Consider a country that imports a good from abroad. For each...

Name: Problem 7, Chapter 9: Principles of Economics
Uploaded: 2020-12-10T20:52:04-08:00
Duration: 8 min 25 s
Channel: Heather Duong
Description: Consider a country that imports a good from abroad. For each of following statements, state whether it is true or false. Explain your answer. a. "The greater the elasticity of demand, the greater the gains from trade." b. "If demand is perfectly inelastic, there are no gains from trade." c. "If demand is perfectly inelastic, consumers do not benefit from trade."

Consider a country that imports a good from abroad. For each of following statements, state whether it is true or false. Explain your answer. a. "The greater the elasticity of demand, the greater the gains from trade." b. "If demand is perfectly inelastic, there are no gains from trade." c. "If demand is perfectly inelastic, consumers do not benefit from trade."

Consider a country that imports a good from abroad. For each of following statements, state whether it is true or false. Explain your answer.
a. "The greater the elasticity of demand, the greater
the gains from trade."
b. "If demand is perfectly inelastic, there are no
gains from trade."
c. "If demand is perfectly inelastic, consumers do
not benefit from trade."

Key Concepts

Consumer Surplus

Consumer surplus is the difference between what consumers are willing to pay for a good and what they actually pay. In trade economics, consumer surplus helps measure the benefits received by consumers as a result of trade, such as access to lower prices or higher quality products. Even if demand is perfectly inelastic, changes in the market price due to trade policy can still affect consumer surplus, although the quantity consumed remains unchanged.

Perfectly Inelastic Demand

Perfectly inelastic demand occurs when the quantity demanded of a good remains constant regardless of changes in its price. In the context of international trade, if demand is perfectly inelastic, consumers will purchase exactly the same quantity regardless of how trade influences the market price. This has implications for the distribution of gains from trade, as price changes do not elicit changes in consumption behavior, potentially altering the incidence of tariffs or price adjustments on consumer welfare versus producer surplus.

Elasticity of Demand

Elasticity of demand refers to the responsiveness of the quantity demanded of a good to a change in its price. In international trade, the elasticity of demand determines how much consumers adjust their consumption when there are fluctuations in imported goods' prices due to tariffs, quotas, or changes in supply conditions. Higher elasticity implies that consumers can easily substitute between domestic and imported goods, affecting both the incidence of trade gains and the distribution of those gains between consumers and producers.

Gains from Trade

Gains from trade represent the net benefits that consumers and producers obtain from engaging in international transactions. These gains are measured by changes in consumer and producer surplus as a result of market integration and are influenced by shifts in relative prices, supply conditions, and market competition. Trade liberalization typically leads to overall efficiency improvements and welfare gains, although the distribution of these gains can vary based on market conditions such as demand elasticity.

Transcript

00:01 For this question, first we need to review the concept of gain from trade.

00:10 Here we have a supply and demand graph, and this is the initial equilibrium.

00:22 We have p star as the equilibrium price in a closed economy.

00:30 Now let's say the economy is open to trade and the world price is lower than the domestic equilibrium price.

00:37 World price is denoted as a dash line in blue.

00:45 So let's look at the change in consumer surplus and producer surplus.

00:51 In a closed economy, consumer surplus is the area below the demand curve and above the price line.

01:01 This is consumer surplus.

01:11 Producer surplus in the closed economy is the area above the price line.

01:20 The supply curve and under the price line.

01:29 Okay, so what happened when the economy is open to trade with a lower world price? now you can see that consumer surplus will increase.

01:46 So you will add to the initial consumer surplus this area.

01:57 Producer surplus decreased.

02:05 So producer surplus lost part of it to consumer surplus after trade, and now producer surplus is only this area.

02:22 These surplus are still compatible with the definition.

02:27 They must be under the demand curve for consumer surplus above the supply curve for producer surplus, and they are divided by the equilibrium price line and in an open economy the price line is the world price.

02:47 So what is the gain from trade in this graph? this triangle right here is the gain from trade.

03:06 You can see that the size of this triangle depends on the slope of the supply and demand curve.

03:16 In other words it's depends on the elasticity of supply and demand curves.

03:23 We are considering elasticity of the demand curve here.

03:31 So let's say d here is the initial demand curve.

03:35 Now i will make it more elastic...

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