Presentation on theme: "International Trade: Small Country Basics"— Presentation transcript:
1 International Trade: Small Country Basics Udayan RoySeptember 2006This presentation looks at autarky, free trade, and their welfare analysis – using consumer and producer surplus – from the small country point of view.
2 Questions What determines whether a country imports or exports a good? Who gains and who loses from free trade among countries?What are the arguments that people use to advocate trade restrictions?
3 Equilibrium Without Trade Assume:A country is isolated from rest of the world and produces steel.The market for steel consists of the buyers and sellers in the country.No one in the country is allowed to import or export steel.
4 Figure 1: The Equilibrium without International Trade Priceof SteelDomesticdemandConsumersurplusDomesticsupplyEquilibriumpricequantityProducersurplusQuantityof Steel
5 The Equilibrium Without International Trade Domestic price adjusts to balance demand and supply.The sum of consumer and producer surplus measures the total benefits that buyers and sellers receive.
6 The World Price and Comparative Advantage If the country decides to engage in international trade, will it be an importer or exporter of steel?
7 The World Price and Comparative Advantage The effects of free trade can be shown by comparing the domestic price of a good without trade and the world price of the good.The world price refers to the price that prevails in the world market for that good.
8 The World Price and Comparative Advantage If a country’s domestic price of a product is below the world pricethe country is said to have a comparative advantage in the production of this product, andthis country will be an exporter of the good.
9 The World Price and Comparative Advantage If a country’s domestic price of a product is above the world pricethe country does not have a comparative advantage in the production of this product, andthis country will be an importer of the good.
10 Figure 2 International Trade in an Exporting Country Priceof SteelDomesticdemandDomesticsupplyPriceaftertradeWorldpriceDomesticquantitydemandedDomesticquantitysuppliedPricebeforetradeExportsQuantityof Steel
11 Figure 3 How Free Trade Affects Welfare in an Exporting Country Priceof SteelDomesticdemandDomesticsupplyPriceaftertradeWorldpriceExportsDCBAPricebeforetradeQuantityof Steel
12 Figure 3 How Free Trade Affects Welfare in an Exporting Country Priceof SteelDomesticdemandConsumer surplusbefore tradeDomesticsupplyPriceaftertradeWorldpriceExportsDCBAPricebeforetradeProducer surplusbefore tradeQuantityof Steel
13 How Free Trade Affects Welfare in an Exporting Country
14 The Winners And Losers From Trade For an exporting country:Domestic producers of the good are better off, andDomestic consumers of the good are worse off.Trade raises the economic well-being of the nation as a whole. That is, the gain to producers exceeds the loss to consumers.
15 International trade in an importing country If the world price of steel is lower than the pre-trade domestic price, the country will be an importer of steel when trade is permitted.Domestic consumers will be able to buy steel at the lower world price. Therefore,Domestic consumers will increase their consumptionDomestic producers of steel will have to lower their prices to competeDomestic producers will reduce production.The excess of domestic consumption over production will have to be imported
16 Figure 4 International Trade in an Importing Country Priceof SteelDomesticdemandDomesticsupplyPricebeforetradePriceaftertradeWorldpriceDomesticquantitysuppliedDomesticquantitydemandedImportsQuantityof Steel
17 Figure 5 How Free Trade Affects Welfare in an Importing Country PriceDomesticdemandof SteelDomesticsupplyCBDAPricebefore tradePriceafter tradeWorldpriceImportsQuantityof Steel
18 Figure 5 How Free Trade Affects Welfare in an Importing Country PriceADomesticdemandof SteelConsumer surplusbefore tradeDomesticsupplyPricebefore tradeCBProducer surplusbefore tradePriceafter tradeWorldpriceQuantityof Steel
19 Figure 5 How Free Trade Affects Welfare in an Importing Country PriceDomesticdemandof SteelConsumer surplusafter tradeDomesticsupplyCBDAPricebefore tradePriceafter tradeWorldpriceImportsProducer surplusafter tradeQuantityof Steel
20 How Free Trade Affects Welfare in an Importing Country
21 The Winners And Losers From Trade How Free Trade Affects Welfare in an Importing CountryDomestic producers of the good are worse off, andDomestic consumers of the good are better off.Trade raises the economic well-being of the nation as a whole because the gains of consumers exceed the losses of producers.
22 The Winners And Losers From Trade Irrespective of whether a country exports a good or imports it, the gains of those who gain exceed the losses of those who lose.That is, the net change in total surplus is always positive.
23 Gains From Trade The gains from trade can be expressed as the sum of the gains from exchange, andthe gains from specialization.
24 Gains From ExchangeFree trade will lead to gains even for a country whose production levels, for whatever reason, remain what they were in autarky. These gains are called the gains from exchange.
25 Gains From Specialization Typically, however, free trade also leads to changes in production levels as a nation becomes more specialized in the production of the good in which it has a comparative advantage. The gains due to this specialization in production are called the gains from specialization.
26 Exporting Country Price of Steel Domestic demand Domestic supply Price aftertradeWorldpriceExportsDCBAPricebeforetradeD = gains from tradeQuantityof Steel
27 Gains From Exchange Price of Steel Domestic demand Price after trade Domestic Supplyof SteelDomesticdemandExportsD = gains from exchangePriceaftertradeWorldpriceDCBAPricebeforetradeQuantityof Steel
28 Price of Steel Domestic demand Domestic supply Price after trade World D = gains from exchange; E = gains from specialization; D + E = total gains from tradePriceof SteelDomesticdemandDomesticsupplyPriceaftertradeWorldpriceExportsDCBAEPricebeforetradeQuantityof Steel
29 Opposition to Free Trade Free trade need not benefit every citizen of a countryFree trade may be opposed by those who stand to lose from tradeThe gains of those who gain (which, after all, exceed the losses of those who lose) can be used to compensate those who lose from tradeIf this is done, everybody would support free trade
30 The Lessons for Trade Policy Other benefits of international tradeIncreased variety of goodsLower costs through economies of scaleIncreased competitionEnhanced flow of ideas
31 Common Arguments For Restricting Trade JobsNational SecurityInfant IndustryUnfair CompetitionProtection-as-a-Bargaining Chip