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Terms of Trade

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  1. Terms of Trade

  2. Aims • Define Terms of trade (TOT) • Consequences of changes in TOT- (BoP & Domestic econ) • Significance for developing countries HL ONLY • Measurement of TOTCauses of changes in TOTPED for X and M

  3. Define Terms of Trade • The amount of export goods needed to buy a set amount of imports. or • The ratio of export prices to import prices • X/M • (It is trade weighted)

  4. It depends upon… • volume of goods traded, • prices • Exchange rates

  5. Caveat • Improvements in TOT can be bad! • Be warned!

  6. Consequences of an improvement in TOT • Price of exports rise COULD mean an improvement in the BofP. (Depends on PED) • Price of imports falls, COULD mean an improvement in the BofP. (Depends on PED) • Living standards rise as imports become relatively cheaper.

  7. THINK! • Obviously the whole good/bad thing depends upon WHY the TOT have changed.

  8. Consequences of a deterioration in TOT • Price of exports falls COULD mean an improvement in the BofP. (Depends on PED) • Price of imports rises, COULD mean an improvement in the BofP. (Depends on PED) • Higher priced imports may reduce living standards • Foreign debt repayment is relatively more expensive.

  9. Developing countries • TOT is particularly serious for developing countries….

  10. Why? I hear you ask • They are often dependent upon a narrow range of goods for income • These are usually Primary resources. • Any change in the price or demand for that will have huge impact on their BofP.

  11. Why is the effect negative? •  in supply of primary products •  in synthetic substitutes • Protectionist agriculture policies   in supply, which is dumped on world mkts, lowering prices • Miniaturisation of production   in D

  12. But it gets worse… • TOT deteriorate so need to sell more to buy imports. •  to an  in supply which leads to a  in price. • High indebtedness means even more money is spent on debt repayment. • Has also led to environmental degradation.

  13. Causes of changes in TOT: HL only SHORT RUN • Exchange rate • D for X • Protectionist policies • Inflation

  14. Causes of changes in TOT: HL only • Successful supply side policies or  in productivity would lower domestic prices •  world supply can lead to gluts which drive down P •  Y will change demand patterns