Chapter 8 In Class Practice Econ 112

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Chapter 8 International Trade 1 International Trade  Imports are goods and services purchased from other countries  Exports are goods and services sold to other countries  Globalization is the phenomenon of growing economic linkages among countries 2 Globalization 3 Globalization 4 International Trade  Recap:  A country has a comparative advantage in producing a good or service if the opportunity cost of producing the good or service is lower for that country than for other countries. ____________________________________________________  For our example, we assume constant OC (straight line PPF)  The Ricardian model of international trade analyzes international trade under the assumption that opportunity costs are constant. 5 USA PPF 6 OCxy=2 Mexico PPF 7 OCxy=1/2 International Trade  Mexico has the comparative advantage in auto parts  Mexico has a lower opportunity cost of auto part production  USA has the comparative advantage in airplanes  USA has a lower opportunity cost of airplane production 8 International Trade  Autarky is a situation in which a country does not trade with other countries.  In our example, we pick an arbitrary point on each PPF for consumption under autarky (see the previous graphs) 9 International Trade  Economies engage in international trade:  Specialize in the goods which they have comparative advantage  Export some of their specialty good  Import the good which they have comparative disadvantage  After international trade, both economies are better off 10 International Trade 11 International Trade 12 Sources of Comparative Advantage  1) Differences in climate  Constant – bananas, coffee, sugar  Seasonal –apples, grapes Recall the factors of production: land, labor, physical capital, human capital 13 Sources of Comparative Advantage  2) Differences in factor endowments  Factor abundance - how large a country’s supply of a factor is relative to its supply of other factors.  Factor intensity - a measure of which factor is used in relatively greater quantities than other factors in production of a good.  Heckscher– Ohlin model concludes - a country that has an abundant supply of a factor of production will have a comparative advantage in goods whose production is intensive in that factor. Recall the factors of production: land, labor, physical capital, human capital 14 Sources of Comparative Advantage  3) Differences in technology  Technology causes production of goods to have a lower opportunity cost. 15 Domestic Supply & Demand Analysis  Domestic demand curve - shows how the quantity of a good demanded by domestic consumers depends on the price of that good.  Domestic supply curve - shows how the quantity of a good supplied by domestic producers depends on the price of that good.  The World price of a good is the price at which that good can be bought or sold abroad. 16 Supply & Demand Analysis  First we will see a case where autarky price is higher than world price  This situation leads to imports of the good 17 Domestic Market under Autarky 18 Domestic Market Under Trade 19 Domestic Supply & Demand Analysis  World price – PW - (with international trade) is lower, in this case, than autarky price - PA  Some domestic producers are able to sell at PW and sell QS units  At PW consumers demand QD units  The difference between QS and QD is made up by foreign producers (imports) 20 Effect on Domestic Total Surplus 21 Supply & Demand Analysis  Now we will see a case where world price is higher than autarky price  This situation leads to exports of the good 22 Domestic Supply & Demand Analysis 23 Domestic Supply & Demand Analysis  The now higher world price (PW) causes producers to sell some of their goods abroad  The higher price also allows producers to increase production to QS  Some domestic consumers are willing to pay the now higher world price and stay in the market, demanding QD units  The difference between QS and QD is exports 24 Effect on Domestic Total Surplus 25 Domestic Supply & Demand Analysis  Conclusion:  Both situations lead to an increase in total surplus  Imports help consumers, hurt producers  Exports help producers, hurt consumers 26 Practice  Using the graph on next slide…  #1 Show domestic price and transacted quantity under autarky.  #2 Identify Consumer and Producer surplus under Autarky  #3 Identify domestic QD and QS under the world price  #4 Show Consumer and Producer Surplus under world price  #4 is society better off from world trade? Explain. 27 Practice 28 Trade and Wages  A factor price is the price that a firms pays for using the factor (land, labor, physical capital)  Examples of factors:  The USA is factor abundant in land that contains natural gas  Natural gas production is very land intensive  The USA can export natural gas  The USA increases demand for land and pushes it’s factor price up  Simultaneously, the USA imports clothing from Bangladesh which pushes the factor price of labor down 29 Trade and Wages  The Heckschler-Ohlin model tells us that:  #1 Countries tend to export goods that are factor intense in their most abundant factors of production  Effect is increase in demand for those factors and increase in factor price  #2 Countries tend to import goods that are factor intense in their least abundant factors of production  Effect is decrease in demand for those factors and decrease in factor price 30 Effects of Trade Protection  An economy has free trade when the government does not attempt either to reduce or to increase the levels of exports and imports that occur naturally as a result of supply and demand.  Policies that limit imports are known as trade protection or simply as protection.  A tariff is a tax levied on imports. 31 Effects of Trade Protection 32 Effects of Trade Protection  The tariff increases the price to PT  QD falls  QS rises (domestic firms are able to offer more goods)  The government collects tariffs on each unit imported which is QD – QS  Consumer surplus decreases  Some goes to producer surplus  Some goes to government as tariff revenue  Some is deadweight loss (doesn’t go to anyone!) 33  Overall there is a loss in total surplus Effects of Trade Protection 34 Effects of Import Quota  An import quota is a legal limit on the quantity of a good that can be imported.  The analysis is the same as an import tariff except,  The tariff revenue goes to the quota license holders 35 Arguments for Trade Protection  National Security  Imports are subject to international conflict and civil war  Job Creation  Jobs are created in import-competing industries when tariffs are placed on those imported goods  Doesn’t make sense because jobs are simultaneously lost in industries that use the, now more expensive, imports as inputs  Infant Industry Argument  Emerging industries need time to grow and reduce production cost (and product price) when low world prices prohibit growth in the free market 36 Chapter 8 In Class Practice Econ 112 #1 Show domestic price and transacted quantity under autarky. #2 Identify Consumer and Producer surplus under Autarky #3 Identify domestic QD and QS under the world price #4 Show Consumer and Producer Surplus under world price #4 is society better off from world trade? Explain. ...
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