ECON 205 1st Edition Lecture 5Outline of Last Lecture - Market Allocation of Resources- Customer’s Willingness to Pay- Free Market vs. Government Intervention- Costs of TaxationOutline of Current Lecture - What determines how much of a good is exported or imported- Who gains and losses from trade- What is the effect of tariffsCurrent LectureComparative Advantage- Comparative advantage- country produces a good at lower opportunity costs than other nations- Pw – world price of a good, the price that prevails in the world market- Pd - domestic price of a good without trade- If Pd < Pwo The nation has a comparative advantageo Under free trade, the country should/will export this good- Small economies are price takers in world marketso Actions have no real impact on Pw - When small economy engages in free trade, Pw is the only relevant priceo No seller accepts less than Pwo No buyer pays more than PwPd < PwPd > PwDirection of trade exports ImportsConsumer Surplus Falls RisesProducer Surplus Rises FallsTotal Surplus Rises RisesOverall: The gains of trade exceed the lossesBenefits of International Trade- Consumers enjoy increased variety of goods- Producers sell to a larger marketo May achieve lower costs by producing on a largerscale (in mass)- Foreign competition may decrease the market power of domestic firmso Causes an increase in total welfare- Increases the flow of ideas and facilitates the spread of technology around the worldOpposition to Trade- Winners do not compensate for losers- Losses often highly concentrated and harshly felt among small groups- Gains often spread thinly over large groupsTariffs- Tariff- tax on imports- Free trade:o CS= A + B + C+ D + E + Fo PS= Go Total Surplus= CS + PS- With Tariff:o CS= A + Bo PS= C + Go Government Revenue= Eo Total= A + B + C + E + Go D is deadweight loss fromoverproductiono F is deadweight loss from underconsumptionImport Quotas- Import Quota- quantitative limit on import of goods- Has the same effect as a tariffArguments for Restricting Trade1. Destroys jobs in industries that compete with importsa. Economist’s answer: look to data to confirm whether an increase in imports positively correlates with an increase in unemploymentb. Economist’s answer: job losses from imports are offset by job gains in export industries2. National Security: an industry vital to national security should be protected from foreign competition to prevent overdependence on imports3. Infant Industry: temporary protection of a new industry is needed until it is mature and can compete with foreign firmsa. Economist’s answer: difficult for the government to determine which industries will eventually be competitiveb. Economist’s answer: industry will be profitable in the long run anyway4. Unfair Competition: producers argue that foreign competitors have an unfair advantage (for example, a lack of child labor laws, which drives down production costs)a. Economist’s answer: our citizens can import good extra-cheap nowb. Economist’s answer: gains to consumers will exceed the losses to our producers5. Protection-as-bargaining-chip: for example, the US can threaten to limit imports of French wine if French does not lift quotas on American beefa. Economist’s answer: If France says no, then US must limit imports of wine (hurts consumers) or not restrict wine imports (hurts US