Theme 4 - Trade and protectionism Flashcards
what is absolute advantage
occurs when a country can produce a product using fewer factors of production than another nation
what does comparative advantage state
that a country should specialise in the goods or services it could produce at the lowest opportunity cost, and then trade it with another country
for each country to be able to exploit their comparative advantage. what needs to happen
- a rate of exchange has to be suitable, and that rate of exchange must lie between the opportunity cost ratio of production for the two given countries
what determines whether or not a country has comparative advantage
the quantity and quality of factors in the nation, eg Ghana may be able to produce more cotton due to fertile soil
what is free trade
trade between countries with no barriers in the way
benefits of free trade
Increased efficiency and resource allocation:
- Countries specialize in goods where they have a comparative advantage, focusing on what they produce most efficiently.
- This leads to better global resource allocation, increasing overall productivity and reducing waste.
Access to goods not produced domestically:
- Countries can import goods that are difficult or impossible to produce locally.
- Consumers and businesses have access to a wider range of products, improving living standards and production capacity.
Lower prices and competition:
- Free trade fosters competition, encouraging firms to lower prices to remain competitive and adopt better technologies.
- Consumers benefit from lower prices, while economies of scale and technological transfers boost industry efficiency.
Greater consumer choice:
- Open markets introduce a variety of products from different countries.
- Consumers enjoy a broader selection of goods, improving quality of life and driving firms to innovate to meet diverse demands.
Economic growth:
- Increased trade boosts exports and foreign investment, which stimulates economic activity.
- This leads to higher GDP growth, job creation, and improved living standards in the long run.
impact on consumer and producer surplus when free trade occurs
lower prices, greater choice, consumer surplus increases
- Free trade introduces lower-priced imports.
- Consumers can buy goods at a lower price due to increased competition and access to cheaper foreign products.
- The reduction in prices allows consumers to save money, increasing their surplus.
producer surplus decreases - Domestic firms face lower-priced imports, forcing them to lower their prices to remain competitive.This reduces the revenue per unit for domestic producers, decreasing their producer surplus.
what is dumping
when a country sells a good below its cost of production
reasons for protectionism
Infant industries
- Small or new industries struggle to compete with established foreign firms that benefit from economies of scale.
- Protectionism allows these industries time to grow, eventually achieving economies of scale and becoming internationally competitive.
Protection against ‘dumping’
- Foreign firms may sell goods below cost to dominate the market, hurting domestic producers.
- Tariffs or quotas prevent this, allowing domestic firms to remain competitive and sustain production.
To protect domestic employment
- Cheap imports can outcompete domestic goods, leading to job losses in local industries.
- Limiting imports preserves domestic jobs, particularly in industries that are vulnerable to foreign competition.
To increase tax revenue (tariffs)
- Governments can impose tariffs on imports to generate revenue.
- This extra tax revenue can be used to fund public services or reduce deficits, benefiting the broader economy.
To protect against unfair low labour costs
- Countries, especially in Asia, may produce goods with significantly lower labor costs, making domestic products uncompetitive.
- Protectionism shields local industries from unfair competition, supporting higher-wage jobs domestically.
To improve the current account deficit
- High levels of imports can worsen a current account deficit, harming the overall economy.
- Restricting imports encourages consumers to buy domestically, reducing the deficit.
To reduce the risk of overspecialisation
- Relying too heavily on one sector or industry makes an economy vulnerable to shocks.
- Protectionism diversifies production by encouraging other industries, making the economy more resilient to external changes.
what is protectionism
policies that restrict international trade
evaluation points for comparative advantage
- Imperfect knowledge
- Producers and consumers may lack accurate information on global markets and costs.
- This could lead to inefficient resource allocation and the failure to fully exploit comparative advantages.
Transport costs are not considered
- High transportation costs can negate the cost advantage of producing in a lower-cost country.
- This could distort trade patterns, making it less efficient or less profitable to trade based on comparative advantage.
Economies of scale not included
- Larger firms may benefit from economies of scale, which can alter their cost structures and comparative advantage.
- This omission means the model may not reflect real-world cost advantages that come from scaling production.
Rates of inflation ignored
- Countries with high inflation may lose competitiveness over time, affecting their comparative advantage.
- Ignoring inflation could lead to trade imbalances and distort long-term trade benefits.
Import controls not included
- Tariffs, quotas, and other import controls may restrict the flow of goods, preventing countries from fully benefiting from comparative advantage.
- This leads to reduced efficiency and higher costs for consumers.
Non-price competitiveness is ignored
- Factors like quality, brand reputation, and customer service also play a role in trade.
- The model overlooks these aspects, focusing solely on price, which can give an incomplete picture of trade dynamics.
Exchange rate movements are ignored
- Fluctuations in exchange rates can alter the relative cost of imports and exports, affecting comparative advantage.
- This could lead to sudden shifts in trade patterns, making it difficult for countries to maintain a consistent advantage.
R&D investment ignored
- Investment in research and development can shift comparative advantage by improving productivity or creating new technologies.
- Countries that innovate may outperform those relying solely on natural comparative advantages, which the model doesn’t account for.
what is a tariff
a tax on imports
describe a tariff diagram
wordle supply shifts up
- the vertical distance between the two supply curves is the actual value of the tariff
- raises price in the market
- theres an extension of supply and a contraction in demand
- the top box represents the revenue generated from the tariff
- triangle on the right represents deadweight welfare loss of consumer surplus
- triangle on the left represents deadweight welfare loss of world effeciency
- resources are being provided to more inefficient producers when they shouldnt be
impacts of a tariff
price - Consumers face higher prices for both imported and domestic goods.
domestic demand - decreases
disadvantages of a tariff
- Tariffs distort the efficient allocation of resources.
- Resources are diverted towards less efficient domestic industries instead of being allocated based on comparative advantage.
- Global economic welfare decreases, and countries may lose out on potential gains from trade. - Tariffs raise prices and reduce consumer choice.
- Consumers face fewer options as imports become more expensive
- Consumer surplus decreases as they pay more and access fewer goods, - Tariffs protect inefficient domestic industries.
- Domestic producers, shielded from foreign competition, may lack the incentive to innovate or reduce costs.
- Domestic firms may operate inefficiently, increasing long-term production costs and reducing competitiveness. - Tariffs can provoke retaliation from other countries.
- Other nations may impose tariffs on exports from the tariff-imposing country in response.
- Retaliatory trade barriers harm global trade relations, potentially reducing exports and economic growth in both countries.
5.Tariffs disproportionately hurt lower-income households. They are regressive
- Since tariffs increase the prices of essential goods, lower-income consumers spend a larger portion of their income on these higher-priced goods.
- Tariffs act as a regressive tax, worsening inequality and reducing affordability for vulnerable groups.
- The effect of tariffs is influenced by how elastic supply and demand are.
- If domestic supply is highly elastic, producers can quickly increase output to meet demand, reducing inefficiency. If demand is inelastic, higher prices won’t drastically lower consumption.
- The negative effects of tariffs may be less severe if domestic markets can adjust efficiently to higher prices.
