Lecture.

The Standard Trade Theory ...contd

Trade Theory through Demand-Supply Analysis (KO Ch.5)

Outline
7.1 Changes in TOT 7.2 Changes in Relative Supply
7.2.1 Economic Growth

7.3 Changes in Relative Demand

7.3.1 The Transfer Problem

7.4 Simultaneous Shifts in RS and RD

7.4.1 Import Tariff 7.4.2 Export Subsidy

7.1 Changes in TOT

p is the TOT for India (since it is exporting good A). So, she wants to tilt the TOT in her favour (by increasing p)
p

RST

It can take place due to Changes in Supply in either or both the countries
RD

Changes in Demand in either or both the countries.

A A * BB *

7.1 TOT and gains

US

An improvement in TOT means an increase in the consumption possibilities. It is just the opposite for the foreign country.

India A

7.2 Changes in Relative Supply

What happens with economic growth?
Growth and the PPF: Growth leads to an increase in the production possibilities i.e. the PPF shifts outward because both the goods can now be produced in higher amounts. This can happen for two reasons: 1. Improvement in Technology (Ricardian Case) 2. Increase in the resources (HO Case)
B

7.2.1 Biased Economic Growth

B

p
RS' RS

p' p
RD

q'

It does not matter which country experiences growth! What matters is that there should be a biased growth in one of the goods which will change the TOT.

7.3 Changes in Relative Demand

U =U =A B
pq= 1
p=pA/pB q=DA/DB
* 1
p

RD

7.3.1 The Transfer Problem

Income Transfer US India
B
India US US a a

c India

7.3.1 The Transfer Problem

U =U =A B
p q= 1
* *

p
RS

' pq= 1 '

'
p'T pT RD RD'

If the marginal propensity to consume A/B by India is higher than the US, then a transfer of income from the US to India would lead to an increase in the relative expenditure on A. This would lead to an improvement in India's TOT.

7.4.1 Import Tariff

The Supply side
To protect your own producers and in an attempt to improve your current account (exports-imports), countries could put an extra price on the imports. p AT
pT = p BT p 'T= p AT pT = 1 t p BT 1t

p
RS' RS a

a a' a

Foreign

Home A

7.4.1 Import Tariff

The Demand Side
p* q*= 1 ... US
p

p q= 1t 1

... India
RS' RS

pq=1 t 1
RD'

1 1 t 1

RD

7.4.2 Export Subsidy

The purpose is to encourage export of goods and discourage their sale in the domestic market. Therefore, the prices increase in the domestic market discouraging the domestic consumers.
p
RS

RS'

RD' RD

7.4.2 TOT Effects:

Who gains and who loses?

International Distribution of Income:

Tariff by home TOT increases (Home benefits) Export subsidy TOT decreases (Home loses)

Distribution of Income within the country:

Tariff by home increases the relative price of importable goods. Thus, income would shift in favour of the factor that this good uses more intensively. But it is possible that the TOT increase can fully nullify this relative increase. In that case, the income distribution effect would be just the opposite. This latter possibility is called the Metzler paradox.

Problem Set.2

To be returned by 31 August (Monday) before the lecture. Weightage for the problem sets would be 5% of the total marks

st

http://groups.google.co.in/group/HUL214?hl=en

For Seminar & Term Paper

Presentations would begin from 8th September (Tuesday) in the tutorials. Please submit the group list by 23rd August. 3X25 Presentations and discussion. For discussion to be in a proper format, we need another group as discussants. Last date for submitting the term paper is 30th October.

Books & Films for review

Books: 1. Stiglitz, Joseph, Globalization And Its Discontents, Penguin India, 2002 2. Global Economic and Financial Crisis: Essays from Economic and Political Weekly, Orient BlackSwan, 2009 3. Bhagwati, Jagdish (1994). India in Transition. Freeing the Economy, Delhi: Oxford University Press. + Patnaik, Prabhat (1997). The context and consequences of economic liberalization in India, Journal of International Trade and Economic Development, 6(2), 165-78. 5. Ghosh, Jayati, Crisis as Conquest: Learning from East Asia, Orient BlackSwan, 2001 6. Dreze, Jean and Sen, Amartya (1995). India's Economic Development and Social Opportunity, Delhi: Oxford University Press. 7. The Gobal Economic Crisis: A Peoples Perspective Fiasco of Neo-liberalism, Daanish Books, 2009

Books & Films for review

Books contd: 8. Jomo K S (ed.), Pioneers of Development Economics : Great

Economists on Development, Tulika Books, 2006

Films: 1. Fahrenheit 9/11 directed by Michael Moore 2. Blood and Oil - The Middle East in World War I directed by Marty Callaghan

In the next week's tutorial, we would be discussing: Utsa Patnaik (2005), Ricardo's Fallacy: Mutual Benefit from Trade Based on Comparative Costs and Specialization in Pioneers of Development Economics : Great Economists on Development edited by Jomo K S