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AS Economics
International Trade
Tutor2u & Mrs G
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Aims
To recap the knowledge of Balance of Payments
To understand the positive and negative implications ofinternational trade
To consider short run & long impact of international trade
To discuss whether a BoP deficit/surplus can cause problems
How to resolve a BoP deficit/surplus
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What is meant by
Trade?
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Trade
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Trade (2)
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What is Free Trade?
Free trade represents trade between countrieswithout the introduction of artificial barriers
International trade reflects exchange andspecialization
Exchange: countries supply goods and servicesthat they can produce relatively cheaply andbuy products from other countries that they
would find relatively expensive to produce Specialisation: benefits from trade are
increased if there are economies of scale fromproduction and if countries specialise their
resources in producing certain commodities
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What is Free Trade?
In an open economy, one nation tradesopenly with other
Trade in goods
Trade in services
Free flow of financial capital
Free flow of labour resources
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Intra-Firm Trade
Intra-firm trade is becoming increasingly important
For example a USA fruit drinks manufacturer mightexport some of its raw materials to the UK to producefruit juices that are manufactured / bottled and distributed
to the UK and Western European markets
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Why trade?
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The Potential Advantages from Trade (1)
Competition:
Increased competition for suppliers
Greater pressure on businesses to keep their costs andprices down
Increased competition can lead to a dilution of monopolypower which reduces the potential for exploitingconsumers
This leads to an improvement in the allocative efficiencyof scarce resources
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The Potential Advantages from Trade (2)
Comparative Advantage:
If other countries can supply certain goods and servicesmore efficiently it makes economic sense for them todo so
This makes use of the principle of comparativeadvantage
It also leads to an improvement in overall productiveefficiency
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The Potential Advantages from Trade (3)
Improvements in dynamic efficiency
Trade tends to speed up the pace of technologicalprogress and innovation across different industries
Trade provides more choice for consumers
Dynamic efficiency gains become apparent over timefor example improvements in the quality andperformance of products at a given price
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The Potential Advantages from Trade (4)
Economies of scale (lower LRAC) representing gainsin productive efficiency and leading to higher profitsand lower prices for consumers
Could you draw me aneconomies of scale
diagram?
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Economies of scale
Costs
Output (Q)
SRAC1
SRAC2 SRAC3
Q1 Q2 Q3
AC1
AC2AC3
LRAC
ILLUSTRATING ECONOMIES AND DISECONOMIES OF SCALEProductive efficiency in the longrun is achieved when output isproduced at the bottom of thelong run average cost curve
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The Potential Advantages from Trade (5)
Trade is seen as a stimulant to short term aggregatedemand and long run economic growth
Exports are an injection of aggregate demand
A boost to exports will have multiplier effects on the levelof equilibrium national income
There may be extra supply-side improvements fromincreased capital investment between companies andcountries engaged in international trade
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Micro and Macroeconomic Gains
Imports of newtechnologyLRAS effect
Employmentcreation in growth
sectors
Stimulates newcapital investment
and innovation
Makes domesticmarkets morecontestable
Transfer of ideasand best practice -benchmarking
Injection of ADExport led growth
multiplier effects
International Trade
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Concept of Comparative Advantage
First developed by David Ricardo, one of the foundingfathers of classical economics, in 1817
Comparative advantage exists when for a country
The opportunity cost of production is lower
A country is more productively efficient than another
Countries will tend to specialise in and then exportproducts which use intensively the factors which it is best
endowed Exports used to finance imports of other products
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Importance of trade for developing countries
Less dependenceon volatile primary
industries
Imports ofinvestment goods boosts LRAS
Exploitation ofcomparativeadvantage
Transfer oftechnology and
ideas
Employment andhigher real wagesin export sectors
Diversificationinto
manufacturing
Importance of trade fordeveloping countries
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Balance of Payments
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Does a BoP Deficit cause problems?
It depends on the size and nature of the deficit!
The larger the deficit, over a longer period of time the
greater the problems will be!
If its cheap imports & an increase in M???
If its the UK not being competitive and there is a fall inX???
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Short run V long run deficit!
In the Short run.
A deficit might mean that
UK households have abetter standard ofliving
In the Long run
A deficit might cause UK
businesses to suffer,rising unemployment .and falling standards ofliving!
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Curing BoP deficit
Deflation
Direct controls
Devaluation
The 3
Ds
All have issues
with use!
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Can a surplus BoP cause problems?
A surplus suggests lots of economic success
Exporting more than Importing! Again it depends on the
size of the surplus!
And if one country is more successful than others
then this can cause other countries to act to reduce
their deficit and use direct controls!
Surplus can cause inflation as an increase in X = an
injection = outward shift in AD!
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Curing BoP surplus
Reflation
Remove import controls
Revaluation
The 3 Rs
All have issues
with use!
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tutor2u
Whos in the top 5 for .
Surplus Deficit
There are 164 countries
64 are in a surplus&
100 in a deficit
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Surplus
Rank Country Current account balance(million US$)
1China $ 368,200,000,000 2008 est. 2Germany $ 267,100,000,000 2008 est.
3Japan $ 187,800,000,000 2008 est.
4Saudi Arabia $ 141,000,000,000 2008 est. 5Russia $ 97,600,000,000
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Deficit
Rank Country Current account balance(million US$)
5 Turkey $ -51,680,000,000 2008 est. 4 Italy $ -68,820,000,000 2008 est.
3 United Kingdom $ -72,540,000,000 2008 est.
2 Spain $ -152,500,000,000 2008 est. 1 United States $ -568,800,000,000 2008 est.
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Global Current account position
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Exchange rates
The value of the
ss
ss
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Learn this acronym.
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Strong
Pound
Imports
Cheap
Exports
Dear
sss
s
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A strong pound pros
A high pound leads to lower import prices -
How??????
H d f ll i h d / li ff
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How does a fall in the pound / sterling affectinflation?
(1) Weaker pound drives up import prices
Higher import prices drive up firms costs
But these are only one element (wages more important)
(2) Higher import prices feed directly into retail basket
E.g. prices of imported computers, cars, household furniture
(3) Weaker pound leads to stronger aggregate demand growth
Faster growth of exports and a slower growth of imports
(4) Negative income effect lower real incomes for consumers
(5) Positive substitution effect cheaper relative prices of UK output
Stronger aggregate demand increases inflationary pressure depending on theamount of spare capacity in the economy
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A strong pound pros
A high pound leads to lower import prices - This boosts the real living standards of consumers at
least in the short run
Cheaper to import raw materials, components and
capital inputs good news for businesses that rely onimported components or who are wishing to increasetheir investment of new technology from overseascountries
A strong exchange rate helps to control inflationbecause domestic producers face stiffer internationalcompetition from cheaper imports and will look to cuttheir costs accordingly
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A strong pound cons
Cheaper imports leads to rising import penetration anda larger trade deficit
Exporters lose price competitiveness and market share this can damage profits and employment in somesectors.
If exports fall, this has a negative impact on economicgrowth. Some regions of the economy are affected bythis more than others
In the North east for example, manufacturingindustry accounts for over 28% of regional GDPwhereas the percentage for the UK as a whole is
just 19%.
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EXAM SKILL
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EXAM PAPER FOR YOU TO DO!
past papers\AQA-ECN22-W-QP-JAN08.pdf
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t t 2
AQA old exam paper Jan 2008.
Using
Extract C, identify
twomainfeatures in the balance of
payments on current account in theeconomies shown for the period2005 to 2007. (4 marks)
(b) Extract D (lines 2224) refersto deflation in the Japanese
economy allowing exports tobecome an important driver foreconomic growth. Explain howfalling prices might help tostimulate the economic growth of acountry in this way. (6 marks)
(c) Using the data and your
economic knowledge, evaluate thepossible consequences for UKmacroeconomic performance ifthe euro area and the US seek toreduce their balance of paymentsdeficits on current account. (15marks)
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