International Trade

Chapter 5:The Standard Trade Model

 Question 1:
• Assume that France and Germany trade with
each other, with France exporting fish to
Germany and Germany exporting Volksawagens
(automobiles) to France. Illustrate the gains from
trade between the the countries assuming first
that tastes for goods are the same in both
countries, but the production possibilities
frontier differ: France has a long coast, making it
relatively more productive in fishing. Germany
has a greater stock of capital, making it relatively
more productive in automobiles.
 Countries trade for two reason :

• economic of scale
• they are different
 International economic
• The trade between Germany and France can
achieve economic of scale.
• Economic of scale is described as the reduction of
the cost per unit of goods as more units of goods
are being produced.
• As they specialize in producing in fishes or
automobiles, each country only produces a
limited range of goods, it can produce each of
these goods at a larger scale and hence more
efficiently than it tried to produce everything.
 International economic
• Germany and France are different from the
aspect of resource they owns.
• Germany have greater stock of capital so it
will be more productive in automobiles.
• France have a long coast so it will be more
productive in fishing.
 QUESTION 2
• In the trade scenario in Problem 1, due to
overfishing, France becomes unable to catch
the quantity of fish it could in previous years.
This change causes both a reduction in the
potential quantity of fish that can be produced
in France and an increase in the relative world
price for fish, Pf/Pa.
BEFORE :

AFTER:
Before:
= USD 8

After: = USD 15
 a) Show how the overfishing problem can result in a
decline in welfare for France.

potential quantities of fish

Overfishing supply less

world price

welfare of France
• Fish = exports of France. production of fish
will caused exports . France income .
Welfare
• the decline in welfare also caused by the
substitution effect in economy.
• Indifference curve
• When Pf increase, consumer will reduce
consumption of fish.
• Consumer will prefer spend on other goods such
as automobile from Germany
• D1 D2, demand of fish Q1 Q2. substitution
effect: consume less fish will leads to consume
more automobile.
• Rises in price if fish in France also causes
Germany can’t afford to import fish from
France. export and welfare decline.
• Less production of fishes will increase the
unemployment rate in France.
 b) Also show how it is possible that the overfishing
problem could result in an increase in welfare for France.

• Terms of Trade= price of export goods (Pf)

price of import goods (Pa)
• The rise in price will cause increase in terms of
trade.
• The rise in the terms of trade will increases a
country’s welfare.
• When Pf/Pa increase, economy want to
produces more fish and less automobile.
• The more economy want to produces fish, the
more valuable fish goes.
• France will try to get more ways to produce
fish such as fish rearing farm.
• Therefore, production shift from Q1 to Q2.
• Isovalue line shifts from VV1 to VV2. (steeper
when price increase)
• Consumer choice shifts from D1 to D2.
• The move from D1 to D2 shows higher
indifference curve.
• When the indifference curve move to the
right, means the more fish and the less
automobile an individual prefer, the more
valuable a unit of fish is at the margin
compared with a unit of automobile.
• Higher indifference curve also shows that
consumption of both goods increase.
• This helps to increase the welfare of both
nations including France.
• The higher is the price of fish which is the export
of France represents an advantage to France.
• This is because when the price of fish increase,
the economy of France can exports more and
earn more profit.
• lead to more action will be taken by government
to take care of the coast from pollution.
• This will provides a better surroundings and
environment to the citizens of France.
• In this case, the increases in price of fish
indirectly increase the welfare of France.
 Question 8:
• It is just as likely that economic growth will
worsen a country’s terms of trade as that it
will improve them. Why, then, do most
economists regard immiserizing growth,
where growth actually hurts the growing
country, as unlikely in practice?
 Answer:
• Two types of biased:
• Export-biased
• Import-biased
 What are those biased?
• Export-biased: tends to worsen a growing
country’s terms of trade, to the benefit of the
rest of the world
• Import-biased: tends to improve a growing
country’s terms of trade at the rest of the
world’s expense.
 What is Immiserizing growth?
• Refers to a situation which is
increase in economic growth
associated with a fall in real living
standard.
 Malaysia
• If Malaysia experiencing export-biased, its
terms of trade will be worsening.
• If Malaysia experiencing import-biased, the
terms of trade will increase.
• Because this country will increase its ability to
produce import-competing goods.
• Why Immiserizing growth
is more to a theoritical
point than a real-world
issue?
 Reason 1
• Worse terms of trade do not
necessarily imply immiserizing growth.
• If trade accounts for 20 percent of
national income, the terms of trade
have to be worsen by over 5 percent
for each 1 percent growth of output to
be immiserizing.
 Reason 2:
• If a country which experiencing strong
export biased have very steep RS and
RD curves, then the change in terms of
trade is large enough to offset the
initial favorable effects of an increase
in a country’s productivity capacity.
Question 11:
• Suppose that one country subsidizes its export
and the other country impose a
“countervailing” import tariff that offsets its
effects, so that in the end relative prices in the
second country are unchanged. What happens
to the term of trade? What about welfare in
the two countries? Suppose, on the other
hand, that the second country retaliates with
an export subsidy of it own. Contrast the
result.
 Answer:
• Suppose that there are two goods are
trade among first and the second
country, there are cloth and food. We
also assume that the first country export
cloth to second country and import food
from second country and vice versa to
the second country.
• When the 1st country imposes a subsidy on cloth
exports, the price of cloth relative to the price of
food that producers and consumers face rises.
• Producers: Relative supply of cloth rises, relative
supply curve shifts from RS1 to RS2.
• Consumers: switch to food consumption, relative
demand of cloth decrease (RD1 to RD2).
• Causes: Relative price of cloth decrease (PC/PF1
to PC/PF2), term of trade and welfare decrease
in 1st country, 2nd country gain from the lower
relative price of cloth
• When 2nd country imposes “countervailing” import
tariff, the term of trade will moving further against
the first country.
• Assume that the price of cloth is higher relative to
the price of food in 2nd country after import tariff.
• Producers switch to cloth production and less
produce food (shifts the relative supply curve of
cloth to left); consumers demand more food
(upward shifts relative demand curve).
• 2nd country term of trade and welfare increase as
the relative price of food increase.
• 1st country worse off as it import food with higher
relative price PF/PC2
• But, the “retaliatory” export subsidy will hurts
the 2nd country.
• It is because when 1st country may subsidize
the export of a good that the 2nd country also
exports, the relative price of the exported
goods in the 2nd country will be reduced in
world market.
• The term of trade and welfare in the 2nd
country decrease.
• Thank You For Your
Attention!