This document summarizes all the rest of the macro side of the economics A level course(theme 4). focusing on topics such as specialization and trade, globalization, poverty and inequality etc. the summary include definitions of key terms and diagrams relating to key ideas (such as the Lorenz curv...
4.1 a International Economics Cars production Laptops production
Terms of trade (ToT)
Country A 20 50 ToT ca lculates t he amo unt o f im ports
Impacts of globalisation : Country 8 10 20 that a country's exports can buy
Positive Negative
• Increase in consumer choice Increased environmental Country Count ry A has absol ute
Assumptions/limitations of the theory 50 ToT = index pf ~xport pri_ces
Low prices for consumers degradation/ pollution A's PPF advantage in the prod uction
of comparative advantage: Index o f im port prices
Improved living standa rds
Access to chea p fact o r inputs fo r
Increased interdependence ➔
recession in one country spread s
All count ries produce identical goods
Free movement of factor inputs
J"'
...J
o f both goods (i.e. it ca n
produce more o f bot h goods
cheaply using t he sa m e 1Sup;o; ; at ove r ~ e-;a;; 20
y; ar7 ti; - -
businesses quickly I index of import prices has fallen by 5%, while I
Zero transportation costs resources t han country B).
Firms can make higher profits Access t o cheap labour abroa d ➔ l the index of export prices has risen by 9%.
• Ze ro economies of scale I
due to access to a bigger ma rket local unem ployme nt will rise
• Perfect information 1The terms of t rade w ill be: ~ - I
• Encourages specia lisation ➔
~ Country A needs to I ToT = l 09 Xl00=114.7 I
increased efficie ncy Characteristics of glob alisation: Advantages of trade Disadvantages of trade fo rego 2.5 unit s o f I 95 I
Reduction in unemployment Increased t rade 1-- ---'•" n'"'
d~, p
~•=c·,,,,a'.'.:
lis,,:at,,,
io'"n'---i~-,---.,.---,----'a:"n-"d"sp,.c•..c
ci..c
alc;
isa
,.,t::-
io_n _ _ _ laptops t o produce 1 ca r IThis suggest s that the terms of trade have I
Increased revenue from import Increased interdependence Great er choice for • Count ries become inte rdependent 7 (20:50). l improved by 14.7%. _ _ _ _ _ _ _ _
tariffs fo r gove rnm e nts More foreign direct investment consumers Terms of t rade may worsen (i.e. t hey import Cou ntry B needs to give
(FDI) and t ra nsnat ional companies Chea per goods for higher-value goods and export low-value goods)
Impacts of improvement in ToT:
up 2 units of laptops to
Increased globalisation ove r t he (TNCs) consumers Over-reliance on t he production of one good prod uce 1 ca r {10:20). Advantages Disadvantages
last 50 years: Easy access t o factor inputs • Greater efficiency Countries lacking comparative advantage will • Greate r • Loss of international
• Better m eans of communication Firms experience lose out choice for com petitiveness
(e.g. internet) and transport economies of sca le • Unwanted goods can be 'dumped' in poorer Country B has comparative consumers • Leads to a current account
World Trade Organisation (WTO) Wider market ➔ higher countries at very low prices, w hich is bad for advantage in the production o f • Better deficit
- red uction in t rade barriers
G\obalisation local firms ca rs (i.e. it can produce ca rs at a living • As demand for exports
Creation of TNCs lower opportunity cost than standards decreases, unemployment in
co unt ry A). t he export ind ustry increases
Factors that affect ToT:
The World Trade Organisation (WTO) promotes free t rade by fo llowing a policy of I •
/------------,
Tariff increase on the price of 1
Prier> of r,H<; Relative inflation rates
Highe r inflation ➔ exports costly ➔
Domestic dem<1nd Dome,t1c supply
trade liberalisation . It provides a platform for t rade negotiations and settlement imports ➔ lower demand ToT im proves
I
of any trade issues between member co untries. I• Revenue for government (ABCD) Relative productivity rates
• Conflict between WTO and regiona l t rade ag ree m e nts ➔ latter lead to trade I• Domestic consumer surplus Greater productivity ➔ comparative
diversio n, w hich decreases trade elsewhere and undermines compa rative advantage. increased by P1P1DE advan tage ➔ ToT improves
l. Welfare loss (ADE + BCF) I Exchange rate (ER)
Regional trade agreements / moneta ry unions: ------------✓ Higher ER ➔ exports costl y ➔
Advantages Disadvantages World supply ToT im proves
Reasons for restrictions on f ree trade:
No tra nsaction costs • Transition costs, e.g. menu costs 1) Protecting loca l industries:
Infant industries are new ind ustries Divert trade from ---!!ii,,... Trade
Greater price transpa rency
No need to account for ER fluctuations,
• No control over monet ary policy
that need t ime to matu re out
Q,,l Q,;
L,-J
Q .· Or: Quantity of cars Trade ,;,r old to new partne r;--"'" diversion
w hich hurt countries' competitiveness Sunset industries are firms in decline New unports blocs ~ Create new trade -+- Trade
but t hey may be useful creation
Attract FDI ➔ good for growt h Old imports Factors that influence it:
Count ries need to be self-sufficient in
industries such as defence and energy Comparative advantage : poorer countries
Types of trade blocs: tend t o export low-value goods, e.g. crops
2) Preventing 'dumping' from very cheap Types of trade barriers:
1) Free Trade Area (these can be bilat eral or regional) imports while richer countries tend to export high-
Tariffs - tax on imports
- Free movement of goods and services 3) Protectingjobs value goods, e.g. ca rs
- Each member ca n set their own trade barriers for non-members • Quotas - limit on numbe r o f imports
4) Less dependency No. of emerging economies: these are rich
2) Cust oms union • Subsidies - grants to loca l producers in cheap labour, w hich helps t he export
5) Correct current account deficit
- Membe r countries have a joint trade policy for all non-membe rs Non-tariff ba rriers-e.g. health and safety requirements sector to grow
6) Avoid competition
3) Common market Growth of trading blocs and bilateral trade
7) Retaliation
- Free movement of factor inputs Impacts of trade barriers: agreements : t hese elimin ate t rade barriers
4) M oneta ry Union Advant ages Disadvantages Changes in relative exchange rat es: these
Single currency - as in the Eu rozone determine the ratio of imports to exports
• Revenue for government Less choice for consumers
Conditions necessa ry fo r success incl ude: Restrictions on from tariffs • Higher prices fo r between 2 countries, e.g. pound
► Similar growth patte rns and business cycles of member count ries depreciatio n w ill make UK exports chea per
Local firms make higher
► Similar cultu res to decrease barriers to free movement free trade consumers
abroad
profits • Lower living st andards
► Increase spending in adversely affected (from this move) areas
Local jobs are protected Inequality Pattern of trade
, ✓- '
4.1b International Economics I Significance of trade imbalances:
I• As a negative trade balance increases, it
becomes more and more difficult to finance.
\
1
E§ii:Hy\M®l·····~ -
i:MU Hence, loans have to be taken out. This is
because a negative current account implies a
positive capital account.
Forces of demand and
supply determine the value
Jt!"'
Floating
Managed
I
Fixed
~ The value of
currency is
Current account IC/A) Capita l accou nt I
I• Government spending may fall significantly of the currency + manually pegged
~ ~----'-.;.,. to repay those loans.
Also, if exports outstrip imports, domestic Indirect
against another
currency (o r gold)
Capital Financial Speculative consumers may be faced with limited choice. government
Factors influencing the ER:
investment investment capital flow s Trade imbalances also lead to massive interventio n, e.g.
Relative interest rate
\ currency fluctuations ➔ affects global trade. buying/selling
If relative interest rate is higher ➔ people
'---------------✓ encouraged to save money in UK banks to
currency,
determines the
Reducing current account imbalances: get a higher return on their savings ➔
Loans/grants va lue of currency
received and/or
1. Expenditure-reducing policies dema nd for£ increases ➔ £ appreciates.
given out by Policies that reduce AD, e.g. increasing income t ax ➔ Relative inflation rate
reduces disposable income ➔ demand for imports If relative inflation hig h e r ➔ exports
income governments
decreases. appear more expensive ➔ demand for UK
E,cpenditure-switching policies exports fa ll ➔ £ depreciates. Foreign currency transactions
Policies that affect demand for imports, i.e . trade • Speculation To increase the cu rrency value, central bank
Causes of C/A deftc1t Causes of C/A surplus barriers, e.g. imposing tariff ➔ imports become If people speculate that the value of£ w il l will buy domestic cu rrency. This reduces
High inflation rate ➔ cheap Protectionist measures expe nsive ➔ demand for imports falls. fall, they w ill se ll their £s for another su pply of£ and increases its demand . Thus,
imports decrease imports 3. Supply-side policies currency with a higher value. As demand £ appreciates.
Relatively low labour Low inflation ➔ cheap exports Policies that affect demand for exports, e.g. for£ decreases, it depreciates ➔ se lf- Interest rates
productivity ➔ increased lower exchange rate ➔ cheap increasing spendi ng on educat ion ➔ improves labour fulfill ing prophecy. To increase the cu rrency value, central bank
average cost ➔ cheap imports exports productiv i ty ➔ improves quality/quantity of exports State of the economy will raise the interest rate. This increases
Higher exchange rate ➔ cheap Low domestic growth ➔ ➔ demand for exports rises. Economy improving ➔ investors feel demand of£, as saving in UK banks reaps
imports increased demand for exports 4. Doing nothing confident ➔ demand for£ rises ➔ higher rewa rds. Thus,£ appreciates.
High domestic growth ➔ Relatively high labour Some of the policies described above have downsides, £ appreciates.
increased demand for imports productivity ➔ low average e.g. raising taxes will also affect domestic demand and
Effects of devaluation/depreciation:
Growth in large eco nomies ➔ cos t ➔ cheap exports imposing trade barriers is often met with retaliation.
increased dema nd fo r imports Thus, some countries may opt to do nothing. Makes exports more co mpetitive ➔ cu rrent ·acco unt surpl us
However, if all cou ntries devalue their currencies, the n nobody gai ns from it
Internat iona l competitiveness:
Creates jobs in the ex port industry Current account (C/A}
Export-led growth 1. The Marshall-Lerner condition posits that depreciation only leads to a
Improves trade deficit C/A improvement if (PEDHporu + PED1mporu > 1).
2. The J-curve suggests changes in the ER have t ime lags. Initially C/A
deteriorates because in the short-run exports and imports have inelastic
Over-reliance on exports can become a problem if the world demands. Later, as dema nds become more elastic, we see an
economy experiences recession ➔ massive job losses improvement.
Relative unit labour costs
If labour in cou ntry A is more
productive or gets lowe r Inflation
Factors affecting international co m•p•••••itiv e ne s•s•: •• •• • •••• ••••• •••• •• wages than co untry B, then Growth and unemployment ER depreciates ➔ imports appea r
1. Relative unit labour costs 0
0 0 0 0 0 the former is said to be more ER depreciates ➔ demand for exports rises ➔ more expensive, and if co untry is
2. Relative level of regulation
internatio nally competitive job creation ➔ more consumer spending ➔ relia nt o n imports ➔ infl ation
If firms in a country face less regulation, then they are more compet itive more growth
(i.e. it can export more)
3. Relative Inflation
• Relative export prices
Exports from a country with lower inflation compared to others appea r chea per
If country A's export prices
4. Relative non-wage costs Foreign direct investment (FOi} flows
are lower than country B's,
If other factor inputs In a country are cheaper compa red t o another country, it ER depreciates ➔ domestic goods
then the former can export
w ill be able to pro duce goods cheaply ➔ more exports appea r c he ape r ➔ more FOi flows
more
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