Day 8 - IA3: ToT and IB1: Efficiency

Dm = the demand for imports by the buying country
Sx = supply of exports by the selling country

Pa = autarky price

    At any given time, only Dm OR Sx will matter:
        Pa foreign < Pa home => draw Dm
        Pa foreign > Pa home => draw Sx

    To graph an international market:
    Step 1: Plot each country's autarky price (Pa) on the vertical axis.
    Step 2: Draw Dm for the high-price country and Sx for the low-price country

Global prices get set in international markets
Sx and Dm in the international market determine the equilibrium free-trade price and quantity traded.

Note: Trade tends to equalize prices and costs across countries.
Free-trade price ends up between the initial autarky prices

When to use the trade market instead instead of the domestic market:
When working with large countries

    What the trade market accomplishes:
        Shows where Pf ends up
        It will always end up between Pa and Pa'

For any Q traded, the international market shows how high prices will be in each country.
In world beer market worksheet:

Qx & Qm =	Pus	Pg
0	$6.00	3.00
3	5.00	3.50
6	4.00	4.00
12	2.00	5.00

Prices get equalized only if the trade volume reaches the international market free-trade equilibrium

Recap:

Note1: Once you find the equilibrium free-trade price, you can carry that back to each domestic market to domestic-market outcomes, such as quantities produced and consumed under free trade.

Note2: Any change in supply or demand conditions in either domestic market spill over into the trade market and change the equilibrium free-trade price and quantity.

    Keep in mind:
    (1) Domestic autarky prices set the starting points for trade-market Dm and Sx
    (2) Use notation D and S for domestic market and Dm and Sx for trade market

We use domestic market whenever we can--we see results more directly. Works just fine for small countries.
We use trade market only in large country cases.

3. Applications of supply and demand trade geometry

Economic sanctions aim to impose pressure on target countries by reducing their gains from trade.
the "sender" country imposes sanctions on the "target" country

Sanctions are more likely to succeed if they impose a small cost on the sender and a high cost on the target.
the costs of sanctions rise the more difficult it is to find substitute markets

Suppose the US is considering economic sanctions--which do you think would likely be more effective: sanctions on an item we export or an import we import?
export sanctions: we are likely to have more market power

In the global oil market, add Dm,China onto Dm to get the total global Dm w/China
and add Sx,Iran onto Sx to get the total global Sx w/Iran

Point f = the free trade equilibrium with no embargo.
At Pf, Qx,Iran exceeds Qm,China, so Iran depends on the rest of the world to sell some of its oil. You can see that in both panels.

Point 1 = the embargo equilibrium if all importers participate.
At point 1, Iran would export nothing and would lose all of its gains from trade.

Point 2 in the right-hand panel = the embargo equilibrium for the rest of the world if China does not participate.

    Point 2 in the left-hand panel = the embargo equilibrium for China and Iran. Iran can export only to China, so China gets more oil at a lower price.
    China's gains from trade rise by ab
    Iran's gains from trade fall by abc.

In the global oil market, again add Dm,China onto Dm to get the total global Dm w/China
and add Sx,Iran onto Sx to get the total global Sx w/Iran

Point f = the free trade equilibrium with no embargo.
At Pf, Qm,China exceeds Qx,Iran, so even if China were to buy all of Iran's oil exports at the free-trade price, China would still depend on the rest of the world for some of its oil imports. You can see that in both panels.

Point 1 = the embargo equilibrium if all importers participate.
At point 1, Iran would export nothing and would lose all of its gains from trade.

Point 2 in the right-hand panel = the embargo equilibrium if China does not participate. It is the same as the point f.
The only effect of the embargo is to shuffle suppliers around so that China buys all of Iran's oil. Iran loses none of its free-trade gains, and the oil import embargo has no effect.

    Which case better reflects the real world? Here is the info for 2010:
    Iran oil exports: 2.5m bbl/day
    China oil imports: 6.0m bbl/day

    You manage a government's R&D budget. You have enough funding to finance only one of two competing innovations: one is for an export industry, the other is for a import-competing industry. Which would you fund?

Terms of trade: the price ratios at which a country's exports and imports exchange:
    In practice, price indexes are used:
     ToT = (Px/Pm) x 100
    Price of what you sell compared to what you buy.

National welfare is more certain to increase when technological improvements occur in your import industries than in your export industries.

Immiserizing growth: Occurs when higher output makes a country worse off
--possible for technological change in a country's export industry

Which innovation would you be more inclined to share with the ROW?
You get even greater gains if you share technological gains in your import industries with your trading partners.