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Chapter 7: Global Markets in Action Explain how international trade affects markets Identify gains from trade, winners, and losers Explain effects of trade.

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Presentation on theme: "Chapter 7: Global Markets in Action Explain how international trade affects markets Identify gains from trade, winners, and losers Explain effects of trade."— Presentation transcript:

1 Chapter 7: Global Markets in Action Explain how international trade affects markets Identify gains from trade, winners, and losers Explain effects of trade barriers – Tariffs – Quotas Consider arguments for/against protectionism.

2 How Global Markets Work Global trade in 2009 Global exports and imports were $31 trillion, which is more than half the value of global production. Total U.S exports were $1.6 trillion – about 11% of the value of U.S. production. Total U.S. imports were $2 trillion – about 14% of the value of U.S. production. Services were about 33% of total U.S. exports and 19% of total U.S. imports.

3 How Global Markets Work What Drives International Trade? – The fundamental force that generates trade between nations is comparative advantage. – The basis for comparative trade is divergent opportunity costs between countries.

4 How Global Markets Work – Assume tahtthe opportunity cost of producing a T- shirt is lower in China than in the U.S. China has a comparative advantage in producing T-shirts. – Suppose the opportunity cost of producing an airplane is lower in the U.S. than in China the U.S. has a comparative advantage in producing airplanes. – Both countries can reap gains from trade by specializing in the production of the good at which they have a comparative advantage and then trading. – Both countries can gain from trade.

5 How Global Markets Work: Imports U.S. demand and U.S. supply with no international trade. The price of a T-shirt in U.S. is $8. U.S. firms produce 40 million T-shirts a year and U.S. consumers buy 40 million T-shirts a year.

6 How Global Markets Work: Imports Because U.S. does not have comparative advantage in t- shirts, world price < U.S. price without trade. With trade allowed, price of t-shirts drops to $5. U.S. production of t-shirts drops U.S. consumption of t- shirts rises Imports make up difference between consumption and production in U.S.

7 How Global Markets Work: Exports Without trade allowed, the price of an airplane in U.S. is at $100 million. Boeing produces 400 airplanes a year and U.S. airlines buy 400 a year.

8 How Global Markets Work: Exports Because U.S. has comparative advantage in planes, world price> U.S. price without trade allowed. Allowing trades causes: the price of an airplane to rise to world price of $150 million. U.S. production increases U.S. consumption decreases exports of airplanes

9 – International trade lowers the price of an imported good Consumers of imported good are better off Sellers of imported good are worse off – International trade raises the price of an exported good Consumers of exported good are worse off Sellers of exported good are better off – On net, is society better off with free trade? Winners, Losers, and the Net Gain from Trade

10 Winners and Losers with Imports Consumers surplus increases by B+D Producers surplus decreases by B On net, society better off by D

11 Winners and Losers with Exports consumers surplus decreases by B Producers surplus increases by B+D On net, society better off by D

12 – Governments restrict international trade to protect domestic producers from competition. – Governments use four sets of tools: Tariffs Import quotas Other import barriers Export subsidies International Trade Restrictions

13 Tariffs – a tax on a good that is imposed by the importing country when an imported good crosses its international boundary. – For example, if the government of India imposes a 100 percent tariff on wine imported from the United States. – So when an Indian wine merchant imports a $10 bottle of Ontario wine, he pays the Indian government $10 import duty. International Trade Restrictions

14 Effect of a $2 tariff on T-shirts The tariff of $2 raises the price in the United States to $7. U.S. imports decrease to 10 million a year. U.S. government collects the tax revenue of $20 million a year.

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16 Import Quotas – a restriction that limits the maximum quantity of a good that may be imported in a given period. – For example, the United States imposes import quotas on food products such as sugar and bananas and manufactured goods such as textiles and paper. International Trade Restrictions

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18 The import quota raises the price of a T-shirt to $7 and decreases imports. Area B is transferred from consumer surplus to producer surplus. Importers profit is the sum of the two areas D. The area C + E is the loss of total surplusa deadweight loss created by the quota. International Trade Restrictions

19 Other Import Barriers – Thousands of detailed health, safety, and other regulations restrict international trade. Export Subsidies International Trade Restrictions

20 The Infant-Industry Argument – it is necessary to protect a new industry from import competition to enable it to grow into a mature industry that can compete in world markets. – This argument is based on the concept of dynamic competitive advantage, which can arise from learning- by-doing. – While learning-by-doing is a powerful engine of productivity growth, but some argue this does not justify protection. Arguments for Protectionism

21 The Dumping Argument – Dumping occurs when foreign a firm sells its exports at a lower price than its cost of production. – This argument does not justify protection because It is virtually impossible to determine a firms costs. Hard to think of a global monopoly, so even if all domestic firms are driven out, alternatives would still exist. If the market is truly a global monopoly, better to regulate it rather than restrict trade. Arguments for Protectionism

22 – Other common arguments for protection are that it Saves jobs – But costs jobs too. Allows us to compete with cheap foreign labor. – But cheaper labor is less productive Penalizes lax environmental standards. – But improved incomes tend to improve environmental standards Prevents rich countries from exploiting developing countries. – What is exploitation? – Free trade will increase wages of workers in developing countries. Arguments for Protectionism

23 Why is trade restricted? Rent seeking: lobbying activities to collect rents from trade protection. Widely dispersed costs(consumers) Concentrated benefits (producers) Lobbying is done by beneficiaries, not losers. The Case Against Protection


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