1. ECO 121 MACROECONOMICS Lecture Three Aisha Khan Section L & M Spring 2010

2. US in the Global Economy  M&B Chapter 5  Global Economy

3. International Linkages  Goods and Services flow (trade flows)  Capital and labor flows (resource flows)  Information and Technology flows  Financial flows  What is a trade balance?

4. US and World Trade  Volume  Trend in volume for the US and the World  Dependence  Trade Patterns  Trade deficit in goods  Trade surplus in services  Financial linkages

5. But WHY Trade?  Economically?  Specialization  Concentrating your productive efforts on a limited range of tasks for effective and efficient performance  Division of Labor

6. Absolute Advantage  One country is said to have an absolute advantage over another in the production of a particular good if it can produce a given quantity with less total resources

7. Comparative Advantage  A country has a comparative advantage in producing a good if the opportunity cost of producing that good in terms of other goods is lower in that country than it is in other countries.

8. Example CottonPotatoes US60100 Pakistan105 Trade between two nations: The amount of output produced with one unit of resources

9.  US needs to give up 0.6 cotton bundles to produce 1 bag of potatoes  Pakistan needs to give up 2 cotton bundles to produce 1 bag of potatoes  Comparative Advantage: US (potatoes)  US needs to give up 1.6 bags of potatoes to get 1 cotton bundle  Pakistan needs to give up 0.5 bags of potatoes to get 1 cotton bundle  Comparative Advantage: Pak (cotton) CottonPotatoes US60100 Pakistan105

10. Trade Advantages Standard of Living DevelopmentOutput Efficiency and Productivity

11. Trade and its impact

12. Foreign Exchange Market  Exchange of goods and services requires the exchange in currency  The foreign exchange market helps determine the exchange rate / price at which currency will be exchanged  Competitive  Links all domestic prices to foreign prices

13.  Exchange rates also fluctuate  Appreciation  Gain in value of currency  Impacts: cheaper imports, expensive exports  Depreciation  Loss in value of currency  Impacts: cheaper exports, expensive imports

14. Why intervene in trade?  Domestic industry protection (protectionism)  Costs to society (higher than world prices)  Political considerations  Religious, cultural norms

15. Intervention  Protective Tariffs  Import quotas  Non-tariff barriers  Export subsidies

16. Rapid Trade Growth  Regardless of intervention  Transportation technology  Communications technology  General decline in Tariffs and restrictions

17. Trade Agreements  Objective:  To avoid the backfiring of intervention in trade  To facilitate mutually concerned countries

18. History in Trade Institutions  Reciprocal Trade Agreement Act 1934  Started downward trend in tariffs  Only between two countries  Negotiating authority  Generalized reductions  General Agreement on Tariffs and Trade  Rounds of agreement to reduce trade barriers  Uruguay Round 1995

19. World Trade Organization  Uruguay Round succeeded as WTO  Critical of WTO  Created to expand international trade and allow investment to move around laws that protect resources  Labor and environment laws

20. Trade Blocs  European Union  North American Free Trade Agreement

21. EU, NAFTA, etc  longer-term advantages  internal economies of scale  external economies of scale  better terms of trade  increased competition between members  longer-term disadvantages  certain regions of the union may suffer  possibility of oligopolistic collusion  administrative costs