International Trade

1. 35 International Trade

2. Chapter Objectives • The Graphical Model of Comparative Advantage, Specialization, and the Gains From Trade • How Differences Between World Prices and Domestic Prices Prompt Exports and Imports • How Economists Analyze the Economic Effects of Tariffs and Quotas • The Rebuttals to the Most Frequently Presented Arguments for Protectionism • About the Assistance Provided Workers Under the Trade Adjustment Act of 2002 • How the Offshoring of U.S. Jobs Relates to the Growing International Trade in Services

3. Some Key Facts • U.S. Trade Deficit $782 Billion in Goods in 2005 • U.S. Trade Surplus $58 Billion in Services in 2005 • U.S. Exports Chemicals, Consumer Durables, Agricultural Products, Semiconductors • U.S. Imports Petroleum, Automobiles, Appliances, Computers • Some of Same Categories are Exported and Imported • Canada Largest U.S. Partner Quantitatively

4. Some Key Facts • U.S. Sizable Trade Deficit with China • U.S. Dependence on Oil is Reflected • U.S. has World’s Highest Trading Volume • Exports are 11% of U.S. Output • China a Major Trade Force • International Trade Links World Economies • International Trade is the Center of Policy Debates

5. GLOBAL PERSPECTIVE Some Key Facts Shares of World Exports, Selected Nations Percentage Share of World Exports, 2004 0 2 4 6 8 10 12 Germany United States China Japan France Netherlands Italy United Kingdom 10.0 8.9 6.5 6.2 4.9 3.9 3.8 3.8 Source: World Trade Organization

6. O35.1 The Economic Basis for Trade • Labor-Intensive Goods • Land-Intensive Goods • Capital-Intensive Goods • Comparative Advantage • Graphical Analysis • Two Isolated Nations • Constant Costs • Different Costs • U.S. Absolute Advantage in Both Products • Opportunity Cost Ratio Graphically…

7. Economic Basis for Trade • 3 issues: • 1. uneven distribution of economic resources • 2. efficient production requires different technologies and resource combos • 3. products are differentiated

8. Economic Basis for Trade • Japan has large, well-skilled labor force; focus is on labor-intensive goods (technology, etc) • Australia and Brazil have vast amounts of land; focus is on land-intensive goods (wool, wheat, etc) • Advanced nations w/ large amounts of capital focus on capital-intensive goods (cars, equipment, chemicals)

9. Comparative Advantage • 2 Isolated Nations: • Use PPC to analyze • Assume constant costs –as opposed to bowed-outward PPC, allows to simplify analysis • Different PPCs of each nation represent different resource costs • Assume in book example that U.S. has absolute adv. in both

10. Specialization Based on Comparative Advantage • Gains from trade still psb even if a nation has absolute advantage in both • Principle of comparative advantage – total output will be greatest when each good is produced by the nation that has the lowest domestic opp cost fro that good

11. 45 45 40 40 35 35 30 30 25 25 Coffee (Tons) Coffee (Tons) 20 20 15 15 10 10 5 5 0 0 5 10 15 20 25 30 5 10 15 20 Wheat (Tons) Wheat (Tons) The Economic Basis for Trade (a) United States (b) Brazil 12 A 4 B 8 18

12. W35.1 The Economic Basis for Trade • Self-Sufficiency Output Mix • Specializing Based on Comparative Advantage • Principle of Comparative Advantage • Terms of Trade • 1W≡ 1C in the U.S. • 1W≡ 2C in Brazil • Gains from Trade • Trading Possibility Line • Improved Options • Added Output

13. Terms of Trade • At what exchange ratio will the two countries exchange goods? • Determine how the gains from international trade are divided b/w the two nations

14. Gains from Trade • Possibility of trade permits each nation to supplement its domestic PPC with a trading possibilities line • See Figure 35.2 • As a result of trade, both nations have more output (products)

15. 45 45 40 40 35 35 30 30 25 25 Coffee (Tons) Coffee (Tons) 20 20 15 15 10 10 5 5 0 0 5 10 15 20 25 30 5 10 15 20 Wheat (Tons) Wheat (Tons) The Economic Basis for Trade (a) United States (b) Brazil C’ Trading Possibilities Line C Trading Possibilities Line c A’ 12 A B’ 4 B W w w’ 8 18

16. The Economic Basis for Trade • Trade with Increasing Costs • The Case for Free Trade

17. Trade with Increasing Costs • Multiproduct and multinational trade analysis yields same conclusions • Primary effect of increasing costs is less-than-complete specialization • We often see domestically produced items competing directly against similarly imported products

18. The Case for Free Trade • World economy can achieve a more efficient allocation of resources and a higher level of material well-being than it can without free trade • Promotes competition • Deters monopoly • Links national interests and breaks down national animosities

19. Supply and Demand Analysis of Exports and Imports • World Price • Domestic Price • Supply and Demand in the United States • U.S. Export Supply • Export Supply Curve • U.S. Import Demand • Import Demand Curve

20. S and D Analysis of Exports/Imports • Interaction of world supply and world demand determines equilibrium world price • Domestic S and D determine equilibrium domestic price • Difference b/w world price and domestic price encourages exports or imports

21. 1.50 1.50 1.25 1.25 Price (Per Pound; U.S. Dollars Price (Per Pound; U.S. Dollars 1.00 1.00 .75 .75 .50 .50 0 0 50 100 Quantity of Aluminum (Millions of Pounds) Quantity of Aluminum (Millions of Pounds) 50 75 100 125 150 Supply and Demand Analysis of Exports and Imports U.S. Aluminum Market • U.S. Domestic • Aluminum Market (b) U.S. Export Supply and Import Demand Surplus = 100 Sd c Surplus = 50 U.S. Export Supply b a U.S. Import Demand x Shortage = 50 y Dd Shortage = 100

22. S and D in the U.S. • U.S. export supply curve – slopes upward; shows positive relationship b/w world price and amt of g/s exported • U.S. import demand – downsloping curve, relationship b/w world price and domestic price is inverse or negative • World price established where one nation’s import demand curve intersects another nation’s export supply curve

23. 1.50 1.50 1.25 1.25 Price (Per Pound; U.S. Dollars Price (Per Pound; U.S. Dollars 1.00 1.00 .75 .75 .50 .50 0 0 50 100 Quantity of Aluminum (Millions of Pounds) Quantity of Aluminum (Millions of Pounds) 50 75 100 125 150 Supply and Demand Analysis of Exports and Imports Canadian Aluminum Market • Canada’s Domestic • Aluminum Market (b) Canada’s Export Supply and Import Demand Surplus = 100 Sd s Surplus = 50 Canadian Export Supply r a Canadian Import Demand t Shortage = 50 Dd

24. W35.2 Price (Per Pound; U.S. Dollars 1.00 .88 .75 0 50 100 Quantity of Aluminum (Millions of Pounds) Supply and Demand Analysis of Exports and Imports World Market for Aluminum Equilibrium World Price and Quantity of Exports and Imports U.S. Export Supply Canadian Export Supply e Equilibrium U.S. Import Demand Canadian Import Demand

25. O35.2 Trade Barriers • Revenue Tariff • Protective Tariff • Import Quota • Nontariff Barrier (NTB) • Voluntary Export Restriction (VER) • Economic Impact of Tariffs • Direct Effects • Decline in Consumption • Increased Domestic Production • Decline in Imports • Tariff Revenue • Indirect Effect

26. Trade Barriers • Revenue tariff – modest tariff on items NOT produced domestically • Protective tariff – designed to protect domestic producers, though not high enough to stop importation • Nontariff barrier (NTB) – standards, red tape etc • Voluntary export restriction (VER) – foreign firms “voluntarily” limit exports to another nation

27. Economic Impact of Tariffs • Direct Effects: • Decline in consumption – due to higher price • Increased domestic production • Decline in imports • Tariff revenue for gov. • Indirect Effects: • Promote expansion of inefficient industries • Reduce efficiency and world output

28. Price 0 Quantity Trade Barriers Economic Effects of a Protective Tariff or an Import Quota Sd Sd + Q Pd Pt Pw Dd a b Q c d

29. Economic Impact of Quotas • Tariff produces better economic results for the nation’s gov b/c it creates revenue • Net Costs of Tariffs and Quotas: • Price of imported product goes up, higher prices cause consumers to shift to domestic goods, domestic prices go up due to decline in competition

30. Trade Barriers • The Case for Protection: A Critical Review • Military Self-Sufficiency Argument • Diversification-for-Stability Argument • Infant Industry Argument • Counterarguments • Strategic Trade Policy • Protection-Against-Dumping Argument • Dumping • Increased Domestic Employment Argument • Smoot-Hawley Tariff Act • Cheap Foreign Labor Argument

31. The Case for Protection • Military Self-Sufficiency Argument – protective tariffs needed to strengthen industries that produce materials needed for national defense • Diversification-for-Stability Argument – due to the fact that highly specialized economies are dependent on international markets for income (Ex. Saudi Arabia)

32. The Case for Protection • Infant Industry Argument – protective tariffs needed to allow new domestic industries to establish themselves • Protection-against-Dumping Argument – tariffs needed to protect domestic firms from foreign producers selling excess goods in a foreign market below cost (dumping)

33. The Case for Protection • Increased Domestic Employment Argument – “Save US Jobs!” • Cheap Foreign Labor Argument – domestic firms and workers must be shielded from competition from countries where wages are lower (will drop domestic wages)

34. Trade Adjustment Assistance • Trade Adjustment Assistance Act of 2002 • Offshoring –shifting work previously done by U.S. workers to workers overseas • The World Trade Organization (WTO) – oversees trade agreements • The DOHA Round

35. The WTO Protests Last Word • Various Protest Groups Angrily Target WTO • Environmentalists, Socialists, Anarchists • Labor Protections • Environmental Standards • Desire to Liberalize Trade Through Multilateral Negotiations • International Labour Organization (ILO)