Key Diagrams - Gains from Trade using Supply and Demand Analysis

In this short video we walk through how you can use supply and demand analysis to show some of the welfare gains from trade.

You can use standard supply and demand curve analysis diagrams to show some of the welfare effects of trade and also how it impacts on consumer and producer surplus.

In this diagram we show the potential welfare gains from a country being able to import steel at a lower price than if they relied only on domestic steel producers.

The lower trade price reflects a situation where other countries / producers can manufacture steel at a lower marginal cost. If trade is allowed to function without tariff and non-tariff barriers, then the price of steel will fall and imports will take up a large percentage of domestic demand.

We have shown here that trade can lead to an increase in consumer surplus but that producer surplus for domestic steel producers will fall. This assumes that their supply costs remain unchanged – often a dynamic effect of trade is to drive cost-reducing innovations.