Terms of trade

What are terms of trade?

the ratio of export prices to import prices.

What information would we need to find the index of export prices?

Average price of commonly exported goods

What information would we need to find the index of import prices?

Average price of commonly imported goods

What is the formula for terms of trade?

Terms of trade = (Index of export prices/Index of import prices) x 100

How do you work out the index for imports/ exports?

(Current Average Price of Importsor exports/Base Year Average Price of Imports or exports) x 100

What does the terms of trade formula calculate?

Changes in the relative price of imports and exports

When the terms of trade increase we say that they have:

improved

When the terms of trade decrease we say that they have:

deteriorated

Write the definition of: Improvement in Terms of Trade

An improvement in the terms of trade means that there has either been an increase in the index of export prices or a decrease in the index of import prices.

Write the definition of: Deterioration in Terms of Trade

there has either been a decrease in the index of export prices or an increase in the index of import prices.

What are the factors that influence a country’s terms of trade?

• raw material prices

• tariffs

• exchange rates

• inflation rates

What is the impact of a decrease in the cost of raw materials on developing countries?

Developing countries usually export raw materials. They will see a deterioration in their terms of trade as the cost of raw materials decreases.

What is the impact of a decrease in the cost of raw materials on developed countries?

Developed countries usually import raw materials. They will see an improvement in their terms of trade as the cost of raw materials decreases.

What is the impact of an increase in the cost of raw materials on developing countries?

Developing countries usually export raw materials. They will see an improvement in their terms of trade as the cost of raw materials increases.

What is the impact of an increase in the cost of raw materials on developed countries?

Developed countries usually import raw materials. They will see a deterioration of their terms of trade as the cost of raw materials increases.

What is the impact of a removal of a tariff?

improves terms of trade

What is the impact on the UK’s terms of trade if the pound appreciates?

An appreciation of the pound will make imports cheaper and exports more expensive.

A decrease in import prices and an increase in export prices will both have the impact of leading to an improvement in the terms of trade.

Impact of Inflation Rates on Terms of Trade

A low inflation rate relative to trading partners will deteriorate the terms of trade and a high inflation rate relative to trading partners will improve the terms of trade.

What does the change in patterns of trade impact?

• living standards

• competitiveness

What impact should an improvement in the terms of trade have on competitiveness?

decrease in competitiveness as exports become more expensive relative to imports.

Impact of Terms of Trade on Living Standards

An improvement in the terms of trade will increase living standards and a deterioration in the terms of trade will decrease living standards.