The International Economy Flashcards
Globalisation
The process of increasing economic integration of the worlds economies, making countries increasingly dependent upon each other
Main characteristics of globalisation
Growth of international trade and trade liberalisation- encouraged by World Trade Organisation (WTO). Greater international mobility of both capital and labour. Increase in power of multinational corporations. Decrease in government power to influence decisions made by multinational companies (or transnational)
Consequences of globalisation for less developed countries
Globalisation has destroyed local and national products which have been overwritten by identities and cultures by US world brands such as McDonalds or Coca-cola. There has also been controversy concerning the treatment of local labour by MNCs.
Key factors driving globalisation
Cost of transport, technological advances, trade barriers, differences in tax systems
Economic benefits of globalisation
Encourages both producers and consumers to reap benefits from division of labour and economies of scale. More competitive markets reduces monopolies and cause businesses to seek cost-reducing strategies. Trade can drive faster economic growth.
Economic costs of globalisation
Rising inequality as the gains are usually unequal. Threats to global environments usually from the overuse of resources which can cause deforestations for example. Macroeconomic fragilities as external shocks can spread to others with more interdependency. Workers may suffer structural unemployment from out-sourcing of manufacturing to lower-cost countries
Less developed and more developed countries
Less developed- low national income per head, high population growth, low human capital, high unemployment, poor infrastructure, over dependence on exports of a few primary goods
More developed- high degree of economic development, high income, standard of living, human capital, infrastructure
Absolute and Comparative Advantage
Absolute- can produce more of a good than other countries from the same amount of resources.
Comparative- the country with the least opportunity cost when producing a good possesses a comparative advantage
Assumptions of comparative advantage
No externalities in production and consumption. High mobility of labour and capital. Low transport costs. Constant returns to scale. No trade barriers
Factors affecting comparative advantage
Natural resources available. Unit wage costs. Infrastructure. Non-price factors (competitiveness). Import controls. Exchange rates. Investments.
Efficiency gains from trade
Allocative: competition from lower cost import sources drives market prices down which reduces monopoly profits and increases real incomes.
Productive: specialising and selling in larger markets encourages increasing returns to scale causing lower long run average costs of production.
Dynamic: may see growing numbers of innovative businesses who invest more in R&D and human capital.
X-inefficiency: intense competition provides discipline for firms to keep costs under control to reduce waste
Import controls and protectionist policies
Tariffs- taxes imposed on imports from other countries entering a country
Quotas- physical limits on the quantities of imported goods allowed into a country.
Export subsidies- money given to domestic firms by gov to encourage the sale of products abroad
Reasons for protectionist policies (import controls)
Developing countries use protectionism to protect infant industries from established rivals in advanced economies, needed until they develop and achieve full economies of scale, also helps reduce international dependency which reduces vulnerability to external shocks spreading damage. Similarity it can be used to protect older industries from new ones. Helps prevent exploitation by a foreign based monopoly. Over-specialisation can cause a country to become vulnerable to sudden changes in demand or costs and availability of production, can cause of lack of diversity in an economy so import control can allow them to diversify their economy. Politically it is necessary for military and strategic reasons to ensure a country is self-sufficient in resources at a time of war. Can help prevent MNCs shifting capital to low wage countries and exporting output to the original country which would have caused structural unemployment, protects employment.
Arguments against protectionist policies
Resource misallocation- loss of allocative and productive efficiency
Potential for corruption with tariff revenues misappropriated
Higher prices for consumers, regressive for poorer people
Barriers to entry increases monopoly power of domestic firms
Customs union and free trade areas
Free trade area is where member countries abolish tariffs on mutual trade but each member determines its own tariffs on trade with non-member countries, whereas for customs unions they each share a common external tariff barrier for non-members
Balance of payments
A record of all the currency flows into and out of a country in a particular time period. This it involves the current account, the capital account and the financial account
Current account
Measures the flow of money in and out of a country through exports and imports of goods and services together with primary and secondary income flows. Reflects an economy’s international competitiveness
Primary and secondary income
Primary- inward income flowing into the economy in the current year generated by UK-owned capital assets located overseas and outward of overseas assets located in UK.
Secondary- current transfers such as gifts of money or international aid and transfers flowing into or out of the economy
The financial account
Includes transactions that result in a change of ownership of financial assets and liabilities between a country’s residents and non-residents such as net balance of FDI or changes to a country’s reserves
The capital account
Includes the transfer of assets without any exchange of economic value, such as debt forgiveness, gifts. Also involved non-produced and non-financial assets such as the transfer of land ownership between countries
Consequences of a current account deficit
Short run deficits or surpluses do not pose a problem, a persistent long run imbalance indicates disequilibrium. The larger the deficit the greater the problem. In short run a deficit allows a country’s residents to enjoy boosted living standards by imports but in long run the decline of the country’s industries from international competitiveness lowers living standards. Short run generates more output for economy but long run can shut domestic business down
Consequences of a current account surplus
Small surpluses may be unproblematic but a large surplus has it faults, the balance of payments must balance for the world as a whole so if one country has a large surplus that means another has a large deficit and they will be unable to reduced the deficits unless countries take action to reduce their surplus, deficit countries can then be forced to impose import controls which would hurt trade and cut world economic growth and to an extreme a world recession. A surplus can also be an important cause of domestic inflation as it is an injection of AD into the circular flow of income which raises price levels and if an economy is close to full capacity there is higher inflationary pressures
Factors influencing current account balance
Productivity- improving labour productivity and output can help success of supply side policies to improve both price competitiveness and quality of competitiveness of a country’s exports internationally.
Inflation- the rate of inflation relative to trading competitors. If it’s higher, the country’s exports will lose their price competitiveness which can deteriorate the current account balance.
Exchange rate- rising exchange rate increases the foreign currency prices of the country’s exports and reduces their competitiveness, meanwhile import demand rises due to cheaper prices of foreign goods therefore the current account balance falls, opposite for a fall in exchange rates
Policies to correct a deficit
Contractionary monetary or fiscal policy to reduced aggregate demand, which reduces household income and spending on imports.
Direct controls such as import controls, tariffs and quotas to reduce imports.
Devaluation of exchange rate, making imports more expensive and reducing demand for them, while exports become cheaper. Marshal Lerner condition must be met. All short term.
Supply side long run: Subsidise firms to improve innovation and quality of product for international competitiveness to improve exports and domestic demand which may reduce imports to create export led growth
Policies to reduce surpluses
Expansionary monetary of fiscal policy to raise aggregate demand and household incomes and overall demand for imported goods. Trade liberalisation to allow imports to be cheaper and raise demand for imports/import availability. Revaluate the currency to make imports cheaper however Marshal Lerner condition must be met in order for this to reduce a surplus
Exchange rate
The external price of a currency, usually measured against another currency
Floating exchange rates
Currency supply and demand drive the external value of a currency. Central bank allows the currency to find own level (less intervention). External value of currency is no longer a macroeconomic objective
Managed exchange rates
Hybrid of floating and fixed, currency usually set by market forces, central bank may intervene, buying to support and selling to weaken or changes in interest rates. Currency is a macroeconomic objective
Fixed exchange rates
Gov/Bank fixes the currency value, external value is pegged to one or more currencies. Adjustable peg or occasional realignments of currency may be necessary depending on economic circumstances.
Benefits of a Floating exchange rate
Reduces need for foreign exchange reserves, Freedom to set policy interest rates for domestic objectives, Partial automatic correction for trade deficit, Fixed rates may combat other objectives
Benefits of Fixed currency
Certainty of currency value gives confidence for inward investment, Stability helps control inflation, Less speculation if fixed rate is credible.
Negatives of floating
May cause cost-push inflation. If a country has a higher rate of inflation than trading partners, trade competitiveness and trade balance both worsen causing exchange rates to fall, this raises import prices, raises domestic cost push inflation.
Negatives of Fixed exchange rate
Independent monetary policy cannot be implemented. Resources may be tied up in official reserves. Both overvaluation and undervaluation can misallocate resources.
Two ways the gov can affect exchange rate
The central bank can sell or buy their own currency in the global forex market.
They can change interest rates which can cause international holders to sell or buy pounds
Currency union
An agreement between a group of countries to share a common currency, and usually to have a single monetary and foreign exchange rate policy
Key Arguments for fixed vs floating
Fixed rates may be more optimal for developing countries wanting to control inflation, export-dependent economies may favour a managed floating rate, not every country has the resources to influence a currency,
Evaluation of a currency union
Facilitate greater economic integration within members. Reduce transaction costs, currency risk and possibly greater competition but it can be an economic trap allowing political extremism. Mobility of labour can allow people who lose jobs in poorer areas to move and find work, can raise regional inequality. Common fiscal policy allows wealth to be redistributed from richer regions to poorer regions, help reduce inequality and improve competitiveness of poorer regions. Must require coordination in fiscal and monetary policy or there can be high levels of gov debt
Economic Development
Not just an increase in quantity of output but also the improving the quality and contribution to human happiness. Economic growth can occur without development but development can be measured by: improved living standards, reduced poverty, better access to resources like food and energy, better access to opportunities for human development like education or training, access to good healthcare, sustainability
Main characteristics of less developed economies
Traditional society (completely lacking in development), very primitive and usually poor societies with little changes across generations. Traditional economies preparing to take off, which are less development but are becoming more productive. Then self-sustaining growth which results in a change from largely agricultural to an industrialised or manufacturing economy. At final stage, higher-income developing economies are the result
Indicator of development
First indicator is GDP per capita however this may not be truly reflective also there are intangible factors which affect living standards. For example the value people place on leisure time and living close to work and externalities like pollution. A more accurate measure is the HDI which measures, life expectancy at birth, mean years of school and expected years, GNI per head to reflect purchasing power parity (PPP). Maximum value is 1 for HDI
Factors affecting growth and development
Investment in new capital goods and technical progress
Resources devoted to education and training
Education furthers knowledge and intellect which can mean conclude to innovation. Training is developing skills necessary for certain jobs, making people more employable
Barriers to growth and development
Corruption- prevents normal economic activity, divert scarce resources away from more productive uses from bribery for example. Stunts economic growth and therefore development also
Institutional Factors- legal structures or availability and access to financial institutions and the role of education and training systems etc. Need a ‘law of contract’ for economic activity between firms and consumers.
Infrastructure- poorer regions with worse infrastructure can cause high production costs and limit development of a market and economic development
Human capital- a lack of human capital will/can mean a lack in production and overall economic output which stunts growth and development
Economic complexity- range of industries and exports rather than relying on a few
How macro and micro policies work together
Macroeconomic policies like demand side fiscal policy and monetary and supply side policies, focus on achieved economic growth and development and overall stability . However, growth can be at the expense of development if the costs of environmental damage exceed the benefits of higher living standards and economic welfare. This is why microeconomic policies are used to correct market failures through taxes and subsidies to deter or promote merit and demerit goods to prevent negative externalities. Redistributive policies may also be necessary.
Capital Flight
Sudden withdrawal of money out of a country, affects poorer countries more. It can occur when, for example, a ruling elite within an economy moved the profits made from country’s industries to foreign bank accounts instead of re-investing. A real life example can be Africa as since 2000, high profits have been generated from the exploitation of Africa’s mineral resources.
Causes reduced domestic investment, weakened currency, loss of tax revenue.
Pros and Cons of FDI for growth/development
Employment creation, higher productivity and real incomes, expands productive capacity, infrastructure development.
Inequality, tax avoidance techniques, ethical standards may be poor, profits may be repatriated to host investor
Pros and Cons of micro finance
Increased access to credit, poverty reduction
High interest rates, limited impact long term
Joint ventures
Refers to business arrangements with two or more independent entities (usually different countries) can be FDI. Pros of job creation and access to better tech and expertise, cons that workers and environment may be exploited, can have dominant partners
Foreign Aid
Money or technical assistance given by one country to another to promote economic and social development. Goal is to reduce poverty, improve living conditions and promote sustainable development in developing countries. Main institutions are World Food Programme (WFP) or World Health Organisation (WHO)
Pros and Cons of Foreign Aid
Helps overcome savings gap and foreign currency gap, can stabilise post conflict environments and disaster recovery, can fast forward investment in critical infrastructure
Poor governance, aid may leave recipient country, they may become dependency on aid which can harm entrepreneurial culture, distort market forces and cause inflation from a loss of economic efficiency
Types of Aid
Project aid- financing projects for a donor like hospitals
Technical assistance- funding of expertise like engineers/medics
Humanitarian aid- emergency disaster relief
Soft loans- loan with low interest, hard loan at market interest
Tied aid- projects tied to suppliers (can be that they must buy goods in that country)
Debt relief- cancellation, rescheduling or refinancing of a country’s external debt
Cash Transfers
A type of social protection programme in low-income countries that provide direct financial assistance to vulnerable households. Conditional transfers require recipients to meet certain criteria, such as sending children to school. Unconditional cash transfers are provided without any such requirements
For and Against cash transfers
Reduce poverty and inequality through empowerment, stimulating local economies by increasing economic demand and activity, less costly than sending supplies like food or clothes.
Doesn’t address the root of poverty and inequality so not sustainable long term, CT creates dependency which can discourage work and create a poverty cycle, creates demand pull inflation, can be subject to corruption
How Tourism drives development and growth
Employment creation- tourism is a labour intensive industry and typically employs a higher percentage of women and younger people starting in labour market
Export earnings- generates important foreign exchange
Important source of diversification for many smaller counties
Gives a boost to AD, local and regional income multiplier effects
Accelerator effects from capital investment such as roads, airlines
Risks from dependency on tourism
Exploitation of local labour by overseas transnational tourist firms
Many workers are migrants suffering poor employment conditions
Outflow of profits from foreign-owned resorts
Negative externalities during construction and expansion of tourist resorts
Inflation if tourism creates a domestic economic boom
