4.1.4 Terms of Trade

Question 1

What are the terms of trade

Answer 1

measures the relative prices of a country’s exports compared to the cost of imported good/services

It is a weighted ratio of the weighted price index for exports to the price index of imports

Basically, it is the amount of imported goods/services an economy can purchase per unit of exported goods/service)

Question 2

What is the formula for calculating terms of trade?

Answer 2

Terms of Trade index = (price index for exports) / (price index for imports) x 100

Question 3

A rise in the price index for exports of goods/services does what for terms of trade

Answer 3

improves the terms of trade and this means that a country can buy more imports for any given level of exports

Menas that export prices are rising relative to import prices

It can be a measure of a countries competitiveness

Question 4

If there is an improvement in terms of trade, which means that export prices are rising relative to import prices

However, exports are more expensive suggesting demand for exports will decline, thus reducing AD

Why is this saying terms of trade have improved then?

Answer 4

When export prices rise because fewer goods have to be exported to buy a certain amount of imports

Question 5

Factors influencing the terms of trade

Answer 5

• Global prices for raw materials and components
• Exchange rates
• Import tariffs and other trade barriers such as quotas
• Domestic and global inflation rates
• CHanging factor endowments