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Gains from trade: Consumer and Producer Surplus
- 1. WACE Economics: Unit 3 Video 2.2 THE GAINS FROM TRADE Consumer and Producer Surplus
- 2. (c) Andrew Tibbitt 2017 2 Countries receive static and dynamic gains from international trade • Static gains are created because trade allows countries use resources more efficiently • Dynamic gains are created because trade leads to changes in production and markets Models to showing the static gains from trade
- 3. (c) Andrew Tibbitt 2017 3 Countries receive static and dynamic gains from international trade • Static gains are created because trade allows countries use resources more efficiently • Dynamic gains are created because trade leads to changes in production and markets The level of static gains can be shown in a number of models: 1. Consumer and producer surplus diagrams 2. Production Possibility Frontier diagrams 3. Theory of Comparative Advantage calculations Models to showing the static gains from trade
- 4. International competitiveness Specific products can be made more efficiently in some countries than others because of quantitative and qualitative differences in each country’s resources, including: • Natural resources (e.g. minerals, energy) • Human capital (skills, education, training) • Physical capital (machinery, buildings, infrastructure) • Technology (access to, embodiment) • Enterprise (incentives) • Governance (legal system, stability, corruption) (c) Andrew Tibbitt 2017 4
- 5. Absolute and Comparative Advantage (c) Andrew Tibbitt 2017 5 • A country has an absolute advantage in making a product if it can make the product at a lower cost or more efficiently than other countries. • The term refers to two countries ability to make the same product.
- 6. Absolute and Comparative Advantage • A country has a comparative advantage in making a product if the opportunity cost of making the product is lower than the opportunity cost of making another product. • Opportunity cost is value of other products sacrificed or foregone in making a product. • Hence it refers to differences in opportunity cost and two countries ability to make two different products. (c) Andrew Tibbitt 2017 6 • A country has an absolute advantage in making a product if it can make the product at a lower cost or more efficiently than other countries. • The term refers to two countries ability to make the same product.
- 7. Review of consumer and producer surplus Domestic supply Domestic demand Price Quantity $20 (Equilibriu m Price) 1000 cases (Equilibriu m Quantity) Australian Market for red wine Demand Curve = Willingness to pay curve = Marginal benefits curve Supply curve = Willingness to supply curve = Marginal cost curve Price everybody pays Consumer surplus Willingness to pay > price (c) Andrew Tibbitt 2017 7
- 8. Domestic supply Domestic demand Price Quantity $20 (Equilibriu m Price) 1000 cases (Equilibriu m Quantity) Australian Market for Red Wine Demand Curve = Willingness to pay curve = Marginal benefits curve Supply curve = Willingness to supply curve = Marginal cost curve Price everybody pays Producer surplus Willingness to supply < price (c) Andrew Tibbitt 2017 8 Review of consumer and producer surplus
- 9. Domestic supply Domestic demand Price Quantity $20 (Equilibriu m Price) 1000 cases (Equilibriu m Quantity) Price everybody pays Total welfare = Community surplus = Consumer surplus + Producer surplus Quantity purchased (c) Andrew Tibbitt 2017 9 Australian Market for Red Wine Review of consumer and producer surplus
- 10. Exporters gain access to foreign markets Domestic supply Domestic demand Price Quantity Access to export markets increases demand. Demand from exports increases price until price reaches ‘world’ price level. Domestic price Australia can export wine because the domestic price is initially lower than ‘world’ price. Australia is a relatively competitive wine producer. ‘World’ price Domestic + export demand (c) Andrew Tibbitt 2017 10
- 11. Domestic supply Domestic demand Price Quantity World price Gain in producer surplus outweighs loss in consumer surplus There is a loss in consumer surplus. Wine has become more expensive in domestic market Result? Australian consumers pay more for wine (and drink less of it). Consumer surplus falls. But Australian wine producers sell more at higher prices and make more producer surplus. Overall there is a rise in community surplus (triangle).(c) Andrew Tibbitt 2017 11 Exporters gain access to foreign markets
- 12. Domestic supply Domestic demand Price Quantity Consumers can buy to cheap imports Australia will import toys because the domestic price is initially higher than ‘world’ price. Australia is a relatively uncompetitive toy producer. (c) Andrew Tibbitt 2017 12 Toy market World price Price of imports
- 13. Domestic supply Domestic demand Price Quantity Price in Oz without trade Toy Market Australia imports toys because the price of Australian toys (the domestic price) is initially higher than ‘world’ price. Australia is a relatively uncompetitive toy producer. (c) Andrew Tibbitt 2017 13 Domestic supply + imports Consumers can buy to cheap imports World price
- 14. Domestic supply Domestic demand Price Quantity World price The gain in consumer surplus from buying more, cheaper toys more than offsets loss in producer surplus. There is an overall rise in community surplus (area of triangle). There is a gain in consumer surplus Toys have become more cheaper in domestic market (c) Andrew Tibbitt 2017 14 Domestic supply + imports Loss of producer surplus by Australian toy producers Consumers can buy to cheap imports Price in Oz without trade World price
- 15. Summary: Gains from trade (c) Andrew Tibbitt 2017 15 Price Quantity Oz demand S Electrical goods in Australia No trade Wine in Australia No trade Oz Price Consumer surplus World Price Producer surplus Price Quantity Oz demand S Oz Price World Price Consumer surplus Producer surplus
- 16. Summary: Gains from trade (c) Andrew Tibbitt 2017 16 Price Quantity Oz demand S Electrical goods in Australia With imports Oz Price World Price S + imports Consumers gain Wine in Australia With exports Price Quantity Oz demand S Oz Price World Price Producer gain Oz demand + exports
- 17. Summary: Gains from trade (c) Andrew Tibbitt 2017 17 Price Quantity Oz demand S Oz Price World Price S + imports Consumers gain Producers loss Electrical goods in Australia With imports Wine in Australia With exports Price Quantity Oz demand S Oz Price World Price Consumer loss Producer gain Oz demand + exports
- 18. Summary: Gains from trade (c) Andrew Tibbitt 2017 18 Price Quantity Oz demand S Oz Price World Price S + imports Consumers gain Producers loss Electrical goods in Australia With imports Wine in Australia With exports Price Quantity Oz demand S Oz Price World Price Consumer loss Producer gain Overall gain Overall gain
- 19. End of slide show (c) Andrew Tibbitt 2017 19