Introduction. Learning Objectives. Chapter 33. Comparative Advantage and the Open Economy

Transcription

1 Copyright 2011 by Pearson Education, Inc. Chapter 33 Comparative Advantage and the Open Economy All rights reserved. Introduction In the midst of the Great Recession of the late 2000s, the governments of the G20 nations promised to keep their economies open to international trade Within a few months, nearly every G20 nation had enacted measures that limited or even prohibited inflows of foreign goods Who gains and who loses from international trade? Why does international trade occur at all? Reading this chapter will help you answer these questions 33-2 Learning Objectives Discuss the worldwide importance of international trade Explain why nations can gain from specializing in production and engaging in international trade Understand common arguments against free trade Describe ways that nations restrict foreign trade Identify key international agreements and organizations that adjudicate trade disputes among nations 33-3

2 Chapter Outline The Worldwide Importance of International Trade Why We Trade: Comparative Advantage and Mutual Gains from Exchange The Relationship Between Imports and Exports International Competitiveness Arguments Against Free Trade Ways to Restrict Foreign Trade International Trade Organizations 33-4 Did You Know That... The 2009 stimulus law requires U.S. construction projects receiving federal funding to use only U.S. materials? The consequences reverberated across the United States and its trading partners, such as Canada What effects do restrictions on imports have on quantities and prices of domestically produced goods and services? You will learn the answer to this question in this chapter 33-5 The Worldwide Importance of International Trade World GDP today is nearly nine times greater than it was at the end of World War II World trade has increased to more than 28 times what it was in

3 The Worldwide Importance of International Trade (cont'd) The United States has figured prominently in this expansion of world trade Imports added up to barely 4% of annual U.S. GDP in 1950 Today they account for more than17% 33-7 Figure 33-1 The Growth of World Trade, Panel (a) 33-8 Figure 33-1 The Growth of World Trade, Panel (b) 33-9

4 International Example: Bad Timing for a Global Shipping Fleet Expansion When world trade was growing rapidly in the 2000s, shippers expanded both the number of freighthauling ships and the average size of the ships Today, in the midst of a global slump in international trade, shippers have discovered that their fleets are too large After all of the ships under construction are launched, the available global shipping capacity will exceed the current requirements of the market by 70 percent Why We Trade: Comparative Advantage and Mutual Gains From Exchange We have learned about the concept of specialization and the mutual gains from trade We can understand gains from trade among nations by understanding output gains from specialization between individuals Why We Trade: Comparative Advantage and Scenario (8-hour day) Ad specialist 2 pages of ad copy/hour 1 art rendering/hour Computer artist 1 page of ad copy/hour 1 art rendering/hour 33-12

5 Why We Trade: Comparative Advantage and Without Trade (8-hour day) Ad Specialist Computer Artist Total Copy 4 hrs 2 = 8 4 hrs 1 = 4 12 Renderings 4 hrs 1 = 4 4 hrs 1 = Why We Trade: Comparative Advantage and With Trade (8-hour day) Ad Specialist Computer Artist Total Copy 8 hrs 2 = Renderings 8 hrs 1 = 8 8 Ad copy output increases by 4 pages per day Why We Trade: Comparative Advantage and Comparative Advantage The ability to produce a good or service at a lower opportunity cost compared with producers 33-15

6 International Example: A European Comparative Advantage in Bullet Trains The U.S. federal government s 2009 stimulus package included $13 billion allocated to upgrading existing rail lines and building new lines capable of carrying high-speed bullet trains European producers possess a comparative advantage in putting bullet trains in place: European firms already have already developed the technological and engineering know-how to construct rail lines capable of handling bullet trains Why We Trade: Comparative Advantage and Specialization among nations To demonstrate the concept of comparative advantage, consider a simple two-country, twogood world Why We Trade: Comparative Advantage and Production and consumption capabilities in a two-country, two-good world We show maximum feasible quantities of software and PCs Using all resources land, labor, capital, and entrepreneurship 33-18

7 Why We Trade: Comparative Advantage and U.S. residents can utilize all their resources to produce 90 units of software or 225 PCs per hour Residents of India are able to utilize all their resources to produce either 100 units of software or 50 PCs per hour Table 33-1 Maximum Feasible Hourly Production Rates of Either Commercial Software or Personal Computers Using All Available Resources Why We Trade: Comparative Advantage and Comparative advantage The opportunity cost of producing a PC is lower in the United States than in India 1 PC = 0.4 units of software 1 unit of software = 2.5 PCs The opportunity cost of producing software is lower in India than the United States 1 PC = 2 units of software 1 unit of software = 0.5 PC 33-21

8 Why We Trade: Comparative Advantage and Production without trade Table 33-2 tabulates two possible production choices World output is 55 units of software and PCs (per hour) Table 33-2 U.S. and Indian Production and Consumption Without Trade Why We Trade: Comparative Advantage and The United States and India will specialize in activities with which they experience a lower opportunity cost In other words, they will specialize in the activity in which they have a comparative advantage 33-24

9 Why We Trade: Comparative Advantage and Specialization in production United States will specialize Produce 225 PCs, and no software India will specialize Produce 100 software units, and no PCs Why We Trade: Comparative Advantage and Consumption with specialization and trade The United States is willing to buy 1 unit of Indian software as long as they provide in exchange no more than 2.5 PCs This is the United States opportunity cost of producing 1 unit of software at home Why We Trade: Comparative Advantage and Consumption with specialization and trade India buys a PC from the United States in exchange for no more than 2 units of software This is India s opportunity cost of producing a PC at home 33-27

10 Why We Trade: Comparative Advantage and Residents of the two nations agree to a rate of exchange of 1 PC for 1 unit of software Proceed to trade 75 U.S. PCs for 75 units of Indian software Table 33-3 U.S. and Indian Production and Consumption with Specialization and Trade Why We Trade: Comparative Advantage and By specializing and engaging in trade: The United States consumes 75 units of software imported from India and consumes 150 PCs produced at home Indian residents consume 25 units of software produced at home and import 75 PCs from the United States 33-30

11 Why We Trade: Comparative Advantage and Gains from trade The United States gain from specialization and trade is 45 units of software India can consume 37.5 more PCs These are net gains Table 33-4 National and Worldwide Gains from Specialization and Trade Why We Trade: Comparative Advantage and Specialization is the key Specializing in producing goods for which a nation has a comparative advantage allows for greater efficiency Production capabilities increase, making possible greater worldwide consumption through international trade 33-33

12 Why We Trade: Comparative Advantage and Observations on specialization and trade Not everyone gains from trade Cannot run out of exports Every country will always have a comparative advantage in something Figure 33-2 World Trade Flows International Example: During a Recession, Are Comparative Advantages in Services More Stable Sources of Trade? During the recent economic downturn, trade of physical goods dropped by more than 20% worldwide, but global trade services did not perceptibly change. Why? During a recession: Many internationally traded services are financial services that firms buy even as their production decline Companies work harder to speed the receipt of revenues and thus purchase more services of collection agencies Firms seek to cut expenses by buying lower-cost foreign services 33-36

13 Why We Trade: Comparative Advantage and Other benefits from international trade: the transmission of ideas New goods, services spread New processes transmitted Intellectual property introduced The Relationship Between Exports and Imports In the long run, imports are paid for by exports Any restrictions on imports ultimately reduce exports When a country engages in trade, it is not competing against the other countries All nations stand to benefit from trade International Competitiveness Questions Is the United States falling behind? Do we need to stay competitive internationally? What does global competitiveness really mean? 33-39

14 International Competitiveness (cont'd) Answers The United States leads in overall productive efficiency According to the Institute for Management Development in Lausanne, Switzerland International Competitiveness (cont'd) Reasons for this ranking: Widespread entrepreneurship Economic restructuring Investment in information-technology Sophisticated financial system Large investments in scientific research International Example: How Shipping Containers Made Some Nations More Competitive Before shipping firms began to use shipping containers, labor costs had been a significant portion of their expenses in ports Shipping containers dramatically reduced labor costs and made significantly increased the competitiveness of ports in locales such as Hong Kong, Singapore, Newark and Charleston Ports in London, Boston, and New York City failed to adapt to the use of shipping containers and so became uncompetitive 33-42

15 Arguments Against Free Trade Infant Industry Argument The contention that tariffs should be imposed to protect from import competition an industry that is trying to get started Presumably, after the industry becomes technologically efficient, the tariff can be lifted E-Commerce Example: Protectionism Boosts Japan s Electricity Bill The OECD rates Japan as the least open to international trade in electricity sales No foreign electricity producers have been permitted to compete in Japan As a consequence of such protectionist policies that restrain competition, Japanese electricity prices remain among the highest in the world Arguments Against Free Trade (cont'd) Countering foreign subsidies and dumping Dumping Selling a good or a service abroad below the price charged in the home market or at a price below its cost of production 33-45

16 Arguments Against Free Trade (cont'd) Protecting domestic jobs Do imports reduce jobs? Gould/Woodbridge/Ruffin study no casual link between the rate of imports and unemployment In half of the cases studied, when imports rose, unemployment fell Arguments Against Free Trade (cont'd) The cost of protecting U.S. jobs Restrictions on textiles and apparel goods cost U.S. consumers $9 billion a year Cost $50,000 a year for each $20,000 job saved Restriction on imports of Japanese cars Cost $160,000 per year for each job saved in the auto industry Arguments Against Free Trade (cont'd) The cost of protecting U.S. jobs Glass industry restrictions Cost $200,000 per year per job saved Steel industry restrictions Cost $750,000 per year per job saved 33-48

17 Arguments Against Free Trade (cont d) Emerging arguments against free trade Environmental concerns Genetic engineering New diseases National defense Exports of new technology Policy Example: Does the U.S. Steel Industry Deserve Environmental Protection? Since 1995, the U.S. steel industry has complained about alleged dumping of steel and related products generated more than half of the U.S. government dumping claims against companies in other nations like China Some environmentalists suggest that Chinese steel prices fail to reflect the global social costs of pollution generated by the production of steel in China, and so Chinese steel prices are too low Ways to Restrict Foreign Trade Quota System A government-imposed restriction on the quantity of a specific good that another country is allowed to sell in the United States In other words, quotas are restrictions on imports, usually applied to one or several specific countries 33-51

18 Figure 33-3 The Effect of Quotas on Textile Imports Ways to Restrict Foreign Trade Voluntary quotas Voluntary Restraint Agreement (VRA) An official agreement with another country that voluntarily restricts the quantity of its exports Voluntary Import Expansion (VIE) An official agreement with another country in which it agrees to import more from the United States Ways to Restrict Foreign Trade (cont'd) Tariffs Tax on imported goods Benefits import-competing industries Harms consumers by raising prices 33-54

19 Figure 33-4 The Effect of a Tariff on Japanese-Made Laptop Computers, Panel (a) Japanese-made notebook computers Figure 33-4 The Effect of a Tariff on Japanese-Made Laptop Computers, Panel (b) American-made notebook computers Ways to Restrict Foreign Trade (cont'd) Tariffs in the United States Have varied widely on imported goods Highest rates in twentieth century occurred with passage of Smoot-Hawley Tariff in

20 Ways to Restrict Foreign Trade (cont d) The Trade Expansion Act of 1962 gave the president the authority to reduce tariffs by up to 50% The Trade Reform Act (1974) allowed further reductions The Trade and Tariff Act (1984) resulted in the lowest tariff rates ever Ways to Restrict Foreign Trade (cont d) All of these trade agreement obligations were carried out under the General Agreement on Tariffs and Trade (GATT) An international agreement established in 1947 to further world trade by reducing barriers and tariffs The GATT was replaced by the World Trade Organization in Figure 33-5 Tariff Rates in the United States Since

21 Ways to Reduce Foreign Trade (cont d) General Agreement on Tariffs and Trade An international agreement established in 1947 to further world trade by reducing barriers and tariffs GATT was replaced by the World Trade Organization in International Trade Organizations The World Trade Organization (WTO) The successor organization to GATT that handles trade disputes among its member nations International Trade Organizations (cont'd) The World Trade Organization (WTO) Most important international trade organization, with largest membership Fostered most important and far-reaching global trade agreement covering Financial institutions; including banks, insurers and investment companies 33-63

22 International Trade Organizations (cont'd) Regional Trade Bloc A group of nations that grants members special privileges Examples include the European Union, NAFTA, and the Association of Southeast Asian Nations International Trade Organizations (cont'd) Some economists worry that regional blocs could lead to a reduction in members trade with nations outside their blocs. Trade Diversion the shifting of trade from countries outside a regional trade bloc to nations within a bloc Most evidence, however, indicates that regional trade blocs have promoted trade instead of hindering it International Trade Organizations (cont'd) Numerous studies have found that as countries from around the world have become more open to trade, they have tended to join regional trade blocs that promote even more openness 33-66

23 International Trade Organizations The Trade Deflection Issue Today, the primary issue associated with regional trade blocs is trade deflection Trade Deflection occurs when a company located in a nation outside a regional trade bloc moves goods that are not quite fully assembled into a member country, completes assembly of the goods there, and then exports them to other nations in the bloc To try to reduce incentives for trade deflection, regional trade agreements often include rules of origin Rules of origin Regulations carefully defining categories of products that are eligible for trading preferences under the agreements Figure 33-6 The Percentage of World Trade Within Regional Trade Blocs Issues and Applications: Is Protectionist History Destined to Be Repeated? In 1930, the Great Depression began and Congress passed the Tariff Act of 1930, also known as the Smoot-Hawley Act Other nations around the world retaliated by raising their own tariffs and imposing various trade quotas By 1933, the worldwide flow of international trade was 66 percent below the 1929 level 33-69

24 Issues and Applications: Is Protectionist History Destined to Be Repeated? (cont d) Since the onset of the Great Recession in 2007, more than 70 countries, including the United States, have enacted laws to protect their domestic industries from competition a reflection of those of the early 1930s A study by economists at the European Central Bank suggests that if all countries were to increase import tariffs by a five-percentage-point, then world GDP growth would be zero or even negative Summary Discussion of Learning Objectives Worldwide importance of international trade World trade has grown faster than total world GDP Why nations can gain from specializing in production and engaging in trade Comparative advantage Summary Discussion of Learning Objectives (cont'd) Arguments against free trade Infant industry Dumping Environmental concerns National defense Ways that nations restrict foreign trade Tariffs Quotas 33-72

25 Summary Discussion of Learning Objectives (cont'd) Key international agreements and organizations GATT WTO More than 230 regional trade blocs NAFTA European Union 33-73