Gains and Losses from Trade in the Specific-Factors Model
Trade and Resources: The Heckscher–Ohlin Model
Movement of Labor and Capital Between Countries
New Explanations for International Trade
Chapter 6
Chapter 7
PART 4
Increasing Returns to Scale and Monopolistic Competition
Offshoring of Goods and Services
International Trade Policies
Chapter 8
Chapter 9
Chapter 10
Chapter 11
Index
Import Tariffs and Quotas Under Perfect Competition
Import Tariffs and Quotas Under Imperfect Competition
Export Policies in Resource-Based and High-Technology Industries
International Agreements: Trade, Labor, and the Environment
Preface
Why a New Approach Was Needed
We live in an age in which globalization is more than ever an integral part of our lives. When we undertook the writing of our text, we looked at the existing texts and saw that the dramatic economic developments of recent years had not been incorporated into a newly written undergraduate text, and felt the time was ripe to incorporate fresh theories and perspectives, an emphasis on empirical studies, and other up-to-date approaches into the study of international economics. With this book, we have expanded the vision of international economics to encompass the latest theory and events in the world today.
We have taught the chapters of this book many times, and have benefited from the feedback of professors at colleges and universities in the United States and throughout the world Like us, they have been enthusiastic about the response from students to our fresh, accessible, and up-to-the-minute approach, and we hope that you will enjoy the book, too
Why Our Book Is Different
Emphasis on Empirical Studies
Many of the topics in this book stand apart from previous textbook treatments because they reflect recent applied research and data This research has not only taught us new lessons about trade and finance, but has also shed new light on existing theories, sometimes supporting them, sometimes refuting them.
Cutting-Edge Applications
Covering new and expanding ground is part of the exciting challenge of teaching and learning the international economics of today. Our book provides new material and examples that are rigorous enough to meet the challenge yet approachable enough to foster excitement
Balanced Coverage of Emerging and Advanced Economies
In our view emerging markets and developing countries deserve more attention in the curriculum because of their substantial and growing importance in the global economy.
Features
The most essential part of drawing students into the material and helping them retain information is providing the pedagogy to do so.
▲ Applications (which are integrated into the main text) connect the material that has been covered to real-world policies, events, and evidence.
▲ Headlines show how topics in the main text relate directly to media coverage of the global economy.
▲ SIDE BARS illuminate topics that, while not essential, nonetheless provide deeper understanding of the issues under discussion.
▲ NEW! Discovering Data problems at the end of each chapter ask students to seek out, analyze, and interpret real-world data related to chapter topics.
▲ NEW! Work It Out problems at the end of each chapter provide students with step-by-step assistance, helping develop analytical skills. These problems each have a live online counterpart in LaunchPad with interactive tutorials.
■ The book is issued in multiple formats, which allows instructors to tailor the content to their needs and keep costs down for their students:
■ a combined edition (International Economics)
■ two split editions (International Trade and International Macroeconomics)
International Economics, Fourth Edition, Media
LaunchPad features the most author-driven and text-specific content of any integrated homework system available. In this edition, you will find exciting changes to LaunchPad, including a collection of new activities designed to augment in-chapter content and new features to support student learning.
LaunchPad for International Economics, Fourth Edition, includes:
■ Complete e-Book
■ Prebuilt units offer instructors and students ready-made units for study with LearningCurve quizzes, eBook pages, tutorials, and graded homework for every chapter. Units are flexible and easy to adapt or expand to suit individual preferences.
■ LearningCurve’s gamelike quizzing motivates each student to engage with the course, and its reporting tools help teachers get a handle on where their students need the most help.
Just as apps are continuously updated and improved, LearningCurve now features the first in a series of updates to continually improve the user experience
■ Customizable: instructors can tailor quizzes to the exact content they are teaching
■ Accessible: redone in compliance with WCAG2.0 AA standards for users with disabilities
▲ New design: emphasizes useful study tools, such as the personalized study plan, links to the e-Book, and hints to structure student reading
■ Electronically graded graphing problems replicate the paper and pencil experience
better than any program on the market. Students are asked to draw their response and label each curve. The software automatically grades each response, providing feedback options at the instructor’s discretion, including partial credit for incomplete, but not entirely incorrect, responses.
▲ NEW! Work It Out problems offer skill-building activities and tutorials that walk students through each step of solving an end-of-chapter problem using choice-specific feedback and video explanations for each step
■ NEW! Discovering Data Problems expand on the material at the end of each chapter The problems provide additional opportunities to directly link the student to real, upto-date data to solve topical questions.
■ All teaching resources are available for instructors within LaunchPad These resources include animated lecture PowerPoint slides with instructor notes, the solutions manual, test bank questions, and more.
New in Each Chapter of the Fourth Edition
The opening example in Chapter 1, Trade in the Global Economy, is now the worldwide opening of the movie Jurassic World in the summer of 2015. There is new coverage on opening relations with Cuba. A new section called The Future of Trade discusses free-trade area agreements, and the impact of global climate change, using the Northern Sea Route example that opened the chapter in the third edition Finally, there is new coverage on migration, immigration, and the refugee crisis in Europe.
Chapter 2, Trade and Technology: The Ricardian Model, now describes Jamie Anderson’s gold medal victory in the Women’s Slopestyle Event at the 2014 Olympics. Where did her snowboard come from?
Chapter 3, Gains and Losses from Trade in the Specific-Factors Model, now has a Discovering Data problem on the Trade Adjustment Assistance program.
Chapter 4, Trade and Resources: The Heckscher–Ohlin Model, contains a Discovering Data problem on highly disaggregated products
The refugee crisis in Europe was unfolding in 2015 and is described in Chapter 5, Movement of Labor and Capital Between Countries. Immigrants coming from Syria and other war-torn regions have put enormous pressures on the countries of Western Europe, leading to the policy changes described. There is a new Application called Immigration into the United States, which includes an examination of the benefits that immigrants bring to host countries The Application called The Effects of the Mariel Boat Lift on Industry Output in Miami has been updated to include the flood of Cuban people heading to Mexico, and hoping to go from there to the United States after diplomatic relations between the United States and Cuba resumed.
Chapter 6, Increasing Returns to Scale and Monopolistic Competition, contains a thoroughly updated and reworked section on the Gains and Adjustment Costs for the United States Under NAFTA There is a new Headline on Opposing Viewpoints on the Effect of NAFTA, Twenty Years Later that presents two articles that give starkly different accounts of the impact of NAFTA on American workers.
Chapter 7, Offshoring of Goods and Services, includes a major new section on the topic of job polarization: what it means, and how and why it occurs. This material includes three new figures (Figures 7-9, 7-10, and 7-11) that help explain job polarization in the United States The chapter concludes with a new section called The Future of Offshoring and You that discusses what offshoring means for today’s students and their career choices. This section also features coverage of the phenomenon of “quicksourcing” and includes a new Headlines titled Mexico: The New China, about how proximity is becoming more important than lowest wages in deciding where and how to offshore.
The chapters dealing with trade policy, including Chapter 8, Import Tariffs and Quotas
Under Perfect Competition, Chapter 9, Import Tariffs and Quotas Under Imperfect Competition, and Chapter 10, Export Policies in Resource-Based and HighTechnology Industries, have been thoroughly revised. Material on United States and European duties on solar panels from China has been added, and that industry is discussed as a possible case of infant industry protection, along with auto manufacturing in China. A new discussion of Chinese export policies for exports of rare earth minerals includes a new graph showing the effects of export quotas on China export value, export price, and export quantity. Finally, there is a heavily revised discussion of Boeing/Airbus World Trade Organization (WTO) disputes.
Chapter 11, International Agreements: Trade, Labor, and the Environment, includes recent material on:
■ the 2015 end of the Doha Round of the WTO after the WTO countries meeting in Nairobi, Kenya, failed to reaffirm it
■ the Trans-Pacific Trade Partnership (TPP, the free-trade agreement among 12 countries that border the Pacific Ocean) that was formally signed on February 4, 2016, but has yet to be ratified by the United States Congress and other governments The contents and controversies surrounding TPP are discussed.
■ the Transatlantic Trade and Investment Partnership (TTIP), which would establish free trade between the United States and the European Union.
■ the COP21 Paris agreement (the international climate agreement negotiated in Paris in December 2015), with associated material on the Kyoto Protocol.
Chapter 12 (Chapter 1), The Global Macroeconomy, has been fully updated with global macroeconomic data as of 2016. The discussion of institutions and economic performance is enhanced by a new Headline by Dani Rodrik: Is There a New Washington Consensus?
Chapter 13 (Chapter 2), Introduction to Exchange Rates and the Foreign Exchange Market, has completely updated data and features a Discovering Data problem that encourages students to get familiar with accessing and manipulating the online Federal Reserve Economic Data (FRED) dataset.
Chapter 14 (Chapter 3), Exchange Rates I: The Monetary Approach in the Long Run, has completely updated data and features; in particular, an updated Headline, The Big Mac Index, with the latest burger-based calculations of purchasing power parity.
Chapter 15 (Chapter 4), Exchange Rates II: The Asset Approach in the Short Run, has completely updated data and features more end-of-chapter FRED data manipulation
Chapter 16 (Chapter 5), National and International Accounts: Income, Wealth, and the Balance of Payments, has completely updated data, including the latest tabulations for the United States, and it features a Discovering Data problem in which students download and analyze incoming data from the Bureau of Economic Analysis (BEA) website covering the U.S. national accounts and balance of payments accounts.
Chapter 17 (Chapter 6), Balance of Payments I: The Gains from Financial Globalization, and Chapter 18 (Chapter 7), Balance of Payments II: Output, Exchange Rates, and Macroeconomic Policies in the Short Run, have completely updated data and new Discovering Data questions manipulating BEA and FRED data.
Chapter 19 (Chapter 8), Fixed Versus Floating: International Monetary Experience, has completely updated data and a new Discovering Data problem to explore the data resources at the International Monetary Fund website
Chapter 20 (Chapter 9), Exchange Rate Crises: How Pegs Work and How They Break, has updated data on reserve accumulation and operations by the Chinese central bank, and a new Discovering Data problem with data from countries with fixed exchange rates.
Chapter 21 (Chapter 10), The Euro, has been thoroughly updated with current economic and political developments in the ongoing crisis in Europe and the Eurozone, especially regarding Brexit
Topics and Approaches
Reviewers and class testers have enthusiastically supported the topics we have included in our presentation. Topics covered in International Economics and in International Trade include the offshoring of goods and services (Chapter 6); tariffs and quotas under imperfect competition (Chapter 9); and international agreements on trade, labor, and the environment (Chapter 11) These topics are in addition to core chapters on the Ricardian model (Chapter 2), the specific-factors model (Chapter 3), the Heckscher–Ohlin model (Chapter 4), trade with increasing returns to scale and imperfect competition (Chapter 6), import tariffs and quotas under perfect competition (Chapter 8), and export subsidies (Chapter 10).
Chapters in International Economics and in International Macroeconomics include the gains from financial globalization (Chapter 17 in the combined edition; Chapter 6 in the International Macroeconomics split edition), fixed versus floating regimes (Chapter 19/Chapter 8), exchange rate crises (Chapter 20/Chapter 9), and the euro (Chapter 21/Chapter 10). These topics are in addition to core chapters on foreign exchange markets and exchange rates in the short run and the long run (Chapters 13–15/Chapters 2–4), the national and international accounts (Chapter 16/Chapter 5), the open economy IS–LM model (Chapter 18/Chapter 7), and a chapter on various applied topics of current interest (Chapter 22/Chapter 11).
In writing our chapters we have made every effort to link them analytically. For example, although immigration and foreign direct investment are sometimes treated as an afterthought in international economics books, we integrate these topics into the discussion of the trade models by covering the movement of labor and capital between countries in Chapter 5. Specifically, we analyze the movement of labor and capital between countries in the short run using the specific-factors model, and explore the long-run implications using the Heckscher–Ohlin model. Chapter 5 therefore builds on the models that the student has learned in Chapters 3 and 4, and applies them to issues at the forefront of policy discussion
In the macroeconomics section from International Economics or International Macroeconomics this analytical linking is seen in the parallel development of fixed and floating exchange rate regimes from the opening introductory tour in Chapter 12 (Chapter 1 in the split edition), through the workings of exchange rates in Chapters 13–15 (Chapters 2–4), the discussion of policy in the IS–LM model of Chapter 18 (Chapter 7), to the discussion of regime choice in Chapter 19 (Chapter 8) Many textbooks discuss fixed and floating regimes separately, with fixed regimes often treated as an afterthought. But given the widespread use of fixed rates in many countries, the rising macro weight of fixed regimes, and the collapse of fixed rates during crises, we think it is more helpful for the student to grapple with the different workings and cost-benefit trade-offs of the two regimes by studying them side by side This approach also allows us to address numerous policy issues such as the implications of the trilemma and the optimal choice of exchange rate regime.
In addition to expanding our coverage to include up-to-date theory and policy applications, our other major goal is to present all the material both new and old in the most teachable way To do this, we ensure that all of the material presented rests on firm
and up-to-the-minute empirical evidence We believe this approach is the right way to study economics, and it is our experience, shared by many instructors, that teaching is more effective and more enlivened when students can see not just an elegant derivation in theory but, right next to it, some persuasive evidence of the economic mechanisms under investigation.
International
The Basics of World Trade
Sum of iPhone Parts: Trade Distortion Is Trade Today Different from the Past?
Map of World Trade Trade Compared with GDP
Barriers to Trade
“First Golden Age” of Trade
“Second Golden Age” of Trade
The Future of Trade
Migration and Foreign Direct Investment
Map of Migration
Map of Foreign Direct Investment
Conclusions
Key
Absolute
SIDE BAR Can Comparative Advantage Be Created? The Case of “Icewine”
Comparative Advantage
SIDE BAR David Ricardo and Mercantilism
Ricardian Model
The Home Country
The Foreign Country
Comparative Advantage in Apparel, Textiles, and Wheat
Determining the Pattern of International Trade
International
Solving
Home Export Supply
International Trade Equilibrium The Terms of Trade for Primary Commodities
Conclusions
Key Points,
Gains and Losses from Trade in the Specific-Factors Model
Specific-Factors Model
The Home Country
The Foreign Country
Overall Gains from Trade
How Large Are the Gains from Trade?
Earnings of Labor
Determination of Wages
Change in Relative Price of Manufactures
Manufacturing and Services in the United States: Employment and Wages Across Sectors Trade Adjustment Assistance Programs: Financing the Adjustment Costs of Trade Services Workers Are Now Eligible for
Earnings of Capital and Land
Determining the Payments to Capital and Land
Numerical Example
What It All Means
Prices in Agriculture
Conclusions
Rise in Coffee Prices Great for Farmers, Tough on Co-ops
Key Points, Key Terms, and Problems
Trade and Resources: The Heckscher–Ohlin Model
Heckscher–Ohlin Model
Assumptions of the Heckscher–Ohlin Model Are Factor Intensities the Same Across Countries?
No-Trade Equilibrium
Free-Trade Equilibrium
Testing the Heckscher–Ohlin Model
Leontief’s Paradox
Factor Endowments in 2013
Differing Productivities Across Countries
Leontief’s Paradox Once Again
Effects of Trade on Factor Prices
Effect of Trade on the Wage and Rental of Home
Determination of the Real Wage and Real Rental
Changes in the Real Wage and Rental: A Numerical Example
Opinions Toward Free Trade
Conclusions
Key Points, Key Terms, and Problems
Movement of Labor and Capital Between Countries
Movement of Labor Between Countries: Migration
Effects of Immigration in the Short Run: Specific-Factors Model
Immigration to the New World
Immigration into Europe Today
Brussels Resumes Policy Push to Share Out Refugees Across EU
Other Effects of Immigration in the Short Run
Refugees Can Be an Investment, Rather than a Burden
Effects of Immigration in the Long Run
Rybczynski Theorem
Factor Price Insensitivity Theorem
The Effects of the Mariel Boat Lift on Industry Output in Miami
Immigration into the United States
Movement of Capital Between Countries: Foreign Direct Investment
Greenfield Investment
FDI in the Short Run: Specific-Factors Model
FDI in the Long Run
The Effect of FDI on Rentals and Wages in Singapore
The Myth of Asia’s Miracle
Gains from Labor and Capital Flows
Gains from Immigration
SIDE BAR Immigrants and Their Remittances
Gains from Migration
Gains from Foreign Direct Investment
Conclusions
Key Points, Key Terms, and Problems
New Explanations for International Trade
Increasing Returns to Scale and Monopolistic Competition
Basics of Imperfect Competition
Monopoly Equilibrium
Demand with Duopoly
Trade Under Monopolistic Competition
Equilibrium Without Trade
Equilibrium with Free Trade
Gains and Adjustment Costs for Canada Under NAFTA
Gains and Adjustment Costs for Mexico Under NAFTA
Nearly 20 Years After NAFTA, First Mexican Truck Arrives In U S Interior
Gains and Adjustment Costs for the United States Under NAFTA
Opposing Viewpoints on the Effect of NAFTA, 20 Years Later
Intra-Industry
Index of Intra-Industry Trade
Value Chain of Activities
Slicing the Value Chain
Changes in Foreign Costs and in Offshoring Explaining Changes in Wages and Employment
Changes in the Relative Wage of Nonproduction Workers in the United States
Changes in the Relative Wage of Nonproduction Workers in Mexico
Job Polarization in the United States
The Gains from Offshoring
Simplified Offshoring Model
Production in the Absence of Offshoring
Terms of Trade U S
Key
Import Tariffs and Quotas Under Perfect Competition
A Brief History of the World Trade Organization
SIDE BAR Key Provisions of the GATT
The Gains from Trade
Consumer and Producer Surplus
Home Welfare
Home Import Demand Curve
Import Tariffs for a Small Country
Free Trade for a Small Country
Effect of the Tariff
Why and How Are Tariffs Applied?
SIDE BAR Safeguard Tariffs
U S Tariffs on Steel and Tires
Import Tariffs for a Large Country
Foreign Export Supply
Effect of the Tariff
U S Tariffs on Steel Once Again
Import Quotas Sugar Could Sweeten U.S. Australia Trans-Pacific Trade Talks
Import Quota in a Small Country
China and the Multifibre Arrangement
Conclusions
Key Points, Key Terms, and Problems
Import Tariffs and Quotas Under Imperfect Competition
Tariffs and Quotas with Home Monopoly
No-Trade Equilibrium Free-Trade Equilibrium
Effect of a Home Tariff
Effect of a Home Quota
U S Imports of Japanese Automobiles
Tariffs with Foreign Monopoly Foreign Monopoly
Import Tariffs on Japanese Trucks
The Chickens Have Come Home to Roost Dumping
Numerical Example of Dumping Policy Response to Dumping
Antidumping Duties
United States and European Duties on Solar Panels from China
Antidumping Duties Versus Safeguard Tariffs
Infant Industry Protection
Free-Trade Equilibrium
Tariff Equilibrium
Examples of Infant Industry Protection
Government Policies in the Solar Panel Industry
U.S. Tariff on Heavyweight Motorcycles
Computers in Brazil
Protecting the Automobile Industry in China
Conclusions
Key Points, Key Terms, and Problems
Export Policies in Resource-Based and High-Technology Industries
WTO Goals on Agricultural Subsidies
Agricultural Export Subsidies
WTO Leaders Agree to End Farm Subsidies as Doha Unresolved
Other Matters from the Hong Kong WTO Meeting
Export
Export Subsidies in a Large Home Country
Effect
Production Subsidies
Effect of a Production Subsidy in a Small Home Country
Effect of the Production Subsidy in a Large Home Country
Export Tariffs
Impact of an Export Tariff in a Small Country
Impact
Export
High-Technology Export Subsidies
“Strategic” Use of High-Tech Export Subsidies
Effect of a Subsidy to Airbus
Subsidy with Cost Advantage for Boeing Subsidies to Commercial Aircraft
Conclusions
Key Points, Key Terms, and Problems
International Agreements: Trade, Labor, and the Environment
Multilateral Trade Agreements
The Logic of Multilateral Trade Agreements
Prisoner’s Dilemma
Trade Talks Lead to ‘Death of Doha and Birth of New WTO’
Regional Trade Agreements
Making the Case for Trade
The Trans-Pacific Partnership
Controversial Issues in the Trans-Pacific Partnership
Trade Creation and Trade Diversion
Numerical Example of Trade Creation and Diversion
Trade Diversion in a Graph
Trade Creation and Diversion for Canada
International Agreements on Labor Issues
How to Promote Labor Standards
Wal-Mart Orders Chinese Suppliers to Lift Standards
American Tariffs, Bangladeshi Deaths
U S Suspends Bangladesh’s Preferential Trade Status
International Agreements on the Environment
Environmental Issues in the GATT and WTO
Does Trade Help or Harm the Environment?
The Tragedy of the Commons
International Agreements on Pollution
The Kyoto Protocol and the COP21 Paris Agreement
Nations Unite in Global Agreement on Climate Change
Conclusions
Key Points, Key Terms, and Problems
Index
The Arrangement of Topics: International Trade
Part 1: Introduction to International Trade
The opening chapter sets the stage by discussing global flows of goods and services through international trade, of people through migration, and of capital through foreign direct investment. The chapter includes maps depicting these flows, so the student can get a feel for which countries have the greatest flows in each case. Historical examples of trade and barriers to trade are also provided. This chapter can serve as a full introductory lecture.
Part 2: Patterns of International Trade
The core models of international trade are presented here: the Ricardian model (Chapter 2), the specific-factors model (Chapter 3), and the Heckscher–Ohlin model (Chapter 4)
Some of the topics conventionally included in the specific-factors and Heckscher–Ohlin model, such as the effects of changing the endowments of labor or capital, are not covered in those chapters but are instead examined in Chapter 5, which deals with the movement of labor and capital between countries. For example, the factor price insensitivity result is deferred to Chapter 5, as is the Rybczynski theorem. By discussing those two results in Chapter 5, we keep the discussion of the Heckscher–Ohlin model more manageable in Chapter 4, which focuses on the Heckscher–Ohlin theorem, the Stolper–Samuelson theorem, and empirical testing of the model. In summary, the ordering of topics among Chapters 3, 4, and 5, and many applications, are new, and these chapters are linked together tightly in their pedagogical approach.
Part 3: New Explanations for International Trade
In this section we cover two relatively new explanations for international trade: increasing returns to scale (Chapter 6) and offshoring (Chapter 7)
Formal models of trade with increasing returns to scale and monopolistic competition have been popular since the early 1980s, but there is no standardized method for presenting this topic in undergraduate textbooks. In Chapter 6, we use the original, graphical discussion from Edward Chamberlin, who introduced the DD and dd curves (which we label in Chapter 6 as simply D and d) The D curve represents the share of the market going to each firm and traces out demand if all firms charge the same prices. In contrast, the d curve is the demand facing a firm when other firms keep their prices constant. The distinction between these two demands is crucial when analyzing the impact of trade liberalization: the d curve clearly shows the incentive for each individual firm to lower its price after trade liberalization, but the steeper D curve shows that when all firms lower prices, then losses occur and some firms must exit.
Chapter 7 is devoted to offshoring, and we have found that students enjoy learning, and readily understand, this new material. The model we use illustrates a piece of intuition that students grasp easily: how the movement of one student from, say, a physics class to an economics class can raise the average grade in both classes Likewise, offshoring can raise the relative wage of skilled workers in both countries. The chapter deals with Paul Samuelson’s 2004 critique that offshoring to China or India might be harmful to the United States.
That argument is shown to depend on how offshoring affects the U S terms of trade: if the terms of trade fall, the United States is worse off, though it still gains overall from international trade. In fact, we argue that the U.S. terms of trade have been rising in recent years, not falling, so Samuelson’s argument is hypothetical so far.
Part 4: International Trade Policies
The concluding part of the trade portion of the book is devoted to trade policy: tariffs and quotas under perfect competition (Chapter 8) and under imperfect competition (Chapter 9), export subsidies (Chapter 10), and a discussion of international agreements on trade, labor, and the environment (Chapter 11). Our goal is to present this material in a more systematic fashion than found elsewhere, using both very recent and historical applications.
Chapter 8, dealing with tariffs and quotas under perfect competition, is the “bread and butter” of trade policy. We adopt the partial-equilibrium approach, using import demand and export supply curves, along with consumer and producer surplus Our experience is that students feel very comfortable with this approach from their microeconomics training (so they can usually label the consumer surplus region, for example, in each diagram before the labels are shown). The chapter uses the tariffs applied by President George W. Bush on U.S. steel imports and by President Barack Obama on imported tires from China as motivating cases, which we analyze from both a “small country ” and a “large country ” perspective.
Chapters 9 and 10 bring in some of the insights from the literature developed in the late 1980s and 1990s on the strategic role of trade policy. Whereas that literature focused on oligopoly interactions between firms, we simplify the analysis in Chapter 9 by focusing on home or foreign monopoly cases Chapter 10 then presents the duopoly case in the analysis of export subsidies Most of the theory in these chapters is familiar, but the organization is new, as are many of the applications, including infant industry protection in Chapter 9 and a detailed discussion of export policies in high-technology and resource industries, including rare earth minerals in China, in Chapter 10.
Chapter 11 begins by drawing upon tariffs under perfect competition (from Chapter 8), and showing that large countries have a natural incentive to apply tariffs to move the terms of trade to their advantage. That creates a prisoner’s dilemma that is overcome by rules in the WTO. The chapter then moves on to discuss international rules governing labor issues and the environment. Students are especially interested in the environmental applications.
The Arrangement of Topics: International Macroeconomics
Part 5 (Part 1 in International Macroeconomics): Introduction to International Macroeconomics
This part consists of Chapter 12 (Chapter 1 in the split edition), which sets the stage by explaining the field and major items of interest with a survey of the three main parts of the book: money and exchange rates, the balance of payments, and the role of policy.
Part 6 (Part 2): Exchange Rates
We depart from the traditional presentation by presenting exchange rates before balance of payments, an approach that we and our students find more logical and appealing We begin the core macro material with exchange rates because (for macroeconomics) the exchange rate is the key difference between a closed economy and a world of open economies. Our approach, supported by our own experience and that of our reviewers and users, first treats all price topics together in one part, and then moves on to quantity topics.
Chapter 13 (Chapter 2) introduces the basics of exchange rates and the foreign exchange (forex) market (including the principles of arbitrage) and exposes students to realworld data on exchange rate behavior. It describes how the forex market is structured and explains the principles of arbitrage in forex markets. It ends with interest parity conditions, which are then covered in more detail in Chapter 15 (Chapter 4).
Chapter 14 (Chapter 3) presents the monetary approach to the determination of exchange rates in the long run We cover the long run before the short run because longrun expectations are assumed to be known in the short-run model. Topics include goods market arbitrage, the law of one price, and purchasing power parity. We first develop a simple monetary model (the quantity theory) and then look at the standard monetary model, the Fisher effect, and real interest parity. The chapter ends with a discussion of nominal anchors and their relationship to monetary and exchange rate regimes
Chapter 15 (Chapter 4) presents the asset approach to the determination of exchange rates in the short run. Uncovered interest parity, first introduced in Chapter 13 (Chapter 2), is the centerpiece of the asset approach, and the expected future exchange rate is assumed to be given by the long-run model. Short-run interest rates are explained using a money market model We show how all the building blocks from the monetary and asset approaches fit together for a complete theory of exchange rate determination Finally, we explain how the complete theory works for fixed as well as floating regimes, and demonstrate the trilemma.
Part 7 (Part 3): The Balance of Payments
Chapter 16 (Chapter 5 in the split edition) introduces the key macroeconomic quantities: the national and international accounts and the balance of payments (BOP). The BOP is explained as the need for balancing trade on goods, services, and assets (with allowances for transfers). We also introduce external wealth and valuation effects, which are of increasing importance in the world economy.
Chapter 17 (Chapter 6) links the BOP to the key question of the costs and benefits of
financial globalization, an increasingly important topic The chapter begins by explaining the significance of the long-run budget constraint and then examines the three key potential benefits of financial globalization: consumption smoothing, efficient investment, and risk sharing. This chapter allows instructors to present a clear, simplified treatment of the real macroeconomic efficiency gains arising from international trade and payments, a subject often omitted from textbooks
Chapter 18 (Chapter 7) presents the short-run open economy Keynesian model, which links the balance of payments to output, exchange rates, and macroeconomic policies. We use IS–LM and forex market diagrams, with the interest rate on a common axis. With this presentation, we use tools (IS–LM) that many students have already seen, and avoid inventing new ways to present the same model with new and challenging notation In this chapter we also discuss fixed and floating rate regimes side by side, not in different chapters We think it helpful throughout the book to study these regimes in parallel and at this point this presentation leads naturally to the next chapter.
The ordering of Part 7 (Part 3) echoes that of Part 6 (Part 2): we start with definitions, then cover long-run topics (the gains from financial globalization), then move to short-run topics (IS–LM) This ordering of topics allows a smooth transition from some key definitions in Chapter 16 (Chapter 5) to their application at the start of Chapter 17 (Chapter 6), a link that would be impossible if the BOP chapter were placed before the coverage of exchange rates.
Part 8 (Part 4) Applications and Policy Issues
Chapter 19 (Chapter 8 in the split edition) confronts one of the major policy issues in international macroeconomics, the choice of fixed versus floating exchange rates The analysis begins with the two classic criteria for two regions to adopt a fixed exchange rate: high levels of integration and symmetry of economic shocks. The chapter then goes on to consider other factors that could make a fixed exchange rate desirable, especially in developing countries: a need for a credible nominal anchor and the “fear of floating” that results from significant liability dollarization Empirical evidence is provided for all of these influences A brief section summarizes the debate over the desirability and possibility of coordination in larger exchange rate systems. Finally, a historical survey uses the tools at hand to understand the evolution of international monetary arrangements since the nineteenth century.
Chapter 20 (Chapter 9) studies exchange rate crises. Before explaining how pegs break, we spend some time studying how pegs work We begin by focusing on reserve management and the central bank balance sheet, when an economy faces shocks to output, interest rates, and risk premiums. We then extend the framework to consider lender of last resort actions, a structure that allows for more realism. This presentation allows us to discuss recent controversies over reserve accumulation in China and other emerging markets, and also suggests how pegs can fail The chapter concludes by looking at two models of crises: a first-generation model with ongoing monetized deficits with fixed output and flexible prices, applying the logic of the flexible-price model of Chapter 14 (Chapter 3); and a second-generation model featuring an adverse shock with flexible output and fixed prices, applying the IS–LM–FX model of Chapter 18 (Chapter 7).
Chapter 21 (Chapter 10) discusses common currencies, with particular focus on the euro We develop the basic Optimal Currency Area (OCA) criteria as an extension of the
