1 00:00:00,040 --> 00:00:02,460 The following content is provided under a Creative 2 00:00:02,460 --> 00:00:03,870 Commons license. 3 00:00:03,870 --> 00:00:06,910 Your support will help MIT OpenCourseWare continue to 4 00:00:06,910 --> 00:00:10,560 offer high quality educational resources for free. 5 00:00:10,560 --> 00:00:13,460 To make a donation or view additional materials from 6 00:00:13,460 --> 00:00:17,390 hundreds of MIT courses, visit MIT OpenCourseWare at 7 00:00:17,390 --> 00:00:18,640 ocw.mit.edu. 8 00:00:25,180 --> 00:00:28,310 PROFESSOR: The first 2/3 of the course were covering sort 9 00:00:28,310 --> 00:00:33,350 of what you need to know to know basic microeconomics-- 10 00:00:33,350 --> 00:00:35,420 consumer theory and producer theory. 11 00:00:35,420 --> 00:00:37,730 And basically you can now, if you understand the material, 12 00:00:37,730 --> 00:00:40,970 go forth in the world as a qualified micro economist. 13 00:00:40,970 --> 00:00:44,350 What we're going to do for the rest of the semester is apply 14 00:00:44,350 --> 00:00:48,150 what we've learned and show you how you can use the tools 15 00:00:48,150 --> 00:00:51,220 that we've learned from basic consumer and producer theory 16 00:00:51,220 --> 00:00:54,130 to understand a broader range of phenomena. 17 00:00:54,130 --> 00:00:55,560 Really, you can think of this as-- 18 00:00:55,560 --> 00:00:57,700 as I talked in the first lecture about we make 19 00:00:57,700 --> 00:00:59,320 simplifying assumptions-- 20 00:00:59,320 --> 00:01:02,460 this is sort of as we bend those simplifying assumptions, 21 00:01:02,460 --> 00:01:04,610 and consider more and more realistic applications of 22 00:01:04,610 --> 00:01:05,720 these models. 23 00:01:05,720 --> 00:01:09,810 And the hint of what the sort of stuff you can get to see as 24 00:01:09,810 --> 00:01:12,100 you move on in economics and move to our other courses 25 00:01:12,100 --> 00:01:13,740 beyond micro. 26 00:01:13,740 --> 00:01:16,120 So what we're going to start with today-- and of course, 27 00:01:16,120 --> 00:01:18,570 unfortunately, since I'm going to cover a lot of topics, I'll 28 00:01:18,570 --> 00:01:20,700 give each way too little time. 29 00:01:20,700 --> 00:01:22,680 Including today, which is one lecture on 30 00:01:22,680 --> 00:01:24,880 international trade. 31 00:01:24,880 --> 00:01:26,900 You could take several courses on it. 32 00:01:26,900 --> 00:01:29,210 We have an excellent undergrad course, 14.54 on 33 00:01:29,210 --> 00:01:31,450 international trade. 34 00:01:31,450 --> 00:01:33,780 And I'm going to sort of try to shove down your throats in 35 00:01:33,780 --> 00:01:36,340 one lecture the key things you need to know about 36 00:01:36,340 --> 00:01:37,600 international trade. 37 00:01:37,600 --> 00:01:39,620 But if you find it interesting I urge you to 38 00:01:39,620 --> 00:01:41,310 follow up on this. 39 00:01:41,310 --> 00:01:45,030 So, thinking about this-- 40 00:01:45,030 --> 00:01:45,906 a good way to think about international trade is to 41 00:01:45,906 --> 00:01:47,560 think about an example. 42 00:01:47,560 --> 00:01:50,490 So let's think about Valentine's Day. 43 00:01:50,490 --> 00:01:51,780 Valentine's Day sort of presents 44 00:01:51,780 --> 00:01:53,460 an interesting conundrum. 45 00:01:53,460 --> 00:01:56,360 Because Valentine's Day happens in the winter. 46 00:01:56,360 --> 00:01:58,920 And yet, the thing you're supposed to do is give roses. 47 00:01:58,920 --> 00:02:01,060 Which don't grow in the winter in the US. 48 00:02:01,060 --> 00:02:04,180 At least not very conveniently in many places. 49 00:02:04,180 --> 00:02:06,000 So you've got this difficult issue that basically we're 50 00:02:06,000 --> 00:02:07,925 supposed to represent this holiday with something that 51 00:02:07,925 --> 00:02:10,550 doesn't actually come that time of year. 52 00:02:10,550 --> 00:02:14,450 So historically what that meant it was if you wanted to 53 00:02:14,450 --> 00:02:17,740 get roses for Valentine's Day you to buy them from specially 54 00:02:17,740 --> 00:02:19,300 heated greenhouses. 55 00:02:19,300 --> 00:02:22,380 Where they set up largely to supply the roses for 56 00:02:22,380 --> 00:02:23,020 Valentine's Day. 57 00:02:23,020 --> 00:02:26,420 There wasn't really a large purpose for them otherwise. 58 00:02:26,420 --> 00:02:29,400 However, over the past couple of decades, what's happened is 59 00:02:29,400 --> 00:02:31,450 instead-- instead of growing these in these specially 60 00:02:31,450 --> 00:02:35,080 heated greenhouses, we've started flying them in from 61 00:02:35,080 --> 00:02:37,090 other places, from Colombia. 62 00:02:37,090 --> 00:02:40,090 Where of course, Colombia's on the other side of the equator. 63 00:02:40,090 --> 00:02:41,550 So February is a wonderful time to 64 00:02:41,550 --> 00:02:43,400 grow roses in Colombia. 65 00:02:43,400 --> 00:02:48,263 And as a result we've started flying them in. 66 00:02:48,263 --> 00:02:51,160 And the typical rose you will give on Valentine's Day this 67 00:02:51,160 --> 00:02:53,490 year will come from Colombia. 68 00:02:53,490 --> 00:02:58,090 Now the issue is-- is that a good thing or a bad thing? 69 00:02:58,090 --> 00:03:01,580 Now on the one hand, we get cheap roses. 70 00:03:01,580 --> 00:03:02,240 That's good. 71 00:03:02,240 --> 00:03:05,460 Especially for poor college students who want to impress 72 00:03:05,460 --> 00:03:08,180 their valentine by sending a dozen roses. 73 00:03:08,180 --> 00:03:09,220 It's good they're cheap. 74 00:03:09,220 --> 00:03:11,820 And roses are way cheaper now than they were when I was-- 75 00:03:11,820 --> 00:03:15,250 even in dollar terms when I was in college giving roses. 76 00:03:15,250 --> 00:03:17,240 Roses are just incredibly cheap now compared to 77 00:03:17,240 --> 00:03:19,010 20 or 30 years ago. 78 00:03:19,010 --> 00:03:21,460 On the other hand, a lot of rose producers 79 00:03:21,460 --> 00:03:22,990 have lost their jobs. 80 00:03:22,990 --> 00:03:25,600 A lot of people whose livelihoods and source of 81 00:03:25,600 --> 00:03:29,080 income was growing these roses are now out of jobs. 82 00:03:29,080 --> 00:03:31,700 OK, these are typically people who are not high-skilled 83 00:03:31,700 --> 00:03:33,800 people who can go find another job easily. 84 00:03:33,800 --> 00:03:35,800 These are people who have been really displaced for something 85 00:03:35,800 --> 00:03:38,470 which was a specialized skill which they cannot easily use 86 00:03:38,470 --> 00:03:40,130 other places. 87 00:03:40,130 --> 00:03:45,110 And basically this trade-off is sort of a microcosm of the 88 00:03:45,110 --> 00:03:47,380 debate we have over international trade every day. 89 00:03:47,380 --> 00:03:49,190 A debate that's ongoing. 90 00:03:49,190 --> 00:03:51,520 Obama just came back to the G20 summit. 91 00:03:51,520 --> 00:03:53,650 Where there was huge discussions of the issues of 92 00:03:53,650 --> 00:03:54,490 international trade. 93 00:03:54,490 --> 00:03:56,370 It's an ongoing debate. 94 00:03:56,370 --> 00:04:00,040 And it's a particularly important topic right now in 95 00:04:00,040 --> 00:04:02,620 the US because the US is running what's called an 96 00:04:02,620 --> 00:04:05,740 enormous trade deficit. 97 00:04:05,740 --> 00:04:10,000 The trade deficit is the difference between how much we 98 00:04:10,000 --> 00:04:13,550 export, that is how much of our goods we sell to other 99 00:04:13,550 --> 00:04:16,860 countries, minus how much we import. 100 00:04:16,860 --> 00:04:18,029 Which is how much of goods from other 101 00:04:18,029 --> 00:04:19,959 countries that we buy. 102 00:04:19,959 --> 00:04:24,550 Currently we export about $160 billion worth 103 00:04:24,550 --> 00:04:26,280 of goods every month. 104 00:04:26,280 --> 00:04:30,000 So every month we send out $160 billion worth of goods 105 00:04:30,000 --> 00:04:31,290 around the world. 106 00:04:31,290 --> 00:04:36,460 We import about $200 billion of goods every month. 107 00:04:36,460 --> 00:04:38,850 So that means we have a trade deficit that's running about 108 00:04:38,850 --> 00:04:41,860 $40 billion. 109 00:04:41,860 --> 00:04:44,710 Now the question is-- is that a problem? 110 00:04:44,710 --> 00:04:47,400 Is it a problem that the US is systematically buying more 111 00:04:47,400 --> 00:04:49,380 stuff from the rest of the world than 112 00:04:49,380 --> 00:04:51,990 they're buying from us? 113 00:04:51,990 --> 00:04:55,050 And the answer is it's not necessarily a problem. 114 00:04:55,050 --> 00:04:58,700 And really, it might in fact be a natural outcome because 115 00:04:58,700 --> 00:05:01,390 of the principle that we'll focus on today-- 116 00:05:01,390 --> 00:05:03,015 the principle of comparative advantage. 117 00:05:10,910 --> 00:05:13,810 Comparative advantage is saying if some other place is 118 00:05:13,810 --> 00:05:17,100 particularly good at producing roses in February, then we 119 00:05:17,100 --> 00:05:18,990 shouldn't be that stressed about the fact that we're 120 00:05:18,990 --> 00:05:21,780 running a deficit of roses. 121 00:05:21,780 --> 00:05:26,000 That's something which is OK in terms of total efficiency. 122 00:05:26,000 --> 00:05:29,680 So to see that, let's focus as this rose example in a 123 00:05:29,680 --> 00:05:32,210 particularly simplified way. 124 00:05:32,210 --> 00:05:34,390 Imagine there's two countries-- 125 00:05:34,390 --> 00:05:36,420 the US and Colombia. 126 00:05:36,420 --> 00:05:38,080 And there's only two goods in the world-- 127 00:05:38,080 --> 00:05:40,730 roses and computers. 128 00:05:40,730 --> 00:05:41,840 Two countries, two good models. 129 00:05:41,840 --> 00:05:44,040 The standard model we work with with international trade. 130 00:05:44,040 --> 00:05:45,860 With two country two good models you can develop almost 131 00:05:45,860 --> 00:05:47,310 everything you need to know. 132 00:05:47,310 --> 00:05:50,860 There is no need to make it more complicated. 133 00:05:50,860 --> 00:05:54,000 Now, as I mentioned it's really hard to grow roses in 134 00:05:54,000 --> 00:05:55,040 February in the US. 135 00:05:55,040 --> 00:05:56,930 It's a lot easier in Colombia. 136 00:05:56,930 --> 00:05:59,310 On the other hand, it's much easier to produce good 137 00:05:59,310 --> 00:06:01,220 computers in the US than in Colombia because we have the 138 00:06:01,220 --> 00:06:04,290 high skilled labor force that can produce computers. 139 00:06:04,290 --> 00:06:06,750 So we have a thing where the US is relatively bad at 140 00:06:06,750 --> 00:06:08,200 producing roses in February. 141 00:06:08,200 --> 00:06:12,880 Colombia's relatively bad at producing computers. 142 00:06:12,880 --> 00:06:17,460 So the key point is that means that the opportunity cost-- 143 00:06:17,460 --> 00:06:19,260 remember the opportunity cost, this key concept we've come 144 00:06:19,260 --> 00:06:20,800 back to a couple times. 145 00:06:20,800 --> 00:06:24,320 The opportunity cost of producing a rose in terms of 146 00:06:24,320 --> 00:06:28,230 producing computers is relatively high in the US. 147 00:06:28,230 --> 00:06:31,000 That is to produce a rose we have to use so many resources. 148 00:06:31,000 --> 00:06:32,840 Those resources can be much more effectively deployed to 149 00:06:32,840 --> 00:06:34,880 producing computers. 150 00:06:34,880 --> 00:06:37,530 Likewise, in Colombia, to produce a computer would use a 151 00:06:37,530 --> 00:06:40,120 ton of resources that would be much more effectively deployed 152 00:06:40,120 --> 00:06:42,040 to produce roses. 153 00:06:42,040 --> 00:06:45,160 As a result we see that Colombia has a comparative 154 00:06:45,160 --> 00:06:47,620 advantage in roses. 155 00:06:47,620 --> 00:06:51,360 And the US has a comparative advantage in computers. 156 00:06:51,360 --> 00:06:55,530 The point is that if a country is relatively good at 157 00:06:55,530 --> 00:06:57,990 something then they have a comparative advantage. 158 00:06:57,990 --> 00:07:00,540 And it's all about relativities. 159 00:07:00,540 --> 00:07:02,210 Because people are going to want both. 160 00:07:02,210 --> 00:07:04,400 But the key thing is who's relatively good at producing 161 00:07:04,400 --> 00:07:05,950 one versus the other. 162 00:07:05,950 --> 00:07:08,210 So to see that let's go to figure 19-1. 163 00:07:08,210 --> 00:07:13,690 To see how we diagram this, let's go to figure 19-1. 164 00:07:13,690 --> 00:07:17,390 Figure 19-1 shows production possibility frontiers. 165 00:07:17,390 --> 00:07:19,300 You learned about these a while back. 166 00:07:19,300 --> 00:07:21,790 Let me remind you, a production possibility 167 00:07:21,790 --> 00:07:24,230 frontier we talked about in the context of a firm. 168 00:07:24,230 --> 00:07:27,130 It shows the trade-off between the firm's ability to produce 169 00:07:27,130 --> 00:07:29,040 one good versus another good. 170 00:07:29,040 --> 00:07:30,900 So for a firm producing two goods a production 171 00:07:30,900 --> 00:07:34,170 possibilities frontier is the combination of the two goods 172 00:07:34,170 --> 00:07:39,490 they could produce at a given level of inputs. 173 00:07:39,490 --> 00:07:44,730 So we talked about it from the context of firms. We can also 174 00:07:44,730 --> 00:07:47,480 talk about this in the context of countries. 175 00:07:47,480 --> 00:07:49,230 That says, we can draw a US 176 00:07:49,230 --> 00:07:51,000 production possibility frontier. 177 00:07:51,000 --> 00:07:55,600 Which is given the resources the US has, it could produce 178 00:07:55,600 --> 00:07:58,980 up to 2000 computers and no roses. 179 00:07:58,980 --> 00:08:04,770 Or 1,000 dozen roses, boxes of roses, and no computers. 180 00:08:04,770 --> 00:08:06,910 And let's assume it's linear in between. 181 00:08:06,910 --> 00:08:09,060 So the US production possibility frontier is given 182 00:08:09,060 --> 00:08:11,190 the resources we have-- and this is a very simplified 183 00:08:11,190 --> 00:08:13,620 example-- but just bear with me. 184 00:08:13,620 --> 00:08:15,240 Given the resources we have, we can produce 2000 computers 185 00:08:15,240 --> 00:08:19,710 and no roses or 1,000 boxes of roses and no computers. 186 00:08:19,710 --> 00:08:22,730 Or any combination in between. 187 00:08:22,730 --> 00:08:25,940 That's our production possibility frontier. 188 00:08:25,940 --> 00:08:29,750 Columbia has a production possibility frontier 189 00:08:29,750 --> 00:08:31,510 illustrated in the second panel. 190 00:08:31,510 --> 00:08:35,500 They can produce 1,000 computers and no roses. 191 00:08:35,500 --> 00:08:39,110 Or 2000 boxes of roses and no computers. 192 00:08:39,110 --> 00:08:41,280 That is, Columbia has a comparative 193 00:08:41,280 --> 00:08:44,870 advantage in roses. 194 00:08:44,870 --> 00:08:47,600 Meaning that their production possibility frontier is a lot 195 00:08:47,600 --> 00:08:49,760 flatter than ours is. 196 00:08:49,760 --> 00:08:52,480 We have a comparative advantage in computers. 197 00:08:52,480 --> 00:08:54,440 Meaning our production possibility frontier is a lot 198 00:08:54,440 --> 00:08:57,340 steeper than is Colombia's. 199 00:08:57,340 --> 00:09:00,490 Ignore panel C for the moment. 200 00:09:00,490 --> 00:09:04,210 Now remember what the slope of the production possibility 201 00:09:04,210 --> 00:09:05,670 frontier is. 202 00:09:05,670 --> 00:09:07,745 It's the marginal rate of technical substitution. 203 00:09:10,650 --> 00:09:13,970 It's the marginal rate at which the producer can 204 00:09:13,970 --> 00:09:16,100 substitute one good for another. 205 00:09:19,030 --> 00:09:23,920 So basically, for the US, the marginal rate of substitution 206 00:09:23,920 --> 00:09:26,980 of roses for computers is -2. 207 00:09:26,980 --> 00:09:29,450 That is you have to give up two computers to 208 00:09:29,450 --> 00:09:31,880 get one box of roses. 209 00:09:31,880 --> 00:09:34,710 In Colombia it's -1/2. 210 00:09:34,710 --> 00:09:37,440 You have to give up 1/2 a computer to 211 00:09:37,440 --> 00:09:39,580 get a box of roses. 212 00:09:39,580 --> 00:09:42,400 So since the marginal rate of substitution is so much higher 213 00:09:42,400 --> 00:09:45,600 in the US, we say that Colombia has a comparative 214 00:09:45,600 --> 00:09:47,300 advantage in producing roses. 215 00:09:50,910 --> 00:09:54,340 Now let's go further and impose tastes on consumers in 216 00:09:54,340 --> 00:09:55,750 each country. 217 00:09:55,750 --> 00:10:02,480 Let's say that tastes are such that given these production 218 00:10:02,480 --> 00:10:06,360 possibility frontiers, consumers in the US choose 219 00:10:06,360 --> 00:10:08,610 1,000 computers and 500 boxes of roses. 220 00:10:08,610 --> 00:10:11,260 We choose production over love. 221 00:10:11,260 --> 00:10:14,130 Colombia chooses love over production. 222 00:10:14,130 --> 00:10:16,360 Given their production possibility frontier, this is 223 00:10:16,360 --> 00:10:18,030 not inherently about taste necessarily. 224 00:10:18,030 --> 00:10:20,080 Because you have very different slopes here. 225 00:10:20,080 --> 00:10:21,820 But given their tastes and their production possibility 226 00:10:21,820 --> 00:10:24,490 frontier, they choose 500 computers and 227 00:10:24,490 --> 00:10:28,740 1,000 boxes of roses. 228 00:10:28,740 --> 00:10:30,630 Now this we call the outcome. 229 00:10:30,630 --> 00:10:34,940 We call this outcome the autarchy outcome. 230 00:10:34,940 --> 00:10:36,280 Autarchy. 231 00:10:36,280 --> 00:10:37,660 Which is the word-- 232 00:10:37,660 --> 00:10:39,500 I don't know what the hell it means, but it basically means 233 00:10:39,500 --> 00:10:40,620 no trading. 234 00:10:40,620 --> 00:10:40,860 Autarchy. 235 00:10:40,860 --> 00:10:42,330 I don't know where it comes from. 236 00:10:42,330 --> 00:10:44,320 Must be some Russian term or something. 237 00:10:44,320 --> 00:10:45,330 Autarchy. 238 00:10:45,330 --> 00:10:48,130 Which means no trading. 239 00:10:48,130 --> 00:10:51,360 So the no trading outcome is consumers in the US consume 240 00:10:51,360 --> 00:10:54,650 1,000 computers and 500 boxes of roses. 241 00:10:54,650 --> 00:10:57,640 Consumers in Colombia consume 500 computers and 242 00:10:57,640 --> 00:11:00,430 1,000 boxes of roses. 243 00:11:00,430 --> 00:11:06,040 Now the key point is that both the US and Colombia can be 244 00:11:06,040 --> 00:11:10,440 better off if we introduce trade. 245 00:11:10,440 --> 00:11:11,820 And how is that? 246 00:11:11,820 --> 00:11:16,390 Well if we introduced trade, then each country can 247 00:11:16,390 --> 00:11:20,650 specialize in their comparative advantage. 248 00:11:20,650 --> 00:11:25,110 Trade allows for specialization. 249 00:11:25,110 --> 00:11:27,400 That is the key advantage of trade. 250 00:11:27,400 --> 00:11:30,950 Their comparative advantage naturally yields 251 00:11:30,950 --> 00:11:32,200 specialization. 252 00:11:35,390 --> 00:11:36,280 Comparative advantage naturally yields 253 00:11:36,280 --> 00:11:38,620 specialization-- it makes sense for the US to be a 254 00:11:38,620 --> 00:11:41,600 computer producer and Columbia to be a rose producer. 255 00:11:41,600 --> 00:11:44,520 It doesn't make sense the two countries to produce both. 256 00:11:44,520 --> 00:11:48,100 But absent international trade they have to produce both. 257 00:11:48,100 --> 00:11:50,210 Because consumers want both. 258 00:11:50,210 --> 00:11:52,920 So if we're shut off from the world and Columbia's shut off 259 00:11:52,920 --> 00:11:58,170 from the world, then we end up as in figures A and B. But 260 00:11:58,170 --> 00:12:01,800 once we introduce trade, then we can take advantage of our 261 00:12:01,800 --> 00:12:03,870 relative expertise. 262 00:12:03,870 --> 00:12:06,770 And we get a new production possibility frontier which 263 00:12:06,770 --> 00:12:10,090 looks like panel C. 264 00:12:10,090 --> 00:12:16,720 That is, if you want more than 2000 computers-- 265 00:12:16,720 --> 00:12:21,270 so if you want 2000 computers and 2000 roses-- 266 00:12:21,270 --> 00:12:25,270 then you simply have the US produce just computers and 267 00:12:25,270 --> 00:12:27,800 Colombia produce just roses. 268 00:12:27,800 --> 00:12:30,150 And you can get 2000 of each. 269 00:12:30,150 --> 00:12:32,890 Now you can get 3,000 computers and no roses by 270 00:12:32,890 --> 00:12:34,790 having everybody produce computers. 271 00:12:34,790 --> 00:12:37,600 Or 3,000 roses and no computers by having everybody 272 00:12:37,600 --> 00:12:38,990 produce roses. 273 00:12:38,990 --> 00:12:40,940 So you know production possibility frontier has its 274 00:12:40,940 --> 00:12:46,330 sort of wedge point that 2000-2000 intersection. 275 00:12:46,330 --> 00:12:47,890 You can label that point the point of specialization where 276 00:12:47,890 --> 00:12:49,940 those two dashed lines hit the solid line. 277 00:12:49,940 --> 00:12:51,560 That's the point of specialization, pure 278 00:12:51,560 --> 00:12:52,670 specialization. 279 00:12:52,670 --> 00:12:56,280 That's the point where the US does just what it's good at. 280 00:12:56,280 --> 00:12:59,170 And Colombia does just what it's good at. 281 00:12:59,170 --> 00:13:01,260 Of course you could have other combinations too. 282 00:13:01,260 --> 00:13:02,620 And that's what leads to this bent 283 00:13:02,620 --> 00:13:04,300 production possibility frontier. 284 00:13:04,300 --> 00:13:06,950 But the key point is this joint production possibility 285 00:13:06,950 --> 00:13:10,420 frontier is further out than what any country could have 286 00:13:10,420 --> 00:13:13,310 produced on its own. 287 00:13:13,310 --> 00:13:15,550 We've increased the opportunity set. 288 00:13:15,550 --> 00:13:19,490 Specialization has led to a larger opportunity set. 289 00:13:22,650 --> 00:13:24,670 A larger opportunity set-- we've expanded the opportunity 290 00:13:24,670 --> 00:13:27,195 set for the world by allowing countries to specialize. 291 00:13:30,370 --> 00:13:35,500 And the result of that you can see in the next figure. 292 00:13:35,500 --> 00:13:40,690 In figure 19-2 which shows gains from trade. 293 00:13:40,690 --> 00:13:42,320 So what this figure shows-- 294 00:13:42,320 --> 00:13:44,320 this is the same autarchy figure from 295 00:13:44,320 --> 00:13:45,970 panels A and B before. 296 00:13:45,970 --> 00:13:47,220 I've just added some more labels. 297 00:13:50,130 --> 00:13:53,640 So what we see is, in autarchy, we're at 298 00:13:53,640 --> 00:13:55,760 point C- sub US. 299 00:13:55,760 --> 00:13:58,380 With the US producing and consuming 1,000 computers and 300 00:13:58,380 --> 00:14:02,540 500 boxes of roses. 301 00:14:02,540 --> 00:14:06,180 If we move to specialization, move to international trade, 302 00:14:06,180 --> 00:14:10,440 what happens is the US moves to producing 2000 303 00:14:10,440 --> 00:14:13,040 computers at Q-US. 304 00:14:13,040 --> 00:14:15,825 And, likewise, looking at the second panel, Colombia moves 305 00:14:15,825 --> 00:14:19,033 to producing 2000 box of roses at Q-CO. 306 00:14:21,960 --> 00:14:25,650 And US consumers now increase their consumption of both 307 00:14:25,650 --> 00:14:28,760 roses and computers. 308 00:14:28,760 --> 00:14:31,350 As do Colombian consumers. 309 00:14:31,350 --> 00:14:37,030 And you end up with total consumption of 2000 computers 310 00:14:37,030 --> 00:14:37,980 and 2000 roses. 311 00:14:37,980 --> 00:14:41,310 So the US consumes 1250 computers and Colombia 312 00:14:41,310 --> 00:14:42,840 consumes 750. 313 00:14:42,840 --> 00:14:44,440 And the flip for roses. 314 00:14:44,440 --> 00:14:46,840 So we are learning that Colombians, even at the same 315 00:14:46,840 --> 00:14:49,450 price, do prefer love over production. 316 00:14:49,450 --> 00:14:52,450 But nonetheless, the bottom line is, both sets of 317 00:14:52,450 --> 00:14:54,600 consumers are better off. 318 00:14:54,600 --> 00:14:57,610 Both sets of consumers are consuming at a higher point 319 00:14:57,610 --> 00:14:59,870 than was possible without trade. 320 00:14:59,870 --> 00:15:02,420 It's magic. 321 00:15:02,420 --> 00:15:05,620 The magic is that simply by letting them trade we have 322 00:15:05,620 --> 00:15:08,210 made both countries better off. 323 00:15:08,210 --> 00:15:11,790 And the magic, the key to the magic, is specialization and 324 00:15:11,790 --> 00:15:13,110 comparative advantage. 325 00:15:13,110 --> 00:15:16,270 If the US and Colombia were identical in terms of their 326 00:15:16,270 --> 00:15:19,900 production possibility frontiers then you should be 327 00:15:19,900 --> 00:15:23,940 able to see that there would be no gains from trade. 328 00:15:23,940 --> 00:15:25,550 If they had the same production possibility 329 00:15:25,550 --> 00:15:29,180 frontier, if in A and B the slopes were the same, then the 330 00:15:29,180 --> 00:15:31,260 joint production possibility frontier would be identical to 331 00:15:31,260 --> 00:15:32,620 what's in each country. 332 00:15:32,620 --> 00:15:34,500 There would be no gains from trade. 333 00:15:34,500 --> 00:15:36,990 Gains from trade come from the fact that these production 334 00:15:36,990 --> 00:15:39,370 possibility frontiers have different slopes. 335 00:15:39,370 --> 00:15:41,230 That there's comparative advantage in one country and 336 00:15:41,230 --> 00:15:42,070 not another. 337 00:15:42,070 --> 00:15:43,320 Which allows specialization. 338 00:15:45,560 --> 00:15:49,470 So, basically, the key insight of international trade-- and 339 00:15:49,470 --> 00:15:52,660 once again I'm doing now in 50 minutes what you do in 12 340 00:15:52,660 --> 00:15:54,610 lectures when you get it right. 341 00:15:54,610 --> 00:15:59,700 But the rough insight is that comparative advantage yields 342 00:15:59,700 --> 00:16:02,550 specialization, yields gains from trade. 343 00:16:02,550 --> 00:16:04,480 That's sort of the chain of logic to be 344 00:16:04,480 --> 00:16:07,310 thinking about this. 345 00:16:07,310 --> 00:16:09,111 Questions about that? 346 00:16:09,111 --> 00:16:10,524 Yeah? 347 00:16:10,524 --> 00:16:12,408 AUDIENCE: If we're going to adjust to international 348 00:16:12,408 --> 00:16:12,879 situations? 349 00:16:12,879 --> 00:16:13,821 Or could it be any sort of 350 00:16:13,821 --> 00:16:15,240 specialization between two companies? 351 00:16:15,240 --> 00:16:17,060 PROFESSOR: Any specialization between two companies. 352 00:16:17,060 --> 00:16:18,620 So just we learned about this originally in 353 00:16:18,620 --> 00:16:20,340 the context of companies. 354 00:16:20,340 --> 00:16:22,330 Same issue. 355 00:16:22,330 --> 00:16:23,730 In the business world they have a term for this. 356 00:16:23,730 --> 00:16:24,530 What do they call it? 357 00:16:24,530 --> 00:16:26,110 Synergy. 358 00:16:26,110 --> 00:16:26,990 You all know that word, you've got to if you're going to 359 00:16:26,990 --> 00:16:27,490 business school. 360 00:16:27,490 --> 00:16:29,070 Synergy. 361 00:16:29,070 --> 00:16:31,780 Synergy means that somehow you put two companies together and 362 00:16:31,780 --> 00:16:34,440 they can produce the same stuff better. 363 00:16:34,440 --> 00:16:36,920 Synergy is a fancy name for this. 364 00:16:36,920 --> 00:16:39,950 Which is the idea is that there may be gains from 365 00:16:39,950 --> 00:16:42,360 specialization even within a company. 366 00:16:42,360 --> 00:16:47,970 But if you take the old example, take two shoe 367 00:16:47,970 --> 00:16:51,360 companies, both producing left and right shoes inefficiently 368 00:16:51,360 --> 00:16:52,220 and they could specialize. 369 00:16:52,220 --> 00:16:53,630 And one could do better producing left shoes and one 370 00:16:53,630 --> 00:16:54,610 at right shoes. 371 00:16:54,610 --> 00:16:55,730 You put them together and overall you 372 00:16:55,730 --> 00:16:57,050 can have more shoes. 373 00:16:57,050 --> 00:16:58,610 That's actually a pretty stupid example, 374 00:16:58,610 --> 00:17:00,020 but you get the point. 375 00:17:00,020 --> 00:17:04,880 That basically the same principle can occur whenever 376 00:17:04,880 --> 00:17:06,839 there are gains from trade. 377 00:17:06,839 --> 00:17:09,079 Whenever there's comparative advantage of specialization 378 00:17:09,079 --> 00:17:10,790 you make gains from trade. 379 00:17:10,790 --> 00:17:11,680 Good question. 380 00:17:11,680 --> 00:17:12,930 Other questions? 381 00:17:14,750 --> 00:17:17,440 Now, that raises the interesting question of-- well 382 00:17:17,440 --> 00:17:19,140 these comparative advantage things sound great. 383 00:17:19,140 --> 00:17:20,180 Where can I get one? 384 00:17:20,180 --> 00:17:22,819 Where do comparative advantages come from? 385 00:17:22,819 --> 00:17:25,710 And there's really two sources of comparative advantages. 386 00:17:25,710 --> 00:17:27,800 Comparative advantage in international trade. 387 00:17:27,800 --> 00:17:29,670 So where does comparative advantage come from? 388 00:17:29,670 --> 00:17:32,220 One is differences in factor endowment. 389 00:17:37,510 --> 00:17:39,250 Differences in factor endowment. 390 00:17:39,250 --> 00:17:43,300 What that means, is that for example, Canada 391 00:17:43,300 --> 00:17:46,220 has a ton of trees. 392 00:17:46,220 --> 00:17:48,040 Everywhere. 393 00:17:48,040 --> 00:17:50,930 Canada is endowed with an enormous 394 00:17:50,930 --> 00:17:52,920 amount of lumber resources. 395 00:17:52,920 --> 00:17:54,690 With that factor very well. 396 00:17:54,690 --> 00:17:57,590 So Canada is an enormous exporter of 397 00:17:57,590 --> 00:17:59,440 lumber and paper products. 398 00:17:59,440 --> 00:18:01,210 Because they happen to have the main thing you need for 399 00:18:01,210 --> 00:18:05,320 that which is unbelievable amounts of trees, everywhere. 400 00:18:05,320 --> 00:18:11,620 So Canada can specialize in exporting lumber and paper. 401 00:18:11,620 --> 00:18:14,430 So now that gives them a comparative 402 00:18:14,430 --> 00:18:16,940 advantage in that area. 403 00:18:16,940 --> 00:18:18,270 Now let me ask you another question. 404 00:18:18,270 --> 00:18:20,930 Why does China export most of the world's clothes now? 405 00:18:24,500 --> 00:18:25,450 What? 406 00:18:25,450 --> 00:18:25,980 AUDIENCE: [INAUDIBLE] 407 00:18:25,980 --> 00:18:26,760 PROFESSOR: Cheap labor. 408 00:18:26,760 --> 00:18:28,520 It's not that they have cheaper textiles. 409 00:18:28,520 --> 00:18:30,850 It's not that the cloth itself-- 410 00:18:30,850 --> 00:18:32,940 and I realize that the silkworms are in China. 411 00:18:32,940 --> 00:18:34,990 But not like the actual production of cloth is that 412 00:18:34,990 --> 00:18:35,560 much cheaper. 413 00:18:35,560 --> 00:18:37,980 It's that clothes are primarily a 414 00:18:37,980 --> 00:18:39,950 labor intensive good. 415 00:18:39,950 --> 00:18:42,190 And the labor is cheapest in China. 416 00:18:42,190 --> 00:18:43,930 So they have a factor endowment. 417 00:18:43,930 --> 00:18:46,260 They have an advantage, comparative advantage, in 418 00:18:46,260 --> 00:18:48,570 labor intensive goods. 419 00:18:48,570 --> 00:18:53,120 So China, with international trade, will produce a 420 00:18:53,120 --> 00:18:55,140 disproportionate share of labor intensive goods. 421 00:18:55,140 --> 00:18:57,580 Because they can specialize in labor intensive goods. 422 00:18:57,580 --> 00:19:00,070 And make them cheaper for the rest of the world. 423 00:19:00,070 --> 00:19:05,270 So likewise, a sweatshirt that you would go and buy today-- 424 00:19:05,270 --> 00:19:07,350 especially if you go and buy it at a not top end store. 425 00:19:07,350 --> 00:19:11,270 At an Old Navy or even at a Costco. 426 00:19:11,270 --> 00:19:13,930 Is literally in dollar terms cheaper than what I paid for 427 00:19:13,930 --> 00:19:15,530 that same sweatshirt when I was in college 428 00:19:15,530 --> 00:19:18,280 in the early 1980s. 429 00:19:18,280 --> 00:19:20,240 Because they're just produced incredibly 430 00:19:20,240 --> 00:19:21,040 cheaply in China now. 431 00:19:21,040 --> 00:19:22,290 We bring them in and they're just cheap. 432 00:19:25,060 --> 00:19:32,080 Goods where you can specialize in that are going to be-- 433 00:19:32,080 --> 00:19:35,220 when you take advantage of specialization 434 00:19:35,220 --> 00:19:37,170 will be a lot cheaper. 435 00:19:37,170 --> 00:19:39,950 So that's one reason why you see comparative advantage. 436 00:19:42,690 --> 00:19:47,220 The second reason is going to be technological leadership. 437 00:19:54,620 --> 00:19:56,340 Technological leadership. 438 00:19:56,340 --> 00:20:01,320 So, for example, Japan has no natural comparative advantage 439 00:20:01,320 --> 00:20:03,260 of producing cars. 440 00:20:03,260 --> 00:20:04,780 There's no reason why Japan should have a comparative 441 00:20:04,780 --> 00:20:07,340 advantage of producing cars over the US. 442 00:20:07,340 --> 00:20:11,170 Except they developed the technology to more efficiently 443 00:20:11,170 --> 00:20:14,970 mass produce the modern automobile. 444 00:20:14,970 --> 00:20:19,130 As a result of that technological leadership they 445 00:20:19,130 --> 00:20:22,830 gave themselves, essentially, comparative advantage. 446 00:20:22,830 --> 00:20:25,940 Now, once that technology becomes public, the production 447 00:20:25,940 --> 00:20:26,600 shifts elsewhere. 448 00:20:26,600 --> 00:20:29,320 So now China is a major producer of cars. 449 00:20:29,320 --> 00:20:32,170 Basically copy-catting the technology developed in Japan. 450 00:20:32,170 --> 00:20:33,640 So it does move elsewhere. 451 00:20:33,640 --> 00:20:35,790 Unlike factor endowments-- 452 00:20:35,790 --> 00:20:37,130 if the US wanted to compete with Canada I guess we could 453 00:20:37,130 --> 00:20:39,370 plant trees and in 50 years we would compete. 454 00:20:39,370 --> 00:20:41,860 But factor endowments are kind of hard to compete on. 455 00:20:41,860 --> 00:20:44,895 Technology is potentially a little bit easier because you 456 00:20:44,895 --> 00:20:47,430 can reverse engineer things. 457 00:20:47,430 --> 00:20:48,320 So once again, the 458 00:20:48,320 --> 00:20:49,930 technology's shifting to China. 459 00:20:49,930 --> 00:20:51,940 So really the answer is in the long run everything's going to 460 00:20:51,940 --> 00:20:53,480 be made in China. 461 00:20:53,480 --> 00:20:55,610 Because they've got the cheap labor. 462 00:20:55,610 --> 00:20:59,200 And they're adopting the technology. 463 00:20:59,200 --> 00:21:01,270 And once again, to quote towards our most important 464 00:21:01,270 --> 00:21:04,010 sense of cultural relevance, there's the episode of the 465 00:21:04,010 --> 00:21:07,390 Simpsons where Homer says, don't worry we're fine. 466 00:21:07,390 --> 00:21:10,240 We're going to rule-- 467 00:21:10,240 --> 00:21:11,340 our country's going to rule the world. 468 00:21:11,340 --> 00:21:11,910 We're fine in the future. 469 00:21:11,910 --> 00:21:14,610 He goes, wait a second we're China, right? 470 00:21:14,610 --> 00:21:18,610 So basically China is doing very well because they've got 471 00:21:18,610 --> 00:21:20,920 these factor endowments-- 472 00:21:20,920 --> 00:21:24,760 these great factor endowments and because they are adopting 473 00:21:24,760 --> 00:21:25,980 technology as well. 474 00:21:25,980 --> 00:21:29,164 What's interesting about this is this really leads to some 475 00:21:29,164 --> 00:21:30,240 more interesting policy issues. 476 00:21:30,240 --> 00:21:31,410 Once again, factor endowment you can't 477 00:21:31,410 --> 00:21:32,820 do a whole lot about. 478 00:21:32,820 --> 00:21:36,700 The interesting policy issues are in technological progress. 479 00:21:36,700 --> 00:21:38,890 This is an argument that many people make for subsidizing 480 00:21:38,890 --> 00:21:39,600 new technologies. 481 00:21:39,600 --> 00:21:41,510 So you often hear President Obama saying, we need to 482 00:21:41,510 --> 00:21:43,370 subsidize green technologies. 483 00:21:43,370 --> 00:21:44,800 This is the wave of the future. 484 00:21:44,800 --> 00:21:47,290 The idea, what he's saying implicitly is if we get the 485 00:21:47,290 --> 00:21:50,640 technological leadership, we can make the green products 486 00:21:50,640 --> 00:21:51,300 that are exported. 487 00:21:51,300 --> 00:21:51,790 Not the color-- 488 00:21:51,790 --> 00:21:54,450 I mean environmental stuff-- that can be exported to the 489 00:21:54,450 --> 00:21:55,410 rest of the world. 490 00:21:55,410 --> 00:21:56,880 And that's the argument that he's making. 491 00:21:59,490 --> 00:22:00,740 Question about that? 492 00:22:02,920 --> 00:22:06,330 Now let's talk about where we started the lecture, which is 493 00:22:06,330 --> 00:22:07,560 is trade a good thing or a bad thing? 494 00:22:07,560 --> 00:22:10,800 I just talked about how trade can greatly increase 495 00:22:10,800 --> 00:22:12,670 consumption possibilities. 496 00:22:12,670 --> 00:22:16,960 But why haven't we talked about the consumers? 497 00:22:16,960 --> 00:22:20,380 What about overall social welfare. 498 00:22:20,380 --> 00:22:23,300 And the answer is that trade unambiguously 499 00:22:23,300 --> 00:22:25,470 increases social welfare. 500 00:22:25,470 --> 00:22:30,640 That trade is unambiguously a good thing to do. 501 00:22:30,640 --> 00:22:36,630 So to see that let's go to the next series of figures. 502 00:22:36,630 --> 00:22:39,000 Start with figure 19-3. 503 00:22:39,000 --> 00:22:41,440 So let's start with the market for roses 504 00:22:41,440 --> 00:22:42,990 and imagine we have-- 505 00:22:42,990 --> 00:22:45,410 [INAUDIBLE] autarchy is sometimes spelled with a K, 506 00:22:45,410 --> 00:22:47,200 sometimes with a CH, I don't know what the right way to 507 00:22:47,200 --> 00:22:48,230 spell it is. 508 00:22:48,230 --> 00:22:50,490 But anyway, you have autarchy. 509 00:22:50,490 --> 00:22:52,960 So the US-- imagine the old days where we produced all our 510 00:22:52,960 --> 00:22:54,890 roses and we're at some equilibrium with some consumer 511 00:22:54,890 --> 00:22:56,620 surplus and producer surplus. 512 00:22:56,620 --> 00:23:02,090 So we produce Q sub A roses at a price p sub A. 513 00:23:02,090 --> 00:23:04,720 Now, in figure 19-4 we're going to introduce 514 00:23:04,720 --> 00:23:05,480 international trade. 515 00:23:05,480 --> 00:23:09,110 It's a little confusing, so let's go through it slowly. 516 00:23:09,110 --> 00:23:11,450 Figure 19-4. 517 00:23:11,450 --> 00:23:14,520 You can find on that figure the domestic supply and the 518 00:23:14,520 --> 00:23:15,770 domestic demand. 519 00:23:15,770 --> 00:23:20,670 And they intersect at point A. Figure 19-4, domestic supply 520 00:23:20,670 --> 00:23:25,790 and domestic demand intersect at A. Which is once again a 521 00:23:25,790 --> 00:23:27,600 quantiy of Q sub A and a price of P sub a. 522 00:23:30,110 --> 00:23:36,310 Now let's say that what happens is we now allow 523 00:23:36,310 --> 00:23:38,740 imports of roses. 524 00:23:38,740 --> 00:23:40,510 We now trade with Colombia for roses. 525 00:23:40,510 --> 00:23:43,220 What that does is that means now instead of just drawing on 526 00:23:43,220 --> 00:23:46,100 the domestic supply, we can now draw on the 527 00:23:46,100 --> 00:23:47,990 world's supply of roses. 528 00:23:47,990 --> 00:23:49,420 We don't have to just rely on domestic supply. 529 00:23:49,420 --> 00:23:52,110 Well, that by definition has shifted further out. 530 00:23:52,110 --> 00:23:53,860 And it's shifted further out because other countries 531 00:23:53,860 --> 00:23:57,080 countries can produce roses so much more cheaply than we can. 532 00:23:57,080 --> 00:24:00,680 So we can rely on the world's supply of roses. 533 00:24:00,680 --> 00:24:03,130 Remember my cotton example where you first buy from the 534 00:24:03,130 --> 00:24:04,200 cheapest country, then the next 535 00:24:04,200 --> 00:24:05,580 cheapest country, et cetera. 536 00:24:05,580 --> 00:24:07,270 This is what we're saying-- if the US was the cheapest 537 00:24:07,270 --> 00:24:09,960 producer of roses, this wouldn't shift out. 538 00:24:09,960 --> 00:24:12,180 But since the US is not the cheapest producer of roses 539 00:24:12,180 --> 00:24:14,150 this shifts out to world supply. 540 00:24:14,150 --> 00:24:18,250 And we get to a new equilibrium at 541 00:24:18,250 --> 00:24:19,890 quantity C sub t. 542 00:24:23,620 --> 00:24:26,130 That's the new quantity of roses we consume. 543 00:24:26,130 --> 00:24:27,380 And a lower price P sub w. 544 00:24:30,260 --> 00:24:32,430 The horizontal line's a little distracting, actually. 545 00:24:32,430 --> 00:24:35,755 But basically what you have here-- the horizontal line is 546 00:24:35,755 --> 00:24:39,190 just showing the price in autarchy and the world price. 547 00:24:39,190 --> 00:24:41,805 But the bottom line is, what you get you get is you get 548 00:24:41,805 --> 00:24:47,823 this new equilibrium with a quantity C sub t and 549 00:24:47,823 --> 00:24:48,950 a price P sub w. 550 00:24:48,950 --> 00:24:53,060 And in particular, what we're seeing is that total domestic 551 00:24:53,060 --> 00:24:55,190 consumption of roses has increased. 552 00:24:55,190 --> 00:24:56,940 But domestic production has fallen. 553 00:24:56,940 --> 00:25:00,480 Because look, the new price intersects the supply 554 00:25:00,480 --> 00:25:04,040 curve at Q sub t. 555 00:25:04,040 --> 00:25:08,540 So what happens is at that new lower price P sub w, US rose 556 00:25:08,540 --> 00:25:10,180 producers aren't actually producing as much. 557 00:25:10,180 --> 00:25:15,420 So US domestic production falls from Q sub a to Q sub t. 558 00:25:15,420 --> 00:25:19,310 But US consumption rises from Q sub a to C sub t. 559 00:25:19,310 --> 00:25:22,330 The difference is imports. 560 00:25:22,330 --> 00:25:25,020 Production falls from Q sub a to Q sub t. 561 00:25:25,020 --> 00:25:27,630 Consumption rises from Q sub a to C sub t. 562 00:25:27,630 --> 00:25:30,060 The difference is imports. 563 00:25:30,060 --> 00:25:31,320 And that's what happens when we allow 564 00:25:31,320 --> 00:25:33,670 Colombia to send us roses. 565 00:25:33,670 --> 00:25:35,480 What are the welfare implications of that? 566 00:25:35,480 --> 00:25:38,300 Let's go to figure 19-5. 567 00:25:38,300 --> 00:25:41,530 And what you can see is we can show you the welfare 568 00:25:41,530 --> 00:25:42,100 implications. 569 00:25:42,100 --> 00:25:46,400 Previously consumer surplus was W. Producer surplus was X 570 00:25:46,400 --> 00:25:51,040 plus that other white triangle below X. Now what's happened? 571 00:25:51,040 --> 00:25:54,880 Consumer surplus has gone up by X, because consumers have 572 00:25:54,880 --> 00:25:56,750 gained that plus z. 573 00:25:56,750 --> 00:26:01,570 So consumers have gained that entire trapezoid, X plus Z. 574 00:26:01,570 --> 00:26:06,420 Producers have lost x. 575 00:26:06,420 --> 00:26:10,180 Producers have lost that trapezoid, X. So in total 576 00:26:10,180 --> 00:26:13,400 we've gained Z. We've gained that entire triangle, Z. Z is 577 00:26:13,400 --> 00:26:16,260 the entire triangle on both sides of the dashed line. 578 00:26:16,260 --> 00:26:20,130 So we've gained all of Z. Consumers gained X plus Z, 579 00:26:20,130 --> 00:26:25,990 producers lost X. We've gained Z. So overall we've increased 580 00:26:25,990 --> 00:26:30,550 welfare in the US. 581 00:26:30,550 --> 00:26:35,170 So basically consumers win, producers lose. 582 00:26:35,170 --> 00:26:36,480 And that's the problem. 583 00:26:36,480 --> 00:26:39,070 The political problem we have. And I'll come back to this. 584 00:26:39,070 --> 00:26:41,500 What you can see is consumers win, producers lose. 585 00:26:41,500 --> 00:26:45,550 But by definition, consumers win more than producers lose. 586 00:26:45,550 --> 00:26:47,560 So overall, social surplus has gone up. 587 00:26:50,270 --> 00:26:53,060 Now that's the case of imports. 588 00:26:53,060 --> 00:26:53,970 Now what about exports? 589 00:26:53,970 --> 00:26:55,260 Well if imports make us better, do 590 00:26:55,260 --> 00:26:57,070 exports make us worse? 591 00:26:57,070 --> 00:26:58,800 We just said imports make us better. 592 00:26:58,800 --> 00:26:59,470 What about exports? 593 00:26:59,470 --> 00:27:03,770 Well let's look at that in figure 19-6. 594 00:27:03,770 --> 00:27:06,720 Now figure 19-6 shows what happens with exports. 595 00:27:06,720 --> 00:27:10,930 Once again we start at point A, the domestic outcome, point 596 00:27:10,930 --> 00:27:18,400 A. And now we're talking about computers. 597 00:27:18,400 --> 00:27:21,100 So now the US is going to export computers. 598 00:27:21,100 --> 00:27:27,550 What that means is that the supply of computers to people 599 00:27:27,550 --> 00:27:29,560 in the US is going to fall. 600 00:27:29,560 --> 00:27:29,890 why? 601 00:27:29,890 --> 00:27:31,910 Because a bunch of them are going to get sent away. 602 00:27:31,910 --> 00:27:35,480 So it used to be US consumers got to consume on that 603 00:27:35,480 --> 00:27:38,040 domestic supply-- 604 00:27:38,040 --> 00:27:40,470 so US producers used domestic supply curve. 605 00:27:40,470 --> 00:27:43,840 And we had domestic demand intersecting at A. Well now, 606 00:27:43,840 --> 00:27:45,660 domestic producers are shipping a bunch of the 607 00:27:45,660 --> 00:27:49,380 computers to Japan, and China, and Colombia. 608 00:27:49,380 --> 00:27:52,710 As a result, the supply has shifted in. 609 00:27:52,710 --> 00:27:53,820 Because they don't have as many computers 610 00:27:53,820 --> 00:27:55,410 to sell in the US. 611 00:27:55,410 --> 00:27:58,070 That means the price rises. 612 00:27:58,070 --> 00:28:01,640 So because of exports we pay more for our computers. 613 00:28:01,640 --> 00:28:03,040 And it sort of makes sense, right? 614 00:28:03,040 --> 00:28:03,910 They produce a bunch of computers. 615 00:28:03,910 --> 00:28:06,480 If there's been a great demand for them elsewhere and we want 616 00:28:06,480 --> 00:28:08,170 them too, we're going to have to pay a higher price. 617 00:28:08,170 --> 00:28:08,880 Because we're competing with other 618 00:28:08,880 --> 00:28:11,840 people for those computers. 619 00:28:11,840 --> 00:28:14,940 So now that supply curve has shifted up. 620 00:28:14,940 --> 00:28:22,540 And now we end up that US consumers only want to C sub t 621 00:28:22,540 --> 00:28:26,920 computers at a new higher price a P sub w. 622 00:28:26,920 --> 00:28:35,290 But the world is now saying, well we are interested in the 623 00:28:35,290 --> 00:28:39,810 total amount of computer we want is Q sub t. 624 00:28:39,810 --> 00:28:43,020 So what that world price of sub w-- 625 00:28:43,020 --> 00:28:45,146 the domestic producers say great, at that higher price P 626 00:28:45,146 --> 00:28:49,490 sub w, I'm delighted to produce Q sub t computers. 627 00:28:49,490 --> 00:28:51,970 So what I'm going to do is I'm going to produce Q sub t, I'm 628 00:28:51,970 --> 00:28:56,060 going to ship Q sub t minus C sub t elsewhere. 629 00:28:56,060 --> 00:28:58,610 And US consumers will consume C sub t. 630 00:28:58,610 --> 00:29:01,440 So consumers are worse off. 631 00:29:01,440 --> 00:29:03,130 So unlike imports which make consumers better off, 632 00:29:03,130 --> 00:29:04,640 consumers are worse off. 633 00:29:04,640 --> 00:29:05,960 So is trade bad? 634 00:29:05,960 --> 00:29:06,890 Well, no. 635 00:29:06,890 --> 00:29:07,890 Trade's not bad. 636 00:29:07,890 --> 00:29:10,360 But the bottom line is, domestic producers are going 637 00:29:10,360 --> 00:29:14,460 to gain more than domestic consumers lose. 638 00:29:14,460 --> 00:29:16,120 The bottom line is we'll be better off from exports. 639 00:29:16,120 --> 00:29:18,850 But in this case, consumers lose and producers win. 640 00:29:21,450 --> 00:29:23,000 Society gains either way. 641 00:29:23,000 --> 00:29:26,040 Society gains from imports because consumers gain more 642 00:29:26,040 --> 00:29:27,470 than producers lose. 643 00:29:27,470 --> 00:29:29,420 Society gains from exports. 644 00:29:29,420 --> 00:29:36,490 Because producers gain more than consumers lose. 645 00:29:36,490 --> 00:29:41,080 So what that means is that any form of trade is going to make 646 00:29:41,080 --> 00:29:42,630 the US better off. 647 00:29:42,630 --> 00:29:46,040 But also inevitably create losers. 648 00:29:46,040 --> 00:29:47,710 Any form of trade will make the US better off but 649 00:29:47,710 --> 00:29:50,870 inevitably create losers. 650 00:29:50,870 --> 00:29:54,490 And the problem is that those losers are very loud in the 651 00:29:54,490 --> 00:29:56,990 political process. 652 00:29:56,990 --> 00:29:59,940 And the winners are not so loud. 653 00:29:59,940 --> 00:30:05,290 So, for example, if you polled US consumers and said, how 654 00:30:05,290 --> 00:30:07,580 much are you saving on your sweat shirts? 655 00:30:07,580 --> 00:30:10,390 Because we import textiles from China. 656 00:30:10,390 --> 00:30:11,840 They wouldn't know. 657 00:30:11,840 --> 00:30:13,600 I mean they'd say a couple bucks what 658 00:30:13,600 --> 00:30:15,180 in fact it's maybe-- 659 00:30:15,180 --> 00:30:17,380 they'd say I don't know, 10% of the price when it's maybe 660 00:30:17,380 --> 00:30:19,290 more like 50% of the price. 661 00:30:19,290 --> 00:30:22,060 But if you polled US textile manufacturers, or guys who 662 00:30:22,060 --> 00:30:24,370 have left the business, and said how much did you lose 663 00:30:24,370 --> 00:30:26,740 because of imports of China, they'd tell you exactly how 664 00:30:26,740 --> 00:30:29,780 much they lost. They'd tell you 10 times as much. 665 00:30:29,780 --> 00:30:32,020 But they know how much they lost. And they go to their 666 00:30:32,020 --> 00:30:34,980 politicians and they say, hey we're losing jobs here. 667 00:30:34,980 --> 00:30:36,570 And the consumers don't come saying, hey I'm getting 668 00:30:36,570 --> 00:30:39,020 cheaper sweatshirts here. 669 00:30:39,020 --> 00:30:46,040 As a result, there's huge political backlash against 670 00:30:46,040 --> 00:30:48,500 imports in particular. 671 00:30:48,500 --> 00:30:56,180 So that leads to policies which limit imports into 672 00:30:56,180 --> 00:30:58,560 countries like the US. 673 00:30:58,560 --> 00:31:08,740 Like tariffs, which are essentially taxes. 674 00:31:08,740 --> 00:31:12,870 Tariffs, which are essentially taxes on goods imported into 675 00:31:12,870 --> 00:31:15,030 the US to us. 676 00:31:15,030 --> 00:31:17,440 Which are taxes on goods that are imported into the US. 677 00:31:17,440 --> 00:31:21,510 Or quotas, which are limits on how much companies 678 00:31:21,510 --> 00:31:22,760 can send to the US. 679 00:31:28,870 --> 00:31:32,740 What I think what you should know now is by definition-- 680 00:31:32,740 --> 00:31:34,920 since I said free trade is good, these things 681 00:31:34,920 --> 00:31:36,380 are going to be bad. 682 00:31:36,380 --> 00:31:37,820 And they're going to be bad-- 683 00:31:37,820 --> 00:31:39,550 things like tariffs are going to be bad because they're 684 00:31:39,550 --> 00:31:42,930 going to hurt US consumers more than they're going to 685 00:31:42,930 --> 00:31:45,110 help US producers. 686 00:31:45,110 --> 00:31:52,310 So to see that let's go to figure 19-8. 687 00:31:52,310 --> 00:31:53,800 Let's show what happens with a tariff. 688 00:32:00,070 --> 00:32:04,000 This is saying that now we're starting the world with trade. 689 00:32:04,000 --> 00:32:08,940 So the world with trade we're producing C sub 1, which is 690 00:32:08,940 --> 00:32:11,250 where domestic demand equals world supply at 691 00:32:11,250 --> 00:32:14,440 a price P sub w. 692 00:32:14,440 --> 00:32:16,270 That's where we were with trade. 693 00:32:16,270 --> 00:32:20,090 Now the US government comes in and levies a tariff. 694 00:32:20,090 --> 00:32:23,420 And says that that tariff is going to be the difference 695 00:32:23,420 --> 00:32:24,900 between P sub w and P sub t. 696 00:32:24,900 --> 00:32:26,120 So that's the amount of the tariff. 697 00:32:26,120 --> 00:32:29,750 They are going to raise the price essentially to P sub t. 698 00:32:29,750 --> 00:32:32,600 They're essentially going to levy a tax on roses that come 699 00:32:32,600 --> 00:32:34,060 in from Colombia. 700 00:32:34,060 --> 00:32:38,460 What that does is that means that consumers now, at that 701 00:32:38,460 --> 00:32:42,690 higher price, only want C sub 2 roses. 702 00:32:42,690 --> 00:32:44,800 That's where that intersects demand. 703 00:32:44,800 --> 00:32:47,610 So they wanted C sub 1 roses without the tariff. 704 00:32:47,610 --> 00:32:49,760 But now with the tariff at that higher price intersects 705 00:32:49,760 --> 00:32:51,755 demand at C sub 2, they only want C sub 2 roses. 706 00:32:54,360 --> 00:32:58,990 Producers, given that they have to pay the tariff, are 707 00:32:58,990 --> 00:33:02,280 only going to produce Q sub 2. 708 00:33:04,780 --> 00:33:10,940 Domestic producers are now going to produce Q sub 2 roses 709 00:33:10,940 --> 00:33:12,750 because they get a higher price. 710 00:33:12,750 --> 00:33:16,220 So domestic consumers are consuming less. 711 00:33:16,220 --> 00:33:18,750 Domestic producers are producing more. 712 00:33:18,750 --> 00:33:20,060 Right, because now that price is higher. 713 00:33:20,060 --> 00:33:22,310 So now you could reopen those heated greenhouses because 714 00:33:22,310 --> 00:33:23,950 it's worth it now. 715 00:33:23,950 --> 00:33:26,870 And we end up with a much smaller amount of imports. 716 00:33:26,870 --> 00:33:28,790 So in that sense the tariff worked. 717 00:33:28,790 --> 00:33:30,650 So in the sense that the goal of the tariff was to reduce 718 00:33:30,650 --> 00:33:31,760 imports, it worked. 719 00:33:31,760 --> 00:33:34,820 Consumers wanted less from Colombia. 720 00:33:34,820 --> 00:33:37,190 Producers were happy to produce more. 721 00:33:37,190 --> 00:33:39,270 So imports fell. 722 00:33:39,270 --> 00:33:41,520 So in that sense tariffs worked. 723 00:33:41,520 --> 00:33:44,110 They've lowered imports. 724 00:33:44,110 --> 00:33:45,280 But what do they do to welfare? 725 00:33:45,280 --> 00:33:50,620 Well that's our final figure 19-9. 726 00:33:50,620 --> 00:33:52,280 What do they do to welfare? 727 00:33:52,280 --> 00:33:56,660 Well what you can see is domestic producers gained a 728 00:33:56,660 --> 00:34:01,770 trapezoid A. Their producer surplus, which used to be that 729 00:34:01,770 --> 00:34:07,040 little white triangle below A, became that entire triangle 730 00:34:07,040 --> 00:34:09,190 that includes A and the white part below it. 731 00:34:09,190 --> 00:34:13,910 So their producer surplus became A. They gained A in 732 00:34:13,910 --> 00:34:15,010 producer surplus. 733 00:34:15,010 --> 00:34:17,389 But consumers lost a ton. 734 00:34:17,389 --> 00:34:23,530 They lost the entire trapezoid A plus B plus C plus D. They 735 00:34:23,530 --> 00:34:26,830 lost that entire trapezoid gone up to higher prices. 736 00:34:26,830 --> 00:34:28,400 And now we have one other player which is the 737 00:34:28,400 --> 00:34:29,159 government. 738 00:34:29,159 --> 00:34:30,300 The government made some money. 739 00:34:30,300 --> 00:34:31,670 This is a tax. 740 00:34:31,670 --> 00:34:32,630 How much did the government make? 741 00:34:32,630 --> 00:34:35,590 Well we taxed all imports by the amount P sub 742 00:34:35,590 --> 00:34:37,070 t minus P sub w. 743 00:34:37,070 --> 00:34:40,980 So the government made the rectangle C. The government 744 00:34:40,980 --> 00:34:42,540 made C because we got to tax all the 745 00:34:42,540 --> 00:34:44,139 important at that tariff. 746 00:34:44,139 --> 00:34:49,820 So on net, society as a whole is worse off by B plus D. 747 00:34:49,820 --> 00:34:53,489 Consumers have lost the entire A plus B plus C plus D. 748 00:34:53,489 --> 00:34:54,650 Producers got some of that, the 749 00:34:54,650 --> 00:34:55,770 government got some of that. 750 00:34:55,770 --> 00:34:57,690 But some of it's dead weight loss. 751 00:34:57,690 --> 00:35:01,090 Trades that would have made consumers better off, and 752 00:35:01,090 --> 00:35:04,820 worldwide producers better off that are not happening. 753 00:35:04,820 --> 00:35:06,870 So this tariff, it had its effect. 754 00:35:06,870 --> 00:35:10,030 It lowered imports. 755 00:35:10,030 --> 00:35:14,880 But at the same time it lowered social surplus. 756 00:35:14,880 --> 00:35:21,460 So restrictions on trade lower welfare. 757 00:35:21,460 --> 00:35:24,065 And this is why economists like free trade. 758 00:35:24,065 --> 00:35:26,135 Because restrictions on trade lower welfare. 759 00:35:29,760 --> 00:35:33,000 Are there questions about that? 760 00:35:33,000 --> 00:35:37,300 Moreover, this is just what we call static analysis. 761 00:35:37,300 --> 00:35:41,930 What else could happen if the US government voted a tariff 762 00:35:41,930 --> 00:35:44,120 on roses coming from Colombia? 763 00:35:44,120 --> 00:35:45,324 What else might happen? 764 00:35:45,324 --> 00:35:46,540 Yeah? 765 00:35:46,540 --> 00:35:49,420 AUDIENCE: Colombia might vote for a tariff on the U.S. 766 00:35:49,420 --> 00:35:52,080 PROFESSOR: Columbia might vote for a tariff against computers 767 00:35:52,080 --> 00:35:53,910 coming from the US. 768 00:35:53,910 --> 00:35:57,320 Which of course would hurt Colombian consumers. 769 00:35:57,320 --> 00:36:00,140 But would also hurt US producers. 770 00:36:00,140 --> 00:36:04,180 So from the US's prospective, that would be even worse. 771 00:36:04,180 --> 00:36:05,660 So think about it-- 772 00:36:05,660 --> 00:36:08,250 we put a tariff on Colombian roses which hurt us. 773 00:36:08,250 --> 00:36:11,370 Then Colombia puts a tariffs on US computers which hurts us 774 00:36:11,370 --> 00:36:13,290 even further-- hurts Colombia too, but we don't care about 775 00:36:13,290 --> 00:36:15,040 them, we care about us. 776 00:36:15,040 --> 00:36:16,790 It hurts us even further. 777 00:36:16,790 --> 00:36:19,610 So dynamically restrictions on trade can be even worse than 778 00:36:19,610 --> 00:36:21,140 it looks in this diagram. 779 00:36:21,140 --> 00:36:25,120 If they cause a trade war you can actually end up with 780 00:36:25,120 --> 00:36:27,500 things being even worse than you look at this diagram. 781 00:36:27,500 --> 00:36:29,960 So we talked about why economists like free trade-- 782 00:36:29,960 --> 00:36:31,790 partly so that the gains to consumers exceed 783 00:36:31,790 --> 00:36:34,770 the losses to producers. 784 00:36:34,770 --> 00:36:39,400 But partly it's because free trade begets free trade. 785 00:36:39,400 --> 00:36:42,740 And that exports make us better off too. 786 00:36:42,740 --> 00:36:45,600 So by allowing free trade not only do we increase our 787 00:36:45,600 --> 00:36:48,530 welfare by having more imports, we also increased our 788 00:36:48,530 --> 00:36:49,890 welfare by allowing more exports. 789 00:36:49,890 --> 00:36:55,120 And in fact, producers as a class, if they could all get 790 00:36:55,120 --> 00:36:58,150 together and have a cooperative equilibrium, they 791 00:36:58,150 --> 00:37:00,090 might be fine without restrictions of trade. 792 00:37:00,090 --> 00:37:01,890 Because the computer producers and the rose producers get 793 00:37:01,890 --> 00:37:04,180 together and say, wait a second, we can trade, on net 794 00:37:04,180 --> 00:37:05,660 we win from this. 795 00:37:05,660 --> 00:37:06,750 On net we win from free trade. 796 00:37:06,750 --> 00:37:09,320 Let's get together and make a deal. 797 00:37:09,320 --> 00:37:11,290 But of course we know that's going to be an incredibly hard 798 00:37:11,290 --> 00:37:13,250 cooperative equilibrium to enforce. 799 00:37:13,250 --> 00:37:15,340 And that's why you have different sets of producers. 800 00:37:15,340 --> 00:37:17,610 You have the rose producers lobbying the congressmen. 801 00:37:17,610 --> 00:37:19,230 Then they leave and the computer producers walk in his 802 00:37:19,230 --> 00:37:21,890 office and lobby him the other way. 803 00:37:21,890 --> 00:37:24,760 So you have producers lobbying for different effects 804 00:37:24,760 --> 00:37:26,760 depending if they're competing with 805 00:37:26,760 --> 00:37:28,180 imports or they're exporting. 806 00:37:28,180 --> 00:37:29,935 They're going to lobby for and against trade restrictions. 807 00:37:33,570 --> 00:37:38,220 Moreover, there's yet another thing we've missed. 808 00:37:38,220 --> 00:37:39,800 There's yet another thing we've missed. 809 00:37:39,800 --> 00:37:42,720 So we've talked about the dead weight loss. 810 00:37:42,720 --> 00:37:44,150 We've talked about trade wars. 811 00:37:44,150 --> 00:37:45,730 But let's say for a second-- let's think 812 00:37:45,730 --> 00:37:46,230 about a third thing. 813 00:37:46,230 --> 00:37:47,380 Let's say for a second we're not just 814 00:37:47,380 --> 00:37:48,510 heartless selfish Americans. 815 00:37:48,510 --> 00:37:51,180 But we actually do care about the rest of the world. 816 00:37:51,180 --> 00:37:53,680 Well the third thing we miss is allowing trade from 817 00:37:53,680 --> 00:37:56,270 Colombia makes Colombia better off too. 818 00:37:58,910 --> 00:38:01,850 So not only have we improved our welfare by importing 819 00:38:01,850 --> 00:38:04,750 Colombian roses, we've improved their welfare too. 820 00:38:04,750 --> 00:38:05,960 And they're a poor country. 821 00:38:05,960 --> 00:38:08,660 And we should be happy to improve their welfare too. 822 00:38:08,660 --> 00:38:10,420 We think about free trade in Vietnam. 823 00:38:10,420 --> 00:38:12,620 That is the application for child labor. 824 00:38:12,620 --> 00:38:15,360 By allowing the import of Vietnamese rice we improved 825 00:38:15,360 --> 00:38:18,390 the lives of the Vietnamese children. 826 00:38:18,390 --> 00:38:20,585 So independent of the fact we've made our lives better 827 00:38:20,585 --> 00:38:21,650 off we've made these other country's 828 00:38:21,650 --> 00:38:23,780 lives better off too. 829 00:38:23,780 --> 00:38:26,270 So there's three reasons why we should have free trade. 830 00:38:26,270 --> 00:38:28,610 There's the simple welfare gain, there's the dynamic 831 00:38:28,610 --> 00:38:30,920 welfare gain, and there's the fact that we might care about 832 00:38:30,920 --> 00:38:32,440 the welfare of other countries as well. 833 00:38:35,140 --> 00:38:39,200 And as a result, there's been a huge emphasis over time in 834 00:38:39,200 --> 00:38:43,550 trying to increase free trade. 835 00:38:43,550 --> 00:38:45,690 By economists saying this for years, things going back to 836 00:38:45,690 --> 00:38:46,990 the early economists. 837 00:38:46,990 --> 00:38:50,520 But we've made a lot of headway in the last 20 years. 838 00:38:50,520 --> 00:38:53,810 And in particular, one big source of headway was NAFTA-- 839 00:38:56,430 --> 00:38:58,790 The North American Free Trade Agreement. 840 00:38:58,790 --> 00:39:00,520 Which was passed under Clinton. 841 00:39:00,520 --> 00:39:04,680 Which basically demolished trade barriers between Canada 842 00:39:04,680 --> 00:39:06,720 the US and Mexico. 843 00:39:06,720 --> 00:39:08,050 There used to be a lot of trade barriers. 844 00:39:08,050 --> 00:39:10,200 We would tax Canadian lumber. 845 00:39:10,200 --> 00:39:11,950 They would tax our computers. 846 00:39:11,950 --> 00:39:15,620 We would tax Mexican whatever they sent to us. 847 00:39:15,620 --> 00:39:17,020 They would tax our stuff. 848 00:39:17,020 --> 00:39:17,880 It was a mess. 849 00:39:17,880 --> 00:39:21,450 So basically NAFTA said let's just get rid of all of it. 850 00:39:21,450 --> 00:39:25,170 Let's have a cooperative agreement. 851 00:39:25,170 --> 00:39:29,800 Let's have a cooperative agreement whereby we all agree 852 00:39:29,800 --> 00:39:31,570 to get rid of trade barriers and thereby making all of us 853 00:39:31,570 --> 00:39:33,500 better off. 854 00:39:33,500 --> 00:39:35,590 And it seems like it would be a pretty simple thing to do. 855 00:39:35,590 --> 00:39:36,970 But it was a mess. 856 00:39:36,970 --> 00:39:38,370 And it was very hard. 857 00:39:38,370 --> 00:39:42,270 And it was very hard because now you had parties in every 858 00:39:42,270 --> 00:39:44,630 country opposing this. 859 00:39:44,630 --> 00:39:46,660 You had you had the Canadian computer 860 00:39:46,660 --> 00:39:48,250 producers getting upset. 861 00:39:48,250 --> 00:39:50,340 You had the Mexican computer producers getting upset. 862 00:39:50,340 --> 00:39:53,160 You had the US lumber industry getting upset. 863 00:39:53,160 --> 00:39:58,030 And you had huge difficulties because you had parties in 864 00:39:58,030 --> 00:40:00,950 every case opposing it. 865 00:40:00,950 --> 00:40:03,560 And the reason free trade agreements are so difficult-- 866 00:40:03,560 --> 00:40:05,020 now eventually NAFTA did pass. 867 00:40:05,020 --> 00:40:10,890 And has been by most measures a huge success. 868 00:40:10,890 --> 00:40:14,830 But ultimately the major difficulty here is in another 869 00:40:14,830 --> 00:40:17,150 failure of government policy. 870 00:40:17,150 --> 00:40:20,680 Which is the inability of the government to effectively tax 871 00:40:20,680 --> 00:40:22,840 the winners and compensate the losers from 872 00:40:22,840 --> 00:40:25,260 international trade. 873 00:40:25,260 --> 00:40:26,550 That is-- 874 00:40:26,550 --> 00:40:29,570 if the government could work as a perfect-- 875 00:40:29,570 --> 00:40:31,310 in the way that I design it to work-- 876 00:40:31,310 --> 00:40:35,720 what would happen is that we would tax sweatshirts and take 877 00:40:35,720 --> 00:40:38,350 the money from taxing sweatshirts and send it to 878 00:40:38,350 --> 00:40:42,970 compensate the guys who lost jobs in the textile industry. 879 00:40:42,970 --> 00:40:47,430 And if we did that, we can make life much better off than 880 00:40:47,430 --> 00:40:47,920 with the tariff. 881 00:40:47,920 --> 00:40:48,710 So if consider two outcomes. 882 00:40:48,710 --> 00:40:52,300 One is we don't import Chinese sweatshirts. 883 00:40:52,300 --> 00:40:54,420 The other is that we import them but we levy a small tax 884 00:40:54,420 --> 00:40:59,200 on all sweatshirts not just Chinese lectures. 885 00:40:59,200 --> 00:41:01,180 Levy a small tax on all sweatshirts. 886 00:41:01,180 --> 00:41:03,270 We import Chinese sweatshirts but then we levy a tax on all 887 00:41:03,270 --> 00:41:04,360 sweatshirts. 888 00:41:04,360 --> 00:41:06,770 And we use that sweatshirt tax money to pay off the guys who 889 00:41:06,770 --> 00:41:08,940 lost their jobs in the textile industry. 890 00:41:08,940 --> 00:41:12,370 That would be better for society than would not allow 891 00:41:12,370 --> 00:41:15,150 sweatshirts to come in in the first place. 892 00:41:15,150 --> 00:41:18,200 So the fundamental failure in trade policy ultimately is a 893 00:41:18,200 --> 00:41:20,850 failure is that inability of the government to effectively 894 00:41:20,850 --> 00:41:23,990 compensate the losers by taxing the winners. 895 00:41:23,990 --> 00:41:28,620 Because just as the losers know to go to lobby Congress, 896 00:41:28,620 --> 00:41:30,780 the winners will get pissed off if you start taxing 897 00:41:30,780 --> 00:41:31,570 sweatshirts. 898 00:41:31,570 --> 00:41:33,210 Because they don't realize that they're saving all this 899 00:41:33,210 --> 00:41:36,735 money from all these imports. 900 00:41:36,735 --> 00:41:38,625 And in fact the typical American voter would probably 901 00:41:38,625 --> 00:41:41,430 vote to block Chinese imports before they'd vote to have a 902 00:41:41,430 --> 00:41:43,940 tax on their sweatshirts. 903 00:41:43,940 --> 00:41:47,630 So really in some sense when you have a very concentrated 904 00:41:47,630 --> 00:41:51,390 set of winners or losers competing against a very 905 00:41:51,390 --> 00:41:53,610 concentrated set of losers, defeating against a very 906 00:41:53,610 --> 00:41:59,250 diffuse set of winners, that's a hard policy to get in place. 907 00:41:59,250 --> 00:42:01,890 Unless you can figure out a way to get those winners to 908 00:42:01,890 --> 00:42:03,630 compensate the losers. 909 00:42:03,630 --> 00:42:06,040 And that's the tricky thing. 910 00:42:10,300 --> 00:42:11,770 Are there question about that? 911 00:42:11,770 --> 00:42:15,920 About free trade agreements, things like that? 912 00:42:15,920 --> 00:42:23,360 Now what I want to talk about for a couple minutes then one 913 00:42:23,360 --> 00:42:25,400 subtlety in these free trade agreements. 914 00:42:25,400 --> 00:42:27,970 And why things like NAFTA are hard. 915 00:42:27,970 --> 00:42:30,950 And the reason they're hard is because this 916 00:42:30,950 --> 00:42:32,940 makes enormous sense. 917 00:42:32,940 --> 00:42:35,790 Free trade agreements make enormous sense if it's true 918 00:42:35,790 --> 00:42:38,720 comparative advantage like Canada has more trees. 919 00:42:38,720 --> 00:42:40,850 But what if Mexico's source of comparative advantage is that 920 00:42:40,850 --> 00:42:43,100 they treat their workers like shit. 921 00:42:43,100 --> 00:42:45,590 What if China's source of comparative advantage is that 922 00:42:45,590 --> 00:42:47,940 they have incredibly bad working conditions? 923 00:42:47,940 --> 00:42:50,860 And they have incredibly bad environmental conditions? 924 00:42:50,860 --> 00:42:54,610 China has an incredibly bad environmental situation. 925 00:42:54,610 --> 00:42:56,260 It is incredibly dangerous just to live in 926 00:42:56,260 --> 00:42:58,480 major Chinese cities. 927 00:42:58,480 --> 00:43:00,250 The working conditions are awful. 928 00:43:00,250 --> 00:43:02,690 The wages are terrible. 929 00:43:02,690 --> 00:43:06,340 Nonetheless, the result is very, very cheap labor. 930 00:43:06,340 --> 00:43:09,210 Then things get a little dicier. 931 00:43:09,210 --> 00:43:12,140 Because if the Chinese labor was cheap or Mexican labor was 932 00:43:12,140 --> 00:43:14,140 cheap just because inherently that was just 933 00:43:14,140 --> 00:43:15,520 the way life was. 934 00:43:15,520 --> 00:43:17,480 At the same working conditions and the same environmental 935 00:43:17,480 --> 00:43:19,430 conditions they were just cheaper, then that's great. 936 00:43:19,430 --> 00:43:21,110 That's the comparative advantage. 937 00:43:21,110 --> 00:43:24,140 But if they're cheap because they exploit their population 938 00:43:24,140 --> 00:43:26,030 and put them in horrible working conditions and facing 939 00:43:26,030 --> 00:43:28,500 horrible environmental conditions, then the welfare 940 00:43:28,500 --> 00:43:29,720 gets a little trickier. 941 00:43:29,720 --> 00:43:32,400 From the US's prospective it doesn't get any trickier. 942 00:43:32,400 --> 00:43:33,630 The US-- 943 00:43:33,630 --> 00:43:35,640 our welfare is exactly the same. 944 00:43:35,640 --> 00:43:38,840 We get these static and dynamic gains from trade. 945 00:43:38,840 --> 00:43:42,630 But from a world perspective, now we're maybe not so sure we 946 00:43:42,630 --> 00:43:45,320 want to promote Mexico producing more clothes or 947 00:43:45,320 --> 00:43:46,790 China producing more clothes. 948 00:43:46,790 --> 00:43:49,130 Because it could just lead to more exploitation of the 949 00:43:49,130 --> 00:43:51,430 population. 950 00:43:51,430 --> 00:43:53,970 So this comes back to when I talked about free trade in 951 00:43:53,970 --> 00:43:55,880 Vietnam and child labor. 952 00:43:55,880 --> 00:43:58,850 Which is if free trade actually let to an increased 953 00:43:58,850 --> 00:44:02,120 use of child labor in Vietnam we might worry that gee maybe 954 00:44:02,120 --> 00:44:04,570 this isn't such a good thing. 955 00:44:04,570 --> 00:44:06,790 So really what it comes down to is we have to think not 956 00:44:06,790 --> 00:44:09,930 just about the simple dead weight loss 957 00:44:09,930 --> 00:44:11,480 triangles and squares. 958 00:44:11,480 --> 00:44:13,950 We have to think about some broader social issues as well. 959 00:44:13,950 --> 00:44:15,630 And once again there is a right answer here. 960 00:44:15,630 --> 00:44:17,790 And this is what a lot was fought over with NAFTA. 961 00:44:17,790 --> 00:44:21,440 Which is one of the conditions for NAFTA was the US actually 962 00:44:21,440 --> 00:44:23,920 lobbied and got significantly improved work and 963 00:44:23,920 --> 00:44:26,240 environmental standards in Mexico. 964 00:44:26,240 --> 00:44:28,430 This was like an opposite of a trade war. 965 00:44:28,430 --> 00:44:30,230 Instead of being a vicious cycle, this 966 00:44:30,230 --> 00:44:31,550 was a virtuous cycle. 967 00:44:31,550 --> 00:44:34,870 We actually improved the life for workers in Mexico because 968 00:44:34,870 --> 00:44:38,300 Mexico is willing to do that in order to get the benefits 969 00:44:38,300 --> 00:44:40,170 of trade with the US. 970 00:44:40,170 --> 00:44:46,940 So just like limiting trade with Mexico will hurt us and 971 00:44:46,940 --> 00:44:51,280 hurt Mexico, expanding trade with Mexico and then tying it 972 00:44:51,280 --> 00:44:54,050 to improve work conditions and environmental conditions can 973 00:44:54,050 --> 00:44:56,790 make both countries really much better off. 974 00:44:56,790 --> 00:44:59,150 And so that's where, once again, trade becomes very 975 00:44:59,150 --> 00:44:59,590 interesting. 976 00:44:59,590 --> 00:45:01,180 And why it's worth studying further. 977 00:45:01,180 --> 00:45:03,730 Because it's not as simple as these boxes. 978 00:45:03,730 --> 00:45:05,220 It's thinking about where comparative 979 00:45:05,220 --> 00:45:06,540 advantage comes from. 980 00:45:06,540 --> 00:45:08,770 And whether we really want to promote trade with countries 981 00:45:08,770 --> 00:45:10,570 that have comparative advantage depending on the 982 00:45:10,570 --> 00:45:12,820 source of what that comparative advantage is. 983 00:45:12,820 --> 00:45:13,650 And that's sort of the free trade 984 00:45:13,650 --> 00:45:15,280 versus fair trade argument. 985 00:45:15,280 --> 00:45:16,590 The bottom line in that argument-- 986 00:45:16,590 --> 00:45:18,530 the free trade versus fair trade argument-- the bottom 987 00:45:18,530 --> 00:45:22,390 line is free trade is always a good thing. 988 00:45:22,390 --> 00:45:26,170 But fair trade considerations can be used to try to make it 989 00:45:26,170 --> 00:45:31,060 work better than just simply unfettered free trade. 990 00:45:31,060 --> 00:45:33,730 And so really both sides have a point in this debate. 991 00:45:33,730 --> 00:45:37,200 So let me stop there. 992 00:45:37,200 --> 00:45:37,720 That's international trade. 993 00:45:37,720 --> 00:45:39,890 We're going to come back on Wednesday to talk about 994 00:45:39,890 --> 00:45:41,240 uncertainty and whether you should play the lottery.