The Supply and Demand Model for Trade -Two-country model -Price-taker model

International Trade Imagine the situation where NZ and Fiji are willing to trade with one another. ?

International Trade New Zealand is a more efficient producer of beef than Sweden is. On a scrap piece of paper draw two diagrams 1. One for NZ demand and supply of beef 2. One for Sweden's demand and supply of beef One country will have a lower price……

Markets for Beef – Without Trade PePe Sweden New Zealand QAQA QBQB Price ($) Quantity PePe S S DD The price differences between NZ and Sweden represents the differences in efficiency of producers in each country. (NZ has a comparative advantage in Beef so NZ can produce beef cheaper and sell at a lower price)

International Trade for Beef WP PAPBPAPB SwedenNew Zealand QAQA QBQB Price ($) Quantity S S DD QSsQDs Import level QDnz QSnz Export Level

Effects of trade in between NZ and Sweden Effects to NZ (country with the comparative advantage) –Higher world price has caused the price of beef to rise in NZ –Domestic Consumption has fallen (due to the increase in price) –Domestic Production has risen. Effects to Sweden (Country with comparable disadvantage in beef production) –Price of beef has fallen –Domestic consumption has increased –Domestic production has decreased

The S&D model can be used to show trade between countries. –Large trading nations AND –Smaller ‘price taker’ nations. Three assumptions of the model 1.No transport costs 2.Only two countries trade this good 3.The prices on each axis are for the same currency Supply and Demand models of international trade

Two country Model This model is used where the trading countries are both able to influence the world price of the commodity

For trade to occur… When there is a difference between the two equilibrium prices, there is potential for trade. Trade will occur between the two equilibrium prices for each country. The World Price will be the point where imports equal exports (not necessarily half way between).

Two country Model Where trading countries are able to influence the world price of a commodity COUNTRY A COUNTRY B QAQA QBQB The world price is influenced by the supply of exports to and the demand of exports from the world market PAPA PBPB Quantity (000s)

Two Country Model Before Trade –Country A was producing Q A (20 000) at a price of P A ($25) –Country B was producing Q B (25 000) at a price of P B ($15) If trade was allowed to occur, Country As consumers would prefer to buy good from Country B as they are cheaper. And Country B producers would prefer to sell to the higher paying Country A. Country A will import and Country B will export

Two country Model Where trading countries are able to influence the world price of a commodity Imports Exports COUNTRY A COUNTRY B QAQA QBQB The world price is influenced by the supply of exports to and the demand of exports from the world market PAPA PBPB Quantity (000s) QDQD QSQS QSQS QDQD Local production Local consumption

Two Country Model After Trade at the world price of ($20) –Country A production falls from Q A to Q S (15 000) and demand increases from Q A to Q D (25 000) –Country A will import the difference between QS and QD (10 000) –Country B production increases from QB to QS (30 000) and demand falls from QB to QD (20 000) –Country B will export the difference between QS and QD (10 000)

Two Country Model The world price is not always halfway between the existing prices. It is where the quantity exported from country B equals the quantity imported to A

Workbooks page 87-89

Changes in World Price If a large country’s (in terms of output of the good) demand or supply curve shifts, this will cause a change in World Price. For the World Price to decrease: –The exporting country’s supply would increase or the demand would decrease. –The importing country’s supply would decrease or the demand would increase. For the World Price to increase: –The exporting country’s supply would decrease or the demand would increase. –The importing country’s supply would increase or the demand would decrease.

Demand is affected by Income Tastes and preference Price of related goods Supply is affected by –Costs of production –Technology –Price of other goods the producer could make

One Country Price Taker Model NZ is a price taker –A price taker must accept or take the price that is set in the world market. Whether a good is imported or exported depends on where the World price is, in relation to the Domestic product. World price= the price at which a good or service is traded on international markets Domestic Price= The price at which a good or service is traded on home market.

Price Taker A price taker is a country that is unable to influence the world price of a commodity. NZ is a price taker because our output is so small in comparison to the rest of the world a change in domestic demand or supply will have no effect on the world price.

Example Milk Production How many liters of milk does NZ produce? In billion litres of milk

Page 21 Confidential to Fonterra Co-operative Group World Dairy Milk Production NZ Production World Production 3% 97% New Zealand produces only a very small share of the world’s milk. Most milk is consumed in the country of production – NZ is an exception where this is reversed.

Exports An export is a product consumed in one country and sold to and consumed in another country. Reasons for exports occurring The World price is higher than the domestic price would be if there was no trade The World provides a larger market than the domestic market. When these reasons occur, trade results in larger revenues for firms than if trade didn’t occur.

New Zealand as a exporter World Price Exports QD NZ QS NZ World Demand curve

Imports An import is a product consumed by one country but produced in another country Reasons why imports occur The world price is lower than what the domestic price would be than if there was no trade The importing country may not have the resources to produce the imported product. Imports enable the standard of living of a nation to be greater than it would otherwise be.

New Zealand as an Importer World Price QDnz QSnz Imports World supply curve

Workbooks Page

One Country Model- Price Taker Influences on the quantities of imported and exported Market Strawberries (Imports) Changes in domestic demand and supply will affect our level of imports and exports. Changes in the demand and supply of large trading partners will only affect our levels of imports and exports if they are able to influence world price Factors beyond NZ control have caused the world price to rise. This leads to a fall in quantity imported Increase in quantity domestically produced and consumed. PePe QeQe S M QsQs QdQd WP WP ’

Price Taker Model – Changes in Demand A change in domestic demand, has no effect on the world price as NZ is a price taker. QDNZ Imports D NZ E.G. NZ Incomes fall A Fall in incomes by Nzlanders cause a decrease in domestic demand for imports. This is shown by the demand curve shifting to the left. Causing a fall in the amount of imports.