The Global Economy: Free Trade, Tariffs, Quotas

IB Economics

The Benefits of International Trade

• can help the economy grow beyond productive potential w/in the economy

• improves political relations

• access to goods + services that can’t be produced w/in the nation

• increase export sales

• increase foreign direct investment (FDI)

• increased competition = domestic firms compete w/ foreign firms

• improves consumer welfare + makes firms more efficient (↑choices, ↑choices, ↓prices)

• increased production (↑ exports) = firms benefit from economies of scale ↓ costs of production = lowers prices for consumers

• source of foreign currency

• access to labour skills + technologies that the country could not produce themselves

Diagram: Free Trade

• Pw = World Price

• Sw = World Supply 

• Y-Axis = Price (Currency) 

• X-Axis = Quantity of Items (Units)

• Demand Curve = D (Country)

• Supply Curve = S (Country)

• Value of Imports = Monetary Value

• Volume of Imports = Size of Import 

• Net Welfare Gain = the loss of producers is outweighed by the gain to consumers —> WELFARE GAIN 

Winners and Losers: Free Trade under Equilibirum

• Losers:

  • Domestic Producers = Surplus + Revenue decreases 

• Winners:

  • Domestic Consumers = Surplus increases, Expenditures changes

  • Foreign Producer = Revenue Increases

Winners and Losers: Free Trade above Equilibrium 

• Winners:

  • Domestic Producers = Surplus + Revenue increases 

  • Foreign Producers = Revenue increases 

• Losers :

  • Domestic Consumers = Surplus decreases, Expenditures changes

Protecionsim

Policies imposed by the government to protect domestic producers

Tariff

A tax on imports

Embargo 

A ban on certain imports

Quota

• A physical limit on the quantities of imports

• A form of protectionism imposed by the domestic government

• Protects + supports domestic producers

Subsidies

Lowering costs of production for domestic firms to help them better compete w/ world supply

Administrative Barriers

Legislation (red tape) ↑ the costs for foreign firms to sell in the country

Diagram: Tariffs

• Pw + Tariff = World Price w/ Tariff applied

• Sw + Tariff = World Supply w/ Tariff applied

• Y-Axis = Price (Currency) 

• X-Axis = Quantity of Items (Units)

• Demand Curve = D (Country)

• Supply Curve = S (Country)

• Value of Imports = Monetary Value

• Volume of Imports = Size of Import 

• Net Welfare Loss = consumer welfare/inefficiency loss + production inefficiency loss

Winners and Losers: Tariffs

• Winners:

  • Domestic Producers = Surplus + Revenue increases

  • Government Tariff = Revenue increases

• Losers:

  • Domestic Consumers = Surplus decreases, Expenditures changes

  • Foreign Producer = Revenue decreases

    • Harms political relations + potential future trade details

Diagram: Quotas

• Pw + Quota = World Price w/ Quota applied

• Sw + Quota = World Supply w/ Quota applied

  • MOVES OVER PARALLEL TO ORIGINAL S(country) —> Remember right triangle!!

• Y-Axis = Price (Currency) 

• X-Axis = Quantity of Items (Units)

• Demand Curve = D (Country)

• Supply Curve = S (Country)

• Value of Imports = Monetary Value

• Volume of Imports = Size of Import 

• Net Welfare Loss = consumer welfare/inefficiency loss + production inefficiency loss

Quota Rent 

License fee to sell w/in the quota that is either collected by the government or the government will give this extra revenue to domestic producers

Winners and Losers: Quotas

• Winners:

  • Domestic Producers = Surplus + Revenue increases

  • Foreign Producers = increases if there is NO QUOTA RENT

  • Government Tariff = Revenue increases

• Losers:

  • Domestic Consumers = Surplus decreases, Expenditures changes

  • Foreign Producer = Revenue decreases if there IS QUOTA RENT