Transcript find powerpoint here

Chapter 4
Goods Prices and Factor Prices: The Distributional
Consequences of International Trade
Nothing is accomplished until someone sells
something.
(popular business saying)
International
Economics
The Goals of this Chapter for ECN 665
• Use the general equilibrium model to understand
how price changes lead to winners and losers.
• Use different models to identify these winners
and losers.
• Introduce a two-country partial equilibrium
model to see how shocks to supply and demand
affect the terms of trade.
• Use the partial equilibrium model to illustrate
how consumers and producers are affected by
international trade.
International
Economics
Who Wins and Who Loses?
• Trade affects relative prices.
• Changes in domestic relative prices
influence factor rewards (e.g. wages) as
well as the prices of goods we buy.
• We can use different characterizations of the
economy (i.e. models) to predict how real
factor rewards respond to a price change.
International
Economics
Trade in a one-factor model
• The Ricardian model assumes there is only
one factor, labor.
• Trade occurs because of differences in labor
productivity.
• Trade raises real GDP. Because everyone is
alike, everyone gains.
• Distribution is simple and unrealistic!
International
Economics
Trade based on factor proportions
• Opening a country to trade (or reducing
tariffs or quotas) raises the relative price of
the exportable relative to the importable.
• What happens to factor rewards depends on
how this price change affects the demand
and supply of each factor.
International
Economics
The Heckscher-Ohlin Model
• Two industries: labor-intensive and capitalintensive
• Two factors: labor and capital
• Both factors are assumed to be in fixed
supply and perfectly mobile across sectors.
THIS MOBILITY ASSUMPTION IS
VERY IMPORTANT.
International
Economics
The Heckscher-Ohlin Model (2)
• Suppose freer trade raises the relative price
of the labor-intensive good ( as it would in a
labor-abundant country).
• The higher price for the labor-intensive
good leads this industry to expand and the
capital-intensive industry to contract.
• These production responses raise the wage
and lower the rental on capital.
International
Economics
The Heckscher-Ohlin Model (3)
• We summarize this analysis with the
Stolper-Samuelson Theorem: an increase in
the relative price of the labor (capital)
intensive good raises the real return to labor
(capital) and lowers the real return to the
other factor.
• Notice the REAL return is driven up or
down.
International
Economics
What if factors are not mobile?
• Then the demand for factors is linked only
to the sector in which the factor works.
• We summarize this insight in the specific
factors model: specific factors gain in real
terms when the price of the product they
produce increases (and lose when it falls).
International
Economics
What if gains come because trade
increases scale and/or variety?
• We need to introduce increasing returns to
scale and differentiated products.
• It is possible for everyone to gain when
trade is based on IRS industries.
• There is a danger only in a small subset of
cases: when countries are large enough to
produce IRS goods but not large enough to
do so on a big scale.
International
Economics
Measuring the Welfare Gains from Exchange:
Producer Surplus and Consumer Surplus
• Producer surplus: The net gains to
producers of a product, equal to the total
revenue minus the sum of marginal
(variable) costs.
• Consumer surplus: The net gains for
consumers of a product, equal to the sum of
all marginal gains minus the market price
paid for the products.
International
Economics
The Market for T-shirts
• Equilibrium price = $6
• Equilibrium quantity = 50
P
$9
S
$6
D
$1
0
50
T-shirts
International
Economics
Producer Surplus
• Equilibrium price = $613
• Equilibrium quantity = 50
• Producer surplus = $125
($5x50 = $250/2 = $125)
P
$9
S
$6
Producer
Surplus
D
$1
0
50
T-shirts
International
Economics
Consumer Surplus
• Equilibrium price = $6
• Equilibrium quantity = 50
• Producer surplus = $125
($5x50/2 = $250/2 = $125)
• Consumer surplus = $75
(3x50/2 = $150/2 = $75)
P
$9
S
Consumer
Surplus
$6
D
$1
0
50
T-shirts
International
Economics
The Total Gains from Exchange
• Equilibrium price = $6
• Equilibrium quantity = 50
• Producer surplus =
($5x50)/2 = $250/2
= $125
• Consumer surplus = $75
($3x50)/2 = $150/2 = $75
• Total gains from exchange
equals consumer surplus
plus producer surplus
• Gains from exchange
= ($8x50)/2 = $400/2
= $200
P
$9
S
Consumer
Surplus
$6
Producer
Surplus
D
$1
0
50
T-shirts
International
Economics
The Two-Country Partial equilibrium Model
• The textbook emphasizes two-country models in order to
remind you that what happens in one country affects
markets in other countries.
• Partial equilibrium models assume “all other things remain
equal” in other markets, obviously an unrealistic
assumption.
• But, a two-country partial equilibrium model can isolate
how, all other things equal, a change in a market in one
country affects the market for the same product in another
country.
• Specifically, the two-country partial equilibrium model lets
us estimate the changes in consumer and producer surplus
in the two countries.
International
Economics
Figure 4.5
The Markets for Corn in Heartland and Orient
Heartland
The International Market
Orient
P
S
P
P
S
2
0.5
D
0
75
D
Tons 0
Tons
0
35
Tons
International
Economics
The International Market for Corn:
Heartland’s International Supply Curve
Heartland
The International Market
Orient
P
S
P
S
P
S
2
0.5
0
D
75
D
Tons 0
Tons
0
35
Tons
International
Economics
The International Market for Corn:
Orient’s International Demand Curve
Heartland
The International Market
Orient
P
S
P
S
P
S
2
0.5
0
D
75
D
Tons 0
D
Tons
0
35
Tons
International
Economics
The International Market for Corn:
Where Heartland’s International supply
and Orient’s International Demand Meet
Heartland
The International Market
Orient
P
S
P
S
P
S
2
1
0.5
0
D
60 75 90
Exports
D
Tons 0
30
Trade
D
Tons
0
25 35 55
Tons
Imports
International
Economics
The International Market for Corn:
Heartland’s Producers Gain Surplus
Heartland
The International Market
Orient
P
S
P
S
P
S
2
1
Added Producer
Surplus
0.5
0
D
60 75 90
D
Tons 0
30
D
Tons
0
25 35 55
Tons
International
Economics
The International Market for Corn:
Heartland’s Consumers Lose Surplus,
But Heartland’s Net Welfare Gain Is Positive
Heartland
The International Market
Orient
P
S
P
S
P
S
2
Heartland’s Net
Welfare Gain
1
0.5
0
Consumer
Surplus Lost
D
60 75 90
D
Tons 0
30
D
Tons
0
25 35 55
Tons
International
Economics
The International Market for Corn:
Orient’sConsumers Gain Surplus
Heartland
The International Market
Orient
P
S
P
S
P
S
2
Gain in
Consumer
Surplus
1
0.5
0
D
60 75 90
D
Tons 0
30
D
Tons
0
25 35 55
Tons
International
Economics
The International Market for Corn:
Orient’s Producers Lose Surplus,
But Orient’s Net Welfare Gain Is Positive
Heartland
The International Market
Orient
P
S
P
S
P
S
Loss of
Producer
Surplus
2
1
0.5
0
D
60 75 90
D
Tons 0
30
Orient’s Net
Welfare Gain
Tons
D
0
25 35 55
Tons
International
Economics
The Welfare Gains from Trade
•
•
•
•
•
Heartland producers gain surplus.
Heartland consumers lose surplus.
Orient producers lose surplus.
Orient consumers gain surplus.
But remember that we do not trade in one
good – these changes are only for one
market.
International
Economics
Applying the Two-Country Partial Equilibrium Model
• Now that you understand the two-country partial
equilibrium model and how to calculate the
welfare gains from international exchange, you are
ready to apply the model.
• One interesting case is to examine the welfare
effects of an increase in foreign demand for a
product.
• Specifically, suppose that in a certain market,
demand increases in the foreign country that
currently imports the good.
International
Economics
The International Market for Corn:
An Increase in Demand in Orient
Heartland
P
The International Market
S
P
S
Orient
P
S
2.50
2
1
0.5
0
D
60 75 90
D D’
D
Tons 0
30
Tons
0
25 35
55
Tons
International
Economics
The International Market for Corn:
Adjustments in Heartland and the International
Market after the increase in demand in Orient
Heartland
The International Market
P
S
P
S
Orient
P
S
2.50
2
2.25
1
0.5
0
D
60 75 90
55
95
Exports
D D’
D D’
Tons 0
30 40
Trade
Tons
0
25 35
27
55
67
Tons
Imports
International
Economics
The International Market for Corn:
In both countries, the net gains from trade
increase after the rise in demand in Orient
Heartland
The International Market
P
S
P
S
Orient
P
S
2.50
2
2.25
1
0.5
0
D
60 75 90
55
95
Exports
D D’
D D’
Tons 0
30 40
Trade
Tons
0
25 35
27
55
67
Tons
Imports
International
Economics
The Net Gains from Trade Increase in Both
Countries after the Rise in Demand in Orient
• An increase in foreign
demand raises the price
of corn in both
countries.
• Producers in Heartland
gain welfare.
• Consumers in Orient
gain welfare.
• The net gains from
exchange increase in
both countries.
Heartland
The International Market
P
S
P
S
Orient
P
S
2.50
2
2.25
1
0.5
0
D
60 75 90
55
95
Exports
D D’
D D’
Tons 0
30 40
Trade
Tons
0
25 35
27
55
67
Tons
Imports
International
Economics
Analyzing the Effect of Transport
Costs on International Trade
• The partial equilibrium model can be used to analyze how
transport costs affect international trade.
• Transport costs in effect drive a wedge in between the
price received by an exporter and the price paid by a
foreign importer.
• Transport costs increase the cost of products to the final
user, and it should not be surprising that they reduce both
the volume of trade and the gains from trade.
• The analysis of transport costs uses the concepts of
consumer and producer surplus.
International
Economics
Figure 4.10
The Market Equilibrium in the
Absence of Transport Costs
P
• Consumer surplus is
equal to the area A
• Producer surplus is
equal to the area B
• The net gains from
exchange are equal
to the areas A + B
S
A
50
B
B
D
0
40
Q
International
Economics
Figure 4.11
Transport Costs Reduce the
Volume of International Trade
• Transport costs of $40
raise the effective
international supply curve
from S to ST.
• Transport costs drive a
“wedge” between what
suppliers receive and
$40
consumers pay.
• The volume of trade falls
from 40 to 20.
• Producer surplus is
reduced to area b.
• Consumer surplus is
reduced to area a.
P
ST
a
S
db
D
70
50
30
0
20
40
Q
International
Economics
Figure 4.12
A Decline in Transport
Costs from $40 to $20
• Decreasing transport
costs increase trade.
• The international supply
curve shifts down to
ST2.
$20
• The equilibrium price
falls to $60.
• The gains from trade
rise from a + b to a + b
+ c + d.
P
ST1
a
70
ST2
S
bc
60
50
40
30
ed
D
b
0
20
30 40
Q
International
Economics
Trade and Transport Costs
• An increase in transport costs reduces the
gains from trade for both the importing and
exporting countries.
• A decline in transport costs increases the
gains from trade.
• Most of the increase in trade during the past
two centuries is due to improvements in the
efficiency of transportation.
International
Economics
The Effect of Trade on Price Competition
• The partial equilibrium model is also useful for
analyzing the gains from trade under imperfect
competition.
• International trade increases the number of potential
suppliers, which tends to increase price competition.
• Increased price competition reduces monopoly profit
and deadweight losses.
• The effect of increased competition can be visualized
by comparing consumer and producer surplus under
imperfect competition and under perfect competition.
International
Economics
Figure 4.16
Profit in an Imperfectly-Competitive Market
• Imperfectly competitive firms
face a downward-sloping
demand curve D.
• Profit-maximizing firms
equate marginal revenue equal
marginal cost.
• Prices exceed marginal cost.
• The quantity supplied, q, is
less than the quantity, Q, that
would be supplied under
perfect competition.
• Total welfare is reduced by the
“deadweight” loss, which is
equals to area D.
Price
p
MC
D
w
MR
0
q
D
Q
Quantity
International
Economics
Figure 4.17
International Competition Can Eliminate the
Deadweight Loss of Imperfect Competition
• When firms face the
horizontal demand
curve in a competitive
global market, price
declines from p to P.
• Consumption shifts
from c to C.
• The competitive
market eliminates the
deadweight loss.
Price
p
c
MC
C
P
w
MR
0
q
DINT
D
Q
Quantity
International
Economics