Terms of trade

In international economics and international trade, terms of trade or TOT is (Exports)/

(Imports), or (Price Exports)/(Price Imports). In layman's terms it means how much is
exported per import. "Terms of trade" are sometimes used as a proxy for the relative
social welfare of a country, but this heuristic is technically questionable and should be
used with extreme caution. An improvement in a nation's terms of trade (the increase of
the ratio) is good for that country in the sense that it has to pay less[clarification needed] for the
products it imports. That is, it has to give up fewer exports for the imports it
receives[clarification needed]. Thus terms of trade are widely used instruments to measure the
benefits derived by a nation from international trade.

Two country model CIE economics

In the simplified case of two countries and two commodities, terms of trade is defined as
the ratio of the total export revenue[clarification needed] a country receives for its export
commodity to the total import revenue it pays for its import commodity. In this case the
imports of one country are the exports of the other country. For example, if a country
exports 50 dollars worth of product in exchange for 100 dollars worth of imported
product, that country's terms of trade are 50/100 = 0.5. The terms of trade for the other
country must be the reciprocal (100/50 = 2). When this number is falling, the country is
said to have "deteriorating terms of trade". If multiplied by 100, these calculations can be
expressed as a percentage (50% and 200% respectively). If a country's terms of trade fall
from say 100% to 70% (from 1.0 to 0.7), it has experienced a 30% deterioration in its
terms of trade. When doing longitudinal (time series) calculations, it is common to set a
value for the base year[citation needed] to make interpretation of the results easier.

In basic Microeconomics, the terms of trade are usually set in the interval between the
opportunity costs for the production of a given good of two countries.

Terms of trade is the ratio of a country's export price index to its import price index,
multiplied by 100

Multi-commodity multi-country model

In the more realistic case of many products exchanged between many countries, terms of
trade can be calculated using a Laspeyres index. In this case, a nation's terms of trade is
the ratio of the Laspeyre price index of exports to the Laspeyre price index of imports.
The Laspeyre export index is the current value of the base period exports divided by the
base period value of the base period exports. Similarly, the Laspeyres import index is the
current value of the base period imports divided by the base period value of the base
period imports.
Where

price of exports in the current period

quantity of exports in the base period
price of exports in the base period
price of imports in the current period
quantity of imports in the base period
price of imports in the base period

Basically: Export Price Over Import price times 100 If the percentage is over 100% then
your economy is doing well (Capital Accumulation) If the percentage is under 100% then
your economy is not going well (More money going out than coming in)

Limitations
Terms of trade should not be used as synonymous with social welfare, or even Pareto
economic welfare. Terms of trade calculations do not tell us about the volume of the
countries' exports, only relative changes between countries. To understand how a
country's social utility changes, it is necessary to consider changes in the volume of trade,
changes in productivity and resource allocation, and changes in capital flows.

The price of exports from a country can be heavily influenced by the value of its
currency, which can in turn be heavily influenced by the interest rate in that country. If
the value of currency of a particular country is increased due to an increase in interest rate
one can expect the terms of trade to improve. However this may not necessarily mean an
improved standard of living for the country since an increase in the price of exports
perceived by other nations will result in a lower volume of exports. As a result, exporters
in the country may actually be struggling to sell their goods in the international market
even though they are enjoying a (supposedly) high price. An example of this is the high
export price suffered by New Zealand exporters since mid-2000 as a result of the
historical mandate given to the Reserve Bank of New Zealand to control inflation.

In the real world of over 200 nations trading hundreds of thousands of products, terms of
trade calculations can get very complex. Thus, the possibility of errors is significant.

Terms of trade
Relationship between the prices at which a country sells its exports and the prices paid
for its imports. If a country's export prices rise relative to import prices, its terms of trade
are said to have moved in a favorable direction, since, in effect, it now receives more
imports for each unit of goods exported. The terms of trade, which depend on the world
supply of and demand for the goods involved, indicate how the gains from international
trade will be distributed among trading countries. An abrupt change in a country's terms
of trade (e.g., a drastic fall in the price of its main export) can cause serious problems in
its balance of payments
Terms of trade, relationship between the prices at which a country sells its exports
and the prices paid for its imports. If the prices of a country’s exports rise relative to the
prices of its imports, one says that its terms of trade have moved in a favourable
direction, because, in effect, it now receives more imports for each unit of goods
exported. The terms of trade, which depend on the world supply of and demand for the
goods involved, indicate how the gains from international trade will be distributed among
trading countries. The concept is also applied to different sectors within an economy
(e.g., agricultural and manufacturing sectors).

An abrupt change in a country’s terms of trade (e.g., a drastic fall in the price of a
primary product that is a country’s main export) can cause serious balance-of-payments
problems if the country depends on the foreign exchange earned by its exports to pay for
the import of its manufactured goods and capital equipment.

Terms of trade relates to international trade. It is a single number that represents the ratio
of a particular country's exports and imports. Specifically, terms of trade represents the
relationship between the price a country receives for its exported goods and the price it
pays for imported items. In general,terms of trade, also known as TOT, is considered to
be more favorable when the price of exports exceeds the price of imports.

To calculate the TOT, the export price is divided by the import price. That result is then
multiplied by 100 to determine the TOT percentage. If the final result exceeds 100%, the
economy is generally considered healthy. Results under 100% can mean that the
economy is not thriving. Results under 100% generally indicate that there is more money
going out of the economy than coming in.

An increase in TOT can mean the overall welfare of the country has improved, but not
always. This often depends on the reason for the change in prices. The TOT ratio can
change based on several internal and external factors affecting a particular country. These
may include supply and demand for the products that are imported and exported, as well
as local and international economic health. A sudden TOT change can trigger balance of
payment problems if the country depends on export receipts to pay for its imports.

The terms of trade can also be affected by the value of a country's currency. When
interest rates rise, currency value generally also increases. Export prices typically go up
as a result. While the country experiences a higher premium for its goods, it may have
trouble finding buyers for these high-priced products. Conversely, if the price of exports
fall, the county may be able to sell a much higher quantity of goods.

Historically, developing countries were considered to be at a disadvantage regarding

terms of trade. This is because exports are more often raw goods or commodities with
lower prices than the manufactured goods imported from more developed counties. This
theory has come under scrutiny as more study is completed on how TOT is affected by
other factors, including a country's labor pool and foreign investments