Ch. 32: International Trade

Del Mar College

John Daly©2003 South-Western Publishing, A Division of Thomson Learning

What Does the U.S. Export and Import?

• Exports: automobiles, computers, aircraft, corn, wheat, soybeans, scientific instruments, coal, and plastics.

• Imports: petroleum, automobiles, clothing, iron and steel, office machines, footwear, fish, coffee, and diamonds.

Comparative Advantage

• Comparative Advantage: The situation in which a country can produce a good at a lower opportunity cost than another country.

• Countries specialize in the production of the good in which they have a comparative advantage

Comparative Advantages

• After they have specialized in production, the two countries must settle on the terms of trade.

• A country gains by specializing in producing and trading the good in which it has a comparative advantage

• It is individuals’ desire to earn a dollar, a franc, or a pound that determines the pattern of international trade. The desire to earn a profit determines what a country specializes in and trades.

Why Do People In Different Countries Trade with One Another?

• International trade exists for the same reasons that trade at any level exists: individuals trade to make themselves better off.

• Some countries will be able to produce some goods that other countries cannot produce or can produce only at extremely high costs.

Production Possibilities in Two CountriesThe United States

and Japan can produce the two goods in the combinations shown. Initially, the United States is at point B on its PPF and Japan is at point B on its PPF. Both countries can be made better off by specializing in and trading the good in which each has a comparative advantage

Q & A• Suppose the United States can produce 120 units

of X at an opportunity cost of 20 units of Y, and Great Britain can produce 40 units of X at an opportunity cost of 80 units of Y. Identify favorable terms of trade for the two countries.

• If a country can produce more of all goods than any other country, would it benefit from specializing and trading? Explain your answer.

• Do government officials analyze data to determine what their country can produce at a comparative advantage?

Trade Restrictions

• Specialization and international trade benefit individuals in different countries. But this benefit occurs on the net. Every person may not gain.

• Consumers’ Surplus = Maximum Buying Price – the Price Paid.

• Producers’ Surplus = Price Received – Minimum Selling Price

Consumers’ and Producers’

Surplus

(a) Consumers’ Surplus. As the shaded area indicates the difference between the maximum or highest amount consumers would be willing to pay and the price they actually pay is consumers’ surplus. (b) Producers’ surplus. As the shaded area indicates, the difference between the price sellers receive for the good and the minimum or lowest price they would be willing to sell the good for is the producers’ surplus.

Tariffs

• A Tariff is a tax on imports. The primary effect of a tariff is to raise the price of imported goods to the domestic consumer.

• Consumers receive more consumers’ surplus when tariffs do not exist and less when they do.

• Producers receive less producers’ surplus when tariffs do not exist and more when they do exist.

• The effects of the tariff area a decrease in consumers’ surplus, an increase in producers’ surplus, and tariff revenues for government.

The Effects of a Tariff

A tariff raises the price of cars from PW to PW + T, decreases consumers’ surplus, increases producers’ surplus, and generates tariff revenues. Because consumers lose more than producers and government gain, there is a net loss due to the tariff.

Quotas

• A Quota is a legal limit on the amount of a good that may be imported.

• A quota reduces the supply of a good and raises the price of imported goods to domestic consumers.

• The effects of a quota are a decrease in consumers’ surplus, an increase in producers’ surplus, and an increase in total revenue to the importers who sell the allowed number of imported units.

• Because the loss to consumers is greater than the increase in producers’ surplus plus the gain to importers, there is a net loss as a result of the quota.

The Effects

of a Quota

A quota that sets the legal limit of imports at Q4-Q3 causes the price of cars to increase from PW to PQ. A quota raises price, decreases consumers’ surplus, increases producers’ surplus, increases the total revenue importers earn. Because consumers lose more than producers and importers gain, there is a net loss due to the quota

Why Nations Restrict Trade

• National Defense Argument: Certain industries should remain based in our country, especially if they manufacture items vital to our defense. Items this has been argued for include: pens, pottery, peanuts, papers, candles, thumbtacks, tuna fishing, and pencils.

• Infant Industry Argument: New industries must be protected from older, established foreign competitors until they are mature enough to compete. However, removing that protection is almost impossible.

Why Nations Restrict Trade (cont.)

• Antidumping Argument: Dumping is the sale of goods abroad at a price below their cost and below the price charged in the domestic market. A foreign competitor could wipe out a market by dumping their products in America.

• Foreign – Export – Subsidies Argument: Some governments subsidize the firms that export goods. Firms hold that this forces them to compete with both the firm and the government in question. Usually, the ones complaining are the domestic producers who can’t sell their goods at as high a price because of the gift domestic consumers are receiving from foreign governments.

Why Nations Restrict Trade (cont.II)

• Low Foreign Wages Argument: American producers can’t compete with foreign producers because American producers pay high wages to their workers and foreign firms pay low wages. A country’s low wage advantage may be offset by its productivity disadvantage. High wages means High productivity. Low wages mean low productivity.

• Saving Domestic Jobs Argument: This argument is actually most of the previous arguments but in disguise. Critics often argue that if a domestic producer is being out-competed by foreign producers and domestic jobs in a particular industry are being lost as a result, the world market is signaling that those labor resources could be put to better use in an industry in which the country holds a comparative advantage.

What Price Jobs?

Important Questions to ask about “Saving Jobs”:

1. How many domestic jobs in the firms that produce good X are being saved because of the tariff?

2. How much do consumers have to pay in higher prices to save those jobs?

What Price Jobs?

“Voluntary” Export Restraint (VER) is an agreement between two countries in which the exporting country “voluntarily” agrees to limit its exports to the importing country.

World Trade Organization• “[The WTO’s] overriding objective is to help

trade flow smoothly, freely, fairly, and predictably.”

• It does these things by administering trade agreements, acting as a forum for trade negotiation, settling trade disputes, reviewing national trade policies, assisting developing countries in trade policy issues, and cooperating with other international organizations.

• The WTO, in theory, is supposed to lead to freer international trade, and there is some evidence that is has done just this.

• Critics often say that it has achieved this objective at some cost to a nation’s sovereignty.

Q & A

• Who benefits and who loses from tariffs? Explain your answer.

• Why don’t domestic consumers regularly lobby against quotas and tariffs?

• What is a major difference between the effects of a quota and the effects of a tariff.

• Although there is a net loss (to society) from tariffs, tariffs exist in the real world. Why?