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Published byDavion Birdsall Modified over 10 years ago
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Overview of the Field of International Economics International Trade –gains from trade –comparative advantage –trade barriers example: quotas International Finance –exchange rates –trade deficits or surpluses –a macroeconomic topic taken up in later lectures
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Globalization of the Economy Recent high growth of international trade –reduced transportation costs –lower barriers to trade Look around you for many examples –todays news –this computer
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Four ways to gain from trade voluntary exchange (already discussed) competition (already discussed) economies of scale (next lecture) comparative advantage (this lecture)
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Definitions Absolute advantage: a country can produce a good relatively more efficiently than another country (example: U.S. better at oranges than Canada) Comparative Advantage: a country can produce a good relatively more efficiently than another good in comparison with another country Applies to people as well as to countries
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Numerical example: Output per day of work
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Find who has a comparative advantage in what US has an absolute advantage over K in both vaccine and TV sets –for Vaccine 6>1, for TV sets 3>2 US has a comparative advantage in vaccines –6/1 is greater than 3/2 K has a comparative advantage in TV sets –2/3 is greater than 1/6
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Can define comparative advantage in terms of opportunity costs Definition: If country A has a lower opportunity cost of producing a good, then it has a comparative advantage in that good compared to country B Example. Opportunity cost of producing a TV in US is 2 vials while it is only 1/2 vial in Korea –Hence, Korea has the comparative advantage in TVs
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To get a gut-feeling for the idea of comparative advantage, lets imagine 2 people with 2 skills: lawyer economist
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Like two people, two countries can gain from trade based on comparative advantage. To see this, assume that the price with trade is 1 unit of vaccine for 1 TV set How can the US gain from trade? –reduce TV production by 3 –increase vaccine production by 6 –trade with K for 6 TV sets –come out ahead by 3 TV sets
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Korea can also gain from trade –increase TV production by 6 –reduce vaccine production by 3, –trade with US for 6 vials of vaccine –come out ahead by 3 vials of vaccine
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Determining the price ratio before trade United States –in the US, 6 vials cost the same to produce as 3 TVs –Thus, TVs should cost twice as much as vials –ratio of P TV to P v = 2 Korea –in Korea, 2 TVs cost the same to produce as 1 vial –Thus TVs should cost half as much as vials –ratio of P TV to P v = 1/2
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Determining the price ratio after trade Price ratio must come together somewhere between 2 and 1/2 We cannot tell exactly what the price ratio will be; –it depends on demand For ease of multiplication, we therefore assume that the price ratio is 1 –that is, the ratio of P TV to P v = 1
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Showing Comparative Advantage with Production Possibilities Curves (10,000 workers in US and 30,000 in K)
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Do you think you could sketch that diagram by hand?
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