Chapter 2 and 33 International Trade

Benjamin Franklin

"No nation was ever ruined by trade."

Calculate Comparative & Absolute advantage

1 Make a table, comparing the numbers of certain products that can be produced by a worker in different countries. 2 Look at the larger numbers for each product. The country with the larger number for a given product has absolute advantage in producing that product. 3 Calculate the opportunity cost for one product by finding the opportunity cost of producing one unit of a given product in both countries. The country with the lowest opportunity cost has comparative advantage.

The table shows the total quantities of wheat and corn that Country A and Country B can produce, exhausting all their resources. If the two countries engage in trade following the principle of comparative advantage, what is the maximum quantity of the two goods that can be produced?

300 bushels of wheat and 600 bushels of corn Country A has an absolute advantage in wheat production Country A has a comparative advantage in wheat production Country B should specialize in corn production

Gain from trade

A country that can consume more than it can produce as a result of specialization and trade Gains from trade can occur even if one of the trading partners has an absolute advantage in the production of both goods.

production possibilities frontier

A downward-sloping, linear production possibilities frontier implies that opportunity costs are constant.

Absolute Advantage

Absolute advantage simply compares the productivity of a worker between countries. Absolute advantage in all goods is typical for high-income countries that often have well-educated workers, technologically advanced equipment, and the most up-to-date production processes.

competitive pressure

America's car producers make far better cars now than they did several decades ago, and much of the reason is competitive pressure, especially from East Asian and European carmakers.

economies of scale

High-income economies simultaneously export and import similar goods to take advantage of economies of scale. Such a pattern of trade provides variety to consumers. The concept of economies of scale means that as the scale of output goes up, average costs of production decline—at least up to a point.

Value chain

How a good is produced in stages The value chain describes how a good is produced in stages.

opportunity costs

In a two-country, two-commodity model, the opportunity costs of the two commodities help to identify the range of possible trades that would benefit each country.

Intra-industry trade

International trade of goods within the same industry A high proportion of trade between similar high-income economies is called intra-industry trade. For example, the United States produces and exports autos to other high-income economies but also imports autos from some of these economies. In intra-industry trade, the level of worker productivity is determined by how firms engage in specific learning about specialized products.

effects of international trade

It leads to the transfer of knowledge between countries It leads to a greater degree of competition among producers International trade based on the principles of comparative advantage increases total output because specialization makes workers more productive. The potential for gains from international trade may be especially high among the lower-income countries of the world. To understand the economic logic behind international trade, you have to accept that trade is about mutually beneficial exchange. As a worker, if your job is involved with farming, machinery, airplanes, cars, scientific instruments, or many other technology related industries, the odds are good that a hearty proportion of the sales of your employer—and hence the money that pays your salary—comes from export sales. We are all linked by international trade, and the volume of that trade has grown dramatically in the last few decades.

Splitting up the value chain

Many of the different stages of producing a good happen in different geographic locations The production of the iPhone involves the design and engineering of the phone in the United States, parts supplied from Korea, the assembly of the parts in China, and the advertising and marketing done in the United States. This is an example of a recent trend in international trade called splitting up the value chain.

Paul Krugman

New Trade Theory "It is a late-twentieth-century conceit that we invented the global economy just yesterday. In fact, world markets achieved an impressive degree of integration during the second half of the nineteenth century. Indeed, if one wants a specific date for the beginning of a truly global economy, one might well choose1869, the year in which both the Suez Canal and the Union Pacific railroad were completed. By the eve of the First World War steamships and railroads had created markets for standardized commodities, like wheat and wool, that were fully global in their reach. Even the global flow of information was better than modern observers, focused on electronic technology, tend to realize: the first submarine telegraph cable was laid under the Atlantic in 1858, and by 1900 all of the world's major economic regions could effectively communicate instantaneously."

Tariffs

Taxes that governments place on imported goods Act as a Trade Barrier Traditionally, tariffs were used simply as a political tool to protect certain vested economic, social, and cultural interests.

Globalization

The first wave of globalization started in the nineteenth century and lasted up to the beginning of World War I. Over that time, global exports as a share of global GDP rose from less than 1% of GDP in 1820 to 9% of GDP in 1913.

Absolute & Comparative advantage

The table shows the total quantities of wheat and corn that Country A and Country B can produce by exhausting each of their respective farming resources (both countries have the same amount of resources). Refer to the table and identify the correct statement. Country A: 300 wheat 200 corn Country B: 100 wheat 600 corn A has an absolute & comparative advantage in wheat production B should specialize in corn production 300 wheat 600 corn maximum

Absolute advantage

When one country can use fewer resources to produce a good compared to another country; when a country is more productive compared to another country A country's ability to produce a good using fewer resources than other countries

Country A was producing 1,000 laptops and 15,000 shirts before specialization and trade. It then shifted production toward its comparative advantage and started producing 500 laptops and 30,000 shirts. According to Ricardo's theory of comparative advantage, it will benefit from trade if it can

export fewer than 15,000 shirts for at least 500 laptops

trade barriers

to protect sensitive domestic industries to prevent dumping removed by the World Trade Organization

World Trade Organization

trade restrictions are removed by the World Trade Organization organization committed to lowering barriers to trade

David Ricardo

Businessman, economist, and member of the British Parliament; wrote a treatise called Onthe Principles of Political Economy and Taxation; Argued that specialization and free tradebenefit all trading partners, even those that may be relatively inefficient

comparative advantage

Comparative advantage can be dynamic—that is, it can evolve and change over time as new skills are developed and as the value chain is split up in new ways.

Theory of Comparative Advantage

explains why countries trade: they have different comparative advantages. The theory of comparative advantage suggests that trade should happen between economies with large differences in opportunity costs of production. Roughly half of all world trade involves shipping goods between the fairly similar high-income economies of the United States, Canada, the European Union, Japan, Mexico, and China Instead of production in a single large factory, the phenomenon by which the steps to create a product are divided up among different firms operating in different places and even different countries is called splitting up the value chain.