C1-1 Baby Economics Some Tools and Terms…

C1-2 OVERVIEW Refresh some of the topics learned in introductory economics courses Identify Specific tools required to examine Issues in International Economics (specifically trade) Refresh some of the topics learned in introductory economics courses Identify Specific tools required to examine Issues in International Economics (specifically trade)

C ) Important Terms and Tools Demand and Supply Positive and Normative Analysis Economic Model Relative (Real) and Nominal Prices Production Possibilities Frontier (Curve) Indifference Curve (IC) Autarky (“ No Trade”)

C1-4 Consumer and Producer Surplus Welfare 2.1) Important Terms and Tools

C1-5 WELFARE International Economics affects the wellbeing of residents of any country.

C1-6 WELFARE Cross border exchange of goods and service, and financial assets are welfare improving because Provide access to goods and services that can’t be produced at home Provide access to factors that are not available at home Serve as a forum for transfer of technology Cross border exchange of goods and service, and financial assets are welfare improving because Provide access to goods and services that can’t be produced at home Provide access to factors that are not available at home Serve as a forum for transfer of technology

C1-7 WELFARE when a country involves in international trade, there are always some losers and some winners within a country.

C1-8 WELFARE Because International trade may affect the producers’ benefits (Producers’ Surplus) and consumers’ benefits (Consumers’ Surplus) differently …. Because International trade may affect the producers’ benefits (Producers’ Surplus) and consumers’ benefits (Consumers’ Surplus) differently ….

C1-9 WELFARE For Instance, While consumers may gain from reduced prices, access to new products/services and quality, some producers may lose their profits and even driven out of markets…loss of jobs Producers may also benefit from expanded opportunities (access to resources, transfer of a technology, ….) For Instance, While consumers may gain from reduced prices, access to new products/services and quality, some producers may lose their profits and even driven out of markets…loss of jobs Producers may also benefit from expanded opportunities (access to resources, transfer of a technology, ….)

C1-10 Changes in Consumer Surplus + Changes in Producer Surplus Gains (+ Changes) > Losses (- Changes) IMPROVING WELFARE

C1-11 Demand, Supply and Autarky Price Copyright©2003 Southwestern/Thomson Learning Price Quantity Equilibrium Quantity Equilibrium Price Supply Demand If a country engages in no international trade ….Autarky price P Q

C1-12 Autarky: Why? The nation is closed to international trade (Political reasons….) The country is self sufficient… Net changes in its welfare when it involves in international trade is ZERO Thus decides to produce all what it consumes/ consumes all what it produces.. The nation is closed to international trade (Political reasons….) The country is self sufficient… Net changes in its welfare when it involves in international trade is ZERO Thus decides to produce all what it consumes/ consumes all what it produces..

C1-13 EXPORT Copyright©2003 Southwestern/Thomson Learning Price 0 Supply Demand Surplus Quantity P0 P1 Qd Qs

C1-14 IMPORT Copyright©2003 Southwestern/Thomson Learning Price 0 Quantity Supply Demand Quantity supplied Quantity demanded P0 Shortage P1

C1-15 Production Possibilities Frontier A graph that shows alternative combination of two products that can be produced from the available resources and technology

The Production Possibilities Frontier (PPF) Beer Wine A B C

0 Usually PPF has a Bowed Out shape Beer Wine A B C

C1-18 Production Possibilities Frontier Illustrates Several Concepts Attainable/Unattainable Production levels Efficient and Slack Production Levels Tradeoffs/Opportunity Cost Economic Growth Illustrates Several Concepts Attainable/Unattainable Production levels Efficient and Slack Production Levels Tradeoffs/Opportunity Cost Economic Growth

C1-19 The Constant-Opportunity Cost Production Possibilities Frontier (PPF) E C Wine Beer A B D Output levels outside PPF are unattainable given the current technology and resources

C1-20 Fig.1.3. The Production Possibilities Frontier (PPF) E C Wine Beer A B E Output levels within PPF indicate the presence of unused (unemployed/slack) resources and thus are inefficient

C1-21 Fig.1.3. The Production Possibilities Frontier (PPF) E C Wine Beer A B A movement from A to B on PPF shows the opportunity Cost of producing 10 more units Wine= 15 units of Beer

C1-22 Economic Growth ,000 1,000 Beer A An Outward shift in PPF indicates Economic Growth Wine

C Basic Assumptions … 1.Economic Agents Exhibit Rational Behavior Are goal oriented Choose to use the available resources in such a way that it gives them the maximum possible satisfaction. 1.Economic Agents Exhibit Rational Behavior Are goal oriented Choose to use the available resources in such a way that it gives them the maximum possible satisfaction.

C Basic Assumptions … 2.There is No Money Illusion Production and consumption decisions are not based on changes only in some prices… 2.There is No Money Illusion Production and consumption decisions are not based on changes only in some prices…

C Basic Assumptions … 2.There is No Money Illusion Production and consumption decisions are based on changes in Real (relative) NOT Nominal prices. 2.There is No Money Illusion Production and consumption decisions are based on changes in Real (relative) NOT Nominal prices.

C Often times there are only 2 countries, 2 commodities, and 2 factors (2X2X2) Convenience (2 dimensional graphs, such as PPF, IC…) 3.Often times there are only 2 countries, 2 commodities, and 2 factors (2X2X2) Convenience (2 dimensional graphs, such as PPF, IC…) 2.2. Basic Assumptions …

C Factor endowments & technologies are fixed. The supply of factors and technology in each country is fixed Allows us to draw PPF and trace the growth path of a nation 4.Factor endowments & technologies are fixed. The supply of factors and technology in each country is fixed Allows us to draw PPF and trace the growth path of a nation 2.2. Basic Assumptions …

C1-28 Beer Wine PPF (Production) PPF

C1-29 PPF 0 Beer Wine 6 4 A E B C D ΔB=1 ΔB=2 ΔB=3 A bowed out shape of the PPF shows an increasing Opportunity Cost

C1-30 PPF 0 Beer Wine 6 4 C Result from a neutral technical progress

C1-31 PPF 0 Beer Wine 6 4 C A non-neutral technical progress

C1-32 PPF 0 Beer Wine 6 4 C A non-neutral technical progress

C Markets are Perfectly Competitive Market prices reflect the true social (opportunity) costs of production. …P=MC; No Intervention; trade unions have no impact on wages… 5.Markets are Perfectly Competitive Market prices reflect the true social (opportunity) costs of production. …P=MC; No Intervention; trade unions have no impact on wages… 2.2. Basic Assumptions …

C Factors are perfectly mobile within industries Guarantees that resources earn the same payments in every production sector… Can move to sectors where returns are higher…price equalization.. 6.Factors are perfectly mobile within industries Guarantees that resources earn the same payments in every production sector… Can move to sectors where returns are higher…price equalization Basic Assumptions …

C Preferences can be represented by indifference curves (IC) 2.2. Basic Assumptions …

C1-36 Definition and Properties of ICs

C1-37 Indifference curves are graphs that reflect the consumption preferences of individuals Locus of bundles of goods that yield the same level of satisfaction Indifference curves are graphs that reflect the consumption preferences of individuals Locus of bundles of goods that yield the same level of satisfaction Definition

C1-38 Beer Wine Different combination of two goods that give a consumer the same (equal) level of satisfaction IC (Consumption) A C E

C1-39 Beer Wine Bundles of Beer and Wine ( A, C, or E) gives a consumer equal (the same) level of satisfaction (utility) IC (Consumption) A C E

C1-40 Beer Wine Budget Line (Price Line): A line that shows the different combination of two goods that a consumer can buy given his budget IC (Consumption) A B

C1-41 Beer Wine The Tangency between IC and budget line shows utility max point IC (Consumption) A B

C1-42 Properties 1.Are Down ward slopping (Trade-offs)

C1-43 Beer Wine Properties A C E Are Down ward slopping (Trade-offs) Indicate that both goods are “truly” goods to the consumer…. If one bundle (E) has less of one good (Beer), it must have more of another good (A) to be equally pleasing as the other bundle (E).

C1-44 Properties 2.Convex to the Origin (Bowed In)

C1-45 Beer Wine A C E Convex to the Origin…(Variety) Indicate that consumers are willing to give up less and less quantities of one good (Beer) for increased consumption of another good (Wine)

C1-46 Properties 3.Infinitely many ICs… (Ranking)

C1-47 Beer Wine Consumers can describe their feelings regarding any conceivable consumption bundles… A C E Infinitely many ICs… An indifference curve on the upper and right hand side of another indifference curve shows higher level of satisfaction..

C1-48 Beer Wine Higher utility with the same budget IC (Consumption) A B C

C1-49 Properties 4. Two Indifference curves never Intersect (Consistency)

C1-50 Beer Wine A C E Two ICs never intersect… Violates the rationality Assumption

C1-51 Why PPF and IC?

C1-52 Beer Wine Production and Consumption (Using PPF and IC) IC(1) PPF A B IC(2) C D