4. Trade Terminology
International trade: the exchange of goods, services, and
resources between countries
Absolute advantage (AA): the ability to produce a product by
using fewer resources
Comparative advantage (CA): the ability to produce a product
at a lower opportunity cost
A country will produce the product in which it has a lower
opportunity cost (OC)
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5. Trade Terminology
Imports Goods and services bought domestically but
produced in other countries.
Exports Goods and services produced domestically but sold
in other countries
Autarky Economic system of self-sufficiency and limited
trade. A country is said to be in a complete state of autarky if it
has a closed economy, which means that it does not engage in
international trade with any other country.
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6. Trade Terminology
Protectionism:
Position that a nation’s industries should be protected from
free trade with other nations
Opportunity Cost (OC)
Next best alternative
Free Trade
Trade between countries without (major) restrictions
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7. Trade Terminology
Globalization
term used to describe growing interdependence of people
around the world with regard to societal influence, economies,
and cultural exchanges.
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8. Trade Terminology
Tariffs: Tax on imported goods
Can be a fixed dollar amount per physical unit or a
percentage of good’s value
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9. Trade Terminology
Quotas
Government decree limiting imports of a good to a specified
maximum physical quantity
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11. World Trade
global exports and imports were $23 trillion, which is a third of
the value of global production.
Canadian exports were $566 billion, which is about 27 percent of
the value of Canadian production.
Canadian imports were $486 billion, which is about 23 percent
of the value of Canadian production.
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12. Canada US Trade
Exports
Canada was the United States'
largest goods export market in
2015.
Top export categories (2-digit HS)
in 2015 were: vehicles ($48
billion), machinery ($43 billion),
electrical machinery ($25 billion),
mineral fuels ($21 billion), and
plastics ($13 billion).
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13. Canada US Trade
Imports:
Canada was the United States' 2nd
largest supplier of goods imports in
2015.
Top import categories (2-digit HS)
in 2015 were: mineral fuels ($70
billion), vehicles ($55 billion),
machinery ($20 billion), special
other (returns) ($14 billion), and
plastics ($11 billion).
https://ustr.gov/countries-regions/americas/canada
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15. Canada US Trade
North American Free Trade Agreement
(NAFTA)
Came into effect on January 1, 1994,
creating the largest free trade region in the
world, generating economic growth and
helping to raise the standard of living for
the people of all three member countries.
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18. The Classic Example:
guns versus butter
A country can produce two goods: guns OR butter
Choice - how much of each good to produce?
More guns (military spending) means less butter (food), and
vice versa.
How to model the relationship between a nation's investment in
defense and civilian goods?
Use concepts of scarcity – choices – opportunity cost and
cost/benefit
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19. Production Possibility Frontier
(PPF)
PPF represents all possible choices of
production for the economy.
boundary between those combinations
of goods and services that can be
produced and those that cannot
implies that every choice has an
opportunity cost; you can get more of
something only by giving up something
else. (scarcity)
limits exist .. you cannot produce
outside the curve unless there is an
increase in productivity.
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22. Absolute vs. Comparative Advantage
Absolute advantage - produce the product using fewer inputs
than anyone else.
Comparative advantage - produce the product at a lower
opportunity cost than anyone else. Next best thing they have to
do is lowest cost than anyone else..
not the same as being the best at something
Why do we care? Efficiency!
If two people, or two societies, specialize in producing the
product in which they have a comparative advantage, they will
increase the total value of available goods and services to
those countries
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23. Absolute vs. Comparative Advantage
A person has an absolute advantage in a task over someone else
if
That person takes fewer hours/input to perform a task than the
other person
Refers to producing a good or service more efficiently – using
fewer inputs – than anyone else.
A person has a comparative advantage in a task over another if
That person’s own opportunity cost of performing the task is
lower than the other person’s opportunity cost
Person is giving up less – than anyone else to get the same
amount
Need to have someone to compare it to …
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24. Absolute vs. Comparative Advantage
Comparative advantage produce the product at a lower
opportunity cost than anyone else.
Use equation to define the
Opportunity Cost = What you give up
What you get
Whoever has the lowest OC should make the product
Gain efficiency and products: Total output is largest when each
person (or each country) concentrates on the activities for which
his or her opportunity cost is lowest.
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25. 4 step method for solving the
comparative advantage problem
4 steps
1. Set up the table to organize values
2. Calculate the opportunity costs (OC)
3. Circle the lowest OC in the in each activity
4. Define who should produce using lowest OC
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26. Example of Comparative Advantage
Economic research
papers per day
Medical Research
papers per day
Laura 1 4
Kelsey 4 1
Opportunity Cost = What you give up
What you get
Who should become the economist and who should
become the medical Dr.? Why? Gains?
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28. How Global Markets Work
What Drives International Trade?
comparative advantage.
divergent opportunity costs exist between countries and thus
national comparative advantage exist
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29. Comparative Advantage as a Basis
for Trade
Comparative advantage is a function of:
Climate
Natural resources
Technology
Workers' levels of skill, training, and education
Culture
Why do we care about OC and CA?
Economic Efficiency: If two countries specialize in producing the
product in which they have a comparative advantage, they will
increase the total value of available goods and services to
those countries
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30. How Global Markets Work: Example
Canada and China & Gain from Trade
T-shirts- opportunity cost of producing a T-shirt is
lower in China than in Canada, so China has a
comparative advantage in producing T-shirts.
Jets - opportunity cost of producing a regional jet
is lower in Canada than in China, so Canada has a
comparative advantage in producing regional jets.
countries can reap gains from trade by
specializing in the production of the good at
which they have a comparative advantage and
then trading.
Result: Both countries are better off. Why?
◦ Gains from trade!
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31. How Global Markets Work: Example
Autarky – Closed
economy & no
international trade.
Given Canadian demand and
Canadian supply
Price of a T-shirt at $8.
Qs & Qs are :
Canadian firms produce
4 million T-shirts a year and
Canadian consumers buy 4
million T-shirts a year.
32. How Global Markets Work: Example
T-shirt World Demand
& Supply
World price of a T-shirt = $5.
World price is less than $8,
so the rest of the world has
a comparative advantage in
producing T-shirts.
33. How Global Markets Work: Example
Open the Borders in
Canada- What
happens?
Price of a T-shirt in Canada
falls to $5.
Canadian garment makers
produce 2 million T-shirts a
year.
Canadians buy 6 million T-
shirts a year.
Canada imports 4 million
T-shirts a year.
34. How Global Markets Work: Example
Autarky – Closed
economy & no
international trade.
Price of a jet at $100
million.
Bombardier produces
40 regional jets a year
and Canadian airlines
buy 40 a year.
35. World Demand & Supply
world price of a regional jet at
$150 million.
The world price exceeds $100
million, so Canada has a
comparative advantage in
producing regional jets.
How Global Markets Work: Example
36. Open the Borders in
Canada- What happens?
price of a jet in Canada rises to
$150 million.
Canadian airlines buy 20 jets a
year.
Bombardier produces 70
regional jets a year.
Bombardier exports 50 regional
jets a year.
How Global Markets Work: Example
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38. Gains and Losses from
Imports
Without international
trade.
CS PS ES
Winners, Losers, and the Net
Gain from Trade Imports
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39. Gains and Losses from
Imports
With international trade.
CS PS ES
Consumer surplus expands from area
A to the area A + B + D.
Producer surplus shrinks to the area C.
Area D is an increase in total surplus &
net gain from imports.
Winners, Losers, and the Net
Gain from Trade Imports
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40. Gains and Losses
from Imports
Without international
trade.
CS PS ES
Winners, Losers, and the Net
Gain from Trade exports
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41. Gains and Losses from
Imports
With international trade.
CS PS ES
Consumer surplus shrinks A.
Producer surplus expands C + B + D.
The area B is transferred from
consumers to producers.
Area D is an increase in total surplus &
net gain from exports.
Winners, Losers, and the Net
Gain from Trade exports
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42. Domestic, Closed Economy
Price = 1400
The economy will tend to become a net importer of that
good or service. The economic surplus is larger
with trade.
Open Economy
World Price = 1000
Scenario 1 When World Price LOWER than domestic price
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43. The economy will tend to become a net exporter of that
good or service. The economic surplus is larger
with trade.
Domestic, Closed Economy
Price = 7
Open Economy
World Price = 10
Scenario 2 When World Price HIGHER than domestic price
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44. Who wins and who loses from free
trade?
Domestic consumers of imported goods win from free trade because
they can purchase the imported goods at lower prices than
domestically produced goods.
Domestic producers of import-competing products lose from free
trade as the import captures a part of the domestic market.
Consumers of exported goods tend to lose from free trade because
the domestic price of the exported good rises to the world price.
Domestic producers of exported goods win from free trade because
they can charge the higher world price for their products.
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46. If trade is beneficial, why oppose it?
1. Winner and Losers from Trade
Even if international trade does increase the total dollar value
of all goods and services, there is no guarantee that everyone
will benefit – in general, there are winners and losers from
reducing trade barriers
Employees and Owners in protected industries will lose when
trade barriers fall
Rational for them to oppose – if they will end up worse off
E.G. NAFTA. Even if Canadian consumers generally benefit
from lower prices, are job – losers compensated for their
losses ?
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47. If trade is beneficial, why oppose it?
2. Foreign Policy A superpower may use trade as an instrument of
foreign policy
e.g. US policy to Cuba; Russia, Iraq….
3. Foreign Ownership If there is lots of foreign ownership, the
benefits of trade may mostly flow to foreigners, rather than to the
domestic population
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48. If trade is beneficial, why oppose it?
4 Trade may lock existing comparative advantages into place,
forestalling development
Canadians forever “Hewers of wood and drawers of water”
How can hi-tech industries reach the critical mass for survival ?
“Learning by Doing” means that initial costs in hi-tech industries
are high – but they fall over time
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49. If trade is beneficial, why oppose it?
5. National sovereignty ( big versus small nation)
6. National security – food ..airlines…technology..security..defense
7. Politics
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51. Protectionist Policies
Tariff: A tax imposed on an imported good.
Quota: A legal limit on the quantity of a good that may be
imported.
Export Subsidy:
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52. Protectionist Policies: Tariffs
Tariff
tax on an import that raises the price of the import in the
domestic market.
also called duty or custom duties
Key elements:
Domestic producers sell their output at the price of the import
plus the tariff,
Domestic consumers pay a higher price than they would have
to pay in the absence of the tariff.
The government collects duty, or revenue from the tax, on the
sales of imported products.
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55. The cost of producing a
T-shirt in Canada increases and
creates a social loss shown by
area C.
The decrease in the quantity of
imported T-shirts creates a social
loss shown by area E.
The tariff creates a social loss
(deadweight loss) equal to area C
+ E.
Protectionist Policies: Tariff Example 2
56. Protectionist Policies: Tariff
Effect of Tariff:
Raises domestic prices to the world price plus the tariff.
Hurts domestic consumers. Reduces domestic consumption
Helps domestic producers. Increases domestic production
Raises government revenue.
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57. Protectionist Policies: Tariff:
Justification
Infant industry argument
Protection for young domestic
industry
Employment argument
Protect domestic jobs
Terms of Trade argument
Tariffs improve terms of trade
Diversification and Industrialization
argument
Collect revenue to help!
Cost of Tariffs
Interfere with comparative
advantage
Reduced economic efficiency
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58. Protectionist Policies: Quotas
Quota
restricts the quantity of imports allowed into a country.
Key elements
Supply of imports reduced
Domestic producers then sell their output at a price above the
world price for the product
Consumers pay a price higher than they otherwise would have
to pay.
Unlike the situation of tariffs, the government collects no duty
when a quota is imposed.
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61. Protectionist Policies: Quotas
Winners, Losers, and Social Loss from an Import Quota
When the Canadian government imposes an import tariff on
imported T-shirts:
Canadian consumers of T-shirts lose.
Canadian producers of T-shirts gain.
Importers of T-shirts gain.
Society loses: A deadweight loss arises.
Figure 7.8 illustrates the winners and losers with an import
quota.
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62. The import quota raises the price
of a T-shirt to $7 and decreases
imports.
Area B is transferred from
consumer surplus to producer
surplus.
Importers’ profit is the sum of the
two areas D.
The area C + E is the loss of total
surplus—a deadweight loss created
by the quota.
Protectionist Policies: Quotas Example 2
63. Protectionist Policies: Export Subsidies
Export Subsidies
An export subsidy is a payment made by the government to a
domestic producer of an exported good.
Export subsidies bring gains to domestic producers, but they
result in overproduction in the domestic economy and
underproduction in the rest of the world and so create a
deadweight loss.
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64. Questions
Why do people exchange goods and services instead of doing all
by themselves?
How does trade or exchange result in more goods being
produced?
Why does Canada export grain and import textile?
Someone needs paint the house .. who should paint the house ..
Unemployed son or neurosurgeon mom?
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65. Questions
What exactly is gains from trade and how do you get this?
Describe absolute advantage, comparative advantage, and implication
of comparative advantage
Identify sources of comparative advantage and relation to efficiency
Define PPF in terms of an one-country economy and identify
attainable, unattainable, efficient, and inefficient points.
Why do people specialize and trade?
What give a person CA?
How do PPF illustrate opportunity cost? Efficiency? Tradeoff? Scarcity?
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67. questions
Does international trade always benefit everybody?
Can a poor nation prosper by trade?
Does the same logic of individuals and specialization apply to
countries for trade and specialization?
How does all these terms of comparative advantage, opportunity
cost, scarcity and specialization come into play here?
What is free trade? Goods?/ Bad??
What about Autarky? Goods Bad?
How does free trade contribute to globalization?
Is their a role for protectionism?
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68. questions
• How do economists assess gain from trade and why so they
support openness and free trade?
• What is comparative advantage and why is it important in
trade?
• How can we protect a country in terms of trade? Close
market? Quota? Subsidy? Tariff? Trade off , Description,
Graphs?
• Why do people want to do away with free trade?
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