Gains from Trade

1. Gains from Trade Chapter 4

2. Introduction • Jack-of-all-trades – ability to perform many kinds of tasks • Does it lead to a more productive life? • Many economists believe that poverty is the result of this jack-of-all-trades phenomenon – and not the cause

6. Introduction • Nepal – poor nation because they perform their own services • Trade-makes-people-better-off principle • Trade creates more wealth & raises the standard of living • Self-sufficiency is not necessarily economically productive

8. Introduction • Societies that emphasize self-sufficiency are • Less productive • Have a lower standard of living • Trade & specialization bring wealth

9. Specialization Improves productivity • Adam Smith Wealth of Nations – advantages of specialization • Specialization – development of skills & knowledge in one aspect of a job or field of interest – becoming an expert • Division of labor – workers divide the individual tasks that make up a job

10. Specialization Improves productivity • Specialization increases productivity • Increased productivity brings more goods & services • Raises the standard of living • So what is the problem with Nepal? • Population density & isolation from large markets

11. Specialization Improves productivity • Underdeveloped transportation system • Small markets discourage specialization • Advanced system of transportation & communications promotes trade, growing markets & specialized economy

12. Specialization Encourages Trade • When people specializes: • No longer produce everything for themselves • Frees up time & resources • Trade with other to attain the items one needs • Lowers opportunity costs

13. Specialization Encourages Trade • Time & energy is spent doing the skills one does best • Trade for everything else • Voluntary exchange – parties give up something in order to get something else they want

14. Specialization Encourages Trade • People trade because: • Mutual interest • Mutual gains • Expect to improve their well-being • Barter – direct exchange of one good or service for another

15. Specialization Encourages Trade • Bartering works best when there is a coincidence of wants – “you have what I want & I have what you want” • Money – medium of exchange that can be traded for goods & services or pay debts

17. Specialization Encourages Trade • Money’s value must be accepted • Facilitates ease of use & convenience

18. Trade creates Economic interdependence • Economic interdependence – through specialization & trade we depend on others to provide the goods & services we want & need • Founding fathers believed trade & economic interdependence are essential to economic growth

19. Trade creates Economic interdependence • http://abcnews.go.com/WN/MadeInAmerica/page/made-america-car-american-made-13795239 • Made in America: How Much of Your Car is American Made? - ABC News

21. Trade creates Economic interdependence • Trade barriers – tariffs & other methods to limit trade in order to protect local industry • Promotes self-sufficiency • Article I, Section 8 – Commerce Clause • Congress has the power to regulate foreign & commerce between the states

22. The castaways’ dilemma • Absolute advantage – ability to produce goods or services using less resources than someone else • Comparative advantage – ability to perform a task at a lower opportunity cost than someone else

23. The castaways’ dilemma • 1817 - David Ricardo response to the English Corn Laws • Remove the tariff on imported grain • Allow the grain market to seek its own price • Reallocate resources to where Britain can use them best

24. The castaways’ dilemma • Put the idle resources into manufacturing • Benefit society as a whole • Pirate Jack – absolute advantage (turnips) • Selkirk – comparative advantage (clams)

28. The castaways’ dilemma

29. The castaways’ dilemma

31. The castaways’ dilemma • Principle of comparative advantage • Florida – oranges • Idaho – potatoes • Nevada – gold • Saudi Arabia – oil • Michigan – cherries • Canada - timber

32. The castaways’ dilemma • Advantages – climate, weather, & natural resources • Other advantages – education, technology, & wage levels • Countries with every advantage still do best by specialization & trade

33. How trade makes us wealthier • Trade raises the standard of living • Trade makes us wealthier by: • Putting goods & services in the hands of those who value them • Increasing the quantity & variety of goods • Lowering the costs of goods

34. How trade makes us wealthier • What is wealth? • Money to buy things • Total value of all the things a person owns • Whatever people value

35. Trade increases quantity & variety of goods • Trade allows access to variety of goods from around the world • Abundant trade results in a wealthier economy • Most people are materially better off

36. Trade lowers the cost of goods • Trade lowers the cost of goods by: • Opening markets to less costly goods from other places • Trade lowers costs by expanding markets for products • Larger markets mean producers can use mass production (economy of scales)

37. Trade Creates more winners than losers • Trade will take businesses away – cheaper imports • Resources must be reallocated to what producers do best • Follow the principle of comparative advantage & specialization