International Trade
P
S
Pt
Pe
D
Q
Different Effects between Import Quotas
and Import Tariffs
Quota
Tariff
• tariff revenue goes to
the government of the
importing country
•
government of the
importing
country,
government of the
exporting country or
producers
allotted
quotas
may
gain
(depends on how the
quotas are allotted)
Tariff
Quota
• domestic producers also
benefit
because
of
higher price
•
domestic
producers
may benefit because of
higher selling price
• domestic consumers will
lose because now they
have to pay a higher
price
•
domestic consumers
will lose because now
they have to pay a
higher price
Tariff
• foreign producers will
lose because they now
sell less
Quota
•
foreign producers may
gain because of higher
selling price
Tariff
Quota
• the quantity of import
reduction depends on
the level of tariffs
imposed as well as the
elasticities of supply and
demand
•
the quantity of import
reduction is more
definite with quotas
Purchasing Power Parity Theory
• The Purchasing Power Parity Theory states that
the exchange rate between any two currencies will
adjust to reflect the difference in the price levels of
the two countries.
• The Purchasing Power Parity Theory implies that
domestic inflation will be reflected in exchange
rate movements.
Example
a piece of cake
Pd = HK$7.8
Pf = US$1
e = Pd/Pf = HK$7.8/ US$1
Suppose Hong Kong suffers from inflation
and all the prices increase.
Pd’ = HK$9
Pf = US$1
e = Pd/Pf = HK$7.8/ US$1
Now how can you grasp this opportunity to
make money?
Pd’ = HK$9
Pf = US$1
e = Pd/Pf = HK$7.8/ US$1
Buy a piece of cake in ____ (which costs
you ______)
sell it to __________ consumers (you get
______)
Pd’ = HK$9
Pf = US$1
e = Pd/Pf = HK$7.8/ US$1
Buy a piece of cake in US (which costs you
US$1)
sell it to Hong Kong consumers (you get
HK$9). Then you earn HK$1.2.
(US exports increase and HK import increase)
Pd’ = HK$9
Pf = US$1
e = Pd/Pf = HK$7.8/ US$1
Because of the arbitrage, the demand for US
currency increases and the supply of Hong
Kong currency increases. This will lead to
depreciation of HK currency.
Pd’ = HK$9
Pf = US$1
e1 = HK$8/ US$1
Suppose Hong Kong currency depreciates
and the new exchange rate is HK$8/ US$1.
Will the process of arbitrage go on? When
will it stop?
Pd’ = HK$9
Pf = US$1
e2 = Pd’/Pf = HK$9/ US$1
The process of arbitrage will stop when the
exchange rate equals Pd’/Pf . At this level,
the exchange rate has adjusted to the
difference in the price level of the two
countries.
Why the Purchasing Parity
Theory may not Hold
1.Absence of Trade
2.Presence of non-tradables
3.Presence of different price indices
4.Presence of transaction costs
AL 87/9
Y
Y
200
50
X
X
100
100
AL 91/3
R
I
Food
B
T
I’
A
D
Clothing
T’
AL 91/3
I
R
Food
IN
B
S
T
I’
B’
A
IN’
S
’
Clothing
T
’
R’