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OCRALevelEconomicsCourseCompanionYear2MacroTopicsTheGlobalContext
Author:GeoffRiley
www.tutor2u.net
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TableofContentsGlobalisation......................................................................................................................................5KeyCausesofGlobalisation...........................................................................................................6ImpactofGlobalisation–KeyGains...............................................................................................6MainDisadvantages/CostsfromGlobalisation............................................................................6GlobalisationandExternalEconomicShocks.................................................................................7Impactofmultinationals(MNCs)...................................................................................................9ControllingGlobalCompanies(Transnationals)...........................................................................11
InternationalTrade..........................................................................................................................13AbsoluteandComparativeAdvantage.........................................................................................15TheBasicModelofComparativeAdvantage...............................................................................16AssumptionsbehindTheoryofComparativeAdvantage.............................................................18KeyFactorsDeterminingComparativeAdvantage......................................................................20
RoleofInternationalTradeforDevelopingCountries.....................................................................21PrimaryProductDependence......................................................................................................22PriceVolatilityforPrimaryProducts............................................................................................26
TermsofTrade.................................................................................................................................29RoleofForeignAidandMultilateralAssistance...............................................................................32ForeignAid...................................................................................................................................32EvaluationofForeignAid.............................................................................................................34FairTrade.....................................................................................................................................35TheIMF........................................................................................................................................37TheWorldBank............................................................................................................................37
InternationalCompetitiveness.........................................................................................................39TheBalanceofPayments.................................................................................................................46Thestructureofthebalanceofpayments...................................................................................46CurrentAccountDeficits..............................................................................................................49Policiestoreduceatrade(currentaccount)deficit.....................................................................50TheJCurveEffect.........................................................................................................................51TheMarshallLernerCondition.....................................................................................................52CurrentAccountSurpluses...........................................................................................................52SovereignWealthFunds...............................................................................................................53
ExchangeRatesandExchangeRateSystems...................................................................................55Freelyfloatingexchangerates.....................................................................................................57Causesofchangesintheexchangerate......................................................................................57Theeffectsofexchangeratechanges..........................................................................................59FixedExchangeRates...................................................................................................................61ManagedFloatingExchangeRates...............................................................................................61Evaluationofdifferentexchangeratesystems............................................................................62ImportTariffs................................................................................................................................66Non-TariffBarriers(NTBs)............................................................................................................71ImportQuotas..............................................................................................................................71DomesticSubsidies(&ExportSubsidies).....................................................................................73Argumentsforandagainsttradeprotectionism..........................................................................75ImportDumping...........................................................................................................................77TheWorldTradeOrganisation(WTO)..........................................................................................78StagesofEconomicIntegrationbetweenNations.......................................................................79
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PreferentialTradeAgreements/FreeTradeAreas.....................................................................79CustomsUnions............................................................................................................................80TheEuropeanUnion(EU)SingleMarket......................................................................................85EuropeanMonetaryUnion...........................................................................................................88
TheFinancialSectoroftheEconomy...............................................................................................94Money,CapitalandForeignExchangeMarkets...........................................................................94Roleoffinancialmarketsinthewidereconomy..........................................................................95Therelationshipbetweendebtandequityfinance.....................................................................95Bondpricesandinterestrates.....................................................................................................97
Banking.............................................................................................................................................99CommercialBanks........................................................................................................................99InvestmentBanks.........................................................................................................................99BanksandFacilitatingSaving.....................................................................................................101BanksandFacilitatingLending...................................................................................................101
CentralBanksandMonetaryPolicy...............................................................................................105Mainfunctionsofacentralbank...............................................................................................105WhatisMonetaryPolicy?..........................................................................................................106ExpansionaryandDeflationaryMonetaryPolicy.......................................................................107NegativePolicyInterestRates....................................................................................................108TheKeynesianLiquidityTrap......................................................................................................108QuantitativeEasing(QE)............................................................................................................109
RegulationoftheFinancialSystem................................................................................................109FinancialPolicyCommitteeoftheBankofEngland...................................................................109UKPrudentialRegulationAuthority(PRA).................................................................................110LiquidityRatiosandCapitalRatios.............................................................................................110MarketFailureintheFinancialSector........................................................................................112FinancialMarketFailureinFocus–FinancialInstabilityandthe2008GlobalFinancialCrisis..113WhatisaFinancialCrisis?..........................................................................................................116EconomicandSocialRisksfromFinancialInstability.................................................................118HymanMinsky'sFinancialInstabilityHypothesis.......................................................................1202007-2010GlobalBankingCrisisandAspectsofMarketFailure...............................................120EconomicPolicyResponsetotheGlobalCrisisin2008.............................................................121
Thefinancialsectorindevelopingandemergingeconomies........................................................122Theroleofsavingandinvestment–theHarrodDomarModel.................................................123FinancingGrowthandDevelopment.........................................................................................126Microfinance–GrowthandDevelopment.................................................................................127Foreigndebtanddevelopingcountries......................................................................................128Externaldebtrelief.....................................................................................................................129RemittancesandDevelopmentFinance.....................................................................................130TheForeignCurrencyGapandCapitalFlight.............................................................................132CapitalFlight...............................................................................................................................132
RecaponEconomicGrowthandDevelopment.............................................................................133Whatiseconomicdevelopment?...............................................................................................133TheDifferencebetweenGrowthandDevelopment..................................................................134MainCharacteristicsofEconomicallyLessDevelopedCountries..............................................137IndicatorsofHumanDevelopment............................................................................................141LimitationsoftheHumanDevelopmentIndex..........................................................................143
IncomeandWealthInequality.......................................................................................................146ForeignDirectInvestment(FDI)andDevelopingCountries...........................................................150
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PoliciestoAttractForeignDirectInvestment............................................................................152Evaluatingtheimpactofforeigndirectinvestmentfordevelopingcountries...........................154
Policiestopromoteeconomicgrowthanddevelopment..............................................................156Market-orientedpolicies............................................................................................................157TransitionEconomies.................................................................................................................161GrowthandDevelopmentinChile.............................................................................................162DannyQuah(LSE)onMarket-DrivenDevelopment...................................................................164HaJoonChang(UniversityofCambridge)onStateversustheMarket.....................................165InterventionistStrategies...........................................................................................................166GrowthandDevelopmentinSouthKorea.................................................................................167InterventionistPoliciesandGovernmentFailure.......................................................................169GrowthandDevelopmentinChina............................................................................................170GrowthandDevelopmentinMexico.........................................................................................182GrowthandDevelopmentinZambia.........................................................................................184
Recap:ObjectivesofGovernmentEconomicPolicy.......................................................................189PossibleConflictsbetweenMacroPolicyObjectives.................................................................189TheShortRunPhillipsCurve......................................................................................................190TheLongRunPhillipsCurve.......................................................................................................192PossibleConflictsbetweenGrowthandInflation......................................................................193EconomicGrowthandtheBalanceofPayments.......................................................................195ExternalShocksandMacroPolicyObjectives............................................................................196
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OCR–Year2Macro-TheGlobalContext
GlobalisationWhatisglobalisation?Globalisationisadynamicprocessinwhichnationaleconomieshavebecomeincreasinglyintegratedandinter-dependent.TheOECDdefinesglobalizationas“Thegeographicdispersionofindustrialandserviceactivities,forexampleresearchanddevelopment,sourcingofinputs,productionanddistribution,andthecross-bordernetworkingofcompanies,forexamplethroughjointventuresandthesharingofassets.”PercentageshareofthemainindustrializedandemergingcountriesinglobalGDP(adjustedforpurchasingpower)in2016,Source:IMFWorldOutlook
CharacteristicsofGlobalisation
17.65%15.71%
7.31%
4.15% 3.33% 3.12% 2.62% 2.33% 2.29%
0.0%2.0%4.0%6.0%8.0%
10.0%12.0%14.0%16.0%18.0%20.0%
China USA India Japan Germany Russia Brazil UnitedKingdom
France
ShareinglobalG
DP
TradetoGDPratiosareincreasingformost
countries
ExpansionofFinancialCapitalFlowsbetween
countries
ForeignDirectInvestmentandCross
BorderM&A
Rising number ofglobalbrands– including fromemergingcountries
Deeperspecializationoflabour– componentscome frommany
nations
Globalsupplychains&newtradeand
investmentroutese.g.South-Southtrade
Increasinglevelsofinternationallabour
migrationandmigrationwithincountries
Increasingconnectivityofpeopleand
businessesthroughmobileandWi-Fi
networks
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KeyCausesofGlobalisation1. Containerization–thecostsofoceanshippinghavecomedown,dueto
containerization,bulkshipping,andotherproductionefficiencies2. Technologicalchange–reducingthecostoftransmittingandcommunicating
information–sometimesknownas“thedeathofdistance”–akeyfactorbehindtradeinknowledgeproductsusingwebtechnology
3. Economiesofscale:Manyeconomistsbelievethattherehasbeenanincreaseintheminimumefficientscale(MES)associatedwithsomeindustries
4. Differencesintaxsystems:Manycountrieshaveadjustedtheirtaxsystemstoattractforeigndirectinvestment(FDI)
5. Lessprotectionism–inmanycountries,bordershaveopenedandaverageimporttarifflevelshavefallen–thatsaidinthelastfewyearstherehasbeenariseinnon-tariffbarrierssuchasimportquotas,productregulationsandcurrencymanipulation
ImpactofGlobalisation–KeyGainsSomeofthekeygainsfromglobalisationareasfollows:
1. Itencouragesproducersandconsumerstoreapthebenefitsfromdeeperdivisionoflabourandeconomiesofscale
2. Competitivemarketsreducethescaleofmonopolyprofitsandincentivizebusinessestoseekcost-reducinginnovations
3. Enhancedgrowthhasledtohigherpercapitaincomes–andhelpedmanyofpoorestcountriestoachievehighergrowthandreduceextremepovertytobelow10%oftheworld’spopulation(measuredusinganextremepovertylineof$1.90perdayPPP)
4. Advantagesfromthefreermovementoflabourbetweencountries5. Dynamicefficiencygainsflowingfromthesharing/diffusionofnew
ideas/skills/technologiesacrossnationalborders6. Openingupofcapitalmarketsincreasestheopportunitiesfordevelopingcountriesto
borrowmoneytohelpovercomethelimitsofadomesticsavingsgap7. Increasedawarenessamongpeoplearoundtheworldofthesubstantialchallenges
fromclimatechangeandwealth/incomeinequality8. Competitivepressuresofglobalisationmaypromptimprovedgovernanceandbetter
labourprotectionthroughimprovedbusinessstandardsMainDisadvantages/CostsfromGlobalisation
1. RisingInequality/RelativePoverty-leadingtopoliticalandsocialtensionsandinstabilityasabacklash.
2. ThreatstotheGlobalCommonse.g.threatsofirreversibledamagetoecosystems,landdegradation,deforestation,lossofbio-diversityandthefearsofpermanentshortagesofcleanwater
3. MacroeconomicFragility–inaninter-connectedworldeconomy,externalshocksinregioncanrapidlyspreadtoothercentres–thiscanleadtohighlyvolatilecapitalmovementsandswingsintradeflows
4. TradeImbalances:Increasingtradeimbalancesleadtoprotectionisttensionsandamovetowardsmanagedexchangerates
5. HigherStructuralUnemploymentespeciallyincountrieswheremanufacturingproductionhasshiftedtolowercostcentres,manypreviouslywell-paidwhite-collarjobsinadvancedeconomieshavebeenlostoverthelasttwodecades
6. DominantGlobalBrands–businesseswithdominantbrands,economiesofscaleandsuperiortechnologiesmaysqueezeoutlocalproducerswhohavelessmarketpower
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7. Poorbehaviourofsomeglobalmultinationals–exploitativeconditionsforlowwageworkers,taxavoidance,andfailurestoaddressenvironmentalissues.Taxavoidanceandtaxinversionhavebecomedominantissues.
ProfessorDianeCoyleontheImpactofGlobalisation“Globalisation,farfrommakingtheworldflat,hasthrownintosharperreliefeconomicinequalities.Ithasmadethegeographyofeconomicactivitymoreratherthanlesssalient.”“Thedistributionalconsequencesofglobalisation,drivenbythenewtechnologiesandmanifestedinflowsofgoodsandservices,capitalandpeople,havelongbeenforeseen.Unfortunately,ithastakenagenerationforanypolicyresponsetogetunderway.”
ProfessorDianeCoyle(July2016)ProfessorDaniRodrikontheImpactofGlobalisation“Opennesstotheworldeconomycanbethesourceofmanyeconomicbenefits….Buttheseareonlypotentialbenefits,toberealizedinfullonlywhenthecomplementarypoliciesandinstitutionsareinplacedomestically".“Theseinvolvebothsocialpolicies(especiallyeducation)andpoliciestoassistfirmsthatarebeingleftbehindintheincreasinglycompetitiveworld.”
ProfessorDaniRodrik
GlobalisationandExternalEconomicShocksMostcountriesarevulnerabletointernationalandorregionalexternalshocksthatcanaffectboththedemandandthesupply-sideoftheireconomies.Someofthesearesummarizedinthefollowinggraphic.
TopTenGlobalEconomicRisks2016(Source:EIU)
1. Chinaexperiencesahardlanding2. Russia'sinterventionsinUkraineandSyriaprecedeanew"coldwar"3. Currencyvolatilityculminatesinemergingmarketscorporatedebtcrisis4. "Grexit"isfollowedbyaeurozonebreak-up5. Besetbyexternalandinternalpressures,theEUbeginstofracture
GlobalFinancialCrisis(GFC)
EuroZoneEconomicCrisis
VolatileWorldCommodityPrices
ChinaSlowdown
International&Regional Trade&InvestmentDeals
Currencyvolatilityandpolicychangese.g.
devaluation
Extremeweatherevents Geo-politicaluncertainty&terrorism
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6. Therisingthreatofjihaditerrorismdestabilizestheglobaleconomy7. DonaldTrumpwinstheU.S.presidentialelection(Nov2016)8. TheUKvotestoleavetheEU9. ChineseexpansionismpromptsaclashofarmsintheSouthChinaSea10. Acollapseininvestmentintheoilsectorpromptsafutureoilpriceshock
De-globalisation:SlowdowningrowthofglobaltradeGlobalisationisnotinevitable–indeedsincetheGreatRecessionof2008-09therehasbeenasignificantlyslowergrowthofworldtrade.Itisnowwellbelowthepre-crisistrend.WhyisWorldTradeGrowingSlowlyattheMoment?
1. Weakeconomicgrowthinmanyoftheworld’srichestcountries–indeedsomeeconomistsbelievethatWesternnationsaresufferingfromsecularstagnation
2. Slowingpaceoftradeliberalization.Thebiggainstotradefromcuttingimporttariffsmayhavealreadyhappened.
3. Non-tariffbarriers(NTBs))havegrownandregionaltradeblocssuchasASEANhavebecomemorecommoninplaceofanewglobaltradeagreementwhichremainsalongwayfrombeingachieved
4. Risingprosperityitself.Aspeoplebecomerichertheyspendahigherproportionoftheirincomeonservices,suchaseducation,leisureandhealth–globaltradeinservicesisactuallylowerasashareofGDPthanmanufacturedproducts
5. Technologicalchange–e.g.3Dprintersarebeingusedtomanufactureasetoforderse.g.foraircraftequipmentorartificialjointsusedinmedicine–theynolongerhavetobeshippedaroundtheworld
5060708090
100110120130140150
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
2010
2011
2012
2013
2014
2015
2016
Pre-crisis trend
Index = 100 in 2008
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Impactofmultinationals(MNCs)WhatisaMultinationalCompany(MNC)?
• Amultinationalcompany(MNC)isabusinessthathasoperationsinmorethanonecountry.NotethatabusinessdoesnotbecomeanMNCsimplybecauseitsellsitsgoodsandservicesoverseas.ThekeytobeinganMNCisthatthebusinesshasbusinessoperationsintwoormorecountries.
• Around1,300companiescontrol80percentofglobaloperatingrevenues,with40percentofthiscontrolledbyonly147organisations
KeyReasonsfortheRapidGrowthofMNCs
• Globalbrandsseekingtodriverevenueandprofitgrowthinemergingeconomies(inparticularlyseekingrisingdemandfromincreasinglyaffluentconsumers)
• Thesearchforeconomiesofscale,toreduceunitcostsbyconcentratingproductioninafewkeyinternationallocations
• Theneedtosupplementrelativelyweakdemandinexisting,developedeconomies• Theneedtooperateinmanycountriestoavoidprotectionismsuchasimportquotas• Increasedtakeoveractivitythathasbuiltbusinesseswithinternationaloperations
PotentialBenefitsofMNCstotheCountriesinWhichTheyOperate
1. MNCsprovidesignificantemploymentandtrainingtothelabourforceinthehostcountryhelpingtoraiseemploymentandproductivity
2. Transferofskillsandexpertise,helpingtodevelopthequalityofthehostlabourforce3. MNCsaddtothehostcountryGDPthroughtheirspending,forexamplewithlocal
suppliersandthroughcapitalinvestment–theremightbelargemultipliereffects4. CompetitionfromMNCsactsasanincentivetodomesticfirmsinthehostcountryto
improvetheircompetitiveness,perhapsbyraisingqualityand/orefficiency5. MNCsextendconsumerandbusinesschoiceinthehostcountry6. ProfitableMNCsareasourceofsignificanttaxrevenuesforthehosteconomy(for
exampleonprofitsearnedaswellaspayrollandsales-relatedtaxes)PotentialDrawbacksofMNCActivityinTheCountriesinWhichTheyOperate
1. DomesticbusinessesmaynotbeabletocompetewithMNCsandsomewillfail–forexample,Uberisoneofthefastest-growingMNCsandhasfacedsignificantresistancefromnationalmarketsithasentered
2. MNCsmaynotfeelthattheyneedtomeetthehostcountryexpectationsforactingethicallyand/orinasocially-responsibleway
3. MNCsmaybeaccusedofimposingtheircultureonthehostcountry,perhapsattheexpenseoftherichnessoflocalculture.
4. ProfitsearnedbyMNCsmayberemittedbacktotheMNC'sbasecountryratherthanreinvestedinthehosteconomy.
5. SomeMNCsareaccusedofexploitationofworkingconditionsindevelopingeconomiesinsearchoflowproductioncosts-ThecomplexityofinternationalsupplychainsmakesithardforMNCstocontrol&monitorallaspectsoftheirproduction
6. MNCsmaymakeuseoftransferpricingandothertaxavoidancemeasurestosignificantreducetheprofitsonwhichtheypaytaxtothegovernmentinthehostcountry–highprofilecaseshaveincludedAmazon,Facebook,Google&Starbucks
Brandsthathavebeencaughtoutusingchildlabourorsweatshops
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Example:GlobalGrowthofGoogleasanMNCAnnualrevenueofGooglefrom2002to2015(inbillionU.S.dollars)
Example:GlobalRevenuesforIKEAIKEA'srevenueworldwidefrom2001to2015(inbillioneuros)
TotalnumberofNikeretailstoresworldwidefrom2009to2016
0.4 1.5 3.2 6.110.6
16.621.8 23.7
29.337.9
50.1855.51
65.6774.54
01020304050607080
2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013* 2014 2015
Revenu
einbillionU.S.
dollars
10.4 11 11.4 12.915
17.520 21.5 21.8 23.5 25.2
27.6 28.5 29.332.7
05
101520253035
2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015
Revenu
einbillioneu
ros
Year
674 689756
826753
858931
1,045
0
200
400
600
800
1000
1200
2009 2010 2011 2012 2013 2014 2015 2016
Totalnum
bero
fretailstores
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ControllingGlobalCompanies(Transnationals)CorporatetaxcompetitionIncreasinglytherearetrans-nationalcompanies(TNCs)operatinggloballywhilsttaxpolicyismostlyamatterofnationalgovernments.Foreigndirectinvestmenthasgrownrapidly-wellaheadoftheexpansionofworldGDP.Globalcompanieshavebecomemuchmoreimportantinthelastdecadesbutcorporateincometaxrates(paidonprofits)hasactuallydeclinedasmanycountriesreducetheirtaxratesinbidstoremaincompetitive.Thisissometimescalleda“racetothebottom.”SupportersoflowerbusinesstaxesoftenjustifytheirpoliciesusingtheideaoftheLafferCurve.Criticsofthedropincorporatetaxratesbelievethattaxrevenuesfrommultinationalsbecomeerodedandleavesnationalgovernmentswithlessincometospendonessentialpublicandmeritgoods.Multinationalbusinesseshave-byandlarge-becomemoreprofitable,andperhapstheyshouldbemakingabiggercontributiontonationaltaxreceipts?Corporatetaxisasubstituteforpersonaltaxation.Ifwedon’tcollecttaxesfrombusinesses,householdtaxeswouldhavetobehigherand/orgovernmentspendinglower.Taxavoidance(profitshifting)
• Taxavoidanceisknownasprofitshiftingandcanhappenthroughover-reportingofcostsandunder-reportingofaglobalcorporation’sproductionandrevenues.
• Thereisabigcurrentdebateabouttaxavoidancebymultinationalcompanies.NumerousnewspaperheadlineshavehighlightedallegationsoftaxavoidancebymultinationalssuchasApple,Amazon,Starbucks,IKEAandFiatamongothers.
• TheEUisproposinglegislationthatwillforcecompaniestodisclosetheirearningsandimprovethetransparencyoftheirbusinessmodels.
• GoogleCEOEricSchmidtwasquotedassayingthattaxavoidanceisanaturalfeatureofcapitalism.
The(estimated)scaleoftaxavoidance
• InOctober2015–WaronWantpublishedareportontaxavoidancefromtransnationalcompaniesoperatinginZambia.Accordingtothereport,Zambiaislosing$3billionayearfromcorporatetaxdodging.ThesumisequivalenttonearlytwiceZambia’sspendingonhealthandeducation.
• Oxfamestimatetheannualrevenuelossfordevelopingcountriesfromtaxavoidanceataround$50billion.Rememberhoweverthatalotoftaxavoidanceisdonebyindividualsoperatingintheshadoweconomy.
• TheEUestimatesthatcorporatetaxavoidancecostsmemberstates€50m-€70bnayearinlosttaxes
TaxEvasionTaxevasionisillegalwhereastaxavoidancehappenswhenindividualsandbusinessesfindtaxloopholesthatreducetheamountoftaxtheypay.AccordingtotheFinancialTimesin2013“Muchofthedevelopingworldisstrugglingtotaxgloballymobileprofitsandcapital.Africancountriesarehemorrhagingtensofbillionsofdollarsinpotentialrevenueseachyear.”Transferpricing
• Transferpricingisthepriceatwhichdivisionsofacompanytransactwitheachother.
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• Forexample,amultinationalminingcompanyoperatinginZambiaortheCentralAfricanRepublicmightinvoicetheirparentcompanyforthecostsofconsultancy/engineeringservicesorforloans.
• ThisreducestheirprofitsandthuslowerstheirliabilitytopaycorporationtaxKeyeconomiceffectsofcorporatetaxavoidance:
1. Distortionofmarketcompetitionbetweenmultinationalsanddomesticfirms2. Squeezingoftaxrevenuescanleadtohigherfiscaldeficitsandfewerresourcesforpublic
andmeritgoods3. Hugeexpensesgivenovertotaxplanningbybusinesses9andwealthyindividuals)isa
wasteofscarceresourcesLimitstogovernmentabilitytocontrolglobalcompaniesSomeoftheworld’sbiggesteconomiesarecorporations!
1. Capitalisincreasinglyfootloosemeaningthatforeigndirectinvestment(FDI)canflowtomanydifferentcountriesdependingonfactorssuchasunitlabourcosts,easeofdoingbusiness,capitalcontrolsandgovernmentregulationsonlabourmarketsandtheenvironment
2. Manycountriesrequireinflowsofexternalfinancetohelpsustaingrowthanddevelopment,thepowerrelationshipworksinfavourofmulti-nationalbusinesses
3. Manyoftheworld’sbiggestcorporationshavesignificantmonopsony(buying)powerindifferentcountries–forexamplethebuyingpoweroftheglobalcoffee,copperandrubberprocessingbusinesseswhentheypurchasefromlocalgrowersandminers.
4. Nationalgovernmentsmaybelimitedbytheinternationalagreementstheyhavesignedforexamplefull-membershipoftheWorldTradeOrganisationwhichmightcontrolfreedomtosetimportquotasandtariffs.Indeed,transnationalcorporationshaveusedtheirmoney,sizeandpowertoinfluenceinternationalnegotiationsincludingtradedeals
5. Corporationsoftenhavehugelobbyingbudgetswhichmightbeusedtolobbyagainstnewlegislationthataffectstheirmostprofitableindustries–considerforexamplethelobbyinginfluenceoftobaccoanddrinksbusinessesworldwide.Bigbusinessesmightalsolobbyforexampleagainstimmigrationreformsthatcouldaffecttheirabilitytohirethebestpeoplefromdifferentcountries.
Increasingly,oppositiontotheworstexcessesofcorporatepowercomesfromwell-organisedpressuregroupsandconsumerorganisationsmanyofwhommakeeffectiveuseofsocialmediatohighlighttheirconcernsandseekredress.Inthesummerof2016,theEuropeanCommission(whichisasupra-nationalbodywithresponsibilityforallEUmembernations)announceditwasrequestingAppletopayback$13bnlinkedtoitsIrishtaxscheme.Applehasfacedcriticismforpayinga2percentcorporatetaxrateinIreland,farlowerthantheheadline12.5percentrate.(TherateintheUKis19%).TheAustraliangovernmentisintroducinga“GoogleTax”toreducethescaleof(legal)taxavoidancebyforeignmultinationals.
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InternationalTradeWhatisinternationaltrade?
• Internationaltradeistheexchangeofproducts(goodsandservices)• Tradedoesn’ttakeplacebetweencountries,ittakesplacebetweentheeconomicagents
ofthatcountry,suchasbusinessesorstategovernmentsorevenconsumers• Whentheconditionsareright,externaltradebringsbenefitstoallcountriesinvolvedand
itcanalsobeapowerfuldriverforsustainedGDPgrowthandrisingaveragelivingstandards/improvedeconomicwelfare
WhatisFreeTrade?Thisisinternationaltradefreefromartificialbarrierssuchasimporttariffs,quotasandothertradebarriers.Tradereflectstheimpactofspecialisationandexchange
• Specialization:specialisationofscarceresources• Exchange:basedoncomparativeadvantageinsupplyingdifferentgoodsandservices
DavidRicardointhe19thcenturyproposedatheoryofcomparativeadvantageasakeyeconomicargumentforinternationaltrade.WhatarethemaingainsfromFreeTrade?Onewayofexpressingthegainsfromtradeingoodsandservicesistodistinguishbetween:
• Staticgains(i.e.improvementsinallocativeandproductiveefficiencyinmarkets)• Dynamicgains(i.e.thegainsinwelfarefromimprovedproductquality,increasedchoice
andfasterandmoreinnovativebehaviour).Gains:
• Trademakescountriesbetteroffbyallowingthemtospecialiseaccordingtotheircomparativeadvantage,providingaccesstonewandcheaperimportedgoods,andincreasingcompetitionbetweenproducers
• Dynamicgainsfromtrademakeadomesticeconomymoreproductive.Examplesofpotentialgainsfromtradeliberalizationthatfallintothiscategoryare:
• Diffusionofknowledgeandtechnologyacrossborders• Economiesofscaleinthelongrun(i.e.increasingreturnstoscale)• Increasedcompetitionandinnovationwithinmarkets• Awithin-countryselectionofmoreproductivefirmschallengingformarketshare• Accesstocheaperandmoreproductiveinputsintoacountry’ssupply-chain• Lessrent-seekingbehaviourbymonopolybusinessesandreducedincentivesforcorruption
whichthenaidslong-termdevelopmentSummaryofthekeygainsfromtrade
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SupplyandDemandAnalysistoIllustratesomeoftheGainsfromFreeTradeIntheanalysisdiagramwelookattheEuropeanmarketforcoal.
• TheEUpriceisthepriceiftheonlycoalavailableiscoalsuppliedfromEUcoalproducers• Weassumenon-EUcountriescanexportcoalintotheEUatalowerworldprice.This
causesdemandtoexpandandEUdomesticsupplytocontract• Consumersurplusbeforetrade=areaAED• Consumersurplusaftertrade=areaACB• Therefore,thereisanetgaininconsumerwelfare• Producersurplusbeforetrade=areaEFD• Producersurplusaftertrade=areaCFG• Therefore,thereisanetlossofproducersurplus
Exportrevenuesandjobshelptoreducethescaleofextremepoverty
Increasedmarketcontestabilityreducespricesforconsumers
Betteraccesstonewtechnologiesliftsproductivity
Inflowsofknowledgeacrossbordersraises
humancapital
Exploitingeconomiesofscale– causinglowerunit
costsandprices
Betteruseof scarceresourcesfromtradeinsustainabletechnologies
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AbsoluteandComparativeAdvantage
• Absoluteadvantage:o Thisoccurswhenacountycanproduceaproductusingfewerresourcesthan
anothernationo Ifacountryusingthesamefactorsofproductioncanproducemoreaproduct,then
ithasanabsoluteadvantage• Comparativeadvantage:
o Focusesonwhenacountryhaslowerrelativeopportunitycostwhenitdecidestospecialiseinaparticularproduct
o Opportunitycostisthesacrificeofalternativeproductsmadewhenyouspecialiseinanothergoodorservice
AbsoluteAdvantage–AnExampleOutputwithbothworkershaving10hoursoftimeavailable
BricksLaid CakesBakedHilary 80 20Donald 40 50Total 120 70Inthisexample,assumingbothpeoplehavethesamefactorresource(time)available:
• HilarycanlaymorebricksthanDonald(8-to40)• DonaldcanbakemorecakesthanHilary(50to20)• Hilaryhastheabsoluteadvantageinbrick-laying• Donaldhastheabsoluteadvantageinbakingcakes• Iftheybothbothspecialisefullythentotaloutputcanincrease
Price
Output
EU,Demand
EU,Supply
EU,price
Q,(EU)
Non,EU,SupplyGlobal,price
Q1 Q2
A
BC
DE
F
G