Lecture 7 Part 3. Announcements. Minnesota Economics Association (MEA) Conference Friday, October 27 th,

Transcription

1 Lecture 7 Part 3 Announcements Minnesota Economics Association (MEA) Conference Friday, October 27 th,

2 Lecture 7 Part 3 1. Review of Tariffs and Comparative Advantage 2. Trade Based on comparative advantage (Robinson/Friday Trade) 3. Trade based on increasing returns (Robinson 1/Robinson 2 Trade) 4. The iphone and the international division of labor

3 Review Economic Impact of Tariff in Econland Imports with tariff Imports free trade $ S Tariff P Econ P Econ = P World + tariff P world D Q

4 Effects of the Tariff ΔCS (minus) ΔPS (plus) ΔGS (plus) (tariff revenue) ΔTotal Econland Surplus (minus) Breakdown Q con too small And with quota = Same effect, except gov t doesn't get Q prod too big

5 If start with tariff and move to free trade- - overall surplus is higher But there are winners and losers Producers worse off Is this because total jobs are declining? Not necessarily

6 Since total pie is bigger, in principle there maybe ways to cut producers into the deal. Trade Adjustment Assistance Program (for retraining) More generally society can have a safety net to help displaced workers. What about affect on government revenue?

7 Compare: Widget consumption tax $1 v/s Widget tariff of $2. P W = $1 Govt. Rev: Tax= Tariff= 10 $ D S Q

8 Compare: Widget consumption tax $1 v/s Widget tariff of $2. P W = $1 P D ($1 tax)= P S ($1 tax)= P D ($2 tariff)= Govt. Rev: Tax= Tariff= 10 $ D S Q

9 Compare: Widget consumption tax $1 v/s Widget tariff of $2. P W = $1 P D ($1 tax)=_$2_ P S ($1 tax)=_$1_ P ($2 tariff)= Govt. Rev: Tax= $8 Tariff= DWL is smaller with broad- based tax 10 $ D S Q

10 Back to Robinson Crusoe Now turn to our new graph where we can see quantities of two good Recall that Robinson Crusoe: Has 8 hours a day. Can produce 3 fish in an hour or 1 coconut.

11 Back to Robinson Crusoe Suppose autarky (no trade, on his own) We will talk about choice next week. But let s say he decides to work half on each Production point and consumption point produce, consume 12 fish produce, consume 4 coconuts

12 Production Possibility Frontier for Robinson Crusoe Slope: =1/3 Opportunity Cost of one more fish (in terms of coconuts) C o c u n u t s Fish

13 Suppose another person named Friday lives on a neighboring island Friday works only 2 hours a day. In one hour, can collect 12 coconuts or 4 fish. Remember: Crusoe can catch 3 fish or pick one coconut in an hour. So Friday has an absolute advantage at both jobs compared to Robinson Crusoe in terms of productivity per hour.

14 Friday s PPF Slope = 3. This is opportunity cost of fish in terms of coconuts C o c u n u t s Fish

15 Opportunity Cost of Fish For Robinson: 1/3 coconuts For Friday: 3 coconuts Robinson has a lower opportunity cost Robinson has a comparative advantage in fish. Friday has a comparative advantage in coconuts.

16 Suppose can go to the market and trade. Suppose market price is one coconut for one fish. What do these guys do? Specialize according to comparative advantage Example how both can be better off Robinson Produces fish coconuts Friday Produces fish coconuts

17 Robinson gives Friday Friday gives Robinson Robinson consumes fish coconuts Friday consumes fish coconuts Pareto improvement compared to autarky! Let s see the a famous picture

18 Comparative Advantage as a Basis of Trade Robinson PPF Op. Cost 1 Fish = 1/3 Coconuts Produce Consume Autarky 12 F, 4 C 12F, 4 C Trade 24F, 0 C 12F, 12 C C o c u n u t s Trade Consume Autarky Trade Produce Fish

19 Friday PPF Op. Cost 1 Fish = 3 Coconuts Produce Consume Autarky 4 F, 12C 4 F, 12 C Trade 0 F, 24 C 12F, 12C C o c u n u t s Autarky Trade Produce Trade Consume Fish

20 Robinson/Friday Trade: Trade Based on Comparative Advantage David Ricardo: Low skill country: specialize in labor intensive goods assemble sneakers High skill country: Specialize in high capital goods do design, marketing, engineering

21 Ricardo challenged the ideas of Mercantilism (16 th - 18 th centuries) Discourage imports (high tariffs), especially of manufactured goods. importing raw materials OK Encourage exports (export subsidies) exporting raw materials not OK, make something out of them first Hoard gold Ricardo argued instead that imports can benefit a country, by allowing it to specialize according to its comparative advantage.

22 Comparative Advantage Trade: Actual Economy Warm Climate Temperate

23 Comparative Advantage Trade: Actual Economy Low Skill High Skill

24 Increasing Returns and Gains from Trade Suppose PPF looks like: Opportunity cost one more fish falls as fish production increases One reason: learning by doing C o c u n u t s PPF Fish

25 Can specialize and make: 24 fish, 0 coconuts or 0 fish 24 coconuts Or try to do both and make 7 fish and 7 coconuts Jack of all trades but master of none With autarky might do both even if not particularly good at either task without specialization

26 Robinson in autarky Perhaps produce and consume 7 coconuts and 7 fish. Now suppose Robinson can trade with clones of himself? What do we expect to happen? Specialization! Robinson 1: Produces Fish Coconuts Robinson Clone: Produces Fish Coconuts Each consumes Fish Coconuts

27 Increasing Returns as Basis of Trade Robinson 1 PPF Produce Consume Autarky 7 F, 7 C 7F, 7 C Trade 24F, 0 C 12F, 12 C Autarky C o c u n u t s Trade Consume PPF Trade Produce Fish

28 Robinson 2 (clone) PPF Produce Consume Autarky 7 F, 7C 7 F, 7 C Trade 0 F, 24 C 12F, 12C Autarky C o c u n u t s Trade Produce PPF Trade Consume Fish

29 Robinson 1/Robinson 2 Trade: Based on Increasing Returns We can enjoy increasing returns and more product variety. Paul Krugman Adam Smith

30 Trade Based on Increasing Returns: Actual Economy Rich Country 1 Rich Country 2

31 Trade Based on Increasing Returns Interest in the theory driven by the empirical observation that much trade is between similar countries U.S. and Canada, U.S. and Europe U.S. and Japan all high skill countries. With increasing returns, through trade possible for: 1. Have large production volumes of any given product 2. Consumers have a large variety

32 Suppose Minnesota were a country Suppose autarky. (No trade with other states or countries) Vehicles: Polaris Slingshot Movies:

33 Music: Other Stuff: With trade, we can enjoy more variety than this!

34 iphone 8 256GB International Division of Labor and the iphone Price $ contract free (from T- mobile at Apple Web site)

35 Teardown of iphone

36 Components (maybe $200?) (Robinson 1/Robinson 2 Trade ) All made in advanced economies. Toshiba (Japan) making memory TSMC (Taiwan) and Samsung (Korea) processor (designed by Apple) Infineon (Germany) baseband Broadcom (U.S) bluetooth Corning (U.S) Gorilla glass These nations are similar (U.S. = Robinson 1, Japan=Robinson 2) in having high skill labor used to develop these top- of- the- line technologies. capital intensive production processes that use hardly any labor. Huge scale economies at work here, in R&D and development of production processes.

37 Assembly in China (maybe $10- $15) (Robinson /Friday Trade) Estimate of $6.50, but this strikes as low, may not include manufacture of the very nice box, etc. All components go to the massive Foxconn complex (300,000 workers!) for assembly. Assembly is labor intensive. Specialization according to comparative advantage. Low skill workers earning about $170 a month.

38 Customer Service (Robinson /Friday Trade) Consumers need to call someone to get phone hooked up and resolve glitches. This is labor intensive, so goes where labor is cheap and the population can speak English. Philippines, where pay is $500 a month

39 Apple Estimated to keep more than half of the $949! Employs high skill workers The $600 plus is a return on innovation, investment in apple stores, etc.