“In every country it always is and must be the interest of the great body of the people to buy whatever they want of those who sell it cheapest.” The reason for trade.... From the Wealth of Nations written in 1776 by Adam Smith, Father of Classical Economic Thought

KEY FACTS 1-Exports of Goods & Services account for 11% 2-Since 1975, US exports have doubled as a % of GDP 3-US is the leader in volume of exports & imports in dollar value 4-import and export same categories of items like cars, computers, chemicals etc 5-US provides 1/8 of the world’s exports Germany, Japan, France, UK, and China

Could We Build a Jet Liner Without World Trade?

United States Germany Japan France United Kingdom China Canada Italy Shares of World Exports, Selected Nations, 2001 Source: World Trade Organization

WHY TRADE? 1-uneven distribution of natural resources 2-efficient production of goods requires different technologies & combinations of resources 3-produce items that differ in quality RESULTS OF TRADE: A-specialize, increase productivity & get more G & S

BENEFITS OF FREE TRADE More efficient allocation of resources Allows for higher level of material wealth Promotes competition & innovation Consumer choices increase Deters monopolies Economic partner=political partner

3 Types of Goods 1-labor intensive Need skilled labor 2-land intensive Need land & climate 3-capital intensive Need $ and machines Distribution of resources changes over time if have more education, more technology etc.

Brazil & US—a simplified study of trade Constant costs not increasing Cost ratio Self-sufficient output mix Comparative advantage Terms of trade

Gains from trade Supplement your domestic ppc with a trading possibility line Improved options Realize combination of the 2 goods beyond ppc More efficient allocation of world resources and larger outputs

Using an increasing cost ppc Resources not perfectly substitutable Have to give up more & more of one product to get another Result: less than complete specialization

Production Possibilities Curves A B Coffee (tons) Wheat (tons) United States Brazil

SpecializationSpecialization If the US and Brazil specialize in the good in which they hold the Comparative Advantage…

TRADING POSSIBILITIES LINES Coffee (tons) A B Trading possibilities line Trading possibilities line Wheat (tons) The Gains from Trade United StatesBrazil

TRADING POSSIBILITIES LINES Coffee (tons) A B Trading possibilities line Trading possibilities line A’ B’ Wheat (tons) The Gains from Trade United StatesBrazil

WORLD TRADE ANALYSIS WHO BENEFITS? Consumers can buy more & different products at a lower price Domestic industries Export industries WHO IS HURT? Import competing firms Domestic consumers of export industries Mobility of capital & workers

Supply & Demand Analysis Domestic price World price US export supply if above equilibrium, then ______ if below equilibrium, then US Import demand If below domestic price, import If above domestic price, don’t

SUPPLY AND DEMAND IN THE UNITED STATES U.S. Domestic Aluminum Market U.S. Export Supply And Import Demand DdDd SdSd If the world price exceeds the U.S. price by 25 cents... $ Price (per pound; U.S. dollars) Quantity of Aluminum Price (per pound; U.S. dollars) $ Quantity of Aluminum

EXPORTS = 50 U.S. Domestic Aluminum Market U.S. Export Supply And Import Demand $ DdDd Price (per pound; U.S. dollars) SURPLUS = 50 $ If the world price goes further up... SdSd Quantity of Aluminum SUPPLY AND DEMAND IN THE UNITED STATES

EXPORTS = 50 EXPORTS = 100 U.S. Domestic Aluminum Market U.S. Export Supply And Import Demand $ DdDd Price (per pound; U.S. dollars) SURPLUS = 50 SURPLUS = 100 $ If world prices fall below $ SdSd U.S. export supply Quantity of Aluminum SUPPLY AND DEMAND IN THE UNITED STATES

SHORTAGE = 50 U.S. Domestic Aluminum Market U.S. Export Supply And Import Demand $ DdDd Price (per pound; U.S. dollars) SURPLUS = 50 SURPLUS = 100 $ SdSd EXPORTS = 50 EXPORTS = 100 IMPORTS = 50 U.S. export supply Quantity of Aluminum SUPPLY AND DEMAND IN THE UNITED STATES

SHORTAGE = 50 SHORTAGE = 100 U.S. Domestic Aluminum Market U.S. Export Supply And Import Demand $ DdDd Price (per pound; U.S. dollars) SURPLUS = 50 SURPLUS = 100 U.S. export supply EXPORTS = 50 EXPORTS = 100 IMPORTS = 50 IMPORTS = 100 U.S. import demand $ SdSd Quantity of Aluminum SUPPLY AND DEMAND IN THE UNITED STATES

Canada’s Domestic Aluminum Market Canada’s Export Supply And Import Demand DdDd SHORTAGE = 50 $ Price (per pound; U.S. dollars) SURPLUS = 100 Canadian export supply Canadian import demand $ SdSd SURPLUS = 50 Quantity of Aluminum SUPPLY AND DEMAND IN THE CANADA

TRADE RESTRICTIONS.... Tariffs-excise tax on imports 2 types: revenue & protective Quotas Non-tariff barriers—licensing agreements Voluntary export restrictions

Great Britain Lipton Tea SwedenVolvo Netherlands Shell gasoline Thailand Bumble Bee Tuna Great Britain Ragu Foods France Michelin Tires GermanyAlka-Seltzer United States Levi Strauss clothing Germany Adidas athletic wear United States Nike athletic wear Germany Bayer Aspirin Japan Firestone tires Japan Sony electronics Great Britain Baskin-Robbins ice cream Australia TV Guide Switzerland Nestle Home Country ProductProduct ProductProduct Where in the world?

Tariffs … are import duties or surcharges on the price of imports. The tariff: raises the price of the import raises the price of the import reduces the demand for imports reduces the demand for imports encourages demand for home-produced substitutes encourages demand for home-produced substitutes raises revenue for the government. raises revenue for the government.

Effects of a Tariff

TRADE RESTRICTION #2-Quota …restrict the actual quantity of an import allowed into a country. A quota:  raises the price of imports;  raises the price of imports;  reduces the volume of imports;  reduces the volume of imports;  encourages demand for domestically made substitutes.  encourages demand for domestically made substitutes.

Effects of a Quota

Impact of Tariffs Direct Substitution affect— Increase of domestic production Decrease in imports Tariff revenue increases Indirect Changes resource allocation Promotes inefficient industries

Impact of Quotas Higher price created that goes to foreign producer Prices increase b/c less imports (increased demand, but limited supply) Domestic consumption decreases US producers get a higher price and increase sales

AFFECT ON CONSUMER 1-high price for import 2-higher prices for domestic good Less competition 3-diversion of $ & resources to influencing Congress, when $ could be used for other items

Arguments For Protectionism 1-preserve industries necessary for effective military 2-increased domestic employment 3-diverse economy can withstand international political/economic problems better 4-protects infant industry 5-tariffs protect firms from dumping “below cost” items into market 6-cheap foreign labor hurts American laborers

PROBLEMS WITH PROTECTIONISM ARGUMENTS Jobs are created thru imports ALL nations can’t restrict imports while maintaining exports Trade barrier wars would hurt all Thru imports foreign nations earn $ to buy exports US has a diverse economy— unchangeable

More Problems with Protectionism Arguments Use direct subsidies not tariffs to help infant industries Most nations prohibit dumping of goods Usually have slower growth in developing nations if they use protectionism