L.n international trade


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L.n international trade

  1. 1. Chapter 1 An Introduction to International Trade This chapter is devoted to answer some questions as: how important is international trade to the nations of the world? Which countries trade with other countries? What goods do countries trade? Question 1: Define the following terms: 1- Gross National Product (GNP)—value of final goods and services produced by domestic factors of production. - Refers to production by domestic factors, no matter where they are located. 2- Gross Domestic Product (GDP)—value of final products produced within a country. - Refers to production within a country, no matter whether the factors of production (labor and capital) are domestic or foreign. 3- Exports—goods and services produced in one country and sold to other countries. 1
  2. 2. 4- Imports—goods and services consumed in a country but which have been purchased from other countries. 5- Trade Deficit—a country has a trade deficit if its imports exceeds its exports. 6- Trade Surplus – a country has a trade surplus if its exports exceed its imports. 7- Index of Openness—a measure of how much a country participates in international trade; defined as the ratio of a country’s exports to its GDP (or GNP). - Open Economy—a country with a high value of the index of openness. - Closed Economy—a country with a relatively low index of openness. International trade is only a small part of their economic activity. 2
  3. 3. Question 2: Why do the countries trade? Answer: 1- Without trade, a country must be self-sufficient. It must produce everything its citizens want to consume. 2- With trade, countries can specialize in the production of goods that they can produce, and satisfy other needs by trading. 3- Making a country more efficient, when it exports goods which use abundant resources and imports goods which use scarce resources. 4- Trade could increase competition. 5- Trade Creates new entrepreneurial opportunities, expands the choice of goods and services, and creates jobs. 6- Enhances the domestic competitiveness. 7- The country will come up with new technology and innovations will be taken place. 8- Access to cheaper raw-material. 3
  4. 4. Question 3: compare between free trade & protectionism. Answer: Free Trade: Occurs when a government doesn't attempt to influence, through quotas, duties or other means, what its citizens can buy from another country or what they can produce and sell to another country. A- Advantage of free trade: 1. Free Trade means more jobs to go to other countries but only jobs that required very little skills. 2- The aim of free trade is to analyze and refrain barrier in order to customize easy exchange of specialized and skilled labor force and division of labor, resulting enhanced development. B- Disadvantage of free trade: 1. Short term unemployment in relatively inefficient sectors of the economy. 2. Other countries sometimes do not trade fairly and difficulty in establishing infant industries. 4
  5. 5. 3. The government revenue will fall. 4. The domestic products will be neglected and the consumers will switch to the other (foreign) products. Protectionism: Refers to policies, rules and regulations that help nation place barriers in the form of tariffs while trading with any other country. A- Advantages of the trade protectionism are: 1. If a country’s local industry is not very strong, imposing trade barrier would make foreign goods expensive and this will provide a chance to the local firms to compete on the font of price. 2. The increased duties result in tax revenue for the government 3. The aims of protectionism are to preserve jobs. B-disadvantages of protectionism are: 1. The local firms are being protected and they are competing on price not the quality 2. The artificial protection can work well for the products inside the country , but when the products will be exported; it’s a false sense of security. 3. It is against the principle of free markets. 5
  6. 6. Chapter 2 International Trade Theories This chapter is devoted for studying international trade theories starting from the mercantilism trade theory till the alternative theories. Then we try to give you some questions to elaborate these theories, which may help you. Question 1: Explain the following theories: 1- Mercantilism Theory Answer: Theory of Mercantilism:  Nations should accumulate financial wealth, usually in the form of gold,  Increasing exports and decreasing imports (through imposing taxes on imported goods, ban on the importation of other goods, and special laws and taxes designed to favor certain industries at the expense of others.  Importance of trade surplus because it leads to a net gold inflow, and thereby to national wealth and power. 6
  7. 7. Mercantilist countries practiced the so-called zerosum game, which meant that world wealth was limited and that countries only could increase their share at expense of their neighbors. 2- Absolute Advantage Answer: Absolute advantage theory (Adam Smith’s Model). Absolute advantage theory a country can produce a good using fewer productive inputs than is possible anywhere else in the world, so each country should concentrate on the production of those goods it produces most efficiently. This theory based on the concept of an international division of labor by the specialization of nations in the production of only a few goods. This specialization could lead to: • level of world production exceed the sum of autarky production levels. • the surplus produced in this situation could then be divided between countries through international trade, 7
  8. 8. • so that all would have more than they would without trade. Example: we have two countries (A) and (B), and two products Soybeans (S) and Textiles (T), the numbers in the table reflect the hours it takes to make 1 unit of output of certain good in a certain country, as follows: Country A B Soybeans 3 12 Textiles 6 4 From the previous Example we see that workers in country A can produce S in less time than workers in B , A is said to have an absolute advantage in the production of S. while workers in B can produce T in less time than workers in A, B is said to have an absolute advantage in the production of T. Criticism:- (on mercantilism) 1. there is a set of institutions, laws and regulations put by governments to restrict international trade and hence the international division of labor, so Smith attacks the 8
  9. 9. mercantilism system and to promote free international trade 2. Smith argued the opinion of mercantilists because this system served to lower the wealth or standard of living of a country, 2- comparative advantage theory Answer: Comparative advantage theory (David Ricardo’s Model). Comparative Advantage Theory: A country has comparative advantage in the production of a good if it can produce that good at a lower opportunity cost relative to another country. • Example : we have two countries (A) and (B), and two products Soybeans (S) and Textiles (T), the numbers indicate the amount of labor time required to produce 1 unit of output of a particular good in a particular country. Country A B Soybeans 3 12 Textiles 6 8 9
  10. 10. From Example we see that: country A has an absolute advantage in both goods. Country A is 4 times more efficient in the production of good S relative to country B (compare 3 hours with 12 hours). However, A is only 4/3 more efficient in the production of T relative to country B (compare 6 hours with 8 hours). Because A's greatest absolute advantage is in the production of S, it is said to have a comparative advantage in S. Likewise, because B's least absolute disadvantages in the production of T, B is said to have a comparative advantage in T. If international trade takes place, A will export S, and B will export T. According to the law of comparative advantage, once trade is allowed between the two countries, each country should move to specialize in the production of its comparative advantage good and then export the excess of the production of that good to the other country in exchange for the other good. 10
  11. 11. Example: Per Unit Gains from Specialization According to Comparative Advantage as Country A Produces More S, and Country B Produces More T. Per Unit Gain In Production of S In Production of T In A +2 -1 In B -1 +1.5 In World +1 +0.5 Country A: If country A specialize its production in the direction of comparative advantage, its output of S will rise. The resources of this expansion must come from the T industry, which means the output of T must fall by 1 unit, and the 6 hours of labor time in T can be employed in the S industry, and the result will be expansion of output of S by 2 units. 11
  12. 12. Country B: The output of S falls by 1 unit, and the 12 hours of labor time in S can be employed in the T industry, and the result will be expansion of output of T by 1.5 units. And the gain from specialization in the world will be +1 unit in S and +0.5 in T. 4- H-O Model The Hecckscher-Ohlin Model. Heckscher and Ohlin built their theory around two basic characteristics of countries and products: 1. Countries differ from each other according to the factors of production they possess. 2. Goods differ from each other according to the factors that are required in their production. The Direction of International Trade at HO Model: The direction of international trade flows between two countries is determined by: the endowment of the factors of production (labor & capital). 12
  13. 13.  that a country which is capital abundant will export the capital intensive goods.  And, the country which is labor abundant will export the labor intensive goods. Test of HO Model: The Leontief Paradox. A test of HO model conducted by Leontief using input – output data for the United States and the main finding is that despite the fact that the United States was the most capital intensive country in the world, it exported goods that were relatively labor intensive and imported goods that were relatively capital intensive, which is known as Leontief Paradox. alternative theories of international trade to explain Leontief paradox 1- Human Skills theory, developed by Donald Keesing.  instead of focusing on differences in capital and labor across countries, the emphasis should be on differences in endowment of skilled and unskilled workers.  Country with large endowments of high skilled labor will have comparative advantage in products that are relatively intensive in skilled labor. 13
  14. 14.  Keesing model provides an explanation of the Leontief Paradox, because the United States has highly trained and educated workers, U.S exports tend to be skilled labor intensive. 2- Product life Cycle theory. by Raymond Vernon The product life cycle is divided into three stages: A- New product stage: 1. In this stage goods are invented mostly in the developed countries. 2. And at this period there is no competition. 3. The invented company of the new product seeks to export this product to other developed countries. B- Maturity product stage: During this stage, the company find the necessity to invest abroad. C- Standardized product stage: This is the final stage, where the company (country) loses its comparative advantage in producing the product and this advantage shifts to another country which could produce this product with lower cost. 14
  15. 15. Vernon had explained Leontief paradox as when the United States lose its comparative advantage in producing capital intensive goods and this comparative advantage switch to another country, the U.S tend to import capital intensive goods from this country, and that explains why the United States imports are capital intensive goods. 15
  16. 16. Chapter 3 Tariffs and Nontariff Barriers We have focused our discussion on the causes and consequences of international trade. We have seen that international trade leads to the redistribution of production in an economy. It also affects the returns paid to factors of production. For both of these reasons, some individuals in every society favor government policies aimed at affecting the volume and composition of international trad Question 1: Define the following terms. 1-Commercial policy is known as actions taken by a government to influence the volume and composition of trade flows (into or out of a country). 2- Tariff: A tax imposed by a government on either exports or imports. 3- Quota: A government imposed limit on the value or quantity of an import or export goods. 4- Subsidies: Payments by a government to an industry to encourage exports or discourage imports. 16
  17. 17. 5- Nontariff barriers: A wide range of government policies than tariffs designed to affect the volume or composition of a country's international trade 6- Consumer surplus: is the difference between the amount consumers are willing to pay to purchase a given quantity of goods and the amount they have to pay to purchase those goods. 7- Producer surplus: is the difference between the price paid in the market for a good and the minimum price required by an industry to produce that good. 8-Embargo—complete ban on import of a certain good. 9- Tariff Rate Quota (TRQ)—allows a certain quantity of a good into a country at low or zero tariff rates, but applies higher tariff to quantities exceeding the quota. 10- Voluntary Export Restraint (VER)—an indirect quota resulting from an exporting country ―voluntarily‖ limiting its exports. 17
  18. 18. Question 2: Illustrate the following with discussion. 1- The gains from free trade (import side). Say country A in equilibrium, the price of grapes would be PA And the quantity produced would be QA. Now, suppose we introduce international trade into this model. We assume that the world price of grapes Pw is lower than PA. This will cause Consumption to expand to Q2 and domestic production to fall to Q1 The difference between domestic consumption and domestic production will comprise imports. What are the economic impacts of these changes in the grape market in country A? 18
  19. 19. consumers are better off; they are able to purchase this product at a lower price than before trade. Domestic producers are worse off; the lower price leads some suppliers to reduce the quantity supplied. - The welfare effects in the import market of a move to free trade. 19
  20. 20. 2- The gains from free trade export side. Suppose this represents the market for honey (H), in autarky before trade the price of H is PA, and would equal QA . Suppose that the world price of H is equal to PW. Then, after international trade is introduced, domestic suppliers would move to expand output in response to the now higher price. At the same time, the domestic quantity demanded would fall, and the new quantity supplied would be Q4 , while the new quantity demanded would be Q3 units. The difference represents exports of H to the rest of the world. 20
  21. 21. The welfare effects in the export market of a move to free trade. Because the price has increased, consumer surplus falls. The total reduction of consumer surplus would be $(e + f). The higher price, however, raises producer surplus. The increase is equal to $ (e + f +g). The net impact for national welfare to rise by $g. 3- The effect of an import tariff. Suppose the government of A imposes a tariff on imports of grapes of t dollars. Let's consider the effect of the tariff on production and consumption. 21
  22. 22. Under free trade, domestic production was Q1 units, while consumption was Q2 units. Imports represented the difference between these two amounts. After the tariff, production rises from Q1 to Q3units. - When considering the effect of the tariff on price, once the tariff is imposed, it is passed through to the economy in the form of higher prices for the foreign product. Since domestic producers are selling an identical product, they raise their prices as well. - Total consumption of grapes falls. This is due, to the higher price consumers must pay for the product. Hence, quantity demanded falls from Q2 to Q4. - Tariff causes a reduction in imports for two reasons: First: domestic output expands. 22
  23. 23. Second: domestic consumption falls. Finally, tariffs lower the standard of living of a country relative to free trade, because they hurt consumers more than they help producers. 4- The economic effects of quota. The curve DM is the domestic demand curve, and the curve SM is the supply curve of domestic producers. The world price is assumed to be $1000. 23
  24. 24.  Under free trade: Residents of this country would consume 50,000 units, 10,000 of these would be produced locally, and 40,0000 would be imported.  The government imposes a quota on imports:  A quota that limits imports to 20,000 units. Because of the reduction in imports, the prices of the product M will start to rise and this will encourage local producers to expand their output levels.  These market forces will bring about new equilibrium; prices continue to rise until desired imports fall to the quota level of 20,000 units (the price must raise until the difference between domestic demand and supply equals 20,000 units). 24
  25. 25.  This occurs at a price of $1,500, at this price 44,000 units will be purchased, 20,000 of these will be imported, and the remaining 24,000 will be produced locally.  As with tariff, quotas serve to limit trade and raise prices.  The welfare effects of quotas:  the imposition of the quota raises the domestic price and therefore lowers consumer surplus.  Consumers lose the amount $(a + b+ c+ d), producer surplus represents higher profits by $a, and the triangles $(b + d) represents the cost of society of imposing the quota (deadweight costs).  Area c is the value of quota rent: Profit that accrues to whoever has the right to bring imports into the country and sell these goods in the protected market.  Consider the rectangle that defines area c. The base of the rectangle represents the amount of imports allowed into the country (20,000 units); the height of the rectangle is the difference between the world price ($1000) and the domestic price ($1,500). The difference between these two prices reflects the per unit (additional) 25
  26. 26. profit that can be earned by whoever has the right to sell the imported product. Q: Who gets the quota rent? - Government - Domestic producers or importers - Foreign producers. Question 3: Compare between tariff & quota. Tariff Quota They are similar in their effects on They are similar in their effects on prices, output, and imports. prices, output, and imports. Tariff revenue goes to government quota rent depends on who gets the license. With a tariff, an increase in with a quota, no new imports are demand will be met by a rise in allowed in. imports 26
  27. 27. Question 4: there is a relationship between trade & economic growth. Discuss. Answer: Trade enhances economic growth through imports of capital goods. - Trade enhances international diffusion of technology. - Trade expands market size. - Trade can enlarge the pool of savings necessary for investment spending. Question 5: there are arguments for protectionism. Elaborate. Arguments for Protectionism: There are some arguments for protection, we discuss them as follows. 1- Balance of Payments Problems: If a country exports less than its imports, the balance of payments deficit will result. 27
  28. 28. 2- Government revenue. All governments need tax revenues, and Tariffs produce government revenue. 3- Income Redistribution. Trade policy can be used to redistribute income from one sector of society to another. In some countries, one of aims of commercial policy is to tax the rich so as to aid the poor. 4-Protection of Infant Industries. New industries may need protection until they have mastered the production. 5- Protect Jobs. Foreign imports are cheaper and consumers are going for the cheapest product which is also with a good quality. By restricting imports and making imports more expensive, Countries can help their domestic industries and protect its jobs. 6. To Prevent Dumping. When selling products/goods overseas for a lower price than production costs. 28
  29. 29. Chapter 4 An Introduction to International Finance This chapter is devoted to study the trade in financial assets. Such trade may be related to the financing of goods and services trade, but it may also be related to investors altering their portfolios, multinational firms transferring assets from one subsidiary to another, government buying and selling different currencies to change exchange rates. Question 1: Define the following terms. 1- The Balance of Payments (BOP): is a record of a nation's transactions with the rest of the world, in other words the BOP reflects the country's international trading performance. 2- A country with a trade surplus: exports more goods than it imports. 3- A country with a trade deficit imports more than it exports. 4- Balance of payments deficit: BOP debit items exceed the credit items in value. 29
  30. 30. 5- Balance of payments surplus: BOP credit items exceed the debit items in value. 6- Foreign Exchange Market (FEM)—the market where monies of different countries are traded. 7- Exchange rate—price of one country’s money in terms of another. 8- Foreign exchange risk—the risk of an unexpected change in the exchange rate. 9- International investment—portfolio investment and direct investment. 10- International monetary international financial systems. 30 systems— history of
  31. 31. Chapter Five The Balance of Payments This chapter is devoted for studying the balance of payment, practically after studying this chapter you can solve the following problems. Question 1: Discuss the followings: 1- The features of the balance of payment. Features of the BOP  BOP follows the accounting procedure of double-entry bookkeeping (debits & credits).  A credit entry records an item or transaction that brings foreign exchange into the country. A debit entry represents a loss of foreign exchange.  BOP will always balance.  A BOP deficit (surplus) means that the debit entries exceed (are less than) the credits. This imbalance applies only to a particular account the BOP. 31 or component of
  32. 32. 2- Double entry accounting in the BOP. Is an accounting method which records each transaction as both a credit and a debit. Credit entries represent the source of financing and the debit entries represent the uses of that financing. A- Credit transactions result in receipt of payment from foreigners,  Merchandise exports.  Transportation and travel receipts  Income received from investments abroad  Gifts received from foreign residents  Aid received from foreign governments. B- Debit transactions involve to payments to foreigners,  Merchandise imports.  Transportation and travel expenditures.  Income paid on investments of foreigners.  Gifts to foreign residents.  Aid given by home government.  Overseas investments by home country residents. 32
  33. 33. Each credit transaction has a balancing debit transaction, and vice versa, so the overall balance of payments is always in balance. Question 2: What happens if the country has a current account deficit? The country must borrow (sell domestic securities) to the rest of the world to finance the current account deficit. As foreigners accumulate domestic securities, the domestic currency value falls which, in turn, raises net exports and consequently income. What happens if the country has a current account deficit? In addition, domestic interest rates rise which, in turn, lowers consumption and investment spending. The to increase spending in will account deficit. 33 national reduce income relative the current
  34. 34. Chapter Six WTO & its Dimensions This chapter is expanded upon discussion by focusing on recent trade policy initiatives, and we also discuss in some details the role of international organizations and agreements, such as the World Trade Organization (WTO). Question 1: What's the role of the following institutions? A-World Bank: "Development Assistance". Provides loans to developing countries and the official goal are the reduction of poverty. Established by the Bretton Woods, 1944. B-International Monetary Fund (IMF): Financial Assistance. Established by the Bretton Woods, 1944. C-World Trade Organization (WTO):Trade Policy Regulation and Negotiation, 1995. 34
  35. 35. Question 2: Explain the main principles of GATT. The principles of GATT:1- Most Favored Nation (MFN). Under WTO agreements, countries cannot normally discriminate between their trading partners. Which means grant someone a special favor such as lower customs duty rate, and do the same for all other WTO members, that’s all members are equal under GATT. 2- Non discrimination. Which means not discriminate between national and foreign economic units giving them national treatments. 3- Reciprocity. Under the WTO agreements, members must reciprocate the reduction in tariff & nontariff barriers. The exception of that are the infant industries in developing countries to enable it to compete in international markets. 35
  36. 36. 4- Ratification. This principle allows countries to protect their local or national industries through tariff as a tool to protect infant industries. 5- Preferential treatment for developing countries. That developed countries must provide preferential treatment for developing countries and to aid these developing countries in conducting the development programs which include open their markets in front of developing countries products. 6- Transparency. Which means depends only on tariffs as a protection tool not on nontariff barriers as quotas because of the lack in transparency in nontariff barriers. 7- Multilateral negotiations. That means negotiation is the basic tool to solve commercial dispute under GATT. 36
  37. 37. Question 3: Uruguay Round of Multilateral Trade Negotiations has several important results. Elaborate. A- Agreement on trade in goods, include agreements such as: 1- Agriculture Agreement. 2- Agreement on manufactured goods including agreement on textiles and clothing. 3-Agreement on Trade Related Investment Measures (TRIMS). 4- Trade Related Aspects of Commodity Measures. B- General Agreement on Trade in Services (GATS). The agreement covers all internationally traded services, for example: banking, information technology telecommunication, tourism, consultants…..etc. C- Trade Related Aspects of Intellectual Property Rights (TRIPs). Areas covered by the TRIPs Agreement: 37 and
  38. 38. 1- Copyright and related rights. 2- Trademarks. 3- Geographical indication. 4- Industrial design. 5- Patents. 6- Layout designs of integrated circuits. 7- Undisclosed information, including trade secrets. Question 4: Regionalism versus Multilateralism. Explain in details. It is important to remember that regional trade liberalization is very much different from the process of multilateral liberalization that is the corner stone of the WTO. In regional trade arrangements, countries lower their trade barriers only for a small group of partner countries and discriminate against the rest of the world. 38
  39. 39. Within the WTO, trade liberalization by any one member country is extended to all other members on an unconditional MFN basis, here there is essentially no discrimination. Regional agreements facilitate the work at the WTO, for the following reasons: 1. Regional integration is a tool to overcome national trade barriers and to boost competitiveness. 2. Big bilateral deals can remove obstacles on certain topics and be much more comprehensive than the commitments that a given country can make in multilateral rounds. 3. Bilateral agreements are essential to improve the WTO negotiations especially in the periods of freezing of the relations in the WTO. 39
  40. 40. Review Questions: 1-According to chapter Two , summarize the international trade theories. 2-According to chapter three, illustrate the impacts of tariff & Quota, then compare between them. 3- According to chapter 4 & 5, discuss the balance of payment. 4- According to chapter 6, discuss the WTO & its dimensions. 40