4.1 International Economics Flashcards
Define globalisation
Globalisation refers to the growing integration of countries and the rapid
rate of change it brings about
What is FDI
When a country establishes operation in another country (i.e. a factory in another country)
Impact of globalisation
+Increased trade = increased choice for consumers
+Increased capital and labour mobility
+greater competition = lower prices
+EoS = more efficient
- tax avoidance becomes easier
- structural unemployment
Characteristics of globalisation
- increasing foreign ownership of countries
- free trade in goods/services
- Increasing movement of labour & technology
across borders - easy cash/capital flow across countries
Factors contributing to globalisation
Growth in number of TNCs
Increased effectiveness of
the WTO in negotiating new trade
agreements & in helping
countries to open up to free
trade (trade liberalisation)
Globalisation and economic growth
Define trade liberalisation
the removal or reduction of restrictions or barriers on the free exchange of goods between nations. These barriers include tariffs, such as duties and surcharges, and non tariff barriers, such as licensing rules and quotas.
Define absolute advantage
Implies that a country can produce more of one product with the same amount of resources
Define comparative advantage
implies that a country can produce a good with a lower opportunity cost than that of another country
Comparative advantage diagrammatic and graphical
Like a flat gradient PPF, one good on one side, the other good on the other
Laws of comparative advantage
- no transport costs
- no trade barriers
- externalities are ignored
- perfect mobility of FOP between diff uses
- constant returns to scale (therefore ppfs are drawn straight)
Limitation of Comparative Advantage
- over-dependence: this then generates vulnerability (i.e. depending on Russia for gas and then when not on good terms shortages can happen)
- based on unrealistic assumptions
- -
Advantages of specialisation and trade
- Lower prices
- Greater variety of goods/services
- More competition leads to better quality products
4.Economies of scale create efficiency - Higher economic growth
- Improved living standards
Disadvantages of specialisation and trade
- global monopolies emerge and dominate
- Start-up firms in developing countries (infant industries) find it harder
to compete due to global competition - over-specialisation: makes the country’s GDP dependent on the sales of that good
What are patterns of trade
reflects the nature of trade between countries by considering imports and exports
factors affecting the pattern of trade between countries and changes in trade flows between countries
- comparative adv: a natural market outcome as firms are profit maximisers. firms will outsource production and increase production where it makes sense.
- impact of emerging economies: they have obtained a much higher share of the global businesses which means that other countries are losing out over time
- Growth of trading blocs and agreements: results in trade creation and causes trade diversion
- Changes in exchange rate: if the currency appreciate, exports become more expensive and imports become cheaper. meaning that changes in exchange rates influence the patterns of trade as goods and services either become cheaper/expensive in relation to the prices in other countries
Define terms of trade
Terms of trade refers to the ratio of a country’s average price of exports to the country’s average price of imports
Terms of trade calculation
index of export prices/ index of import prices x 100
Factors influencing a country’s terms of trade
- relative inflation rate: inflation increases the prices of g/s in a country. This means that their price is more expensive compared to the rest of the world. IF exports are price inelastic in demand this will improve the terms of trade, inelastic then it is likely to
worsen the terms of trade - relative productivity rate: continuous improvements in productivity can lower costs &
these can be passed on in the form of lower prices. Lower prices for export products will
mean that the terms of trade will deteriorates fewer imports can be bought with one
unit of exports - changes in exchange rates: Changes in exchange rates: exchange rates constantly change the price of exports &
imports. If prices change then the terms of trade between the 2 countries change.
Specific data would need to be provided in order to determine if the terms of trade have
improved or deteriorated for each trading partner
Impact of changes in a coutnry’s terms of trade
- changes to the current account balance in BoP
- changes to unemployment levels
- changes to international competition
- changes to national output (GDP)
- changes to standards of liivng
- changes to disposable income
improvements/deterioration of ToT
PED and improved terms of trade
price of exports rises (more money out), if PED is inelastic, the economy will benefit as QD falls less than prop.
output increases, unemployment falls, standard of living improves
prices of imports fall (less money in). if PED is elastic (necesities) then the increase in QD will be more than prop, so the economy grows. Same impacts as above
PED and deteriorated Terms of trade
price of exports falls - if ped of exports is elastic, then the increase in QD will be more than proportionate.
price of imports rises - where demand fpr imports is inelastic, consumers would demand the goods in a similar proportion, spend significantly more on imports
Define trade bloc
a group of countries who come together & agree to reduce or eliminate any barriers to trade that exist between them
Free trade areas
An area in which countries agree to abolish trade restrictions between themselves
ASEAN free trade area
Commonwealth FTA
United States-Mexico-Canada Agreement (USMCA), formerly known as NAFTA
Customs unions
the removal of tariff barriers between members and the acceptance of a common external tariff against non-members. This
means that members may negotiate as a single bloc with third parties such as other
trading blocs or countries.
EU have eliminated all tariff barriers from within but they impose tariffs on common 3rd party countries like the UK and China
Common markets
goods/services are traded tariff free in common markets and the FOP flow freely between member countries
The aim is to improve the allocation of resources between the common market members and lower their COP
The EU is a customs union and a common market
Monetary unions
Members are part of customs union and a common market they establish a common central bank which issues a common currency and controls the monetary policy of member countries
Monetary unions: conditions necessary for their success
- mobility of labour: labour should be able to move without any major barriers (i.e language barrier) [Eurozone mainly speaks English, french and German]
- mobility of finance: there should be complete MOF with prices and wages free to adjust based on market conditions. [strength of the eurozone, as labour markerts fluctuate based on market conditions]
- similar trade cycles: the trade cycles of member countries should should be similar to avoid tensions with the union [2008 FC difference in south and north European countries]
- Fiscal transfers: there should be automatic fiscal transfers to countries that are performing poorly. ???????
Benefits of regional trade agreements
+ trade creation imporves efficiency and generates higher income
+ tariffs between member states are eliminated and the common tariffs simplify their trading conditions (protecting them from cheap imports - New Zealand and Wales’ meat)
+Monetary union provides transparency, less uncertainty regarding exchange rates, some countries gain from the improved monetary prices.
Costs of regional trade agreements
- trade diversion can worsen efficiency
- domestic industries may experience structural unemployment
- increased negative externalities of prod, environmental damage and recourse depletion
- loss of sovereignity
- member countries of a monetary union can lose the ability to set interest rates and control the supply of money (monetary policy)
Role of the WTO in trade liberalisation
The WTO promotes free trade.
The WTO has 2 main roles in trade liberalisation (process of removing trade barriers)
1) brings countries together at conferences and encourages them to reduce/eliminate protectionist trade barriers
2) acts as an adjudicating body in trade disputes. Member countries can file complaints and the WTO will run hearings and make a judgement
Possible conflicts between regional trade agreements and the WTO
Even though trade agreements strengthen ties and encourage trade, it can create more conflicts with liberalising trade
There can be global inefficiency in the allocation of resources
Reasons for the restrictions on trade:
Job protection: governments may be concerned that allowing imports will mean domestic producers will suffer because of the international firms
Infant industry argument: an industry that is just being established in a country. They need to be able to build a reputation and customer base - govt will need to protect until they can act on an international level
Protection from potential dumping: when a country with surplus sells to the rest of the world for very cheap prices, domestic producers are unable to compete with these prices
Terms of trade
Danger over speculation
Define free trade
International trade without trade barriers
Define trade barrier
A trade barrier is a restriction placed by the government on the import of a foreign good.
Define Tariff
A tax paid on imports, increasing the price, creating a barrier to free trade
4 types of restrictions on free trade
Tariffs
Quotas
Subsidies
Non-Tariff Barriers
Draw the tariff diagram
Domestic Supply and Domestic Demand showing equilibrium
Then draw World supply (perfectly elastic, below the Eq)
Shows 3 quantities
There will be a shortage/excess demand, they will then import the missing units
Then draw WS + tariff (above the WS)
Shows 5 quantities
Fully explain the effect of tariffs
A tariff is a tax and so it will increase the price of the imported good and shift the world supply curve up. This will lead to an extension in domestic supply as domestic producers are willing to sell more at a higher price - remember they don’t have to pay the tariff. There will be a contraction in domestic D as consumers don’t want to pay a higher price.
If domestic consumers are demanding less and domestic producers are supplying more, there will be a reduction in imports
Define quotas
A physical limit on imports.
Explain a quota
The limit is often set below the free market level of imports, as cheaper imports are limited, a quota will raise the market price.
As cheaper imports are limited, and a quota may create shortages
Subsidies to domestic producers
lower COP, increase output, lower prices
with lower prices, their goods are more competitive internationally, exports will increase ad the increased output may result in increased domestic employment
Why are non-tariff barriers used
They create barriers in a more subtle manner, making it harder for other countries to comply to, therefore there is less imports
4 Non-tariff barriers methods
- health and saftery regulations
- product specifications
- environmental regulations
- product labelling
Impacts of protectionist policies on consumers
t: cs falls
q: higher p lower choice
s: lower p, more q
n-t: reduces choice
Impacts of protectionist policies on domestic producers
t: ps increases
q: output increases, revenue increase,
S: lower cop, higher output, higher comp
n-t; limits foreign comp, can increase p and rev
Impacts of protectionist policies on govts
t: receive revenue
q: might receive higher revenue from higher corp tax
s: costs the govt the amount of the subsidy and there is an opportunity cost
n-t: lose some WTO credibility, enforcing them may be costly
Impacts of protectionist policies on living standards
t:
q: reduces for customers because higher prices erode PPP
s: lower P = more disposable income
n-t: less choice + higher p erodes SoL but product labeling may improve decision making
Impacts of protectionist policies on equality
t:
q: improves for dom
s: compete more
n-t: might help
Define Balance of Payments
The BoP for a country is a record of all the financial transactions that occur between itself and the rest of the world
The money coming in is credit (+), money leaving the country is debit (-)
2 components of the of the BoP
current account: all transactions related to goods/services along with payments related to the transfer of income
financial and capital account: all transactions related to savings, investment and currency stabilisation
CA = CFA
BoP: the current account
records the net income that an economy gains from international transactions
goods are visible exports/imports
services are invisible exports/imports
net income is income transfers by citizens and corporations (credits: received from UK citizens who are abroad
and send remittances home
Debits: are sent by foreigners working in the UK back to their countries)
Current transfers are govt level payments between countries
BoP: Capital Account
The capital account records the small capital flows between countries and is relatively inconsequential
examples: debt forgiveness and capital transfers by migrants as they emigrate/immigrate
BoP: Financial Account
records the flow of all transactions associated with the changes of ownership of the UK’s foreign financial assets and liabilities
Financial Account’s 4 subsections
1) FDI: flows of money to purchase a controlling interest in a foreign firm
2) Portfolio investment: flows of money to purchase foreign company shares
3) Financial derivatives: are sophisticated financial instruments which investors use to speculate and return a profit
4) Reserve assets: assets controlled by the central bank available for use in achieving the goals of monetary policy. Gold, IMF, Forex
Causes of current account deficits (+surpluses)
(surplus in capital and financial account - the excess spending on imports [CA] has to be financed from money flowing in and the sale of assets [CFA])
- low productivity: raises costs, decreased comp, higher domestic prices will cause consumers to import = falling exports and rising imports causes a deficit
- high value of the country’s currency: exports are more expensive, foreign buyers will look for cheaper subs. exports fall, CA balance worsens, currency appreciation males imports cheaper = falling exports and rising imports causes a deficit
-high inflation: exports are more expensive, foreign buyers will look for cheaper subs. exports fall, CA balance worsens, currency appreciation males imports cheaper = falling exports and rising imports causes a deficit.
Also, goods/services are cheaper in other countries, domestic consumer’s demand for imports will rise, worsening the balance
State 4 measures to reduce the imbalances on the current account
1)do not intervene, allow the market forces in the foreign exchange market to self-correct the deficit
2) expenditure switching policies
3) expenditure reducing policies
4) supply side policies
Pros of the methods of reducing the imbalance on the CA
no intervention: higher imports will depreciate the currency and imports will decrease (as they are now more expensive), exports will increase (they are cheaper)
expenditure switching: changes demand to domestically produced g/s
expenditure reducing: deflationary fiscal policy invariably reduces discretionary income, demand falls, deficit improves
supply side: quality of products improves and COP falls. Increases exports
Cons of the methods of reducing the imbalance on the CA
no intervention: external factors can stop the currency from depreciating, self-correction can take a long time, domestic businesses can go out of business
expenditure switching: trading partners may retaliate and reverse tariffs imposed, decreasing exports
expenditure reducing: deflationary fiscal policy can dampen domestic demand and output can fall, GDP slows, unemployment may rise
supply side: long-term policies, benefits may not be seen straight away. Can be subsidies and carry and OC.
Significance of global trade imbalance
persistent surplus: focus of the allocation of resources is all on meeting foreign demand instead of domestic demand. This can limit the availability of g/s in the local economy which can decrease the standard of living. Can create instability for the forex market (if there is a floating ER.)
persistent deficit: finance from abroad (loans/FDI) is required to fund imports. A country may have to sell their assets and owing money creates vulnerability.
What are the 3 exchange rate systems
- floating exchange rate
- fixed exchange rate
- managed exchange rate
Define exchange rate
the value of one currency expressed in terms of another currency
Explain the floating exchange system
Set by the market forces of S + D. If there is excess demand, prices increase, currency appreciates
If there is excess supply, prices fall, currency depreciates
Explain the fixed exchange rate
The central bank negotiates with the IMF to fix their currency to another one.
Revaluation: increases strength of currency
Devaluation: decreases strength of currency
Explain the managed exchange rate
A combination of fixed and floating, the central bank will determine a preferred currency value and the currency is free to fluctuate within a certain threshold.
If it goes above this, they CB will sell their own currency to increase supply, this decreases the value and then brings the currency back down
If it goes below this, they will intervene by buying their own currency using foreign reserves, demand increases, raising the value
Increasing interest rates are more attractive to foreigners and they demand the local currency, decreasing interest rates will make them sell it and move their money elsewhere
Factors that influence the appreciation/depreciation of the floating exchange rate
1) relative interest rates: influence the hot money flow between countries. If the UK increases IR, demand for £ increases from foreign investors, the £ appreciates
2) current account: UK exports have to be paid for in £. UK imports have to be paid for in local currency. Trade surplus = appreciation
3) net investment: FDI in the UK creates demand for the £, leading the £ to appreciate. FDI by UK firms abroad creates a supply of £, depreicates.
4) relative inflation rates: as inflation rises in the UK, its exports become more expensive so there is less demand, depreciates
5) speculation
6) quantitative easing: depreciates
Govt intervention in currency markets through forex and interest rates
Changing interest rates - if the central bank wants to appreciate the country’s currency. It would raise interest rates, making it more attractive for foreigners to move money into the country’s banks.
Buying/selling currency in forex market:They can change the S+D for a currency using their reserves. To appreciate the currency they would buy it on the forex, if they want to depreciate the value, they would sell their own currency and buy foreign
Consequences of competitive devaluation/depreciation and its consequences
When a currency is intentionally devalued/depreciated, exports are cheaper, higher export volumes and revenues.
Issues of intentional devaluation/depreciation:
SPICED
- anti-competitive
- larger coutnries have more financial resources to manipulate market and have an unfair advantage
- other countries may respond by also lowering thier currencies
-depreciation/devaluation raises the costs of imports (profits decreased)
Impacts of changes in exchange rates
current account balance: SPICED, the extent to which it improves the CAB (depends on the marshall-lerner condition), there is also a time lag (j-curve)
unemployment: IF depreciation = ^ exports = unemployment falls because more productivity required.
FDI: Depreciation makes it cheaper for foreign firms to invest in a country and increase FDI, the money they invest is worth more
inflation: cost push inflation can occur because the price of raw materials increases with depreciation. Net exports are part of AD, a depreciation results in demand pull inflation
economic growth: net exports are a component of AD. Depreciation = ^ net exports = ^ AD
Marshall-Lerner condition and exchange rates
J curve and exchange rates
Define international competitiveness
How well a coutnry’s products compete in international markets
2 measures of international competitiveness
Relative unit labour costs: total wages in the economy/ output, the labour costs for each unit produced, this can be compared to other countries, the lower the costs = more competitive
Relative export prices: rising export prices = less competitive
Factors influencing international competitiveness
*relative is important in this topic as it is relative to competitors
1) relative unit labour costs: ^ productivity lowers their costs and ^ comp. Decreased productivity worsens comp
2) relative wages: ^ labour costs make exports more expensive as costs ^ = worse comp. ^ in non-wage costs like NI/pensions raise COP = less comp
3) relative inflation: inflation will raise the prices of g/s. foreign buyers will pay more and this decreases comp (decreased inflation has the opposite effect)
4) relative level of regulation: govt regualtion will increase COP as the firms will need to meet requirements. Increased COP will raise prices of exports and comp worsens (deregulation has opposite effect)
Benefits of international competitiveness
1) export led growth: increased exports generates increased economic activity resulting in economic growth
2) unemployment falls: economic growth = more employment, income and wage growth
3) current account surplus: exports>imports and government is not concerned about making policies to reduce deficit
4) increased overseas FDI: improves finance for firms to invest in overseas assets meaning they can increase profit
5) standards of living improve: income will rise with economic growth, households gain purchasing power and gain access to more g/s
Drawbacks of being internationally uncompetitive
reverse of the positives
2. govt policies: current account deficit and lack of IC will make governments focus their resources on gaining ground, this will create opportunity costs
