International Trade

Dr. Katherine Sauer A Citizens Guide to Economics ECO 1040

Overview:
I. Why do Nations Trade? II. Trade Pattern III. Trade Balance IV. Trade Barriers V. Free Trade VI. Fair Trade

Productivity is what makes us rich.

Specialization is what makes us productive. Trade allows us to specialize.

I. Why do nations trade?

Why do nations export? - individuals/firms produce more than can be consumed at home - sellers could receive a higher price in a foreign market

Why do nations import? - some goods cant be produced at home (or not enough) - some goods are produced at a lower cost or more efficiently elsewhere - consumers like variety

Due to differences in supply conditions, a country may be able to produce more of a good at a lower cost. - superior technology - large factor (resource) endowments
Absolute advantage is the ability to produce a good at the lowest cost. It implies a potential trade pattern. ex: tropical countries produce and export bananas coastal countries produce and export seafood It gives an incentive to specialize in the production of a particular good and export it.

Absolute advantage alone is not sufficient to fully explain international trade.

- The opportunity cost of producing an item may exceed the cost of trading for it. International trade is based on comparative advantage.
Comparative Advantage is the ability to produce at the lowest opportunity cost.

Countries with a relative abundance of low-skilled labor tend to specialize in and export items having low-skilled labor as a major cost component.
Countries with a relative abundance of capital tend to specialize in and export items having capital as a major cost component.

When countries specialize in producing goods they have comparative advantage in, and then trade those goods, they can consume more goods and services than they could produce on their own. In a nutshell, this is why international trade can be good for all countries involved. However, even though trade benefits the nation as a whole, there are winners and losers among producers and consumers.

II. Trade Pattern - what a country imports and exports and who its trading partners are

India
exports: engineering goods, gems/jewelry, textiles, agricultural goods, chemicals (US, China, UAE, UK) imports: petroleum, capital goods, gold & silver, electronics, gems (US, Belgium, China, Singapore)

Chile exports: copper, fruit, paper products (US, Japan, China, South Korea, Netherlands) imports: intermediate goods, capital goods, consumer goods (Argentina, US, Brazil, China, Germany)

III. Trade Balance The trade balance is the difference between the value of a countrys exports and the value of its imports.

If exports > imports, then there is a trade surplus.

If exports < imports, then there is a trade deficit.

Most economists dont believe that trade deficits/surpluses are inherently good or bad.

The economic impact of a surplus or deficit depends on the specific circumstances surrounding it.

Trade Deficit is a Bad Thing for the Economy (Trade Surplus is Good) - signifies economic weakness because it reflects an excessive reliance on foreign products - represents an expenditure of future growth because whenever a nation purchases more than it produces, funds that could have been used for investment (future growth) are being used for consumption in the present

- large trade deficits create conditions favorable for an economic crisis

Trade Deficit Shows the Economy is Doing Well

- consumers can enjoy a higher standard of living than if they were limited to domestically produced goods - could be a sign of economic strength because imports are known to increase during times of economic growth
In industrial countries, trade deficits have not sparked economic crisis.

Trade Surplus may not be Good A trade surplus could mean a country is too reliant on foreign demand for its goods. The surplus could be the result of an undervalued currency.

IV. Trade Barriers Governments often manipulate trade to achieve various economic, political, and diplomatic objectives.
Types of Trade Barriers 1) tariff : tax on imports 2) export subsidies : involves a transfer of funds from the government to an export producer - encourages exports - helps domestic industry (props up domestic price)

3) Other ways of restricting imports

a. quota: a limit on the quantity of a good that can be imported b. tariff rate quota: a tariff with two levels - lower tariff for imports within the quota - higher tariff for imports that exceed the quota

c. trigger price mechanism: the government sets a price floor (legal minimum price) that triggers government intervention to reduce imports if the world price falls too low - low world price hurts domestic firms because more is imported --- a price too low may wipe out the domestic industry

d. technical barriers: barriers imposed on imports for health or safety reasons

e. anti-dumping duties: tariff-like charges imposed on imports that are sold at less than fair value by the exporter
f. countervailing duties: tariff-like charges imposed on imports that are unfairly subsidized by the exporter government

g. Voluntary Export Restraints (VER): an export quota voluntarily imposed by the exporter country at the request of the importing country h. other: anything else that the government can think of ex: require disassembling of an item before it can be imported

V. Free Trade: goods and services can flow freely between nations without government imposed barriers like tariffs, quotas, VERs, etc.

The World Trade Organization

The WTO is the global organization dealing with the rules of trade between nations. These rules of trade are the result of negotiations between member countries. - 150 member countries - HQ in Geneva, Switzerland - a successor to the General Agreement on Tariffs and Trade (GATT) - formed on January 1, 1995

The main goal of the WTO is to help international trade to flow smoothly, freely, fairly, and predictably. This is accomplished by: - administering trade agreements - acting as a forum for trade negotiations - settling trade disputes - reviewing national trade policies

VI. Fair Trade Fair Trade: a social movement to ensure that producers of exports in developing nations - receive a fair price for their product - have safe, healthy working conditions - use environmentally sustainable practices

Background: Competition in global commodity markets has decreased prices over time. - between 1970 and 2000, the main agricultural exports for developing nations (sugar, cotton, cocoa, coffee) fell in price by 30-60% Prices for commodities are volatile in general. - bumper crops, crop disasters, demand changes The international rural poor are the people who suffer when commodity prices are low/volatile.

A. Proponents of Fair Trade - support the theory and principles of free trade
- claim that in many cases, there are market failures which prevent the benefits of free trade from working - rural farmers dont have good information - rural farmers are at the mercy of the middlemen - rural farmers dont have access to credit - argue that there should be a government mandated minimum price (price floor) for agricultural goods

B. Critics of Fair Trade - usually recognize the idea of Fair Trade is based on the best of intentions
- argue that price floors cause market distortions -a price floor holds the price artificially high - this encourages more production - more production can lead to excess supply - excess supply leads to downward pressure on price in the non Fair Trade market - argue that Fair Trade is not a long-term solution

What did you learn today? Please explain 2 concepts from todays class.