International Trade
 Key Concepts:
• Economic Interdependence involves
producers in one nation that depend on
producers in other nations to supple them
with certain goods and services
• Why it Matters: Nations choose to produce
some things and trade for others.
Resource Distribution and Specialization
 Nation’s economic patterns based on factors
of production it has
 Patterns change over time (U.S. agriculture
to technology)
 Specialization occurs when narrow range of
products are made; this leads to:
 Increased productivity and profit
 Economic interdependence-reliance on
others for products not made
Specialization
 Costa Rico exports bananas; wet climate
bananas need
 Relatively low wages are beneficial
 Production is labor intensive
 New Zealand exports wool, lamb and
mutton
 Has temperate climate, H2O, open
grasslands needed for grazing
 Has low population density, scientific
breeding, mechanized processing
David Ricardo: Comparative Advantage
 Trading in Opportunity
 English Economist 1772-1823
 In his time: international trade was based
on absolute advantage
 Ricardo showed nations can benefit from
comparative advantage
 Produce products it can make at lower
opportunity cost that others
Absolute and Comparative Advantage
 Absolute advantage: nation’s ability to
make product more efficiently
 Due to uneven distribution of production
factors in different areas
 Comparative advantage: ability to produce
at lower opportunity cost
 Absolute cost of product not important,
just opportunity cost
Absolute and Comparative Advantage
 Absolute Advantage Examples
 Australia produces more iron ore and steel than China
with same labor
 Australia has absolute advantage
 Before Ricardo, logic held Australia should not trade
for either
 Comparative Advantage Examples
 Law of comparative advantage: countries gain when
produced items they are most efficient at producing
 And are at the lowest opportunity cost
 If Australia’s ratio of steel to iron ore is 1:15 tons and
China’s is 1:3, China has comparative advantage in steel
production
Advantages of Free Trade
 If China, Australia specialize, set trade ratio
steel to iron ore 1:4
 China gets 4 tons of iron ore for 1 of steel
 Australia gets 1 ton of steel for 4 of iron
ore: cost 5 before
 Specialization, trade raise nations’
production ratios, world output
 Increased output is mark of economic
growth
International Trade Affect the National
Economy
 Exports: goods and services produced in
one country, sold in others
 Imports: products produced in one
country, purchased by another
 Costs and benefits of international trade
vary by nation
 Economists examine impact of exports
and imports on prices and quantity.
Impact #1: Exports on Prices and Quantity
 If a country begins exporting product,
foreign buyers increase total demand
 Demand curve shifts right, sets
higher equilibrium price
 Higher prices at home offset by more jobs
and income
 Created by production expanded to
meet demand
Impact #2: Imports on Prices and Quantity
 Imports shift supply curve right, lower
equilibrium price
 Lower prices lead domestic producers to offer
less of the product
 Improve efficiency, worker productivity,
customer service
 Trade gives consumers increased selection of
goods , lower prices
 Gives producers new markets, chance for more
profit
The U.S. in the World Economy
 U.S. is world’s largest exporter; exports more
services than imports
 Tourism, transportation, architecture,
construction, information systems
 Also world’s largest importer; imports more
goods than it exports
 Oil and refined oil products, machinery, raw
materials
 Main trading partners: Canada , China,
Japan
Trade Barriers
 Most nations pass trade limit laws to
protect domestic industries
 Laws lead to higher prices, economic
retaliation by other nations
 In long run, industries can only be saved by
becoming competitive
 Trade restrictions are basically a political
issue
Trade Barriers
 Types of Barriers
 Trade barrier: law limiting free trade
among nations; most mandatory
 Quota: limits on the amount of a product
that can imported
 Dumping: sale of product in other
country at lower price than at home
 Hurts domestic producers; gives
consumers lower prices
Type of Trade Barriers
 Tariff: fee charged for goods brought from
another country
 Revenue tariff: tax on imports, specifically
to raise money
 Rarely used today
 Protective tariff: tax on imported goods to
protect domestic products
 Raise price of goods more cheaply elsewhere
Impact of Trade Barriers
 Trade Barriers may temporarily save
domestic jobs
 Lack of competition promotes
inefficiency, higher prices
 Trade limits can lead to trade war:
 Succession of increasing trade barriers
between nations
Impact of Trade Barriers
 #1: Higher Prices
 Trade barriers raise prices or keep them high
 In 2000, U.S. & Japan set tariffs on S. Korean
semiconductor chips
 Korean and domestic chip prices went up in
U.S. & Japan
 #2: Trade Wars
 Trade wars often result from disagreements
over quotas or tariffs
 Can result over other issues
 EU banned U.S. hormone-treated beef, U.S.
set 100% tax on many EU foods
Arguments for Protectionism
 Protectionism: use of trade barriers to protect
domestic industries
 Purpose: to protect jobs, national security,
infant industries (new industries unable to
compete with larger, established competitors)
Arguments for Protectionism
 #1: Protecting Domestic Jobs
 U.S. workers upset over jobs lost to countries
with cheaper labor
 Trade barriers generally protect inefficient
production, prices higher
 Laid-off voters influenced government to
fund job training programs
Arguments for Protectionism
 #2: Protecting Infant Industries
 Protection expected to allow new
industries to grow until competitive
 Used by developing nations to keep out
goods from developed countries
 Critics say freedom form competition
maintains perpetual infancy;
 And need for perpetual support
Arguments for Protectionism
 #3: Protecting National Security
 National security affects industries considered
vital for safety
 Energy industry considered vital by most
nations
 Political differences exist over which industries
are truly vital
 2006 Dubai forced to abandon deal to operate
several port facilities
 Critics doubted security concerns, worried over
interference with trade
Foreign Exchange Market
Rates of Exchange
 In 1800’s, early 1900’s gold standard determined
value of currencies
 Fixed rate of exchange: nation’s currency
constant in relation to others
 Post WWII to 1970’s: currencies pegged to USD:
1 oz gold = $35
 Flexible rate of exchange (floating rate):
changes along with currency’s supply, demand
 Regulates foreign exchange, balancing
imports and exports
Strong and Weak Currencies
 Trade-weighted value of the dollar -
international value of U.S. dollar
 Measured by Fed
 Weak dollar makes imported goods more
expensive
 Easier for domestic goods to compete
 Exports become cheaper, easier to sell
Strong U.S. Dollar
Balance of Trade
 Balance of Trade: difference between value
of imports and exports
 Balance of payments: all transactions
between nation and rest of world
 Includes government and private
transactions, both trade and investment
 Trade surplus: nation exports more that
imports; favorable balance
 Trade deficit: nation imports more than
exports; unfavorable balance
Balance of Trade
 U.S. –China Trade
 China undergone one of the most rapid
industrialization in history
 Has pegged yuan at fixed rate vs. dollar;
keeping yuan weak
 Made U.S. top destination for Chinese
exports
 China has record trade surplus of $200
billion with U.S.
The U.S. Trade Balance
 1770-1870: U.S. had deficit in products;
surplus in capital investments
 1870-1920: paying back debt; was exporting >
importing
 1920-1945: had surplus in exports; deficit in
foreign investment
 1945-1980: deficit in merchandise; deficit in
foreign investment
 Today: surplus in foreign investment;
merchandise deficit
Modern International Institutions
 Regional and World Organizations
 Free-trade zones: areas where nations
trade without protective tariffs
 Customs unions: agreements that abolish
trade barriers among members
 Establish uniform tariffs for non-members
 Some trade groups called common markets
The European Union
 1957: six European nations created Common
Market: became EU in 1993
 European Union: economic and political
union; no barriers for members
 Euro: currency of the EU; used by 12 of 27
member nations
 EU has 20% of global exports and imports;
worlds biggest trader
 Sets low tariffs; wants to remove all
barriers to international trade
North American Free Trade Agreement
 Adopted 1994 Also known as NAFTA
 Phases out trade barriers between Canada,
Mexico & U.S.
 Has led to specialization, efficiency, expanded
markets, new jobs
 Also competitive advantage over EU and
Japan
 All countries have had economic gain
 Trade has more than doubled
Other Regional Trade Groups
 Various groups formed to specialize, promote free
trade, stay competitive
 Mercosur: South America
 ASEAN: Southean Asian Nations
 APEC: Asian Pacific Market
 SADC: South Africian Development Community
 OPEC (Organization of Petroleum Exporting
Countries)
 OPEC is a cartel
 Group of producers controls production,
pricing, marketing of a product
Other Regional Trade Groups
 World Trade Organization
 1944 Allied nations formed General
Agreement on Tariffs and Trade (GATT)
 WTO formed in 1995 by nations that follow
GATT
 Negotiates, administers trade agreements
 Resolves disputes
 Monitors policies of 149 members
 Gives support to developing countries
 WTO successful to varying degrees
Multinationals Bring Changes
 Key Concepts
 Multinational corporations affect many
different nations
 Must deal with different sets of tariffs,
labor restrictions, taxes
 Often bring jobs and technology to
developing nations
 Boost overall levels of international trade
International Trade W/in Multinationals
 Intrafirm trade is trade between various
divisions of a multinational
 Exchange of goods between two parts of
the company
 Coordination of production between parts
of the multinational
 Materials or parts sent to overseas affiliate
count as exports
 Intrafirm imports count as imports in
balance of trade
Multinational Example
 World Wide Cellular
 Mines raw materials in
Australia
 Manufactures phones in
South Korea
 Markets phones in Europe
 Provides customer service
from India