4.2.6 - The International Economy Flashcards
Define Globalisation
Is the ever increasing integration and interconnectedness between the countries of the world
Explain the characteristics of globalisation (6)
Greater trade in goods and services between countries
Higher level of labour migration between countries
Increasing transfers of capital between countries through FDI
Free interchange of technology and intellectual property
More regional specialisation
More globally recognised brands
Explain the causes of globalisation (5)
Trade liberalisation - countries, like China, have adopted an open door policy and lowered protectionist barriers
Multinational corporations- MNC’s are able to gain monopoly power and the ability to set prices globally , due to economies of scale and technological knowledge, with countries wanting firms to locate in the country.
Improvements in communication - there has been a increase in the speed and availability of international communication, allowing businesses to offshore production and still maintain control.
Containerisation- the development of container ships has generated increases in efficiency for firms transporting goods globally
Closer political relations - countries have become more accepting to global trade
Explain the impact of globalisation on consumers (3) (positive and negative)
Consumer choice - the availability of goods and services has increased due to globalisation
Prices - as production switches from high to low cost locations, firms are able to charge lower prices to consumers
Incomes - globalisation has raised incomes in developing countries. (N) But has led to stagnant incomes in countries where production has been moved away from
Explain the impact of globalisation on employees (3) (positive and negative)
Employment- (N) large-scale structural unemployment has occurred in the manufacturing sector of developed countries. (P) has led to increased employment in developing and emerging countries
Migration - (P) globalisation has seen an increased flow of economic migrants in search of a better standard of living, they fill skill gaps and can also create jobs. (N) However it can be said that migration has taken away jobs from people in the host country and lowered wage rates as well as put a strain on education, housing and healthcare
Wages - (N) workers in developing countries have to be willing to match the low wages people in developing countries are willing to work for. (P) has led to increased incomes in developing countries
Explain the impact of globalisation on producers (3)
Specialisation - (P) globalisation has led to countries producing what they are best at, increasing dependency on each other. (N) does increase risk when trade links breakdown
Markets- (P) globalisation allows firms to source products from a wide range of countries and increased incomes in developing countries increase the potential number of customers available
Tax avoidance - (P) firms have the ability to transfer price as they operate in several different countries. (N) reduces government tax revenue
Explain the impact of globalisation on the environment
(N)Has led to increased prices of raw materials, environmental degradation and over extraction and water and air pollution
(P) MNCs have the ability to minimise environmental problems due to the financial resources and technological knowledge they possess
Explain the benefits of MNCs to economies (3)
Will generate employment opportunities
Provide wages to people in developing countries
Government receives tax revenue from profit generated
Explain the drawbacks of MNCs to an economy (5)
Will pay extremely low wages to employees
Will bring the workers from developed country for high skilled jobs
Property rights and regulations are less clear, leading to environmental problems
Transfer pricing is common, reducing tax revenue
Employees are often treated in an ethical manner
Explain the reasons for international trade (3)
Differences in factor endowments - countries have different factor endowments. Saudi Arabia has large reserves of oil whilst Japan has very little
Product differentiation - many traded goods are similar but not identical with different functions and specifications in different countries
Political reasons - countries sign trade deals with each other which lock their suppliers into doing business
Define Absolute Advantage
Give an example using Portugal and England
Exists when a country is able to produce a good more cheaply in absolute terms than another country. A theory by Adam smith
Portugal can produce both Wheat and Wine but is more efficient in the production of wine than England, so has an absolute advantage. England has a absolute advantage over Portugal in the production of wheat, leading to exchanged trade and specialisation
Define Comparative Advantage
Give an example using England and Portugal
Exists when a country is able to produce a good at a lower opportunity cost than another country. A theory by Daniel Ricardo
Wine is relatively cheaper to produce in Portugal than England and vica versa with wheat
Explain the theory of comparative advantage
States that countries will find it mutually advantageous to trade if comparative costs of production differ
State the assumptions of the theory of comparative advantage model (4)
Factors of production are immobile between countries
There are constant returns to scale
Transport costs are very low
There are no barriers to trade
Explain the benefits of trade (4)
Specialisation- comparative advantage shows that world output can be increased if countries specialise in what they are best at producing
Economies of scale - trade allows economies of scale to be maximised and costs reduced
Choice - trade allows consumers the choice of what to buy from around the world, consumer welfare is increased
Innovation - competition due to free trade provides an incentive to innovate . New goods and services are put into the market and new and more efficient processes are created
Explain the costs of trade (7)
Over dependence - countries can become over dependent on foreign trade, with smaller countries relying on the exports of one or two commodities
Unemployment- changes in demand have led to structural unemployment
Risk- trade exposes a country to risk, demand or prices for exports could suddenly fall.
Distribution of income - benefits of trade often go to higher income groups, widening income inequality
Environment - environmental degradation and unsustainable development
Loss of sovereignty- when a country signs a international treaty they lose some of their ability to make decisions
Loss of culture - trade brings foreign ideas and products to a country, potentially leading to a loss of traditional culture
Explain the changing patterns of UK trade with the rest of the world
The UK is an open economy, where foreign trade counts for 30% of the country’s GDP
There has been a shift away from trading with Commonwealth countries and more towards the EU and North America
The EU now accounts for the majority of UK imports and exports
There has been a gradual decline in the export of manufactured goods from the UK and a increase in the exports of services
There has been a faster growth in imports compared to exports, leading to a trade deficit
Define Relative Costs
Are the opportunity costs of producing an extra good in comparison to another country
State and explain which country has the comparative advantage when:
England can produce 4 units of Wheat and 8 units of Wine
Portugal can produce 15 units of Wheat and 10 units of Wine
To produce one unit of wine in England they could produce 2 units of wheat. England has the comparative advantage in producing wheat
To produce one unit of wine in Portugal they could only produce 0.66 units of wheat. Portugal has the comparative advantage in producing wine
Define Protectionism
Is the use of economic policies deliberately to regulate trade between countries, mainly to reduce imports
Define a tariff
Is a tax on imported goods. Done to reduce imports as a higher price is likely to be charged to consumers, reducing demand for imports and raising tax revenue for the government
Explain and draw the effect a tariff will have on a domestic market
World suppliers are able to charge a lower price, increasing demand for world goods and decreasing demand and supply of domestic goods.
Tariffs reduce the quantity demanded of a imported good. This increases producer surplus for domestic firms, as they are better able to compete, and decreases consumer surplus, as they are forced to pay higher prices.
There is a welfare loss to society and tax revenue is collected by the government.
Define a Quota
Is a physical limit on the quantity of a good imported, in order to increase the market share of domestic businesses. Increases the price of imports and therefore reduces demand.
Define Export subsidies
Are given by the government to exporters in order to increase supply and make exports more globally competitive
Define Subsidies to reduce imports
Are subsidies given to domestic firms who compete with importers, to allow them to produce at a similar price and be more competitive.
Define Administrative Barriers
Involves strategies to reduce imports or encourage exports. This can involve product standards, which requires importers to adapt their product to meet standards. This increases costs for importers, leading to higher prices and reduced demand
Define Exchange Rate manipulation
Involves a government lowering their exchange rate in order to make exports cheaper and imports more expensive
Explain the Protection of Jobs as a argument for protectionist policies
Globalisation often leads to jobs being lost to lower cost producers overseas. Prevents structural unemployment in the country
Explain the protection of infant industries as a argument for protectionist policies
Involves protecting small, newly established businesses which do not benefit from economies of scale the same way large overseas producers can . They are protected until a time they have grown and can compete.
Explain the prevention of dumping as a argument for protectionist policies
Done to prevent dumping, where a low cost overseas producer dumps large quantities of a product onto another countries market below market price.
Leads to the closure of domestic firms who cannot compete.
Explain the protection of sunset industries as a argument for protectionist policies
Involves protecting industries who are in long-term decline to allow them to decline naturally rather than in a sudden manner, minimising demand shocks to the domestic economy
Explain Strategic reasons as a argument for protectionist policies
A government may want to keep an industry running as it is seen as strategically important and one that should not be allowed to fail, agriculture
Define Trade Diversion
Refers to the decrease in economic welfare from joining a free trade area
Explain a trade diversion graph where:
The UK is currently importing without a tariff from Japan, at a cheaper price than Germanu. When it joins the EU a tariff is put on Japanese imports
The UK has no tariffs on any global imports.
The UK imports from Japan due to it being the cheapest importer
When the UK joins the EU trade union they adhere to the tariffs set by the EU.
This leads to tariffs causing a rise in the price of Japanese imports
The UK then imports from Germany as they are the cheapest importer
This reduces consumer surplus, as they have to pay a higher price from Germany than they were from Japan. Producer surplus increases as domestic producers can supply at a more similar price to German imports
There is economic welfare lost in society
Define Trade Creation
Refers to the increase in economic welfare from joining a free trade area
Explain a trade creation graph where:
The UK previously imported from the EU with a tariff charged. The UK the joins the EU
The UK import from the EU whilst charging tariffs.
There is a lack of consumer surplus and higher producer surplus
When the UK joins the EU they no longer charge tariffs.
There is a increase in consumer surplus, as they pay lower prices, an decreased consumer surplus, as they find it harder to compete with EU imports.
There is a net welfare gain to society as the price of imports decrease.
Tax revenue is lost from the UK government as there is no longer tariffs charged for EU imports.
Define the Balance of payments
Is a record of a country’s transactions with the rest of the world, it shows the receipts from trade and consists of the current and financial account.
Define the Current account
What does it consist of (4) (surplus or deficit)
Is a record of all payments for trade in goods and services plus income flow.
Balance of trade in goods - deficit
Balance of trade in services - surplus
Net primary income (interest,profit,dividends and remittances) - deficit
Net secondary income (military and overseas aid) - deficit
Define the Capital and Financial account
What does it consist of (3) (surplus)
Includes transactions that results in a change of ownership of financial assets and liabilities.
Net balance of foreign direct investment
Net balance of portfolio investment flows (inflows and outflows of debt and equity, bonds)
Balance of banking flows (hot money in and out of the banking system)
Explain how the balance of payments always balances using the UK as an example
A deficit on the current account represents imports being greater than exports.
This means higher levels of domestic demand and high consumption.
If consumption is high it means savings are low
Savings are used as a source for banks to lend money and purchase bonds and shares, this reduces the amount of money available for UK firms, governments and individuals
The UK government, firms and banks turn to overseas governments, banks and firms for investment.
This results in a inflow of money into the capital and financial account, resulting in a surplus and therefore a balance of payments.
State the factors causing a current account deficit (6)
Overvalued exchange rate Economic growth Decline in competitiveness Higher inflation Recession in other countries Financial flows
Explain how a overvalued exchange rate causes a current account deficit
If the currency is overvalued it will make imports cheaper, therefore raising demand, and exports uncompetitive
Explain how economic growth is a factor causing a current account deficit
An increase in national income means people tend to have more disposable income to consume, leading to increased imports as domestic producers are often unable to meet demand
Explain how a decline in competitiveness is a factor causing a current account deficit
A decline in the export manufacturing sector has reduced exports as they are not competitive
Explain how Higher inflation is a factor which causes a current account deficit
If inflation rises faster than other countries it will make UK exports less competitive and imports more competitive. However inflation may lead to a depreciation in the value of the currency, making imports more expensive and exports more competitive.
Explain how a Recession in other countries is a factor causing a current account deficit
If the UK’s trading partners experience a recession it will reduce demand for UK exports
Explain how Financial flows are a factor causing a increase in the current account deficit
If a country can attract financial flows (FDI and Short term portfolio investment) it enables them to run a current account deficit as they have a financial account surplus
Is a current account deficit bad
If a country has a current account deficit it usually has a financial account surplus
Whether a current account deficit is bad or not depends on what a country does with the surplus in the financial account.
If a country uses the inflows of overseas investment to increase the productive potential of the economy, RGDP will grow in proportion with debt. This reduces the debt from running a current account deficit.
If a country does not use the inflows effectively, the proportion of debt will continue to grow, leading to increased debt repayments for a country
Explain why a current account deficit can be harmful (3)
If the deficit is financed through borrowing it is unsustainable, as most countries will be burdened with high interest debt, reducing ability for capital spending.
Running a deficit on the current account therefore means a surplus on the financial account and therefore a significant amount of foreign ownership, reducing long term income and increased withdrawals from the economy
May eventually cause a loss of confidence by foreign investors, if they remove their investment it will lead to withdrawals from the economy and therefore a fall in the value of the currency, reduced consumption and investment and a recession.
Explain Protectionism policies as a policy to address a current account deficit
Why is it not a good method
Should the UK use this method
Involves tariffs, quotas and other protectionist barriers to reduce imports and therefore the current account position.
However is not favoured by economists. The country will become less globally competitive as domestic producers have no incentive to improve efficiency. Also other countries will retaliate by introducing their own protectionist policies, reducing exports.
Now more realistic as the UK is not part of the EU, but it is still a part of the WTO so is more difficult to implement.
Explain Devaluation of the currency as a policy to address a current account deficit
Why is it not a good method (J curve, Marshall lender condition)
Should the UK use this method
Involves the government buying foreign currency, in order to deliberately increase the supply of GBP and lead to a significant fall in the value of the exchange rate. Leads to exports becoming more competitive and imports more expensive, improving the current account position.
Can lead to increased AD, as X is greater than M, leading to demand pull inflation. Furthermore the J curve effect will see a further current account deficit before improvements. This is due to the Marshall Lerner effect where the devaluation of the currency does not improve the current account position in the short run. This is because there is a time lag and contracts still in place, leading to reduced exports. In the long run, when suppliers come out of their contracts and consumers become more aware of domestic substitutes it leads to the current account deficit being reduced.
In the UK currency devaluation is not realistic, due to the operation of a free floating exchange rate system, where the government cannot manipulate exchange rates as market forces determine the rate.
Explain Supply side policies as a policy to address a current account deficit
Why is it not a good method
Involves government spending to improve the supply side of the economy, making exports more competitive and improving the current account position.
However requires government spending and a likely fiscal deficit
