33 International Trade and Comparative Advantage No nation was ever ruined by trade. BENJAMIN FRANKLIN International Trade and Comparative Advantage No nation was ever ruined by trade. BENJAMIN FRANKLIN

●Why Trade? ●International versus Intranational Trade ●The Law of Comparative Advantage ●Supply, Demand, and Pricing in World Trade ●Tariffs, Quotas, and Other Interferences with Trade ●Why Trade? ●International versus Intranational Trade ●The Law of Comparative Advantage ●Supply, Demand, and Pricing in World Trade ●Tariffs, Quotas, and Other Interferences with Trade Contents Copyright © 2003 South-Western/Thomson Learning. All rights reserved.

●Why Inhibit Trade? ●Other Arguments for Protection ●Can Cheap Imports Hurt a Country? ●Why Inhibit Trade? ●Other Arguments for Protection ●Can Cheap Imports Hurt a Country? Contents (continued) Copyright © 2003 South-Western/Thomson Learning. All rights reserved.

TABLE 33-1 Labor Costs in Industrialized Countries Copyright © 2003 South-Western/Thomson Learning. All rights reserved.

Copyright© 2003 Southwestern/Thomson Learning All rights reserved. Why Trade? ●Reasons countries benefit from foreign trade ♦They can import resources they lack at home. ♦They can import goods for which they are a relatively inefficient producer. ♦Specialization sometimes permits economies of large-scale production. ●Reasons countries benefit from foreign trade ♦They can import resources they lack at home. ♦They can import goods for which they are a relatively inefficient producer. ♦Specialization sometimes permits economies of large-scale production.

Copyright© 2003 Southwestern/Thomson Learning All rights reserved. ●Mutual Gains from Trade ♦When trade is voluntary: ■Both sides must expect to gain from it ■Otherwise, they would not trade ●Mutual Gains from Trade ♦When trade is voluntary: ■Both sides must expect to gain from it ■Otherwise, they would not trade Why Trade?

Copyright© 2003 Southwestern/Thomson Learning All rights reserved. ●International and intranational trade are similar in many respects. International versus Intranational Trade

Copyright© 2003 Southwestern/Thomson Learning All rights reserved. ●Why international trade is studied separately: ♦Countries are governed by separate governments ♦International trade involves the exchange of national currencies ♦Labor and capital are less mobile internationally than they typically are within a country ●Why international trade is studied separately: ♦Countries are governed by separate governments ♦International trade involves the exchange of national currencies ♦Labor and capital are less mobile internationally than they typically are within a country International versus Intranational Trade

Copyright© 2003 Southwestern/Thomson Learning All rights reserved. The Law of Comparative Advantage ●One country is said to have an absolute advantage over another in the production of a particular good if it can produce that good using smaller quantities of resources than can the other country.

Copyright© 2003 Southwestern/Thomson Learning All rights reserved. ●One country is said to have a comparative advantage over another in the production of a particular good if it produces that good less inefficiently than the other country. The Law of Comparative Advantage

Copyright© 2003 Southwestern/Thomson Learning All rights reserved. The Law of Comparative Advantage ●The law of comparative advantage applies even if one country is at an absolute disadvantage relative to another country in the production of every good.

Copyright© 2003 Southwestern/Thomson Learning All rights reserved. The Law of Comparative Advantage ●Both countries gain from trade even if one of them is more efficient than the other in producing everything.

Copyright© 2003 Southwestern/Thomson Learning All rights reserved. The Law of Comparative Advantage ●The Arithmetic of Comparative Advantage ♦When countries differ in the relative efficiency with which they produce different goods: ■Both world output and the welfare of each country can be increased if: ●Each country specializes in producing the goods for which it has a relative advantage; ●And then trades with the other. ●The Arithmetic of Comparative Advantage ♦When countries differ in the relative efficiency with which they produce different goods: ■Both world output and the welfare of each country can be increased if: ●Each country specializes in producing the goods for which it has a relative advantage; ●And then trades with the other.

TABLE 33-2 Alternative Outputs from One Year of Labor Input Copyright © 2003 South-Western/Thomson Learning. All rights reserved.

TABLE 33-3 Example of the Gains from Trade Copyright © 2003 South-Western/Thomson Learning. All rights reserved.

Copyright© 2003 Southwestern/Thomson Learning All rights reserved. The Law of Comparative Advantage ●The Graphics of Comparative Advantage ♦Production possibilities frontiers for two countries can show: ■Different opportunity costs ■The potential gains from trade ●The Graphics of Comparative Advantage ♦Production possibilities frontiers for two countries can show: ■Different opportunity costs ■The potential gains from trade

FIGURE 33-1 Per-Capita PPFs for Two Countries Copyright © 2003 South-Western/Thomson Learning. All rights reserved. 60 U.S. production possibilities frontier SN J Japanese production possibilities frontier Television Sets (millions) Computers (millions) U

FIGURE 33-2 The Gains from Trade Copyright © 2003 South-Western/Thomson Learning. All rights reserved. U U.S. production possibilities A U.S. consumption possibilities S 300 Television Sets Computers (b) United States Japanese production possibilities J Japanese consumption possibilities PN 300 Television Sets Computers (a) Japan

Copyright© 2003 Southwestern/Thomson Learning All rights reserved. Comparative Advantage: “Cheap Foreign Labor” ●A country can benefit from trade, even if wages in the other country are considerably lower than its own wages. ?

Copyright© 2003 Southwestern/Thomson Learning All rights reserved. Supply, Demand, and Pricing in World Trade ●In a two-country supply-demand model without trade restrictions: ♦The price of a good must be the same in both countries ♦The quantity of a good exported from one country must equal the quantity imported by the other ●In a two-country supply-demand model without trade restrictions: ♦The price of a good must be the same in both countries ♦The quantity of a good exported from one country must equal the quantity imported by the other

FIGURE 33-3 Supply-Demand in the International Wheat Trade Copyright © 2003 South-Western/Thomson Learning. All rights reserved. Price of Wheat per Bushel Importing country’s supply Importing country’s demand Quantity of Wheat (b) Importing Country 0 Imports C D HG Price of Wheat per Bushel 2.50 $3.25 Exporting country’s supply Exporting country’s demand Quantity of Wheat (a) Exporting Country 0 Exports AB FE

Copyright© 2003 Southwestern/Thomson Learning All rights reserved. Tariffs, Quotas, and Other Interferences with Trade ●Countries can reduce imports by setting tariffs or quotas. ●They can promote exports by subsidizing export goods. ●Countries can reduce imports by setting tariffs or quotas. ●They can promote exports by subsidizing export goods.

Copyright© 2003 Southwestern/Thomson Learning All rights reserved. Tariffs, Quotas, and Other Interferences with Trade ●Tariff = tax on imports ●Quota = legal limit on the amount of a good that may be imported ●Export subsidy = government payment to an exporter ●Tariff = tax on imports ●Quota = legal limit on the amount of a good that may be imported ●Export subsidy = government payment to an exporter

Copyright© 2003 Southwestern/Thomson Learning All rights reserved. Tariffs, Quotas, and Other Interferences with Trade ●How Tariffs and Quotas Work ♦Both tariffs and quotas  ■  price of imports ■  quantity of imports ♦Any restriction of imports that is accomplished by a quota normally can also be accomplished by a tariff ●How Tariffs and Quotas Work ♦Both tariffs and quotas  ■  price of imports ■  quantity of imports ♦Any restriction of imports that is accomplished by a quota normally can also be accomplished by a tariff

FIGURE 33-4 Quotas and Tariffs in International Trade Copyright © 2003 South-Western/Thomson Learning. All rights reserved $3.25 Importing country’s supply Importing country’s demand Quantity of Wheat (b) Importing Country 0 CD TQ Price of Wheat per Bushel 2.00 $2.50 Exporting country’s supply Exporting country’s demand Quantity of Wheat (a) Exporting Country 0 R A S B

Copyright© 2003 Southwestern/Thomson Learning All rights reserved. Tariffs, Quotas, and Other Interferences with Trade ●Tariffs versus Quotas ♦When imports are to be reduced, tariffs are generally preferable to quotas because: ■Tariffs generate income for the government ■Unlike quotas, tariffs offer no special benefits to inefficient exporters ●Tariffs versus Quotas ♦When imports are to be reduced, tariffs are generally preferable to quotas because: ■Tariffs generate income for the government ■Unlike quotas, tariffs offer no special benefits to inefficient exporters

Copyright© 2003 Southwestern/Thomson Learning All rights reserved. ●Reasons why countries may restrict trade: ♦Gain a price advantage ♦Protect particular industries ♦National defense and other non-economic reasons ♦Infant-industry argument ♦Strategic trade policy ●Reasons why countries may restrict trade: ♦Gain a price advantage ♦Protect particular industries ♦National defense and other non-economic reasons ♦Infant-industry argument ♦Strategic trade policy Why Inhibit Trade?

Copyright© 2003 Southwestern/Thomson Learning All rights reserved. Why Inhibit Trade? ●But retaliation may eliminate their advantage and make all countries worse off.

TABLE 33-4 Estimated Costs of Protectionism to Consumers Copyright © 2003 South-Western/Thomson Learning. All rights reserved.

How Popular Is Protectionism? Copyright © 2003 South-Western/Thomson Learning. All rights reserved. 37% 56% 42% Free traders Protectionists 47% Percentage United StatesWorld

Copyright© 2003 Southwestern/Thomson Learning All rights reserved. ●Dumping = selling goods in a foreign market at lower prices than those charged in the home market ●Cheap imports: ♦Benefit consumers ♦Hurt some domestic businesses and their workers ●Dumping = selling goods in a foreign market at lower prices than those charged in the home market ●Cheap imports: ♦Benefit consumers ♦Hurt some domestic businesses and their workers Can Cheap Imports Hurt a Country?

Copyright© 2003 Southwestern/Thomson Learning All rights reserved. Can Cheap Imports Hurt a Country? ●Those who are hurt by cheap imports may fight to prevent their losses. ●Politics often leads to the adoption of protectionist measures that would be rejected on strictly economic terms. ●Those who are hurt by cheap imports may fight to prevent their losses. ●Politics often leads to the adoption of protectionist measures that would be rejected on strictly economic terms.

Copyright© 2003 Southwestern/Thomson Learning All rights reserved. A Last Look at the “Cheap Foreign Labor” Argument ●Labor is cheap in countries where productivity is low. ●Labor is expensive in countries like the United States where labor productivity is high. ●Labor is cheap in countries where productivity is low. ●Labor is expensive in countries like the United States where labor productivity is high. ?

Copyright© 2003 Southwestern/Thomson Learning All rights reserved. A Last Look at the “Cheap Foreign Labor” Argument ●Under most circumstances, international trade enhances our standard of living. ?