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This article discusses the impact that trade between the U.S. and China have had on their respective economies.
International trade involves the buying and selling of goods between countries. It plays an important role in economic activities and performance all over the world, because there are many benefits to trade. If a country doesn’t trade with others, it has to produce all the goods and services that it needs by itself. Trade between countries allows them to focus their scarce resources on producing that which it is most efficient at producing.
A greater overall quantity can then be produced, as scarce resources won’t be wasted on producing some goods inefficiently. This specialization is possible because of the differences in quantities and qualities of each country’s factors of production, known as factor endowments. By exporting surpluses in exchange for goods which are produced more cheaply elsewhere, countries can increase their overall consumption of goods and services, as shown in the diagram below.
The diagram above illustrates the production possibility curve for a country. This curve shows all the different quantities of two goods that the country could produce if it were operating at its most efficient level. In reality, no economy is ever able to achieve pareto efficiency, and instead are at a point somewhere instead the curve – for example, point A. Trade between countries allows a country to specialize in what it produces most efficiently, and then exchange this surplus for goods produced more efficiently in other countries. This would allow consumption at a point outside of the curve – for example, point B – which is a benefit made possible by trade.
As trade enables a country to import different goods from various countries, it is beneficial to consumers because they are given more choice and variety. An increase in competition due to foreign firms forces domestic firms to become more efficient, as failure to do so means selling at higher prices than imported products and the likelihood of eventually going out of business. Increased efficiency in production would result in lower costs for consumers, which is another benefit of trade for consumers.
The large amount of trade between the U.S. and China makes the two countries interdependent on each other, as the U.S. needs Chinese imports in order to maintain its high consumption levels and China needs the U.S. in order to keep earning from export revenues. The strong international trade links between these two countries reduce the possibility of war or other hostilities occurring between them.
The article states that the U.S. has a $41.5 billion trade deficit with the world. In the long run, this deficit could have many negative impacts on the U.S. economy. To be able to keep financing this deficit, the U.S. has to find ways of raising funds, such as increasing interest rates and borrowing more money from other countries. While higher interest rates would attract more foreign investments, it would also most likely result in a decrease in domestic consumption levels – borrowing money would become more expensive, and there would also be increased incentive to save. If the U.S. chose to borrow money over long periods of time, it runs the risk of accumulating so much debt that it becomes impossible for it to ever be paid back. Defaulting on loans would cause significant currency depreciation, which the government would be helpless to control because of the U.S. Dollar being a floating exchange rate.
A floating exchange rate is one whose price and quantity is determined purely by the market forces of demand and supply, with no government intervention taking place. Appreciation and depreciation results from changes in demand or supply for the currency. A downside of this system is that the government has no control whatsoever over the currency value. In the case of extensive borrowing being made over long periods of time, the risk of defaulting on loans would make the U.S. Dollar unattractive to other countries. The subsequent decrease in demand would cause the value of the U.S. Dollar to plummet rapidly. This in turn might bring about cost-push or demand-pull inflation. In addition, because the value of the curency decreases, the value of whatever national debt is already present will increase.
In conclusion, international trade has many benefits, as shown by the relationship discussed in the article – the U.S. is able to consume at a level greater than what it would be capable of consuming at if no trade were possible, and China earns money from its export revenues.