Entries Tagged 'trade' ↓

In response to a readers question. I wrote an essay on what, if anything, the government can do to reduce the growing UK current account deficit. To be honest, it looks as if there is little that the government is actually likely to do. Many of the text book solutions are not really practical. At the moment, the government are unlikely to see the current account deficit as a serious problem. The most likely scenario is that the government will just hope the economic slowdown helps to reduce the deficit.

• Policies to Reduce a current account deficit
  
• Reasons for Current account deficit
• Current account deficit 2008

Readers Question: explain how membership of the WTO constrains the use of protectionist policies by countries particularly in times of global recession and why?

This is just a brief answer. Membership of the WTO is supposed to regulate member countries to avoid placing tarriff and protectionist policies, without the prior approval of the WTO. In the case of disputes the WTO can get involved; usually they seek to promote free trade policies and are against unilateral increases in tariffs.

In a recession, tariffs often become more politically popular. The reason is that domestic industries see falling demand and falling output. Therefore, they are likely to lost profits. Tariff’s on cheap imports become a tool for possibly improving their business in these difficult times. Governments are more likely to follow the local political pressure and increase tariffs to protect local jobs. However, it is argued that tariffs lead to a deadweight welfare loss and therefore the WTO seek to promote free trade.

Advantages and disadvantages of WTO 

see also: role of WTO 

According to my syllabus i have to have to be able to Evaluate the role and the benefits and disadvantages of capital inflows from MNC’s in an EU context. Could you give me a hand?

Capital inflows from MNC’s primarily refer to inward investment from MNC into European economies.

The effect of these capital inflows involves increased Levels of Investment. MNCs inject investment into the economy. This causes several benefits for the economy.

1. Increased Aggregate Demand. As a component of AD, higher Investment will boost AD, causing improved economic growth. This should lead to lower levels of unemployment.

• However, as a % of AD, inward investment from MNCs are quite small. Therefore, the impact on AD may be quite limited.

• The effect of increased AD depends on the situation of the economy. For example, when Ireland had low growth and high unemployment, inward investment helped to boost the economy. However, if the economy is close to full capacity, increased AD may cause inflation.

2. Increased productive Capacity. Inward investment will not only increase AD, but also increase Aggregate Supply. Investment in new factories increases productive capacity and AS should shift to the right. This enables an increase in economic growth without inflation.

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Readers Question: my syllabus asks me to “Make an appraisal of the competitiveness of British industry in both home and overseas markets” what will i be expected to know in this case?

Firstly, you won’t be expected to know any particular details and statistics of British industry. The most important thing here is an ability to understand the relative importance of different factors that determine the competitiveness of firms, both domestic and international.

It is an important skill to be able to evaluate there relative importance. For example, it is not enough to just say an appreciation reduces competitiveness, you need to think about long term factors as well.

It is important to find exam questions rather than studying the syllabus. Past exam questions are usually the best guide to how you need to prepare.

The competitiveness of British Industry will depend on many factors:

Relative Inflation Rates. If the UK has a higher rate of inflation that its major competitors then our goods will become relatively uncompetitive leading to a fall in demand. Note a rise in global cost push inflation won’t cause a decline in UK competitiveness because it affects all countries equally.

Exchange Rates. The exchange rate will have a significant bearing on the competitiveness of UK exports. A devaluation will cause exports to be cheaper and therefore improve competitiveness.

• However, a devaluation may only cause a temporary improvement in competitiveness. True, it reduces the foreign currency price of our exports, but, it doesn’t affect long term competitiveness. In fact, it is argued devaluation can reduce incentives to cut costs in the long term. Also a devaluation causes rising import prices which increase inflation and will contribute to reduced competitiveness in the long term
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ECONOMISTS are usually accused of three sins: an inability to agree among themselves; stating the obvious; and giving bad advice. In the field of international trade, they would be right to plead not guilty to all three. If there is one proposition with which virtually all economists agree, it is that free trade is almost always better than protection. Yet the underlying theory is not readily understood by non-economists. And the advice that follows from it-protection does not pay-is seldom wrong.

From: Economist 1998

The basic rationale behind free trade is that it can be beneficial to all countries and increase economic welfare. The law of comparative advantage also says that if other countries impose tarriffs on your exports. Your best response is still to have no tariffs on imports. This may sound counter intuitive, but, the argument is that abolishing tariffs will lead to an increase in economic welfare.

Most of the Benefits of Free Trade are here. However, I need to add a diagram showing trade creation and the benefits resulting from removing tariff’s.

However, although the Economist comes out strongly in favour of free trade, not all economists do. There are cases when tariffs might be justified in improving economic development in developing countries.

See arguments against free trade 

Readers Question: What are the effects of the economic decline in America to the country Vietnam?

If the US economy entered into a recession the main effects on other countries would be:

1. Decline in exports. American consumers are a key component of world trade. If there was a decline in exports to America it would lead to lower growth in countries like Vietnam. In certain sectors it could cause a rise in unemployment. There could also be a negative multiplier effect ‘knock on effect’/ The initial fall in exports could cause a bigger fall in Aggregate Demand.

However, it depends on what % of exports are to America. For Vietnam, exports to the US are important, but not a huge %.This page shows that Vietnam exports to us totalled $7.6bn in 2005. link US - Vietnam trade

This is not a huge amount, it is about 20% of exports.

It depends on how the rest of the economy is affected. For example if domestic demand remains strong then this might offset any fall in exports

It depends on whether Vietnam is able to increase its exports to other Asian economies. For example, it may be that China’s economic growth takes the place of US exports. China is nearer. Continue reading →

Readers Question what are the benefits and costs of a tariff on consumers, producers and the government?

Tariff’s increase the cost of imports, leading to a decline in consumer surplus. For example, UK consumers have lost out from EU wide tariffs on agricultural products. Many agricultural goods are more expensive because of the high tariffs placed to protect EU farmers.

It is hard to think of any benefits from tariff’s for consumers. Maybe in the long run consumers benefit from the protection of domestic industries if these industries use the tariffs to improve

Domestic Producers, who produce the good, will benefit from the introduction of tarrifs. This is because it makes their domestic production relatively more attractive compared to the imports. Agricultural tariffs have benefitted European farmers as they have been protected from cheaper competition..

However, it is argued that the restriction of competition encourages inefficient firms. Therefore, in the long run, domestic firms may not make the necessary improvements that they would have done without tariffs.

Also the introduction of tariffs usually leads to retaliation. Therefore, other countries will place tariffs on UK exports. Therefore, some exporting firms will lose out and sell less exports.

Tariffs on Government.

Tariffs will increase government revenue. However, it will be a small % of total tax revenue. If the tarriff is too high then the UK may no longer import the good, so the government will not get any tariff revenue.

See also:

• Arguments against free trade
  
• Benefits of Free Trade

Readers Question: When my class and I try to test the Marshall-Lerner condition it doesn’t always work. i.e. we assumed a country with just one export and one import and assumed their price elasticities added up to less than one. We gave each a price and quantity that led to a current account balance =0 for simplicity then assumed a devaluation of the exchange rate - on calculating the new quantities and then new current account balance IT IMPROVED. Why ? I can give the figures we worked with if that helps…or does the Marshall-Lerner condition have additional conditions?

To be honest, I have never tested the Marshall Lerner condition with figures. I have always just taught it as given that what is in the textbooks must be correct. There is probably some mathematical proof that the Marshall Lerner condition must hold. But, to be honest I don’t know it. (it isn’t required for what I teach) I think the most likely thing is an error in your calculation.

Definition of the The Marshall Lerner condition

This states that, for a currency devaluation to lead to an improvement (e.g reduction in deficit) in the current account, the sum of price elasticity of exports and imports (in absolute value) must be greater than 1.

• E.g. if PED of exports is -0.2
  And if PED of Imports is -0.5
  In this case a devaluation of the currency should worsen the current account.

Empirical evidence suggests the elasticity of demand for exports and imports tends to be inelastic in the short run, but more elastic in the long run. Therefore a devaluation, often worsens the current account in the short term, but improves it in the long term

(in absolute value means modulate numbers.) i.e. -0.3 + -0.6 = 0.9

Readers Question: What counts as an import on the Balance of Payments

Current Account measures trade in:

1. Goods,
2. Services,
3. Investment incomes
4. Net Transfers

A Debit on the credit account occurs when the UK imports goods and therefore money flows from the UK to oversees to purchase it. If debits are greater than credits the UK will have a current account deficit.

Examples of debits

• UK consumers buy Chinese manufactured toys
• UK consumers go on holiday to China
• A Chinese firm in the UK sends back profits to China.
• UK firms import raw materials from China.

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Readers Question: Is outsourcing beneficial for multinationals and their home countries?

The benefits of outsourcing for multinationals include:

• Lower wages for labour intensive stages of production. A good example, is the outsourcing of call centres from the UK to India. Wages in India are significantly lower than the UK, enabling a reduction in costs.
• Comparative advantage. Production can be concentrated in the most efficient location.
• Improvements in Technology. Improvements in internet and communications means it is easier to outsource and keep control on what is happening.

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