The document provides an overview of the gravity model in international economics. It discusses that the gravity model shows that trade between two countries depends on their economic sizes and inversely on distance between them. Specifically:
1. The larger the economies of the trading countries, the greater the trade volume between them. Distance reduces trade due to increased transportation costs.
2. Empirical analysis finds the gravity model fits well with US trade data except with a few countries like Ireland that have stronger cultural ties reducing trade barriers.
3. Trade agreements aim to reduce border barriers like tariffs to increase trade in line with the gravity model predictions. Technological advances have reduced the trade restricting effects of distance over time.
International movements-meaning-Export & import of merchandise & services-International investment-International Payments, Rate of exchange, Economic integration
International movements-meaning-Export & import of merchandise & services-International investment-International Payments, Rate of exchange, Economic integration
From the textbook (Colander, David C. Macroeconomics, 7th Edition.docxMARRY7
From the textbook (Colander, David C. Macroeconomics, 7th Edition. McGraw-Hill Learning
Solution
s) read the following chapters:
16: International Trade Policy, Comparative Advantage, and Outsourcing
17: International Financial Policy
16: International Trade Policy, Comparative Advantage, and Outsourcing
One of the purest fallacies is that trade follows the fl ag. Trade follows the lowest price current. If a dealer in any colony wished to buy Union Jacks, he would order them from Britain's worst foe if he could save a sixpence.
—Andrew Carnegie
Patterns of Trade
Before I consider these issues, let's look at some numbers to get a sense of the nature and dimensions of international trade.
Increasing but Fluctuating World Trade
In 1928, total world trade was about $500 billion (in today's dollars). U.S. gross domestic product (GDP) was about $830 billion, so world trade as a percentage of U.S. GDP was almost 60 percent. In 1935, that ratio had fallen to less than 30 percent. In 1950 it was 20 percent. Then it started rising. Today it is about 250 percent, with world trade amounting to about $32 trillion. As you can see, international trade has been growing, but with significant fluctuations in that growth. Sometimes international trade has grown rapidly; at other times it has grown slowly or has even fallen.
In part, fluctuations in world trade result from fluctuations in world output. When output rises, international trade rises; when output falls, international trade falls. Fluctuations in world trade are also in part explained by trade restrictions that countries have imposed from time to time. For example, decreases in world income during the Depression of the 1930s caused a large decrease in trade, but that decrease was exacerbated by a worldwide increase in trade restrictions.
Differences in the Importance of Trade
The importance of international trade to countries' economies differs widely, as we can see in the table below, which presents the importance of the shares of exports—the value of goods and services sold abroad—and imports—the value of goods and services purchased abroad—for various countries.
Among the countries listed, the Netherlands has the highest amount of exports compared to total output; the United States has the lowest.
The Netherlands' imports are also the highest as a percentage of total output. Japan's are the lowest. The relationship between a country's imports and its exports is no coincidence. For most countries, imports and exports roughly equal one another, though in any particular year that equality can be rough indeed. For the United States in recent years, imports have generally significantly exceeded exports. But that situation can't continue forever, as I'll discuss.
Total trade figures provide us with only part of the international trade picture. We must also look at what types of goods are traded and with whom that trade is conducted.
What and with Whom the United States Trades
The majority of U.S. ...
World trade in goods and services – major trends and developmentsmeenee
This ppt shows how trade has emerged and evolved. Further, the graphs and charts, picked from wto reports show the trade pattern wrt the year 2011. Further, recent trends in world trade are mentioned.
Fiduciary or paper money is issued by the Central Bank on the basis of
computation of estimated demand for cash. Monetary policy guides the Central
Bank’s supply of money in order to achieve the objectives of price stability (or low
inflation rate), full employment, and growth in aggregate income.
- The worldwide movement toward economic, financial, trade, and communications integration.
Globalization implies the opening of local and nationalistic perspectives to a broader outlook of an interconnected and interdependent world with free transfer of capital, goods, and services across national frontiers. However, it does not include unhindered movement of labor and, as suggested by some economists, may hurt smaller or fragile economies if applied indiscriminately
USDA Loans in California: A Comprehensive Overview.pptxmarketing367770
USDA Loans in California: A Comprehensive Overview
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Introduction to Indian Financial System ()Avanish Goel
The financial system of a country is an important tool for economic development of the country, as it helps in creation of wealth by linking savings with investments.
It facilitates the flow of funds form the households (savers) to business firms (investors) to aid in wealth creation and development of both the parties
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2. Objectives
1. Explain that the value of trade between any two countries depends
on the size of these countries’ economies and inversely related to
the distance between two.
2. Understand how borders reduce trade.
3. Describe changes in amount of global trade over time and changes
in the mix of goods and services traded internationally.
3. Fig. 2-1: Total U.S. Trade with Major Partners, 2015
• The 5 largest trading partners
with the U.S. in 2015 were
China, Canada, Mexico,
Japan, and Germany.
• The largest 15 trading
partners with the U.S.
accounted for 75% of the
value of U.S. trade in 2015.
4. Size Matters
• 3 of the top 10 trading partners with the U.S. in 2015 were also the 3
largest European economies: Germany, the United Kingdom, and France.
– These countries have the largest GDP, the value of goods and services
produced in an economy, in Europe.
• China and Japan were the largest and fourth largest trading partners
with the U.S. in 2015.
– China and Japan were the second and third largest economies in the world.
5. Fig. 2-2: The Size of European Economies, and the Value of Their Trade with the
United States
Among America’s 15 most important
Western European trading partners
• Large economies like Germany and U.K. have
larger share of trade with the U.S.
• Small economies like Austria and Sweden have
small share of trade with the U.S.
• A strong positive correlation between size of
economy measured by GDP and volume of
trade between the U.S. and European countries.
List and Map of European countries by GDP
6. Distance Matters
• Canada and Mexico were the second and third largest trading
partners with the U.S. in 2015.
• European countries trade with each others (intra-EU trade) more than
with other countries outside of Europe.
• In general, countries tend to trade with nearby economies.
7. Fig. 2-3: Economic Size and Trade
with the United States
The United States does markedly more
trade with its neighbors than it does
with European economies of the same
size.
• Canada and Mexico were the largest and
third largest trading partners with the U.S.
in 2015.
• Their economies are smaller than Germany,
France, and U.K.
List and Map of Countries by GDP
8. The Gravity Model (Size of Economy)
• The size of an economy is directly related to the volume of imports
and exports.
– Larger economies produce more goods and services, so they have more to sell
in the export market.
– Larger economies generate more income from the goods and services sold, so
they are able to buy more imports.
• Trade between any two countries is larger, the larger is either country.
9. The Gravity Model (Distance)
• The distance between two economies is inversely related to the
volume of imports and exports between them.
– Distance between economies influences transportation costs.
– Distance is a proxy for more intangible aspects of a trading relationship such
as the ease of contact for firms.
• Trade between any two countries is larger, the closer are these
countries.
10. The Gravity Model – Formula
The gravity model assumes that size and distance are important for
trade in the following way:
where
Tij is the value of trade between country i and country j
A is a constant
Yi the GDP of country I, Yj is the GDP of country j
Dij is the distance between country i and country j
i j
ij
ij
A Y Y
T
D
11. The Gravity Model – Numerical Example
U.S. Trade with Canada and Mexico in 2012
Suppose A = 25, how much trade is the U.S. expected to have with these
countries according to the gravity model?
GDP Distance Actual Trade Tij
U.S. $16.2 trillion
Canada $1.8 trillion 1,400 miles $617 billion
Mexico $1.2 trillion 1,000 miles $494 billion
• Trade with Canada: 25 x $16.2 x $1.8 / 1,400 = $521 billion
• Trade with Mexico: 25 x $16.2 x $1.2 / 1,000 = $486 billion
12. General Form of Gravity Model
• More generally, the gravity model has the following form
Tij = A x Yi
a x Yj
b /Dij
c
When a, b, and c are equal to 1, this is exactly same as the simple gravity
model.
• Taking log in both sides,
ln(Tij) = lnA +a x ln(Yi) +b x ln(Yj) – c x ln(Dij)
Where a, b, and c are constant (coefficients to be estimated empirically).
13. Using the Gravity Model: Looking for
Anomalies
A gravity model fits the data on U.S. trade with European countries well
but not perfectly.
The Netherlands, Belgium and Ireland trade much more with the
United States than predicted by a gravity model.
• Ireland has strong cultural affinity due to common language and history of
migration.
• The Netherlands and Belgium have transport cost advantages due to their
location.
14. Impediments to Trade: Barriers and Borders
Other things besides size and distance matter for trade:
1. Cultural affinity: close cultural ties, such as a common language, usually lead
to strong economic ties.
2. Geography: ocean harbors and a lack of mountain barriers make
transportation and trade easier.
3. Multinational corporations: corporations spread across different nations
import and export many goods between their divisions.
4. Borders: crossing borders involves formalities that take time, often different
currencies need to be exchanged, and perhaps monetary costs like tariffs
reduce trade.
• Borders increase the cost and time needed to trade.
15. Trade Agreements
• Trade agreements between countries are intended to reduce the
formalities and tariffs needed to cross borders, and therefore to
increase trade.
• The U.S. signed a free trade agreement with Mexico and Canada in
1994, the North American Free Trade Agreement (NAFTA).
• Because of NAFTA and because Mexico and Canada are close to the
U.S., the amount of trade between the U.S. and its northern and
southern neighbors as a fraction of GDP is larger than between the
U.S. and European countries.
16. The Changing Pattern of World Trade: Has the
World Gotten Smaller?
• The negative effect of distance on trade according to the gravity
models is significant, but has grown smaller over time due to modern
transportation and communication.
• Technological advancement in transportation and communication
occurred in
– 17th century: Discovery of new world
– 19th century: Industrial revolution
– 21st century: Information technology revolution
17. Fig. 2-5: The Fall and Rise of World Trade
The ratio of world exports of
manufactured goods to world
industrial production
• rose in the decades before
World War I
• but fell sharply in the face of
wars and protectionism.
• It didn’t return to 1913 levels
until the 1970s but has since
reached new heights.
18. The Changing Pattern of World Trade: Political
Factors
• Political factors, such as wars, can change trade patterns much more
than innovations in transportation and communication.
• World trade grew rapidly from 1870 to 1913.
– Then it suffered a sharp decline due to the two world wars and the Great
Depression.
– It started to recover around 1945 but did not recover fully until around 1970.
• Since 1970, world trade as a fraction of world GDP has achieved
unprecedented heights.
– Vertical disintegration of production has contributed to the rise in the value
of world trade through extensive cross-shipping of components.
19. What Do We Trade?
• In 2015, most (about 57%) of the volume of
trade today is in manufactured products
such as automobiles, computers, and
clothing.
• Services such as shipping, insurance, legal
fees, and spending by tourists account for
about 24% of the volume of trade.
• Mineral products (ex., petroleum, coal,
copper) remain an important part of world
trade at 12%
• Agricultural products are a relatively small
part of trade at 8%.
20. What Did We Trade?
In the past, a large fraction of the volume of trade came from agricultural and mineral
products.
• In 1910, Britain mainly imported agricultural and mineral products, while the U.S.
mainly imported and exported agricultural products and mineral products.
• In 2015, manufactured products made up most of the volume of imports and exports
for both countries.
blank Exports of United
Kingdom
Imports of United
Kingdom
Exports of
United States
Imports of
United States
1910 75.4 24.5 47.5 60.7
2015 72.3 73.6 74.8 78.4
Manufactured Goods as a Percent of Merchandise Trade
21. What Do We Trade? – Developing Countries
Over the past 50 years, the exports of developing
countries have shifted toward manufactures.
• In 1960, about 58% of exports from developing
countries were agricultural products and only
12% of exports were manufactured products.
• In 2001, about 65% of exports from developing
countries were manufactured products, and only
10% of exports were agricultural products.
• More than 90 percent of the exports of China, the
largest developing country and a rapidly growing
force in world trade, consist of manufactured
goods.
22. Outsourcing and Offshoring
• Outsourcing (vertical disintegration) is subcontracting a service, such
as product design or manufacturing, to a third-party company.
– Outsourcing can occur within an economy or across countries.
• Offshoring describes the relocation by a company of a business
process from one country to another -- typically an operational
process, such as manufacturing, or supporting processes, such as
accounting.
– Offshoring can be done by the same company or outsourcing to a third- party
company.
23. Service Offshoring
• Service offshoring occurs when a firm that provides services moves
its operations to a foreign location.
– Service offshoring can occur for services that can be transmitted
electronically.
Ex. customer service call centers.
• Service outsourcing is currently not a significant part of trade.
24. Offshoring vs. Non-Tradable
• Some jobs are “tradable” and thus have
the potential to be offshored.
• Most jobs (about 60%) need to be done
close to the customer, making them non-
tradable.
• Estimates based on trade within the United
States suggest that trade in services may
eventually become bigger than trade in
manufactures
25. Limitation of Gravity Model
Although the gravity model with various impediment factors explains a
volume of trade with other countries well, it does not explain a pattern
of trade (what to trade) and gains from trade.
• Why does the U.S. export services? Why do developing countries increasing
export more manufacture goods? Why service offshoring (import services)?
• Why do countries trade? What countries gain from trade?
26. Disclaimer
Please do not copy, modify, or distribute
this presentation
without author’s consent.
This presentation was created and owned
by
Dr. Ryoichi Sakano
North Carolina A&T State University
Disclaimer
Please do not copy, modify, or distribute
this presentation
without author’s consent.
This presentation was created and owned
by
Dr. Ryoichi Sakano
North Carolina A&T State University
Editor's Notes
What are common characteristics of trade partners with the U.S.? First, geographically group them – North America, Asia, and Europe. Next, order them in terms of size of their economies – Chain as #2, Japan as #3, Germany as #4, France as #5, and U.K. as #6
European countries are about in same distance from the U.S. – holding another determinant of trade constant.
List and map of European countries and their GDP: http://en.wikipedia.org/wiki/List_of_sovereign_states_in_Europe_by_GDP_(nominal)
$520 billion with Canada and $486 billion with Mexico.
What technological advancement in transportation and communication occured in past?