Part of UNIT 4 in the AS level course concerns the Terms of Trade. The terms of trade index measures the value of a unit of exports in terms of the number of imports it can buy, or the purchasing power of our exports. This is similar to comparing the number of sheep exports that will buy a typical imported family car, from one time to another. The formula is:
Formula: TOT = Export Price Index / Import Price Index X 1000 (base year)
An increase in the TOT (e.g. from 1050 to 1200) is called “favourable”
A decrease in the TOT (e.g. from 1050 to 970) is called “unfavourable”
A “favourable” (increase) in the TOT may come about because the average:
– export price rose and import price stayed the same
– export prices rose faster than import prices
– export prices stayed the same and import prices fell
– export prices fell but import prices fell faster
Last week New Zealand’s Terms of Trade figures indicated a decline of 0.7 per cent to 1288 in the three months ended 30th September. Basically what happened over this period was that the fall in export prices was greater than the fall in import prices – export prices fell 4% and import prices fell 3.4%. This was in contrast to the June quarter where the index rose 2.4 per cent to a 37-year high.
Below is a graph showing a history of New Zealand’s the Terms of Trade. The spike in 1971 was due to high export prices especially in meat and other agricultural commodities but didn’t last that long.