Alfred Marshall

Alfred Marshall (1842-1924), was the dominant figure in British economics (itself dominant in world economics) from about 1890 until his death in 1924. His specialty was microeconomics—the study of individual markets and industries, as opposed to the study of the whole economy.

His most important book was Principle of Economics. In it Marshall emphasized that the price and output of a good are determined by both supply and demand: the two curves are like scissor blades that intersect at equilibrium.

Marshall spent most of his academic life as Professor of Economics at Cambridge for 24 years from 1884 till 1908 generally regarded as the founder of Cambridge economics.

Marshallian EconomicsMarshallian economics has been described as

neoclassical. It is not to be regarded as a set of theories of hypotheses to explain the working of market or capitalist system, rather, it is a framework within which economies can operate.

Marshall’s major works on trade includes: The Pure Theory of Foreign Trade (1879), Industry and Trade (1919), and Money Credit and Commerce (1923).

Theoretical Assumptions of MarshallAssumption one: no migration of production

resources between different countries and thus there must be different rate of return in different countries.

Assumption two: no money in use when trade takes place and thus the trade must be under the barter system.

Assumption three: two countries exchanging goods and services in forms of representative bales with each other and thus the traditional “2×2 model” was employed.

Representative BalesMarshall argued that the two trade partners would truly

never trade only two goods with each other. In the reality, a country exchanged some baskets of its exportable goods for some baskets of importable goods with its trade partner.

Value contained in a basket of exportable goods could be higher or lower than value embodied in a basket of importable goods. But each basket of exportable goods must be equally valued and so for each basket of importable goods.

Why Marshall termed this new concept as the representative bale is because that particular amount of labor and capital had been employed in producing it and so such a bale of goods and services actually represents particular amount of value of a given volume of labor and capital

Marshall pointed out: To avoid the difficulty of how to measure value of goods exchanged between two countries “Mill took a yard of cloth as representative of the products of one country and a yard of linen as representative of the products of the other. But it seams better to suppose either country to make her exports into representative “bales”; that is, bales each of which represents uniform aggregate investments of her labor (of various qualities) and of her capital. 两国间的贸易不是简单的两种商品间的交换，而是代表着相同价值量的商品组合间的交换。这些代表着相同价值量的商品组合就是“有代表性的商品包”。 

Consequently in view of Marshall the two trade partners are exchanging their representative bales of goods and services with each other. Each bale, no matter of exportable or importable goods, represents a constant volume of value. Since value embodied in the representative bale produced in home country could be higher or lower than that in foreign country more or less foreign representative bales would be exchanged for a given units of home representative bales.

School of Supply vs. School of DemandIn analyzing determinant factors for trade equilibrium

classical economics was separated into two schools.School of supply represented by Adam Smith and David

Ricardo focusing on effect of trade to increase the capacity of a country to provide different sorts of exportable goods and thus acquire trade benefits.

School of demand with John Stuart Mill as its famous representative emphasizing the determinant function of demand on trade equilibrium and insisting that the ultimate trade beneficiaries are domestic consumers by enjoying different sorts of importable goods.

Marshall’s Duty of RectificationAlfred Marshall, with his illustrious academic status,

found it was his duty, and only he himself could shoulder such a responsibility, to rectify the deviation, the one-sided theoretic opinions of the two schools on this issue.

Marshall strongly believed supply and demand jointly determine trade equilibrium.

By this token, Marshall’s trade theory could be considered as the theory of international supply and demand.

Why Trade with Each Other?In the case of trade between individuals the one side

commonly supplies pieces of metal or his representatives that give him general purchasing power and demands specific commodities while the other wants to acquire general purchasing power and thus supplies specific commodities.

在人们之间的交换活动中，某一方总是要销售某些物资或他生产的代表一定价值的产品（ his representatives ），他的销售行为使他握有一般购买力，因而得以买进某些特定商品；同时，另一方也为着取得一般购买力之目的，销售他生产的特定商品。 

We Can’t Exclusively Defined a Trader as either a Supplier or a Demander

The practice of describing the first as bringing demand and the other as bringing supply is usual, convenient and, in general, harmless. But in the general trade between two countries neither can be specially associated with demand nor with supply.

一般而论，两国间的贸易不能够仅仅归咎于需求或供给。 

Sources of Supply and Demand of a Trader

The demand of each has its origin in the desires of her people to obtain certain goods from abroad; and her supply has its origin in her facilities for producing things that the people of other countries desire. But her demand is, in general, effective in causing trade, only in so far as it is backed by her supply of appropriate goods: and her supply is active, only in so far as she has a demand for foreign goods.

贸易中一国之需求源于该国民众想要获取外国商品的愿望，贸易中一国之供给源于该国生产外国民众想要获得的产品的能力。然而，只有建立在它为外国出口合适产品的基础上，该国的进口需求才足以引起两国间的贸易；或者说只有当它对外国商品存在进口需求的条件下，该国才会有积极的出口供给。 

Interdependent Relations between Supply and Demand in Trade Thus the demand of each stimulates the supply of the other:

and the demand of each is made effective by its own supply. Consequently, while the problem of international trade has been correctly described as that of “international demand”, it might have been described as that of “international supply”.

Changes in international demand are perhaps the dominant influences on international trade: but supply creates demand almost as certainly as effective demand calls forth supply. The terms of international trade can properly be said to be governed by the relations of international demand: but, with equal correctness they can be said to be governed by the relations of international supply.

How to Understand Supply and Demand?All trade, either between nations or individuals, is an

interchange of things those which either side is prepared to part with constitute its means of purchase. Thus the supply brought by the one constitutes its demand for what is brought by the other.

“Supply and demand” is but another expression for “reciprocal demand”, and to say that value will adjust itself so as to equalize the demand on the one side with the demand on the other.

“ 供给与需求”只是“相互需求”的同义语，两个术语都意味着贸易条件将自我调整，使一方的需求等同于另一方的需求。

Mistakes of John MillBut Mill sometimes applies the abbreviated title

“Equation of International Demand”(the word Supply being omitted) to this equalization; while the term “reciprocal” is sometimes substituted for “international”.

Some writers have however laid so much stress on the word “demand” in this phrase, as to imply that the problem of international trade is one of demand rather than supply: and this is a reason for emphasizing the interdependence of supply and demand.

It seams best to speak of them as governed by international demand and supply.

国际贸易中的供给和需求对贸易的发生发展具有同等重要的意义

Dual-status of a TraderThe basic essentiality of such a statement is that each country

takes its dual-status in international trade. With their respective dual-status both trade partners should

behavior in accordance with price signal in market. As an exporter quantity of its exports that could be

marketed in the foreign country at a giving rate of exchange depends upon the foreigners’ willingness of purchasing at this rate. As an importer how much could its import demand be realized depends upon the foreigners’ willingness of selling goods at this rate.

参与贸易的各国具有双重身份（ dual-status ），作为国际贸易中的供方（出口方），在一定价格条件下，她能向别国出口多少货物取决于进口国按此价格的购买意愿；作为国际贸易中的需方（进口方），在一定价格条件下，她能在多大程度上满足她的进口需求取决于出口国按此价格的出口意愿。

What Determines the Variation of Terms of Trade?An increase in a country’s demand for imports

generally causes a more than proportionate increase in the quantity of her own goods which she must give in exchange for them.

一个国家的进口需求增加往往会导致该国为进口所支付的出口商品更大比例增加。

That implies the improvement of terms of international trade of the foreign country and deterioration of terms of international trade of the home country.

How to Reach Trade Equilibrium?Taking Country G’s exports to Country E as an example.

In trade between these two countries G is supplier of its exports and demander for E’s exports. Equivalent for Country E, which is demander for G’s exports and supplier of its own exports.

Let Xg stands for Country G’s export supply; Mg stands for G’s import demand

Xe stands for Country E’s export supply; M e stands for Country E’s import demand.

Given an advantageous price of Country G’s exports and a disadvantageous price of Country E’s exports we see:

Xg M﹥ e while Xe M﹤ g

Country G Has to Reduce Price to Attract More Demand for Its Exports

If G’s export supply increases greatly some of them would need to attract other persons, who are less wealthy, or have a less urgent desire for them.

The only thing Country G could do is to reduce the rate at which its exports exchanged for imports. Less E’s goods could be exchanged for a given unit of G’s exports than before.

The purchasing power acquired by G from selling particular amount of its exportable goods, in other words the relative price of G’s exports in terms of E’s exports would fall considerably.

The Effect of Price Reduction of G’s ExportsThe fact that G reduces price of its exports in order to attract more

purchasers in E’s market is of great significance for both G and E. Look at G first. As the seller of its exports G at this time will decrease

its export supply and simultaneously its import demand for E’s goods is falling since relative price of E’s exports in terms of its own exportable goods is higher. Xg and Mg decrease.

How about E? G reduces price of its exports means relative price of E’s exports in terms of G’s exports increases. Thus, as a demander for G’s exports E will buy more goods from G. And it will, at the same time, supply more of its own exports to G as the seller. That is to say Country E’s import demand and export supply will increase at the same time. M e and Xe increase.

Given the previous dis-equilibrium Xg M﹥ e while Xe M﹤ g , right now we see from the above example Xg is falling while M e is rising. Mg is falling while Xe is rising. The margins will be reduced step by step and at last the market must reach its equilibrium in which

Xg = M e while Xe = Mg.

The hypothetical trade between Germany and England raised by Marshall

Schedule of terms on which England is willing to trade

Schedule of terms on which Germany is willing to trade

( 1 ) ( 2 ) ( 3 ) ( 4 ) ( 5 )

Number of E bales

Number of G bales per hundred E bales at which E will part with those in ( 1 )

Total number of G bales for which E is willing to part with

in ( 1 )

Number of G bales per hundred E bales at

which G will buy those in ( 1 )

Total number of G bales for which G is willing to

give for those in ( 1 )

10000 10 1000 230 23000

20000 20 4000 175 35000

30000 30 9000 143 42900

40000 35 14000 122 48800

50000 40 20000 108 54000

60000 46 27600 95 57000

70000 55 38500 86 60200

80000 68 54400 82.5 66000

90000 78 70200 78 70200

100000 83 83000 76 76000

110000 86 94600 74.5 81950

120000 88.5 106200 73.75 88500

Terms of trade of England are improved. Terms of trade of Germany are improved.

Derivation of Offer Curve

How to Express Price in a Figure with Its Two Axes Standing for Quantity of Particular Goods

Marshall Derived International Supply-and-Demand Curve by Directly Plotting

Plotting the locus of points representing possible combinations of a country’s export supply and import demand, which can be called as international supply and demand, as terms of international trade changes in accordance with the data showed in Marshall’s hypothetical sample trade between Germany and England.

Tr ade Equi l i br i um bet ween E and G

020000400006000080000

100000120000

0 50000 100000 150000E' s Expor t abl e Goods

G's

Exp

orta

ble

Goo

ds

E' s I nt er nat i onal Suppl y and Demand Cur veG' s I nt er nat i onal Suppl y and Demand Cur ve

Edgworth’s Derivation

Francis Ysidro Edgeworth, an Ireland born economist, took his position as a professor of political economy in Oxford University in 1891 and served as editor of the prestigious Economic Journal from 1890 to 1911, when he was succeeded by John Maynard Keynes. The major theoretical contribution of Edgeworth was his forceful demonstration of the application of mathematics to economics.

He introduced a set of graphic analysis tools into modern economics, such as the widely used consumption indifference curve, production possibility curve, Edgeworth box and contract curve.

1845~1926

Francis Ysidro Edgeworth derived international supply and demand curve from the ordinary demand curve.

As an importer of Good C, should be a function of ,

according to the general law of demand, we have a downward sloped Country A’s demand curve. From any point along this curve, we can read quantity of Good C demanded and quantity of Good F that must be paid in line with variation in relative price of Good C in terms of Good F. Take point c as an example, in order to import Ov amount of Good C Country A must pay (Ov ×Ow) amount of Good F. In other word, the shaped area (Ovcw) represents Coutry A’s export supply OF Good F for importing Ov amount of Good C. Thus any point on the curve represents a particular combination of Country A’s import demand and export supply given terms of trade.

f

c

P

PacM

Plot those possible combinations of Country A’s export supply and import demand in a diagram with its two axes stand for quantity of two goods and then connect the plotted points with a smooth curve we could have a locus of points representing the Country A’s export supply and import demand.

That is Country A’s international supply and demand curve, as terms of international trade changes.

By the same token, we can derive Country B’s international supply and demand curve from its demand curve for Good F based on the general law of demand.

Trade Equilibrium Determined by Intersection of Two Countries’ International Supply and Demand Curves

OA curve intersects OB curve at point E on which b

faf MOfX ==

ac

bc MOcX ==

Thus point E is the equilibrium point and OT ray originated from O and passing E represents the prevailing terms of trade. OT is the international price line.

Offer Curve Presented by James Meade James Meade, an Englishman, was

corecipient of the Nobel Prize in 1977, along with Bertile Ohlin, for their "pathbreaking contribution to the theory of international trade and international capital movements."

Much of Meade's work on international trade is in the two volumes of his Theory of International Economic Policy, which, writes Mark Blaug, "have become the bible of every trade economist."

James Edward Meade(1907~1995)

Theoretical Assumptions Held by James Meade

Two-country world and two-good tradePerfect competition and no external economies or

diseconomies.Full employment of production factors.Constant consumption tastes and no changes in a

country’s factor endowments.A concave indifference curve and a convex

production possibility curve

In his A Geometry of International Trade in 1952 Meade used the term Offer Curve to substitute international supply and demand curve. From that time on the term has been used so widely that many people only know it but not its origin, international supply and demand curve.

Meade used a well-developed technique of how to determine production and consumption equilibrium by the tangency between production possibility curve and the possible highest consumption curve.

Based on the assumption that trade could raise a country’s overall consumption level Meade derived a so-called Trade Indifference Curves Map. The lowest trade indifference curve indicates no trade and a country must have the active export supply and import demand on all the other trade indifference curves.

In a plane figure with two coordinate axes each of which represents quantity of one commodity terms of trade line originated form the original point must be tangent to each trade indifference curve at only one point indicating this country’s export supply and import demand at a particular terms of trade.

Steps Taken by James Meade to Derive A Country’s Offer Curve

Step 1: To acquire a country’s PPC Block from production and consumption equilibrium in an autarky economy.

Step 2: To derive a country’s trade indifferent curve by moving PPC Block in specific manner.

Step 3: To acquire a country’s trade indifferent curves map.

Step 4: To derive a country’s offer curve having the respective trade indifferent curve tangent to particular line representing terms of trade.

Step 1: To acquire a country’s PPC Block from production and consumption equilibrium in an autarky economy.

Step 2: To derive a country’s trade indifferent curve by moving PPC Block in specific manner.

Step 3: To acquire a country’s trade indifferent curves map.

Step 4: To derive a country’s offer curve having the respective trade indifferent curve tangent to particular line representing terms of trade.

Trade Equilibrium

In the figure, trade equilibrium point is the intersection point between OA and OB

The two countries’ trade triangular are and ，respectively.

， ， ， 。

We can see four sets of formulas expressing 、 、 and , respectively.

Set One：

in addition

Set Two：

Set Three：

in addition .

Set Four：

,

From the above-mentioned Set One and Four, we see： 。

From the above-mentioned Set Two and Three we see： 。

Trade Benefits in the ModelIt is obvious that an equilibrium terms of trade makes

export supply and import demand of the two countries being exactly equal to each other. That is OT ray which passes point E at which OA curve just intersects OB curve.

Trade on this intersection point bring the two countries comparative advantages into full play and thus enjoy their respective trade benefits.

After trade, Country A can exercise its consumption on an upper located indifference curve and so does Country B. Consequently, the overall social welfare in the two countries are both greatly increased.

Simplified Derivation of Offer Curve

Basic Nature of Offer CurveFrom the derivation of offer

curve we know that this curve is the unification of a supply curve and a demand curve of a country in line with the variations in the terms of trade since each point on the curve indicates particular combination of export supply and import demand.

That is to say offer curve could be said as a supply curve and it could be also defined as a demand curve at the same time. This must be considered as the basic nature of offer curve.

Implication of Offer CurveThe basic nature of offer curve determines: (1) The opportunities of mutual benefit trade

between the two trade partners;(2) The specific location of the curve;(3) The specific shape of the curve;(4) The distribution of the total trade benefit

between the two trade partners at the given terms of trade;

(5) The automatic readjustment and recovery of trade equilibrium.

The opportunities of mutual benefit trade between the two trade partners

The basic nature of offer curve indicates that each trader conducts as both a supplier and a demand.

As a supplier the willingness of a country’s export supply is dependent upon the difference between price of its exportable goods in international market and that in its domestic market. That is to say the country must be able to sell its exportable goods at a higher rate in international market than in its home market.

Simultaneously, as a demander the willingness of a country’s import demand will be also determined by price difference between the external market and its internal market. In other words, only if the country could buy goods at a lower rate in the overseas market than in its domestic market is it willing to import goods from abroad.

Consequently, whether or not there exists some favorite differences between the terms of trade in international market and domestic exchange ratio is the necessary essential condition that causes a country to take part in or to withdraw from international trade. A country’s domestic exchange ratio thus serves as the border between trade and no-trade.

The specific location of offer curve

When we talk about the specific location of offer curve we should keep in mind that to have an actual international trade there must be some motives to encourage countries to take part in trade.

That implies the real export supply and import demand of a country occur only if the trade could be done on more favorable terms than its domestic business. Therefore, a country’s offer curve should be necessarily located within its trade area.

The specific shape of offer curve

An offer curve is divided into two portions, an elastic portion and an inelastic portion, bordering by a bending point.

As a convex curve it always faces toward the axis representing the country’s exportable goods while as a concave curve it always faces toward another axis representing the country’s importable goods.

The distribution of the total trade benefitThat country whose offer curve intersects the other ones offer curve after the bending point gains the more trade benefit.

Since when the intersection point falls into the inelastic portion of a country’s offer curve and in the elastic portion of the other one the relative reciprocal demand is favorable to the former and unfavorable to the latter .

The automatic readjustment and recovery of trade equilibrium.

Giving non-equilibrium terms of trade MARKET FORCES would stimulate the two countries to invariably readjust their export supply and import demand automatically.

Suppose that for some reason relative price of Good F in terms of Good C were artificially raised without any real changes in economic performances of the two countries, that is to say their offer curves would stay at the same place. Terms of trade line would be moved from OT up to OT’. Such terms of trade would obviously cause a non-equilibrium trade between the two countries.

The opposite movements of reciprocal supply and demand of the two countries would at last recover the previous trade equilibrium at point E. The automatic readjustment and recovery of trade equilibrium could be clearly shown by a pair of arrows on horizontal axis for Good F and by another pair of arrows on vertical axis fro Good C.

The impact of changes in international supply and demand on trade equilibrium

Questions and ProblemsWhy we conclude that Alfred Marshall made a valuable

contribution to development of trade theory?How to reach trade equilibrium between England and Germany

by reading the hypothetical table presented by Marshall.How to correctly understand that supply and demand are

determinants with the same significance in reaching trade equilibrium?

Try to repeat the process of establishing Offer Curve as James Edward Meade?

What is the basic nature of an Offer Curve? What does it implies?Why does an Offer Curve have a bending point? The OPEC made a decision of decreasing the total oil output of

the organization. Taking everything else constant try to illustrate the effect of such decision by using the Offer Curves.