4.1.4 - terms of trade

Question 1

What does terms of trade mean?

Answer 1

Terms of trade refers to the number of units of imports a nation can gain per unit of its exports. It determines whether a nation will actually benefit from taking part in trade.

Question 2

How do you calculate terms of trade?

Answer 2

Terms of trade = (index of export prices/index of import prices) x 100

Question 3

What are the factors that influence a country’s terms of trade?

Answer 3

-relative inflation rates - a rise in inflation relative to other economies is likely to improve TOT as exports are more expensive
-changes to exchange rates - rise in the exchange rate (appreciation) leads to a fall in price of imports, increasing TOT
-relative productivity rates - lower productivity in an economy reduces demand for exports, leading to a fall in price and a decrease in the TOT.

Question 4

What are the impacts of a change in a country’s terms of trade?

Answer 4

-Increased TOT leads to increased living standards, more export revenue received, positive net trade, increase in AD. This leads to a rise in real GDP and GPL, increased living standards.
-Increased TOT could also reduce competitiveness of exports as they become more expensive, negative net trade, current account deficit, reduced price competitiveness of g/s
-Increased TOT may cause unemployment within the domestic economy as there is less foreign demand for exports due to higher prices, labour = derived demand, falls, reducing incomes and causing poverty.

Question 5

What does an increased TOT mean?

Answer 5

Increased TOT number means an improvement in the terms of trade as either export prices have risen or imports prices fell.

Question 6

What does a decreased TOT mean?

Answer 6

Decreased TOT number means a deterioration in the terms of trade as exports prices may have fallen or import prices risen.