2.

TERMS OF TRADE
Meaning
The concept of terms of trade refers to the rate at which a country exchanges
It expresses a comparison of two values : the export prices and the import prices. exports for imports.
In other words, the
concept of terms of trade is defined as the ratio of export prices to import prices. If the
rise more that the prices of exports, then the terms of trade become prices of imports
the country in question because to obtain the same volume of unfavourable to, or move agans
imports, greater volume of exports a
to be sold abroad. Similarly, if the prices of exports rise more than the prices
trade become favourable to the country. of imports, the terms o
Types of Terms of Trade
G.M. Myer has classified various concepts of terms of trade under three broad groups :
() Those terms of trade that relate to the ratio of exchange between
commodities. They a
(a) Net barter terms of trade (NBTT)
(b) Gross barter terms of trade (GBTT)
(c) Income terms of trade (ITT)
 TRADE AND TERMS OF TRADE
GAINS FROM
25-D
Those terms of trade that relate to the
interchange between productive resources. They are:
(o) Single factoral terms of trade (SFTT)
(b) Double factoral terms of trade (DFTT)
Those terms of trade that express the gains from trade in
(a) Real cost terms of trade (RCTT) terms of utility analysis. They are:
(b) Utility terms of trade (UTT)
Net Barter Terms of Trade (NBTT)
The ratiobetween export prices and import prices is
called net barter terms of trade. It is also
known as "the commodity terms of trade", Symbolically,
NBTT = P,
Pm
where NBTT = Net barter terms of trade
P, = Price index of exports
Pm = Price index of imports
If P.> Pm terms of trade is favourable and if P,<Pm,
terms of trade is unfavourable.
Tomeasure changes in the terms of trade over a period, the
ratio of the change in
to the change in import prices is taken. Then the formula becomes: export prices

NBTT
P Pxo
Pmo
where subscripts 1 and 0 stand for current year and base year
respectively.
The base year price index of imports and exports will always be equal to 100.
P 100
Therefore =1
P 100
Now, if the current year price index of exports (Pa) is 160 and the current year price index of
imports (Pmi) is 120, then the terms of trade will be
160/120: 100/100 =1.33 :1
This means that in the current year the terms of trade show an improvement of 33% over the basis
year. This implies that if export prices rise relative to import prices, the terms of trade will rise or become
VOurable to the country.If import prices rise relativeto exportprices, the terms of trade will fall or
become unfavourable to the country. Thus, the concept of net barter terms of trade is generally used
to measure the gains from international trade.
he main drawback of the concept of net barter terms of trade is that it measures only the gain
sarising out of relative changes in the export and import prices and ignores the impact of other
actors, such as: (a) changes in the volume of exports and imports;() changes in the quality of exports
and Ports;
and (e) (e) changes in the composition of trade; (a) changes in the productivity of export industries;
unilateral
payments.
Gross Barter Terms of Trade (GBTT)
n order to overcome the deficiency in the net barter terms of trade, Prof. Taussing devised the
O grossbarter termns of trade. He pointed out that instead of relating import and export prices,
quantity ofimports and exports should be related. Thus,the gross terms of trade is the ratio of the total
Tanttes of imports to the total quantities of exports of a nation in physical terms. Symbolically,
GBTT =

where, GBTT = Gross barter terms of trade

= Total quantity of imports
= Total quantity of exports
 26-D MONEY BANKING AND
If Q., > Q, terms of trade will be unfavourable; and if Q< Q, terms of trade
To measure the changes in terms of trade over a period of time, the index
Inumbers
will NTERNATIofObeNAL TRADE
of imports and exports in the base year and the current year are related to each
becomes:
Zmo
favquaofuorrnmatbiueelsa
other. Thenthethe
Qx0
where the subscripts 1 and 0indicate the current year and base year respectively,
Arise the current year's gross barter terms of trade means afavourable
change. It
more imports are obtained from a given volume of exports than in the base year.
Taussig's concept of gross-barter terms of trade is also criticised on the inndicates that
() It incorporates various types of unilateral payments like tributes,
etc. These payments remain unaffected whether there is any tradeimmegrants'
or not following grounds:
(i) It reflects less price movements than changes in the balance of
movemnents. payments reandmit ancapicesta,l
Income Terms of Trade (ITT)
G.S. Dorrance has improved upon the concept of net
concept of income terms of trade. Income terms of trade referbarter
to the
terms of trade by formulating ..
to the import prices. In other words, income ratio between the value of ev
terms of trade are the net terms of trade multiplied h
volume of exports. Symbolically,
ITT = P
Pm -NBTIQ,
where, ITT = Incomne terms of trade
= Volumne of exports
P = Price of exports
Pm = Price of imports
The income terms of trade indicate nation's
volume of imports (Qm) that a country capacity to import because P, Q,/P,, determines the
can obtain with the export earnings.
The concept of income terms of trade has two
() The income terms of trade indicate only the
major drawbacks :
export-based capacity to import and not the
country total capacity to import The total capacity
capital inflow, receipts from invisibles, and to import depends upon factors e
(ii) A change in the income terms of trade unilateral payments.
need not
Even when export prices fall and import prices necessarily reflect the real gains tronta
will improve, if the physical volume of exports remain
increaseconstant, theinincome
more than proportion
termstoorthefalll
in export prices.
Other Concepts of Terms of Trade
1. Single and Double Factoral Terms of
productivity in the production of export goods Trade.
of two
Factoral terms of trade consider the chale
factoral or double factoral. countries. Factoral terms of trade may be suo
() Single Factoral Terms of Trade (SFTT). Single factoral terms of trade is the net barter terms
of trade adjusted for changes in the productivity of a country's factors in its exportindustries.
It measures "how much quantity of imports cart be obtained per unit of factor-input LUsed
in the production of exportables."
SFTT = NBTT. Z,
Symbolically,
where, SFTT = Single factoral terms of trade
Z, = Export productivity index
 AND TERMS OF TRADE 27-D
FROM TRADE
that a greater quantity of imports can be obtained per unit of factor-
GAINS
in SFTTimplies
Arise used
input in the production of exportables.
Double Eactoral Terms of Trade (DFTT). The double factoral terms of tradeis the net barter
() as well
terms of trade adjusted for changes in the productivity in producing both imports
as exports. Symbolically,
DFTT = NBTT
Zm
where,
DFTT = Double factoral terms of trade
Zm = Import productivity index
.ieein DFTT implies that one unit of home factors embodied in exports can now be
exchanged for more units of the foreign factors embodied in imports.
2. Real Cost Terms of Trade (RCTT). The concept of real cost terms of trade measures the gain
international trade in utility terms. The real cost terms of trade can be calculated by multiplying
factoral terms of trade by the reciprocal of an index of the amount of disutility per unit of
from
single
productive resources used in producing exports. Symbolically,
RCTT = SFTT. Rx = NBIT. Z,. Rx
RCTT = Real cost terms of trade
where,
Rx= Index of amnount of disutility incurred per unit of productive factors in the export sector.
greater.
A rise in RCTT indicates that the amount of imports obtained per unit of real cost is
3. Utility Terms of Trade (0TT). The concept of utility terms of trade is an index of the relative
tility of imports and domestic commodities foregone to produce exports. The utility terms of trade is
calculated by multiplying real cost terms of trade with an indexforof the relative utility of imports as
internal consumption with those
compared with the commodities that could have been produced Symbolically,
productive factors which are at present used in the production of export goods.
UTT = RCTT. U,, = NBTT. Z,. Ry. Um
where, UTT = Utility terms of trade
U,,= Index of relative utility of importsas compared with those productive factors which are
at presernt devoted to the production of export goods.

3. FACTORS INFLUENCING TERMS OF TRADE

Important among them are given below:
Terms of trade are influenced by a number of factors. of a country influence
1. Elasticity of Demand. The elasticity of demand for exports and imports
terms of trade. Ifthe demand for acountry's exports is less elastic as compared to her imports, the
Its exports can command higher price than imports.
terms of trade will tend to be favourable because the elastic than that for exports, the terms of trade
On the other hand, ifthe demand for imports is less
will be unfavourable.
nature of elasticity of supply also significantly influence the country's
Elasticity of Supply. The elastic than the imports, the terms of trade
is more
willrrade. If the supply of a country's exports
will tend tobe favourable.
Goods. If a country is producing and exporting only primary goods, and imorting
Nature of of tráde will be unfavourable.
aianufactured goods. the terms (a) The demand
The economic development has two types of effects:associated with
LConomic Development.demand for imports as a result of increase in income or
eronerers to the increase in refers to the increase in supply of import substitutestwo
: It
importdevelopment. (b) The supply effecteconomic these
effect of development depends upon the extent of
effects. tcompeting ggoods. The net
exchange of a country's currency also affect its terms
rExcharnge. Changes in the rate of improve because a rise in the value
ade1
of trade. If a country's currency appreciates, its terms of trade will
import prices.
ofthe export prices and decrease in the
currency causes an increase in the
 28-D MONEY BANKING AND INTERNATIONAL TRADE
6. Tariff Policy. Tariffs and quotas also influence the terms of trade. These measures, if not
retaliated by other countries, improve a country's terms of trade by restricting imports.
7. Size of Population. An overpopulated country will have larger demandfor imports. As aresult
the terms of trade will tend to be unfavourable in this case relative to the underpopulated or optimally
populated country.
8. Size of Country. Alarger country will tend to have less favourable terms of trade as compared
to a smaller country. This is because the smaller country can reap the gains of economies of scale
enjoyed by the larger one in the international trade.
power in case of its exports and there
9. Degree of Competition. If a country enjoys monopolywill
are many alternative sources of supply of its imports, then it have favourable termns of trade.