Transcript International Economics

International Economics
International Trade Theory
A One-Factor Economy –
The Ricardian Model
February 15, 2007
What is International Economics About?
• Determining the gains from trade
– Mutual benefits exists even if two countries produce goods at
different efficiency level.
– While nations generally gain from international trade, it may hurt
particular groups within a nation (because it affects the income
distribution).
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Determining the pattern of trade
How much trade
Balance of payments
Exchange rate
– The key difference between international and other areas of
economics is that countries usually have their own currency
• (International policy coordination)
• (International capital market)
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International Theories of Trade
Countries engage in international trade for
two basic reasons:
1. They are different from each other – all
should specialise in products that they
can produce relatively well (at lower cost
or higher productivity)
2. Achieving economies of scale in
production – division of labour
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Why specialise?
Products
Quantities
Car (pc)
100 000
Medicine (box)
100 000 000
• Above are the two products that the model-economy of
Hungary can produce.
• The production of both products needs certain
resources (labour and capital – in a one factor
economy we only consider labour)
• The total amount of resources available in Hungary
enables the economy to either produce 100 000 cars,
or 100 000 000 boxes of medicine.
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What (and how much of it) shall
Hungary produce?
1. Autarky: domestic consumer preferences
2. Open economy: world preferences
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The world market presents unlimited demand
Because of the unlimited demand Hungary may fully
specialise in either of the two products
E.g.: Hungary will produce 100 000 000 boxes of
medicine, in this case no cars can be produced at
all
There is always a trade-off: Hungary can either
produce 100 000 cars, or 100 000 000 boxes of
medicine
Opportunity cost: the opportunity cost of medicine in
terms of cars is the number of cars (100 000) could
have been produced with the resources used to
produce medicine.
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Product
Car (pc)
Medicine
(box)
Measure
lh/pc
lh/box
1
1/1000
Unit labour
requirement
Unit labour requirement: how much it costs (in terms of labour hour)
to Hungary to produce one car, or a box of medicine
aLC: unit labour requirement of producing a car – It takes one hour to
produce a car in Hungary
aLM: unit labour requirement of producing a box of medicine – It takes
3,6 seconds to produce a box of medicine in Hungary
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Product
Car (pc)
Medicine (box)
Measure
pc/lh
box/lh
1
1 000
Unit labour
productivity
Unit labour productivity: How many cars or boxes of medicine can
Hungary produce in one labour hour
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What shall Hungary produce?
Car (pc)
Medicine
Hungary
1 lh/pc
1/1000
lh/box
Slovakia
½ lh/pc
1/500 lh/box
• Both countries should specialise in the product they produce more
efficiently as compared to the other country
• Hungary – compared to Slovakia – is more efficient in producing
medicine, but less efficient in the production of cars
• Absolute advantage: when one country can produce a unit of good
with less labour than the other, it has an absolute advantage in the
production of that product
• Both countries should specialise in the production of the good they
produce with an absolute advantage
• Hungary will produce medicine, and Slovakia cars
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What if Slovakia was more efficient in the
production of both cars, and medicine?
Car (pc)
Medicine
Hungary
1 lh/pc
1/1000 lh/box
Slovakia
½ lh/pc
1/4000 lh/box
• Slovakia has an absolute advantage in both products
• Let the unit labour requirements in case of Slovakia be a*LC and a*LM
respectively
• The opportunity cost of medicine in terms of cars in Hungary is:
aLM/aLC
• The opportunity cost of medicine in terms of cars in Slovakia is:
a*LM/a*LC
• The economy will specialise in the production of medicine, if the
relative price of medicine (measured in cars) exceeds its opportunity
cost
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• An economy has limited resources (L=100 000)
• The combination of goods that can be produced if all resources are
used is shown by the Production Possibility Frontier (PF)
• aLC×QC (labour used to produce cars)+ aLM×QM (labour used to
produce medicine) ≤ L
QC
L/aLC=
100 000
Absolute value of slope:
m = aLM/aLC = 1/1000
QC
Absolute value of slope:
m = aLM/aLC = 1/2000
L/aLC=
200 000
Hungary
L/aLM=
100 000 000
QM
Slovakia
L/aLM=
400 000 000 QM
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Comparative advantage
• We introduce the concept of comparative advantage:
– 2×2 model
– One country has absolute advantage in the production of both
goods
• A country has a comparative advantage in producing a
good if the opportunity cost of producing that good in
terms of the other good is lower in the country than it is
the other country
• a*LM/a*LC = 1/2000 < aLM/aLC = 1/1000
• The opportunity cost of medicine in terms of cars is lower
in Slovakia than it is in Hungary
• Slovakia will specialise in the production of medicine,
and Hungary will concentrate on the production of cars
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What the international price is
going to be?
• In this model relative prices are used
• The domestic relative price of products is equal
to their opportunity costs
• However, the international/world relative price
will have to be a trae-off value that is different
from both domestic trade-offs (1/1000 and
1/2000, if the opportunity cost of medicine is
analysed)
• The exact value of the international/world
relative price is determined by the relative
supply (RS) and demand (RD) curves
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PM/PC (aLM/aLC) Relative price of medicine
At this point Slovakia will devote all its
resources to the production of medicine
From here on Hungary will also
produce medicine
aLM/aLC =
1/1000
RS
Pi – international/world relative price
a*LM/a*LC=
1/2000
RD
(L*/a*LM)/(L/aLC) =
400 000 000/100 000 =
4 000
(QM+Q*M)/(QC+Q*C)
Relative quantity of medicine
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How much Hungary will gain from
international trade?
• If both countries specialise in the production of
goods that they have a comparative advantage
in, they will both benefit from international trade
• Indirect ‘production’: an indirect way of making
medicine is to produce the good that Hungary
has a competitive advantage in, an then trade it
for medicine
• Hungary benefits from the indirect ‘production’,
because it can get access to more units of
medicine this way, than it would otherwise,
through the use of its resources to make boxes
of medicine
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•
Hungary can produce 1/aLM units of medicine in 1 hour
(1/1/1000 = 1000)
• Or, alternatively in 1 hour Hungary can make 1/aLC cars
(1/1 = 1 pc)
• We know that aLC/aLM (opportunity cost of cars in
Hungary) < PC/PM (Pi – world relative price of cars – see
slide nr. 9, or the figure on slide nr. 13)
• By restructuring the above we get:
1/aLM < (PC/PM)(1/aLC)
Units of medicine Hungary can
produce in an hour
Units of cars Hungary can
produce in an hour
Units of medicine Hungary can indirectly
‘produce’ in an hour by making cars and
exchanging them to medicine
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Exercises
1.
Let this table represent a Ricardian
model, where data are given in unit
labour requirements:
The combination of goods produced
are also given:
a)
b)
How many excess goods can be
produced in the two countries (after
specialisation), if unit labour
requirements don’t change?
Which of these world relative prices
would be beneficial for both
countries: Pcloth/Pwine = ¾; 3/2; 2; 3;
4; 6?
Wine
Cloth
England
2
4
Portugal
3
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Wine
Cloth
England
20
10
Portugal
10
7
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2.
How will comparative advantages change if the data
were given in unit labour productivity in Exercise 1,
instead of unit labour requirements?
3.
In a Ricardian model the unit labour requirement of
producing cloth in England is 2 lh. England has a 1,5
times productivity lead over Portugal in the production
of cloth. It is also known, that at a 1 unit of wine = 2,5
units of baize world relative price neither country can
benefit from international trade.
a ) Give the comparative advantages of the two countries!
b) What is the unit labour requirement of wine in Portugal?
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