can be importedof goods that can be imported Voluntary Export Restraint Voluntary Export Restraint

(VER) – reduction in exports, (VER) – reduction in exports, done to encourage another done to encourage another country to reduce trade barrierscountry to reduce trade barriers Often NOT really voluntary… done Often NOT really voluntary… done

at another country’s requestat another country’s request

Trade BarriersTrade Barriers Tariff – tax on imported goods, Tariff – tax on imported goods,

discourages consumers from discourages consumers from buying those goodsbuying those goods

Embargo – total ban on tradeEmbargo – total ban on tradeU.S. currently has 4 U.S. currently has 4 embargos – Cuba, North embargos – Cuba, North Korea, Iran, SyriaKorea, Iran, Syria

What is the Goal of Trade What is the Goal of Trade Barriers?Barriers?

Protectionism Protectionism - - Preserve Preserve jobs and jobs and industries in industries in your countryyour country

What is the Goal of Trade What is the Goal of Trade Barriers?Barriers?

Reasons for Reasons for protectionism:protectionism:Save jobs Save jobs that would that would go to go to countries countries with cheap with cheap laborlabor

What is the Goal of Trade What is the Goal of Trade Barriers?Barriers?

Reasons for Reasons for protectionism:protectionism:Protect an Protect an infant infant industry industry that that needs time needs time to developto develop

What is the Goal of Trade What is the Goal of Trade Barriers?Barriers?

Reasons for Reasons for protectionism:protectionism:Protect Protect national national security for security for critical critical industries industries needed in a needed in a warwar

Current Free Trade Current Free Trade AgreementsAgreements

World Trade World Trade Organization Organization (WTO)(WTO) Acts as a Acts as a

referee in trade referee in trade to reduce tariffs to reduce tariffs and restrictionsand restrictions

150 Members150 Members

Current Free Trade Current Free Trade AgreementsAgreements

European European Union (EU)Union (EU) Unified Unified

economy of economy of 27 European 27 European countriescountries

Same Same currency, currency, free tradefree trade

Current Free Trade Current Free Trade AgreementsAgreements

North American North American Free Trade Free Trade Agreement Agreement (NAFTA)(NAFTA) Eliminates all Eliminates all

trade barriers trade barriers between between Canada, the Canada, the U.S., and U.S., and Mexico by 2009Mexico by 2009

Current Free Trade Current Free Trade AgreementsAgreements

Asian Pacific Asian Pacific Economic Economic CooperationCooperation Countries along Countries along

the Pacific (U.S. the Pacific (U.S. China, Russia China, Russia etc.) agree to etc.) agree to reduce barriers reduce barriers

Multinational Corporations and Multinational Corporations and TradeTrade

Integrate a Integrate a variety of variety of countries into countries into production of a production of a goodgood

Reduce Reduce distinction distinction between foreign between foreign and domestic and domestic goodsgoods

Multinational Corporations and Multinational Corporations and TradeTrade

Some fears that Some fears that corporations take corporations take advantage of advantage of under-developed under-developed countries, and countries, and destroy local destroy local culturescultures This is often This is often

referred to as referred to as cultural imperialismcultural imperialism

Exchange RatesExchange Rates

Exchange Rate – amount of Exchange Rate – amount of another currency you can another currency you can trade your currency fortrade your currency for Ex. Trading a dollar for 10 pesosEx. Trading a dollar for 10 pesos Exchange Rates change daily, Exchange Rates change daily,

based on supply and demandbased on supply and demand

Exchange RatesExchange Rates

Strong Currency vs. Weak Strong Currency vs. Weak CurrencyCurrency A strong currency is A strong currency is

appreciating – appreciating – growing in value growing in value compared to other currenciescompared to other currencies

A weak currency is A weak currency is depreciating depreciating – decreasing in value– decreasing in value

Exchange RatesExchange Rates

Effects of strong and weak Effects of strong and weak currenciescurrencies A strong dollar discourages other A strong dollar discourages other

countries from buying American countries from buying American goods (decreases exports)goods (decreases exports)

A weak dollar makes American A weak dollar makes American goods cheaper for other goods cheaper for other countries (increases exports)countries (increases exports)