Copyright?2003PearsonEducation,Inc.Slide6-1IntroductionEconomiesofScaleandInternationalTrade:AnOverviewEconomiesofScaleandMarketStructureTheTheoryofImperfectCompetitionMonopolisticCompetitionandTradeDumpingTheTheoryofExternalEconomiesExternalEconomiesandInternationalTradeSummaryChapterOrganizationIntroductionChapterOrganizatiCopyright?2003PearsonEducation,Inc.Slide6-2IntroductionCountriesengageininternationaltradefortwobasicreasons:Countriestradebecausetheydiffereitherintheirresourcesorintechnology.Countriestradeinordertoachievescaleeconomiesorincreasingreturnsinproduction.Twomodelsofinternationaltradeinwhicheconomiesofscaleandimperfectcompetitionplayacrucialrole:MonopolisticcompetitionmodelDumpingmodelIntroductionCountriesengageiCopyright?2003PearsonEducation,Inc.Slide6-3EconomiesofScaleandInternationalTrade:AnOverviewModelsoftradebasedoncomparativeadvantage(e.g.Ricardianmodel)usedtheassumptionsofconstantreturnstoscaleandperfectcompetition:Increasingtheamountofallinputsusedintheproductionofanycommoditywillincreaseoutputofthatcommodityinthesameproportion.Inpractice,manyindustriesarecharacterizedbyeconomiesofscale(alsoreferredtoasincreasingreturns).Productionismostefficient,thelargerthescaleatwhichittakesplace.EconomiesofScaleandInternaCopyright?2003PearsonEducation,Inc.Slide6-4Underincreasingreturnstoscale:Outputgrowsproportionatelymorethantheincreaseinallinputs.Averagecosts(costsperunit)declinewiththesizeofthemarket.EconomiesofScaleandInternationalTrade:AnOverviewUnderincreasingreturnstoscCopyright?2003PearsonEducation,Inc.Slide6-5EconomiesofScaleandInternationalTrade:AnOverviewTable6-1:RelationshipofInputtoOutputforaHypotheticalIndustryEconomiesofScaleandInternaCopyright?2003PearsonEducation,Inc.Slide6-6EconomiesofScaleand

MarketStructureEconomiesofscalecanbeeither:ExternalThecostperunitdependsonthesizeoftheindustrybutnotnecessarilyonthesizeofanyonefirm.Anindustrywilltypicallyconsistofmanysmallfirmsandbeperfectlycompetitive.InternalThecostperunitdependsonthesizeofanindividualfirmbutnotnecessarilyonthatoftheindustry.Themarketstructurewillbeimperfectlycompetitivewithlargefirmshavingacostadvantageoversmall.Bothtypesofscaleeconomiesareimportantcausesofinternationaltrade.EconomiesofScaleand

MarketCopyright?2003PearsonEducation,Inc.Slide6-7ImperfectcompetitionFirmsareawarethattheycaninfluencethepriceoftheirproduct.Theyknowthattheycansellmoreonlybyreducingtheirprice.Eachfirmviewsitselfasapricesetter,choosingthepriceofitsproduct,ratherthanapricetaker.Thesimplestimperfectlycompetitivemarketstructureisthatofapuremonopoly,amarketinwhichafirmfacesnocompetition.TheTheoryof

ImperfectCompetitionImperfectcompetitionTheTheorCopyright?2003PearsonEducation,Inc.Slide6-8Monopoly:ABriefReviewMarginalrevenue

TheextrarevenuethefirmgainsfromsellinganadditionalunitItscurve,MR,alwaysliesbelowthedemandcurve,D.Inordertosellanadditionalunitofoutputthefirmmustlowerthepriceofallunitssold(notjustthemarginalone).TheTheoryof

ImperfectCompetitionMonopoly:ABriefReviewTheThCopyright?2003PearsonEducation,Inc.Slide6-9TheTheoryof

ImperfectCompetitionFigure6-1:MonopolisticPricingandProductionDecisionsDCost,CandPrice,PQuantity,QMonopolyprofitsACPMQMMRMCACTheTheoryof

ImperfectCompeCopyright?2003PearsonEducation,Inc.Slide6-10MarginalRevenueandPriceMarginalrevenueisalwayslessthantheprice.Therelationshipbetweenmarginalrevenueandpricedependsontwothings:HowmuchoutputthefirmisalreadysellingTheslopeofthedemandcurveIttellsushowmuchthemonopolisthastocuthispricetosellonemoreunitofoutput.TheTheoryof

ImperfectCompetitionMarginalRevenueandPriceTheCopyright?2003PearsonEducation,Inc.Slide6-11Assumethatthedemandcurvethefirmfacesisastraightline:

Q=A–B

x

P (6-1)ThentheMRthatthefirmfacesisgivenby:

MR=P–Q/B (6-2)AverageandMarginalCostsAverageCost(AC)is

totalcostdividedbyoutput.MarginalCost(MC)is

theamountitcoststhefirmtoproduceoneextraunit.TheTheoryof

ImperfectCompetitionAssumethatthedemandcurvetCopyright?2003PearsonEducation,Inc.Slide6-12Whenaveragecostsdeclineinoutput,marginalcostisalwayslessthanaveragecost.Supposethecostsofafirm,C,taketheform:

C=F+c

x

Q (6-3)Thisisalinearcostfunction.Thefixedcostinalinearcostfunctiongivesrisetoeconomiesofscale,becausethelargerthefirm’soutput,thelessisfixedcostperunit.Thefirm’saveragecostsisgivenby:

AC=C/Q=F/Q+c(6-4)TheTheoryof

ImperfectCompetitionWhenaveragecostsdeclineinCopyright?2003PearsonEducation,Inc.Slide6-13Figure6-2:AverageVersusMarginalCostTheTheoryof

ImperfectCompetitionAveragecostMarginalcost120345624681012141618202224CostperunitOutputFigure6-2:AverageVersusMarCopyright?2003PearsonEducation,Inc.Slide6-14MonopolisticCompetitionOligopoly

Internaleconomiesgenerateanoligopolymarketstructure.Thereareseveralfirms,eachofwhichislargeenoughtoaffectprices,butnonewithanuncontestedmonopoly.Strategicinteractionsamongoligopolistshavebecomeimportant.Eachfirmdecidesitsownactions,takingintoaccounthowthatdecisionmightinfluenceitsrival’sactions.TheTheoryof

ImperfectCompetitionMonopolisticCompetitionTheThCopyright?2003PearsonEducation,Inc.Slide6-15MonopolisticcompetitionAspecialcaseofoligopolyTwokeyassumptionsaremadetogetaroundtheproblemofinterdependence:Eachfirmisassumedtobeabletodifferentiateitsproductfromitsrivals.Eachfirmisassumedtotakethepriceschargedbyitsrivalsasgiven.TheTheoryof

ImperfectCompetitionMonopolisticcompetitionTheThCopyright?2003PearsonEducation,Inc.Slide6-16Arethereanymonopolisticallycompetitiveindustriesintherealworld?Someindustriesmaybereasonableapproximations(e.g.,theautomobileindustryinEurope)Themainappealofthemonopolisticcompetitionmodelisnotitsrealism,butitssimplicity.TheTheoryof

ImperfectCompetitionArethereanymonopolisticallyCopyright?2003PearsonEducation,Inc.Slide6-17AssumptionsoftheModelImagineanindustryconsistingofanumberoffirmsproducingdifferentiatedproducts.Weexpectafirm:Tosellmorethelargerthetotaldemandforitsindustry’sproductandthehigherthepriceschargedbyitsrivalsToselllessthegreaterthenumberoffirmsintheindustryandthehigheritsownpriceTheTheoryof

ImperfectCompetitionAssumptionsoftheModelTheThCopyright?2003PearsonEducation,Inc.Slide6-18

where:Qisthefirm’ssalesSisthetotalsalesoftheindustrynisthenumberoffirmsintheindustrybisaconstanttermrepresentingtheresponsivenessofafirm’ssalestoitspricePisthepricechargedbythefirmitselfAparticularequationforthedemandfacingafirmthathasthesepropertiesis:

Q=S

x[1/n–b

x(P–P)](6-5)TheTheoryof

ImperfectCompetitionPistheaveragepricechargedbyitscompetitorsAparticularequationfortheCopyright?2003PearsonEducation,Inc.Slide6-19MarketEquilibriumAllfirmsinthisindustryaresymmetricThedemandfunctionandcostfunctionareidenticalforallfirms.Themethodfordeterminingthenumberoffirmsandtheaveragepricechargedinvolvesthreesteps:Wederivearelationshipbetweenthenumberoffirmsandtheaveragecostofatypicalfirm.Wederivearelationshipbetweenthenumberoffirmsandthepriceeachfirmcharges.Wederivetheequilibriumnumberoffirmsandtheaveragepricethatfirmscharge.TheTheoryof

ImperfectCompetitionMarketEquilibriumTheTheoryoCopyright?2003PearsonEducation,Inc.Slide6-20ThenumberoffirmsandaveragecostHowdotheaveragecostsdependonthenumberoffirmsintheindustry?TheTheoryof

ImperfectCompetitionUndersymmetry,P=P,equation(6-5)tellsusthat

Q=S/nbutequation(6-4)showsusthattheaveragecostdependsinverselyonafirm’soutput.Weconcludethataveragecostdependsonthesizeofthemarketandthenumberoffirmsintheindustry: AC=F/Q+c=n

x

F/S+c(6-6)Themorefirmsthereareintheindustrythehigheristheaveragecost.ThenumberoffirmsandaveragCopyright?2003PearsonEducation,Inc.Slide6-21PPCostC,andPrice,PNumberoffirms,nCCP3AC3n3n1AC1n2AC2EFigure6-3:EquilibriuminaMonopolisticallyCompetitiveMarketTheTheoryof

ImperfectCompetitionP2,P1PPCostC,andNumberCCP3AC3n3n1Copyright?2003PearsonEducation,Inc.Slide6-22ThenumberoffirmsandthepriceThepricethetypicalfirmchargesdependsonthenumberoffirmsintheindustry.Themorefirms,themorecompetition,andhencethelowertheprice.Inthemonopolisticcompetitionmodelfirmsareassumedtotakeeachothers’pricesasgiven.TheTheoryof

ImperfectCompetitionIfeachfirmtreatsPasgiven,wecanrewritethedemandcurve(6-5)intheform: Q=(S/n+S

x

b

x

P)–S

x

b

x

P(6-7)ThenumberoffirmsandtheprCopyright?2003PearsonEducation,Inc.Slide6-23Profit-maximizingfirmssetmarginalrevenueequaltotheirmarginalcost,c.ThisgeneratesanegativerelationshipbetweenthepriceandthenumberoffirmsinthemarketwhichisthePPcurve: P=c+1/(b

x

n) (6-10)Themorefirmsthereareintheindustry,thelowerthepriceeachfirmwillcharge.TheTheoryof

ImperfectCompetitionProfit-maximizingfirmssetmaCopyright?2003PearsonEducation,Inc.Slide6-24TheequilibriumnumberoffirmsThedownward-slopingcurvePPshowsthatthemorefirms,thelowerthepriceeachfirmwillcharge.Themorefirms,themorecompetitioneachfirmfaces.Theupward-slopingcurveCCtellsusthatthemorefirmsthereare,thehighertheaveragecostofeachfirm.Ifthenumberoffirmsincreases,eachfirmwillsellless,sofirmswillnotbeabletomoveasfardowntheiraveragecostcurve.TheTheoryof

ImperfectCompetitionTheequilibriumnumberoffirmCopyright?2003PearsonEducation,Inc.Slide6-25LimitationsoftheMonopolisticCompetitionModelTwokindsofbehaviorariseinthegeneraloligopolysettingthatareexcludedbyassumptionfromthemonopolisticcompetitionmodel:Collusivebehavior:CanraisetheprofitsofallfirmsattheexpenseofconsumersMaybemanagedthroughexplicitagreementsorthroughtacitcoordinationstrategiesStrategicbehavior:IsadoptedbyfirmstoaffectthebehaviorofcompetitorsinadesirablewayDeterspotentialrivalsfromenteringanindustryTheTheoryof

ImperfectCompetitionLimitationsoftheMonopolistiCopyright?2003PearsonEducation,Inc.Slide6-26Themonopolisticcompetitionmodelcanbeusedtoshowhowtradeleadsto:IncreasedmarketsizeMutualgainsfromaintegratedmarketEconomicsofscaleintra-industrytradeMonopolisticCompetitionandTradeThemonopolisticcompetitionmCopyright?2003PearsonEducation,Inc.Slide6-27Figure6-4:EffectsofaLargerMarketCostC,andPrice,PNumberoffirms,nCC1n1

P11PPn2P22CC2MonopolisticCompetitionandTradeFigure6-4:EffectsofaLargeCopyright?2003PearsonEducation,Inc.Slide6-28MonopolisticCompetitionandTradeCC: AC=F/Q+c=n

x

F/S+c

PP:

P=c+1/(b

x

n)

MonopolisticCompetitionandTCopyright?2003PearsonEducation,Inc.Slide6-29GainsfromanIntegratedMarket:ANumericalExampleExample:Supposethatautomobilesareproducedbyamonopolisticallycompetitiveindustry.Assumethefollowing:b=1/30,000,F=$750,000,000,c=$5000Therearetwocountries(HomeandForeign)thathavethesamecostsofautomobileproduction.Annualsalesofautomobilesare900,000atHomeand1.6millionatForeign.MonopolisticCompetitionandTradeGainsfromanIntegratedMarkeCopyright?2003PearsonEducation,Inc.Slide6-30Figure6-5:EquilibriumintheAutomobileMarketMonopolisticCompetitionandTradeFigure6-5:EquilibriumintheCopyright?2003PearsonEducation,Inc.Slide6-31Figure6-5:ContinuedMonopolisticCompetitionandTradeFigure6-5:ContinuedMonopolisCopyright?2003PearsonEducation,Inc.Slide6-32Figure6-5:ContinuedMonopolisticCompetitionandTradeFigure6-5:ContinuedMonopolisCopyright?2003PearsonEducation,Inc.Slide6-33Table6-2:HypotheticalExampleofGainsfromMarketIntegrationMonopolisticCompetitionandTradeTable6-2:HypotheticalExamplCopyright?2003PearsonEducation,Inc.Slide6-34EconomiesofScaleandComparativeAdvantageAssumptions:Therearetwocountries:Home(thecapital-abundantcountry)andForeign.Therearetwoindustries:manufactures(thecapital-intensiveindustry)andfood.Neithercountryisabletoproducethefullrangeofmanufacturedproductsbyitselfduetoeconomiesofscale.MonopolisticCompetitionandTradeEconomiesofScaleandComparaCopyright?2003PearsonEducation,Inc.Slide6-35Figure6-6:TradeinaWorldWithoutIncreasingReturnsHome(capitalabundant)Foreign(laborabundant)ManufacturesFoodMonopolisticCompetitionandTradeFigure6-6:TradeinaWorldWCopyright?2003PearsonEducation,Inc.Slide6-36Ifmanufacturesisamonopolisticallycompetitivesector,worldtradeconsistsoftwoparts:IntraindustrytradeTheexchangeofmanufacturesformanufacturesInterindustrytradeTheexchangeofmanufacturesforfoodMonopolisticCompetitionandTradeIfmanufacturesisamonopolisCopyright?2003PearsonEducation,Inc.Slide6-37Figure6-7:TradewithIncreasingReturnsandMonopolisticCompetitionHome(capitalabundant)Foreign(laborabundant)ManufacturesFoodInterindustrytradeIntraindustrytradeMonopolisticCompetitionandTradeFigure6-7:TradewithIncreasCopyright?2003PearsonEducation,Inc.Slide6-38Maindifferencesbetweeninterindustryandintraindustrytrade:Interindustrytradereflectscomparativeadvantage,whereasintraindustrytradedoesnot.Thepatternofintraindustrytradeitselfisunpredictable,whereasthatofinterindustrytradeisdeterminedbyunderlyingdifferencesbetweencountries.Therelativeimportanceofintraindustryandinterindustrytradedependsonhowsimilarcountriesare.MonopolisticCompetitionandTradeMaindifferencesbetweeninterCopyright?2003PearsonEducation,Inc.Slide6-39TheSignificanceofIntraindustryTradeAboutone-fourthofworldtradeconsistsofintra-industrytrade.Intra-industrytradeplaysaparticularlylargeroleinthetradeinmanufacturedgoodsamongadvancedindustrialnations,whichaccountsformostofworldtrade.MonopolisticCompetitionandTradeTheSignificanceofIntraindusCopyright?2003PearsonEducation,Inc.Slide6-40Table6-3:IndexesofIntraindustryTradeforU.S.Industries,1993MonopolisticCompetitionandTradeTable6-3:IndexesofIntraindCopyright?2003PearsonEducation,Inc.Slide6-41TheEconomicsofDumpingPricediscriminationThepracticeofchargingdifferentcustomersdifferentpricesDumpingThemostcommonformofpricediscriminationininternationaltradeApricingpracticeinwhichafirmchargesalowerpriceforanexportedgoodthanitdoesforthesamegoodsolddomesticallyDumpingTheEconomicsofDumpingDumpinCopyright?2003PearsonEducation,Inc.Slide6-42Dumpingcanoccuronlyiftwoconditionsaremet:ImperfectlycompetitiveindustrySegmentedmarketsGiventheseconditions,amonopolisticfirmmayfindthatitisprofitabletoengageindumping.DumpingDumpingCopyright?2003PearsonEducation,Inc.Slide6-43Figure6-8:DumpingDumpingExportsDomesticsalesCost,CandPrice,PQuantitiesproducedanddemanded,QMCDFOR=MRFORMRDOMDDOM2PFORPDOMQDOMQMONOPOLYTotaloutput13Figure6-8:DumpingDumpingExpoCopyright?2003PearsonEducation,Inc.Slide6-44ReciprocalDumpingAsituationinwhichdumpingleadstotwo-waytradeinthesameproductItincreasesthevolumeoftradeingoodsthatarenotquiteidentical.Itsnetwelfareeffectisambiguous:Itwastesresourcesintransportation.Itcreatessomecompetition.DumpingReciprocalDumpingDumpingCopyright?2003PearsonEducation,Inc.Slide6-45TheTheoryofExternalEconomiesEconomiesofscalethatoccurattheleveloftheindustryinsteadofthefirmarecalledexternaleconomies.Therearethreemainreasonswhyaclusteroffirmsmaybemoreefficientthananindividualfirminisolation:SpecializedsuppliersLabormarketpoolingKnowledgespilloversTheTheoryofExternalEconomiCopyright?2003PearsonEducation,Inc.Slide6-46SpecializedSuppliersInmanyindustries,theproductionofgoodsandservicesandthedevelopmentofnewproductsrequirestheuseofspecializedequipmentorsupportservices.Anindividualcompanydoesnotprovidealargeenoughmarketfortheseservicestokeepthesuppliersinbusiness.Alocalizedindustrialclustercansolvethisproblembybringingtogethermanyfirmsthatprovidealargeenoughmarkettosupportspecializedsuppliers.ThisphenomenonhasbeenextensivelydocumentedinthesemiconductorindustrylocatedinSiliconValley.TheTheoryofExternalEconomiesSpecializedSuppliersTheTheorCopyright?2003PearsonEducation,Inc.Slide6-47LaborMarketPoolingAclusteroffirmscancreateapooledmarketforworkerswithhighlyspecializedskills.Itisanadvantagefor:ProducersTheyarelesslikelytosufferfromlaborshortages.WorkersTheyarelesslikelytobecomeunemployed.TheTheoryofExternalEconomiesLaborMarketPoolingTheTheoryCopyright?2003PearsonEducation,Inc.Slide6-48KnowledgeSpilloversKnowledgeisoneoftheimportantinputfactorsinhighlyinnovativeindustries.Thespecializedknowledgethatiscrucialtosuccessininnovativeindustriescomesfrom:ResearchanddevelopmenteffortsReverseengineeringInformalexchangeofinformationandideasTheTheoryofExternalEconomiesKnowledgeSpilloversTheTheoryCopyright?2003PearsonEducation,Inc.Slide6-49ExternalEconomiesandIncreasingReturnsExternaleconomiescangiverisetoincreasingreturnstoscaleatthelevelofthenationalindustry.Forward-fallingsupplycurveThelargertheindustry’soutput,thelowerthepriceatwhichfirmsarewillingtoselltheiroutput.TheTheoryofExternalEconomiesExternalEconomiesandIncreasCopyright?2003PearsonEducation,Inc.Slide6-50ExternalEconomiesandthePatterofTradeAcountrythathaslargeproductioninsomeindustrywilltendtohavelowcostsofproducingthatgood.Countriesthatstartoutaslargeproducersincertainindustriestendtoremainlargeproducersevenifsomeothercountrycouldpotentiallyproducethegoodsmorecheaply.Figure6-9illustratesacasewhereapatternofspecializationestablishedbyhistoricalaccidentispersistent.ExternalEconomiesandInternationalTradeExternalEconomiesandthePatCopyright?2003PearsonEducation,Inc.Slide6-51Figure6-9:ExternalEconomiesandSpecializationExternalEconomiesandInternationalTradeACSWISSQ1P1Price,cost(perwatch)QuantityofwatchesproducedanddemandedACTHAI21C0DFigure6-9:ExternalEconomiesCopyright?2003PearsonEducation,Inc.Slide6-52TradeandWelfarewithExternalEconomiesTradebasedonexternaleconomieshasmoreambiguouseffectsonnationalwelfarethaneithertradebasedoncomparativeadvantageortradebasedoneconomiesofscaleatthelevelofthefirm.AnexampleofhowacountrycanactuallybeworseoffwithtradethanwithoutisshowninFigure6-10.ExternalEconomiesandInternationalTradeTradeandWelfarewithExternaCopyright?2003PearsonEducation,Inc.Slide6-53Figure6-10:ExternalEconomiesandLossesfromTradeExternalEconomiesandInternationalTradeACSWISSP1Price,cost(perwatch)QuantityofwatchesproducedanddemandedACTHAI21C0DTHAIDWORLDP2Figure6-10:ExternalEconomieCopyright?2003PearsonEducation,Inc.Slide6-54DynamicIncreasingReturnsLearningcurveItrelatesunitcosttocumulativeoutput.Itisdownwardslopingbecauseoftheeffectoftheexperiencegainedthoughproductiononcosts.DynamicincreasingreturnsAcasewhencostsfallwithcumulativeproductionovertime,ratherthanwiththecurrentrateofproduction.Dynamicscaleeconomiesjustifyprotectionism.Temporaryprotectionofindustriesenablesthemtogainexperience(infantindustryargument).ExternalEconomiesandInternationalTradeDynamicIncreasingReturnsExteCopyright?2003PearsonEducation,Inc.Slide6-55Figure6-11:TheLearningCurveExternalEconomiesandInternationalTradeLUnitcostCumulativeoutputL*C*0C1QLFigure6-11:TheLearningCurvCopyright?2003PearsonEducation,Inc.Slide6-56SummaryTradecanresultfromincreasingreturnsoreconomiesofscale,thatis,fromatendencyofunitcoststobeloweratlargerlevelsofoutput.Economiesofscalecanbeinternalorexternal.Thepresenceofscaleeconomiesleadstoabreakdownofperfectcompetition.Tradeinthepresenceofeconomiesofscalemustbeanalyzedusingmodelsofimperfectcompetition.SummaryTradecanresultfromiCopyright?2003PearsonEducation,Inc.Slide6-57SummaryInmonopolisticcompetition,anindustrycontainsanumberoffirmsproducingdifferentiatedproducts.Intraindustrytradebenefitsconsumersthroughgreaterproductvarietyandlowerprices.Ingeneral,trademaybedividedintotwokinds:Two-waytradeindifferentiatedproductswithinanindustry(intraindustrytrade).Tradeinwhichtheproductsofoneindustryareexchangedforproductsofanother(interindustrytrade).SummaryInmonopolisticcompetiCopyright?2003PearsonEducation,Inc.Slide6-58SummaryDumpingoccurswhenafirmchargesalowerpriceabroadthanitchargesdomestically.Dumpingcanoccuronlyiftwoconditionsaremet:Theindustrymustbeimperfectlycompetitive.Marketsmustbegeographicallysegmented.Externaleconomiesgiveanimportantroletohistoryandaccidentindeterminingthepatternofinternationaltrade.Whenexternaleconomiesareimportant,countriescanconceivablylosefromtrade.SummaryDumpingoccurswhenafCopyright?2003PearsonEducation,Inc.Slide6-59IntroductionEconomiesofScaleandInternationalTrade:AnOverviewEconomiesofScaleandMarketStructureTheTheoryofImperfectCompetitionMonopolisticCompetitionandTradeDumpingTheTheoryofExternalEconomiesExternalEconomiesandInternationalTradeSummaryChapterOrganizationIntroductionChapterOrganizatiCopyright?2003PearsonEducation,Inc.Slide6-60IntroductionCountriesengageininternationaltradefortwobasicreasons:Countriestradebecausetheydiffereitherintheirresourcesorintechnology.Countriestradeinordertoachievescaleeconomiesorincreasingreturnsinproduction.Twomodelsofinternationaltradeinwhicheconomiesofscaleandimperfectcompetitionplayacrucialrole:MonopolisticcompetitionmodelDumpingmodelIntroductionCountriesengageiCopyright?2003PearsonEducation,Inc.Slide6-61EconomiesofScaleandInternationalTrade:AnOverviewModelsoftradebasedoncomparativeadvantage(e.g.Ricardianmodel)usedtheassumptionsofconstantreturnstoscaleandperfectcompetition:Increasingtheamountofallinputsusedintheproductionofanycommoditywillincreaseoutputofthatcommodityinthesameproportion.Inpractice,manyindustriesarecharacterizedbyeconomiesofscale(alsoreferredtoasincreasingreturns).Productionismostefficient,thelargerthescaleatwhichittakesplace.EconomiesofScaleandInternaCopyright?2003PearsonEducation,Inc.Slide6-62Underincreasingreturnstoscale:Outputgrowsproportionatelymorethantheincreaseinallinputs.Averagecosts(costsperunit)declinewiththesizeofthemarket.EconomiesofScaleandInternationalTrade:AnOverviewUnderincreasingreturnstoscCopyright?2003PearsonEducation,Inc.Slide6-63EconomiesofScaleandInternationalTrade:AnOverviewTable6-1:RelationshipofInputtoOutputforaHypotheticalIndustryEconomiesofScaleandInternaCopyright?2003PearsonEducation,Inc.Slide6-64EconomiesofScaleand

MarketStructureEconomiesofscalecanbeeither:ExternalThecostperunitdependsonthesizeoftheindustrybutnotnecessarilyonthesizeofanyonefirm.Anindustrywilltypicallyconsistofmanysmallfirmsandbeperfectlycompetitive.InternalThecostperunitdependsonthesizeofanindividualfirmbutnotnecessarilyonthatoftheindustry.Themarketstructurewillbeimperfectlycompetitivewithlargefirmshavingacostadvantageoversmall.Bothtypesofscaleeconomiesareimportantcausesofinternationaltrade.EconomiesofScaleand

MarketCopyright?2003PearsonEducation,Inc.Slide6-65ImperfectcompetitionFirmsareawarethattheycaninfluencethepriceoftheirproduct.Theyknowthattheycansellmoreonlybyreducingtheirprice.Eachfirmviewsitselfasapricesetter,choosingthepriceofitsproduct,ratherthanapricetaker.Thesimplestimperfectlycompetitivemarketstructureisthatofapuremonopoly,amarketinwhichafirmfacesnocompetition.TheTheoryof

ImperfectCompetitionImperfectcompetitionTheTheorCopyright?2003PearsonEducation,Inc.Slide6-66Monopoly:ABriefReviewMarginalrevenue

TheextrarevenuethefirmgainsfromsellinganadditionalunitItscurve,MR,alwaysliesbelowthedemandcurve,D.Inordertosell