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Terms of Trade

The relative price of a country's exports in terms of imports and is defined as the ratio of export prices to import prices. It can be interpreted as the amount of goods a country can import per good that is exported i.e. how much the revenue received from each exported good can buy in terms of imports.

For instance if the average price of exports rise relative to import prices there has been an improvement in the terms of trade - a unit of export buys relatively more imports. Likewise if import prices fall relative to export prices. Therefore if a country's terms of trade improve it is either because the average price of their exports have increased or the average price of their imports have fallen as the diagram below shows.

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