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Extension of Trade Theory
Chapter 1 Extension of Trade Theory
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Extension of Trade Theory
Comparative advantage & its relationship with globalization Production possibilities frontier & trade theory
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1.1 Production possibilities frontier & trade theory
A. Production possibilities frontier (PPF) B. Trade theory
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A. Production possibilities frontier
To learn about the PPF To understand the slope of the PPF reflects opportunity cost To analyze how changes in the quantity of resources & production technology affect the PPF To explain why the PPF is concave to the origin
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What is a production possibilities frontier?
Shows the locus of the maximum output combinations of two goods given the existing resources endowment & technological level.
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The opportunity cost of production
Marginal cost of the good on the x-axis = Slope of the PPF Assumption: Marginal cost is constant. PPF is a downward sloping line. Production point Good X (units) Good Y (units) A 6 B 1 4 C 2 D 3 The slope of the PPF is the marginal cost of the good on the x-axis. The maximum output combinations of goods that are attainable.
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Changes in the PPF Change in resources
in resources Parallel outward shift of PPF
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Changes in the PPF Advancement in technology
Advancement in technology Intercept of the PPF
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PPF is concave to the origin
Diminishing marginal returns = The marginal cost will finally rise PPF is generally concave to the origin
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B. Trade theory To understand the consumption choice under autarky
To learn about the trade line To examine how international trade expands consumption possibilities To explain comparative costs & gains from trade with the PPF
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Trade theory Consumption choice in an autarky economy
The consumption possibilities frontier shows the locus of the maximum combinations of consumption of an economy.
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Trade theory Trade line
Trade line: A straight line passing through the production point, which shows the consumption opportunities brought by trade. Slope of trade line = Terms of trade = Relative price of Good X Blue area: The increased consumption possibilities with trade.
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Trade theory Changes in consumption possibilities
Specialization and trade according to the principle of comparative advantage further expand consumption possibilities. Blue area: The increased consumption possibilities. Trade line = Consumption possibilities frontier
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Two-country model Comparative cost Country A:
Comparative advantage & specialization in producing Y. Country B: Comparative advantage & specialization in producing X.
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Two-country model Gains from trade
Assumptions: (1) specialization according to comparative advantage; (2) there is trade; (3) terms of trade: 1X = 1Y Consumption possibilities Total gains from trade: 2X & 2Y Country A Country B
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1.2 Comparative advantage & its relationship with globalization
A. What is economic globalization? B. The effects of globalization
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A. What is economic globalization?
To understand the concept of economic globalization To analyze comparative advantage & its relationship with globalization To examine the controversies over economic globalization
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What is economic globalization?
The process of which international trade and production activities across countries or regions become more frequent.
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Integration of worldwide markets
Goods markets (1) International trade (3) Firms: competition (2) Trade barriers (4) Consumers: choice
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Integration of worldwide markets
Financial & investment markets (1) Capital flow across countries (2) Global expansion of financial markets (3) Foreign direct investment (FDI)
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Integration of worldwide markets
Labour market (1) Immigrants & imported labour
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Integration of worldwide markets
Labour market (2) Outsourcing / relocation of tasks
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Integration of worldwide markets
Labour market (3) Networked labour market Firms: Production costs Workers: Job opportunities Competition
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Globalization of production activities
Changes in the nature of international division of labour The specialization of the part of a good which a country or region has a comparative advantage in the global production chain.
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Globalization of production activities Dynamic comparative advantage
The comparative advantage in a good or component part will shift from one region to another along with changes in economic development.
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Globalization of production activities
The expansion of the organization & scale of enterprises Through foreign direct investments, the scope of expansion of large enterprises is extended from developed countries to emerging markets.
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Globalization of production activities
The increasingly networked business models Online trading Online Bookshop Online Shopping Online auction Online Payment
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International economic cooperation
(1) International organizations that promote global trade and economic cooperations. (2) Arrangements that facilitate regional economic cooperation. (3) The formulation & implementation of international standards.
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B. The effects of globalization
To learn about the gains from trade brought by globalization To analyze the effects of globalization on labour, income distribution & capital flow across countries To analyze the effects of globalization on multinational enterprises, small enterprises & consumers
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The effects of globalization
Gains from trade Consumers: Choice World output Average production cost Prices Globalization: (1) Enhances economic growth. (2) Gives consumer more choices.
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The effects of globalization
Employment opportunities & income A change in income distribution (1) Economic restructuring (2) Labour demand & supply (3) Differences in the mobility of production resources
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The effects of globalization
Effects of capital flow across countries (1) Enhancing global economic growth (2) Financial risks Market competition Environmental conservation
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End of Chapter 1
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