AP Econ Day 92.notebook February 04, 2013

Transcription

1 FIGURE 37.2 Trading possibilities lines and the gains from trade. Pg Questions As a result of specialization and trade, both the United States and Mexico can have higher levels of output than the levels attainable on their domestic production possibilities curves. (a) The United States can move from point A on its domestic production possibilities curve to, say, A on its trading possibilities line. (b) Mexico can move from Z to Z.

2 Supply and Demand in the United States Figure 37.3a shows the domestic supply curve S d and the domestic demand curve D d for aluminum in the United States, which for now is a closed economy. The intersection of S d and D d determines the equilibrium domestic price of $1 per pound and the equilibrium domestic quantity of 100 million pounds. Domestic suppliers produce 100 million pounds and sell them all at $1 a pound. So there are no domestic surpluses or shortages of aluminum. (a) Domestic supply S d and demand D d set the domestic equilibrium price of aluminum at $1 per pound. At world prices above $1 there are domestic surpluses of aluminum. At prices below $1 there are domestic shortages. (b) Surpluses are exported (top curve), and shortages are met by importing aluminum (lower curve). The export supply curve shows the direct relationship between world prices and U.S. exports; the import demand curve portrays the inverse relationship between world prices and U.S. imports.

3 FIGURE 37.5 Equilibrium world price and quantity of exports and imports. In a two-nation world, the equilibrium world price (= $.88) is determined by the intersection of one nation's export supply curve and the other nation's import demand curve. This intersection also decides the equilibrium volume of exports and imports. Here, Canada exports 25 million pounds of aluminum to the United States.

4 FIGURE 37.6 The economic effects of a protective tariff or an import quota. A tariff that increases the price of a good from P w to P t will reduce domestic consumption from d to c. Domestic producers will be able to sell more output (b rather than a) at a higher price (P t rather than P w ). Foreign exporters are injured because they sell less output (bc rather than ad). The yellow area indicates the amount of tariff paid by domestic consumers. An import quota of bc units has the same effect as the tariff, with one exception: The amount represented by the yellow area will go to foreign producers rather than to the domestic government.

5 Direct Effects Suppose now that the United States imposes a tariff on each imported DVD player. The tariff, which raises the price of imported players from P w to P t, has four effects: > Decline in consumption Consumption of DVD players in the United States declines from d to c as the higher price moves buyers up and to the left along their demand curve. The tariff prompts consumers to buy fewer players, and reallocate a portion of their expenditures to less desired substitute products. U.S. consumers are clearly injured by the tariff, since they pay P t P w more for each of the c units they buy at price P t. > Increased domestic production U.S. producers who are not subject to the tariff receive the higher price P t per unit. Because this new price is higher than the pretariff world price P w, the domestic DVD-player industry moves up and to the right along its supply curve S d, increasing domestic output from a to b. Domestic producers thus enjoy both a higher price and expanded sales; this explains why domestic producers lobby for protective tariffs. But from a social point of view, the increase in domestic production from a to b means that the tariff permits domestic producers of players to bid resources away from other, more efficient, U.S. industries. p. 769 > Decline in imports Japanese producers are hurt. Although the sales price of each player is higher by P t P w, that amount accrues to the U.S. government, not to Japanese producers. The after-tariff world price, or the per-unit revenue to Japanese producers, remains at P w, but the volume of U.S. imports (Japanese exports) falls from ad to bc. > Tariff revenue The yellow rectangle represents the amount of revenue the tariff yields. Total revenue from the tariff is determined by multiplying the tariff, P t P w per unit, by the number of players imported, bc. This tariff revenue is a transfer of income from consumers to government and does not represent any net change in the nation's economic well-being. The result is that government gains this portion of what consumers lose by paying more for DVD players.

6 Indirect Effect Tariffs have a subtle effect beyond what our supply and demand diagram can show. Because Japan sells fewer DVD players in the United States, it earns fewer dollars and so must buy fewer U.S. exports. U.S. export industries must then cut production and release resources. These are highly efficient industries, as we know from their comparative advantage and their ability to sell goods in world markets. Tariffs directly promote the expansion of inefficient industries that do not have a comparative advantage; they also indirectly cause the contraction of relatively efficient industries that do have a comparative advantage. Put bluntly, tariffs cause resources to be shifted in the wrong direction and that is not surprising. We know that specialization and world trade lead to more efficient use of world resources and greater world output. But protective tariffs reduce world trade. Therefore, tariffs also reduce efficiency and the world's real output. Conclusion: The gains that U.S. trade barriers create for protected industries and their workers come at the expense of much greater losses for the entire economy. The result is economic inefficiency, reduced consumption, and lower standards of living.