Macroeconomics Understanding the

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 CHAPTER 8 International Trade

CHAPTER 8: INTERNATIONAL TRADE

INTRODUCTION
Despite the introduction of a number of theoretical concepts, this should be an easy chapter to
teach. By and large, students tend to be interested in trade issues. It should be easy to find
good current examples to motivate this material as there is almost always some important
trade dispute going on.

Teaching Tips
ALTERNATIVE ROUTES THROUGH THE CHAPTER

Although the historical perspective on trade is a good introduction, you may prefer to start by
referring to current events such as recent trade talks and disputes, or recent protectionist
measures. Showing how comparative advantage works then highlights the potential gains from
trade. The Case Study on globalization below could be used to generate useful discussion.

CHAPTER GUIDE
8.1 Introduction: Patterns of World Trade. The Background Material includes more data on
the share of services in trade.

8.2 Comparative Advantage – How Countries Benefit from Trade. The discussion of US and UK
comparative advantage before the second World War links with the Background Material
of Chapter 6 (How did the US overtake the UK at the beginning the 20th century?).

8.3 The Terms of Trade. The Prebisch-Singer Thesis is discussed in more detail in Chapter 9.
Also, some of the issues are discussed in the case study on Vietnamese Coffee Production.

8.4 What Goods Will Countries Trade In? Note that the tendency for developed countries to
import and export similar goods means that their terms of trade are very stable. Only huge
commodity price shocks like the oil price inflation of the 1970’s have a significant effect.
Developing countries on the other hand tend to have much more specialized trade patterns
and therefore face far more volatile terms of trade. Macroeconomic policy-making is
accordingly far more problematic.

8.5 Distributional Impacts of Trade. The analysis in this section parallels the discussion of
immigration in the previous chapter. In economic terms immigration and trade have almost
identical effects in terms of equalizing factor returns (i.e. raising wages and lowering the
return on capital in labor abundant countries whilst lower wages and raising the return on
capital in capital abundant countries.

8.6 Competitiveness. Krugman cites many examples of politicians who misuse the idea of
competitiveness. President Clinton described a nation as being “like a big corporation
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 CHAPTER 8 International Trade

competing in the global marketplace”. Jacques Delors (former head of the EU) ascribed
Europe’s unemployment problems as being due to a “lack of competitiveness with the US
and Japan”

8.7 Strategic Trade Theory. Another possible economic justification for protectionism is the
establishment of industries that have important knowledge spillovers into the rest of the
economy (e.g. Technology). Certainly, the example of the US and UK at the beginning of the
20th century shows the benefits of being in the right industries (see Background Material to
Chapter 7). The track record of such policies, however, is not good.

8.8 Political Economy and Vested Interest. In practice, the two areas most subject to
protection by developed countries are agriculture (through systems like the European
Common Agricultural Policy - CAP) and textiles (through restrictions like the Multi-Fiber
Arrangement, MFA). Although these are amongst the lowest paid industries in the
developed world they have strong pressure groups in support. They are also key industries
for developing countries. Textiles in particular have been important growth industries for
countries in the early stages of development. As a result, pressure to remove restrictive
protection is growing, and the MFA is now virtually dismantled.

CASE STUDY: ANTI-DUMPING

Introduction
Although trade restrictions such as the European protection of agriculture (the CAP) and
worldwide restriction of textile trade (the MFA) are widely discussed and disputed, both of
these have now probably been overtaken, in terms of economic impact, by the use of anti-
dumping legislation as a way of restricting trade. Not only do the number of anti-dumping cases
dwarf all other trade disputes (Between 1995 and 2000, WTO members reported 61 safeguard
investigations, 115 countervailing duty investigations, and 1441 antidumping investigations),
their impact can be substantial – the duties imposed after a successful case often reduces trade
from the affected country by over 50%. Added to this, although other forms of restriction on
trade are gradually being eliminated, as the chart below shows, anti-dumping cases are steadily
rising.

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 CHAPTER 8 International Trade

Number of Anti-Dumping Cases Filed

1600

1400

1200

1000

800

600

400

200

0
1980-84 1985-89 1990-94 1995-99 2000-04

What is Anti-Dumping and can it be justified?

Anti-Dumping legislation is used by a country who suspects that goods being exported to their
country are being sold at bargain basement prices as a way of driving out the local competition
(i.e. dumped on their market). If the recipient country can prove that the price of the imported
good is in some sense too low, then it can impose special duties on that exporting country with
the full blessing of the WTO.

On the face of it, anti-dumping legislation seems justified as an extension of normal

competition policy (anti-trust). In most countries, the government can act against predatory
pricing when a large company tries to kill of the competition by setting its price below cost for a
temporary period. Therefore it seems a logical extension to say that a government can stop a
foreign company doing the same. However, a more detailed look at anti-dumping shows that is
goes a lot further than predatory pricing. In predatory pricing, a company is usually only
convicted if it can been shown that it set prices below marginal cost (i.e. below the cost of
producing one extra unit). In anti-dumping cases, not only are average costs used as a
benchmark (i.e. not just the cost of producing an extra unit but also a share of the fixed cost of
the business – such as the cost of buildings etc.) but often a ‘normal’ level of profit is added as
well. As a result, a company making profits can be found guilty of dumping (in fact if anti-
dumping criteria were applied to judge domestic predatory pricing cases then it is likely that
most companies could be convicted!). This system can easily result in a company being charged
with dumping in foreign markets even if the price it sells good abroad is higher than in its home
market.

With this system, it is perhaps unsurprising that that most anti-dumping cases are successful
and over the last 25 years around 98% of US anti-dumping cases have been successful.

© 2012 John Wiley & Sons Ltd.

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 CHAPTER 8 International Trade

Trends in the use of Anti-Dumping

Given its weak economic justification, it is perhaps surprising that anti-dumping cases are so
prevalent. One argument for their success is that, up until recently, almost all cases were
brought by four major economies (largely against Asia) - 25 years ago Canada, US, EU, and
Australia brought 98% of all cases. Thus it is possible that anti-dumping was effectively
protectionism by the back door for these countries. Recently, however, new users such as India
and China have become active users of anti-dumping legislation so that the original four now
only account for 40% of all cases.

Growth in Anti-Dumping (AD) legislation

No. of countries with AD No. of countries filing % of cases from ‘new
statute actions users’
1980- 34 8 1%
84
1985- 38 10 11%
89
1990- 45 24 36%
94
1995- 61 32 61%
99
2000- 87 30 60%
02
Notes: countries with statute calculated at beginning of period, ‘New users’ = not US, EU
Canada Australia

Whilst these new users have been responsible for the dramatic rise in anti-dumping cases filed
in recent years, it is possible that now most countries have anti-dumping legislation, the
perceived economic advantage the original users saw from it use is now declining suggesting
perhaps that some international agreements to curtail it may be on the way

Discussion Questions
1) Should Anti-Dumping legislation be abolished?
2) Do you think Anti-Dumping is an example of how the rich countries write the rules in
their favor?
Source “The Growing Problem of Anti-Dumping”(2004) Prusa R. © NBER International Trade,
East Asia Seminar on Economics Volume 14

© 2012 John Wiley & Sons Ltd.

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 CHAPTER 8 International Trade

Background Material

TRADE-SPEAK GLOSSARY
Some additional terms not covered in the main text :

ACP Countries A group of African, Caribbean, and Pacific less developed countries that were
included in the Lomé Convention and now the Cotonou Agreement. As of July 2000, the group
included 77 countries.

Cairns Group A group of agricultural exporting countries, currently (2001) numbering 18, that
was formed in 1986 to act as a counterweight especially to the EU in international negotiations
on agriculture. Named after the city in Australia where the group first met.

Common Agricultural Policy (CAP) The regulations of the European Union that seek to merge
their individual agricultural programs, primarily by stabilizing and elevating the prices of
agricultural commodities. The principal tools of the CAP are variable levies and export subsidies.

Countervailing Duty. A retaliatory duty placed on imports from a country that subsidizes its
exporters.

Dumping. Selling surplus goods overseas for less than it costs to produce.

Entrepot trade The import and then export of a good without further processing.

European Economic Area (EEA) The group of countries comprising the EU and EFTA. The two
groups have agreed to deepen their economic integration.

European Free Trade Association (EFTA). Free trade area made up of countries in Europe that
have not joined the European Economic Community. EFTA was established in 1960 between
Austria, Denmark, Norway, Portugal, Sweden, Switzerland, and the United Kingdom. As of 2000,
it includes only Iceland, Liechtenstein, Norway, and Switzerland.

General Agreement on Trade in Services (GATS) An agreement that brings international trade
in services into the WTO..

Generalized System of Preferences Tariff preferences for developing countries, by which

developed countries let certain manufactured and semi-manufactured imports from developing
countries enter at lower tariffs than the same products from developed countries.

Marshall-Lerner condition The condition that the sum of the elasticities of demand for exports
and imports exceed one. Under certain assumptions, this is the condition for a real exchange
rate depreciation to improve the trade balance.

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 CHAPTER 8 International Trade

Mercantilism An economic philosophy of the 16th and 17th centuries which held that
international commerce should primarily serve to increase a country's financial wealth -
especially of gold and foreign currency. To that end, exports are viewed as desirable and
imports as undesirable unless they lead to even greater exports.

MERCOSUR A common market comprising Argentina, Brazil, Paraguay and Uruguay, known as
the "Common Market of the South" ("Mercado Comun del Sur"). It was created by the Treaty of
Asunción on March 26, 1991, and added Chile and Bolivia as associate members in 1996 and
1997.

Most Favored Nation (MFN) status Countries charged the lowest tariffs.

Multifiber Arrangement An agreement between developed country importers and developing

country exporters of textiles to regulate and restrict the quantities traded. It was negotiated
under GATT as an exception to the rules that would otherwise apply.

Nontariff barrier Any policy that interferes with exports or imports other than a simple tariff,
prominently including quotas and Voluntary Export Restraints (VERs).

North American Free Trade Agreement (NAFTA) A free trade area comprising the United
States, Canada, and Mexico that went into effect January 1, 1994.

Quota A government-imposed restriction on quantity, or sometime total value. An import

quota specifies the maximum amount of an import per year - typically administered by import
licenses that may be sold or directly allocated to individuals or firms, domestic or foreign.

Section 301 The provision of U.S. trade law that permits private parties to seek redress through
the U.S. government if their commercial interests have been harmed by illegal or unfair actions
of foreign governments.

Tariff A tax on trade, usually on imports but sometimes used to denote an export tax.

World Trade Organization A global international organization that specifies and enforces rules
for the conduct of international trade policies and serves as a forum for negotiations to reduce
barriers to trade. Formed in 1995 as the successor to the GATT, it had 136 member countries as
of April 2000.

© 2012 John Wiley & Sons Ltd.

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 CHAPTER 8 International Trade

Additional Questions

Question 1) The chart below shows the share of trade taken by commercial services over a
range of countries. What explains the share of trade in services in the UK and US. Is this the
same explanation as for countries like Egypt and Turkey?
Commercial Services as percentage of total trade

70

60

50

40

30

20

10

0
C ld

er e

itz en

pt

Th re
ng a

R n
a

Sw in
ico

ly

ng y

nd
M il

ng
nd

Au ia

Si and
lia

Ze of
m

a
es

az

an

ke
c

in

a
ite ad

di
ric
Ita
or

s
So Egy

o
do

ra
an

la
Ko
la

.
at

ex

ni
Sp

Ch

In

Ne ep

ap
Br

ur
m
W

Ja
Un an

al
Af
er

ai
st
St

Tu
Fr

ng
h
d

Ki
G

ut

a,
Ho
Sw

w
d

re
ite

Ko
Un

Source: WTO

Answer 1) The US and UK also have high proportions of trade in services largely due to the
financial sector. For the others, tourism is the main contributor.

Question 2) Study the table below

Productivity per Worker in each good

(number of units produced per worker)
Good Good Good
1 2 3
Country 4 4 4
A
Country 2 1 1
B
Country 3 2 3
C

a) Spot each country’s comparative advantage

b) Which country will end up poorest?
© 2012 John Wiley & Sons Ltd.
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 CHAPTER 8 International Trade

c) Can any country be made worse off with trade than without it?

Answer 2) a) Country A’s comparative advantage is in good 2, Country B’s comparative

advantage is in good 1 and Country C’s comparative advantage is in good 3
b) Country B will end up poorest since despite the fact it has a comparative advantage in good 2
it has no absolute advantage in anything. It will have to sell good 1 at quite a low price in order
to stop countries A or C producing it themselves, but since productivity is quite low, wages will
have to be very low.
c) No, since no country is forced to engage in trade.

Question 2) Analyse the trade profile of a selection of countries using the WTO trade profile
tool http://stat.wto.org/Home/WSDBHome.aspx?Language=E. How important is trade to each
of these countries? What are theirs main exports and trading partners?

© 2012 John Wiley & Sons Ltd.

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