IB Econ Chap 26 Terms of Trade - Sunny Hills High School

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!!!!! .9 Eo lo c .9 E 318 26 o Terms of trade Year I Year 2 Year 3 Year 4 Year 5 Year 6 r00 r02 106 I0 108 106 Table 26.1 Terms of trade igures i00 100 104 110 r06 r08 ffixroo ffixroo r06 104 |0.. I t0 " t08 .. l(lt) x 100 import prices is relatively more great and so the TOT value falls a little Lo 101.92. We say that there has been a detedoration in the TOT, which means LhaL a givcn amount of cxports can buy fewer imports than in year 2. However, the TOT in year 3 are still better than in year l. In year 4, import prices dse by relatively more than export prices and so the value of the TOT falls again, back to 100. So in year 4 a given amount of exports will buy the samc amounL of impofis as in year I. In year 5 export pdces fall but import priccs fall by more, whicb this lcads to an improvement in the TOT and the value rises to I0I.89. We can sce from the example that if export pdces rise relative to import prices, or if they lall by relatively less than imporL prices fall, lhen the TOT will improve. In the same way, if import prices dse by more than export prices. or iI rhey fall by relatively less than exporl prices fall, then the TOT will dctcriorate. The key thing to realize is that if the TOT improve, then a given quantity of cxports will buy a larger quantity of imports than bcfore. We often talk about a "basket" of exports, in the same way as mcasuring inflation. I1 the price of a basket of exports lalls, Lhcn a country will need to sell more exports in order to kccp imporLs at the same level. Student workpoint 26.1 Be a thinker I Using the data in Table 26.1 , calculate the TOT for year 6. 2 Describe the changes !n the TOT from year 5. What does this mean about the "buying power" of the country's exports? 5 How does the buying power of the country's exports in year 6 compare with year I ? Asses$nent odviae: ln HL paper 3, you may be asked to calculate the terms of trade as in workpoint 26.1 . r00 100 r00 102 t0r.92 100 101.89 ']
Language may be misleading. lt should be noted that the expressions "improvement in the TOT" and "deterioration of the TOT" do not necessarily mean what they mean in everyday language. A deterioration of the TOT may not necessarily be a bad thing and an improvement does not necessarily result in a good thing. We will look at the consequences of changes in the TOT in future material. While language is used to access knowledge it can sometimes be used to confuse or even exclude. Can you think of other examples of economic language that would make it dif{icult for non-economists to know what economists are talking about? Causes of changes in a country's telms of trade in the short run and the long run Short-run causes Short-run changes in the TOT may be caused by the following. . Changes in the conditi)ns 0f demand and supply: If the demand for exports changes, i.e. if the demand curve shifts, then there will be a change in the price of exports. Prices oI competitive goods in other countries may change, affecting the competitiveness oI the exports, incomes in importing countries may change, affecting the demand for imports, and consumer tastes may change for the goods and services that the country exports. Changes in supply may also have a noticeable effect upon the price of exports. II a number of countries experience an increased supply of a certain product, perhaps because weather conditions are favourable, then its price will fall. For example, record wine harvests in Australia led to a 97o fall in average prices in 2006. The effect oI such a change on the TOT depends on the importance of overall expons of the good. o Changes in relative inflation rates: If,lhe inflation rates in one country are higher than in another then their export prices will begin to rise. Although this results in an improvement in the TOT, the country's exports will start to be less competilive. o Changes in exchange rates: A change in the value of a country's currency will lead to a change in the price of exports relative to imports. The change in exchange rate may be through market forces or as a result of government intervention in the foreign exchange market. Long-run causes Long-run changes in the TOT have various causes. o Income changes: Rising incomes, especlally in developed countries, lead to an increase in demand for secondary and, especially, tertiary products, whose income elasticity of demand tends to be income elastic. This has an obvious effect upon the relative prices of the types of products. The TOT of developed countries, which produce more secondary and tertiary products, tend to improve 26 . Terms of trudu @! 319 6 q 9! o a o J.
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IB Econ Chap 26 Terms of Trade - Sunny Hills High School

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