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Chapter 32

ECON 208 Chapter 32: ECON 208 Chapter 32

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Economics (Arts)
ECON 208
Paul Dickinson

The Gains from International Trade International trade is becoming increasingly important 32.1 The Gains from Trade Open economy: an economy that engages in international trade Closed economy: no foreign trade Interpersonal, interregional and international trade • Without trade, everyone must be self-sufficient; with trade, people can specialize in what they do well and satisfy other needs by trading • With trade, each individual region, or country, is able to concentrate on producing goods and services that it produces efficiently while trading to obtain goods and services that it does not produce efficiently • Gains from trade: the increased output attributable to the specialization that is made possible by trade Illustrating the Gains from Trade • Absolute advantage: when on country can produce some commodity at a lower absolute cost than another country • comparative advantage: when a country can produce a good with less forgone output of other goods than can another country o Based on opportunity costs rather than absolute costs o Comparative advantage reflects opportunity costs that differ between countries • The gains from specialization and trade depend on the pattern of comparative, not absolute, advantage • Whenever opportunity costs differ between countries, specialization can increase the world's production of both products • World output increases if countries specialize in the production of the goods in which they have comparative advantage • Specialization of production against the pattern of comparative advantage leads to a decline in total world output PPB • Slope of PPB = opportunity cost The conclusions about the gains from trade arising from international differences in opportunity cost: 1. The opportunity cost of producing X is the output of other products that must be sacrificed in order to increase the output of X by one unit 2. Country A has a comparative advantage over Country B in producing a product when its opportunity cost of production is lower (but Country A has a comparative disadvantage in other products) 3. When opportunity costs for all products are the same in all countries, there is no comparative advantage and there is no possibility of gains from specialization and trade 4. When opportunity costs differ in any 2 countries and both countries are producing both products, it is always possible to increase production of both products by a suitable reallocation of resources within each country The gains from trade with variable costs • Economic of scale o Production costs fall as the scale of output increases o In industries with significant scale economies, small countries that do not trade will have low levels of output and therefore high costs. With international trade, however, small countries can produce for the large global market and thus produce at lower costs. International trade therefore allows small countries to reap the benefit sof scale economies o Intra-industry trade: countries specialize in different version of similar production
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