Skip to main content

4.1.4 Terms of trade

Terms of trade 

An index number which shows value of country's exports relative to imports. 

 In absolute/comparative advantage theory refers to the barter exchange rate that two trading partners exchanged their goods at. Improvement in ToT for one country means their exports are valued at more than the other's. 

 A nation's living standards improve if its ToT improve because it is able to consume more imports for the work it puts into producing its exports. 

Terms of trade = index of export prices/index of import prices x 100  

The lower the terms of trade, the higher the price competitiveness of the country. 

Price competitiveness can be measured in these terms. 

Factors influencing a country's terms of trade 

Factors affecting the price of a country's exports (same as factors influencing price competitiveness) 

e.g productivity, unit labour costs, NMW, etc. 

 Factors affecting price of country's imports 
Prebisch-Singer hypothesis 

As the YED of primary products is more inelastic than that of manufactured goods, as world incomes rise, developing countries will be able to buy fewer imports with the revenue from their exports, leaving them worse off. 

 Developing countries terms of trade decline. 

 Assuming that developing countries produce primary products (e.g Brazil produces coffee, Zambia produces copper) 

 e.g though world demand for coffee rises and world price for coffee rises, Brazil is able to afford fewer and fewer manufactured goods over time. 

 Eval: 

 Not all primary products are YED inelastic (e.g oil, asparagus, blueberries) If countries specialise in these primary products they will not experience declining terms of trade. 

 In practice this PP prices haven't fallen by much relative to manufactured good prices. Zambia saw growth rates of over 5% over the last decade due to price of copper on world markets. 

 Supply curves of manufactured goods often shift out due to innovation, so prices fall. 

 PES is often more inelastic for primary products so as demand shifts out, prices rise more. 

 YED may not actually be inelastic for a primary products - much of world income increases are in developing countries, where initially demand for primary goods would rise more than demand for manufactured goods. 

Impact of changes in a country's terms of trade  

Declining terms of trade can mean declining living standards as economy must put out more in exports to get a given no. of imports. 

 But if you export more, your trade balance and BoP moves towards a surplus, and this can be good for output and employment. 

 you have to consider the elasticities of imports and exports in eval. 
Labels:

Comments

Post a Comment

Popular posts from this blog

Output gaps and the business cycle

Output gaps and the business cycle The fluctuation of real GDP around an underlying trend is a phenomenon known as the business cycle.  Output gap  - difference between the actual output of an economy and its potential output.  There are two types of output gap, trend and  potential.  Trend growth is the estimated rate of growth of an economy.  Trend output gaps:  Business cycle diagram A negative trend output gap is when real GDP is below trend GDP. The economy is producing below its trend.  e.g If real GDP is £1.8 trillion and trend GDP is £2 trillion then the negative output gap is £0.2 trillion.  Here the economy is in a bust  period. This is characterised by an expansion in GDP, high employment and high confidence. Price levels often rise, meaning inflation occurs.  A positive trend output gap is when real GDP is above trend GDP.  Here the economy is in a recession  (bust). This is characterised by a contraction in GDP, high unemployment and lo
Post a Comment
Read more

3.1.3 Demergers

Demergers   A demerger is the breaking up of a firm into separate firms.  e.g Sports Direct selling off Dunlop in 2016. PepsiCo splitting off foods businesses (KFC, Taco Bell, etc.) into a separate corporation, Yum Brands. Later Yum Brands demerged into Yum China and Yum Brands. Reasons for demergers Diseconomies of scale - the opposite of economies of scale, where average costs begin to rise as output increases. May occur due to it being difficult to retain control on the expanding business - principal-agent problem may arise. Also less co-operation by employees who feel more alienated and as a result less productive - they feel less of a connection to the business.  May also be hard to co-ordinate and communicate between locations and employees when a firm is large. Miscommunication can again lead to costs rising.  To focus on core businesses to streamline costs and improve profits. The firm may have expanded into different markets and experience disadvantages due to t
Post a Comment
Read more

3.4.1 Efficiency

Efficiency   Allocative efficiency  Output at which the marginal utility, or benefit, of a good to a consumer is the same as equal to the marginal cost of producing it.  This is seen on demand/supply curves, where D = S, output is produced as demand = marginal utility and supply = the sum of firms' marginal costs in an industry. On an individual scale, it is where:  AR = MC  Output is where the demand curve cuts the MC curve.   NB: technically occurs where MSB = MSC (if you consider externalities)  Occurs in perfect competition.  Eval - PC markets achieve allocative efficiency where there are no externalities.  LR equilibrium is where P = MPC, so if MSC > MPC, then there is an allocative inefficiency which leads to overproduction and consumption.  Productive efficiency  Output at which a good is produced at the  lowest possible average cost for a firm. This occurs at the minimum point of the AC curve.  AC = MC at this point, because w
Post a Comment
Read more