Terms of trade of developing countries

Introduction
Terms of trade are defined as the ratio of the index of export prices to the index of import prices. When
export prices rise faster than import prices, a country's terms of trade improve because it can buy more
imports for the same quantity of exports. The terms of trade (TOT) are the relative pricing of exports
in relation to imports and are defined as the ratio of export prices to import prices. It can be defined as
the quantity of import products an economy can buy per unit of export goods. The terms of trade
(TOT) are a measure of how much an economy can earn for a unit of exported goods in terms of
imports.
For example, if an economy only exports apples and imports oranges, the terms of commerce are
simply the price of apples divided by the price of oranges – in other words, how many oranges can be
obtained for a unit of apples. Because economies export and import a wide range of goods, calculating
the TOT necessitates establishing and comparing price indices for exported and imported goods. A rise
in the price of exported items in foreign markets would boost the TOT, while a rise in the price of
imported goods would decrease it. When oil prices rise, for example, nations that export oil will see
their TOT rise, while countries that import oil will see their TOT fall.

Different types of terms of trade

The different concepts of terms of trade were classified by Gerald M.Meier into the following three
categories:
1. Net Barter Terms of Trade
This is used to measure the gain from international trade. If ‘Tn’ is greater than 100, then it is a
favourable terms of trade which will mean that for a rupee of export, more of imports can be received
by a country.
It is expressed as:
Tn= (Px / Pm) x 100 Where,
Tn = Net Barter Terms of Trade
Px = Index number of export prices
Pm = Index number of import prices
2. Gross Barter Terms of Trade
If for a given quantity of export, more quantity of import can be consumed by a country, then one can
say that terms of trade are favourable.
It is expressed as:
Tg = (Qm/Qx) x 100 Where,
Qm = Index of import quantities
Qx = Index of export quantities

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3. Income Terms of Trade
It is the index of the value of exports divided by the price index for imports multiplied by quantity
index of experts. In other words, it is the net barter terms of trade of a country multiplied by its
exports-volume index.
It is expressed as:
Ty = (Px / Pm)Qx Where,
Px = Price index of exports
Pm = Price index of imports
Qx = Quantity index of exports

Why terms of trade is important for developing countries

Trade is critical to the abolition of global poverty. Countries that are open to international commerce
tend to grow quicker, innovate, enhance productivity, and provide higher income and more
possibilities to their citizens. Open trade also benefits low-income people by making goods and
services more cheap to them. Integrating with the global economy through commerce and global value
chains helps to boost economic growth and eliminate poverty—both locally and globally. The World
Bank's initiatives with countries such as Bosnia and Herzegovina, Macedonia, and Indonesia have
facilitated cross-border commerce, improved the reliability of logistical services, and streamlined
customs clearance procedures. These and other programs contribute to the development of a more
open, dependable, and predictable global trading system for all.
An improvement in a country's trading terms benefits that country by allowing it to buy more imports
for any given level of exports. The exchange rate can influence trade terms because a rise in the value
of a country's currency decreases the domestic pricing of its imports but does not directly affect the
prices of commodities exported. If a country’s terms of trade improve, it means that for every unit of
exports sold it can buy more units of imported goods. So potentially, a rise in the terms of trade creates
a benefit in terms of how many goods need to be exported to buy a given amount of imports. It can
also have a beneficial effect on domestic cost-push inflation as an improvement indicates falling
import prices relative to export prices.

Terms of trade of developing countries

During the early 2000s commodity price boom, developing countries saw an increase in their terms of
trade. When they sell a specific amount of commodities, such as oil and copper, they can acquire more
consumer products from other countries. Asian countries have made an effort to strengthen their
trading position by joining commodity producer associations. The International Sugar Agreement, the
Asian and Pacific Coconut Community, and the International Tea Committee are among them. These
organizations are intended to assist stabilize the prices of primary items produced in Asia and exported
to other areas of the world, rather than to stimulate intraregional trade.
Since 2017, developing economies have enjoyed a robust rebound following the 2008 global financial
crisis. The economic impact of the pandemic in 2020 offset this. Goods trade in developing nations fell
by 2.4% year on year in 2019 and by 6.1% year on year in 2020. Services trade increased by 3.2
percent in 2019 but fell by 24.8 percent in 2020. Total exports of goods and services in developing
economies totaled US$10.4 trillion in 2019, but only US$9.4 trillion in 2020. As a result, exports of
commodities and services fell to US$8.0 trillion and US$1.4 trillion, respectively, in 2020. In 2020,
developing economies’ trade fell by 9.5 per cent compared to a 7.5 per cent decline globally as the
pandemic disrupted economic activity around the world.

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Terms of Trade in Bangladesh
Bangladesh's trade terms can be characterized by three instances of declining trends with no
substantially large shocks. The first episode occurred in 1979-80, possibly as a result of the second
global oil price shock that occurred in the aftermath of the Iranian Revolution in 1979, and was
exacerbated by the Iraqi invasion of Iran the following year. Exportable prices, such as jute goods, tea,
and leather, were falling at the time, while importable prices were rising. The second episode occurred
between 1989 and 1992, maybe as a result of the first Gulf War. During the period, there was a notable
diversification of exports, with readymade garments (RMG) dominating, the price of which
contributed to the increase in the export price index.

Terms of Trade (ToT) in Bangladesh are the ratio of the price of exportable goods to the price of
importable commodities. Bangladesh's average value throughout that time period was 99.91 percent,
with a low of 57.47 percent in 2011 and a high of 162.26 percent in 1985. The most recent figure from
2019 is 65.4 percent. In 2019, the global average based on 189 countries is 118.62 percent. Long-term,
the Bangladesh Terms of Trade are expected to hover around 93.00 points in 2022 and 96.34 points in
2023.

Limitations of Terms of Trade

Trade terms should not be equated with social welfare or even Pareto economic wellbeing. Terms of
trade estimates do not reveal the volume of a country's exports; rather, they reveal relative changes
across countries. To understand how a country's social utility varies, changes in trade volume,
productivity and resource allocation, and capital flows must all be considered. The price of a country's
exports can be strongly influenced by the value of its currency, which in turn can be heavily influenced
by the country's interest rate. If the value of a country's currency rises due to an increase in interest
rates, the terms of trade should improve. However, this may not necessarily imply an increased quality
of living for the country because an increase in the perceived price of exports by other nations will
result in a decreased volume of exports. As a result, even though they are enjoying a (allegedly) high
price, the country's exporters may be challenging to sell their goods in the worldwide market. In the
real world, where over 200 countries trade hundreds of thousands of products, calculating terms of
commerce may get exceedingly complicated. As a result, the risk of inaccuracy is significant.

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References
● Obstfeld, M., Rogoff, K. (1996). Foundations of International Macroeconomics. Cambridge, MA: MIT
Press. Page 199.
● Reinsdorf, M.B. (2009). Terms of Trade Effects: Theory and Measurement. Bureau of Economic
Analysis. Page 1.
● Marshall, Reinsdorf. "Terms of Trade Effects: Theory and Measurement"
● https://www.investopedia.com/terms/t/terms-of-trade.asp#:~:text=Developing%20countries%20experie
nced%20increases%20in,such%20as%20oil%20and%20copper.
● https://www.economicsonline.co.uk/global_economics/terms_of_trade.html/
● https://indiafreenotes.com/terms-of-trade-meaning-and-types/
● https://tradingeconomics.com/bangladesh/terms-of-trade
● https://www.theglobaleconomy.com/Bangladesh/Terms_of_trade/
● https://www.wallstreetmojo.com/terms-of-trade/