Terms of trade

Question 1

What are terms of trade? How to calculate?

Answer 1

The value of a country’s average export prices relative to their average import prices

Index of X prices / Index of M prices x100

Question 2

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

Answer 2

• Improvement - increase living standards
• Depends on factors causing the change, if a country’s goods are less competitive it could result in a deterioration in the balance of trade

Question 3

What are the long run factors influencing a country’s terms of trade?

Answer 3

• Improved relative productivity rate (more X produced so price decreases, TOT worsens)
• Increasing world incomes (demand increases so price increases, TOT improves)

Question 4

What are the short run factors influencing a country’s terms of trade?

Answer 4

• Increased exchange rate (SPICED so TOT improves)
• High relative inflation rate (TOT worsens)
• Increase in global demand (TOT improves)
• Increase in global supply (TOT worsens)