Scott Wentland wentlandsa@longwood 434-395-2160

Scott Wentland wentlandsa@longwood.edu 434-395-2160 Longwood University201 High StreetFarmville, VA 23901

Intro. to International Econ. Part 1: What is Globalization?

Last lecture: the “national economy” • This lecture: the “global economy” • Globalization • Why do we trade? • How do we measure trade? • Trade agreements and trade barriers • Exchange rates • Strong vs. weak dollar

Our economy is just one (major) economy in the world • The global economy includes ALL economies in all countries around the world • Most individuals within market economies trade or exchange goods and services with one another, across national borders

Globalization: Competition or Cooperation? • We tend to associate globalization with the increase in international trade and commerce. • “Globalization is the advance of human cooperation across national boundaries.” • Markets allow us to specialize, and extend cooperation across borders

Virtually every product you see has taken the cooperation of thousands (millions) or people to bring you that product • Most of them don’t know each other • Don’t speak the same language • Don’t practice the same religion • Or even live in the same country • Made possible by advances in technology, communications, transportation, and trade

Why not make iPhones entirely in the US? • Why not “buy American”? • Globalization and the expansion of international trade has been a net benefit for our economy and the world economy • Why? Trade is a win-win

Intro. to International Econ. Part 2: Trade

Do trade and globalization make us better off? • Very tight link between the wealth & (freer) trade and openness to globalization • Openness  Wealth • Trade Openness Index: • Most open = highest real incomes, highest growth • Least open = lowest real incomes, lowest growth (The graphs in the proceeding slides are from the book Globalization by Donald Boudreaux.

Trade: paying someone else for something you can do yourself • So, how does this make us richer?

Trade allows us to specialize • Specialization allows us to focus on the work we do well. The people with whom we trade can focus on the work they do well. • Collectively, the world produces more and the world is more prosperous. • Above summarizes the main insights from Adam Smith’s theory of trade (sometimes called the Theory of Absolute Advantage) • Example: US is best at making airplanes, Japan is best at making cars • We specialize and focus our resources in certain areas • Then, we trade, and the size of the “pie” is larger

What if the US is not the “best” at anything? • Can we still benefit from trade? • YES. Trade and specialization allows us to focus on what we do relatively well • David Ricardo, British economist (1772-1823) • He explained that a country being “the best” or “good” at producing something was irrelevant. Both sides can benefit from trade even if one side is better at producing everything. • Theory of Comparative Advantage

Manager/secretary example • Suppose you have two main things to get done: typing and managing • When you’re typing, it means you’re not managing • Managing is the opportunity costof typing • Opportunity cost = forgone alternative • Suppose I have an absolute advantage in both typing and managing, should I hire a secretary? • I have a comparative advantage in managing • An hour of typing costs a manager an hour of managing. • May have to pay $10 to secretary, but has to forgo $25 for managing

“Time is the ultimate scarce resource. You should use your time wisely. Trying to do everything yourself is actually expensive – it means taking time away from those things you do relatively well.” • Trade is not just about what you do best • According to the Theory of Comparative Advantage, all countries benefit from trade, because trade will allow us to specialize and create a win-win • More on the Theory of Comparative Advantage in International Economics…

Comparative Advantage & Tiger Does Tiger Woods mow his own lawn?

Intro. to International Econ. Part 3: Trade, Balance of Payments, and Exchange Rates

A country’s balance of payments: • Current Account (typically the trade balance) • Imports & Exports of goods & services • Income paid/received to/from foreigners • Unilateral transfers • Capital Account • Net flows of financial assets • Like stocks & bonds • Direct investment • Most include official international reserves in here

In any given year, a country may have a trade deficit or trade surplus • Trade deficit: Imports > Exports • Trade surplus: Exports > Imports • Should we worry a lot about trade flows? • Running a trade deficit with China? • The trade flows can be a little misleading • A trade deficit is not necessarily debt (not like a fiscal deficit) • Openness to trade is the important thing, deficits and surpluses will fluctuate  not really a big deal

While economists generally support free trade, not everyone is on board with it • Businesses don’t like competition • Union labor doesn’t like foreign competition • People misunderstand the benefits and costs of trade • Governments sometimes enact trade barriers • Tariffs: taxes on foreign goods (imports) • Quotas: quantity restrictions on imports

Trade barriers • Make trade more costly, reducing trade • Result: • We gain some jobs • We lose jobs • Consumers pay a lot more for products • NET EFFECT: bad for the economy

Policymakers (after listening to their economic advisors) generally acknowledge that trade has benefits on net • But has pressures from constituents to erect trade barriers • Solution: trade agreements • Countries may sign a treaty to agree to lower trade barriers • Example: North American Free Trade Agreement (NAFTA) • Result: increase trade and tie policymakers hands thereafter

What is the exchange rate? • Price of money • Often quoted in $/Foreign Currency • $1.7 / £ like $10 / movie ticket • You can think of the foreign currency as a good • Sometimes quoted Foreign Currency / $ • £ 0.566 / $ (this is just 1/$1.7, or the reciprocal) • In order to make an exchange, both sides want something they can use • You may not be able to use £, so you want $...

Who wants a strong or weak currency? • Strong currency  imports are cheap • £100 sweater: $200 when $ is weak, $160 when strong • Importers (consumers) want a strong currency • Weak currency  exports are cheap (to foreigners) • $100 jeans: £50.00 when $ is weak, £62.50 when strong • Exporters (producers) want a weak currency • Except producers who buy inputs from overseas • Imports (their competition) are expensive • Foreigners would want to buy our stuff • Is a strong currency necessarily better? • No, it usually just a symptom of low inflation and/or high GDP growth (not a cause!)

Free trade and globalization makes us wealthier or better off • Theory of Comparative Advantage • Trade barriers, limiting trade by restricting quantity or increasing price of foreign goods, make us worse off • Globalization and international trade are incredibly important topics • More on this in an International Economics course

http://en.wikipedia.org/wiki/International_economics http://en.wikipedia.org/wiki/International_trade http://en.wikipedia.org/wiki/Comparative_advantage http://en.wikipedia.org/wiki/Exchange_rates

Scott Wentland wentlandsa@longwood 434-395-2160