International Trade

1. International Trade What is an export? What is an Import?

2. International Trade The Trade Sector of the US Growth: - In 1975, exports and imports were each approximately 8% of the U.S. economy. - In 2000, exports accounted for 11.2% of GDP and imports made up 14.9%. Major Trading Partners: - Canada, Mexico, and Japan -China, Europe

3. International Trade Is of Increasing Importance to the US

4. U.S. International Trade in a World Context

5. International Trade as a Percentage of GDP International trade is still less important to the United States than to most other countries.

6. 19.8% 11.9% 18.5% 9.1% 11.5% 8.6% 11.9% 4.9% 7.2% 3.9% 4.5% 3.1% 3.4% 2.5% 2.7% 2.3% 2.1% 1.8% 2.1% 34.4% 32.2% 1.7% Leading Trading Partners of the U.S. –––––––– Percent of Total U.S. Trade, 2002 –––––––– –––––––– Percent of Total U.S. Trade, 2006 –––––––– Canada Mexico China Japan Germany United Kingdom South Korea Taiwan France Malaysia All other countries • Today, Canada, Mexico, China, and Japan are the leading trading partners with the United States. • The impact of international trade varies across industries. --some compete effectively, some do not.

7. Gains from Specialization and Trade Law of Comparative Advantage • A group of individuals, regions, or nations can produce a larger joint output if each specializes in the production of goods in which it is a low-opportunity cost producer and trades for goods for which it is a high opportunity cost producer.

8. Gains from Specialization and Trade • International trade allows each country to specialize according to thelaw of comparative advantage. • Each country can produce those goods that it can produce at a low opportunity cost. • Trading partners can consume a wider variety of goods than they could produce domestically. Absolute advantage: The ability to produce more of a good or service than competitors when using the same amount of resources.

9. Absolute advantage Japan can produce more of both Comparative advantage Japan is more efficient in producing cell phones US is more efficient in producing tablets

10. Increasing Consumption through Trade Terms of trade The ratio at which a country can trade its exports for imports from other countries. Countries gain from specializing in producing goods in which they have a comparative advantage and trading for goods in which other countries have a comparative advantage. Autarky A situation in which a country does not trade with other countries.

12. Why Don’t We See Complete Specialization? • 1. Not all goods and services are traded internationally. Some services are difficult to export, such as medical care. • 2. Production of most goods involves increasing opportunity costs.If a country devotes more workers to producing a good, the opportunity cost of producing more of that good will increase, causing the country to stop short of complete specialization. • 3. Tastes for products differ.Countries may each have a comparative advantage in producing different varieties of a particular product. Does Anyone Lose as a Result of International Trade? Some firms win, and some lose. The losers are likely to try to convince their governments to interfere by barring imports of the competing products from the other country or by imposing high tariffs on them.

13. Where Does Comparative Advantage Come From? • 1. Climate and natural resources.Geology can create comparative advantage. • 2. Relative abundance of labor and capital.Some countries have a comparative advantage in producing goods requiring highly skilled workers and sophisticated machinery, while others have a comparative advantage requiring unskilled workers and relatively simple machinery. • 3. Technology.Broadly defined, technology is the process firms use to turn inputs into goods and services. • Some countries are strong in product technologies, which involve the ability to develop new products. • Other countries are strong in process technologies, which involve the ability to improve the processes used to make existing products. • 4. External economies. Once an industry becomes established in an area, firms that locate in that area gain advantages over firms located elsewhere.

14. Gains from Specialization and Trade • International trade leads to gains from: • Economies of Scale:reductions in per-unit costs that often accompany large-scale production, marketing, and distribution. • More Competitive Markets:Promotes competition in domestic markets and allows consumers to purchase a wide variety of goods at economical prices. External economies: reductions in a firm’s costs that result from an increase in the size of an industry.

15. A Hard Lesson to Learn Exports and Imports are Linked • Exports provide the foreign exchange needed for the purchase of imports. • Imports provide trading partners with the currency needed to purchase exported goods and services. • Therefore, restrictions that limit one will also limit the other.

16. Sw Price Price Sd Sw c Dw Dd Soybeans (bushels) Soybeans (bushels) U.S. Has a Comparative Advantage • The price of soybeans and other internationally traded commodities is determined by the forces of supply and demand in the world market. • If U.S. soybean producers were prohibited from selling to foreigners, the domestic price would be Pn. • Free trade permits U.S. soybean producers to sell Qp units at the higher world price of Pw. U.S. Market World Market a b Pw Pw Pn Qc Qn Qp Qw

17. Price Price U.S. exports Soybeans (bushels) Soybeans (bushels) U.S. Has a Comparative Advantage • At the world price of Pw, the quantity (Qp – Qc) is exported. • Compared to the no-trade situation, the producers’ gain from the higher price (Pwb c Pn) exceeds the cost imposed on domestic consumers (Pw ac Pn) by the triangle (area) abc. Sw U.S. Market World Market Sd a b Sw Pw Pw c Pn Dw Dd Qc Qn Qp Qw

18. Price Price Sd Sw a Dd Dw Shoes Shoes Foreigners Have a Comparative Advantage • Consider the international market for manufacturing shoes. • In the absence of trade, the domestic price would be Pn. • Since many foreign producers have a comparative advantage in the production of shoes, international trade leads to lower prices Pw. U.S. Market World Market Pn Pw Qn Qw

19. Price Price Sw U.S. imports Shoes Shoes Foreigners Have a Comparative Advantage • At the price Pw, U.S. consumers demand Qc units of which (Qc – Qp) are imported. • Compared to no trade, consumers gain Pna b Pw, while domestic producers lose Pn a c Pw. • A net gain of a bc results. U.S. Market World Market Sd Sw a Pn c b Pw Pw Dd Dw Qp Qn Qc Qw

20. The Economics of Trade Restrictions

21. Tariffs, Quotas and Voluntary Export Restraints TariffA tax imposed by a government on imports. Quota A numerical limit a government imposes on the quantity of a good that can be imported into the country. Voluntary export restraint (VER) An agreement negotiated between two countries that places a numerical limit on the quantity of a good that can be imported by one country from the other country.

22. U.S. Tariff Rates: 1890 to the Present –––––––– U.S. Average Tariff Rate –––––––– (Duties collected as a share of dutiable imports) 60% 50% 40% 30% 20% 4.5% 10% 1890 1910 1930 1950 1970 1990 2006

23. Imports after tariff Tariff =t S U T V Initial imports Trade Restrictions: Impact of a Tariff. • Consider a tariff on autos imports. • Without a tariff, the world price of autos is Pw. At Pw consumers in the U.S. purchase Q1 units … Price SDomestic Qd1 from U.S. producers and … Q1 – Qd1 from foreign producers. • A tariff t makes it more costly for Americans to purchase autos from abroad. U.S. prices rise to Pw+ t and purchases fall from Q1 to Q2. Pw+ t • U.S. purchases from domestic producers rise from Qd1 to Qd2 … Pw imports fall to Q2 – Qd2. DDomestic • Producers gain area S … the tariff generates T tax revenues for the government… Quantity(automobiles) Qd1 Qd2 Q2 Q1 areas U & V are deadweight losses from reduction in allocative efficiency.

24. Import quota:Q2 – Qd2 S U T V Initial imports Note: The government derives no additional revenue from quotas. Trade Restrictions: Impact of a Quota • Consider a quota on peanuts. • Without trade restraints, Pw(the world price of peanuts) would be the domestic price. At Pw U.S. consumers would purchase Q1 … Price SDomestic Qd1 from U.S. producers and … Q1 – Qd1 imported from abroad. • A quota of Q2 – Qd2 imports pushes the U.S. price up to P2. P2 • While total U.S. purchases fall (from Q1 to Q2), those from U.S. producers rise (from Qd1 to Qd2) and … Pw imports fall to Q2– Qd2. • U.S. producers gain area S. Area T goes to foreign producers with permits to import into the U.S. DDomestic Quantity(peanuts) Qd1 Qd2 Q2 Q1 • U & V are deadweight losses.

25. Import quota:Q2 – Qd2 Imports after tariff Tariff =t S S U U T T V V Initial imports Initial imports Trade Restriction Impacts Price Price SDomestic SDomestic P2 Pw+ t Pw Pw DDomestic DDomestic Quantity(peanuts) Quantity(automobiles) Qd1 Qd1 Qd2 Q2 Qd2 Q1 Q2 Q1

26. The Economic Effect of the U.S. Sugar Quota Without quota, U.S. producers would sell 4.7 billion pounds of sugar, U.S. consumers would buy 27.5 billion pounds, imports would have been 22.8 billion pounds The U.S. price would be $0.28 per pound. equilibrium would be at point E; With sugar import quota of 5.3 billion pounds the price of sugar is $0.53 per pound, U.S. producers supply 15.9 billion pounds. U.S. consumers purchase 21.2 billion pounds equilibrium is at point F.

27. The Economic Effect of the U.S. Sugar Quota The sugar quota causes a loss of consumer surplus equal to the area A + B + C + D. The area A is the gain to U.S. sugar producers. The area B is the gain to foreign sugar producers. The areas C and D represent deadweight loss. The total loss to U.S. consumers in 2010 was $6.08 billion.

28. The High Cost of Preserving US Jobs with Tariffs and Quotas

29. Practical Application: • In 2002, the Bush administration imposed tariffs of up to 25% on imported steel products. This action • a. reduced the supply of steel in the domestic market and led to higher steel prices. • b. increased U.S. employment because it saved jobs in the steel industry. • c. reduced employment in the U.S. steel container industry because the higher steel prices made it more difficult for them to compete with foreign rivals.

30. Preserving Japanese Jobs with Tariffs and Quotas Is Also Expensive

31. Why do Nations Adopt Trade Restrictions? • National Defense argument • Protect higher wages argument • Saves domestic employment • Prevents Dumping:a. The sale of goods abroad at a price below cost • b. Allows foreign firms to achieve economies of scale. • c. Foreign firms may want to gain entry to another market. Sell below cost to gain sales. • 5. Infant Industry argument • a. Protect developing industries while growing • b. Difficult to tell when they are adult.

32. Efforts to Reduce Trade Restrictions GATT / WTO In 1948 the United States and Europe set up the General Agreement on Tariffs and Trade (GATT) to reduce tariffs and revive international trade after World War II A series of multilateral negotiations, called trade rounds, took place, in which countries agreed to reduce tariffs from the very high levels of the 1930s. In the following decades, trade in services and in products incorporating intellectual property, such as software programs and movies, grew in importance.

33. Efforts to Reduce Trade Restrictions GATT / WTO In January 1995, GATT was replaced by the World Trade Organization (WTO). World Trade Organization (WTO) An international organization that oversees international trade agreements.

34. Why Do Some People Oppose the World Trade Organization? • Some opponents are specifically against the globalization process that began in the 1980s and became widespread in the 1990s. • Other opponents have the same motivation as the supporters of tariffs in the 1930s—to erect trade barriers to protect domestic firms from foreign competition. • Some critics of the WTO support globalization in principle but believe that the WTO favors the interests of the high-income countries at the expense of the low-income countries. Globalization The process of countries becoming more open to foreign trade and investment.

35. Anti-Globalization Many of those who protest at WTO meetings distrust globalization. Some believe that free trade and foreign investment destroy the distinctive cultures of those countries. Globalization has also allowed multinational corporations to relocate factories from high-income countries to low-income countries. Some people have argued that firms with factories in developing countries should pay workers wages as high as those paid in high-income countries, abiding by the same health, safety, and environmental regulations. The governments of most developing countries have arguments against these proposals.

36. Other Examples Positive IMF - loans and financial assistance EU - European free trade area NAFTA - North American free trade area

37. U.S. Trade with Canada and Mexico –––––––– U.S. Trade with Canada and Mexico –––––––– (Exports and Imports together as a share of GDP) 6% 5% Canada 4% 3% Mexico 2% 1% 2000 2005 1980 1985 1990 1995 • U.S. trade with both Canada and Mexico grew rapidly following the passage of NAFTA.

38. Trade Fallacies • Trade fallacies abound because people often fail to consider the secondary effects. • Key elements of international trade are often linked – you cannot change one element without changing the other. • This is the case with imports and exports; policies that restrain imports also restrain exports.

39. Trade Fallacies • Trade fallacy 1:“Trade restrictions that limit imports save jobs for Americans.” • This view is false because if foreigners sell less to us they will have fewer dollars with which to buy things from us. • Trade restrictions do not “save” jobs; they merely reshuffle them. Jobs “saved” in protected industries will be offset by jobs “lost” in export industries. • As the result of trade restrictions, fewer Americans are employed in areas where we have a comparative advantage.

40. Trade Fallacies • Trade fallacy 2:"Free trade with low-wage countries, such as Mexico and China, will reduce the wages of Americans." • Both high- and low-wage countries will gain when they are able to focus more of their resources on those productive activities that they do well. • The key to this issue is how will U.S. resources be used. If a low-wage country can supply a good cheaper than we can produce it, the U.S. can gain by purchasing the good from the low-wage country and using its resources to produce other goods for which it has a comparative advantage.

41. 1. Measured as a share of the economy, the size of the trade sector (exports plus imports) of the United States has a. been increasing since 1980, but it declined during 1960–1980. b. been relatively constant during the last four decades. c. increased by about 10 percent during the last four decades. d. approximately doubled since 1980 and tripled since 1960. 2. A U.S. trade policy that restricts the sale of foreign goods in the U.S. market will a. reduce the demand for U.S. export goods since foreigners will be less able to buy our goods if they cannot sell to us. b. benefit producers in industries that export goods. c. increase the nation’s income since it protects domestic jobs. d. enhance economic efficiency by allocating more resources to the areas of their greatest comparative advantage.

42. True orFalse

43. The purchase of goods and services from abroad is called exporting. • The largest category of U.S. exports is foods and beverages. • The country with which the United States carries on the largest amount of international trade is Canada. • The scarcity problem can be eliminated by increasing production through specialization. • A country is said to have a comparative advantage over another country if it can produce a product at a lower opportunity cost than can the other country 6. The availability of appropriate markets and the ability to trade are necessary if countries are to specialize in their production 7. Trade restrictions must be imposed between countries if they are to gain the full benefits of production according to comparative advantage.

44. 8. A total ban on imports from another country is a quota. 9. A tariff is a restriction on the quantity of a product that can enter a country. 10. The complete prohibition of trade in a particular commodity with a particular nation is called an embargo 11. The prices and availabilities of goods and services should be lower with free trade than with restricted trade 12. One of the protectionist arguments is that trade restrictions should be imposed to ensure national security 13. The sale of a product in a foreign market at a price below cost is called dumping 14. Negotiations under the General Agreement on Tariffs and Trade have resulted in lower tariffs between nations.