International Trade

1
AS Economics
International Trade
Tutor2u Mrs G
2
Aims

• To recap the knowledge of Balance of Payments
• To understand the positive and negative
  implications of international 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

3
What is meant by

• Trade?

4
Trade
5
Trade (2)
6
What is Free Trade?

• Free trade represents trade between countries
  without the introduction of artificial barriers
• International trade reflects exchange and
  specialization
• Exchange countries supply goods and services
  that they can produce relatively cheaply and buy
  products from other countries that they would
  find relatively expensive to produce
• Specialisation benefits from trade are increased
  if there are economies of scale from production
  and if countries specialise their resources in
  producing certain commodities

7
What is Free Trade?

• In an open economy, one nation trades openly with
  other
• Trade in goods
• Trade in services
• Free flow of financial capital
• Free flow of labour resources

8
Intra-Firm Trade

• Intra-firm trade is becoming increasingly
  important
• For example a USA fruit drinks manufacturer might
  export some of its raw materials to the UK to
  produce fruit juices that are manufactured /
  bottled and distributed to the UK and Western
  European markets

9
Why trade?
10
The Potential Advantages from Trade (1)

• Competition
• Increased competition for suppliers
• Greater pressure on businesses to keep their
  costs and prices down
• Increased competition can lead to a dilution of
  monopoly power which reduces the potential for
  exploiting consumers
• This leads to an improvement in the allocative
  efficiency of scarce resources

11
The Potential Advantages from Trade (2)

• Comparative Advantage
• If other countries can supply certain goods and
  services more efficiently it makes economic
  sense for them to do so
• This makes use of the principle of comparative
  advantage
• It also leads to an improvement in overall
  productive efficiency

12
The Potential Advantages from Trade (3)

• Improvements in dynamic efficiency
• Trade tends to speed up the pace of technological
  progress and innovation across different
  industries
• Trade provides more choice for consumers
• Dynamic efficiency gains become apparent over
  time for example improvements in the quality
  and performance of products at a given price

13
The Potential Advantages from Trade (4)

• Economies of scale (lower LRAC) representing
  gains in productive efficiency and leading to
  higher profits and lower prices for consumers

Could you draw me an economies of scale diagram?
14
Economies of scale
ILLUSTRATING ECONOMIES AND DISECONOMIES OF SCALE
Productive efficiency in the long run is achieved
when output is produced at the bottom of the long
run average cost curve
Costs
SRAC1
SRAC3
SRAC2
AC1
LRAC
AC2
AC3
Output (Q)
Q1
Q2
Q3
15
The Potential Advantages from Trade (5)

• Trade is seen as a stimulant to short term
  aggregate demand and long run economic growth
• Exports are an injection of aggregate demand
• A boost to exports will have multiplier effects
  on the level of equilibrium national income
• There may be extra supply-side improvements from
  increased capital investment between companies
  and countries engaged in international trade

16
Micro and Macroeconomic Gains
International Trade
17
Concept of Comparative Advantage

• First developed by David Ricardo, one of the
  founding fathers 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
  export products which use intensively the factors
  which it is best endowed
• Exports used to finance imports of other products

18
Importance of trade for developing countries
Importance of trade for developing countries
19
Balance of Payments
20
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 in X???

21
Short run V long run deficit!

• In the Short run.
• A deficit might mean that UK households have a
  better standard of living

• In the Long run
• A deficit might cause UK businesses to suffer,
  rising unemployment . and falling standards of
  living!

22
Curing BoP deficit

• Deflation
• Direct controls
• Devaluation

The 3 Ds
All have issues with use!
23
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!

24
Curing BoP surplus

• Reflation
• Remove import controls
• Revaluation

The 3 Rs
All have issues with use!
25
Whos in the top 5 for .

• Surplus

• Deficit

There are 164 countries 64 are in a surplus
100 in a deficit
26
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

27
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.

28
Global Current account position
29
Exchange rates

• The value of the

s
s
s
s
30
Learn this acronym.
S.P.I.C.E.D
31
s

• Strong
• Pound
• Imports
• Cheap
• Exports
• Dear

s
s
s
32
A strong pound pros

• A high pound leads to lower import prices -
• How??????

33
How does a fall in the pound / sterling affect
inflation?

• (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 the amount of spare
  capacity in the economy

34
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 on imported components or who are wishing to
  increase their investment of new technology from
  overseas countries
• A strong exchange rate helps to control inflation
  because domestic producers face stiffer
  international competition from cheaper imports
  and will look to cut their costs accordingly

35
A strong pound cons

• Cheaper imports leads to rising import
  penetration and a larger trade deficit
• Exporters lose price competitiveness and market
  share this can damage profits and employment in
  some sectors.
• If exports fall, this has a negative impact on
  economic growth. Some regions of the economy are
  affected by this more than others
• In the North east for example, manufacturing
  industry accounts for over 28 of regional GDP
  whereas the percentage for the UK as a whole is
  just 19.

36
EXAM SKILL
37

• EXAM PAPER FOR YOU TO DO!
• past papers\AQA-ECN22-W-QP-JAN08.pdf

38
AQA old exam paper Jan 2008.

• Using Extract C, identify two main features in
  the balance of payments on current account in the
  economies shown for the period 2005 to 2007. (4
  marks)
• (b) Extract D (lines 2224) refers to deflation
  in the Japanese economy allowing exports to
  become an important driver for economic growth.
  Explain how falling prices might help to
  stimulate the economic growth of a country in
  this way. (6 marks)
• (c) Using the data and your economic knowledge,
  evaluate the possible consequences for UK
  macroeconomic performance if the euro area and
  the US seek to reduce their balance of payments
  deficits on current account. (15 marks)