International Economics
By Robert J. Carbaugh
9th Edition
Chapter 3:
International Equilibrium
Copyright ©2004, South-Western College Publishing
Bringing demand into the model
Indifference curves
 Final pattern of trade depends not just on
supply, but also on demand - which is
determined by income & individual tastes
 Tastes can be shown graphically with
indifference curves, which show the various
combinations of two goods that give a
consumer the same total level of
satisfaction
Carbaugh, Chap. 3
2
Bringing demand into the model
A consumer’s indifference map
Carbaugh, Chap. 3
3
Bringing demand into the model
Indifference curves (cont’d)
 Indifference curves have a negative slope
 Keeping satisfaction constant means giving up
some of one good for more of another
 Indifference curves are convex
 As the consumer gets more of one good, she is
less willing to give up what is left of the other
 The rate of substituting one good for another is
shown by the slope of the curve, the marginal
rate of substitution
Carbaugh, Chap. 3
4
Bringing demand into the model
Indifference curves (cont’d)
 “Higher” indifference curves (those farther
from the origin) represent greater levels of
satisfaction
 Individual preferences cannot really be
added up into a “community indifference
curve” but it is useful to imagine that they
can for the purposes of trade theory
Carbaugh, Chap. 3
5
Bringing demand into the model
Indifference curves and int’l. trade
Carbaugh, Chap. 3
6
Bringing demand into the model
Basis for trade, gains from trade
Carbaugh, Chap. 3
7
International equilibrium
Equilibrium terms-of-trade limits
Carbaugh, Chap. 3
8
International equilibrium
Theory of Reciprocal Demand (Mill)
 Actual trading prices depend on the
interaction of trading partners’ demands
 Final terms of trade will be closer to the
domestic price ratio of the nation with
stronger demand for the imported good
 Applies to nations of equal economic size,
which will share gains nearly equally
 Small nations trading with large ones can
receive the bulk of the gains from trade
Carbaugh, Chap. 3
9
International equilibrium
Offer curves: supply and demand
Carbaugh, Chap. 3
10
International equilibrium
Offer curves: supply and demand
Carbaugh, Chap. 3
11
International equilibrium
Equilibrium terms of trade
Carbaugh, Chap. 3
12
International equilibrium
Changing equilibrium terms of trade
Carbaugh, Chap. 3
13
Impact of trade
Immiserizing growth
Carbaugh, Chap. 3
14