4.3. International Trade & Gains from Trade Flashcards
Trade and relative prices
The relative price of cloth prior to trade is determined by the intersection of the economy’s relative supply of cloth and its relative demand.
Free trade relative price of cloth is determined by the intersection of the world relative supply of cloth and relative demand.
Imagine that world relative price of cloth is higher than the domestic relative price of cloth.
This causes the economy to produce more cloth (as they get more money from it).
At the same time, consumers respond to the high relative pric eof cloth by demanding more food (as it’s cheaper).
This economy exports cloth and imports food.
Gains from trade
If a country cannot trade, the output of a good must equal its consumption.
Therefore, if Dc and Df are consumption of cloth and food, Dc = Qc, Df = Qf.
International trade makes it possible for the consumption mix to differ from what is domestically produced. But a country cannot spend more than it earns.
Therefore, PcDc + PfDf = PcQc + PfQf. The amount of money spent on consumption cannot exceed the amount of money generated from the production and sale of c and f.
The whole economy gains from trade
The country imports an amount of food equal to the relative price of cloth times the amount of cloth exported.
Simply, a country imports food worth the value of exported cloth (i.e. a country cannot spend more than it earns).
Df-Qf = Pc/Pf * Qc-Dc:
- Where Df - Qf is the economy’s food imports.
- Where Pc/Pf * Qc - Dc is the economy’s cloth exports.
This forms the budget constraint. It is equal to minus the relative price of cloth.
As the economy consumes one less unit of cloth, they save Pc. This is enough money to consume Pc/Pf units of food.
The budget constraint is tangent to the PPF at the production point. Therefore the economy can always afford to consume what it produces.
Politics of trade (unemployment)
The labour force in the import sector can be harmed if they struggle to transition to the export sector.
Their skills may not match or it may just take time to find an appropriate job.
Unemployment then rises.
But, only 2% of involuntary displacement can be blamed on international trade.
Furthermore, the US Trade Adjustment Assistance programme provides unemployment coverage and tuition reimbursement for workers displaced by plant closures who need to retrain.
Politics of trade (expanding choices / redistribution)
Income from trade can be redistributed so that everyone gains from trade.
Those who gain from trade can compensate those who lose and still be better off themselves.
Redistribution is hard to implement, so often there are people who lose out.
Optimal trade policies must weigh up different groups’ interests. Some groups in society, who are already relatively poor, may need special treatment.
Typically, those who are organised and concentrated lose from trade.
Do the Chinese impact manufacturing employment in the US?
While jobs may decline in the import sector, workers take time to find new jobs in the export sector.
In the US, manufacturing employment has been decreasing over the last 50 years. But output has been the same. Therefore it is actually to do with increased efficiency.
We can see that China appears to have had little effect on manufacturing employment, as predictions had always estimated employment levels would continue to decrease.
Donald Trump
The Trump Administration implemented tariffs on goods, such as washing machines, steel, aluminium and other manufactured goods imported from China.
But, many of the protected sectors contained a high proportion of intermediate goods imported by US producers, which harmed jobs downstream.
The retaliation by China and other trading partners then had a negative impact on employment by US exporters.
International trade mobility
Whenever international trade is possible, workers will move from the low-wage to high-wage country.
Trade of labour occurs whenever workers move countries in search of higher wages.
In the absence of migration, wage differences across countries can be caused by technological differences or differences in availability of land relative to labour.
International trade mobility example
Initially, OL1 workers are employed in Home and L1O* workers are employed in Foreign.
Given employment levels, technology and land differences, real wages are higher in Foreign.
Workers will move from Home to Foreign:
- Reduces the size of the Home labour force and raises the real wage (as MPL rises).
- Increases the size of the Foreign labour force and lowers the real wage (as MPL falls).
- Given no restrictions to immigration, this process occurs until both real wages are equal.
The final distribution is OL2 and L2O*.
Immigration
In the early 1900s, immigration into the US increased. By 1920s, tighter restrictions had been imposed and migrants became a minor force in the 1960s.
A new wave of immigration began around 1970.
As of 2014, 16.7% of the US labour force is foreign-born.
The largest increase in immigration occured among workers with lowest education levels, making less educated workers more abundant.
This may have contributed to a reduction in wages for native born workers with low education levels and rising wages for more educated workers.
This widened inequality between less educated and highly educated workers.
