Recap – making trade work Cost per unit in worker hours Jumpers Chocolate England 24 8 France 9 6 France – absolute advantage for both France – comparative advantage for jumpers UK – comparative advantage for chocolate England will benefit from trade if they get at least 1 jumper for every 3 units of chocolate they export France will benefit if they get at least 3 units of chocolate for every 2 jumpers Diagram – cost ratio (jumpers for 3 units of chocolate) Shaded area is where it would be mutually advantageous to trade England will benefit if…. France will benefit if…. TRY TO EXPRESS THIS AS A DIAGRAM OF COST RATIOS OF JUMPERS TO CHOCOLATE TO SHOW WHERE TRADE WOULD BE MUTUALLY BENEFICIAL.

‘the ratio of export prices to import prices’ Terms of Trade ‘the ratio of export prices to import prices’

DISCUSSION POINT In 2014, the world price of crude oil approximately halved. For a few countries around the world, like Venezuela and Saudi Arabia, oil exports account for the vast majority of their exports. For these countries, what happens to the amount of imports they can buy with each barrel of oil exports? Are the better off or worse off?

Learning aims Calculation of terms of trade Factors influencing a country’s terms of trade Impacts of changes in a country’s terms of trade

Calculating the terms of trade It is a ratio between average export prices and average import prices. The formula is: Index of terms of trade = Index of export prices x 100 Index of import prices Note: an index is used as it is a weighted average of thousands of different import and export prices

The terms of trade deteriorate when the opposite is true. Over to you… Year 1 2 3 4 5 6 Index of import prices 105 99 95 97 100 110 Index of export prices 107 102 Index of terms of trade 104.8 108.1 110.5 105.2 95.45 Would you be able to answer: Between which years is there an improvement in the terms of trade? Between which year is there a deterioration in the terms of trade? An explanation of how you arrived at answers 1 and 2? KEY POINTS: Terms of trade improve when its value increases (export prices rise relative to import prices) The terms of trade deteriorate when the opposite is true.

Factors influencing the terms of trade A change in the exchange rate Inflation Demand of imports and exports Productivity Changing incomes LOGICAL CHAIN OF REASONING POINT EXAMPLE EXPLAIN/EFFECT

BoP Knowledge recap What is it? Which account do you think would link to this topic? CURRENT ACCOUNT

Knowledge recap Price elasticity What is it?

Task Complete the table on your hand out on the effect of changes in import and export prices on the terms of trade and the current account balance. Talk through each scenario and fill in the blanks with either ‘improve’ or ‘deteriorate’

KEY POINTS The terms of trade are the ratio of export prices to import prices Terms of trade are influenced by a variety of factors including exchange rate, relative inflation and relative productivity levels The impact terms of trade have on the current account will depend on the price elasticity of imports and exports Changes in terms of trade can affect GDP, inflation and the level of unemployment.