Chapter 19: International Trades

Analyzing Trade with Supply and Demand

  • The difference between domestic demand and domestic supply is made up by imports.

Definitions

  • Protectionism: The economic policy of restraining trade through quotas, tariffs, or other regulations that burden foreign producers but not domestic producers.

  • Tariff: A tax on imports.

  • Quota: Restrictions on the quantity of goods that can be imported.

Tariffs

  • Effects of a Tariff

    • Domestic suppliers respond to the higher price by increasing production.

    • Domestic consumers respond to the higher price by buying less.

    • Imports decrease.

    • Government revenue = tariff amount times the quantity of imports.

The Costs of Protectionism

  • The U.S. government restricts sugar imports.

  • As a result, U.S. consumers pay 50%–100% more than the world price.

  • Analysis assumptions:

    • The tariff is so high that it eliminates all sugar imports.

    • If we had complete free trade, all sugar would be imported.

  • The total cost of the sugar tariff to U.S. citizens is: 1.1 billion of wasted resources + 0.22 billion lost gains from trade = 1.32 billion total cost

  • Together, the wasted resources and lost gains from trade represent the deadweight loss from trade restrictions.

International Trade and Jobs

  • Trade and jobs

    • When U.S. tariffs are reduced, the industry contracts and jobs are lost.

    • Lower prices mean U.S. consumers spend more on other goods.

    • Increased consumer spending leads to more jobs in other industries.

    • Foreign producers use the U.S. currency to purchase U.S. goods, increasing exports.

    • We pay for imports with exports.

    • Trade moves jobs from import-competing industries to export industries.

    • Trade restrictions save visible jobs, but they destroy jobs that are harder to see.

The Washing Machine Tariffs

  • In January 2018, tariffs on washing machines began under the Trump administration.

  • The tariffs decreased imports by 1.2 million units to approximately 2.6 million washing machines per year and raised prices of washers and dryers by 12%.

  • About 1,800 new jobs were created in the washer and dryer industry at the expense of jobs lost in U.S. export industries.

  • The total cost to consumers was approximately 1.56 billion per year or 821,000 per job created.

The Economics and Politics of a Trade War

  • Protectionism can lead to the possibility of a trade war.

  • When U.S. tariffs bring foreign tariffs in retaliation, both U.S. consumers and U.S. producers are likely to suffer a net loss.

  • In response to U.S. tariffs, China retaliated on products that it could buy elsewhere, such as soybeans and lobster.

  • The Trump administration spent more than 28 billion to bail out impacted farmers, while the U.S. lobster industry experienced a 70% decline in exports.

  • Trade wars are easy to lose.

The U.S. Politics of Protectionism

  • The costs of protectionism are spread over millions of consumers, while the benefits flow to a small number of producers.

    • The cost to each consumer is small, but the gain to each producer is large.

  • The United States has a comparative advantage in production by skilled workers.

    • Increased international trade increases the demand for skilled workers.

    • Increased protectionism increases the demand for unskilled or less skilled workers.

Arguments Against International Trade

  • It’s wrong to trade with countries that use child labor.

  • We need to keep certain industries at home for national security.

  • We can increase U.S. well-being with strategic trade protectionism.

Child Labor

  • By making a country poorer, trade restrictions may increase the number of child workers.

  • Studies show that more openness to trade increases income and reduces child labor.

  • The real cause of child labor is poverty, not trade.

  • Child labor decreases with increases in GDP per capita.

Trade and National Security

  • Protection may be justified if a good is vital for national security.

    • Example: Domestic vaccine industry

  • This creates an incentive for every domestic producer to claim its product is vital for national security.

Strategic Trade Protection

  • It is possible for a country to use tariffs and quotas to get a larger share of the gains from trade.

  • The government helps domestic firms act like a cartel when they sell to international buyers.

  • This is done by limiting or taxing exports.

  • This strategy can work only if international buyers have few substitutes for the domestic good.

Takeaway

  • Demand and supply curves can be used to analyze trade and the costs of trade protectionism.

  • Restrictions on trade:

    • Waste resources by transferring production from low-cost foreign producers to high-cost domestic producers

    • Prevent domestic consumers from exploiting gains from trade, creating deadweight loss

  • Domestic producers can benefit from trade restrictions, but domestic consumers lose more than the producers gain.

  • Trade restrictions sometimes persist because:

    • The benefits are concentrated on small groups who lobby for protection.

    • The costs are spread over millions of consumers and are small for each individual.

  • The difference between domestic demand and domestic supply is made up by imports, which play a crucial role in balancing the market and ensuring that consumer needs are met when local production falls short. Imports can serve as a stabilizing factor in times of domestic shortages or increased consumer demand.

Definitions

  • Protectionism: Protectionism is the economic policy of restraining trade through measures such as quotas, tariffs, and subsidies that are implemented to protect domestic industries from foreign competition. This policy aims to encourage local production by increasing the cost of imported goods, thereby making domestic products more appealing to consumers.

  • Tariff: A tariff is a tax levied on imported goods, which raises the price of these goods and is intended to protect domestic producers by making their goods cheaper in comparison. Tariffs can lead to increased government revenue but can also result in higher prices for consumers.

  • Quota: A quota is a government-imposed limitation on the quantity of a product that can be imported into a country, which is designed to protect domestic industries by restricting foreign competition. Quotas can lead to scarcity of certain goods, resulting in higher prices and limited consumer choices.

Tariffs

  • Effects of a Tariff: Domestic suppliers respond to the higher prices caused by tariffs by increasing production to capitalize on the lack of competition. However, domestic consumers are generally adversely affected, as they may reduce their consumption due to the increased prices. This creates a decrease in imports, resulting in a shift in the supply and demand curve and affecting overall consumer welfare. Government revenue generated from tariffs equals the tariff amount multiplied by the quantity of imports, which can be reinvested into public services or used to offset trade deficits.

The Costs of Protectionism

  • The U.S. government imposes strict controls on sugar imports, resulting in U.S. consumers paying significantly higher prices—often 50%–100% more than the global market price. Analysis reveals that if the tariff were eliminated, complete free trade would allow for an influx of sugar imports, leading to lower consumer prices and increased competition.

  • The total economic cost of the sugar tariff to U.S. citizens is significant; it comprises approximately 1.1 billion in wasted resources stemming from inefficient domestic production and 0.22 billion in lost gains from trade. This totals 1.32 billion in costs, representing a deadweight loss resulting from trade restrictions that hinders overall economic efficiency and consumer welfare.

International Trade and Jobs

  • Trade and jobs are intricately linked; when tariffs on imports decrease, industries that were once protected may downsize, resulting in job losses. However, lower prices for consumers can lead to increased spending on other goods and services, which can stimulate job creation in other sectors of the economy.

  • Furthermore, foreign producers utilize U.S. currency to make purchases of U.S. goods, leading to a reciprocal increase in exports. This dynamic creates a cycle where trade moves jobs from import-competing sectors to those focused on exports, highlighting the complexities of protectionism versus free trade. While trade restrictions may preserve visible jobs in certain sectors, they may simultaneously destroy jobs in less apparent areas, creating a net economic imbalance.

The Washing Machine Tariffs

  • In January 2018, under the Trump administration, tariffs on washing machines were implemented, resulting in a decline in imports by 1.2 million units, bringing the annual total to around 2.6 million machines. This protective measure resulted in a 12% increase in prices for washers and dryers, raising consumer costs substantially. Despite the creation of approximately 1,800 new jobs in the washing machine industry, this came at the cost of jobs lost in U.S. export-focused industries. The overall financial burden placed on consumers due to the tariffs totals around 1.56 billion annually, translating to approximately 821,000 for each job created in the protected sector.

The Economics and Politics of a Trade War

  • Engaging in protectionism raises the stakes for potential trade wars, where retaliatory tariffs imposed by foreign countries can lead to widespread harm to both U.S. consumers and producers. The U.S. faced backlash from China, which targeted products it could source elsewhere, such as soybeans and lobster, in retaliation for U.S. tariffs. This has led to significant financial losses for U.S. farmers, prompting the Trump administration to allocate over 28 billion for bailouts of affected agricultural sectors. Such occurrences demonstrate that trade wars can have escalating effects and are difficult to win, with long-lasting repercussions for all involved.

The U.S. Politics of Protectionism

  • The costs associated with protectionism disproportionately impact millions of consumers, each bearing a small fraction of the overall costs. In contrast, benefits accrue largely to a limited number of producers who can profit from the absence of competition. This discrepancy introduces a political dynamic whereby those who benefit from protective policies are often vested in lobbying and advocating for continued protection.

  • The U.S. maintains a comparative advantage in producing goods requiring skilled labor; increased international trade amplifies the demand for skilled workers. Conversely, as protectionism escalates, it tends to favor less skilled labor markets, heightening disparities in job opportunities across various sectors of the economy.

Arguments Against International Trade

  • Critics argue that engaging in trade with nations employing child labor is unethical and that strategic trade barriers must be upheld to maintain certain industries critical for national security. Furthermore, proponents of protectionism contend that it is a means to enhance national welfare by safeguarding local economic interests and jobs.

Child Labor

  • It is important to consider that trade restrictions, while ostensibly aimed at curbing practices like child labor, may inadvertently worsen economic conditions, leading to increased poverty. Research indicates that greater openness to trade and economic engagement can foster income growth and subsequently reduce reliance on child labor. The primary driver of child labor remains poverty, not international trade, with evidence showing that as GDP per capita rises, rates of child labor decline.

Trade and National Security

  • Protectionist measures can be justified on the grounds of national security, particularly concerning goods deemed essential for the nation’s safety, like vaccines. This rationale can lead to a scenario where each producer claims its product is crucial to national security, straining the legitimacy of such claims and creating inefficiencies in trade practices.

Strategic Trade Protection

  • Utilizing tariffs and quotas strategically can allow a country to carve out a more favorable position in international trade. When governments assist domestic firms in achieving cartel-like power in international markets, they can significantly influence pricing. However, this approach is only effective when foreign buyers have limited alternatives to domestic products, emphasizing the need for careful economic strategies.

Takeaway

  • Analyzing demand and supply curves is vital in understanding trade dynamics and the implications of protectionist measures. Trade restrictions often result in inefficient resource allocation, transferring production from cost-effective foreign producers to more expensive domestic firms, leading to broader economic ramifications.

  • Protectionist policies can yield short-term benefits for domestic producers, but they impose greater losses on consumers, counteracting the intended economic benefits. Trade restrictions often persist due to the lobbying efforts of concentrated interest groups benefiting from protection, while the diffuse costs are borne by an excessively large group of consumers, each feeling the burden relatively lightly but collectively significant.

Imports refer to goods and services brought into a country from abroad for sale, while exports represent the goods and services produced domestically and sold to foreign markets. In the context of trade, imports and exports play crucial roles in balancing domestic demand and supply, ensuring that consumer needs are met when local production falls short. Imports can serve as a stabilizing factor, especially during periods of domestic shortages or increased consumer demand.

Comparative advantage refers to the ability of a country or individual to produce a particular good or service at a lower opportunity cost than another entity. This concept is essential in international trade, as it explains how nations can benefit from specializing in the production of goods where they have a comparative advantage and then trading these goods with others. By focusing on producing what they do best, countries can increase overall efficiency and maximize their gains from trade by exchanging surplus output with one another.

Opportunity cost refers to the value of the next best alternative that is foregone when making a decision. In economic terms, it represents the benefits that could have been received if the resources (such as time, money, or effort) were allocated to the next best use instead of the chosen option. Understanding opportunity costs is crucial for evaluating choices and ensuring efficient resource allocation, as it highlights the trade-offs involved in any decision-making process.

Opportunity cost refers to the value of the next best alternative that is foregone when making a decision. In economic terms, it represents the benefits that could have been received if the resources (such as time, money, or effort) were allocated to the next best use instead of the chosen option. Understanding opportunity costs is crucial for evaluating choices and ensuring efficient resource allocation, as it highlights the trade-offs involved in any decision-making process.

The inelastic side of the market refers to a situation where the quantity demanded or supplied of a good or service does not significantly change in response to price changes. In other words, consumers or producers are relatively unresponsive to price fluctuations. This can occur with essential goods or services that people will continue to purchase regardless of price changes, such as medication or basic food items. On the demand side, for example, this indicates that even if prices increase, the quantity demanded will remain relatively stable. Similarly, on the supply side, producers may maintain output levels even when prices fall, as they may have fixed costs, contracts, or a necessity to keep production steady regardless of market fluctuations. Inelasticity is typically characterized by a price elasticity of demand or supply less than one, indicating that changes in price lead to proportionately smaller changes in quantity demanded or supplied.

Deadweight refers to a loss of economic efficiency that occurs when the equilibrium outcome is not achieved. It typically arises in the context of market inefficiencies, such as taxes, subsidies, or externalities, where the allocation of resources is not optimal. This loss represents the foregone surplus that would have been realized by consumers and producers if the market were functioning effectively without distortions, resulting in a net loss to society. Deadweight loss can be depicted using graphs, showing the decrease in consumer and producer surplus due to these inefficiencies.

When the domestic market price is above the world market price, it typically indicates a situation of protectionism or market distortion. In this case, domestic producers benefit from the higher prices because they can sell their goods at a premium in their local market compared to what they could receive internationally. However, this disparity can lead to several consequences:

  • Increased Domestic Production: Domestic suppliers are incentivized to produce more, as they can charge higher prices.

  • Higher Consumer Prices: Consumers face higher prices compared to the world market, reducing their purchasing power.

  • Reduced Imports: The high domestic prices discourage imports, which may result in shortages if domestic production cannot meet consumer demand.

  • Deadweight Loss: Economic inefficiency occurs as resources are misallocated and total surplus in the economy decreases.
    Overall, a domestic market price that exceeds the world market price can hinder consumer access to affordable goods and create inefficiencies in the economy, leading to a potential deadweight loss.