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terms of trade

Page history last edited by Brian D Butler 11 years, 7 months ago



terms of trade,

which are our prices relative to foreign prices.


Who benefits the most from efficiencies of free trade, which depends on whether the terms of trade benefit the exporter nation of the importer nation..  For example: if an oil exporter trades with a wheat exporter, then who benefits from "favorable" terms of trade depends on which commodity is more expensive.  If Oil is high compared to wheat, then the oil exporter benefits more from trade. 


Definition from Wikipedia relative prices of a country's export to import.  When people talk about positive or negative "terms of trade", they are often meaning that "An improvement in a nation's terms of trade is good for that country in the sense that it has to pay less for the products it imports, that is, it has to give up fewer exports for the imports it receives." 




Positive impact on Terms of trade




When a government imposes a tariff on imports, the importing companies presumably lower their prices, so that, with the tariff, they are still competitive.  


The gain depends on the tariff-imposing countries ability to drive down foreign export prices.  If the country is big, and is able to drive down world export prices, then everyone benefits around the world, and we say that a tariff had a positive effect by improving our "terms of trade".  Note that importers can then import products at a lower price. 


The foreigners who are importing into our market are lowering their prices, making our terms of trade improve.  (The foreigners price+tariff does not decline, but the price net of tariff is  lowered by those companies, so they can stay competitive in our market.)




Negative impact on Terms of trade




If a government offers an export subsidy to its local companies, then they will sell at home at a slightly higher price, and abroad at a slightly lower price.  When a government subsidizes its own exporters, then they should sell  overseas at a lower price than otherwise.  This hurts the terms of trade, which are our prices relative to foreign prices.   Our local prices are now high, compared to what we sell abroad for.





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