What Is International Economics About?

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3 What Is International Economics About? International trade as a fraction of the national economy has tripled for the U.S. in the past 40 years. Both imports and exports fell in Compared to the U.S., other countries are even more tied to international trade.

4 Exports and Imports as Percentage of National Income in 2007 Source: Organization for Economic Cooperation and Development

5 Exports and Imports as a Percentage of U.S. National Income Source: U.S. Bureau of Economic Analysis

6 Gains from Trade Several ideas underlie the gains from trade. When a buyer and a seller engage in a voluntary transaction, both can be made better off. Norwegian consumers import oranges that they would have a hard time producing. The producer of the oranges receives income that it can use to buy other things that it desires.

7 Gains from Trade (cont.) Trade is predicted to benefit countries as a whole in several ways, but trade may harm particular groups within a country. International trade can harm the owners of resources that are used relatively intensively in industries that compete with imports. New research: Routine vs. Non-Routine tasks Trade may therefore affect the distribution of income within a country.

8 Patterns of Trade Differences in climate and resources can explain why Brazil exports coffee and Australia exports iron ore. But why does Japan export automobiles, while the U.S. exports aircraft? Why some countries export certain products can stem from differences in: Labor productivity Relative supplies of capital, labor and land and their use in the production of different goods and services Other economic forces that we will discuss

9 Patterns of Trade cont.

10 Part Manufacturer Origin Cost A4 Chip Apple USA 11 Assembly Foxconn?, Quanta, Unknown Taiwan 4 TFT-LCD Screen Sanyo Epson, Sharp, TMD Japan Video processor chip Samsung Korea Touch screen overlay Balda Germany 39 Bluetooth chip Cambridge Silicon Radio UK Chip manufacture TSMC, UMC Taiwan Baseband IC Infineon Technology Germany WIFI Chip Marvell USA 13 Touch screen control chip Broadcom USA CMOS chip Micron USA NOR Flash ICs Intel, SST USA 73 Display Driver chip National Semi, Novatek USA, Taiwan

11 Effects of Government Policies on Trade Policy makers affect the amount of trade through tariffs: a tax on imports or exports, quotas: a quantity restriction on imports or exports, export subsidies: a payment to producers that export, or through other regulations (ex., product specifications) that exclude foreign products from the market, but still allow domestic products. What are the costs and benefits of these policies?

12 The Effects of Government Policies on Trade (cont.) If a government must restrict trade, which policy should it use and how much should it restrict trade? If a government restricts trade, what are the costs if foreign governments respond likewise? Cost of a trade war Trade policies are often chosen to cater to special interest groups, rather than to maximize national welfare. Protection for Sale Governments tend to adopt tariffs, then negotiate them down in exchange for reduction in trade barriers of other countries.

13 Total U.S. Trade with Major Partners, 2008 Source: U.S. Department of Commerce

14 The Role of Size: The Gravity Model 3 of the top 10 trading partners with the U.S. in 2008 were also the 3 largest European economies: Germany, U.K., and France. Why does the U.S. trade most with these European countries and not other European countries?

15 The Size of European Economies, and the Value of Their Trade with the United States Source: U.S. Department of Commerce, European Commission

16 The Gravity Model Other things besides size matter for trade: 1. Distance between markets influences transportation costs and therefore the cost of imports and exports. Distance may also influence personal contact and communication, which may influence trade. 2. Cultural affinity: if two countries have cultural ties, it is likely that they also have strong economic ties. 3. Geography: ocean harbors and a lack of mountain barriers make transportation and trade easier.

17 The Gravity Model (cont.) 4. Multinational corporations: corporations spread across different nations import and export many goods between their divisions. 5. Borders: crossing borders involves formalities that take time and perhaps monetary costs like tariffs. These implicit and explicit costs reduce trade. The existence of borders may also indicate the existence of different languages (see 2) or different currencies, either of which may impede trade more.

18 Economic Size and Trade with the United States Source: U.S. Department of Commerce, European Commission.

19 Distance and Borders (cont.) Yet even with a free trade agreement between the U.S. and Canada, which use a common language, the border between these countries still seems to be associated with a reduction in trade.

20 Trade with British Columbia, as Percent of GDP, 1996

21 Has the World Become Smaller?

22 Has the World Become 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. Technologies that have increased trade: Wheels, sails, compasses, railroads, telegraph, steam power, automobiles, telephones, airplanes, computers, fax machines, Internet, fiber optics, personal digital assistants, GPS satellites container

23 Has the World Become Smaller? (cont.) War can change trade patterns much more than innovations in transportation and communication. World trade grew rapidly from 1870 to 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 Since 1970, world trade as a fraction of world GDP has achieved unprecedented heights.

24 World Exports as a Percentage of World GDP

25 Changing Composition of Trade Today, most (about 55%) of the volume of trade is in manufactured products such as automobiles, computers, clothing and machinery.

26 The Composition of World Trade, 2008 Source: World Trade Organization

27 Changing Composition of Trade (cont.) In the past, a large fraction of the volume of trade came from agricultural and mineral products.

28 Manufactured Goods as a Percent of Merchandise Trade

29 The Changing Composition of Developing-Country Exports Source: United Nations Council on Trade and Development

30 Service Outsourcing These days, a new transition is occurring Service outsourcing (or offshoring) occurs when a firm that provides services moves its operations to a foreign location. Service outsourcing can occur for services that can be performed and transmitted electronically. For example, a firm may move its customer service centers whose telephone calls can be transmitted electronically to a foreign location.

31 Service Outsourcing (cont.) Service outsourcing is currently not a huge part of trade, but it is growing rapidly. Some jobs are tradable and thus have the potential to be outsourced. Most jobs are nontradable because they need to be done close to the customer.

32 Tradable Industries Share of Employment Source: J. Bradford Jensen and Lori G. Kletzer, Tradable Services: Understanding the Scope and Impact of Services Outsourcing, Peterson Institute of Economics Working Paper 5-09, May 2005

33 ded-panama-canal-sparks-race-to-be-ready-for-bigger-cargo- ships/2013/01/12/f3c85d e2-8a12-5dfdfa9ea795_story_2.html

34 Summary 1. The 5 largest trading partners with the U.S. are Canada, China, Mexico, Japan, and Germany. 2. The largest economies in the EU undertake the largest fraction of the total trade between the EU and the U.S. 3. The gravity model predicts that the volume of trade is directly related to the GDP of each trading partner and is inversely related to the distance between them.

35 Summary (cont.) 4. Besides size and distance, culture, geography, multinational corporations, and the existence of borders influence trade. 5. Modern transportation and communication have increased trade, but political factors have influenced trade more in history. 6. Today, most trade is in manufactured goods, while historically agricultural and mineral products made up most of trade.