Economics Theme 4 Flashcards
Globalisation definition.
The ability to produce any goods (or service) anywhere in the world, using raw materials, components, capital and technology from anywhere, sell the resulting output anywhere, and place the profits anywhere.
Globalisation refers to the increasing international interdependence of economic
agents.
What are 4 characteristics of globalisation?
Increased foreign ownership of companies
Increased trade in goods and services
De-industrialisation in developed countries
Increasing global media presence
What are 6 factors have contributed to globalisation over the last 50 years?
Improvements in transport infrastructure and operations (quick, cheap and reliable to produce in different countries)
Improvements in communications technology and informations technology (internet, companies can operate around the world)
Trade liberalisation resulting from agreements reached by the WTO (cheaper and more feasible to trade)
Increasing number and influence of global companies (power to lobby governments, profit motive incentivises to operate in other countries)
End of the Cold War (opening up of formerly closed economies in communist countries and a subsequent increase in global labour supply)
Development of international financial markets (provided the ability to raise money and move money around the world, necessary for international trade)
What are 2 impacts of globalisation on consumers?
Consumers have more choices since there is a wider range of goods available from
all around the world, not just those produced in the UK
It can lead to lower prices as firms take advantage of comparative advantage specialisation, and produce in countries with lower costs, e.g. low labour costs
What are 7 impacts of globalisation on workers?
Developed countries have experienced structural unemployment as a result of deindustrialisation
Developing/emerging countries have experienced increased employment as a result of industrialisation and FDI
Developed countries have experienced high low-skill immigration (higher wages for low-skill, lower wages for high-skill)
Developing countries have experienced high emigration (labour shortages, brain drain)
Higher demand for jobs that can be done online (higher wages)
Increased demand for workers in other countries (High-skill workers move country)
Increased exploitation of workers in developing and emerging countries (low wages, poor working conditions)
What are 4 impacts of globalisation on producers?
More supply networks (reduces risk, increases economies of scale)
More distribution networks (reduces risk, increases economies of scale)
Increased profits by operating in countries with low labour costs and low taxes
Can exploit comparative advantage and have larger markets
What are 6 impacts of globalisation on individual countries and governments?
TNCs have the power to bribe and lobby governments, which could lead to
corruption and political instability
May receive lower tax revenue (TNCs are better at tax avoidance, TNCs won’t operate in a country if taxes are too high)
Developed countries become less energy-secure as they import lots of their energy
Countries become more interdependent and vulnerable
TNCs bring FDI to developing and emerging countries, helping them to develop
Comparative advantage can change over time, leading to TNCs leaving the countries and structural unemployment. Footloose companies also create structural unemployment when they move from country to country.
What are 2 impacts of globalisation on the environment?
Rising greenhouse gas emissions from increased transportation and production
However, countries can work together to tackle climate change by sharing ideas and technology
Explain the theory of comparative advantage.
The theory states that countries find specialisation mutually advantageous if the opportunity costs of production are different.
Absolute advantage definition.
When a country’s output of a product per unit of input is greater than that of another country.
Comparative advantage definition.
When a country can produce a good or service at a lower opportunity cost than another country.
What are 5 assumptions of the theory of comparative advantage?
Transport costs are zero
There is perfect knowledge
Goods are homogenous
Factors of production are perfectly mobile (can easily be switched from producing one good to producing another)
There are no trade barriers between countries
What is a limitation of the theory of comparative advantage?
It ignores the external costs of production, such as environmental degredation.
What are 5 advantages of specialisation and trade in an international context?
Lower prices for consumers (lower costs)
More choice for consumers<
Larger markets and economies of scale for firms
Higher global economic growth and living standards
More competition, so more investment and innovation
What are 8 disadvantages of specialisation and trade in an international context?
The deficit on the trade in goods and services balance could arise if a country’s goods and services are uncompetitive
Increased unemployment due to dumping by foreign firms (selling at below-average cost resulting in firms shutting down)
Increased economic integration might result in over-dependence and increased exposure to external shocks
The sectoral imbalance will restrict the overall rate of economic growth (international specialisation based on free trade means that only those industries in which the country has a comparative advantage will be developed while others remain undeveloped)
Global monopolies as TNCs become larger
Infant industries in developing countries may be unable to compete and go out of business
The monopsony power of global companies may mean that low prices are paid for commodities from developing countries
The environment suffers (global warming at a faster rate, deforestation)
What 4 factors influence the pattern of trade between countries and changes in trade flows between countries?
Comparative advantage
Emerging economies
Growth of trading blocs & bilateral trading agreements
Changes in relative exchange rates
How has comparative advantage influenced the pattern of trade?
Countries trade where there is a comparative advantage, so a change in comparative advantage will affect the trade pattern.
There has been a recent growth in the exports of manufactured goods from developing countries to developed countries because developing countries have gained a comparative advantage in the production of manufactured goods due to their lower labour costs.
The deindustrialisation of developed countries has meant the manufacturing sector has declined whilst the services sector, such as finance, has increased as they have a comparative advantage here.
This has led to the industrialisation of China and India, and their share of world trade has significantly risen whilst the G7’s share of world trade has significantly fallen.
How has the growth of emerging economies influenced the pattern of trade?
When economies grow, they need to import more goods and services to meet the higher demand, as well as exporting more.
Emerging economies shift the trade pattern by taking up a larger proportion of global imports and exports and becoming significant trading partners of lots of countries
They also gain a comparative advantage, which results in other country’s exports declining.
How has the growth of trading blocs and bilateral trading agreements influenced the pattern of trade?
Trading blocs encourage free trade between member countries, which significantly increases the level of trade between these countries.
However, they often discourage trade with countries outside the bloc or reduce the amount of trade with outside countries as they instead trade with member countries
UK joining the EU resulted in trade creation (increased trade with EU member countries), but also trade diversion (less trade with traditional trading partners, such as Commonwealth countries).
How have changes in relative exchange rates influenced the pattern of trade?
The exchange rate affects the relative prices of goods between countries, and prices are an important factor in determining whether consumers will buy products.
If the exchange rate appreciates, imports will become more expensive as they have to spend more of their currency to buy the same amount of foreign currency. This will result in the importing country looking for new cheaper trading partners.
If the exchange rate depreciates, imports will become cheaper. This will result in more countries looking to become trading partners.
What does Terms of trade show?
Terms of trade is a measure of the price of a country’s exports relative to its imports.
It tells us the quantity of exports that need to be sold in order to purchase a given level of imports.
It is favourable if the terms of trade increase, as the country can buy more imports with the same level of exports. (improvement)
It is unfavourable if they decrease, when export prices fall or import prices rise. (deterioration)
What 5 factors influence a country’s terms of trade in the short run and long run?
Short Run:
Exchange rates
Inflation
Changes in demand and supply of imports and exports
Long Run:
Productivity (deterioration if improves because export prices fall relative to import prices)
Incomes (domestic and global, impacts demand)
What 5 things can changes in a country’s terms of trade have an impact on?
Living standards
Competitiveness
Balance of Payments
Output
Unemployment
E.g. Improvement in terms of trade > Fewer exports required for the same amount of imports > Higher living standards. However, less competitive exports, so deterioration in the current account, lower output and higher unemployment.
What is the calculation of terms of trade?
Terms of Trade = Index of Export Prices / Index of Import Prices x 100
What are 7 reasons for restrictions on free trade?
- Protecting local industries (Infant/Sunset)
- Preventing ‘dumping’
- Protecting jobs
- Less dependency
- Correct current account deficit
- Avoid competiton
- Retaliation
What are the 4 types of trade barriers?
- Tariffs
- Quotas
- Subsidies
- Non-tariff barriers
How do tariffs work and how do they impact consumers/firms/govt?
Tariffs raise the price of imports. This makes them appear more expensive to consumers, which may lower demand for imports. If this happens, imports will decline.
Tariffs also provide additional revenue for the government.
Higher prices for consumers
Producer surplus increases for domestic producer
Welfare loss
How do quotas work and what is their impact?
This is a direct measure to restrict imports, as it does not allow more than a given amount of imports into a country.
But this does not raise any tax revenue for the government.
Also, since it is an external intervention – and the price mechanism is not allowed to function naturally – imposing quotas does lead to shortages.
Incentivises domestic suppliers to increase supply/enter market
How do subsidies work and what is their impact?
Provide an example
Subsidies are grants given to local producers from the taxpayers’ money.
These are given out so that the cost of production can be reduced, which would lower prices for consumers.
This would increase a country’s international competitiveness – thereby, making its exports cheap.
China subsidies EV industry – global leader in EVs
What are non-tariff barriers and give some examples
Other measures that restrict trade
Import licensing
Trade embargo
Health and safety regulation
Legal and technical standards
What is the impact of barriers on consumers?
There are HIGHER PRICES for consumers as they are unable to buy imports at the
cheaper price. It tends to raise the price of domestic producers since goods and
services needed for the production of these goods may also suffer from import
controls and it limits the competition for domestic producers so they have less
incentive to be efficient.
Moreover, they suffer from LESS CHOICE.
What is the impact of barriers on producers?
Domestic producers tend to benefit from import controls since they have less
the competition so can sell MORE GOODS AT A HIGHER PRICE than otherwise and they will benefit from measures to increase exports.
However, they may suffer from higher costs if there are CONTROLS ON IMPORTS
they need for production.
FOREIGN PRODUCERS WILL LOSE OUT as they are limited in where they can sell their
goods. Inefficient, domestic producers are kept in production, whilst efficient, foreign
ones lose out.
What is the impact of barriers on workers?
Evidence suggests that there is little difference to employment figures.
It can be argued that allowing inefficient firms to close would be better for workers in
the long run. The market would reallocate resources and create new jobs, with
greater security.
Following the steel tariffs imposed in America in 2018, it is estimated that 16 jobs will
be lost elsewhere for every job gained in the steel industry. (The Economist)
However, Argentina has been successful at implementing tariffs which protect jobs
What is the impact of barriers on the government?
In the short run, governments benefit from protectionist policies as they can gain
tariff revenues and they are politically popular.
However, it can lead to an inefficient economy which stifles growth.
What is the impact of barriers on living standards?
As the tariff diagram shows, the imposition of import controls results in deadweight welfare loss.
It also causes trade wars since the introduction of restrictions often leads to retaliation by other countries. A recent example of this is the US-China trade war, where each country continues to impose more tariffs on the other’s goods. This causes a reduction in trade and a reduction in growth
What is the impact of barriers on equality?
It has a regressive effect on the distribution of income as the rise in price affects the
poorer members of society far more than the well off as it is they are no longer able
to afford the products.
What does the capital and financial account comprise of?
Capital Investment (e.g. FDI)
Financial investments (e.g. purchasing govt bonds)
Speculative capital flows (short term - ‘hot money’)
What are 6 causes of a current account deficit?
Growth in large economies such as India and China has increased the demand for imports globally because of their cheap prices.
High inflation rate makes exports expensive and imports cheap. So it leads to an increased demand for imports, which is recorded as a negative entry as money leaves the country.
Higher exchange rate makes exports expensive and imports cheap, which increases demand for imports.
High domestic growth increases demand for imports.
Relatively low productivity of labour/lack of capital investment means that each worker produces less than his/her foreign counterpart. This increases average cost, which makes exports expensive and imports cheap.
High levels of consumer demand - if real household spending increases more quickly than the supply side of the economy can deliver then imports will rise + UK has a high-income elasticity of demand for imports
What are 7 causes of a current account surplus?
Decrease in imports due to protectionist measures.
Decrease in inflation rate makes exports cheap and imports expensive. This increases demand for exports, which is recorded as a positive entry on the current account.
Lower exchange rate makes exports cheap and imports expensive, which increases demand for exports.
Low domestic growth increases demand for exports.
Relatively increased productivity of labour lowers average account, which makes exports cheap and imports expensive.
Natural resource abundance
Comparative/absolute advantages
What are the three main ways to correct currency account imbalances?
- Expenditure reducing policies:
These refer to any policies that would reduce aggregate demand.
For example, a deflationary fiscal policy (such as increasing income tax) will reduce people’s disposable income. As a result, demand for imports will decrease. Over time, exports may exceed imports. This will reduce the deficit. - Expenditure – switching policies
These refer to policies that directly affect the demand for imports. We are talking about trade barriers.
For example, imposing a tariff on imports will make imports more expensive. As a result, demand for imports will decrease and consumers will switch towards buying domestic goods and services. - Supply-side policies
These refer to any policies that directly affect the demand for exports.
For example, increased spending on education is likely to increase the quality of export goods and services. Also, it may increase labour productivity. This will reduce the price of exports. All of this will make exports more competitive internationally. Hence, demand for exports will increase.
What is the significance of trade imbalances?
If imports exceed exports for a long period of time, it becomes hard to finance them in the long run. This involves taking a loan, which could mean reduced government spending to repay the loan. This lowers economic growth.
If exports exceed imports for a long time, it means factor inputs have mainly been used to produce export goods. This means that choice for domestic consumers remains low, which can result in lower living standards.
Trade Imbalances can cause massive currency fluctuations, which can adversely affect global trade.
What are the three main types of exchange rates?
Floating
Fixed
Managed
How does a floating exchange rate work?
A free floating system is where the value of the currency is determined purely by
market demand and supply of the currency, with no target set by the government and
no official intervention in the currency markets. Both trade flows and capital flows
affect the exchange rate under a floating system. Most systems are floating, including
the UK.
How does a fixed exchange rate work?
A fixed system is when a government sets their currency against another and that
exchange rate does not change. The country can decide to devalue its currency
overnight to improve international competitiveness of its industry. One example was
the gold standard, where each major trading country made its currency convertible
into gold at a fixed rate. Today, no country uses the gold standard.
How does a managed exchange rate work?
Managed floating is where the value of the currency is determined by demand and
supply but the Central Bank will try to prevent large changes in the exchange rate on
a day-to-day basis. This is done by buying and selling currency and by changing
interest rates. Some examples include the Brazilian Real, Swiss Franc and the
Japanese Yen.
What factors influence the exchange rate?
- State of the economy (confidence - investment flows - appreciation in pound).
- Relative inflation rates (High relative inflation - UK exports more expensive - demand falls - less demand for pounds - depreciation).
- Relative interest rates (hot money flows).
- Quantitative Easing (money supply increases - depreciation).
- Speculation
What is the single most important factor affecting the exchange rate in the SR?
Speculation
How can a country manage their exchange rate?
- Using interest rates
- Foreign currency transactions (buying and selling their currency).
What does a change in the exchange rate impact?
- The Current Account
- Economic growth and unemployment
- Inflation rate
- FDI flows
Explain the Marshall-Lerner condition
The Marshall–Lerner condition states that depreciation in the value of a
currency will only lead to an improvement in the current account if the
sum of price elasticity of demand of imports and exports is greater than
one. Otherwise, depreciation will not improve the current account deficit.
Explain the J-curve effect
The J-curve effect states that any change in the exchange rate will take time to have any impact. Initially, there is deterioration in the current account. This is because in the short run, both exports and imports tend to have an inelastic demand. This means that changes in prices do not have an impact on the demand for export or imports
immediately. In the long run, however, demand for both exports and imports is elastic. And this improves the current account balance.
Using the Marshall-Lerner condition, explain how a depreciation in the pound will affect the current account.
In the short-run, the position on the current account would worsen. In the short-run (or for a commodity) demand for exports is price-inelastic and so whilst a depreciation in the pound woiuld result in cheaper exports, in the SR there will be a less than proportionate increase in the quantity demanded and so total export revenue would fall. A depreciation would also result in dearer imports but since the demand for imports is price inelastic in the SR a rise in import prices will result in a less than proportionate fall in the quantity demanded and so total expenditure would increase.
Since total export revenue falls and total import expenditure increases, the position in the current account in the SR (or if demand is price inelastic for another reason) would worsen.
If time is the only reason demand is price inelastic then J-curve analysis would show in the LR the position on the current account would improve.
How would a change in the exchange rate affect Economic growth and unemployment?
If there is a fall in the exchange rate, demand for exports rises. This means that employment in the export sectors increases. This increases domestic consumer spending as well, as more people begin to earn incomes. Thus, the growth rate of a country will increase.
Conversely, if there is an increase in the exchange rate, demand for exports falls. This means that employment in the export sectors decreases. This decreases domestic consumer spending, as fewer people earn incomes. Thus, the growth rate of a country will decline.
How would a change in the exchange rate affect the Inflation rate?
If a country is heavily reliant on the import of certain goods, then a fall in the exchange rate will increase inflation in the country. This is because imports appear more expensive when the value of a currency falls, and this means that firms reliant on the imports of certain raw materials or manufactured goods will see a rise in their cost of production.
If such firms form a major portion of the GDP, then this is likely to lead to rising inflation.
How would a change in the exchange rate affect FDI flows?
If there is a fall in the exchange rate, it will make domestic goods and services appear cheaper. Foreign firms will want to take advantage of this (i.e. low cost of production and increased exports) and may invest in countries with falling exchange rates.
International competitiveness definition.
Competitiveness refers to the ability of a country to sell its goods and services
abroad, determined by the price or quality.
What are the 2 measures of international competitiveness?
Relative unit labour costs
Relative export prices
What 7 factors influence international competitiveness?
Relative unit labour costs (heavily dependent on productivity)
Relative wage and non-wage costs
Relative level of inflation
Relative level of regulation
Relative level of taxes
Relative exchange rates
Relative level of investment
Why does a high level of regulation decrease international competitiveness?
High levels of regulation slow down business decisions, making them less adaptable to changes in the global market, and increasing costs.
Why does a high level of investment increase international competitiveness?
Investment in infrastructure improves productivity and ensures firms can deliver and produce their product reliably, cheaply and efficiently.
Investment in R&D allows firms to develop new higher quality products, and new lower cost production methods.
What are 4 benefits of being internationally competitive?
Export-led growth
Low unemployment
Current account surplus
Attracts FDI
However, may become dependent on demand from other countries, making the economy more vulnerable to global economic shocks.
What are 4 problems of being internationally uncompetitive?
Slow economic growth / recession
High unemployment
Current account deficit
Difficult to attract FDI
What policy type is used by economies seeking to become more internationally competitive?
Supply side policies
Define absolute poverty
Absolute poverty is defined as living below subsistence. This means that the person is
unable to meet their basic needs of food, clean water, sanitation, health, shelter and
education. The World Bank uses a measurement based on the number of people living on less than $1.90 per day.
Define relative poverty
Relative poverty is measured by comparison to the average in the country. In the UK,
those with below 60% of the median income are considered to be in relative poverty. In the US, a basket of goods which maintains the average standard of living of society is used.
Relative poverty can be seen as one way of measuring income inequality.
What are the causes of changes in poverty?
An increase in the growth rate of a country may lift many people out of absolute poverty, as this will create more job opportunities. However, as average income increases relative poverty may increase.
An increase in economic development will reduce both kinds of poverty, as this is about improvements in health, education, etc. This will enable people to find jobs and earn higher wages and improve living standards.
An increase in FDI will create more jobs, which might lift a number of people out of absolute poverty.
Increased trade also creates more jobs, which reduces absolute poverty. However, if a country only increases its imports – this is likely to lead to job losses and increase in poverty.
An increase in taxes can help reduce poverty. Firstly, relative poverty will fall as average disposable income will fall. This will place some people above the threshold (who were previously below it) because the average income will fall. Increase in
taxes many also mean more spending on benefits. This will reduce absolute poverty.
De-industrilisation
Decline in trade unions + real state benefits
What is the difference between income and wealth?
Income is a ‘flow’ concept because it is liquid money that flows from one person to the other.
Wealth is a ‘stock’ concept because it cannot flow from one person to the other. It is normally stored in a fixed account.
What are the two main measures of income inequality?
The Lorenz curve
The Gini coefficient
Explain the Lorenz Curve
This is a diagrammatic illustration of the distribution of income in a country.
It plots cumulative income against cumulative population of a country.
And so it depicts what percentage of the population acquire a certain percentage of income.
Figure 4 shows that the line of equality is at 45 degrees angle. This means that 20% of the population should have 20% of a country’s total income and so on.
The Lorenz curve depicts the inequality within a country. In the diagram above, for example, it shows that 80% of the population only have 50% of the country’s income – while the other 50% is in the hands of just 20% of the population.
How do buffer stock schemes influence growth and development?
As mentioned before, commodities face great variation in prices (price volatility) – due to reasons such as natural disasters and inelastic demand and supply.
This means farmers’ incomes are under threat. Also, it makes it hard for them to plan ahead due to this uncertainty.
This can be particularly harmful for countries that rely heavily on agriculture.
Thus, some governments introduce buffer stock schemes to control this price volatility and with it farmers’ incomes and living standards.
Buffer stock schemes set a price range within which the price of commodities is allowed to fluctuate. Beyond these limits, the government intervenes. The upper price limit is known as a price ceiling, while the lower limit is known as a price floor.
However - storing persihable items is difficult and expensive
Uncessary transportaiton costs and strogag costs
Hard to inciorporate all the producers of commodities
Inefficient suppliers produce extra as they know stock will always will be bought.
Buffer stocks may not be large enough.
Other countries may benefit since it keeps global prices fairly low and stable - free riders
How does a change in tax rates affect tax revenues?
The Laffer curve suggests that initially as the tax rate is increased, more tax revenue is gained. However, after a point any further increase in the tax rate causes a fall in tax revenue (see Figure 6). This may be due to an increase in tax avoidance and tax evasion (i.e. people will try to pay less taxes than they are supposed to pay, either
legally or illegally). This may also be because of tax exiles – this will reduce the number of people paying taxes in the country. And so naturally tax revenues will be low.
