International Economy and Trade Flashcards
Define comparative advantage
an economy’s ability to produce a particular good or service at a lower opportunity cost than its trading partners
Define absolute advantage
where one country is able to produce a greater quantity of a good or service with the same quantity of inputs per unit time, than its competitors
What is meant by free trade?
trade without restrictions or regulations on imports or exports
What is meant by protectionism?
restricting imports from other countries through tariffs, quotas and/or government regulation
List 3 arguments in favour of free trade
- theory of comparative advantage
- leads to trade creation
- increased exports
Explain how the theory of comparative advantage can be used as an argument in favour of free trade
- free trade enables countries to specialise in goods where they have a comparative advantage
- this increases economics welfare for all countries
Explain how increased exports can be used as an argument in favour of free trade
- with free trade, there will be a lower tariff on domestic exports
- enables a higher quantity of exports, boosting domestic jobs and economic growth
List 3 arguments in favour of protectionism
- infant industry argument
- senile industry argument
- raise revenue for the government
Explain how the infant industry argument favours protectionism over free trade
- if developing countries have industries which are relatively new, then at the moment they would struggle against international competition
- however, if they invested in the industry then in the future they may be able to gain a comparative advantage
- protection would allow developing industries to progress and gain experience to enable them to compete in the future
Explain how the Senile industry argument favours protectionism over free trade
- if industries are declining and inefficient they may require significant investment to make them efficient again
- protection for these industries would act as an incentive for firms to invest and reinvest themselves
What is a drawback of the Senile industry argument?
it could be said that protectionism is an excuse for protecting inefficient firms
State how protectionism can lead to greater government revenue, and then evaluate this point
- import taxes can be used to raise money for the government
- however, this will only be a relatively small amount of money
List 7 methods of protectionism
- tariffs
- quota
- export subsidies
- foreign exchange restrictions
- embargoes
- red tape
- quality standards
What are foreign exchange restrictions?
where the government controls the purchase of / sale of currencies
What are embargoes?
where the government restricts commerce with specific countries or specific goods
Give an example of quality standards
quality standards on imported foreign foods
What are the 5 levels of economic integration (from least integrated to most integrated)
- free trade area
- customs union
- common or single market
- economic union
- monetary union
What are the 2 key characteristics of a free trade area?
- removal of tariffs and quotas on trade between member states
- member states reserve the right to determine their own trade policy towards non-members
What are the 2 characteristics of a customs union?
- removal of tariffs and quotas on trade between member states
- member states agree to a common external tariff on trade with non-member states
What are the 3 characteristics of a common or single market?
- removes restriction on free movement of labour and capital between member states
- removes non-tariff barriers by harmonising product standard, employment laws, taxation policy, competition policy, etc
- adoption of common policy in one or more areas
What are the 2 characteristics of an economic union?
- greater degree of harmonisation and coordination of economic policies
- some degree of centralisation of economic policies, in particular macroeconomic policies
What are the 2 characteristics of a monetary union?
- extends macroeconomic policy coordination to the monetary field
- the degree of monetary union can vary between a fixed system to semi fixed or the adoption of a common currency
Define quota, and what’s the purpose of a quota?
- a quantity limit on the number of imports
- incentivises greater domestic supply
Define economic integration
an arrangement among nations to reduce or eliminate trade barriers and coordinate monetary and fiscal policies
List 4 benefits/advantages of economic integration
- consumer benefits
- labour benefits
- capital benefits
- long-run benefits
Explain how consumer benefits can arise from economic integration
- lower costs and increased competition leads to lower prices
- also, greater variety and innovation leads to increased consumer welfare
Explain how labour benefits can arise from economic integration (for a single market)
- increased labour mobility enables wage costs to converge
- more likely to find a job/position that you want, thus greater welfare and more productive
- unemployment to be spread more evenly between member states
Explain how capital benefits can arise from economic integration (for a single market)
- increased capital mobility increases relative supply in each country
- enables businesses to grow and innovate
Explain how long-run benefits can arise from economic integration
- more innovation can take place in efficient markets
- leads to R&D and economies of scale
- good for consumers in LR
List 3 disadvantages of economic integration
- trade diversion
- rising externalities
- labour disadvantages
Explain what is meant by trade diversion, and why is can be a disadvantage of economic integration
- when tariff agreements cause imports to shift from low-cost countries to higher-cost countries
- increased prices for consumers
- more efficient non-members are crowded out by member states
Explain how rising externalities can result from economic integration
- associated with the free movement of people
- places pressure on infrastructure and the insufficient supply of merit goods, such as healthcare and education
Explain how labour may be disadvantaged as a result from economic integration
- lower wages as migrant labour drives down local wages
- quality of life may fall
What are the 3 accounts in the BoP?
- current account
- financial account
- capital account
What are the 4 sections on the current account?
- trade in goods
- trade in services
- primary income
- secondary income
What is meant by the trade balance?
- trade in goods + trade in services
- exports - imports
What is meant by the income balance?
primary income + secondary income
Give 2 examples of primary income
- income from interest
- income from shares and profits
Give 2 examples of secondary income
- EU payment
- repatriation of wages
- aid and grants
What are the 2 sections of the financial account?
- FDI
- portfolio investment
Give 2 examples of portfolio investment
- corporate shares and bonds
- government bonds
- hot money
What are the 3 sections of the capital account?
- debt forgiveness
- inheritance tax
- death duties
What is the sum of the current account, the financial account, and the capital account?
0
What is the Marshall Lerner condition?
the Marshall Lerner condition states that a depreciation/devaluation of a currency will eventually lead to a net improvement in the trade balance on the BoP if the PEDx + PEDm > 1
List 4 factors that affect the exchange rate
- determined by supply and demand
- the level of economic growth
- the level of inflation
- speculative demand
What are the 2 types of causes of current account surpluses?
- structural
- cyclical
List 3 causes of a structural current account surplus
- significant long-run comparative advantage
- trend rise in factor productivity
- long-run rise in global prices of main exports
- surplus of savings over investment
- structural increase in net investment income
List 3 causes of a cyclical current account surplus
- depreciation of the exchange rate
- strong consumer demand in key export markets
- fall in prices of imported energy / FoP
List 3 effects of current account surpluses
- contributor to GDP
- may cause demand-pull inflationary pressure
- pressure on the currency to appreciate
Explain what is meant by a cyclical trade deficit
one that occurs as a result of the trade cycle being in the growth/boom phase
Explain what is meant by a structural trade deficit
long term in nature and occurs due to an underlying lack of productivity and international competitiveness in the economy
What is meant by expenditure-reducing policies?
policies designed to control demand and limit spending on imports
What is meant by expenditure-switching policies?
policies designed to change the relative prices of exports and imports - this causes changes in spending away from imports and towards domestic/export production
List 3 reasons why a country may experience persistent deficits in the balance of trade in goods
- high rate of inflation
- appreciated exchange rate
- low productivity
Give 2 (general) points of evaluation for policies that are used to tackle a trade deficit
- do they conflict with other macroeconomic objectives?
- cost, opportunity cost and time lag involved
List and explain 3 advantages of a floating exchange rate
- less costly: as the governments aren’t required to hold vast reserves to protect currency value
- market forces determine price / international competitiveness: no chance the rate is set too high or too low
- complete control of interest rates to meet domestic economic objectives
- acts as an automatic macroeconomic stabiliser
List and explain 3 disadvantages of a floating exchange rate
- reduced certainty: there is reduced price/cost certainty for imports and exports leading to decreased trade and decreased FDI
- more speculation: which can lead to large fluctuations in the exchange rate and macroeconomic instability
- less protection from the economic shock from imported inflation: occurs when a fall in the value of the currency leads to an increase in the costs of imports, some of which may be essential (food, oil, etc)
List and explain 2 points of evaluation for whether a fixed or floating exchange rate is more beneficial
- how economically developed the country is: many developing countries do not have sufficient foreign currency reserves to be able to maintain a fixed exchange rate
- how export driven the economy is: if you rely heavily on exports (e.g. China) fixed may be better. If you rely more on domestic growth, floating may be better
Define a currency union
an intergovernmental agreement that involves two or more states/countries sharing the same currency
Give 3 advantages of currency unions
- lower transaction costs trading within the currency union
- greater certainty for firms investing in capacity to export to the currency union
- greater incentive to increase productivity and keep inflation low, otherwise become uncompetitive (cannot manipulate exchange rate )
- greater price transparency, easier to check different prices in same currency
Give 3 disadvantages of currency unions
- loss of independent monetary policy (e.g. in the EU, the ECB sets IR)
- loss of ability to depreciate/devalue currency in recession
- no lender of last resort: could reduce risk-taking and innovation (e.g. ECB unwilling to act as lender of last resort)
- very large cost of leaving
