CHAPTER 4: The Market System and International Trade

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CHAPTER 4The Market System and International
Trade
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CHAPTER 2Topics

• 4.1 Characteristics of the Market System
• 4.2 Market System at Work
• 4.3 Market Failure
• 4.4 Canada and International Trade

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4.3 Market Failure
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Market System

• Positive characteristics
• allocative productive efficiency
• self-correcting mechanisms of profit motive,
  competition
• Some limitations
• Market power
• Inequitable distribution of wealth
• Spillovers (externalities)
• Some goods/services not provided

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1. Spillovers

• Also called externalities
• Bad spillover cost negative
  externality
• Good spillover benefit positive
  externality

Some of the cost / benefit spills over to
someone other than the buyer or seller.
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1. Spillovers

• Spillover costs corrected through
• Legislation
• Specific taxes

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1. Spillovers

• Spillover benefits corrected through
• Subsidies to consumers or suppliers
• Government provision

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2. Public Goods

• Public Goods and Services
• Non-rivalry can be simultaneously consumed by
  everybody

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2. Public Goods

• Public Goods and Services
• Non-rivalry
• Non-excludability
• no one can be excluded, even if they havent
  paid

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2. Public Goods

• Public Goods and Services
• Non-rivalry
• Non-excludability
• Free rider problem inability to receive
  payment for an indivisible product

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2. Public Goods

• Quasi-Public Goods
• healthcare, education, streets, police, etc.
• could be priced/provided by private firms
• because of positive spillovers, government
  intervenes

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The Circular Flow Revisited
(1)
(1)COSTS
INCOME
-RENTS
WAGES
RESOURCE MARKETS
PROFITS
(2)FACTORS OF PRODUCTION
LAND
LABOUR
(2)
(8)
INTEREST
CAPITAL
FACTORS OF PRODUCTION
(7)

(9)GOODS SERVICES
(10)GOODS SERVICES
BUSINESSES
HOUSEHOLDS
GOVERNMENT
NET TAXES
NET TAXES
(12)
(11)
(6)
(5)
GOODS SERVICES

GOODS SERVICES
GOODS SERVICES
(4)
(4)
PRODUCT MARKETS
REVENUE
CONSUMPTION SPENDING
(3)
(3)
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4.4 Canada and International Trade
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International Trade

• goods services flows
• capital labour flows
• information technology flows
• financial flows

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Why Trade?

• Adam Smith late 1700s
• specialization trade increase productivity
• allow for greater total output

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Why Trade?

• The Wealth of Nations (1776)
• It is the maxim of every prudent master of a
  family, never to attempt to make at home what it
  will cost him more to make than to buy.
• The tailor does not attempt to make his own
  shoes, but buys them of the shoemaker. The
  shoemaker does not make his own clothes, but
  employs a tailor
• What is prudence in the conduct of every private
  family, can scarcely be folly in that of a great
  kingdom.

Adam Smith 1723 - 1790
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Why Trade?

• David Ricardo early 1800s
• comparative advantage can produce a good at a
  lower domestic opportunity cost
• absolute advantage
• can produce all goods at a lower domestic
• opportunity cost

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Comparative Costs
Canada has a comparative advantage in soybeans
Soybeans Mexico must give up 4 tonnes of corn
for 1 tonne of soybeans Canada must give up 3
tonnes of corn for 1 tonne of soybeans
lower domestic opportunity cost
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Comparative Costs
Mexico has comparative advantage in corn
Corn Mexico must give up ¼ tonne of soybeans for
1 tonne of corn Canada must give up 1/3 tonne of
soybeans for 1 tonne of corn
lower domestic opportunity cost
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Gains from Specialization Trade
Table 4-4
0
30
60
0
35
-10
-35
10
35
20
25
10
2
1
1
1
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Terms of Trade

• the amount of a good/service that must be given
  up to obtain one unit of another good/service
• must be between the domestic opportunity costs
  for each country
• many possibilities can be mutually beneficial

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Back to the Circular Flow Model
Figure 4-3
COSTS
CANADIAN RESOURCE MARKETS
INCOMES
INPUT FACTORS
FACTORS OF PRODUCTION
FACTORS OF PRODUCTION
EXPENDITURES
GOODS
GOODS
CANADIAN GOVERNMENT
CANADIAN BUSINESSES
CANADIAN HOUSEHOLDS
NET TAXES
NET TAXES
EXPENDITURES
GOODS SERVICES
CANADIAN PRODUCT MARKETS
GOODS SERVICES
GOODS SERVICES
CONSUMPTION
REVENUE
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CHAPTER 4Homework

• READ
• Textbook, Chapter 4