4.1 International economics Flashcards
What is globalisation?
The increased integration between countries economically, socially and culturally.
What is foreign direct investment (FDI)?
Occurs when a company in one country establishes operations, e.g. a factory, in another country or when it acquires physical assets or stake in an overseas company.
What are capital flows?
All the money moving between countries as a consequence of investment flows into and out of countries around the world.
State 4 characteristics of globalisation:
Increased trade as a proportion of GDP.
Increased FDI.
Increased capital flows between countries.
Increased migration.
State 4 causes of globalisation:
Decrease in transport costs - containerisation has resulted in economies of scale
Decrease in the cost of communications - the Internet has facilitated this.
Reduction in world trade barriers - engineered by the world trade organisation (WTO).
Increased importance of transnational corporations (TNCs) - they undertake FDI which results in offshoring (where manufacturing is moved abroad)
State the impact of globalisation on living standards:
Lower barriers to trade mean increased trading and therefore output which will improve living standards.
State the impact of globalisation on a country’s trade balance:
For a country with little comparative advantage, they may increase imports which will lead to a deterioration of the balance of trade.
State the impact of globalisation on inequality:
Some evidence suggests globalisation has increased inequality because the demand for unskilled labour has fallen. This leads to a greater earnings gap between the highest and lowest paid.
State the impact of globalisation on public finances of governments:
Tax revenue will increase, which could be spent on public services such as healthcare and education. However, some TNCs have engaged in a form a tax avoidance referred to as transfer pricing.
State the impact of globalisation on producers:
Firms will be producing on a larger scale so will likely benefit from economies of scale and higher profits. This can be reinvested in the company for innovation.
State the impact of globalisation on consumers:
They can expect lower prices (greater consumer surplus) and better choice.
State the impact of globalisation on workers:
There may be increased employment opportunities. However, TNCs may exploit workers by paying low wages for long working hours.
State the impact of globalisation on the environment:
There will be increased external costs with more noise and air pollution. FDI by countries in search of raw materials may also lead to a depletion of resources.
State the impact of globalisation on supply chains:
They have become longer and more complex.
What is absolute advantage?
Implies a country can produce more of one product than another country can with the same amount of resources.
Draw a diagram indicating two countries (A & B) having absolute advantage in the production two different goods:
What is comparative advantage?
Where a country can produce a good at a lower opportunity cost compared to another.
State some of the assumptions made when considering comparative advantage:
Constant returns to scale .
No transport costs.
No trade barriers.
Perfect mobility of factors of production.
REVISE: review comparative advantage diagrams and figures.
State 2 limitations of the law of comparative advantage:
Based on unrealistic assumptions, e.g. no transport costs.
If the opportunity costs where the same then there would be no benefit from specialisation and trade.
State 3 advantages of specialisation and trade:
Higher living standards and increased employment.
Lower prices with increased consumer choice.
Economies of scale set in.
State 3 disadvantages of specialisation and trade:
If a countries goods become uncompetitive then there balance of trade will deteriorate.
Danger of dumping (where a product is sold in a foreign country for less than it costs to make it) due to surpluses. This can lead to domestic countries’ firms going bankrupt.
TNCs could become global monopolies and exploit consumers.
State 4 factors influencing patterns of trade between countries
Changes in comparative advantage.
The growth of global supply chains.
Increased importance of emerging economies as trading partners.
The growth of trading blocs and bilateral agreements.
What does the terms of trade measure?
The price of a countries exports relative to the price of imports.
What is the formula for calculating the terms of trade?
(index of export prices / index of import prices) x100
State the 4 factors influencing a country’s terms of trade:
A counties rate of inflation relative to other countries.
A countries level of productivity relative to other countries.
Tariffs.
The country’s exchange rate.
State 2 effects of an increase in a country’s terms of trade:
Higher living standards - the country can import more for a given quantity of exports.
Deterioration of the current account - it would cause a decline in the competitiveness of its goods and services.
What is a trading bloc?
A group of countries that agree to reduce or eliminate trade barriers between themselves.
State 2 examples of real-world trade blocs:
The Common Market for Eastern and Southern Africa (COMESA).
The Comprehensive and Progressive Agreement for Trans-Pacific Partnership (CPTPP).
What are the 4 types of trading blocs?
Free trade areas - all trade barriers are removed between member countries.
Customs unions - free trade between member countries combined with a common tariff on goods from countries outside the customs union.
Common markets - these have the same characteristics as customs unions but include the free movement of factors of production (e.g. labour) between member countries.
Monetary unions - these are customs unions that adopt a common currency (e.g. the eurozone).
State 3 costs of regional trade agreements/trading blocs:
Trade diversion may occur where trade is diverted away from low-cost producers outside the trade bloc and instead on higher-cost producers in the bloc.
Regarding monetary unions, there are many transitional costs when changing currency.
Loss of independent monetary policy meaning countries no longer have control of their own interest rates.
State 3 benefits of regional trade agreements/trading blocs:
Trade creation occurs.
Increase in FDI as TNCs have unrestricted ability to sell to consumers within the bloc.
Increase in economics power as large groups of countries in a bloc will have the ability to negotiate trade agreements with other blocs.
What are the 2 roles of the WTO?
To promote free trade.
To settle trade disputes between it members (188 members).
Explain how regional trade agreements can conflict with the WTOs:
Regional trade agreements restrict trade with non-member countries which conflicts with the WTOs trade objectives.
What is protectionism?
Methods of restricting free trade.
State 3 reasons for restrictions on free trade:
To prevent dumping.
To reduce unemployment.
To limit the monopoly power of global companies.
Give an example of a particular reason for developing countries to limit free trade.
To prevent infant industries.
What are the 4 types of restrictions on free trade?
Tariffs.
Quotas.
Subsidies to domestic suppliers.
Non-tariff barriers.
What are tariffs?
Taxes on imports.
REVISE: tariff supply-demand diagram.
What are quotas?
Limits on the quantity of a product imported. As with tariffs, the price to domestic consumers will increase and domestic output will rise.
What are subsidies to domestic producers?
Government grants which reduce the costs of production.
REVISE: subsidies to domestic producers supply-demand diagram.
Provide examples of non-tariff barriers:
Health and safety regulations.
Environmental regulations.
Requiring importers to complete a vast number of forms.
State the impact of protectionist policies on consumers:
Tariffs and quotas result in higher prices and less choice for consumers, reducing consumer surplus.
State the impact of protectionist policies on producers:
Domestic companies have less competitions so may operate with a higher LRAC.
State the impact of protectionist policies on governments:
Government will receive tax revenue that could be used to reduce fiscal deficit or improve fiscal surplus.
State the impact of protectionist policies on living standards:
Protectionism distorts comparative advantage, meaning specialisation is reduced and lower output is produced.
State the impact of protectionist policies on equality:
May reduce equality as it can effect individuals on the lowest wages the most.
What is the balance of payments?
A record of international payments over the course of a year.
What is the current account?
Shows a country’s day-to-day transactions with other countries.
What are the two components of the balance of payments?
Current account.
Capital and financial account.
What are the four key elements that make up the currents account?
The trade in goods balance
The trade in services balance
Investment income - income earned from assets owned overseas minus income paid to foreigners.
Current transfers - payments received from foreign institutions minus payments such as aid.
What is the capital and financial account?
Shows long-term investments and short-term capital flows.
What are the four key elements that make up the capital and financial account?
FDI - investment by foreign companies in the UK minus investment investment by UK companies abroad.
Portfolio investment in shares and bonds - purchase of UK shares and bonds by foreigners minus purchase of foreign shares and bonds by UK citizens.
Short-term capital flows (hot money) - hot money flows into the UK minus flows out of the UK.
Changes in foreign currency reserves.
State three causes of deficits on the current account:
Relatively low productivity.
An increase in the strength of a country’s currency compared to others.
Continuous economic growth, resulting in an increase in imports.
State three causes of surpluses on the current account:
Relatively high productivity.
A decrease in the strength of a country’s currency compared to others.
Low levels of economic growth, resulting in a decrease in imports.
State four measures used to reduce a current account deficit:
Deflationary fiscal and monetary policy - reduces AD and therefore leads to a reduction in imports.
Implementing tariffs and quotas.
Depreciating a country’s currency.
Supply-side subsidies.
State three measures used to reduce a current account surplus:
Expansionary fiscal and monetary policy - increases AD and therefore leads to an increase in imports.
Removing tariffs and quotas.
Strengthening a country’s currency.
What are global trade imbalances?
They occur when some countries have large current account deficits while other countries have large current account surpluses.
Why may a persistent current account deficit be undesirable?
It could indicate a countries goods and services are uncompetitive - this may result in in a increase in unemployment - ultimately this could result in borrowing from the International Monetary Fund (IMF)
However, this may not be an issue if it caused by the imports of capital goods.
Why may a persistent current account surplus be undesirable?
It could result in inflation since AD will be increasing - this could lead to a fall in living standards -
What is an exchange rate?
The rate at which one countries currency exchanges for another.
What are the three types of exchange rate systems?
Floating - system where exchange rates are determined by market forces, i.e. supply and demand.
Fixed - where a countries currency is fixed against that of another country.
Managed - essentially a floating exchange rate but one that is subject to intervention by the central bank in the foreign exchange market to influence the exchange rate of the country’s currency.
What is revaluation?
When a country decides to increase the exchange rate of its currency under a system fixed of fixed exchange rates.
What is appreciation?
Refers to an increase in the exchange rate of country’s currency under a system of floating exchange rates.
What is devaluation?
When a country decides to decrease the exchange rate of its currency under a system fixed of fixed exchange rates.
What is depreciation?
Refers to an decrease in the exchange rate of country’s currency under a system of floating exchange rates.
State four factors influencing floating exchange rates:
Relative inflation rates - if a country has a high rate of inflation than its competitors, its purchasing power will fall and in the long-term its value will fall.
Relative interest rates - if a country has much higher interest rates than others, this will attract money into banks from abroad, increasing demand for the currency and increasing its value.
Current account balance - if a country’s current account deficit increases, the supply of its currency is increasing relative to its demand, resulting in depreciation.
FDI - a country that receives FDI will experience a rise in demand for its currency and therefore causing it to appreciate.
What are the three ways governments can intervene in currency markets?
Foreign currency transactions - to reduce the exchange rate of a currency, the central bank could sell its currency on the foreign exchange market to increase its supply and therefore reduce its value.
Interest rates - to reduce the exchange rate of a nations currency, the base interest rate can be reduced making it less attractive to leave in that country’s bank. This increases its supply and results in a fall in its value.
Quantitative easing - although not directly used to influence exchange rates, increasing the supply of money in a country is likely result in the weakening of a currency.
What is a currency war?
When nations seek to deliberately depreciate the value of their domestic currencies in order to stimulate their economy.
What is the impact of devaluation/depreciation on the current account?
There will be a decrease in the foreign currency price of a country’s exports and an increase in the domestic price of imports - this improves the competitiveness of country’s goods and services and improves the current account.
This is only true if the Marshall-Lerner condition holds.
What is the Marshall-Lerner condition?
States that a depreciation or devaluation of a currency will only lead to an improvement in the trade balance if the sum of the price elasticities of the demand for imports and exports is less than -1.
What is the J-curve effect?
When a country’s current account (trade balance) initially worsens following a depreciation or devaluation of its currency and only improves in the long run.
Draw the ‘J-curve effect’ on a diagram:
Explain the reasoning behind the J-curve effect.
In the SR - demand for imports may be inelastic because, for example firms are tied to contracts. Demand for exports may be inelastic because it may take time for consumer to adjust to new, lower prices.
In the LR - due to this, it will only be in the long run when these factors are no longer relevant that there will be an improvement in the current account.
(Over the LR the Marshall Lerner condition is more
likely to hold).
What is the impact of devaluation/depreciation on economic growth and employment?
AD should increase due to an increase in net trade - this increases real output - which then increases employment level.
What is the impact of devaluation/depreciation on the rate of inflation?
The increase price of imported commodities and raw materials would increase the costs of production - leading to cost-push inflation
The rise in AD would also increase the rate of inflation.
What is the impact of devaluation/depreciation on FDI flows?
If a domestic currency weakness, it would make it cheaper for foreign companies to invest in the domestic country as their currency is now worth relatively more.
What is International competitiveness?
Measures the cost of a country’s goods and services exports relative to those of other countries.
State the two types of competitiveness:
Price competitiveness.
Non-price competitiveness.
State the three main measures of international competitiveness:
Relative unit labour costs - measures the average cost of labour per unit of output. It is calculated as a ration between total labour costs and real output.
Relative export prices - a country’s export prices relative to those of its main competitors.
The Global Competitive Index (GCI) - a composite index based on a range on indicators including macroeconomic stability and labour efficiency.
State three factors influencing international competitiveness:
Productivity - the more output per unit of labour means a country will be more competitive.
The real exchange rate = (nominal exchange rate x domestic price level) / foreign price level.
Government laws and regulations - these include environmental and health and safety, as well as, minimum wage intervention.
State two benefits of being internationally competitive:
Economic growth (particularly with the presence of a multiplier) will occur through rising AD due to higher net exports. This will also decrease unemployment.
State of the current account will improve.
State two problems with being internationally uncompetitive:
Lack of economic growth could lead to unemployment due to lack of demand for jobs.
State of the current account will worsen.
