Unit 4.3.2: Developments in the global economy
What is absolute advantage in trade
A country has an absolute advantage in *producing a product* if they can *produce more of the product with the same quantity of resources as another country* For example, *Indonesia has an absolute advantage in producing rice* but *Brazil has the absolute advantage in beef* This can be shown on a production possibility frontier
What is a country's terms of trade and how is it calculated
A country's terms of trade is the relative price of its exports compared to its imports. Terms of trade index = index of average price *exports*/ index of average price *imports* x 100
What is a trading bloc
A trading bloc is a *group of countries* that are near each other that *promote trade amongst themselves,* and may place *barriers on other trading blocs*. This tends to mean that members make *agreements to remove or reduce protectionist barriers* between them. e.g. EU countries have a trading bloc
What are the impacts if a country's terms of trade rises on export revenues
If demand for the export is *price inelastic e.g. oil*, then the *country's export revenues will increase* and vice versa for elastic demand (unless the rise is caused only by a fall in average import price)
How do changes in exchange rates between countries influenced patterns of trade
If the value of a currency falls: • *Exports* will become *cheaper*, so *domestic goods* will become *more competitive.* • This means that *demand for exports will increase*. • *Imports* will become *more expensive*, so *demand for imports will fall.* • A *current account surplus* should *increase*
What is free trade
international trade *without tariffs, quotas*, or other restrictions. Trade restrictions have been reduced in the past few years — mainly amongst members of trading blocs
Why do governments restrict trade to protect against dumping
when companies *sell goods abroad* at a *price that's below the production cost* to try to *force other countries' domestic producers out of business.*
What are the disadvantages of international trade (5)
- *Higher transport costs.* - *Increases globalisation*, which has its *disadvantages.* - *Currency exchanges* can result in *financial losses*. - *Costs to firms* e.g complying with *other countries legal and technical requirements.* - Making *changes to products via language* or complying with *different wants from oversea customers.*
What are the impacts of protectionist policies on the government (3)
- *Once trade barriers are in place, it can be difficult to remove them* — *industries may depend on them to survive*, so removing them could destroy domestic industries - Trade barriers imposed by one country may lead to *retaliation by other countries *— a '*trade war*'. It *reduces world trade*, worsening other problems — e.g. there'll be a *further misallocation of resources* caused by *inefficiency and a lack of specialisation.* - Governments *make more revenue*
What are the disadvantages of specialisation (5)
- *Over reliance on one industry.* - if something happened to *negatively affect that industry,* it would have a severe *impact on the whole economy* - *Shutting down of domestic industries* due to *foreign firms being better at producing.* - *Vulnerable to cuts of supply of goods they don't produce themselves e.g. oil supply in 1970s*. - *Other industries may decline as focus isn't on them*. - Workers may have *structural unemployment* as they *don't possess the skills of the specialised good/service*.
What are the impacts of protectionist policies on producers (2)
- *Restricting imports reduces specialisation*, *diverting resources away from their most efficient* use — this *reduces allocative and productive efficiency* - If *demand for imports is high*, this could be due to *poor domestic efficiency* — a *lack of competition * doesn't encourage firms to improve their efficiency, so there'll continue to be a *misallocation of resources*.
What are the impacts of government protectionist policies on consumers, living standards and equality (3)
- Protectionism *reduces choice* for consumers - Protectionism will mean *prices tend to be higher *(for both *consumers and producers)* - If the *prices of everyday goods* (e.g. food) *rise*, this will have a *bigger impact on the poor than on the rich*. As a result, there might be an *increase in inequality,* and it's likely that *living standards will fall*.
What are the advantages of specialisation (3)
- Worlds *resources are more efficiently used.* - *Global output is increased.* - *Costs are reduced*, which can be passed on to consumers in the form of *lower prices* which *increase living standards*
What are the assumptions made in comparative advantage (5) (makes it hard to apply to real world)
- it assumes that there are *no economies or diseconomies of scale* - there are *no transport costs or barriers to trade,* e.g. a country may impose trade restrictions on countries with a higher comparative advantage to reduce competition - there's *perfect knowledge*, - and that *factors of production are mobile*. - Also, *externalities are ignored.*
What are bilateral and multilateral trading blocs
1) *Bilateral agreements* are *between two countries* or *trading blocs*, e.g. between the EU and one other country. 2) *Multilateral* agreements are *between more than two countries or trading blocs.*
How has trade between different countries changed over the past 100 years (changes in types of items traded by different types of countries)
1) 100 years ago, *developed countries,* such as the UK, had a *comparative advantage in manufactured goods*, whereas *developing countries* had a *comparative advantage in primary goods*, such as *commodities*. 2) *Most trade* took place *between developed and developing countries*. 3) Now, *developed countries* have a *comparative advantage* in high value, *technologically advanced, capital-intensive products*, and *developing countries* tend to have a *comparative advantage* in *low value, labour-intensive products and manufactured goods*. 4) *Developed countries* do *most of their trade* with *other developed countries*. 5) *Developing countries* also tend to do *most of their trade* with *developed countries*
How has the *impact of emerging countries and changes in comparative advantage* changed the patterns of trade between countries
1) Emerging economies, such as *China and India,* have had a *big impact* on the *recent pattern of world trade*. China and India are both now *important global traders*. 2) China is the *largest exporter* and the *second largest importer* of goods in the world. Its main exports are *electronic equipment and machinery*. 3) China's *high-tech industry* has seen *rapid growth* (due to *an increased comparative advantage*) in recent years — it's now the *largest exporter of high-tech goods. * 4) *India's* main goods *exports are fuels and materials,* e.g. glass. It's also a big exporter of services, such as *IT services*.
example of comparative advantage ?????????
1. Japan has an abundance of iron ore (to make steel) 2. Japan uses this steel to manufacture cars 3. It is cheaper for Japan to build cars because they are is using the resources available to them. 4. When Japan sells their cars, they will make more profit because it was cheaper to make.
How can production possibility frontiers show a countries comparative advantage
2) The diagram shows the PPF curves for the two countries — e.g. *if USA produces only computers, it can produce 24 (million) units*. 3) The *gradient indicates* *which country has the comparative advantage* in each good. The *steeper gradient *of Mexico PPF shows it *has the comparative advantage in shirts,* whereas the *gentler gradient* of USA PPF shows it has the *comparative advantage in computers. * 4) By using *specialisation and trade*, countries can *consume outside of their PPF*. 5) For example, USA splits production, so it produces 12 computers and 12 shirts, and Mexico produces 12 shirts and no computers. If Mexico exports 6 shirts to USA, and USA exports 12 computers to country B, then *USA will consume at point P and Mexico will consume at point Q — which are both beyond their PPFs*.
Example absolute advantage
Assumptions: - There are *only 2 countries - X and Y* in the world - They only produce *computers and cars* - Each country *splits its resources equally* to *produce the two goods* - Country X has an *absolute advantage in computers* and cars* - Country X could *specialise and only produce computers* which would *double the numbers of computers it produces to 200* but *produce 0 cars* (resources equally split) - Country Y could *specialise and only produce cars* which would *double the numbers of cars it produces to 80* but *produce 0 computers* (resources equally split) *Through specialisation*, *more output* is produced using the *same amount of resources* — so the *cost per unit is reduced.*
What are factors affecting a country's terms of trade (5)
Changes in: • relative inflation rates • relative productivity rates • relative labour costs • the exchange rate • the prices of imports and exports.
What are the benefits of trade unions on costs of transportation and movement of factors of production
Costs of transportation are reduced (no tariffs) and countries are able to *freely move their factors of production*
Why does fully specialising not always increase total output of both goods
For example, if a , if the countries *specialise FULLY* in the goods they have a *comparative advantage* in, *allocating all of their resources to one product*, total output of coffee will increase from 4000 to 6000 units, but total output of wheat will decrease from 5000 to 4000 units However, it may be *more efficient to partially specialise,* which can lead to a *higher overall output* e.g. 5500 coffee and 4000 wheat
How do changes in inflation rates / exchange rates / the price of imports and exports affect a countries terms of trade ????????//
If inflation rates rise / a country's currency value rises relative to other countries, *imports would become cheaper and exports are more expensive* so the countries *average price of exports fall (fewer bought because less internationally competitive)* and *average price of imports will rise* So its *terms of trade will fall*
What does it mean if a country's terms of trade rises and falls and what is the impact of this on the country
If the *price of a country's exports rises*, but the *price of its imports stays the same/falls*, its *terms of trade index will increase* — e.g. if a country *exports lots of tea* and the *price of tea rises*, its *terms of trade index* is *likely to rise* (e.g. from 102 to 120). This increase will mean it'll effectively become *'better off',* as it'll be able to *afford more imports.* And if a *country's terms of trade index falls* (e.g. from 110 to 105), it'll *effectively be worse off*.
How would a rise in the terms of trade of a country affect its balance of payments (BOP)
If the terms of trade rises either the *exports of a country rises or imports fall or both* so there will be a *current account surplus* (more exports, less imports) If the terms of trade falls either the *exports of a country falls or imports rise or both* so there will be a *current account deficit* (less exports, more imports)
How can you show tariffs on a (domestic) supply demand curve
In this example, a fixed tariff per unit is imposed on imports — this *increases the price for domestic consumers* from Pe to P1 . The tariff is P1 minus Pe : • Domestic *demand reduces* from E to C. • The *consumer surplus reduces* from Pe NJ to P1 NL. • Domestic *supply increases* from Qs1 to Qs2. • The *level of imports falls* from Qs1Qc1 to Qs2Qc2. • The domestic *producer surplus increases* • The *level of tax revenue raised* by the government is the *area* shown *in blue*. • There's a *net welfare loss* shown in the *red triangles*
How does international trade lead to countries specialising
International trade allows countries to *specialise* in the *goods and services* they're *best at producing*. Countries specialise because: • They have the *resources* to *produce the good or service efficiently*. • They're *better than other countries* at *producing the good or service.*
How has changes in protectionism between countries influenced patterns of trade ??????
Some countries e.g. USA may want to protect their domestic industries from *international competition* e.g. from China by imposing tariffs/trade restrictions. This *reduces imports to that country*
How can subsidies act as trade restictions
Subsidies can be given to *domestic producers* — this *reduces the cost of production* of domestic products, making them *cheaper to buy*, but subsidies can be *costly to a government*
What are tariffs and quotas
Tariffs can be imposed in the form of a *tax on selected imports*. This makes *imports more expensive*, which helps *domestic manufacturers to compete* and *raises tax revenue for the government.* *Quotas limit the quantity of a certain good that can be imported* — any demand for the good above the quota will be diverted to domestic products.
How has the growth in trading blocs and bilateral trading agreements influenced patterns of trade
The *growth of trading blocs* has contributed to *changes in world trade patterns.* For example, the *EU originally had 6 member* states in the *1950s,* and *now has 28 members. *As a result, there has been *increased trade* between members.
How can the WTO help developing countries develop?
The WTO played a part in the *reduction of subsidies* on the EU's agricultural goods — this reduction has led to developing nations' agricultural products becoming *more competitive*. Developing countries might be *prevented from protecting infant industries by WTO policies* — stopping them from diversifying away from agriculture. Not only will this *harm individual economies*, but it might hold back worldwide improvements in efficiency, e.g. through specialisation. However, *free trade* has been a *major factor* in the *rapid economic development* of nations such as *China and India*
What is the role of the World Trade Organization (WTO) in trade liberalisation.
The World Trade Organisation (WTO) *aims to help trade to be as free as possible*. It's an international organisation which provides a forum for its member *governments to discuss trade agreements and settle disputes,* using a set of *trade rules*. The WTO currently has *over 150 members,* including the countries with the *biggest economies.* The WTO has played a *big part in the movement towards free trade in recent years*
What are the impacts if a country's terms of trade rises on living standards
The country's living standards will increase as there are *cheaper goods from more imports* and more *consumer choice* ???? e.g. UK
What are custom unions
These are *free trade areas* where there are also *STANDARD tariffs imposed on non-members*. For example, the EU or Mercosur (made up of some South American countries).
What are common markets (or single markets)
These are customs unions with the *addition of the free movement of factors of production between members*. For example, the *Single European Market (SEM)*
How is trade diversion a drawback of trade blocs and how does this *conflict with the WTO objectives*
Trading blocs can also lead to *trade diversion* — if trade *barriers are imposed on non-members,* trade will be *diverted away from any cheaper non-members.* So countries outside the trading bloc *aren't able to fully use their comparative advantage* by specialising, as *trade is restricted*. This *conflicts with WTO objectives*, as it *interferes with COMPETITION,* *preventing the lowest-cost, most efficient products from being traded.*
How is trade creation a benefit of trade blocs
Trading blocs can lead to *trade creation* — this is when *patterns of trade change* after *barriers are removed,* as a result of *products being bought from the cheapest source*. Removing barriers also allows countries within the *trading bloc to specialise in the products* where they have a *comparative advantage*. This *helps with WTO objectives, as it opens up trade*, *encouraging competitiveness* and therefore *improving efficiency*
How is trade diverted and consumption decreased (by costs and prices) when countries join trade unions
When *tariffs are imposed on non-members*, the price of the *imported good rises*, so *demand and consumption fall* however, only *more expensive alternatives are imported from member countries* So, *trade is diverted* away from the *most efficient producer*
How is trade created and consumption increased (by costs and prices) when countries join trade unions
When countries join trade unions, *tariffs are removed* so *imported goods are cheaper* from countries with a *comparative advantage.* This increases *demand for these goods * (however, governments *lose tariff revenue)* and the *consumer surplus is increased*
What are some main agreements that WTO members must follow
• Countries must *treat all their trading partners*, and *foreign and domestic goods, equally*. • The WTO wants to *encourage competitiveness* and *discourage trade barriers, such as subsidies*
What are the types of trading blocs (4)
• free-trade areas • customs unions • common markets • economic and monetary unions.
Why is free trade restricted (6)
• to *protect infant and geriatric industries* • to *protect domestic industries* and *employment* • to *protect national security* ????????? • to *prevent dumping* • to *correct a deficit in the current account* of the BOP • to *raise revenue*
What are economic and monetary unions
*Economic unions* — trading blocs might be referred to as economic unions when their *economies become more integrated*, e.g. member states *adopt the same, or similar, economic policies*, regulations and rules. *Monetary unions* — members implement a *single, common currency*, and therefore have a *common monetary policy,* usually controlled by a *central bank*. For example, the *Eurozone.* Economic and monetary union — a *monetary union will usually also be an economic union*, so it might be *referred to as an economic and monetary union*.
What are free trade areas
*all barriers* to trade are *removed between members*, but *individual* members can still *impose barriers on outside countries*. For example, the North American Free Trade Agreement *(NAFTA).*
How do changes in productivity affect a country's terms of trade
*increasing productivity* (e.g. the output per worker per hour) will *reduce unit labor costs* — (i.e. *all other things being equal*), higher productivity means *greater competitiveness* so a *higher price of exports* and the *terms of trade will rise*
How do changes in labor costs affect a country's terms of trade
*unit labor costs measure the cost of the labor needed to generate output.* If one country has *lower unit labor costs* than another country, then (all other things being equal) that *country will be more competitive* — i.e. better able to sell its products. So the *export prices will rise* so the *terms of trade rises*
What is comparative advantage
the ability for a *country produce a good at a LOWER opportunity cost than another producer country* e.g. USA outsources *Bangladesh to produce shirts* and cloaks despite the *USA being able to produce it more efficiently* because it would have a *greater opportunity cost (e.g. less drugs, cars and planes can be produced)* if they produce their own clothes, so *both countries benefit from specialisation* and *Bangladesh has a greater comparative advantage over the USA*
What are benefits of international trade (4)
• *Countries can't produce all* the things they want or need because resources are *unevenly distributed.* *International trade, which is the exchange of goods and services between countries* (i.e. imports and exports), can give countries *access to resources* and products they otherwise wouldn't be able to use — countries can export goods in order to *import the things they can't produce themselves*. • By trading internationally, not only do a country's *consumers enjoy a larger variety of goods* and services, but *increased competition* resulting in *lower prices* and more product *innovation* — so people's *standards of living are raised* by having *more choice*, and *better quality and cheaper products*. • *Additional markets* (i.e. markets abroad) allow firms to *exploit more economies of scale* — if the additional markets mean there's an *increase in demand for their products. * • International trade can also expose firms to *new ideas and skills* — for example, an *MNC might bring new manufacturing skills to a developing country*.
What are some non tariff barrier methods that restrict free trade (3)
• *Embargoes (bans)* can be *imposed on certain products *— these are usually restricted to extreme cases, e.g. drugs or elephant ivory, but may also be for political reasons, e.g. if two countries are having a disagreement, they might impose embargoes on imports from each other. • The *value of the currency can be reduced* — this *raises the price of foreign imports* and *lowers the price of domestic exports.* • *Tight product standard regulations can be imposed* — foreign products which don't comply with the requirements *cannot be imported*. e.g. high safety standards, or* low emissions requirements*. These might be used for environmental or consumer protection.
What are the benefits of trade for developed countries (2)
• *Imports* are crucial to *maintaining high standards of living* in developed countries. • Products will often be *cheaper* when bought from abroad — e.g. due to increased competition and *cheaper labor* in developing countries.
What are the benefits of trade to developing and emerging countries
• Developing countries can *import goods they don't* have the *technology to produce themselves*, which results in a *higher standard of living.* • Trade also gives *developing countries access to new materials*, meaning *new industries* will be created because they can *produce new products*. This will help to *improve the economies* of developing countries. *Emerging economies* will experience some of the *benefits of both developed and developing countries*. For example, emerging economies will be able to purchase *cheaper products from developing countries,* and they'll also *benefit from importing *products and services they *don't have the technology* to produce themselves.
Why do governments restrict trade to correct a deficit in the current account of the BOP
• Governments might impose *restrictions on imports* — for example, a government might impose *tariffs* on imports to make them *relatively more expensive* (compared to domestic goods) for *domestic consumers.* So, more exports, *less imports* However, this risks *breaking WTO agreements* and starting *trade wars*
How does the common agricultural policy (CAP) in the EU limit the development of developing countries
• The *CAP* uses measures such as *subsidies and buffer stocks*, along with *import restrictions* on goods from outside the EU, to *guarantee a minimum price* for many *agricultural products*. • When *stocks build up*, *governments sell these excess stocks at a low price outside of the EU* — this *harms farmers outside the EU*, including in developing countries, who *cannot compete with such low prices*.
Why do governments restrict trade to protect infant industries and job losses
• To protect jobs — there might be a *risk of too many job losses* if *domestic firms are outcompeted* by foreign firms. • To protect infant industries — *industries that are just starting out*, particularly in developing countries, *struggle to compete with international companies*. Governments might choose to impose trade barriers until the companies are *big enough to compete. *
What are the causes of changes in patterns of trade over the last 100 years (5)
• impact of emerging economies (China and India) • changes in comparative advantage • growth in trading blocs and bilateral trading agreements • changes in relative exchange rates • changes in protectionism between countries
What are the types of restrictions on free trade (4)
• tariffs • quotas • non-tariff barriers • subsidies to domestic producers.
