Unit 5: International Economy

1. International trade allows a country to concentrate on what it does best and trade for what it can’t or doesn’t produce. In effect, trade increases the total amount of output produced in the world – meaning there’s more output per person, so overall living standards rise. Unit 5: International Economy

2. Vocabulary Imports Exports • -- goods and services bought from other nations • - goods/services that a nation produces and then sells to other nations • -- country’s ability to produce more of a given product than another country • -- country’s ability to produce a given product relatively more efficiently; production at lower opportunity cost Absolute Advantage Comparative Advantage

3. To explain comparative advantage, use the example of the lawyer who hires an assistant to do her word processing even though the lawyer can word process faster than the assistant. Suppose the lawyer earns 10 times more per hour than her assistant, yet she can word process twice as fast. Who should do the word processing? Clearly the assistant because the opportunity cost is higher for the lawyer, who can earn 10 times as much preparing legal briefs. In economic terms, the lawyer has a comparative advantage in practicing law, and the assistant has a comparative advantage in word processing, even though the lawyer has an absolute advantage at doing both. B. Market Advantages: Absoluteadvantage vs. Comparative advantage i. Absolute Advantage who can produce more with less resources Who has the absolute advantage in: Rice: Tea: China Russia

4. ii. Comparative Advantage - occurs when a country focuses on producing the good that has the lowest opportunity cost. From Economics for Dummies: You can most easily understand the logic behind the comparative advantage argument by thinking in terms of people rather than countries. Hi! I’m Adam, a bike mechanic. Like my sister, I can also file patents. However, Heather can file patents AND repair bikes faster than I can. I’m Heather an expert patent lawyer. I am also very good at repairing bicycles.

5. Until English economist David Ricardo developed comparative advantage, people used to believe that because Heather is better than Adam at repairing bikes, not only should she work hard as a patent attorney filing lots of patents, but she should also fix bikes. He pointed out that Heather should never fix bikes even if she is the most efficient bike repairperson around. Ricardo realized that the world is better off if each person (and country) specializes. Since Heather has absolute advantage in filing patents and repairing bikes, we can use comparative advantage to determine who should do what. The key insight of comparative advantage is that the true cost is how much production of one good you have to give up to produce a unit of the other good. So, who should produce bike repairs??

6. Until English economist David Ricardo developed comparative advantage, people used to believe that because Heather is better than Adam at repairing bikes, not only should she work hard as a patent attorney filing lots of patents, but she should also fix bikes. He pointed out that Heather should never fix bikes even if she is the most efficient bike repairperson around. Ricardo realized that the world is better off if each person (and country) specializes. Who should produce bike repairs?? 1. What is Heather’s opportunity cost of filing patents if she only repairs bikes? (meaning how many patents does Heather give up filing when she repairs 1 bike?) 2. What is Adam’s opportunity cost of filing patents if he only repairs bikes? 3. Who has the lowest opportunity costs of filing patents? 4. Who should repair bikes? Who should file patents? 12 repairs = 6 patents 12 repairs = 6 patents 12 12 1 repair = .5 patents 10 repairs = 2 patents 10 10 10 repairs = 2 patents 1 repair = .2 patents Adam Heather Adam

7. Absolute and Comparative Advantage Between Countries But who has Comparative Advantage? Wheat: Fruit: Who has absolute advantage in: Wheat: Fruit: U.S. U.S. U.S. Chile To determine who has the comparative advantage in producing fruit, determine which country has the lowest opportunity cost of wheat. Chile Wheat/Fruit 1/50 = .02 U.S. Wheat/Fruit 1,000/100 = 10 Who should produce fruit? To determine who has the comparative advantage in producing wheat, determine which country has the lowest opportunity cost of fruit. Chile Fruit/Wheat 50/1 = 50 U.S. Fruit/Wheat 100/1,000 = .1 Who should produce wheat? Chile U.S.

8. Comparative and Absolute Advantage What country has an absolute advantage of food and clothing? Which country has a comparative advantage in food production? (Hint: Find which country has the lowest OC in clothing) What country has a comparative advantage in clothing output? Country A Country A 3/6 = .5 Country A: Clothing/Food = Country B: (you find the ratio) C/F = 2/1 = 2 Country B

9. What country has the absolute advantage in Pens: _________________ Markers: _______________ Which country has the comparative advantage in Pens: __________ Markers: ___________ U.S. U.S. Write this down China LOC Markers China: M/P = 35/50 = ______ .7 .8 US: M/P = 60/75 = ______ U.S. LOC Pens 1.43 China: P/M = 50/35 = ______ 1.25 US: P/M = 75/60 = ______

10. What country has the absolute advantage in Carrots: _________________ Potatoes: _______________ Which country has the comparative advantage in Carrots: _________________ Potatoes: ______________ LOC Potatoes US: P/C = 52/50 = ______ UK: P/C = 85/70 = ______ LOC Carrots US: C/P = 50/52 = ______ UK: C/P = 70/85 = ______

11. What country has the absolute advantage in Computers: _________________ Printers: _______________ Which country has the comparative advantage in Computers: _______________ Printers: ______________ LOC Printers Mexico: P/C = 60/35 = ______ Russia: P/C = 90/105= ______ LOC Computers Mexico: C/P = 35/60 = ______ Russia: C/P = 105/90 = ______

12. REVIEW QUESTIONS

16. 3. Types of Restrictions a. Quota – limit on number of imports lowers competition domestic (U.S.) companies can raise overall prices ex - limits on Canadian lumber b. Tariffs – special taxes on imports raise prices of foreign goods trade unions (advocates) protect domestic jobs other countries may retaliate U.S. exports more expensive

17. c. Embargoes – refusing to trade ex - Middle East oil to U.S. (1973), U.S. grain to USSR (1979) d. Standards – specific guidelines on goods must meet safety and health guidelines more standards = higher costs protects consumers ex - Chinese toy recall (2007), Toyota recall (2008) e. Subsidies – paymentfrom the government protects domestic firms redistributes income from tax $ helps compete against foreign firms requires higher taxes ex - public universities, vaccinations

18. B. Costs and Benefit of Trade Barriers1. Benefits - domestic businesses protect domestic jobs standards of safety helps developing nations (free trade would make it fail) 2. Costs - limits foreign goods harder for foreign businesses to sellhigher priced foreign goodsfewerchoices for consumers domestic products rise in price too

19. REVIEW QUESTIONS 1. The purpose of a tariff when used for protectionism is toa. increase the number of foreign goods imported into the countryb. make an imported good more expensive than its domestically produced counterpartc. raise revenues to pay subsidies to domestic producersd. stall importation while perishable items rot.

20. REVIEW QUESTIONS:

23. Exchange Charts Lee went to Japan on vacation and took $300 spending money. When he exchanged it for yen, he received _____________ yen. $300 x 114.69 = While in Japan, Lee found a CD of a Japanese band for 2500 yen. He knows he can purchase the same CD back home in the US for $20. Should he purchase the CD in Japan or wait until he gets home? To find out how much he would get back in US dollars: 2,500 x .0087 =

24. How much is each of the following worth in US dollars? 1 British Pound = _______ 1 Mexican Peso = _____________ 1 Danish Krone = ____________ 1 Euro = _______________ $2.06 In Europe, $1.00 = 1.44 euros. How much is one US dollar worth in each of these countries? Mexico ___________ Japan _____________ Denmark ____________ Britain ______________ 10.71 pesos

25. Suppose you purchased each item below. Find the price in US dollars. A meal in India for 700 rupees ________________________________ A painting in London for 1,250 Euros ___________________________ A belt in Chile for 1,250 pesos ________________________________ A shirt in Canada for 40 dollars ________________________________ 700 x .02 = $14.00

26. VI. Spectrum of Economic SystemsA. Capitalism1. Privately owned factors of production and businesses 2. Supply & Demanddetermine Price and What, How &For Whom to produce 3. Profits are higher 4. Advantages: efficiencyfreedomprofit motivesconsumer satisfaction 5. Disadvantages: everyone's needs not met produces only for those who have demand poorleft behind

27. B. Socialism1. Government controls some resources2. best interest of society3. advantages: addresses the FOR WHOM,share benefits, people elect officials4. disadvantages: lessefficient, higher cost of production, higher taxesC. Communism1. property is collectively owned2. consumption based on need3. centralplanning4. no choice on career5. gov'tdecides6. Disadvantages: lost freedom; little say; no incentives; lack of consumergoods; inefficiency

28. All of the following are advantages of a capitalistic society EXCEPTa. everyone's needs metb. freedom of choicec. profitsd. decentralization

29. What type of economic system has shared benefits from the gov't while at the same time has some resources privately owned?a. communismb. capitalismc. socialism