CHAPTER
20
International Trade,
Comparative Advantage,
and Protectionism
Prepared by: Fernando Quijano
and Yvonn Quijano
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
• All economies, regardless of their
size, depend to some extent on other
economies and are affected by
events outside their borders.
C H A P T E R 20:
International Trade, Comparative Advantage,
and Protectionism
International Trade
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
2 of 47
• The “internationalization” or
“globalization” of most economies
has occurred in the private and
public sectors, in input and output
markets, and in business firms and
households.
C H A P T E R 20:
International Trade, Comparative Advantage,
and Protectionism
International Trade
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
3 of 47
C H A P T E R 20:
International Trade, Comparative Advantage,
and Protectionism
Trade Surpluses and Deficits
• When a country exports more
than it imports, it runs a trade
surplus.
• A trade deficit is the situation
when a country imports more
than it exports.
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
4 of 47
C H A P T E R 20:
International Trade, Comparative Advantage,
and Protectionism
Trade Surpluses and Deficits
U.S. Balance of Trade (Exports Minus Imports), 1929–2002 (Billions of Dollars)
EXPORTS MINUS IMPORTS
1929
1933
1945
1955
1960
1965
1970
1975
1976
1977
1978
1979
1980
1981
1982
1983
1984
1985
EXPORTS MINUS IMPORTS
1986
1987
1988
1989
1990
1991
1992
1993
1994
1995
1996
1997
1998
1999
2000
2001
2002
+ 0.4
+ 0.1
– 0.9
+ 0.4
+ 2.4
+ 3.9
+ 1.2
+ 13.6
– 2.3
– 23.7
– 26.1
– 24.0
– 14.9
– 15.0
– 20.5
– 51.7
– 102.0
– 114.2
– 131.9
– 142.3
– 106.3
– 80.7
– 71.4
– 20.7
– 27.9
– 60.5
– 87.1
– 84.3
– 89.0
– 89.3
– 151.7
– 249.9
– 365.5
– 348.9
– 423.6
Source: U.S. Department of Commerce, Bureau of Economic Analysis.
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
5 of 47
• Define each of the following terms in
your notes. Use your phones or
chromebooks to find the answers if
needed. We will review them once
you have defined them.
C H A P T E R 20:
International Trade, Comparative Advantage,
and Protectionism
Define These Terms
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
International Trade, Comparative Advantage,
and Protectionism
C H A P T E R 20:
• Comparative Advantage, Absolute
Advantage, Terms of Trade,
Exchange Rate, Tariff, Quota,
General Agreement on Tariffs and
Trade (GATT), European Union,
North American Free Trade
Agreement (NAFTA), Infant Industry.
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
• Comparative Advantage: When
one nation is better in a particular
industry or resource production than
another.
C H A P T E R 20:
International Trade, Comparative Advantage,
and Protectionism
The Economic Basis for Trade:
Comparative Advantage
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
8 of 47
• A country enjoys an absolute
advantage over another country in
the production of a product when it
uses fewer resources to produce that
product than the other country does.
C H A P T E R 20:
International Trade, Comparative Advantage,
and Protectionism
Absolute Advantage
versus Comparative Advantage
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
9 of 47
• A country enjoys a comparative
advantage in the production of a
good when that good can be
produced at a lower cost in terms of
other goods.
C H A P T E R 20:
International Trade, Comparative Advantage,
and Protectionism
Absolute Advantage
versus Comparative Advantage
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
10 of 47
• Even if a country had a considerable
absolute advantage in the production
of both goods, it can be argued that
specialization and trade are still
mutually beneficial.
C H A P T E R 20:
International Trade, Comparative Advantage,
and Protectionism
Gains from Comparative Advantage
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
11 of 47
• When countries specialize in
producing the goods in which they
have a comparative advantage, they
maximize their combined output and
allocate their resources more
efficiently.
C H A P T E R 20:
International Trade, Comparative Advantage,
and Protectionism
Gains from Comparative Advantage
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
12 of 47
C H A P T E R 20:
International Trade, Comparative Advantage,
and Protectionism
Terms of Trade
• The ratio at which a country can
trade domestic products for imported
products is the terms of trade.
• The terms of trade determine how
the gains from trade are distributed
among trading partners.
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
13 of 47
C H A P T E R 20:
International Trade, Comparative Advantage,
and Protectionism
Exchange Rates
• When trade is free—unimpeded by
government-instituted barriers—
patterns of trade and trade flows
result from the independent
decisions of thousands of importers
and exporters and millions of private
households and firms.
• To understand these patterns we
must learn about exchange rates.
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
14 of 47
C H A P T E R 20:
International Trade, Comparative Advantage,
and Protectionism
Exchange Rates
• An exchange rate is the ratio at
which two currencies are traded, or
the price of one currency in terms of
another.
• For any pair of countries, there is a
range of exchange rates that can lead
automatically to both countries
realizing the gains from specialization
and comparative advantage.
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
15 of 47
• Protection is the practice of
shielding a sector of the economy
from foreign competition.
• A tariff is a tax on imports.
• A quota is a limit on the quantity of
imports.
C H A P T E R 20:
International Trade, Comparative Advantage,
and Protectionism
Trade Barriers: Tariffs,
Export Subsidies, and Quotas
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
16 of 47
International Trade, Comparative Advantage,
and Protectionism
C H A P T E R 20:
Trade Barriers: Tariffs,
Export Subsidies, and Quotas
• Export subsidies are government
payments made to domestic firms to
encourage exports.
• Dumping refers to a firm or industry
that sells products on the world
market at prices below the cost of
production.
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
17 of 47
• The General Agreement on Tariffs
and Trade (GATT) is an
international agreement singed by
the United States and 22 other
countries in 1947 to promote the
liberalization of foreign trade.
C H A P T E R 20:
International Trade, Comparative Advantage,
and Protectionism
U.S. Trade Policies and GATT
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
18 of 47
C H A P T E R 20:
International Trade, Comparative Advantage,
and Protectionism
Economic Integration
• Economic integration occurs when
two or more nations join to form a
free-trade zone.
• The European Union (EU) and the
North American Free-Trade
Agreement NAFTA are examples of
economic integration.
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
19 of 47
C H A P T E R 20:
International Trade, Comparative Advantage,
and Protectionism
Economic Integration
• The European Union (EU) is the
European trading bloc composed of
Austria, Belgium, Denmark, Finland,
France, Germany, Greece, Ireland,
Italy, Luxembourg, the Netherlands,
Portugal, Spain, Sweden, and the
United Kingdom.
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
20 of 47
• The U.S.-Canadian Free-Trade
Agreement is an agreement in
which the United States and Canada
agreed to eliminate all barriers to
trade between the two countries by
1988.
C H A P T E R 20:
International Trade, Comparative Advantage,
and Protectionism
Economic Integration
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
21 of 47
C H A P T E R 20:
International Trade, Comparative Advantage,
and Protectionism
Economic Integration
• The North American Free-Trade
Agreement (NAFTA) is an
agreement signed by the United
States, Mexico, and Canada in which
the three countries agreed to
establish all of North America as a
free-trade zone.
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
22 of 47
C H A P T E R 20:
International Trade, Comparative Advantage,
and Protectionism
The Case for Free Trade
• The case for free trade is based on the
theory of comparative advantage.
When countries specialize and trade
based on comparative advantage,
consumers pay less and consume
more, and resources are used more
efficiently.
• When tariffs and quotas are imposed,
some of the gains from trade are lost.
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
23 of 47
C H A P T E R 20:
International Trade, Comparative Advantage,
and Protectionism
The Case for Protection
• Protection saves jobs
• Some countries engage in unfair
trade practices
• Cheap foreign labor makes
competition unfair
• Protection safeguards national
security
• Protection discourages dependency
• Protection safeguards infant
industries
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
24 of 47
• An infant industry is a young
industry that may need temporary
protection from competition from the
established industries of other
countries to develop an acquired
comparative advantage.
C H A P T E R 20:
International Trade, Comparative Advantage,
and Protectionism
The Case for Protection
© 2004 Prentice Hall Business Publishing
Principles of Economics, 7/e
Karl Case, Ray Fair
25 of 47