INTERNATIONAL TRADE Why do nations trade?

What is international trade?  Exchange of capital goods and services across international borders.  Imports – buying foreign produced goods  Exports – selling domestically produced goods to other nations

BENEFITS OF INTERNATIONAL TRADE  Lower prices  Greater Choice  Economies of Scale  Allows domestic production and consumption to increase as a result of specialization  Increased competition resulting in efficiency  Increased interdependence among countries which may reduce conflict or hostility  Increased exports and great efficiency resulting in economic growth

ABSOLUTE ADVANTAGE  Ability of one country to produce more of product using fewer resources.  Countries will benefit if they produce the products in which they specialize and have absolute advantage.

Who Should Do What? WorkerSaladsPizzas Nino369 Tony126 Use “ OOO – one over the other” rule for output Use “IOU –other goes under” rule for input

Who Should Do What? 1.Nino’s opportunity cost of producing 9 pizzas is 36 salads. Therefore, his opportunity cost of producing 1 pizza is 4 salads. 2.Tony’s opportunity cost of producing 6 pizzas is 12 salads. Therefore, his opportunity cost of producing 1 pizza is 2 salads. 3.Nino’s opportunity cost of preparing 36 salads is 9 pizzas. Therefore, his opportunity cost of preparing 1 salad is 1/4 of a pizza. 4.Tony’s opportunity cost of preparing 12 salads is 6 pizzas. Therefore, his opportunity cost of preparing 1 salad is 1/2 of a pizza.

5.Who has the lower opportunity cost for making pizzas? Tony 6.Who has the lower opportunity cost for preparing salads? Nino 7.Who has the comparative advantage in producing pizzas? Tony Salads? Nino 8.How will specialization affect the running of the pizza shop? Tony will specialize in pizzas and Nino will specialize in salads.

Specialization and Trade CheeseWheat United States312 France24 Who has the absolute and comparative advantage in cheese and wheat?

THEORY OF COMPARATIVE ADVANTAGE  David Ricardo – Countries can gain from trade even if one nation has an absolute advantage in production of two goods.  Comparative Advantage – One nation has a lower opportunity cost in the production of a good than another nation.

The global allocation of resources improves because production by less efficient producers is reduced and replaced by more efficient producers.

Is comparative advantage faulty in theory?  Resources are immobile – factors of production are fixed  Technology is fixed  Resources are fully employed  Perfect competition  There is a balance in exports and imports  Free trade  Consideration of transportation  What about structural changes in an economy?  Can there be too much specialization?  What about agriculture and price fluctuations?