Ch.2.Gains From Trade

7/28/2019 Ch.2.Gains From Trade

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F.Y.B.COM. MAHESH COLLEGE OF MANAGEMENT

It is a well known fact that the consideration of gain alone is the basis of all internationaleconomic transactions. Gains from trade refer to the advantages arising from internationaltrade. The different approaches to the concept of gains from trade are as under:

(a) Adam Smith's Approach

According to Adam Smith, gains from international trade are in the form of theincreased value of product and improvement in the productive capacity of eachtrading country. International trade leads to export of the commodity which is less indemand in the home market and import of the commodity which has strongerdemand. Specialisation and division of labour reduce the cost structure and enlargethe size of market for each trading country. Thus, international trade maximizesworld production and welfare.

(b) Ricardo - Malthus Approach

According to Ricardo and Malthus, specialization helps to save resource or costs. Inthe opinion of Malthus, gain from trade consists of "the increased value whichresults from exchanging what is wanted less for what is wanted more".

(c) J.S.Mill's Approach

J.S.Mill stressed the concept of reciprocal demand that determines terms of tradewhich is a ratio of quantity imported to the quantity exported by a given country. Theterms of trade decide how the gain from trade is distributed between the tradingpartners.

(d) Taussig's Approach

According to Tausigg, the gains from international trade can accrue to a tradingcountry in the form of a rise in income. This contributes to a higher level of welfare.

(e) Modem Approach

In the opinion of the modem economists international trade brings two types of

gains. They are gains from exchange and gains from specialization. When tradecommences, consumers enjoy a higher level of satisfaction, partly because ofimprovement in terms of trade and partly due to greater specialization in the use ofeconomic resources of the country.

2.2 Gains from International Trade

We can examine the gains from international trade under two heads. They are,

(a) Static gains

(b) Dynamic gains

International Trade and Finance - I Gains from Trade1


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(a) Static gains

Static gains arise out of optimum utilisation of a country's factor resources. The

utilisation of resources to the optimum level contributes to increasing national outputand social welfare. Static gains comprise of the following gains:

(i) Specialisation and Division of Labour

International trade leads to specialization and geographical division of labour.Each country specializes itself in the production of that commodity for theproduction of which it enjoys a comparative cost advantage. International tradebrings about all the advantages of specialization and division of labour at theinternational level.

(ii) Maximisation of Production

As a result of specialization and division of labour each country seeks toproduce to the maximum extent possible. Thus, trade among countries leadsto the maximization of world's output.

(iii) Maximisation of Welfare

By maximizing production, international trade makes available a large quantityof goods for consumption, This will have a positive impact on the economicwelfare of the people world over.

(iv) Rise in National Income

International trade leads to a rise in national income because of the increasein employment and production. There will be a rise in per-capita income also.

(v) Use of Surplus Resources

International Trade provides opportunities to a country to exploit its surplusresources. This is due to the widening of the market made possible byinternational trade.

(b) Dynamic Gains

Dynamic Gains of international trade are those gains that contribute significantly tothe promotion of economic growth of the trading countries concerned. The followingare the dynamic gains of international trade:

(i) Widening of the Market

An important gain of international trade is that it enlarges the size of themarket for the products of trading countries. This is of much importance tothose countries which have surplus output to dispose off.

Widening of the market contributes significantly to an increase in specializationencouraging innovations and inventions. As a result, there will be an increasein productivity' and profit, contributing in the process, to an increase ineconomic growth.

(ii) Educative Benefit

The educative gain of international trade lies in its transfer of skills from onecountry to another. These skills include technical know-how, managerial skills,enterprise, ideas etc. The less developed countries will be immenselybenefited as the recipients of these skills. .



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(iii) Efficient Utilisation of Resources

International trade, based on comparative cost advantage, brings about

efficient utilisation of the resources of the trading countries concerned.Resources will be put to the optimum use.

(iv) Capital Accumulation

The need to buy foreiqn goods and thereby increase consumption and thestandard of living motivates people to save more. This will Contribute toincreasing capital accumulation.

(v) Capital Movements

A significant gain from international trade lies in that it leads to capitalmovements from one country to another. This is of much advantage tothe less developed countries.

(vi) Advantages to Less Developed Countries

Trade brings enormous gains to the less developed countries. Thesecountries can import capital, technical know-how, managerial skillsetc.All this helps to accelerate the pace of economic growth of thesecountries.

Thus, the gains from international trade are many and varied.

Potential Gain and Actual Gain

A distinction has been made between Potential Gain and Actual Gain accruingfrom international trade.

Potential Gain

Potential Gain from trade for the two trading countries A and B, depends on thebasis of the difference in domestic cost ratios of producing two commodities, Xand Y. This may be symbolically expressed as under:-

p

A B

Cx CxG = -

Cy Cy

Where Gp = Potential GainCx =Cost per unit for X commodity

Cy = Cost per unit for Y commodity

The subscript Aand 'B' signify the two countries.

On the other hand, the actual gain from trade Ga, is determined by the differencein the price of the two commodities X and Y in the two countries. Thus,

a

A B

Px PxG = -

Py Py



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Under conditions of Perfect competition and free trade, the cost ratio equals theprice ratio of two commodities in each country such that

Cx Px=Cy Py

Consequently, the actual gain becomes equal to potential gain

Gp = Ga

It may be noted that equalization of actual gain and potential gain takes place. When thereis an absence of tariff and other trade restrictions. If there is imperfect competition and inthe presence of trade barriers, differences arise in cost and price ratios in eachtrading country. As the price ratio is more than the cost ratio, the actual gain from tradeexceeds the potential trade gain.

2.3 Measurement of Gains from Trade

International trade brings gains to all the trading countries.

According to the classical economists, the following three criteria could be adoptedto measure the gains from international trade:

(a) Reduction in the cost of production

(b) Enhancement of the real income, and

(c) The nature of terms of trade.

(a) Reduction in the Cost of ProductionWith the development of international trade, a country tends to specialize in theproduction of those commodities in which it enjoys a high comparative advantage orthe least 'disadvantage. Specialisation leads to the production of output at reducedcosts. In addition, it helps to improve efficiency and productivity of the country'slabour. Hence, the gain from trade can also be measured in terms of the degree ofimprovement in the country's productivity. The gain from trade is reflected in theincrease in the general marginal product of country's export sector. Thus, an indexof cost reduction or improvement in the marginal physical product oflabour can beused as a criterion for measuring the gain from international trade.

(b) Enhancement of Real IncomeThis criterion of measuring the gain from international trade follows from the firstcriterion.According to this criterion enhancement of real income - the realincome orthe net national product of the country increases on account of international trade.Symbolically,

G = Ya - Yb

Where G = gain from trade

Ya = national income after trade

Yb = national income before trade.



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(c) The Nature of Terms of Trade

This is the most important and popular criterion of measuring the gains from

international trade. Terms of trade refers to the ratio of the export price to importprice of a country. Symbolically, terms of trade is represented as,

Px

Pm

Where Px = Prices of exports

Pm = Prices of imports

The terms of trade may be favourable or unfavourable for a country. Terms of t rade

will be favourable ifPx

>1Pm

. It will be unfavourable or adverse whenPx


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(iii) Reciprocal Demand

Reciprocal demand refers to the elasticity of demand for the product ofone country

by the other country. A country whose demand for the foreign products is moreelastic but the demand forits products from the foreigners is less elastic, is likely togain the most from international trade.

(iv) Level of Income

The level of income is another factor that determines gains from trade. Import ofrelatively cheaper commodities while domestic money incomes are high indicatesthe gain from trade. On the contrary, low domestic income due to low exports orhigh imports, while import prices are high will lead to smaller gain from trade.

(v) Productive Efficiency

If there is an improvement in the productive efficiency in the home country, costs

and product prices fall. In this case the foreign country stands to gain. If there is animprovement in the productive efficiency, the home country stands to gain.

(vi) Factor Endowments and Technological Conditions

A country with plenty of capital and advanced technology will have a larger gainfrom trade. On the other hand, a technologically backward country with abundantsupply of labour will have a smaller gain from international trade.

(vii) Composition of Exports

If the exports of a country comprise mainly of primary commodities, it will have asmaller gain from international trade. If a country's exports are diversified and

consist mainly of manufactured goods, it will enjoy a larger gain from internationaltrade.

(viii) Size of the Country

A small country with limited resources and specialization will have a smaller gainfrom international trade. But a large country is placed in a better position and enjoysa large gain from trade.

Thus, gains from international trade depend upon a wide variety of factors.

2.5 Terms of Trade (ToT)

The concept of ToT occupies a crucial place in international trade. Its significancelies in that it helps to determine how the gains from trade are allocated among thetrading countries. Further, ToT has profound influence on the balance of paymentsposition of the countries.

Meaning

In simple words, ToT refers to the rate at which a country exchanges its goods forthe goods of another country. It depends mainly upon the prices of exports andimports. Thus, ToT expresses the relationship between the export prices and theimport prices.



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A distinction is made between favourable ToT and unfavourable ToT.

The ToT of a country is said to be favourable when the prices of its exports are

more than the prices of its imports. On the contrary, the ToT of a country is said tobe unfavourable or adverse when its export prices are less than its import prices.

2.6 Concepts of Terms of Trade

Economists have offered various concepts of terms of trade. According toG.M.Meier, these concepts of terms of trade could be broadly classified into threecategories:

(i) On the basis of ratio of international exchange betweencommodities

On this basis, three concepts of terms of trade could be distinguished. They are,(a) Net Barter Terms of Trade

(b) Gross Barter Terms of Trade, and

(c) Income Terms of trade

(a) Net Barter Terms of Trade

This concept introduced by F.W.Tausigg, was called Commodity Terms of Trade byJacob Viner.

Net Barter Terms of trade represents the ratio of export prices to import prices .Symbolically it is expressed as,

cPxT =Pm

Where Tc= Commodity or net barter terms of trade

Px = export price

Pm = import price

If we want to compare changes in net barter terms of trade between two periods,this concept is expressed as,

01c

1 0

PxPxT = x x100

Pm Pm

Where Px1= export price in the current yearPm1= import price in the current yearPx0= export price in the base yearPm0= import price in the base year

lliustration(a) Assuming that, Px1= 180 and Pm1 = 150, then the net barter terms of trade will be:

01c

1 0

PxPxT = x x100

Pm Pm



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c

180 100T = x

150 100

cT =120It implies that the net barter terms of trade has improved by 20 percent in thecurrent year compared with the base year.

(b) Assuming that Px1 = 140 and Pm1 = 160, Tcwill be:140 100

x =87.5150 100In this case, compared with the base year, in the current year the Tc hasdeteriorated by 12.5 per cent.Thus, a rise in the index represents an improvement in the T c while a fall in the

index denotes a deterioration in the Tc.

Limitations:

The concept of net barter terms of trade is subject to the following limitations:

(1) Various problems are involved in the construction of index numbers.

(2) It does not consider the quantity of exports and imports.

(3) It overlooks qualitative changes in output. .

(4) This concept can sometimes result in misleading conclusions.

(5) It is unsuitable for explaining the distribution of gains from trade.

(6) It neglects factors affecting the prices of exports and imports.(7) It does not throw light on the behaviour of balance of payments.

(8) This concept does not explain the capacity to import.

(b) Gross Barter Terms of Trade

This concept has been introduced as an improvement upon the concept of NetBarter Terms of Trade which suffers from certain limitations.

Gross Barter Terms of Trade represents the ratio of total physical quantities ofimports to the total physical quantities of exports of a given country. Symbolically,

g

x

QmT = x100

Q

Where Tg = gross barter terms of trade

Qm = total quantity of imports, and

Qx = total quantity of exports

If we want to measure changes in the gross barter terms of trade from one period toanother the formula will be:



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1 1g

1 0

Qm QxT = x x100

Qx Qx

Where Om1 = quantity of imports in the current year

Qx0 = quantity of imports in the base year

Qx1= quantity of exports in the current year

Qx0= quantity of exports in the base year

(i) Assuming that in the current year Qm1 = 150 and Qx1 = 125, Tgwill be,

1 1g

1 0

Qm QxT = x x100

Qx Qx

g

150 100T = x x100

125 100gT =120

It means that as between the base year and the current year there is animprovement in Tgto the extent of 20 per cent.

(ii) Assuming that in the current year, Qm1= 120 and Qx1 = 180, Tg will be,

g

120 100T = x x100

180 100

gT =66.67percent

It implies that between the base year and the current year, T g has deteriorated by

33.33 per cent.It may be noted that in case of equilibrium in the balance of trade, there will beequality of net and gross barter terms of trade, otherwise the two concepts will bedifferent. .

Limitations

The concept of Gross Barter Terms of Trade is criticized on the following grounds:-

(1) The aggregation of goods, services and capital transactions is considered to beunreal and impractical.

(2) This concept is a faulty index of welfare because it ignores changes in tastes andhabits of the people.

(3) It has overlooked the impact of improvement in productivity.

(4) This concept alsodoes not explain the capacity of a country to import.

(5) It fails to consider qualitative improvements in production in the trading countriesconcerned.

(6) It has not considered capital movements which have a significant impact on balanceofpayments.

The concept of Net Barter Terms of Trade is superior to the concept of Gross Barter



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Terms of Trade.

(c) Income Terms of Trade

The concept of Income Terms of Trade has been contributed by G.S.Dorrance andH. Staehle. This concept has been an improvement upon the concept of commodityor Net Barter Terms of Trade.

This concept considers the indices of export and import prices and quantity index ofexports. It is determined by the product of net barter terms of trade and the quantityindex of exports. The formula is,

Ti = Tc. Qx

Where Ti = income terms of trade

Tc = net barter terms of trade

Qx = quantity index of exports.

Since cPx

T =Pm

, Ti can be expressed as,

xc X

PT = xQ

Pm

The concept of Income Terms of Trade is called 'Export Gain from Trade' byA.H.Imlah .

lllustration

(i) Assuming that in the current yearPx = 96

Pm = 144, and

Qx = 162, then

the income terms of trade will be:

xi x

PT = xQ

Pm

i

96T = x162

144

iT =108

It means that there is an improvement in the income terms oftrade to the extent of8 per cent.

(ii) Assuming that in the current year

Px = 114

Pm = 96, and

Qx = 80, then

The income terms of trade will be:



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xi x

PT = xQ

Pm

i114T = x8096

iT =95

It means that the income terms of trade has deteriorated by 5 per cent.

The significance of the concept of income terms of trade lies in that it throws light onthe capacity of a country to import. The capacity of a country to import increaseswhen,

(a) there is a rise in the quantity exported

(b) there is a rise in export prices

(c) there is a fall in prices of imports

The concept of income terms of trade is particularly relevant to the less developedeconomies which face the problem of low export price and high import price.

Limitations

The concept of income terms of trade is criticized on the following grounds:

(1) This concept is not an accurate measure of gain from international trade.

(2) It is not a measure of total capacity of a country to import. It is based on export -

based import capacity.(3) This concept cannot replace the concept of net barter terms of trade.

(4) It is misleading as an indicator of welfare gain from international trade.

(ii) On the basis of changes in factor productivity

On the basis of changes in factor productivity, Jacob Viner has classified terms oftrade into,

(a) Single Factoral Terms of Trade

(b) Double Factoral Terms of Trade

(a) Single Factoral Terms of Trade

This concept takes Into account changes in productivity of the factors of productionused in export industries. It is obtained by multiplying ne~ barter terms of trade bythe productivity index in domestic export sector. Symbolically,

Ts = Tcx Fx

Where Ts = Single factoral terms of trade

Tc = net barter terms of trade

Fx = index of productivity in domestic export sector



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Since we know that xcP

T =Pm

, we can express single factoral terms of trade as:

xs x

PT = xFPm

If we want to measure changes in the single factoral terms of trade from one periodto another, then the formula will be

x0xs

x1

FPT = x

Pm F

The concept of single factoral terms of trade is of much importance to thedeveloping economies.

Illustration(1) Assuming that in the current year,

Px = 130

Pm = 160

Fx = 140,

Then single factoral terms of trade will be:

xs x

PT = xF

PM

s

130

T = x140160

sT =113.75

It means that there is an improvement in the single factoral terms of trade by 13.75per cent. But, it may be noted that there is deterioration in commodity terms oftrade.

(2) Assuming that in the current year,

Px = 120

Pm = 110

Fx = 88, then single factoral terms of trade will be

xs x

PT = xF

Pm

s

120T = x88

110

sT =96

This implies that between the base year and the current year, there is adeterioration in the single factoral terms of trade by 4 per cent. It means animprovement in the net barter terms of trade.



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Limitations

(1) It is very difficult to measure productivity.

(2) This concept does not consider changes in productivity ofthe factors used in importindustries.

(3) It is not a reliable index of gain from international trade.

(4) We cannot overlook the problem of increasing global inequalities. The concept ofsingle factoral terms of trade cannot be an appropriate index of welfare.

(b) Double Factoral Terms of Trade

Viner introduced this concept as an improvement upon his concept of single factoralterms of trade. The concept of Double Factoral Terms of Trade considers changesin the productivity of the factors used in both export and import industries.

The concept of Double Factoral Terms of Trade is derived by multiplying the singlefactoral terms of trade by the index of the productivity of the factors used in theimport industries. Symbolically,

d c

FxT =T x

Fm

Where Td = double factoral terms of trade

Tc= commodity terms of trade

Fx = index of productivity of factors used in export industries

Fm = index of productivity of factors used in import industries

Since cPx

T = x100Pm double factoral terms to trade could also be expressed as,

x xd

P FT = , x100

Pm Pm

Illustration:

Assuming that in the current year

Px = 140

Pm = 130

Fx = 150, and

Fm = 125, then

x xd

P FT = , x100

Pm Pm

d

140 150T = x x100

130 125

dT =129.33

Thus, double factoral terms of trade has improved by 29.23 per cent over the baseperiod.



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Limitations

The following are the limitations of double factoral terms of trade:

(1) There is the problem of the measurement of productivity.(2) There is misplaced emphasis on the relative productivity indices in the two trading

countries.

(3) It is a faulty concept. Kindleberger objects to the relationship between theproductivity of the factors in two trading countries.

(4) This concept does not help to determine the gains from trade.

(5) It ignores real costs as a factor influencing the terms as well as the gains frominternational trade.

(Ill) On the basis of utility analysis we have the two - fold classification of terms oftrade. They are,

(a) Real Cost Terms of trade, and(b) Utility Terms of Trade

(a) Real Cost Terms of Trade:

This concept has been introduced by Jacob Viner. Real cost refers to the amount ofutility lost or sacrificed per unit of resources employed in the production of exports.

Real cost terms of trade can be measured by multiplying the single factoral terms oftrade by the index of the amount of disutility per unit of the resources employed inproducing export goods. Symbolically,

Tr = Ts. Rx

Where Tr= real cost terms of tradeTs = single factoral terms of trade, and

Rx = index of this utility caused per unit of resources employed in theproduction of export goods.

SincePx

Ts= x FxPm

, real cost terms of trade can be expressed as

PxTr = . Fx.Rx

Pm

This concept is considered to be better as a measure of real economic

welfare or gains from trade.

Limitations

The concept of real cost terms of trade is subject to the following limitations:

(1) It is a subjective concept. Hence, it can not be precisely measured in objectiveterms.

(2) It does not consider the real cost involved in diverting the goods being used for.domestic consumption to supplement exports for paying the imports.

(3) It neglects the real cost of producing import - substitutes.



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(b) Utility Terms of trade:

Viner has introduced this concept to overcome the limitations of the conceptof real cost terms of trade.

This concept is obtained by multiplying the Real Cost terms of Trade by theindex of the relative utility of imports and the foregone commodities.Symbolically,

Tu = Tr. U

When Tu = utility terms of trade

Tr = real cost terms of trade, and

U = index of relative utility of imports and domestic goods foregone

The utility terms of trade can be expressed in terms of the commodity terms of trade

or the net barter terms of trade as under:Tu = Tr.U

Tr = Ts.Rx

Ts = Tc. Fx

Therefore, Tr = Th. Fx. Rx and Tu = Tc. Fx. Rx. U

It may be noted that an increase in U results in the deterioration of utility terms oftrade and vice - versa. D.H. Robertson calls the utility terms of trade the "true termsof trade".

The limitation of this concept lies in that, like the concept of real cost terms of trade,this concept also is subjective. As such, it can not be precisely measured in

objective terms.In conclusion, it may be noted that the concepts of single factoral, double factoral,real cost and utility terms of trade have more of academic interest than practicalinterest. In order to measure the gains from .international trade, for all practicalpurposes, the concepts of commodity terms of trade and income terms of tradehave much relevance.

2.7 Factors Affecting the Terms of Trade

Various factors determine or influence the terms of trade of the trading countriesconcerned. These factors are discussed below:

(1) Reciprocal demandThis concept, put forth by J.S. Mill, indicates the intensity of demand for the productof one country by the other.

This concept could be explained with an example. If the demand for country ~scloth is more intense (or inelastic) in country B, country B will offer more units of itsproduct, let us say steel, to import a given quantity of cloth . On the contrary, if thedemand for cloth in country B is less intense (elastic) then country B will offersmaller quantity of steel to import the given quantity of cloth.

Further, if the reciprocal demand for steel in country A increases, it will be willing to 'offer more quantity of cloth for the given import of steel . On the contrary, if the



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reciprocal demand for steel in country A decreases, it will offer lesser quantity ofcloth to offer the same quantity of steel. In the former case, the terms o ftrade is

worsened while in the latter case it gets improved for country A.In the case of country B if there is an increase in its reciprocal demand for cloth, theterms of trade will be favourable. But, if there is a decrease in reciprocal demand forcloth in country B will lead to a deterioration in its terms of trade.

(2) Tariff

When a country imposes tariff on imports from the foreign country, it means a lesserwillingness to absorb the foreign products. It implies that the reciprocal demand inthe tariff imposing country for the foreign product has got reduced. Tariffs are,therefore, likely to improve the terms of trade for the tariff - imposing country.

(3) Changes in tastes

Changes in tastes influence the terms of trade of a country. For example, if tastesor preferences of the people in country A shift from the product Y of country B to itsown product X, country A will enjoy a favourable terms of trade. In the oppositesituation, country A will suffer from an adverse terms of trade.

(4) Changes in Factor Endowments

Another determinant of the terms of trade of a country is changes in the factorendowments. For example, if there is an increase in the supply of labour in countryA, specializing in the production of labour - intensive commodity cloth, while factorresources in country B remain unchanged, the fall in labour cost will reduce theprice of cloth. Hence, more quantity of cloth will be offered by country A for thesame quantity of steel, resulting in unfavourable terms of trade to country A. On the

contrary, if in country A the supply of labour becomes scarce, it will enjoy afavourable terms of trade.

(5) Changes in Technology

Changes in the techniques of production influence the terms of trade of a country. Ifthere are technological changes, let us say, in country A, there will be a rise inproductivity and / or a fall in thecost of producing exportable commodity, say, cloth.If technological progress is labour - saving in the cloth industry, the terms of tradewill be worsened for country A. On the contrary, if technological progress is import -competing, there will be improvement in the terms of trade. Further, if capital-saving technical progress takes place in labour - intensive export sector, there can

still be the possibility of improvement in the terms of trade.(6) Economic Growth

Economic growth is another factor which influences the terms of trade of a country.Economic growth leads to a rise in the real . national product or income of a countryover a long period. There will be an increase in per capita income also.

The effect of economic growth on the terms of trade of a country depends upon theeffect of growth on the net demand for imports. On the one hand, by increasing thelevel of income, economic growth leads to an increase in the demand for imports.On the other hand, economic growth leads to an increase in the supply of domesticgoods which otherwise will have to be imported. Now the net effect of economic



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growth on the terms of trade is the combined result of these demand and supplyeffects. If the demand effect is more, the terms of trade will be unfavourable and if

the supply effect is more, the terms of trade will be favourable.(7) Devaluation

Devaluation refers to a deliberate reduction in the external value of a currency .Devaluation results in a rise in import prices and a fall in the export prices, leadingto a deterioration in the terms of trade of the country concerned . Whether the termsof trade becomes favourable or unfavourable, because of devaluation, dependsupon the elasticities of demand for and supply of exports and imports of thedevaluing country.

It may be noted that if the elasticities of supply of exports and imports are higherthan the elasticities of demand for exports and imports, there will be worsen ing ofterms of trade after devaluation.

Secondly, in case the product of elasticity co-efficients related to demand forexports and imports is exactly equal to their supply, the terms of trade of thedevaluing country remains unchanged.

Finally, if the product of elasticity co-efficients of demand for exports and imports is 'greater than the product of elasticity co- efficients of supply of exports and imports,devaluation leads to an improvement in the terms of trade of the country concerned.

(8) Balance of Payments Position

If a country is in a deficit position in its balance of payments and adopts restrictionsto reduce imports, its terms of trade will be worsened. But a country which has asurplus in its balance of payments will have a favourable terms of trade.

(9) International Capital FlowsAn increase in the inflow of capital from other countries creates larger demand forthe products of the creditor country. With the result, there will be a rise in the pricesof imported goods leading to a deterioration in the net barter terms of trade. Whenthe borrowing country makes repayments of outstanding loans, there will be outflowof capital. In' order to earn required foreign exchange to make repayments, home-produced goods will be sold at low prices leading to a fall in export prices. The fall inexport prices relative to import prices will again account for the deterioration in thenet barter terms of trade.

(10) Import Substitutes

If a country produces import substitutes it will have a favourable terms of trade. If ina country import substitutes are not available it will suffer from an unfavourableterms of trade.

In addition to the above factors, other factors determining the terms of trade of acountry include the following:

price movements

business cycles

transfer problem, and

political conditions, etc.



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QUESTIONS

SECTION - A (4 Marks Ouestions)

1. Measurement of gains from trade.

2. Net Barter Terms of Trade.

3. Single Factoral Terms of Trade

4. Reciprocal Demand5. Potential Gain and Actual Gain

SECTION - B (8 Marks Questions)

1. Explain the static and dynamic gains of international trade.

2. Explain the concepts of Net Barter Terms of Trade and gross Barter Termsof Trade.

3. Distinguish between Single Factoral and Double Factoral Terms of trade.

4. What are the factors determining the gains from international trade?

SECTION - C (16 Marks Questions)

1. What do you mean by Terms of Trade? Explain the different concepts ofTerms of Trade.

2. Discuss the various factors determining the terms of trade of a country.

International Trade and Finance - I Gains from Trade

Rx = index of this utility caused perunit of resources employed in theproduction of export goods.

= ..h. x Fx, real cost terms of tradecan bePm

expressed as:

Rx = index of this utility caused perunit of resources employed in theproduction of export goods.

= ..h.x

Fx, real cost terms of tradecan bePm

expressed as:

Rx = index of this utility caused per unit of

resources employed in the production

of

export goods.

= ..h. x Fx, real cost terms of trade can bePmexpressed as:

18


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International Trade and Finance - I Gains from Trade

Rx = index of this utility caused per unit of

resources employed in the production

of

export goods.

= ..h. x Fx, real cost terms of trade can bePmexpressed as:

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Ch.2.Gains From Trade

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