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Chapter 17: International Trade
Purpose of international trade is to benefit
trading partners
Imports = goods bought from other countries
for domestic use
•Manufactured goods, transportation
equipment and oil = 2/3rds of the total
value of imports into the US
•Imports = Roughly 17% of U.S. GDP
Exports = goods sold to other countries
•Ideally a country would like to export more than it
•Since the mid-1970s the U.S. has had a negative
balance of trade = trade deficit … the value of goods
coming in is greater than those going out
Opportunity cost = what is given up in
order to produce a certain product
Absolute advantage = ability of one country, using
the same amount of resources as another country, to
produce a particular product at less cost
Comparative advantage = ability of a country to
produce a product at a lower opportunity cost than
another country
*According to the law of comparative advantage, a
nation is better off when it produces goods and
services for which it has a comparative advantage.
Specialization = concept that it is profitable for a
nation to produce and export a limited assortment
of goods for which it is particularly suited
•Helps a country determine which goods to import
and which to export
Which country has an absolute advantage in Corn?
Which country has a comparative advantage in Corn?
Which country has an absolute advantage in Shoes?
Which country has a comparative advantage in Shoes?
The Production Possibility Curve can be used to illustrate the
principles of absolute and comparative advantage.
And you thought we were finished with PPF curves!!
Country A has an absolute advantage
in the production of both maize and
At all points its production possibility
curve lies to the right of that of Country
Country B has an absolute
Due to abundance of raw materials
or more productively efficient
production techniques, Country A
is able to produce more wheat and
more maize than Country B.
Ch. 17.2
Three major barriers to world trade are
1. Tariffs
2. Quotas
3. Embargoes
The most commonly used barrier to Free Trade is the tariff (a tax
•Types of tariffs
1. Revenue – used to raise income without restricting
2. Protective – used to raise the cost of imported goods and
protect domestic products
Import quotas – a restriction imposed on the value of
or the number of units of a particular good that can be
brought into the country
Examples of U.S. quotas: sugar, shoes, shirts, and
Embargo – complete restrictions on the import or
export of a particular good
Often embargoes are used for political reasons
Other restrictions = rigorous health inspections and
difficult licensing requirements = Standards
Subsidies = direct financial aid (tax credits or
Deductions), to certain domestic industries. This lowers
Production costs, which allows domestic goods to
compete with lower-cost imported goods.
Since World War II countries have been relaxing trade
Protectionists are those who argue for trade restrictions
(against free trade)
1. Job security threatened
2. Protection of the nation’s economic security is needed
3. Protection of infant industries
4. Limiting imports keeps American money in the US
5. Balance of Payments = the difference between the money a
country pays out to, and receives from, other nations when it
engages in international trade.
Arguments for FREE trade
1. Competition = better products
2. Trade restrictions damage export industries and put
Americans out of work
3. Specialization and comparative advantage lowers
prices (more goods = lower prices)
4. Restrictive legislation in the past nearly halted
international trade
for or against Free Trade?
Trade Agreements
1. General Agreement on Tariffs and Trade (GATT); est.
after WW II (1947), countries work together to mutually
lower tariffs
2. World Trade Organization (WTO); 130 nations, 1993 an
attempt at a 40% reduction in tariffs
3. North American Free Trade Agreement (NAFTA);
regional trade agreement between U.S., Canada, and
Mexico 1993
4. European Union (EU);
regional trade agreement
between 28 member nations,
including France, Germany,
Britain, Denmark, Italy, Spain,
Greece, Portugal, Benelux
countries, Finland, Sweden,
Austria and Ireland
•1993—eliminated most of its
restrictions on trade among
member nations and labor and
capital should be freely mobile
within the 28 countries. Shared
currency = Euro
5. Association for Southeast Asian Nations (ASEAN); regional
trade agreement between ten member nations (1967), including
 Indonesia, Malaysia, Singapore, the Philippines, and Thailand
 Work to promote regional peace and stability, accelerate economic
growth, and liberalize trade policies
6. Organization of Petroleum exporting Countries
(OPEC): organized in 1960 as an international cartel whose
members have been able to take advantage of a natural monopoly
and push up oil prices
Members are: Algeria, Indonesia, Iran, Iraq, Kuwait, Libya,
Nigeria, Qatar, Saudi Arabia, United Arab Emirates, and
7. The United States-Dominican Republic-Central America
Free Trade Agreement (CAFTA)—2004, CAFTA has eliminated all
tariffs on 80 percent of U.S. manufactured goods, with the remainder
phased out over a few years.
Importantly, the
agreement is not limited to
manufactured goods, but
covers virtually every type
of trade and commercial
exchange between these
countries and the United
Trade Deficits
I. Financing International Trade
A. Foreign exchange is the buying and selling of the currencies
of different nations
B. The foreign exchange rate is the price of one country’s
currency in terms of another country’s currency
C. Exchange rates are fixed or flexible
o Balance of payments deficit = supply of a country’s
currency exceed the demand for the currency at the
current exchange rate (Balance of payments surplus
is the opposite)
D. Flexible exchange rates, commonly used today, establish
the value of each currency through the forces of supply
and demand
II. Strong and Weak Currencies
A. An increase in the value of currency is called
A strong dollar can lead to a trade deficit because
American goods become too expensive in foreign
countries, and imports become relatively
inexpensive in the US, which would likely cause
Americans to purchase foreign goods
Strong dollar = American exports decline
B. A decrease in the value of a currency is called depreciation
1. When a nation’s currency depreciates, its products
become cheaper to other nations… foreign consumers
are better able to afford US goods
2. Weak dollar = American exports rise
III. Trade Deficits and Surpluses
A. Nations seek to maintain a balance of trade;
balanced trade means a country can protect its
currency on the international market
When a country imports more than exports, the
value of its currency falls
B. Persistent trade imbalance tends to reduce the
value of a country’s currency on foreign exchange
A strong dollar can lead to a trade deficit because
American goods become too expensive, and imports
become relatively inexpensive
A weaker dollar buys fewer foreign goods
C. Trade imbalances can be corrected by limiting
or increasing the number and/or quality of exports
(could lead to retaliation)
Exchange Rates
Exchange rates are very important to people involved in
international trade, tourism, and investment.
That is why changes in the rates are posted daily and experts
are hired to predict possible changes in the future.
Exchange rate = the relative values of different
currencies, i.e. the price of one nation’s currency in
terms of another nation’s currency
A. The exchange rate between two currencies depends
on how much demand there is for each country’s
exports at any given time.
When there is more demand for a nation’s products,
people need more of that nation’s currency to buy the
Canadian dollar
Value of $1 U.S. (in Value of foreign
foreign currency) currency (in U.S.
Japanese yen
Mexican peso
In 2007, $1 was worth about 113.94 Yen (¥), while 1 yen was worth
about .008 of $1, or less than a penny. So if the price of an
imported Japanese computer is $1,000, the American company
must exchange $1,000 for about 113,940 Yen to pay for it:
$1 U.S. = 113.94 Yen
$1,000 U.S. = 113.94 Yen X 1,000 = ¥113,940