LS6- Terms of Trade

Question 1

Terms of Trade

Answer 1

• the ratio of a country’s average price of exports to the country’s average price of imports

Question 2

TOT formula

Answer 2

(index of average export prices) / (index of average import prices) x100

Question 3

Factors influencing a country’s terms of trade

Answer 3

• relative inflation rates
• demand/supply of exports/imports
• changes in exchange rates

Question 4

Deterioration in TOT

Answer 4

• terms of trade gets smaller

Question 5

Improvement in TOT

Answer 5

• terms of trade gets larger

Question 6

Prebisch-Singer hypothesis

Answer 6

• refers to the claim that the price of primary commodities decline relative to those of manufacturers

Question 7

Change in incomes effect on TOT

Answer 7

• for developing econs, a change in incomes can lead to a long term deterioration in TOT
• developed countries see an improvement

Question 8

Improvement in productivity/technology effect on TOT

Answer 8

• expect lower cost of production -> lower export prices -> deterioration in TOT

Question 9

Evaluate the idea that fall in demand for exports allows for a country to buy more imports with reference to TOT

Answer 9

• fall in demand -> rise in price -> improvement in TOT -> theory suggests quantity level of exports stay same therefore a country can buy more imports than before
• theory only holds if improvement in TOT translates into higher export revenue - only then will their purchasing power increase
• however, if TOT rises due to e.g. increase in relative inflation would mean export revenues fall if demand is elastic