case macro08 ppt 20

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© 2007 Prentice Hall Business Publishing Principles of Economics 8e by Case and Fair

International Trade,Comparative Advantage,and Protectionism



© 2007 Prentice Hall Business Publishing Principles of Economics 8e by Case and Fair 2 of 29

Chapter Outline

International Trade,Comparative Advantage,

and Protectionism Trade Surpluses and Deficits

The Economic Basis for Trade:

Comparative Advantage Absolute Advantage versusComparative Advantage

Terms of TradeExchange Rates

The Sources of Comparative Advantage

The Heckscher-Ohlin TheoremOther Explanations for Observed

Trade Flows

Trade Barriers: Tariffs, ExportSubsidies, and Quotas

Free Trade or Protection?The Case for Free TradeThe Case for Protection

An Economic Consensus




TRADE SURPLUSES AND DEFICITS

TABLE 20.1 U.S. Balance of Trade (Exports Minus Imports), 1929±2004

(Billions of Dollars)

EXPORTS MINUS IMPORTS EXPORTS MINUS IMPORTS

1929 + 0.4 1986 ± 132.7

1933 + 0.1 1987 ± 148.2

1945 ± 0.8 1988 ± 110.4

1955 + 0.5 1989 ± 88.2

1960 + 4.2 1990 ± 78.0

1965 + 5.6 1991 ± 27.5

1970 + 4.0 1992 ± 33.2

1975 + 16.0 1993 ± 65.0

1976 ± 1.6 1994 ± 93.6

1977 ± 23.1 1995 ± 91.4

1978 ± 25.4 1996 ± 96.2

1979 ± 22.5 1997 ± 101.6

1980 ± 13.1 1998 ± 159.9

1981 ± 12.5 1999 ± 260.5

1982 ± 20.0 2000 ± 379.5

1983 ± 51.7 2001 ± 367.0

1984 ± 102.7 2002 ± 424.4

1985 ± 115.2 2003 ± 500.9

2004 ± 624.4Source: U.S. Department of Commerce, Bureau of Economic Analysis.




THE ECONOMIC BASIS FOR TRADE:COMPARATIVE ADVANTAGE

Corn Laws The tariffs, subsidies, and restrictionsenacted by the British Parliament in the earlynineteenth century to discourage imports and

encourage exports of grain.

theory of comparative advantage Ricardo¶s theory thatspecialization and free trade will benefit all tradingpartners (real wages will rise), even those that may be

absolutely less efficient producers.

Specialization and free trade will benefit all trading partners (real wages will rise), even those

that may be absolutely less efficient producers.





absolute advantage The advantage in the productionof a product enjoyed by one country over another when

it uses fewer resources to produce that product than the other country does.

comparative advantage The advantage in the

production of a product enjoyed by onecountry over another when that product can beproduced at lower cost in terms of other goods than itcould be in the other country.

ABSOLUTE ADVANTAGE VERSUS COMPARATIVE ADVANTAGE





Gains from Mutual Absolute AdvantageTABLE 20.2 Yield Per Acre of Wheat and Cotton

NEW ZEALAND AUSTRALIA

Wheat 6 bushels 2 bushels

Cotton 2 bales 6 bales

TABLE 20.3 Total Production of Wheat and Cotton Assuming No Trade, Mutual Absolute Advantage, and100 Available Acres


Wheat 25 acres x 6 bushels/acre150 bushels

75 acres x 2 bushels/acre150 bushels

Cotton 75 acres x 2 bales/acre150 bales

25 acres x 6 bales/acre150 bales





FIGURE 20.1 Production Possibility Frontiers for Australia and New Zealand before Trade





TABLE 20.4 Production and Consumption of Wheat and Cotton after Specialization

PRODUCTION CONSUMPTION

New Zealand Australia New Zealand Australia

Wheat 100 acres x 6 bushels/acre600 bushels

0 acres0

300 bushels 300 bushels

Cotton 0 acres0


300 bales 300 bales





FIGURE 20.2 Expanded Possibilities after Trade

Trade enables both countries to move beyond their previous resource and productivity

constraints.





TABLE 20.5 Yield Per Acre of Wheat and Cotton


Wheat 6 bushels 1 bushel


Gains from Comparative Advantage

TABLE 20.6 Total Production of Wheat and Cotton Assuming No Trade and 100 Available Acres


Wheat50 acres x 6 bushels/acre

300 bushels75 acres x 1 bushels/acre

75 bushels

Cotton 50 acres x 6 bales/acre300 bales






TABLE 20.7 Realizing a Gain from Trade When One Country Has a Double Absolute AdvantageSTAGE 1 STAGE 2

New Zealand Australia New Zealand Australia

Wheat


0 acres0


0 acres0

Cotton 50 acres x 6 bales/acre300 bales 100 acres x 3 bales/acre300 bales 25 acres x 6 bales/acre150 bales 100 acres x 3 bales/acre300 bales

STAGE 3

New Zealand Australia

100 bushels (trade)

Wheat 350 bushels 100 bushels

(after trade)

200 bales (trade)


(after trade)





Why Does Ricardo¶s Plan Work?

When countries specialize in producing goods in which they have a comparative advantage,

they maximize their combined output and allocate their resources more efficiently.

FIGURE 20.3 Comparative Advantage Means Lower Opportunity Cost





TERMS OF TRADE

terms of trade The ratio at which a country can tradedomestic products for importedproducts.





EXCHANGE RATES

exchange rate The ratio at which two currencies aretraded. The price of one currency in terms of another.

When trade is free²unimpeded by government-instituted barriers²patterns of trade and

trade flows result from the independent decisions of thousands of importers and exporters

and millions of private households and firms.

First, 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.

Second, within that range, the exchange rate will determine which country gains the most

from trade. In short, exchange rates determine the terms of trade.





Trade and Exchange Rates in a Two-Country/Two-GoodWorld

TABLE 20.8 Domestic Prices of Timber (Per Foot) and Rolled Steel (Per Meter) in theUnited States and Brazil

UNITED STATES BRAZIL

Timber $1 3 Reals

Rolled steel $2 4 Reals




THE SOURCES OF COMPARATIVE ADVANTAGE

factor endowments The quantity and quality of labor,land, and natural resources of a country.

THE HECKSCHER-OHLIN THEOREM

Heckscher-Ohlin theorem A theory thatexplains the existence of a country¶s comparativeadvantage by its factor endowments: A country has acomparative advantage in the production of a product if that

country is relatively well endowed with inputs usedintensively in the production of that product.

A country has a comparative advantage in the production of a product if that country is

relatively well endowed with inputs used intensively in the production of that product.




OTHER EXPLANATIONS FOR OBSERVEDTRADE FLOWS

Some theories argue that comparative advantage can beacquired. Just as industries within a country differentiate their products to capture a domestic market, so too do theydifferentiate their products to please the wide variety of tastesthat exists worldwide. This theory is consistent with the theory of comparative advantage.




TRADE BARRIERS: TARIFFS, EXPORT SUBSIDIES, ANDQUOTAS

protection The practice of shielding a sector of theeconomy from foreign competition.

tariff A tax on imports.

export subsidies Government payments made todomestic firms to encourage exports.

dumping A firm or industry¶s sale of products on the

world market at prices below the cost of production.

quota A limit on the quantity of imports.





Smoot-Hawley tariff The U.S. tariff law of the 1930s,which set the highest tariffs inU.S. history (60 percent). It set off an international

trade war and caused the decline in trade that is oftenconsidered a cause of the worldwide depression of the1930s.

U.S. Trade Policies and GATT

General Agreement on Tariffs and Trade (GATT) Aninternational agreementsigned by the United States and 22 other countries in1947 to promote the liberalization of foreign trade.





economic integration Occurs when two or morenations join to form a free-trade zone.

Economic Integration

European Union (EU) The European trading bloccomposed of Austria, Belgium, Denmark, Finland,France, Germany,Greece, Ireland, Italy, Luxembourg, the Netherlands,Portugal, Spain, Sweden, and the United Kingdom.





U.S.-Canadian Free Trade Agreement Anagreement in which the United States and Canadaagreed to eliminate all barriers to trade between the

two countries by 1998.

North American Free Trade Agreement(NAFTA) An agreement signed by the United States,Mexico, and Canada in which the three countriesagreed to establish allNorth America as a free-trade zone.




FREE TRADE OR PROTECTION?

THE CASE FOR FREE TRADE

Trade barriers prevent a nation from reaping the benefits of specialization, push it to adopt

relatively inefficient production techniques, and force consumers to pay higher prices for

protected products than they would otherwise pay.

FIGURE 20.4 The Gains from Trade and Losses from the Imposition of a Tariff





THE CASE FOR PROTECTIONProtection 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

infant industry A young industry that may needtemporary protection from competition from the

established industries of other countries to developan acquired comparative advantage.




absolute advantage

comparative advantage

Corn Laws

dumping

economic integrationEuropean Union (EU)

exchange rate

export subsidies

factor endowments

General Agreement on Tariffs and

Trade (GATT)

Heckscher-Ohlin theorem

infant industry

REVIEW TERMS AND CONCEPTS

North American Free Trade Agreement (NAFTA)

protection

quota

Smoot-Hawley tariff tariff

terms of trade

theory of comparative advantage

trade deficit

trade surplus

U.S.-Canadian Free Trade Agreement

case macro08 ppt 20

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