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### 190 Cards in this Set

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 Relationship between Growth and Trade Data shows that countries that have higher growth tends to be more open to trade. What do we mean by "growth" graphically? The PPF grows outward/shifts to the right Two kinds of causes of growth 1. Factors of Production 2. Technology Increase in Factors of Production (examples) 1. Growth in labor force 2. accumulation of physical capital 3. accumulation of human capital (education) 4. accumulation/new find of mineral resources How do changes in factor supplies affect quantities of production? Rybczynski Theorem Rybczynski Theorem: Suppose economy's supply of capital increases (holding labor constant) then, holding relative prices constant, economy will produce more of a capital intensive good and less of the labor intensive good. {and vice versa K<-->L) Rybczynski Theorem: results graphically -The PPF shifts out but it is BIASED towards the capital-intensive good (if capital supply increased) -So the input that grows at a faster rate makes the PPF shift in a biased direction toward the good that is intensive in the faster growing input. What are the two endpoints of the new PPF of the Rybcynski Theorem represent? -given that the factor that good x is intensive in increased, -The point at which we would only produce good y (increased very little) and if we were only producing good x (increased a lot) graphically, what does it mean to "hold relative prices constant"? stick to the same price line; i.e. slope does not change How does Growth affect Trade? ex. China and U.S. -if China's K increased, then the incentive to trade is reduced since the degree of comparative advantage is reduced; reduces import demand for capital intensive goods from U.S. which leads to a reduced production in labor intensive goods, therefore exports to U.S. is also reduced Effects of changes in world demand and supply of K-intensive vs. L-intensive goods... work to reduce the international price of K-intensive goods relative to L-intensive goods "terms of trade" imports relative to exports "improvement" and "deterioration" Immiserizing Growth case in which extremely biased growth in direction of export good causes such a big deterioration in TOT that welfare is LOWER after growth compared to pre-growth (graphically, relative price reduced and lower IC) How does trade affect growth? (recently opened topic) Trade libralization: -made firms more productive/efficient -but also caused less efficient firms to drop out of the market/exit the market Possible reasons for results of trade liberalization 1. transfer of technology 2. reverse engineering 3. better allocation of resources (i.e. higher skilled workers not working in factories) Rybczynski Theorem (GRAPH) PPF shifts out but it is BIASED towards the capital-intensive good Graphs of Importing Country: Include Import Demand Curve, Free Trade, label Imports Import demand curve initial price set at the equilibrium price w/o trade Small Importing Country: Draw Import Demand Curve and Export Supply curve -export supply curve is flat because they are "price-takers" Import quotas a legal limitation on the quantity (value) of a good that can be imported per period of time quota distorted price the price at which the amount of imports demanded equals what the law says we can import "quota rent" monopoly profit/not a normal rate of return on investment Ways to allocate licenses 1. Randomly give away 2. Auction off licenses (then govt gets "c") 3. Have to PROVE worthy of license (not completely all shown on graph) amount of import quota has to equal the total # of licenses Two major types of Non-Tariff Barriers 1. Import Quotas 2. "Voluntary" Export Restraints (VERs) "Voluntary" Export Restraints (VERs) "voluntarily" limit how much they choose to export What does VER do for competition it is almost as if the competition is taken away since guaranteed market through export restrains Who are the losers and winners of VERs? Losers: US Consumers Winners: US and Japanese Producers "Quality Upgrading" -unintended effect of VER -since limitation on quantity exported, only export highest mark-up car (with biggest profit) Unintended effects of VERs 1. Quality Upgrading 2. RENAMING of products (Playing games with categorizing things to avoid restrictions: better for U.S. consumers, worse for U.S. automakers) Other NTBs (Non-Tariff Barriers) 1. Healthy and Safety Regulations (ex. EU, US and beef; prescription drugs) 2. Red Tape (Regulations that are confusing and complicated) 3. Gov't procurement practices Red Tape -Regulations that are confusing and complicated 1. raise cost of business transactions 2. make transactions uncertain example: France and VCRs, one port VER deadweight lost = (1/2)*(Q imports reduced)*(increased price) ad valorem fixed percentage tariff rate deadweight loss for ad valorem tariff (1/2)*(price increase due to the tariff)*(Reduction in Q of imports) note: price increase due to the tariff = t*Pft DWL as share of GDP = (1/2)*(t)*(Reduction in Q of imports)*(Value of imports/GDP) so how big is the DWL as share of GDP in the real world? probably less than 1% of GDP...relatively small "Most Favored Nation" clause in WTO agreement no country can discriminate against other countries of the WTO Complete the diagram to show an Import Quota At Pqd, amount that we want to import is exactly the amount we are legally allowed to do Complete to show the DWL due to tariff; how do we calculate the DWL A = (1/2)*(Q imports reduced)*(Increased price) Draw a diagram to show the effects of an import quota on an import country's market like the U.S. Pqd = quota distorted price Q bar = amount of import quota What are a, b, c, d for Import Quota? a = increase in producer surplus a + b + c + d = loss of consumer surplus c = the value of the right to import the product; Quota Rent What is the relationship between "c" and Q bar? total # licenses have to add up to Q bar; "c" is representative of the licenses What is the net effect of welfare for Import Quota? If all licenseholders are U.S., then the net effect of welfare is loss of b+d What are the losses/gains if this is for Volutnary Export Restraint? area c is earned by exporters loss to consumers: a + b + c + d losers: U.S. consumers Winners: U.S. and Japanese Producers What are the implications on price with a flat Export Supply Curve? If the price is less than Pft then export everything to us If price is greater than Pft then no exports to us PRICE TAKERS specific tariff tax levied on good PER UNIT of import ad valorem % value tariff (ex. sales tax) Pft = free trade price Ptd = tariff distorted price = Pft + t Ptd - Pft = tariff How does tariff affect economic welfare? (Think only about importing country) 1. Higher prices --> consumers worse off 2. Higher price --> benefit Domestic Producers 3. Govt collects revenue (better off) Consumer surplus is everything under Demand Curve but above P Producer Surplus is above the Supply curve but above the price line To a small importing country, government revenue is a GOOD thing Government Revenue = tariff * Quantity of Imports b = production effect/distortion small since the country has a comparative DISadvantage, inefficient use of resources d = consumption effect/distortion represents loss to consumers who don't buy as much due to increase in price off-setting gain where there is a loss AND a gain; i.e. comes out of consumers' pockets and into producers'/govts' pockets For a small importing country, what is the effect of tariff on welfare? introducing a tariff ALWAYS reduces welfare (assume everthing else is going OK in economy) Difference between small importing country and large importing country? upward sloping export supply curve in world market Large importing country Ptd = t + Pexport (tariff + the export country price) How do we begin to look at tariff effects on large importing country? we have to start on the right side with the world market Effects of tariff on Large Importing country 1. higher prices --> loss to CS 2. higher prices --> gain to domestic PS 3. tax revenue --> (tariff*Q import) SAME AS SMALL IMPORTING COUNTRY TOT for large importing country and tariff If the Price of import decreases, then TOT better Show change in price in both a small importing country and world market for a tariff Ptd = Pft + tariff tariff = Ptd - Pft Describe the effects of tariff on consumer surplus of small importing country loss of CS = A + B A = loss to all consumers who were already in the market B = loss to consumers who are unable to purchase because of expensive prices Show the tariff effects on PS of small importing country C + D = gain in producer surplus C = gain to producers who had already been in market D = new producers entering market or existing producers producing more Show government revenue of tariff on small importing country Government Revenue = tariff*Q of imports Show ALL effects of tariff on small importing country -- PS, CS, revenue A+B+C+D= loss of CS A=PS Gain C=govt revenue (gain) B+D = representation of loss to economy; net effect of tariff B = production effect/distortion D= consumption effect/distortion Show welfare, restricted imports and free trade imports World DWL = (1/2)*(reduction in imports)*(tariff rate) Draw the graphs to show a large importing country, world market, and effects of tariff Ptd = t + Pexport Pexport = the export country price Price of free trade determined by WORLD MARKET What are the gains/losses of the tariff? Consumer loses: A+B+C+D Producer gains: A Govt gains: C+E After offsets, left w/ B, D, E What are the implications of the region "E" and welfare? "E" = measurement of the value of TOT improvement If E > (B+D) then welfare increases If E < (B+D) then welfare decreases Show graphically the effects of tariffs on the WORLD MARKET when talking about large importing country Note that the tariff is equal to Ptd-Pexport What does each part represent? C = part of tariff how much we import E = TOT loss from exporters view; TOT gain to importing country What is the reason for trade? Comparative advantage What are two implications of comparative advantage? 1. trade is motivated by differences amongst countries 2. trade involves exports of some goods in return for imports of totally different goods. What is Interindustry trade? trade that involves exports of some goods in return for imports of totally different good (i.e. import corn, export cars. No mistake that the goods are different) Import demand curve is derived from underlying ordinary demand curves Autarky situation of self-sufficiency; no trade Producer Surplus? return of the specialized input; (not)profit Horizontal Export Supply curve represents Infinitely elastic S curve Draw the three graphs of the US, World and Indonesian T-shirt market with free trade -the US equilibrium price sets the price for the Import Demand curve in the world -Pft is below autarky for the US but above autarky for Indonesia (the export country) Show the quantity of imports at free trade Note that Qft = imports for US and exports for Indonesia ALL EQUAL (graph) show total CS with just a demand curve What is the rltnsp between price and CS? If Price goes down, CS goes up If Price goes up, CS goes down What does the height of the demand curve represent? Height of Demand Curve represents marginal consumer's maximum willingness to pay (Graph) Show CS with demand curve only when U.S. opens up to trade Explain differentiation within CS Whole shaded in area is increase in CS Square = Gain to consumers already in the market Triangle = gain to expanded market/market entrants (Graph) Show producer surplus with Supply curve only What is the rltnsp between price and PS? Supply curve is the lowest acceptable price to bring quantity into the market When Price increases, PS increases When Price decreases, PS decreases (Graph) Show change in producer surplus when open up to trade Differentiation within PS Total shaded area equals loss of producer surplus Square = loss to producers who remain in market triangle = loss to producers forced to exit market (Graph) Show change in CS and PS together for importing country and net gain from trade Purple triangle area = net gain from trade (to the US) (Graph) Show change in CS and PS for exporting country like Indonesia when open to free trade Note that consumers lose, Producers gain Pft ABOVE autarky What is General Equlibrium Analysis? Looks for the equilibrium between all markets simultaneously (recognize links between markets) What is Partial Equilibrium analysis? ex. look at one market --> i.e. t-shirts 2 Assumptions for General Equilibrium Analysis 1. Assume 2 goods (Bread, Cheese) 2. 1 input (labor) Ricardian model of trade (assumptions:) 1. 2 goods 2. 1 input/factor of production (Others) 3. Perfect Competition 4. labor mobility between sectors 5. Assume 2 countries; labor cannot move between countries this stands for = amount of labor used to produce one unit of bread How do you find the total labor used to produce good B? (equation) (Ricardian Model) Alb * Qb = total labor used to produce B (Amt labor used to produce 1 unit * # units) How do you find the supply of labor? (Ricardian Model) Alb*Qlb + Alc*Qc = L (find the sum of total labor used to produce both goods) Draw a Production Possibilities Frontier for a Ricardian Model Economy Note that (L/alc) derived from original formula for total labor used to produce good c What does the Ricardian Model say about the wage rate? It's the same in both sectors Why is the wage rate the same for both sectors? (Ricardian) since labor is mobile between sectors there is only one wage rate Price = cost per unit Pb derived from (in terms of wage rate, etc) (Ricardian) Pb = Alb * w (amt labor required to produce one unit * wage rate) Pb/Pc = (Ricardian) Alb/Alc relative price = (in rltnsp to PPF) absolute value of the slope of PPF (Ricardian Model) Show the cycle between relative prices and Home, Foreign that lead to the situation where relative prices are the same for both countries Note direction of arrows: Home has comparative advantage in bread, which is why bread is being exported from home to foreign and vice versa (Graph) Show changes when opened up to trade if the new equilibrium of relative price of bread to cheese is 3 RICARDIAN MODEL Note that we are looking at CONSUMPTION POSSIBILITIES WITH TRADE (not production) What will Home end up selling now? HOME will sell ONLY bread because they will receive 3 cheese for every 1 Bread end up SPECIALIZING in bread RICARDIAN model of comp adv: How do we justify that everyone benefits from trade? since everyone is alike/the same: when one worker benefits, everyone benefits RICARDIAN: what role does comp. adv. have in trade? it determines WHAT we trade How is "absolute advantage" reflected? reflected in the WAGE RATE: HOME workers have higher wages (labor is more productive) --> higher wage but also higher productivity What are the different names of the H-O model? Heckscher-Ohlin Model (H-O) Heckscher-Ohlin-Samuelson (H-O-S) 2x2x2 model Factor Endowment Model Factor Proportions Model Assumptions of H-O model 1. 2 goods (x, y) 2. 2 Factors of production (K&L) 3. 2 countries (Home, Foreign) 4. Perfect Competition 5. Factors can move btwn sectors 6. Both countries have same technology **7. Assume that preferences are the same in all countries Weaknesses of Ricardian model of comparative advantage 1. always lead to specialization 2. leads to over-specialization: (1 country, 1 good) 3. Everyone benefits from trade (there is no harm) 4. everyone is alike Differences between assumptions of Ricardian and H-O model 1. 2 factors of production (in Ricardian only 1 --> Labor) 2. H-O: Both countries have same technology; Ricardian: diff countries have diff technologies as shown by diff. labor productivity What does the PPF for the HO model look like? "concave toward the origin" bends toward origin Increasing opportunity cost of producing good x (the more x we produce, the more costly the opp cost is) Properties of concaved PPF in rltnsp with opp. cost inreasing marginal cost/opportunity cost of producing good goes both ways (x, y) Law of Diminishing Marginal Returns Each extra unit of variable input adds less to output than the unit before it. where do relatively capital-intensive/labor-intensive sectors come from? using inputs (K, L) in different proportions Community Indifference Curve - all combinations of x & y that leave economy at same level of satisfaction/welfare Properties of Indifference Curves downward sloping convex towards origin do not intersect State the Heckscher-Ohlin Theorem: The capital abundant countries will have a comparative advantage in the capital intensive good. (The Labor abundant country has a comparative advantage in Labor Intensive good) Factor-Price Equalization Theorem free trade leads to the same real wage rate for labor (of a given type or skill) in different countries. Separately, it also says that free trade leads to the same real rental rate (for a given type of land) in different countries Stolper-Samuelson Theorem an increase in the price of the capital-intensive good relative to the price of the labor-intensive good will cause real income of capital owners to increase and real wage to fall. (LR) Does the Stolper-Samuelson Theorem address short run or long run changes? Long-run result: In the LR, the affect of trade on real income depends on WHO you are, not WHERE you are (also doesn't matter where you spend your income) What are the 4 theorems we learned? 1. Ricardian Model of Comparative Advantage 2. Heckscher-Ohlin Theorem 3. Factor-Price Equalization Theorem 4. Stolper-Samuelson Theorem How does real income increase? 1. prices stay same, wage goes up 2. wage stays same, price goes down Is the H-O Theorem talking about LR or SR? H-O theorem predicts LONG RUN results since Capital and Labor are able to move between sectors In the H-O Theorem, what kinds of people are there? Who are they? 2 kinds of people: 1. workers - earn wages 2. capital-owners/land-owners - earn rental income Short run model: Specific Factors Model In the short run factors are mainly tied to their initial industries, because there is limited mobility between industry. decreasing-price industry initially lose earnings (both K and L) and rising-price industry initially tend to gain earnings In the Short Run, what does the impact of trade on real income depend on? WHERE you work --> graphically, SR is where we didn't move on PPF (so if you work in a sector subject to income-competition, then the income-competition will drive down your real income) In the Short Run, what is the impact of trade on factors employed in import competing sectors? Factors employed in import competing sectors will be HARMED by an expansion of trade [i.e. lower real income] In the Short Run, what is the impact of trade on factors employed in export-oriented sectors they BENEFIT from an expansion of trade [trade increases real income] what does the affect of trade on real income depend on in the long run? In the LR, the affect of trade on real income depends on WHO you are, not WHERE you are Factor-Price Equalization Theorem (in class) 2 countries freely trade, no barriars/no costs; THEN the wage rate for labor will be the same for all countries and the return to capital will be the same for all countries What is intraindustry trade? imports and exports of the same products comparative advantage cannot explain intraindustry trade What is the Grubel-Lloyd index of intraindustry trade? this is for one industry. for the whole economy (group of industry) just sum up Looking at 1 industry, what would a GLI of 0 mean? It means that there is no intraindustry trade; only interindustry trade Looking at 1 industry, what would a GLI of 1 mean? This means all trade in this industry is characterized as intraindustry trade What is economies of scale? more you produce(more output) then the average cost to produce decreases What does Economies of Scale and Product Differentation lead to? 1. limited # locations of firms 2. diff. preferences mean that both import and export cars to fit consumers' prefs even though cost to produce are similar Model of Monopolistic Competition 1. easy entry and exit from industry 2. because product is differentiated, each FIRM faces downward-sloping demand curve (they are not a price-taker) In the Model of Monopolistic Competition, how sensitive is demand to price? More variety of goods, the less ability to raise price w/o losing lots of customers (assume that more varieties lead to greater competition What happens to the avg. cost to produce as more varieties are available? 1. assume total market size is fixed 2. If there are n firms, each sells to 1/n of market (all firms same size) More you sell, less AC; lsess you sell, higher AC AC INCREASES AS # FIRMS IN MARKET INCREASE CC curve = Average cost to produce as a function of the number of firms in the market PP curve = profit-maximizing price curve What happens when you introduce TRADE into the Model of Monopolistic Competition? Market size increases by allowing trade. CC curve shifts to the right; AC decreases Effects of increase in market size (total demand) 1. AC falls for firms 2. # firms increase 3. P, AC decrease Who benefits from trade in monopolistic competition? Consumers: 1.) more choice 2.) lower price Producers: Economic profits still 0, but in equilibrium each firm gets bigger and lower AC Model of Global Oligopoly Small # firms, economic profit is possible in equilibrium location matters for welfare (i.e. Boeing wants all econ. profits because we are Americans) Economies of Scale EXTERNAL to the Firm doesn't matter how big the firm is, it matters how big the industry is (i.e. computer chips, film-making) *combine with proximity --> agglomeration economies again, the location is random How can immiserizing growth occur? Immiserizing growth can occur if growth in the country leads the country to want to trade more, and the country's terms of trade deteriorate by a large amount. If a country's trade has almost no impact on world prices, then its growth will have almost no impact on its terms of trade, and immiserizing growth is very unlikely. socially optimal tariff tariff rate at which social welfare is maximized; above that under both autarky and free trade Prohibitive tariff tariff rate at which price is so high that it prohibits/eliminates trade: welfare is same as in autarky Problems with the argument FOR a tariff 1. we may not be a large country 2. Other countries raise tariff also, (tariff wars) volume of trade decreases Marginal External Benefit (MEB) the additional benefits bestowed upon the economy for producing one extra good infant industry argument we don't have the resources to compete in larger market 3 types of "unfair" trade practices 1. unfair trade practices implemented by firms themselves 2. implemented by governments and applied to perfectly competitive industries 3. implemented by govts and applied to oligopoly Define "Dumping" a firm that sells its product in a foreign market at an "unfairly low " price (lower than firm's domestic price, lower than AC) Define an "unfairly low" price 1. a price lower than the price that the firm charges its own country's consumers ("international price discrimination") 2. when a firm sells its product in a foreign market at a price lower than its "full" average cost of production 2 main motivations for dumping 1. Predatory Dumping 2. Persistent Dumping Predatory Dumping a firm will take artificially low price in order to drive competitors out of the market Persistent Dumping international price discrimination it is the profit maximizing thing to do demand elasticity different so charge diff. prices --> that's why its profit maximizing Point at which firms maximize profit: when Mariginal Revenue = Marginal Cost Marginal Revenue is always with a slope twice as steep as demand curve what does a flat MC curve mean? that the extra cost of producing is ALWAYS the same If MC > MR then sell less if MC < MR then sell more Two-Part Test against dumping 1. prove that dumping actually occuring 2. show that somehow hurting your industry U.S. Commerce Dept's role in two-part test Finding of Fact (almost always answers "yes" dumping occuring) U.S. International Trade Commission (USITC) role in two-part test look to see if domestic industry is being injured by dumping (losing profit, losing employment, losing market share) What are the two government depts involved in the two-part test for dumping? 1. U.S. Commerce Dept (fact) 2. U.S. International Trade Commission (USITC) Who authorizes the "Anti-Dumping Duty" US Commerce Department Effects of Anti-Dumping Duty (as long as not predatory behavior) reduces world volume of trade hurts U.S. consumers What is an export subsidy? given by govt to firms payment for the actual activity of selling your product to another country What is consumption distortion? higher prices artificially reduce demand what is production distortion? higher prices artificially stimulates production more than what we have a comparative advantage in Net effect of export subsidy on small country (perf. comp) welfare loss Net effect of export subsidy for large country world price driven down due to increased exports deterioration in TOT for exporter since price decreases DETERIORATION in export country's TOT; and net loss is even BIGGER than it would be for a small country Most Favored National Principle (MFN) Principle of non-discrimination (countries are prohibited against discriminating each other if both members of GATT/WTO) 2 exceptions to MFN 1. industrialized developed countries are allowed to give preferential/favorable treatment to developing countries ("Generalized System of Preferences" GSP) 2. Preferential Trading Arrangements (PTA) --. Trading blocs; Free trade areas and customs Unions "Generalized System of Preferences" (GSP) industrialized developed countries are allowed to give preferential/favorable treatment to developing countries 2 types of Preferential Trading Arrangements (PTA) 1. free trade areas (FTA) 2. customs unions (CUs) Difference between FTA and CU FTA: Each member has independent policy towards non-members (ex. NAFTA) CU: all members share same policy toward non-members (EU) Common Market CU + Free mobility of productive factors ex. EU Full economic union Common Market + single monetary/fiscal policy, social welfare programs ex. U.S. "Trade Deflection" Process of trying to circumvent high tariff by going through a low-tariff FTA country Trade Creation creation of PTA stimulates more trade from member countries Trade Diversion creation of PTA changes trade pattern...substituting member country imports for non-member country Conditions for when trade creation is larger than trade diversion small comp. adv between suppliers large tariff