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trade
voluntary exchange of goods
why we trade
the country gets higher quality products, lower prices, creating relationships and access to resource
country-based theories
theories focused on the individual country, price and quantity are important, inter-industry
inter-industry
the exchange of goods that are from entirely different sectors of an economy (ex: backpacks and water bottles)
firm-based theories
theories that focus on the firm’s role in promoting international trade, price is not important but the brand name, intra-industry based
intra-industry
when a country exports and imports goods in the same industry (ex: cars and car parts)
mercantilism
trade theory that measures a country’s wealth by how much gold and silver they have and encourages exports but not imports
absolute advantage
trade theory by adam smith, which states that a country should specialize in producing goods it can produce more efficiently than others, leading to increased overall economic efficiency
comparative advantage
trade theory by david ricardo explaining that when a country has absolute advantage in two things, it should focus on whatever it is relatively good at
heckscher-ohlin theory
theory that suggests that a country will have comparative advantage in a certain product if it has abundant factors of production
Leontief paradox
an observation that contradicts heckscher-ohlin’s theory
linder’s country similarity theory
theory of intra-industry trade suggesting that most trade in manufactured goods should happen between countries with similar per capita incomes
new trade theory
theory created by Helpman, Krugman, and Lancaster suggesting that the more you produce, the less it will cost (economies of scale) (ex: Procter and Gamble)
Foreign Portfolio Investment
passive holdings of securities, lending someone money from another country
foreign direct investments
acquisition of foreign assets to control them (ex: opening stores and offices)
protectionism
policy that affects the ability for foreign producers to compete in your home market and limits/enhances your company’s ability to sell abroad or import
tariffs
direct price influencer, also known as duties
specific duty
assessing a tariff on per unit basis (ex: 1$ per clicker)
ad valorem
assessing a tariff as a percentage of the item’s value (ex: 10% per clicker)
compound duty
mix of specific duty and ad valorem
subsidies
direct assistance to companies to make them more competitive, giving free money (most common ways to influence price)
quotas
nontariff barriers that directly influence the quantity of imports
direct quota
home currency price per unit of foreign currency (ex: how much CAD for US)
indirect quote
foreign currency price of the home currency (ex: for one CAD, how much US)
bid rate
price at which an FX dealer is willing to buy
ask rate
price at which an FX dealer is willing sell currency
spread
difference between bid and ask rate
arbitrage
making a riskless profit by exploiting price differences
spot rates
price of foreign exchange to be delivered immediately
forward rates
price negotiated today for delivery at a future date
eurocurrency
economic rationale to intervene trade
gold standard
first historical period, countries set their value for their currency in terms of gold, exchange rates were fixed
inter-wars years
second historical period, started because of interrupted trade flows and free movement of gold, currencies were fluctuating, after WWII → US was the only major trading currency that was convertible
Bretton Woods
where the international monetary system was created after war, US is the based monetary system, could only convert to gold through US
fixed rates era
after the creation of IMF, caused by the lack of confidence in the US’ ability to convert dollars to gold so Nixon suspended purchases of gold
floating rates era
after the fixed rates era, exchange rates became more volatile and less predictable
emerging era
last era, growth in emerging market economies and currencies
hard pegs
country that has given up their sovereignty over monetary policy (ex: dollarization)
dollarization
when a country begins to recognize the U.S. dollar as a medium of exchange or legal tender alongside or in place of its domestic currency
soft pegs
fixed exchange rates to another currency
crawling pegs
when currency is adjusted in small amounts at a fixed rate, purpose is to provide stability
free floating
market driven, allowed to set the exchange rate without government intervention
managed float
market driven, allowed to set the exchange rate with government intervention
cross rates
exchange between 2 currencies calculated using a 3rd party (cannot be used to calculate trade)
exchange rate stability
a part of the impossible trinity, a managed or fixed rate
monetary independence
a part of the impossible trinity, an independent monetary policy
full financial integration
a part of the impossible trinity, the free movement of capital
free-floating regime
market where currency is free to float up and down, has independent monetary policy and free movements of capital
currency board
market where they fix the value of local currency to another currency (ex: dollarizatio), no independent monetary policy
current account
account with exports, imports, income from FDI or FPI
capital account
account with related transfers to the purchase and sale of real estate
financial account
FDI, FPI, purchase bonds or shares from other countries
reserve balance
account of change in official monetary reserves (for countries with fixed rates)
capital mobility
degree to which capital moves freely cross-border
capital control
restriction that limits or alters the rate or direction of capital movement into or out of a country
capital flight
rapid outflow (people taking out money) of capital because of people’s fear of domestic political and economic conditions
law of one price
‘all else equal, a product’s price should be the same in all markets’
fisher effect
effect stating that nominal rates are equal to the real rate + inflation rate
