CH 16 - International Trade and Exchange Rates
what are the determinants of exchange rates?
- change in tastes - relative income changes - relative price-level - relative interest rates - relative expected returns on assets - speculation
what are the indirect effects of tariffs?
- tariffs have a subtle effect beyond those just mentioned - they also hurt domestic firms tha use the protected goods as inputs in their production process - tariffs reduce compeition in the protected industries. * with less competition from foreign producers, domestic firms may be slow to design and implement cost-saving production methods and introduce new products. * tariffs cause resources to be shifted in the wrong direction. we know that specialization and world trade lead to more efficient use of world resources and greater world output. but, protective tariffs reduce world trade. therefore, tariffs also reduce efficiency and the world's real output.
protection raises the price of product in three ways
1. the price of the imported product goes up 2. the higher price of imports causes some consumers to shift their purchases to higher-priced domestically produced goods 3. the prices of domestically produced goods rise because import competition has declined. conclusion: the gains that U.S trade barriers produce for protected industries and their workers come at the expense of much greater losses for the entire economy. the result is economic inefficiency, reduced consumption, and lower standards of living.
Suppose that the current Canadian dollar (CAD) to U.S. dollar exchange rate is $0.80 CAD = $1 U.S. and that the U.S. dollar price of an Apple iPhone is $340. What is the Canadian dollar price of an iPhone? Next, suppose that the CAD to U.S. dollar exchange rate moves to $0.92 CAD = $1 U.S. What is the new Canadian dollar price of an iPhone? Other things equal, would you expect Canada to import more or fewer iPhones at the new exchange rate?
272 CAD 312.80 CAD Fewer The exchange rate is $0.8 Canadian dollars for $1 U.S dollar. As a simple example, assume a candy bar costs $1 in the U.S. An individual with $0.8 Canadian could use this to purchase a U.S. dollar and buy the candy bar. Thus, the candy bar only costs $0.8 in Canadian dollars (=0.8 x $1). We apply the same logic to the iPhone. The iPhone costs $340 U.S. dollars, which implies it costs $272 Canadian dollars (=0.80 x $340). If the CAD to US dollar exchange rate moves to $0.92 CAD = $1 US, the price of the iPhone increases for Canadians (or individuals with Canadian currency) to $312.80 Canadian dollars (= 0.92 x $340). Since the price of the iPhone increases for Canadians (the Canadian currency has depreciated), they will likely buy fewer iPhones.
suppose that real interest rates rise in the U.S but stay constant in GB...
British citizens will then find the U.S a more attractive place in which to loan money directly or loan money by buying bonds. to make these loans, they will have to supply pounds in the foreign exchange market to obtain dollars. the increase in the supply of pounds results in depreciation of the pound and appreciation of the dollar.
What country is the United States' most important trading partner, quantitatively?
Canada
Assume that the comparative-cost ratios of two products—baby formula and tuna fish—are as follows in the nations of Canswicki and Tunata: Canswicki: 1 can baby formula = 2 cans tuna fish Tunata: 1 can baby formula = 4 cans tuna fishIn what product should each nation specialize?
Canswicki should produce baby formula , and Tunata should produce tuna The opportunity cost of producing 1 can of baby formula in Canswicki is 2 cans of tuna fish. The opportunity cost of producing 1 can of baby formula in Tunata is 4 cans of tuna fish.Since the opportunity cost of producing baby formula is lower in Canswicki, this implies Canswicki should produce baby formula. This also implies that Tunata should specialize in producing tuna.
With which country does the United States have the largest current trade deficit?
China
Who benefits and who loses from protectionist policies?
Domestic producers gain from protection, and domestic consumers lose from protection.
What measures do governments take to promote exports and restrict imports?
Governments promote exports through the provision of subsidies to exporters, and they restrict imports through tariffs and import quotas
nontariff barriers
Include onerous licensing requirements, unreasonable standards pertaining to product quality, or excessive bureaucratic hurdles and delays in custom procedures
tariffs
Taxes on imported goods
Assuming a system of flexible exchange rates between Mexico and the United States, indicate whether each of the following would cause the Mexican peso to appreciate or depreciate: The United States unilaterally reduces tariffs on Mexican products... Mexico encounters severe inflation... Deteriorating political relations reduce American tourism in Mexico... The U.S. economy moves into a severe recession... The United States engages in a high-interest-rate monetary policy... Mexican products become more fashionable to U.S. consumers... The Mexican government encourages U.S. firms to invest in Mexican oil fields...
The peso will appreciate. The peso will depreciate. The peso will depreciate. The peso will depreciate. The peso will depreciate. The peso will appreciate. The peso will appreciate.
when the dollar depreciates ...
U.S exports rise and U.S imports fall; when the dollar appreciates (dollar price of foreign currencies falls), U.S exports fall and U.S imports rise.
Foreign Exchange Market
a market in which various national currencies are exchanged for one another
when does a nation have comparitive advantage?
a nation has a comparative advantage in some product when it can produce that product at a lower opportunity cost than can a potential trading partner.
with a tariff...
a product can go on being imported on large quantities
what is a voluntary export restriction?
a trade barrier by which foreign firms "voluntarily" limits the amount of their exports to a particular country. exporters agree to a VER, which as the effects of an import quota, to avoid stringent trade barriers.
with an import quota...
all imports are prohibited once the quota is filled
The supply of pesos to Americans is upward sloping because as the peso
appreciates in value, U.S. goods become cheaper to Mexicans. They buy more dollars, supplying a larger quantity of pesos.
what is the direct effect of a tariff?
because tariffs raise the price of goods imported to the U.S, U.S consumption of those goods declines. Higher prices reduce quantity demanded. A tariff prompts consumers to buy fewer of the imported goods and reallocate a portion of their expenditures to less desired substitute products.
The U.S. demand for Mexican pesos is downsloping because when the peso
depreciates in value, the United States finds Mexican goods less expensive, purchasing more of them and demanding more pesos.
dollar price of foreign currency decreases =
dollar appreciates to the foreign = foreign currency price of dollar increases = foreign currency depreciates relative to the dollar
dollar price of foreign currency increases =
dollar depreciates relative to the foreign currency = foreign currency price of dollar decreases = foreign currency appreciates relative to the dollar
a trade surplus occurs when...
exports exceed imports
what is the true benefit created by international trade?
extra output obtained from abroad- the lower imports obtained for a lower opportunity cost than if they were produced at home.
appreciation
fewer units of dollars to buy a single unit of some other currency
specialization based on comparative advantage improves what?
global resource allocation. the same total inputs of world resources and technology result in a larger global output.
In general, trade blocs are
good for world trade.
what can specialization and exchange result in?
greater overall output and income.
a trade deficit occurs when...
imports exceed exports
Consider: "Free-trade zones such as the EU and NAFTA lead a double life: They can promote free trade among members, but they pose serious trade obstacles for nonmembers." Free-trade zones...
increase the efficient use of resources within the zones but can result in a less efficient allocation of resources in the larger global economy.
Over the past few decades offshoring has
increased to countries with an educated labor force such as India.
If the European euro were to depreciate relative to the U.S. dollar in the foreign exchange market, would it be easier or harder for the French to sell their wine in the United States? Suppose you were planning a trip to Paris. How would depreciation of the euro change the dollar cost of your trip?
it would be easier for the French to sell wine in the U.S it would be less costly for Americans to travel to France
a nation's currency is likely to depreciate if....
its growth of national income is more rapid than that of other countries
import quota
limits on the quantities or total value of specific items that may be imported on some period.
Depreciation
more units of dollars are needed to buy a single unit of some other currency
the large U.S trade deficits place downward pressure...
on the exchange value of the U.S dollar. the surge of imports requires the U.S to supply dollars in the currency market in order to obtain the foreign currencies required for purchasing the imported goods. that flood of dollars into the currency market causes the dollar to depreciate relative to other currencies.
who are currency speculators?
people who buy and sell currencies with an eye toward re-selling or repurchasing them at a profit.
The WTO
provides a forum for the trade blocs to meet and negotiate further reductions in trade barriers.
Rising costs will
reduce the motive for specialization.
Offshoring of white-collar service jobs
refers to jobs relating to data entry, book composition, and software coding.
In percentage terms, our exports of goods and services are
small when compared to other industrialized countries.
suppose that as a group, speculators anticipate that the pound will appreciate and the dollar will depreciate...
speculators holding dollars will therefore try to convert them into pounds. this effort will increase the demand for pounds and cause the dollar price of pounds to rise (that is, cause the dollar to depreciate). a self-fulfilling prophecy occurs: the pound appreciates and the dollar depreciates because speculators act on the belief that these changes will in fact take place.
which trade organizaition has abolished tariffs and import quotas on nearly all products traded among the participating nations and established a common system of tariffs applicable to all goods received from nations.
the European Union.
U.S. firms will support trade liberalization if
the U.S. companies producing products will be able to sell more of their products outside of the U.S.
any changes in consumer tastes or preferences for the products of a foreign country may alter...
the demand for that nation's currency and change its exchange rate.
what does the cheap-foreign-labor agrument say?
the government must shield domestic firms and workers from the ruinous competition of countries where wages are low. if protection is not provided, cheap imports will flood U.S market and the prices of U.S goods - along with the wages of U.S workers - will be pulled down.
specialization and international trade increase...
the productivity of a nations resource and allows for greater total output than would otherwise be possible.
exchange rate
the rate at which the currency of one nation can be exchanged for the currency of another nation.
what is dumping?
the sale of a product in a foreign country at prices either below cost or below the prices commonly charged. - economists cite two plausible reasons for this behavior: 1. with regard to below-cost dumping, firms in country A may dump goods at below cost into Country B in an attempt to drive their competitors in Country B out of business. 2. if the firms in country A succeed in driving their competition in country B out of business, they will enjoy monopoly power and monopoly prices and profits on the goods they subsequently sell in country B
what do tariffs do to free trade?
these tariffs impede free trade by increasing the prices of imported goods and therefore shifting sales toward domestic producers.
why is a protective tariff implemented?
to shield domestic producers from foreign competition
Consider the following statement: "A country that grows faster than its major trading partners can expect the international value of its currency to depreciate." This statement is...
true. High economic growth rates will increase real income and imports, lowering the demand for domestic currency, causing the value of the domestic currency to decline.
Consider the following statement: "A country's currency will appreciate if its inflation rate is less than that of the rest of the world." This statement is
true. If a country's inflation rate is lower than rates in other countries, the foreign prices of its products will decline relative to foreign-made products, increasing exports and the supply of foreign currency, causing the country's currency to appreciate.
Consider the following statement: "A nation whose interest rate is rising more rapidly than interest rates in other nations can expect the international value of its currency to appreciate." This statement is
true. If domestic real interest rates are increasing more quickly than those in other countries, foreign financial investment will be attracted to the country, causing a rise in the supply of foreign currency and an appreciation of the country's currency.
U.S. labor unions will support trade liberalization if
union workers working for companies that are expanding due to international trade will experience an increase in job opportunities.
when is specialization and trade mutually beneficial or "profitable" to two nations?
when the comparitive costs of producing the two products within the two nations differ
