L18: International Trade

What helps create gains to trade?

* Comparative advantage * Specialization * Economies of scope Comparative advantage means that each country will be more efficient at producing a good than the other country. The countries will each specialize in the good they have a comparative advantage in. This specialization allows the countries to jointly make more of both goods than either could on its own, which is an example of an economy of scope. The efficiency gains from this economy of scope in production will lead to gains from trade for both countries.

If Country A produces only cars then it can produce 100 cars. If Country A produces only planes then it can produce 50 planes. If Country B produces only cars then it can produce 20 cars. If Country B produces only planes then it can produce 40 planes. The production possibility curves are linear for both countries. What's true about comparative advantages?

* Country A has a comparative advantage in cars * Country B has a comparative advantage in planes Country A has a comparative advantage in cars, because the opportunity cost of producing one car for Country A is .5 planes while the opportunity cost of producing one car for Country B is 2 planes. Country B has a comparative advantage in planes, because the opportunity cost of producing one plane for Country B is .5 cars while the opportunity cost of producing one plane for Country A is 2 cars.

What are the welfare implications of opening up to rose imports?

* Domestic consumer surplus increases, domestic producer surplus decreases * Social welfare effects are positive Domestic consumers benefit from lower prices and higher consumption. Domestic producers lose from lower prices and lower output. Overall, the gains to consumers outweigh the losses to producers as shown in the lecture video.

Opening up the rose market to imports causes...

* Domestic consumers to buy more roses * Domestic prices to decrease * Domestic producers to produces less Opening up the market allows consumers to access the world supply of roses. This increase in supply will lower the price and increase the quantity demanded. The lower price will also induce domestic producers to produce less.

What are possible problems with free trade?

* Free trade has equity concerns (losers may not be compensated) * Free trade may undermine environmental protection policies * Free trade may undermine labor policies As shown in the previous examples, free trade creates both winners and losers. Overall, there will be more benefits than costs, so the country should be able to compensate the losers, but generally this does not happen. Additionally, some countries create their comparative advantage through environmental or labor policies that the country may not want to support and trading with them only increases the effect of these policies. Trade reduces deadweight loss and increases competition, so A. and B. are incorrect.

What are the effects of tariffs?

* Higher domestic prices * Government revenue increases By taxing imports, tariffs shift the global supply curve, which raises the price of the good. Domestic production increases and domestic consumption decreases because of the higher price. Since the remaining imports are taxed, government revenue also increases.

Relative to autarky, if Country A with comparative advantage in cars trades with Country B with comparative advantage in planes, which country will produce more what, and what's up with the social welfare?

* Social welfare in both countries will increase * Country A will produce more cars * Country B will produce more planes Country A will specialize in cars, because they have the comparative advantage in cars. Country B will specialize in planes, because they have the comparative advantage in planes. Both countries will benefit, because this specialization will lead to economies of scope.

What are the effects of allowing domestic computer producers to export?

* Social welfare increases * Domestic production increases Computer producers can now sell to the entire world, so computer demand increases. This demand increases raises the prices and raises domestic production. The higher price reduces domestic consumption. Consumers are hurt, but producers benefit even more, so social welfare increases.

The trade policy of tariffs institutes ______ on imports. The trade policy of quotas institutes ______ on imports.

* Specific taxes * Quantity limits

What are the downsides of tariffs?

* Trade wars may start * Generally, domestic social welfare decreases * Social welfare of other countries decreases Tariffs on other country's imports could cause those countries' to retaliate with their own tariffs, which would hurt domestic producers. Even on their own, the loss to consumers from tariffs generally outweighs the gains to producers and increases in government revenue. The increased domestic production is an effect of tariffs, but is generally not seen as a downside.

"Autarky" is the state of...

... no international trade.

Country A has a comparative advantage in good X over Country B if...

...Country A has a lower opportunity cost for producing good X than Country B. Comparative advantage refers to relative opportunity cost of producing a good. The demand of consumers is irrelevant. Economies of scope are typically irrelevant. Even if Country A can produce more of good X than Country B, it does not necessarily mean they have a comparative advantage, because comparative advantage refers to the efficiency with which a country can produce the good relative to other goods rather than the absolute amount that a country can produce.

Domestic supply is described by 𝑃=1+𝑄𝑠, where 𝑄𝑠 is the domestic quantity supplied. Domestic demand is described by 𝑃=10−𝑄𝑑, where 𝑄𝑑 is domestic quantity demanded. The world price is 9. How many exports will there be with free trade?

7. If the world price is 9, then the quantity demanded will be 1 and the quantity supplied will be 8. Thus, domestic suppliers will sell 1 in the domestic market and export 7.

Professor Gruber has a(n) (comparative or absolute advantage) over LeBron James in ______ relative to ____.

Comparative advantage, lawn mowing, basketball. LeBron James is a superior physical athlete than professor Gruber, so he has an absolute advantage over professor Gruber in both basketball and lawn mowing. However, the extent to which LeBron is a better basketball player is much larger than the extent to which he is a better lawn mower. Professor Gruber's lower opportunity cost of lawn mowing means that he has the comparative advantage in lawn mowing.

According to lecture, the United States has a trade ___.

Deficit. According to the lecture, the United States has around a $50 billion trade deficit, because it exports around $200 billion and imports around $250 billion.

What are the origins of comparative advantage?

Factor endowments, technology Comparative advantage can come from factor endowments, because some countries will have more of a given good than other countries, which lowers the opportunity cost of supplying that good. Professor Gruber gave the example of Canada having a comparative advantage in wood because they have a lot of trees. Comparative advantage can also come from technology, because knowing how to make a good efficiently can lower the opportunity cost of supplying that good. Professor Gruber gave the example of Japan having a comparative advantage in cars because they know how to make cars efficiently. Comparative advantage exists even without trade and specialization. Trade and specialization are simply ways to take advantage of one's comparative advantage.