International economic issues 6 Flashcards
1
Q
What are factor endowments?
A
availability of capital, enterprise, labour and land in an economy
2
Q
What is absolute advantage in the context of international trade?
A
A situation where, for given set of resources, one country can produce more of a particular product with the same quality resources than another country.
3
Q
Define opportunity cost rations?
A
the quantity of one product compared to the quality of another product that has to be sacrificed to produce it.
4
Q
What is comparative advantage in the context of international trade?
A
A situation where a country can produce a product at a lower opportunity cost than another country.
5
Q
Why do countries specialise and trade?
A
They can focus on producing the products they are more efficient at producing or less efficient at producing. To have comparative advantage = less opportunity cost
6
Q
What is free trade?
A
International trade not restricted by taxes on imports and other policy tools ( no gov intervention) designed to give domestic products protection from competition from imports.
7
Q
What are benefits from free trade?
A
Efficient allocation of resources within countries = their production increases world output, employment and living standards
Competition can make firms keep low prices and raise quality of products. Firms ca buy raw materials +capital cheaper. Higher out put to sell to international markets. Greater economics of scale. Consumers have greater variety and wider choice.
Increases total quantity of products a country can consume.
8
Q
What are exports?
A
g+s sold to other countries
9
Q
Define a trading possibility curve.
A
a diagram showing effects of country specialising and trading.
10
Q
What are imports?
A
g+s purchased from other countries
11
Q
Define terms of trade.
A
numerical measure of the relationship between export and import prices
12
Q
What is the equation of terms of trade index ?
A
index of export prices /
index of import prices X 100
13
Q
What is the difference between an improvement and a deterioration in terms of trade
A
Improvement (favourable movement) =t of ti increases, fewer exports to be sold to buy quantity of imports. Deterioration (unfavourable movement) = t of ti falls, more exports have to be exchanged to gain same quantity of of imports.
14
Q
What causes changes in terms of trade?
A
Changes in demand for and supply of exports and imports, price level and exchange rate.
increase in demand for xports will increase their price = favourable movement in t of t. Rise in inflation rate will make xport prices higher to import prices. Gov reducing exchange rate = deliberate deterioration of its t of t. Delib attempt to reduce xports + raise imports prices in order to make country’s products more internationally competitve.
14
Q
What is the Prebisch-Singer hypothesis?
A
Terms of trade moves against countries producing primary products, demand for manufactured g+s rises by more than demand for primary products when incomes rises. More volatility (sudden changes) in commodity prices.
15
Q
What is the impact of terms of trade?
A
Favourable movement (rise in t of t) not always beneficial. If export prices rise because of rise in demand = beneficial, more domestic products sold. But if cause is rise in cost of production + demand will fall and export revenue may decline.
Unfavourable movement + reduce deficit in balance of payments. If demand for imports +exports = elastic, fall in export prices relative to import prices should increase export rev relative to export expenditure.
16
Q
What are the limitations of comparative and absolute advantage?
A
Doesn’t provide full explanation of pattern of international trade because:
1) some govs may want to avoid overspecialisation
2) high transport costs may offset comparative advantage
3) exchange rate may not lie between the opportunity cost ratios
4) other govs may impose trade restrictions
17
Q
What is protectionism in international trade?
A
protecting domestic producers from foreign competition, restricting free trade.
18
Q
Name some tools of protectionism.
A
Tariffs
Import quotas
Export subsidies
Embargoes
Excessive administrative burdens (‘red tape’)
Exchange control
Voluntary exports restraints
18
Q
What is a tariff?
A
a tax imposed on imports, may also be imposed on exports. like ad valorem (a % of price) or specific tax (a fixed sum per unit)
19
Q
Why do governments use import tariffs?
A
1) to discourage consumption of imports
2) to raise tax revenue
Tariffs impose extra cost on supplier = usually pushes up price. Most effective in raising rev if import demand is inelastic, more effective to protecting domestic industry if demand is price elastic.
20
Q
When could import tariffs not make domestic products more price competitive?
A
If price of the import + tariff still be below domestic price or if firms selling imports absorb the tariff and do not raise their prices.
21
Q
Why do governments use export tariffs?
A
They put tax on exports to raise revenue , if demand for an export is price inelastic, the imposed tariff won’t impact demand. Or to ensure adequate supply of product on the home market, can reduce absolute poverty increasing. Placed on raw materials, export tariffs can protect domestic industries using the raw materials.
22
Q
Define absolute poverty.
A
condition where people’s incomes is too low to enable them to meet their basic needs
22
What are export subsidies?
Given to both exporters + domestic firms competing with importers. Domestic firms will have fall in costs, encourage them to increase output and lower price. but foreign firms and domestic taxpayer loses. Home firms and consumers (short-run) win. In long-run they lose if more efficient foreign firms can't sell and home firms raise prices.
23
What are import quotas?
a limit on imports
Restricting imports to drive up their price, consumers paying more and consuming less. Quotas don't raise rev for gov, sellers receive extra amount by customers. Export quotas also ensures adequate supply on home market (form of protectionism)
24
What are embargoes?
ban on imports and/or exports of particular product (maybe harmful) or trade with certain country (political conflict)
24
What are voluntary export restraints?
limit placed on imports reached with the agreement of the supplying country.
25
What is excessive administrative burdens ('red tape')?
Govs may discourage imports by requiring imports to fill out lengthy forms that are time-consuming to complete, or set high product standards to restrict foreign competition but also consumer choice.
26
What is exchange control?
restrictions on the purchases of foreign currency
26
Why do countries impose restrictions on trade?
- To protect infant industries
- To protect declining industries
- To protect strategic industries
- To protect dumping
- To improve the terms of trade
- To improve balance of payments
- To provide protection from cheap labour
- Other reasons
27
How do govs protect infant industries?
to give them time to grow + benefit from economies of scale + gain international rep, they can't compete with bigger foreign firms with economies of scale or are well known. If they get comparative advantage = trade restraints justified, but they can become dependent of protection
28
What is an infant industry?
new industries that have low output and a high average cost
29
How do govs protect declining industries?
if lose comparative advantage+ will go out of business = rise in unemployment. With protection, unemployment can not happen and as industry reduces output, workers will retire or leave for jobs in other industries
30
How do govs protect strategic industries?
Govs don't want strategics industries like weapons, fuel or food to be dependent on foreign supplies. Possible cut off due to trade disputes or military conflicts. May protect some home industries even if they're inefficient
31
What id dumping?
selling products in a foreign market at below their cost of production
32
Why do govs protect from dumping?
In short run, dumping benefits home consumers with lower prices but in long run if foreign firms drive out domestic firms and gain monopoly they can raise prices. Foreign firms do this to gain control of markets, destroying competition and covering losses by previous profits, subsidies from their gov or charging high prices in home market. Hard to determine if dumping is happening or if foreign firm has comparative advantage
33
How do govs use protectionism to improve their terms of trade?
If country buys big proportion of another country's exports of a product, they can force down the price. With trade restrictions, can lower demand + if demand is big, can lower price = improving t of t and allow more imports purchased for same quantity of exports.
Restricting supply of exports will drive up price + increase purchasing power of exports + distorts trade, reducing global output , but may cause retaliation.
34
What is a current account within a balance of payments?
a record of trade in goods, trade in services, primary income + secondary income.
35
How does govs use protectionism to improve their balance of payments?
To improve current account position, use tariffs to encourage consumers to switch from imports to domestic products. If foreign govs retaliate with own trade restrictions, country's imports may fall but exports too = international trade decline + global output fall. Own products not internationally competitive + strategic probs. Trade restrictions only boost current accounts short-term
36
How can govs provide protection from cheap labour?
Morally, trade restraints should be imposed on products from countries with very low wages (child/slave labour). To compete, wages + living standards must rise. If labour productivity low = labour costs may be relatively high. If low wages linked to low costs, can indicate comparative advantage. Then trade restrictions can drive down wages even further in low-income countries. Bad.
36
What are other reasons countries use protectionism and impose trade restrictions?
- Tariffs can rasie rev if demand for imports are inelastic
- Govs can persuade other govs to reduce trade protection(quota on imports from country). But risk that trade war starts
- Gov maybe concerned some imports don't meet health + safety standards. Govs may have different standards
- Govs want to protect range of industries to avoid risk attached to overspecialisation.
37
What are the arguments against protectionism?
Doesn't work always. Infant industries may not become efficient, can prevent benefits of free trade Protectionism may:
1)prevent countries specialising in products they have comparative advantage in - can lower global output + living standards
2) reduce international competition so increase prices + lower quality
3) reduce choice of products available to consumers
4) lower size of firms, markets so reduce ability to take advantage of economies of scale
5)reduce firm's choice of raw materials + capital goods which may increse costs of production
6)result in a trade war, with tariffs pushing up prices
38
What is a country's balance of payments?
record of country's economic transactions with the rest of the world over a year
39
What is a financial accounts?
within a balance of payment, a record of the transfer of financial + capital assets between country and rest of the world
39
What is within a capital account?
within a balance of payments, a record of sale + purchase of copyrights, patent, trademarks + money brought in to country by immigrants + taken out by emigrants
40
Explain how a balance of payments looks like.
It consist of 3 accounts: current, capital and financial. Money coming in to country creates credit items (positive sign). Money going out of country creates debit items (with a negative sign)
41
Define the exchange rate?
price of one currency in terms of another currency
41
What are divided payments?
a share of a firm's profits paid to its shareholders
42
What the components of the current account of balance of payments?
- Trade in goods
- Trade in services
- Primary income
- Secondary income
43
What does trade in goods refer to?
exports and imports of goods. Exports = credit items. Imports = Debit items.
Trade in goods balance = revenue earned from exports - expenditure on imports. A trade in goods surplus arises when export rev is more than import expenditure
44
What does trade in services refer to?
trade in export + import of services (insurance, tourism, banking). A trade in services deficit occurs when rev from export of ser is less than expenditure on ser bought from other countries
45
What is referred to by primary income?
income from profits, interest, dividends earned on direct investment abroad and foreign earnings on investment in country. Dividends paid on foreign shares by residents in country = credit items. Interest paid by foreigners on bank accounts in country = debit items. Employee compensation + wages earned by country's residents working in other countries + paid for by residents of these countries.
46
What is referred to by secondary income?
payments made + receipts received for which theres no corresponding exchange of g+s. Gov transfers + payments to and receipts from international orgs + foreign aid. Transfer by private individuals. Worker remittances + transfer of money money from people working in foreign country for 1+ year to relatives back home. Can form large credit item.
47
What is the difference of a current account deficit and a current account surplus?
CA Deficit = combined deficit items on 4 parts of current account balance are greater than combined credit items on 4 parts.
CA Surplus occurs when credit items in 4 parts are greater than combined debit items
48
What is the difference between debit and credit items?
Credit items bring money into the country and debit items takes money out of the country
49
What is an imbalance in the current account of the balance of payments?
debit items in current accounts not equaling credit items
50
What is a current accounts deficit of a balance of payments
Value of debit items on the current account exceeding the value of credit items
51
What is a current account surplus of a balance of payments?
value of credit items on the current account exceeding the value of debit items
52
What is a balance in the current accounts of a balance of payments?
debit items on the current account equaling the credit items
53
How do current accounts work in real life?
Individual countries usually have an imbalance in their current accounts. the world's current account is always in balance with total credit items equal to debit items. the value of current accounts deficits matched by current account surpluses
54
How do you calculate the balance of trade of goods?
value of exports - value of imports
55
How do you calculate the balance of trade in services?
export of services - import of services
56
How do you calculate the balance of trade in g +s (total trade balance)?
balance of trade in goods + balance of trade in services
57
How do you calculate the current account balance?
(balance of primary account + balance of secondary income) + balance of trade in g+s
58
What causes a current account deficit?
- Growing domestic economy
- Declining economic activity in country's trading partners
-Structural problems
59
How does a growing domestic economy cause a current account deficit?
When increasing output, more raw materials + capital from abroad brought, import expenditure rise, export rev decline because more exports to domestic market. This deficit not bad, short-term and self-correcting. More products sold at home and abroad. Export rev rise to match higher import expenditure.
60
How does a declining economic activity in country's trading partners cause a current account deficit?
If countries that buy this country's imports have recessions/slowdowns in economic growth, import expenditure may fall or rise more slowly. Deficit from change in economic cycle of domestic economy or economies of trading partners (cyclical deficits). Not bad + short-term, self-correcting
61
How does structural problems cause a current account deficit?
Deficit last long-term, indicates domestic firms are not internationally competitive + country may borrow to finance surplus spending. Lack of competitiveness = overvalued exchange rate maintained by gov intervention + high inflation rate. Or low labour + capital productivity may result from poor quality education + training, low investment + innovation. Structural deficit = not self-correcting, concerning
62
What causes a current account surplus?
- Declining domestic economy
- Increasing economic activity in country's trading partners
- Structural advantages
63
How does a declining domestic economy cause a current account surplus?
If the economy is experiencing recession, demand for imports decline, consumers buy fewer g+s and firms will buy fewer raw materials + capital goods as output falls. this surplus not beneficial
64
How does increasing economic activity in country's trading partners cause a current account surplus?
If countries' trading partners doing well, likely will buy more of country's exports. Country's people working in these countries may earn higher wages, can send back home to relatives
65
How does structural advantages cause a current account surplus?
A country's firms competitive because good education + training and high level of investment + innovation. Country successful in selling more g+s to other countries than it buys from them + low inflation + low exchange rate. Country's products are price competitive.
66
What the consequences of imbalances in current accounts on the economy?
Deficits allow residents of country to consume more products than country produces + its living beyond its means. It must finance deficit by attracting investment into country/ borrowing. Involves outflow of money in future through investment income. Increase in deficits also can reduce AD + slows down economic growth + cause unemployment.
CA surplus not always beneficial (earning more than spending) as residents not having as high living standard as possible. High demand + additions to money supply = inflationary pressure. Countries with deficits can also pressure the country to change policies to reduce its surplus.
67
How can a current account deficit or surplus be assessed more effectively?
Significance of size of deficit or surplus can be assessed by considering it as a % of country's GDP (output) rather than in monetary terms.
68
Define the exchange rate (part 2).
Price of domestic currency in terms of a foreign currency.
69
What is the floating exchange rate?
an exchange rate is determined by the market forces of demand and supply.
70
What determines the price of currency?
relative strengths of demand for and supply of thee currency
71
What are reasons why currency traders will buy domestic currency?
Will enable customers to:
- purchase g+s from the country
- invest in the county
- speculate on making profit if value of currency should rise in the future. Financial institutions also speculate on future currency movements on their own behalf
72
What is a depreciation of the floating exchange rate?
decrease in international price of a currency caused by market forces
73
What is an appreciation of the floating exchange rate?
increase in international price of a currency caused by market forces
74
What are distinctions between a depreciation and appreciation of a floating exchange rate?
A fall in value of currency (depreciation) will cause a reduction in export prices in terms of foreign currencies. Increase in supply of currency = fall in its value. Rise in value of currency caused by increase in demand/ decrease in supply (appreciation) will make exports more expensive in terms of foreign currencies + imports cheaper in terms of domestic currency.
75
What causes change in a floating exchange rate?
-Changes in demand for + supply of currency will cause a change in price of currency if floating exchange rate. Demand for currency will rise if higher value of exports being sold. More exports sold if country's relative inflation rate falls, relative productivity risen or income abroad has increased.
-If country's economic prospects improve, foreigners will buy more of currency, to buy shares in country/ open accounts in banks. Movement of money around world seeking to gain financial advantage by earning higher interest rates+ buying currencies expected to rise in price = hot money flows.
-Speculation of changes in future interest rates + currency prices account for large proportion of currency purchased. Foreign firms can buy greater value of currency to set up branches in country as rise in labour productivity in country, growing market or get round trade restrictions.
-Increase in demand for currency will push up prices, increase in supply will cause fall in its price.
76
What are hot money flows?
flows of money moved around the world to take advantage of charges in interest rates + exchange rates.
76
What is the impact of depreciation on a domestic economy's national income + real output?
Fall in value of exchange rate will make exports cheaper in terms of foreign currencies + imports more expensive in terms of domestic currencies = domestic firms can sell more products at home + abroad. Foreigners buy country's exports instead of products of other countries. A rise in net exports will increase AD, can result in rise in output + national income
77
What is the impact of depreciation on domestic price level?
The higher AD that occurs because of rise in net exports may give rise to inflationary pressure. AS economy approaches full capacity, resources become increasingly scarce + prices will rise. Imports will be more expensive + some will count in country's consumer price index. Costs of production will be pushed up because cost of imported of imported raw materials will rise. Domestic firms may also feel less competitive pressure to keep costs + prices low.
78
What is the impact of depreciation on the domestic economy?
If depreciation results in higher AD, forms producing domestic economy + external economy will take on more workers to expand output, can cause decrease in cyclical unemployment.
79
What is the impact of an appreciation on the domestic economy's national income + real output?
An appreciation (rise in exchange rate) will make exports more expensive in terms of foreign currencies, + cheaper in terms of domestic currency = fall demand for domestic products. Could result in slowdown in economic growth or recession. With lower real output, incomes likely to fall.
80
What is the impact of an appreciation on domestic inflation?
May cause reduction in inflationary pressure if economy is operating close to/ at max capacity. If exchange rate doesn't rise, AD might increase, causing price level. Rise in exchange rate may reduce growth of AD = inflation rate lower than if exchange rate had remained unchanged.
Higher exchange also reduces inflationary pressure by shifting AS curve to right because of lower costs of imported raw materials. Price of imported finished products would also fall + increased competitive pressure on domestic firms to restrict price rises to try to maintain sales at home + abroad.
81
What is the impact of an appreciation on unemployment?
An appreciation can increase unemployment. If AD decreases, firms may not replace workers who retire + may make some workers redundant.
82
What is the government policy objective of stability of the current account?
Most govs seek to achieve balance of payments stability + money entering country= money leaving the country. If export rev = import expenditure, country will not get into international debt + not give up opportunity to buy foreign products that it can afford. Short run = gov can welcome more spending on imports than earned from exports if this arises from more raw materials + capital goods being imported. Deficit allows country to consume more g+s than its producing. gov can encourage surplus of export rev over import expenditure = to boost AD + provide funds to repay external debt.
82
What is the effect of fiscal policy on the current account deficit or surplus?
If country has deficit on current account, can use contractionary fiscal policy = reduce demand for g+s including imports to increase income tax + reduce gov spending. Rise in tax can reduce disposable income = leaves less to households to spend on imports + domestically produced products. Lower gov spending + reduces demand for g+s which reduces imports and puts pressure on domestic firms to increase exports.
To reduce current account surplus, can use expansionary fiscal policy. Lower income tax + higher gov spending on e.g. state pensions will increase consumers expenditure. More imports will be purchased + some products moved from export market to home market.
82
What are the general effects of fiscal policy on the current account?
Fiscal policy measures may alter country's current account position in short-term but unlikely to be long-term solution. Once policy measures stopped, households + firms go back to spending same amount on imports relative to export rev earned.
Raising taxes can also have adverse side effects. Lower demand, may increase unemployment + slow economic growth. High taxation can also create disincentive effects = may reduce AS.
83
What is the effect of monetary policy on the current account deficit?
Reducing growth of money supply used to reduce growth in spending on imports but difficult to control money supply. Changing interest rate to influence current account position = more complex process. If economy has low rate of inflation + CA deficit = central bank can reduce interest rate to put downward pressure on floating exchange rate. Lower exchange rate can = country's products becoming more internationally competitive, but risk that it can generate inflationary pressure. But higher rate can cut consumer expenditure, reducing demand for imports + reducing inflationary pressure. But can raise a floating exchange rate that could reverse fall in demand for imports.
84
What is the effect of monetary policy on the current account surplus?
To reduce CA surplus, a gov may want to increase consumer expenditure through expansionary monetary policy. It may raise money supply + cut rate of interest and try to encourage appreciation of exchange rate. Most monetary tools not effective in reducing imbalances in CA of balance of payments in long-term as its unlikely to tackle structural weaknesses in economy (low productivity = CA deficit). May not have long- term effect on structural strengths either (high rate of innovation + ownership of scarce raw materials causes CA surplus.
85
What is the effect of supply-side policy on current account?
- Can reduce CA deficit by making domestic products more price competitive + making domestic markets more attractive to invest in (deregulation, privitisation may make firms competitive to keep costs + prices low to improve quality, become more responsible to change in consumer demand.
- Increased spending on education, training and increased investment subsidies can also increase exports. More skilled labour force + better capital equipment can reduce price of domestic output and raise its quality. Both increase firms' share of home + international market.
- This also attracts foreign multinational companies (MNCs) to set up local branch to produce good quality products at low cost, they contribute to country's exports.
- Trade union reform = domestic firms have more flexibility, thus more responsive to changes in demand. Fall in industrial action with greater flexibility can make foreign firms willing to buy countries' exports.
- Supply-side policy not quick way of correcting imbalances in CA. Not to reduce CA surplus as it increases quantity + quality of country's resources, but can correct deficit in CA in long-term
86
What is the effect of protectionist policy on the current account?
It is a way of encouraging domestic consumers + firms to switch to buying domestic products (gov impose tariffs or increase existing tariff on imports). This works more effectively when high quality substitutes produced by domestic firms are available. Imposing tariffs against trading partners in trade bloc not option. Imposing or increasing tariffs against other countries involves 2 risks: 1) may provoke retaliation 2) may reduce pressure on domestic firms to become more efficient.
