Terms of Trade. Terms of Trade (TOT) Terms of Trade is a ratio of export prices to import prices. It is a measure that reflects changes in the average.

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Presentation transcript:

Terms of Trade

Terms of Trade (TOT) Terms of Trade is a ratio of export prices to import prices. It is a measure that reflects changes in the average prices received for a basket of exports against those average prices paid for a basket of import. TOT = Export Price Index X 100 Import Price Index

Analysing the TOT A favourable Terms of Trade occurs when the TOT is greater than 100 index points. An unfavourable Terms of Trade occurs when the TOT is less than 100 index points. An improvement in the terms of trade occurs when there is an increase in the index points.

Causes of an Improvement in the TOT An improvement in the TOT can be due to the following: ▫ Export prices rising ▫ Import prices falling or ▫ Export prices rising faster than import prices.

Factors - Trend in Australia’s TOT

In addition the prices of our imports have been falling, especially imports from China

Benefits of Australia’s High TOT Australia’s record high TOT is due predominately to the record high prices we are receiving for our commodity exports. The income exporter of commodities received is determined by price and quantity sold. Even we sell the same quantity of commodity resources since we are receiving a higher price the income of exporters is going to increase. Higher income means higher profits for mining exporters They can use this extra profit to invest in new capital (↑I) which will lead to ↑AD, ↑production and ↑economic growth.