International Trade
Mr. Barnett
UHS
AP Microeconomics
Determinants of Trade
 Equilibrium without trade
 Only domestic buyers and sellers
 Domestic price in the textile market will balance supply and demand
 Total Benefits
 Consumer Surplus
 Producer Surplus
Determinants of Trade
 A new leader is elected to Latveria who is
interested in pursuing trade. A committee
of economists is organized to determine the
following:
 If the government allows trade, what will
happen to the price of textiles and the
quantity of textiles sold in the domestic
market?
 Who will gain from trade, who will lose, and
will the gains exceed the losses?
 Should a tariff (a tax on imported textiles)
be part of the new trade policy?
Determinants of Trade
 The first issue is to decide whether Latveria
should import or export textiles.
 The answer depends on the relative price of
textiles in Latveria compared with the price of
textiles in other countries.
 Definition of world price: the price of a good
that prevails in the world market for that
good.
 Compare domestic price with world price
 Determine who has comparative advantage
 If domestic price < world price
 Export the good
 The country has comparative advantage
 If domestic price > world price
 Import the good
 The world has comparative advantage
Note that the
domestic price
represents the
opportunity cost
of producing
textiles in
Latveria, whereas
the world price
represents the
opportunity cost
of producing
textiles abroad.
Competitive Markets
 Textiles are generally part of a
competitive market
 there are many firms in the
market, none of which is
large in terms of sales
 Firms can enter and exit the
market easily
 Each firm in the market
produces and sells a
nondifferentiated
or homogeneous product
 All firms and consumers in
the market have complete
information about prices,
product quality, and
production techniques
Winners and Losers from Trade
 Latveria will be price takers in textile
world market (must buy or sell at
that price)
 If the world price is higher than the
domestic price, Latveria will export
textiles.
 Once trade is allowed
 Domestic price rises to = world
price
 Domestic quantity supplied >
domestic quantity demanded
 The difference = exports
Exporting Country
 Welfare without Trade
 Consumer surplus is equal to:
 Producer surplus is equal to:
 Total surplus is equal to:
 Welfare with Trade
 Consumer surplus is equal to:
 Producer Surplus is equal to:
 Total surplus is equal to:
 Changes in Welfare
 Consumer surplus changes
by:
 Producer surplus changes by:
 Total surplus changes by:
Exporting Country
 When a country exports a good:
 Domestic producers of the good are
______(better off/worse off)
 Domestic consumers of the good are
_____(better off/worse off)
 With international trade:
 Consumer surplus ______
(increases/decreases)
 Producer surplus
_______(increases/decreases)
 Total surplus ________(increases/decreases)
 The economic well-being of the country
______(rises/falls).
Importing Country
 Meanwhile in Wakanda…
 Wakanda’s domestic equilibrium price for textiles before trade is above
the world price for textiles
 Once trade is allowed…
 Domestic price ____ (rises/drops) to = world price
 Domestic quantity supplied ____ ( </>) domestic quantity demanded
 The difference = _______ (imports/exports)
Importing Country
 Welfare without Trade
 Consumer surplus is equal to:
 Producer surplus is equal to:
 Total surplus is equal to:
 Welfare with Trade
 Consumer surplus is equal to:
 Producer Surplus is equal to:
 Total surplus is equal to:
 Changes in Welfare
 Consumer surplus changes
by:
 Producer surplus changes by:
 Total surplus changes by:
Importing Country
 When a country imports a good:
 Domestic producers of the good are
______(better off/worse off)
 Domestic consumers of the good are
_____(better off/worse off)
 With international trade:
 Consumer surplus ______
(increases/decreases)
 Producer surplus
_______(increases/decreases)
 Total surplus ________(increases/decreases)
 The economic well-being of the country
______(rises/falls).
Trade can make everyone better off!
Tariffs and Quotas
 Tariff
 Tax on goods produced abroad and sold domestically
 Free trade
 Domestic price = World price
 Tariff on imports
 Raises domestic price above world price
 By the amount of the tariff
Tariff
 Welfare without Tariff
 Consumer surplus is equal to:
 Producer surplus is equal to:
 Total surplus is equal to:
 Welfare with Tariff
 Consumer surplus is equal to:
 Producer Surplus is equal to:
 Total surplus is equal to:
 Changes in Welfare after Tariff
 Consumer surplus changes
by:
 Producer surplus changes by:
 Total surplus changes by:
Tariffs
 The effects of a tariff
 Price rises by _______________
 Domestic quantity demanded ______ (increases/decreases)
 Domestic quantity supplied ________(increases/decreases)
 _________(Increases/decreases) the quantity of imports
 Moves the domestic market _____(closer/farther away) to its equilibrium
without trade
 Domestic sellers are ______(better off/worse off)
 Domestic buyers are ______(better off/worse off)
 Consumer surplus is ______ (bigger/smaller)
 Producer surplus is ______(bigger/smaller)
 Government tax revenue is ______ (bigger/smaller)
 Total Surplus is _______(bigger/smaller)
Import Quotas:
Another Way to Restrict Trade
 An import quota is a quantitative limit on
imports of a good.
 Mostly has the same effects as a tariff:
 Raises price, reduces quantity of imports.
 Reduces buyers’ welfare.
 Increases sellers’ welfare.
 A tariff creates revenue for the govt. A
quota creates profits for the foreign
producers of the imported goods, who can
sell them at higher price.
 Or, govt could auction licenses to import to
capture this profit as revenue. Usually it
does not.
Summary: The Welfare Effects of Trade
PD < PW
PD > PW
direction of trade
consumer
surplus
producer surplus
exports
imports
falls
rises
rises
falls
total surplus
rises
rises
Whether a good is imported or exported,
trade creates winners and losers.
But the gains exceed the losses.
Other benefits of international trade
 Consumers enjoy increased variety of goods.
 Producers sell to a larger market, may achieve lower costs by
producing on a larger scale.
 Competition from abroad may reduce market power of
domestic firms, which would increase
total welfare.
 Trade enhances the flow of ideas, facilitates the spread of
technology around the world.
Then Why All the Opposition to Trade?
 Recall one of the Ten Principles from Chapter 1:
Trade can make everyone better off.
 The winners from trade could compensate the losers
and still be better off.
 Yet, such compensation rarely occurs.
 The losses are often highly concentrated among
a small group of people, who feel them acutely.
The gains are often spread thinly over many people,
who may not see how trade benefits them.
 Hence, the losers have more incentive to organize
and lobby for restrictions on trade.
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Arguments for Restricting Trade
1. The jobs argument
Trade destroys jobs in industries that compete
with imports.
Economists’ response:
Look at the data to see whether rising imports
cause rising unemployment…
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permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
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U.S. Imports & Unemployment,
Decade averages, 1961–2010
16%
Imports
(% of GDP)
14%
12%
10%
8%
Unemployment
(% of labor force)
6%
4%
20012010
19912000
19811990
19711980
0%
19611970
2%
Arguments for Restricting Trade
2. The national security argument
An industry vital to national security should be
protected from foreign competition, to prevent
dependence on imports that could be disrupted
during wartime.
Economists’ response:
Fine, as long as we base policy on true security
needs.
But producers may exaggerate their own
importance to national security to obtain
protection from foreign competition.
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permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
23
Arguments for Restricting Trade
3. The infant-industry argument
A new industry argues for temporary
protection until it is mature and can
compete with foreign firms.
Economists’ response:
Difficult for govt to determine which
industries
will eventually be able to compete and
whether benefits of establishing these
industries exceed cost to consumers of
restricting imports.
Besides, if a firm will be profitable in
the long run,
it should be willing to incur temporary
losses.
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permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
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Arguments for Restricting Trade
4. The unfair-competition
argument
Producers argue their
competitors in another country
have an unfair advantage,
e.g. due to govt subsidies,
regulations
Economists’ response:
Great! Then we can import
extra-cheap products
subsidized by the other
country’s taxpayers.
The gains to our consumers
will exceed the losses to our
producers.
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permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
25
Arguments for Restricting Trade
5. The protection-as-bargainingchip argument
Example: The U.S. can threaten to
limit imports
of French wine unless France lifts
their quotas
on American beef.
Economists’ response:
Suppose France refuses. Then the
U.S. must choose between two bad
options:
A) Restrict imports from France, which
reduces welfare in the U.S.
B) Don’t restrict imports, which
reduces U.S. credibility.
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permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
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Trade Agreements
 A country can liberalize trade with
 unilateral reductions in trade
restrictions
 multilateral agreements with other
nations
 Examples of trade agreements:
 North American Free Trade
Agreement (NAFTA), 1993
 General Agreement on Tariffs and
Trade (GATT), ongoing
 Successfully reduced the average
tariff among member countries from
about 40% to 5%
 Enforced by the WTO
 153 countries; 97 % of world trade
 World Trade Organization (WTO), est.
1995, enforces trade agreements,
resolves disputes
© 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
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