International trade and globalisation

6.1  International specialisation

Specialisation: Process by which individuals, firms & economies concentrate on producing a certain good/service which they have an advantage

• Countries specialising in production where they have a comparative advantage
• Related to division of labour – dividing up of production processes into sequence of different tasks

International specialisation – when countries concentrate on production on certain goods/services due to cost & comparative adv.

Analyse the advantages and disadvantages of worker specializing (8)

Advantages	Disadvantages
Workers concentrate on a particular task Become very good at it ↑ productivity, ↑output, ↑wage, ↓time waste	↑ wage, ↓cop ↓ occupational mobility – difficult to find another careers Task become repetitive – boring – de-motivation – ↓productivity Reply on key workers – if sick/leave – disrupt production process

Describe the benefits and disadvantages of specialisation at regional/national level (8)

Advantages

Disadvantages

↑market size Take advantage of econ of scale eg bulk-buying Become very good at it ↑ productivity, ↑output Making best use of factor endowments Eg natural climate / resources Gain reputation ↑demand for product – purchase goods/services – ↑GDP Ppl go there – ↑labour force

↑ wage, ↓cop ↓ variety for consumers Country becomes vulnerable Demand ↓ due to changing trends New/alternative products available at lower price / better quality elsewhere Overspecialisation – individuals, firms, regions or countries concentrate too much on production on certain good/service ↓ factor endownments – non-renewable resource eg oil – country no income if run out ‘brain drain’ – well-educated workers leave country Regional & structural unemployment

6.2  Globalisation, free trade and protection

Globalisation: process of world’s economies become increasingly interdependent & interconnected due to greater international trade & cultural exchange

Adv	Dis
Create jobs & wealth Enjoy greater econ of scale ↑ choice of goods/services ↑ cultural understanding & appreciation	↑ reliance on other country ↑ income inequality

Role of multinational companies

Multinational corporation (MNCs): an organisation that operates in two or more countries but has its headquarter based in a country eg Apple

Adv

Dis

Create jobs Enjoy greater econ of scale ↑ choice of goods/services ↑ cultural understanding & appreciation Produce in foreign country Avoid trade restrictions eg taxes ↓ transportation costs

Create jobs Criticised for cost-cutting practices eg poor working conditions & low wages in LEDCs Huge market power → exploit econ of scale → local firms struggle to compete When LEDCs rely too much on MNCs → major problems occur when relocation eg mass unemployment Lack of local knowledge eg laws, cause major problems for MNCs Fluctuation exchange rates ↑ difficulty to measure value of MNC’s sales & profits in overseas markets Business failure if doesn’t meet local demand

International trade: exchange of goods/services beyond national borders

Free trade

• international trade takes place without protection eg tariffs
• Is encouraged by organisations eg World Trade Organisation
• Increase world output when each country is specialised in producing certain goods/services they are best at producing
• Can increase standard of living

Adv of international trade

1. Access to resources
2. Enjoy econ of scale
3. ↑ choice
4. ↑ efficiency
5. Improve international relations

Protection: use of trade barriers to restrain foreign trade & limit overseas competition

Methods of protection

1. Tariffs: tax on import products
2. Import quotas: quantitative limit on sale of foreign good
3. Subsides – help firms compete against foreign firms
4. Embargo: ban on trade with certain country due to trade dispute / political conflict
5. Rules & regulations – takes lots of time, ↑ costs for overseas firms

Adv	Dis
Protect infant industries from foreign competition Protect job (tariff) ↑ tax revenue Improve balance of payment Prevent foreign countries (dumping: sell goods/services in large quantities below cop) ↓ reliance on other countries	Market distortions → misallocation of resources e.g firms too reliant on gov, ↓ efficiency ↓ competition & innovation, ↑ cop, imported inflation Retaliation, ↓ economic growth

Explain why gov might decide to protect a strategic industry? (4)

Discuss whether protection of declining industry can be justified (8)

Discuss whether protection of an infant industry can ever be justified (8)

Discuss whether a reduction in country’s trade protection will improve its economic performance (8)

6.3  Foreign exchange rates

Exchange rate

• Price of one currency measured in terms of other currencies
• External value of a currency

Determination of exchange rates in foreign exchange market

• ↓ price, ↑ demand for exports of goods/services
• ↑ country’s currency, ↑ demand for imports

Floating exchange rate system

• Currency determined by market forces of demand & supply for currency
• Appreciation – exchange rate rising against other currencies
• Depreciation – exchange rate falls against other currencies

Advantages

Disadvantages

It should automatically eliminate current account imbalances by floating down when there is a deficit No currency reserves are needed as the government will not intervene to influence the value of the currency No government intervention needed as the exchange rate will be at the market price /determined by supply and demand The exchange rate is not a policy target policy measures do not have to be used to influence its value

Price of exports ↓, quantity of exports demanded ↑, value of exports ↑, net exports ↑ Price of imports ↑, quantity demanded for imports ↓, value of imports ↓ Price of imported raw materials ↑, cop ↑, inflation ↑

Fixed exchange rate system

• Gov intervenes in foreign exchange markets (where different currencies can be bought or sold) to ensure value of its currency staus at pegged value
• Revaluation – currency value raised against other currencies
• Devaluation – currency value reduced against other currencies

Advantages	Disadvantages
↓ uncertainties for international trade Allow firms to be certain about future costs & prices Encourage international trade & exchange Eg HK declines against pegged USD HKMA ↑ demand to ↑ value To prevent HKD falling HKMA buy HKD to ↑ price from foreign exchange markets	↓ country’s ability to use monetary policy Huge opportunity cost in using large amounts of foreign exchange reserves to maintain fixed rate

Exchange rate fluctuations

Causes

Consequences

Changes in demand for exports – ↑ demand ↑ demand for country’s currency ↑ exchange rate Changes in demand for imports – ↑ demand ↑ value of freign currency to facilitate purchase of foreign goods/services Price & inflation – ↑ price of goods/services by domestic inflation, ↓ demand for exports, ↓ exchange rate value Foreign direct investment (FDI) – globalisation & expansion of MNCs mean investment in overseas production plants requires use of foreign currencies Speculation – foreign exchange traders move money around world to take adv of higher interest rates in earn profit Gov intervention

Customers – ↑ purchasing power Exporters – lose Importers – ↑ purchasing power Balance of payment Employment Inflation Economic growth

Coping with high exchange rate

• Cut export prices to main price competitiveness against foreign rivals
• Seek alternative overseas suppliers of cheaper raw materials
• Improve productivity to keep average labour costs under control
• Focus on supplying more price inelastic products coz customers become less sensitive to exchange rate fluctuations
• Focus on non-price factors that are important to overseas customers eg brand awareness
• Relocating production processes overseas, where cop are low

6.4  Current account of balance of payments

Balance of payment: financial record of country’s transactions with the rest of the world for a given time period

Current account: records all exports & imports of goods/services between country & trading partners, and net income transfers

Current account deficit on balance of payment: the combined value of the debit items in the four sections of the current account of the balance of payments is greater than the combined value of the credit items in the four sections of the current account

Current account surplus on balance of payment: the combined value of the debit items in the four sections of the current account of the balance of payments is less than the combined value of the credit items in the four sections of the current account, when the revenue from trade in goods & services exported is less than imported

Structure

1. Trade in goods

Visible balance: trade in physical goods eg raw materials / manufactured goods

Visible exports: goods sold to foreign customers

Visible imports: goods bought by foreign customers

2. Trade in services

Invisible balance: trade in services eg banking / tourism

Invisible export: services sold to a foreign customers

Invisible import: services bought by foreign customers

Primary income (investment income): record country’s net income earned from investments abroad	Secondary income: income transfers between residents & non-residents
Eg Profits earned by subsidiary companies based in overseas countries Interest received from loans and deposits in overseas companies Dividends earned from financial investments in overseas companies Foreign direct investments of individuals or businesses in overseas business ventures Money sent home by people working abroad	Eg Donations to charities abroad Foreign aid Subsidies or grants paid to companies based in overseas locations Payments of pensions to retired people now based in overseas countries Scholarships paid to students based in overseas universities

Calculation of current account

Current account = balance of trade + primary income + secondary income

	Current account deficits: when country spends more money than it earns	Current account surplus: when country exports more than imports
Causes	↓ demand for exports – due to ↓ competition / recession / ↑ exchange rate ↑ demand for imports – due to ↑ exchange rate / domestic inflation	↑ demand for exports – due to ↑ competition / recession / ↓ exchange rate ↓ demand for imports – due to ↓ exchange rate / inflation
Consequences	↓ demand → Unemployment – due to derived demand → ↓ living standards ↑ borrowing ↓ exchange rate → ↑ price of imports	↑ demand → Employment – due to derived demand → ↑ living standards Inflationary pressure – ↑ demand of exports → demand-pull inflation ↑ exchange rate

Explain why large current account deficit is a serious problem. (4)

• Country is consuming more than it is producing, i.e. the country is living beyond its means
• If too many goods are being imported from abroad, not enough is being produced in the home country,↑ unemployment
• Country’s goods X competitive enough on world markets
• ↓ value of the currency → imported inflation
• ↓ exchange rate ↑ price of imports

Current account surplus

The combined value of the debit items in the four sections of the current account of the balance of payments is less than the combined value of the credit items in the four sections of the current account, when the revenue from trade in goods & services exported is less than imported

Adv	Dis
↑ exports means more output is needed, more workers will be needed as demand for labour is a derived demand A surplus means more funds flowing into economy, ↑ total aggregate demand which could generate jobs ↑income, ↑consumption, ↑firms revenue, which could then be reinvested	Exports may be capital-intensive using less labour to produce exports A surplus may create a deficit in another, other countries may not e able to continue buying exports or may impose protectionist policies to prevent future deficits ↑surplus ↑exchange rate, ↓net exports, ↑unemployment

Solutions

• Focus on reducing imports: tariffs, quotas, subsidies, exchange controls, gov encourage ppl to buy home produced products
• Focus on encouraging exports: devaluation/depreciation of exchange rate, subsidies

Policies to achieve balance of payment stability

1. Fiscal policy
2. Monetary policy
3. Supply-side policies
4. Protectionist measures

Exam questions