A2 econ session 3

A Level Economics – Year 2 (A2) Revision Workshop

Session 3International Trade and Exchange Rates

26

Welcome Back

Settle down quickly and get ready to playThe Great Economics Snail Race

Meet Winston. He’s representing the UK in ‘The Great Economics Snail Race’! He is going to compete against snails from other countries over 4 different heats. Your task is to decide which position you think that Winston will finish (out of 5)

and which snail will win in each race.

Get ready to start!

China

Spain

Australia

India

UK

6.4%

3.5%

2.5%

7.4%

1.9%

2nd

3rd

4th

1st

5th

Which of these countries had the highest annualrise in GDP (as a percentage) in 2015?

1

Italy

France

Japan

USA

UK

11.4%

10.6%

3.3%

5.0%

5.1%

5th

4th

1st

2nd

3rd

Which of these countries had the lowest rate ofunemployment (LFS measure) in 2015?

2

Spain

Japan

USA

France

UK

97.7%

230.00%

102.98%

95.0%

89.4%

3rd

5th

4th

2nd

1st

Which of these countries had the lowest Government debt(as a percentage of GDP) in 2015?

3

China

Russia

Brazil

Germany

UK

1.6%

12.9%

10.7%

0.5%

0.2%

1st

5th

4th

2nd

3rd

Which of these countries had an inflation ratethat was closest to 2.0% in 2015?

4


Session 3International Trade and Exchange Rates

26


Session 3 Outline26

The changing pattern of global trade

The balance of payments, and current account deficits

Theories of free trade and protectionism

Analysis and evaluation of exchange rate systems


What is “global trade”?26

The global trade flow associated with production

of the England football team’s suits for Euro 2016


What is “global trade”?26

The global trade flow associated with production

of tennis balls for Wimbledon


The changing pattern of global trade

26

• China’s growth in exports (due to WTO membership & relaxing of trade barriers)

• Improvements in global transport and communications links

• Increase in scale/scope of global production chains

• Credit Crunch still affecting access to trade credit• Some countries increased barriers to trade following

recession to protect their economies

• 50% • 25%

• 16%• 6%


Relative share of world exports26

The EU continues to have the highest share –

but its share is falling

China is the only country/region that has seen an increase in its

share of exports

Russia continues to have the lowest share –

out of the countries shown

The US share has fallen, but its decline has stalled since 2006


Using the chart, identify….• The only sector in which Emerging Asia will see a decline in its world

share • The two sectors in which the US and Canada will see an increase in

their world share• The only sector in which Africa will see a decline in its world share• Which region currently has just a 1% share in the export of

manufactures• Which region is expected to have a 30% share in the export of

agricultural goods by 2060

26

Energy

Agriculture and Energy

Agriculture

Africa

US & Canada


Drivers of change in the global trade pattern

27

• Slowdown in China, not matched by boom elsewhere (yet!)• Increased “protectionist mood” – anti-immigrant policies, “buy local” programmes, new

“Cold War”• Gains from improved transport and communications tech already heavily exploited

• “Death of Distance”• Process of increased interconnectedness across the globe; increasingly integrated

markets, cultures, policies, economies and industries

• International organisations – WTO, IMF, World Bank, NATO, UN• Agreements on freer movement of goods, services, capital and labour• Technology (e.g. communication & transport) allowing global production / rise of MNCs /

global media / containerisation / global financial system

• Increasing role of governments rather than free markets following the financial crisis• Trade blocs promote trade diversion away from the rest of the world• Reduced free movement of labour – tighter visa regs, border checks etc (terrorist threat)


The Balance of Payments Accounts - Outline

27

Visible Trade (UK -£123.7bn)

Invisible Trade (UK £89.1bn)

“Primary Income” (UK -£33.1bn)

“Secondary Income” (UK -£25.1bn)

Transfer of asset ownership & debt forgiveness (UK -£0.8bn)

FDI / shares (UK £73.9bn)

Currency, deposits etc (UK £81.0bn)

Gold, SDR (UK £7.1bn)


Why is a current account deficit harmful?

28

• Deficit a sign of undesirable / uncompetitive exports – leads to reduction in AD, increase in structural unemployment which is expensive to tackle

• Example: possibly the US with its strong $ and inefficient production facilities

Structural issues (unemployment and

growth)

• Dependent on importing food and essential items, which can be problematic politically and cause imported inflation; indicates lack of diversity

• Example: Ethiopia remains dependent on food imports

Over-reliance on other countries

• The BOP must balance, so a deficit on the current account could be financed by hot money / currency on the financial account – hot money is “footloose” and can cause a currency crisis

• Example: many South American countries are struggling following the US interest rate increase

Financed by hot money


Why is a current account deficit not harmful?

28

• During times of economic boom, incomes rise and with a high MPM, demand for imports will rise (luxuries, choice etc)

• Example: deficits caused by imports of oil, whose price fluctuates alongside the economic cycle

May be cyclical

• This is the case for many LEDCs – such imports increase LRAS and allow non-inflationary economic growth, which can lead to development

• Example: South Korea’s Import Substitution Industrialisation policy encouraged imports of tech and capital, but not imports of consumer goods and services

May be importing technology and capital

• Because the BoP must balance, there could be an inflow of FDI on the financial account – this increases capital, and therefore AS, leading to LR growth, and a chance to build an export market

• Example: UK manufacturing and hi-tech industry

Accompanied by strong inwards FDI


Do people care about BoP issues?28


28

Producing for a larger worldwide market means that businesses can benefit from economies of

scale

Competition forces prices down due to increased number of

suppliers, and lower production costs

Greater variety of goods and services, different cultures and

their products

Greater specialisation according to comparative advantage allows

output to increase from the same inputs

Countries that trade with each other rarely go to war –

improves international relations and global confidence

Trade is not just in consumer goods but in capital goods. Also

MNCs and global production encourages diffusion.


Theory of Comparative Advantage

28

Phon

es

Jeans

120

70

Phon

es

Jeans

90

60

A B

Countries should specialise in producing the goods that they can produce at a lower opportunity cost than other countries and then trade. Total world output will rise as a result of the increase in productivity.

Which country has an absolute advantage in producing phones and jeans?



28

Phon

es

Jeans

120

70

Phon

es

Jeans

90

60

A B


Which country has comparative advantage in producing phones?

Give up 0.583 jeans to make 1

phone

Give up 0.667 jeans to make 1

phone

Country A has the comparative advantage in producing phones



28

Phon

es

Jeans

120

70

Phon

es

Jeans

90

60

A B


Which country has comparative advantage in producing jeans?

Give up 1.71 phones to make 1 pair of jeans

Give up 1.5 phones to make 1 pair of jeans

Country B has the comparative advantage in producing jeans


Problems with the theory of comparative advantage

28

Ignores transport

costs

Ignores externalities

Assumes perfect factor

mobility

Assumes constant

opportunity cost

Static rather than dynamic

Ignores “strategic

industries”

Overly simplistic


Types of protectionist measures29

Tariffs

Quotas

Embargoes

Non-tariff barriers /red tape

Export subsidies

Boeing (US) & Airbus

(France)

China’s hefty tariffs on US

poultry

Algeria’s car import quotas

– and Volkswagen’s production in

AlgeriaEU and Russia sanctions

Safety regulations on

imports


The Tariff Diagram29

A B

ABCD

C D


Why do countries use protectionist measures?

29

Infant industry and sunset industry argument• New industries need time to benefit from economies of scale and become competitive enough to survive international

competition; in old industries, workers need time to retrain

Improve economic diversity

• Economies don’t want to suffer from a “resource curse” or struggle with over-reliance on one industry

Protect jobs and encourage growth• Import Substitution strategies can increase AD, and since demand for labour is a derived demand, jobs are protected

Strategic industries argument• These could include food, weapons, energy, water etc


29Protectionist measures can protect jobs, especially for low-paid or low-skilled workers who would otherwise struggle to find work

Low-skilled workers are often occupationally and geographically immobile, and may work in industries which are increasingly suffering from competition from low-cost producers overseas

Thousands of jobs in the UK were lost in 2015 from the closure of Tata’s and SSI’s steel-plants in places such as Scunthorpe and Glasgow due to Chinese competition. Many workers and MPs believe that subsidies would have helped prevent the crisis.

However, overseas manufacturers are more competitive and efficient, so it is better for the UK economy if cheap steel is imported – it keeps down cost-push inflationary pressures, and can stimulate steel-using UK industries, such as car manufacturing.

Furthermore, steel subsidies to protect against overseas competition would be expensive and difficult to justify in the current economic climate of continued austerity. The money could be better spent providing retraining for displaced workers.

The benefits of protectionist measures, such as subsidies, in order to protect jobs, will only be felt in the short-term; in the long term they are likely to prove too costly. The gov’t should instead help with retraining and improving occupational mobility of steel workers.


Exchange Rates – Key Terms30


Exchange Rates – Key Terms30


Exchange rate movements – appreciation or depreciation?

31

Increased demand for £

Decreased demand for £

Inc D for £

Decreased supply of £

Increased supply of £


Additional ActivitiesMore detail on the changing nature of international trade

Calculating comparative and absolute advantage

Analysis of the role of the WTO

Understanding Optimal Currency Areas

Evaluating Brexit

Types / levels of economic integration

Evaluating the impact of changing exchange rates

32

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A2 econ session 3

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