International trade [60 marks]

1. [Maximum mark: 20] 21N.2.SL.TZ0.1

China and global trade

1. On 15 January 2020, the United States (US) and China signed a deal that
reduced some tariffs and required China to buy more from US producers.
This was a first step towards resolving a trade war, which had reduced
bilateral trade flows by 9 % and investment flows by 60 %. However, critics
argued that the deal left most tariffs unchanged and did not deal with
deeper disagreements.

2. The US, the European Union (EU) and Japan are calling for tougher World
Trade Organization (WTO) rules on government support for firms that
manufacture items such as steel or solar panels. The support, which is often
in the form of subsidies, has allegedly undermined competing firms
overseas, either by promoting exports or by decreasing imports, and
therefore distorted global trade. Other governments also give subsidies, but
there are claims that China uses them more extensively.

3. The proposed WTO rule change would require governments to prove that
subsidies do not give domestic firms an unfair advantage over foreign firms
and that they do not lead to excess supply in the global market. If the rules
are implemented, the WTO may regain some of the authority that it has lost
in recent years.

4. One of the US government’s goals when imposing huge tariffs on Chinese-

made goods was to bring back manufacturing jobs to the US. Therefore,
despite the new deal, the 25 % tariff on Chinese-made furniture will stay. As
a result, many US furniture firms that had used overseas factories to make
their US company-branded products have reduced their imports of Chinese-
made furniture.

5. Meanwhile, Vietnam, Cambodia and Bangladesh are benefitting because US

manufacturers of wood furniture are setting up factories there. Therefore,
some other US producers are asking for the tariff on Chinese-made wooden
furniture to apply to all wooden furniture imported into the US, regardless
 of where it is manufactured.

6. China is becoming less dominant as an exporter and more integrated into

the global trading system. Its current account surplus was over 10 % of gross
domestic product (GDP) in 2007, but it declined to just 0.4 % in 2018.
Chinese producers are increasingly buying raw materials and other inputs
from overseas producers. Although most electronic devices sold in the US
are assembled in China, Chinese firms are often dependent on foreign
suppliers. If the US and China tried to be less interdependent, it would take
more than 10 years for China to become self-sufficient in the production of
computer semiconductors and for the US to shift to other suppliers of
electronic devices.

[Source: China Economic Review, 2020. Japan, the EU and the US target China with WTO
rule change proposal [online]
Available at: https://chinaeconomicreview.com/japan-the-eu-and-the-us-target-
china-with-wto-rule-change-proposal/
[Accessed 29 September 2020] Source adapted.

Sasso, M., 2020. U.S. Furniture Industry Eyes Cambodia as Vietnam’s Wages Rise
[online] Available at: https://www.
bloomberg.com/news/articles/2020-01-08/u-s-furniture-industry-eyes-
cambodia-as-vietnam-s-wages-rise [Accessed
29 September 2020] Used with permission of Bloomberg L.P. Copyright © 2022.
All rights reserved. Source adapted.

The Economist, 2020. Don’t be fooled by the trade deal between America and China
https://www.economist.com/leaders/2020/01/02/dont-be-fooled-by-the-trade-
deal-between-america-and-china
[Accessed 29 September 2020] Source adapted.]
(a.i) Define the term trade war indicated in bold in the text (paragraph
[1]). [2]

Markscheme
(a.ii) List two functions of the World Trade Organization (WTO)
(paragraph [2]). [2]

Markscheme

(b) Using a tariff diagram, explain the likely effect on consumer

surplus of a 25 % tariff on all wooden furniture imported into
the US (paragraph [5]). [4]

Markscheme
Candidates who incorrectly label diagrams can be awarded a maximum of [3].

Candidates may indicate the change in consumer surplus with shaded areas or numbers/letters in the
diagram (e.g. a loss of consumer surplus of P1P2AB in the diagram below).

The use of P and Q on the axes is sufficient for a tariff diagram. World supply must be distinguished from
domestic supply. If abbreviated, the world supply curve must be labelled Sw or Sworld. A title is not necessary.
(c) Using a foreign exchange diagram, explain the possible effect
of China’s large current account surplus in 2007 on the
exchange rate of China’s currency (the renminbi) (paragraph
[6]). [4]

Markscheme
Candidates who incorrectly label diagrams can be awarded a maximum of [3].

For an exchange rate/foreign exchange diagram, the vertical axis may be exchange rate, price of renminbi in
another currency, other currency/renminbi or other currency per renminbi. The horizontal axis should be
quantity, or quantity of renminbi. A title is not necessary.

NB: an acceptable alternative is the supply curve shifting left.

(d) Using information from the text/data and your knowledge of
economics, evaluate China’s use of subsidies as a form of trade
protection. [8]

Markscheme

Examiners should be aware that candidates may take a different approach which, if appropriate, should be
rewarded.

Do not award beyond Level 2 if the answer does not contain reference to the information provided.

Command term
“Evaluate” requires candidates to make an appraisal by weighing up the
strengths and limitations. Opinions and conclusions should be presented
clearly and supported with appropriate evidence and sound argument.

Answers may include:

definitions of trade protection, subsidy

an international trade diagram showing the effect of a subsidy on
imports and/or on exports.

Advantages of subsidies may include:

goods with external benefits such as solar panels may need to be

subsidised to ensure the optimum quantity is produced (paragraph
[2])
 many other countries use subsidies and therefore China needs to use
them to compete (paragraph [2])
China’s trade surplus has already been reduced and might become a
deficit if subsidies for key export industries are not provided
(paragraph [6])
prices of subsidised products will be lower for consumers
reduces inflationary pressures in the economy.

Disadvantages of subsidies may include:

they increase the misallocation of resources in world trade (paragraph

[2])
the complexity of supply chains makes it difficult to determine which
firms are getting an unfair advantage (paragraph [6])
they give a disadvantage to firms in competition with Chinese firms
(paragraphs [2] and [3])
they may lead to excess supply and dumping (paragraph [3])
they make the WTO less effective, because its rules with regards to
subsidies at present are too limited (paragraph [3])
subsidies are a key component of the trade war, which contributes to
reduced global trade and investment flows (paragraph [1])
China's use of subsidies limits production in other South East Asian
economies, negatively impacting their growth and development
(paragraph [5])
the cost to governments of providing subsidies is high
the welfare loss due to subsidies
subsidies will reduce incentives for innovation/efficiency in domestic
industry and long run competitiveness may deteriorate.

Any reasonable evaluation.

2. [Maximum mark: 20] 21N.2.HL.TZ0.2
Free Trade Agreement between the European Union and Indonesia

1. The European Union (EU) and Indonesia are currently negotiating a free
trade agreement (FTA). The agreement will aim to increase trade, avoid
trade protection and expand foreign direct investment (FDI). Indonesia has
the largest economy and population in Southeast Asia. The EU is Indonesia’s
third-largest trading partner.

2. The FTA could see the clothing and footwear industry in Indonesia increase
by over 10 %. However, the labour-intensive manufacturing industry has
historically been known for poor working conditions and low wages. On
the other hand, increased output could decrease the high unemployment
in Indonesia (currently at 12 %). The EU expects its car industry to benefit
from the FTA. The agreement would encourage the EU to specialize in cars,
and Indonesia to specialize in clothing, therefore both countries could
benefit from comparative advantage.

3. Since Indonesia’s main competitors already have trade agreements with the
EU, establishing an FTA is a priority for the Indonesian government. The EU
has a potential market of 510 million consumers, and may offer areas for
growth during a time of lower global trade and uncertainty due to the trade
war between the United States and China.

4. However, recent trade issues between the EU and Indonesia have slowed
down negotiations. The EU announced that palm oil biodiesel is
unsustainable and will phase these fuels out by 2030. Experts say that palm
oil causes excessive deforestation and contributes to climate change.
Indonesia is the world’s largest exporter of palm oil.

5. The EU has imposed tariffs on biodiesel exports from Indonesia, which may
result in Indonesia losing a market worth over US$450 million. Palm oil
represents 12 % of Indonesia’s total exports, contributes approximately 2.6
% to gross domestic product (GDP), and the industry employs more than 15
million people. The EU is Indonesia’s largest palm oil customer. Additionally,
some EU manufacturing businesses are unhappy with the tariffs as they rely
 on palm oil to produce their products, such as processed foods.

6. In response, Indonesia filed a lawsuit with the World Trade Organization

(WTO), stating that the EU’s policy on biodiesel is unfair and is damaging
the international image of palm oil. Indonesia claims it is committed to
sustainable production practices and to protecting its forests.

7. To make up for losing the EU’s market, Indonesia is actively exploring other
markets to boost its exports of palm oil. Other countries like China, India and
Russia have a more relaxed policy on palm oil and have growing demand
for it. Indonesia has also retaliated to the tariff through an investigation into
whether EU dairy products exported to Indonesia benefited from subsidies,
and has recommended a 20 %–25 % tariff on EU dairy products.

8. However, the EU has tried to lower tensions by offering a US$17 million

grant to improve trade conditions and capacity in preparation for the FTA.
Experts have said that the FTA could support the development of legal and
sustainable palm oil production through supporting good governance and
capacity building. Indonesia has stated it would welcome help to decrease
any market failure caused by palm oil.

[Source: Iswara, M. A., 2019. Indonesia gets Rp 232 billion grant from EU to ease
trade negotiations [online]. Available
at: https://www.thejakartapost.com/news/2019/09/30/indonesia-gets-rp-232-
billion-grant-from-eu-to-ease-tradenegotiations.
html [Accessed 27 October 2020]. Source adapted.]
(a.i) Define the term tariffs indicated in bold in the text (paragraph
[5]). [2]

Markscheme
(a.ii) State two functions of the World Trade Organization (WTO)
(paragraph [6]). [2]

Markscheme

(b) Using a demand and supply diagram for processed food,

explain how the EU’s tariff on palm oil might impact the market
for processed food in the EU (paragraph [5]). [4]

Markscheme
Candidates who incorrectly label diagrams can be awarded a maximum of [3].

For a demand and supply diagram, the vertical axis should be price or p. The horizontal axis should be
quantity or q. A title is not necessary.
(c) Using a production possibilities curve (PPC) diagram to
illustrate comparative advantage, explain why the EU would
export cars to Indonesia and Indonesia would export clothing
to the EU (paragraph [2]). [4]

Markscheme
Candidates who incorrectly label diagrams can be awarded a maximum of [3].

The x and y axes can be cars and clothing.

(d) Using information from the text/data and your knowledge of
economics, discuss the economic effects on Indonesia of
establishing a free trade agreement with the EU. [8]

Markscheme

Examiners should be aware that candidates may take a different approach which, if appropriate, should be
rewarded.

Do not award beyond Level 2 if the answer does not contain reference to the information provided.

Command term
“Discuss” requires candidates to offer a considered and balanced review
that includes a range of arguments, factors or hypotheses. Opinions or
conclusions should be presented clearly and supported by appropriate
evidence.

Answers may include:

definition of free trade agreement.

Economic models/theory may include:

AD/AS diagram
economies of scale diagram
PPC
market failure
trade creation / trade diversion.

Positive economic effects may include:

Larger market, increased output, leads to economies of scale

(paragraph [3]).
More exports increases aggregate demand which increases real GDP,
which may help the unemployment rate of 12 % (paragraph [2]).
Increased FDI, increases AD, increases real GDP (paragraph [1]).
The EU wants to help Indonesia and has offered grants (17 million)
help improve trade conditions and capacity, this could lead to
improved quality and quantity of resources (paragraph [8]).
Relationship could help with development of legal and sustainable
palm oil production, decreasing market failure (paragraph [8]), allow
for long term growth and development.
To be competitive, as other main competitors already have an
agreement (paragraph [3]). Indonesia may risk losing export
customers if they do not establish an FTA.
Comparative advantage gains (paragraph [2]), better allocation of
resources.
Buffers problems with trade war between US and China (paragraph
[3]).
Already the two countries appear to be engaging in the trade war. An
agreement might help with relations.
 To avoid trade protection (paragraph [1]).
Trade creation.
Lower prices, more variety for Indonesian consumers.
Allows Indonesia to get foreign exchange.
Access better/cheaper technology.

Negative economic effects may include:

The trade might be restricted by the EU’s stance on biofuel from palm
oil (paragraph [5]). This may restrict benefits from the trade agreement
as it is a large part of Indonesia’s economy.
The areas of predicted growth from the agreement are industries that
face low wages and poor working conditions, this may be further
exploited (paragraph [2]).
FDI associated problems (paragraph [1]).
Could be a problematic negotiation (time consuming and costly),
considering the trade war that appears to be occurring with the
countries (paragraph [5] and [6]).
Trade diversion.
Infant industry argument.

Any reasonable discussion.

3. [Maximum mark: 20] 21M.2.HL.TZ0.1
Filipino rice farmers prepare for trade liberalization

1. To meet its obligations under World Trade Organization (WTO) rules, the
president of the Philippines has asked the government to eliminate the
current quota system for rice imports. As an important part of food security
measures, the government wants to achieve self-sufficiency in the
production of rice. To support this goal, the WTO allowed the Philippines to
extend its rice quota until June 2017 to allow more time for local farmers to
prepare for free trade.

2. The current quota system for rice imports makes domestic prices rise
dramatically during periods of low domestic supply.

3. Eliminating the quota on rice aims to make the rice market more
competitive, which could reduce the price of rice by as much as 7 Philippine
pesos (PH₱) per kilogram (kg). The National Economic and Development
Authority has estimated that lower rice prices could save Filipino
households as much as PH₱2362 per year. However, if the rice quota is
eliminated, economists have warned that the government must prepare
local rice producers so that they can either compete with rice imports or
move to producing other crops. “Currently Filipino farmers cannot compete
with Vietnamese farmers who may enjoy economies of scale” declared one
economist. “The solution is to bring down the cost of production of rice.”

4. To help Filipino farmers to adjust to competition from lower-priced rice

imports, the government has allocated funds to the Rice Competitiveness
Enhancement Fund. This fund will provide support to farmers in order to
increase productivity by supplying high-yield seeds and fertilizer. It will also
provide subsidies to encourage the use of agricultural machinery and will
offer support services and training to farmers.

5. Apart from being an essential food for many Filipinos, rice is also an
important input for the food industry. The plan to remove the import quota
will reduce the inflation rate in the Philippines by up to 0.4 %. In July 2018,
the central bank governor reported that inflation had reached 5.7 %, well
 above the government’s target range of 2 % to 4 %. He stated that “supply-
side factors are the main drivers of the present inflation. These factors
include rising international oil prices, higher indirect taxes and poor
weather conditions that have affected food supply”. The president stated
that the removal of the rice quota was one solution to ease the rising
inflation.

Table 1: Average economic costs and prices of rice in the Philippines and
Vietnam

[Source: Rappler, 2018. Gov’t to support farmers amid moves to lift rice import
quotas. Available at: https://www.rappler.com/business/203837-government-
support-philippine-farmers-lifting-rice-import-quotas [accessed 1 June 2018].
Source adapted.

Philippine News Agency, 2018. Tariff on imported rice to rake in P20-B yearly.
Available at: http://www.pna.gov.ph/articles/1043516 [accessed 2 August 2018].
Source adapted.

Ernesto M. Ordoñez / Inquirer.net, 2018. Averting the 35% rice tariff crisis.
Available at: https://business.inquirer.net/258373/averting-35-rice-tariff-
crisis#ixzz5VJ32ugph.

Ben O. de Vera, Inquirer.net, 2018. Tariff on rice to curb inflation by 0.4 percentage
point. Available at: https://business.inquirer.net/256313/tariff-rice-curb-inflation-
0-4-percentage-point#ixzz5VGfm0xUp [accessed 29 August 2018]. Source
adapted.]
(a.i) State two functions of the World Trade Organization (WTO)
(paragraph [1]). [2]

Markscheme
(a.ii) Define the term free trade indicated in bold in the text (paragraph
[1]). [2]

Markscheme

(b) Using an AD/AS diagram, explain how removing “the import

quota will reduce the inflation rate in the Philippines”
(paragraph [5]). [4]

Markscheme
Candidates who incorrectly label diagrams can be awarded a maximum of [3].

For AD/AS the vertical axis may be average (general) price level, APL or price level. For the horizontal axis,
real output, real national output, real income, real national income, real GDP or real Y. Any abbreviations
are acceptable. A title is not necessary.
(c) Using a perfect competition diagram, explain whether farmers
in the Philippines are making an economic profit or loss (Table
1). [4]

Markscheme
Candidates who incorrectly label diagrams can be awarded a maximum of [3].

NB Candidates must state the values in either the diagram or the explanation for full marks.

NB Some candidates may refer to the Vietnamese price of PH₱9.64 shown in Table 1. This is also acceptable
as it must be assumed that these candidates consider that, once the quota is removed, the price in the
Philippines will fall to the Vietnamese level. Both PH₱12.19 and PH₱9.64 should be accepted as valid
prices.

For a perfectly competitive diagram, the vertical axis may be labelled Cost (C), Price (P) or Revenue (R). The
horizontal axis may be labelled Quantity (Q) or Output. A title is not necessary. AC or ATC can be used.

NB MC curve is not required for full marks.

(d) Using information from the text/data and your knowledge of
economics, evaluate the impact on the economy in the
Philippines of removing the rice quota. [8]

Markscheme

Examiners should be aware that candidates may take a different approach which, if appropriate, should be
rewarded.

Do not award beyond Level 2 if the answer does not contain reference to the information provided.
“Evaluate” requires candidates to make an appraisal by weighing up the
strengths and limitations.

Economic Analysis may include:

trade protection
theory of comparative advantage / allocation of resources
AD /AS
employment
inflation
standard of living
economies of scale.

Positive impacts may include:

attempts at self-sufficiency of production improved by eliminating

quotas (paragraph [1]) and providing assistance to farmers (paragraph
[4])
rice is a staple food so less volatility in rice prices when quota removed
– helps households (paragraph [2])
lowers rice price for households – significant annual savings
(paragraph [3])
lower rice price has forward linkage effect reducing input costs for
food manufacturers (paragraph [5])
more competition from Vietnamese rice imports encourages domestic
producer efficiency and innovation (paragraph [3])
more efficient allocation of resources if farmers “move to producing
other crops” – comparative advantage (paragraph [3])
opportunity to achieve economies of scale in the long run by bringing
“down the cost of production” (technical economies through
mechanization and possibility of farm consolidations) (paragraph [3])
lower rice prices reduce input costs and increase SRAS therefore
relieving cost-push inflation (paragraph [5]).

Negative impacts may include:

goal of self-sufficiency in rice could be compromised in the long run if

the number of rice farmers is reduced (paragraph [1])
 rice is a staple food so maintaining rice production is a matter of
national security (paragraph [1])
rice farmers are already making a loss so removing quotas will increase
losses and cause some farmers to leave the rice market in the long run
(Table 1)
likely to be unemployment in the sector as rice farmers leave the
market (paragraph [3] and Table 1)
local unemployment can lead to hollowing out of rural communities
as unemployed migrate to urban areas
government revenue allocated to support programs to help rice
farmers adjust carries significant opportunity costs (paragraph [4])
ATC in the Philippines is almost double that in Vietnam, so it might
take a long time for Filipino farmers to become competitive (Table 1).

Any reasonable evaluation.

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