Decline in US Terms of Trade

Between 1982 and 1992, the TOT for developed market countries saw an increase of about 12% according to The Slow Decline of US Terms of Trade, which was due in large part to a decline in oil prices.  This was despite fears that decreases in the TOT of advanced countries would hurt the growth of third world countries.  However, this was not an issue as TOT continued to increase in the time period, and clear up until 1998 when they reached their peak.  In 1994, Paul Krugman "dismissed concerns that trade was lowering average US wages" since US TOT had been improving.  In 1994, when trade accounted for 10% of NDP, a 10% decline in TOT only amounted to a 1% decline in wages due to trade.  Therefore, Krugman did not have a large concern for potential decline.    Since 1998, TOT in the US have decreased about 10%, which they say is not a large decrease.  However, since US trade accounts for 1/4 of GDP, a 10% decrease this could lead to a much larger reduction in real wages than was estimated in 1994, about 2.5 times more of an impact.

While US trade has not accounted for a majority of GDP, the impact on wages should not be detrimental with slight changes in US TOT, as briefly discussed in the article.  Also, there was a plateau of wages prior to 2000 when TOT started to decline, which means that these decreases in wage can not be attributed, at least fully, to effects of international trade.  The article says that tariffs are one way of increasing a country's TOT.  This is true when looking at an example of a large country.  When a tariff is imposed, consumers lose, producers gain slightly, and government gains.  The net effect of this is a deadweight loss, but an increase in the country's TOT due to a decrease in price of imports.  It is good for domestic welfare not only because of the increase of TOT, but also because it reduces other countries' TOT.  However, this is only true with a relatively small tariff because the increase in TOT will outweigh the deadweight loss because it imposes a small tax on a large quantity.  If the tariff is too high, the deadweight loss will outweigh the increase in TOT which will make domestic welfare worse off instead of better off.