Global Economics – Trade, Specialization & World Equilibrium (Lecture Notes)

Logistical Announcements

• Initial sound / room issues; class moved to another room.
• Instructor verified student roster & iCollege log-ins (Neil, Sam, Lynn, Beverly, etc.)
• Quizzes 2 & 3 are open soon; serve as warm-ups for comparative-cost and specialization problems.
• Mid-term exam logistics:
  • Window to begin exam: 1 PM – 5 PM on scheduled Thursday (next week).
  • Once opened, you have $1\text{ h }30\text{–}50\text{ min}$ (exact time set in iCollege).
  • Two attempts ONLY if you take it on the scheduled day; late takers get one attempt.
  • Full in-class review on Tuesday (12:50–3:00). Attendance can be face-to-face or online.

Key Trade Concepts Reviewed

• Comparative Cost Ratio (CCR)
  • Formula: $\text{CCR}_{A,B} = \frac{\text{Opportunity Cost of Product A}}{\text{Opportunity Cost of Product B}}$
  • Used to (1) identify comparative advantage, (2) set terms of trade.
• Comparative Advantage (CA)
  • A country has CA in a good if its opportunity cost for that good is lower than its trading partner’s.
• Absolute Advantage (AA)
  • A country can produce both goods with fewer resources / lower cost than partner.
  • Determined by directly comparing CCRs; e.g., U.S. had AA in both beef & vegetables because its CCRs were uniformly lower.
• Specialization
  • Definition: devote all resources to the good in which the country has CA.
  • Operationally: choose the table/graph point with output in only one product.
• Terms of Trade (ToT)
  • A mutually beneficial exchange rate that lies between the two CCRs.
  • Must satisfy:
    $\text{CCR}<em>{\text{low}} < \text{ToT} < \text{CCR}</em>{\text{high}}$
  • Ensures each side gains relative to autarky price.
• Gains (or Losses) from Trade
  • $\text{Gain} = \text{Post-Trade Output} - \text{Pre-Trade Output}$ measured by product.
  • Positive → gain; negative → loss.

Workflow for Numerical/Table Questions

1. Receive Production-Possibility Table (PPT) – outputs for 5–6 production points.
2. Identify CA via CCR; label specialization points.
3. Fill Column 1: Output before specialization (given).
4. Fill Column 2: Output after specialization (only CA good produced).
5. Determine ToT using CCR interval.
6. Fill Column 3: Planned exports/imports based on stated demand (e.g., “Mexico wants 10 t soybeans”).
7. Fill Column 4: Output after trade (Column 2 ± Column 3).
8. Fill Column 5: Gains/Losses = Column 4 − Column 1.
9. Typical exam prompts: “What is Mexico’s output after specialization?”, “How many tons must the U.S. export?”, “Combined gains from trade?”, etc.

Worked Example 1 – Mexico (Avocado) vs. U.S. (Soybeans)

1. CCRs (derived earlier)

• Mexico: $1\text{ S} = 4\text{ A} \quad\Rightarrow\quad 1\text{ A} = \tfrac14\text{ S}$
• U.S.: $1\text{ S} = 3\text{ A} \quad\Rightarrow\quad 1\text{ A} = \tfrac13\text{ S}$

2. Comparative Advantage & Specialization

• Mexico CA → Avocado; will move to $60\text{ A}, 0\text{ S}$ (Option E).
• U.S. CA → Soybeans; will move to $0\text{ A}, 30\text{ S}$ (Option R).

3. Terms of Trade

• Interval: 3\text{ A} < 1\text{ S} < 4\text{ A}
• Agreed ToT chosen in class: $1\text{ S} = 3.5\text{ A}$

4. Stated Exchange

• Mexico desires $10\text{ S}$.
• Using ToT ⇒ must ship $10 \times 3.5 = 35\text{ A}$ to U.S.

5. Trade Table Summary

• Combined Gain: $3\text{ A}$ & $2\text{ S}$.

Worked Example 2 – Graph Method (U.S. Beef vs. Mexico Vegetables)

1. CCRs (from graph)

• Mexico: $1\text{ B} = 2\text{ V}$.
• U.S.: $1\text{ B} = 1\text{ V}$.

2. CA / Specialization

• Mexico → Vegetables (0 B, 20 V).
• U.S. → Beef (30 B, 0 V).

3. Terms of Trade (chosen)

• $1\text{ B} = 1.5\text{ V}$ (between 1 V and 2 V).

4. Mexico wants $10\text{ B}$

• Pays $10\times1.5=15\text{ V}$ to U.S.

5. Post-Trade Outputs & Gains

Demand–Supply Refresher (Domestic)

• Law of Demand: $P\uparrow \Rightarrow Q<em>d\downarrow;\; P\downarrow \Rightarrow Q</em>d\uparrow$.
• Law of Supply: $P\uparrow \Rightarrow Q<em>s\uparrow;\; P\downarrow \Rightarrow Q</em>s\downarrow$.
• Equilibrium (Domestic): $Q<em>d = Q</em>s$ at $P_e$.
• Surplus above $P<em>e$, shortage below $P</em>e$.

World Equilibrium Price & Quantity (Aluminum: U.S. vs. Canada)

Step-by-Step Logic

1. Draw domestic D & S for each country.
   • U.S. eq. price $=\$1$, quantity $=100$.
   • Canada eq. price $=\$0.75$, quantity $=100$.
2. Interpret curves for world trade:
   • Above domestic $P_e$ → export supply (surplus region).
   • Below domestic $P_e$ → import demand (shortage region).
3. Superimpose curves on single graph:
   • U.S. import-demand (down-sloping below \$1).
   • Canada export-supply (up-sloping above \$0.75).
4. World Equilibrium Price ($P_w$) where $\text{Import Demand} = \text{Export Supply}$.
   • Lies between 0.75 < Pw < 1.00 (e.g., $P</em>w \approx 0.85$).
5. World Equilibrium Quantity ($Q_w$) at intersection (read from axis).

Exam-Ready Statement

“World equilibrium price is determined at the price where international (import) demand equals international (export) supply.”

Key Definitions (Exam Flash-Cards)

• International / World Demand: quantity domestic agents import at each price.
• International / World Supply: quantity domestic agents export at each price.
• Export Supply Curve: upward-sloping portion of domestic supply above $P_e$.
• Import Demand Curve: downward-sloping portion of domestic demand below $P_e$.
• Market Equilibrium (World): $P<em>w, Q</em>w$ where import demand = export supply.

Study & Exam Tips

• Re-draw the PPT and graph examples until flow is automatic.
• Remember table columns & arithmetic shortcuts:
  • Output After Trade = After Spec. ± Trade Flow.
  • Gain = After Trade − Before Spec.
• Practice ToT selection—must strictly fall between CCRs.
• Be able to sketch and label world-price diagrams; know which segments are “export” vs. “import.”
• Bring calculator; exam is numerical.
• Take quizzes 2 & 3—they mirror table/graph mechanics.

Ethical & Practical Implications Discussed

• Fair ToT ensures both nations gain; if ToT equals one nation’s CCR, the other has no incentive.
• Specialization can increase total output but creates sectoral winners/losers; exam may ask for combined gains.
• Understanding price formation aids real-world trade-policy evaluation (tariffs shift supply curve, quotas cap Q, etc.).

Connections to Earlier Material

• Uses Chapter 3 demand/supply graphs, Chapter 2 scarcity & PPTs.
• Builds toward next units on tariffs, quotas, and protectionism.

Upcoming Schedule Recap

• Tuesday: full review session (12:50 PM – end of class).
• Thursday: Mid-term exam (open 1 – 5 PM; timed once opened).
• Post-exam: new material begins (tariffs, quotas, etc.).