2.2.5 Net trade (X-M)

Question 1

Exports

Answer 1

Goods or services that are produced in one country, then sold in another.

• They are an inflow of money to a country (injection to circular flow).

Question 2

Imports

Answer 2

Goods and services that are brought into a country after being produced elsewhere.

• They are an outflow of money from a country (withdrawal from circular flow).

Question 3

Net exports

Answer 3

• Exports minus inputs (X-M).

If the amount spent on imports exceeds the amount received from exports (as it does in the UK), net exports will be negative.

Question 4

What are factors affecting net exports?

Answer 4

• The exchange rate
• Changes in the state of the world economy
• Degree of protectionism
• Non-price factors

Question 5

How significant are changes in Net Trade to AD?

Answer 5

Net exports tend to make up a small percentage of aggregate demand, so changes in net exports have a minor impact on AD.

Question 6

How do non-price factors affect net trade?

Answer 6

These include things such as the quality of goods.

For example, advancements in technology in a country that lead to the production of higher quality goods would cause an increase in exports from that country, because people are willing to pay more for something if it’s really good. This would mean an improvement in net exports.

Question 7

How does the degree of protectionism affect net trade?

Answer 7

In the short run, tariffs and quotas can increase net exports by reducing imports.

However, industries that are protected from international competition have few incentives to become more efficient, so will often export less in the long run. Also, in the long run, other countries may retaliate by introducing their own tariffs and quotas.

Question 8

How do changes in the state of the world economy affect net trade?

Answer 8

• The higher a country’s real income, the more it tends to import. So net exports fall as real income rises.

-The state of the world economy also affects exports and imports. For example, the USA exports lots of goods to Canada. If Canada goes through a period of low (or negative) growth then exports from the USA to Canada will decrease. Assuming imports are unaffected, this means a worsening in the USA’s net exports. Similarly, if Canada experiences high growth rates, exports from the USA and likely to increase – improving net exports.

Question 9

How do exchange rates affect net trade?

Answer 9

• In the long run – if the value of a currency increases, imports become relatively cheaper and exports become relatively more expensive for foreigners. As a result, demand for imports (M) rises and demand for exports (X) falls. So a strong currency will worsen net exports (X-M) in the long run and reduce AD, but a weak currency will have the opposite effect and improve net exports.
• In the short run – demand for imports and exports tends to be quite price inelastic. For example, some goods don’t have close substitutes (e.g. oil). This means that initially when the value of a currency increases, net exports will actually improve (increase) because of the overall value of exports increases and the overall value of imports decreases.