Chapter 17: International Trade

Imports = goods bought from other countries for domestic use •Manufactured goods, transportation equipment and oil = 2/3rds of the total value of imports into the US •Imports = Roughly 17% of U.S. GDP

Purpose of international trade is to benefit trading partners

Exports = goods sold to other countries•Ideally a country would like to export more than it imports •Since the mid-1970s the U.S. has had a negative balance of trade = trade deficit … the value of goods coming in is greater than those going out

Absolute advantage = ability of one country, using the same amount of resources as another country, to produce a particular product at less cost

Opportunity cost = what is given up in order to produce a certain product

Specialization = concept that it is profitable for a nation to produce and export a limited assortment of goods for which it is particularly suited •Helps a country determine which goods to import and which to export

Comparative advantage = ability of a country to produce a product at a lower opportunity cost than another country*According to the law of comparative advantage, a nation is better off when it produces goods and services for which it has a comparative advantage.

Corn Soybeans

U.S. 75 100

Russia 60 40

Which country has an absolute advantage in Corn? Soybeans?

Which country has a comparative advantage in Corn? Soybeans?

Which country has an absolute advantage in Shoes? Phones?

Which country has a comparative advantage in Shoes? Phones?

Shoes Phones

U.S. 80 150

Brazil 60 20

The Production Possibility Curve can be used to illustrate the principles of absolute and comparative advantage.

And you thought we were finished with PPF curves!!

Country A has an absolute advantage in the production of both maize and wheat.

At all points its production possibility curve lies to the right of that of Country B.

Country B has an absolute disadvantage. Due to abundance of raw materials or more productively efficient production techniques, Country A is able to produce more wheat and more maize than Country B.

Ch. 17.2

The most commonly used barrier to Free Trade is the tariff (a tax on

imports) •Types of tariffs 1. Revenue – used to raise income without

restricting imports 2. Protective – used to raise the cost of

imported goods and protect domestic products

Three major barriers to world trade are 1.Tariffs 2. Quotas 3.

Embargoes

Embargo – complete restrictions on the import or export of a particular goodOften embargoes are used for political reasons

Import quotas – a restriction imposed on the value of or the number of units of a particular good that can be brought into the country Examples of U.S. quotas: sugar, shoes, shirts, and cloth

Other restrictions = rigorous health inspections and difficult licensing requirements = Standards

Subsidies = direct financial aid (tax credits or Deductions), to certain domestic industries. This lowersProduction costs, which allows domestic goods tocompete with lower-cost imported goods.

Since World War II countries have been relaxing trade barriers

Protectionists are those who argue for trade restrictions (against free trade) 1. Job security threatened 2. Protection of the nation’s economic security is needed3. Protection of infant industries 4. Limiting imports keeps American money in the US 5. Balance of Payments = the difference between the money a

country pays out to, and receives from, other nations when it engages in international trade.

Arguments for FREE trade 1. Competition = better products 2. Trade restrictions damage export industries and put

Americans out of work 3. Specialization and comparative advantage lowers

prices (more goods = lower prices) 4. Restrictive legislation in the past nearly halted

international trade

Cartoons… for or against Free Trade?

1. General Agreement on Tariffs and Trade (GATT); est. after WW II (1947), countries work together to mutually lower tariffs

2. World Trade Organization (WTO); 130 nations, 1993 an attempt at a 40% reduction in tariffs

Trade Agreements

3. North American Free Trade Agreement (NAFTA); regional trade agreement between U.S., Canada, and Mexico 1993

4. European Union (EU); regional trade agreement between 28 member nations, including France, Germany, Britain, Denmark, Italy, Spain, Greece, Portugal, Benelux countries, Finland, Sweden, Austria and Ireland •1993—eliminated most of its restrictions on trade among member nations and labor and capital should be freely mobile within the 28 countries. Shared currency = Euro

5. Association for Southeast Asian Nations (ASEAN); regional trade agreement between ten member nations (1967), including Indonesia, Malaysia, Singapore, the Philippines, and Thailand Work to promote regional peace and stability, accelerate economic growth, and liberalize trade policies

6. Organization of Petroleum exporting Countries (OPEC): organized in 1960 as an international cartel whose members have been able to take advantage of a natural monopoly and push up oil pricesMembers are: Algeria, Indonesia, Iran, Iraq, Kuwait, Libya, Nigeria, Qatar, Saudi Arabia, United Arab Emirates, and Venezuela.

7. The United States-Dominican Republic-Central America Free Trade Agreement (CAFTA)—2004, CAFTA has eliminated all tariffs on 80 percent of U.S. manufactured goods, with the remainder phased out over a few years. Importantly, the agreement is not limited to manufactured goods, but covers virtually every type of trade and commercial exchange between these countries and the United States.

17.3Financing

and Trade Deficits

I. Financing International TradeA. Foreign exchange is the buying and selling of the currencies of different nations

B. The foreign exchange rate is the price of one country’s currency in terms of another country’s currency

C. Exchange rates are fixed or flexibleo Balance of payments deficit = supply of a country’s currency exceed the demand for the currency at the current exchange rate (Balance of payments surplus is the opposite)

D. Flexible exchange rates, commonly used today, establish the value of each currency through the forces of supply and demand

II. Strong and Weak Currencies A. An increase in the value of currency is called appreciation

A strong dollar can lead to a trade deficit because American goods become too expensive in foreign countries, and imports become relatively inexpensive in the US, which would likely cause Americans to purchase foreign goodsStrong dollar = American exports decline

B. A decrease in the value of a currency is called depreciation 1. When a nation’s currency depreciates, its products become cheaper to other nations… foreign consumers are better able to afford US goods 2. Weak dollar = American exports rise

III. Trade Deficits and Surpluses A. Nations seek to maintain a balance of

trade; balanced trade means a country can

protect its currency on the international market

When a country imports more than exports, the value of its currency falls

B. Persistent trade imbalance tends to reduce the value of a country’s currency on foreign exchange marketsA strong dollar can lead to a trade deficit

because American goods become too expensive, and imports become relatively inexpensiveA weaker dollar buys fewer foreign goods

C. Trade imbalances can be corrected by limiting imports or increasing the number and/or quality of exports (could lead to retaliation)

Exchange RatesExchange rates are very important to people involved in international trade, tourism, and investment.

That is why changes in the rates are posted daily and experts are hired to predict possible changes in the future.

I. Exchange rate = the relative values of different currencies, i.e. the price of one nation’s

currency in terms of another nation’s currency

A. The exchange rate between two currencies depends

on how much demand there is for each country’s exports at any given time.

When there is more demand for a nation’s products, people need more of that nation’s currency to buy the products

Value of $1 U.S. (in foreign currency)

Value of foreign currency (in U.S. dollars)

Canadian dollar 0.97 1.03

Euro 0.70 1.42

Japanese yen 113.94 0.008

Mexican peso 10.84 0.09

In 2007, $1 was worth about 113.94 Yen (¥), while 1 yen was worth about .008 of $1, or less than a penny. So if the price of an imported Japanese computer is $1,000, the American company must exchange $1,000 for about 113,940 Yen to pay for it:

$1 U.S. = 113.94 Yen$1,000 U.S. = 113.94 Yen X 1,000 = ¥113,940