Edexcel A Level Economics A

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Edexcel A Level Economics A Your notes
4.1 International Economics

Contents
4.1.1 Globalisation
4.1.2 Specialisation & Trade
4.1.3 Pattern of Trade
4.1.4 Terms of Trade
4.1.5 Trading Blocs & the World Trade Organisation (WTO)
4.1.6 Restrictions on Free Trade
4.1.7 Balance of Payments
4.1.8 Exchange Rates
4.1.9 International Competitiveness
Page 1 of 45
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4.1.1 Globalisation
Your notes
Characteristics of Globalisation
Globalisation is the economic integration of different countries through increasing freedoms in the
cross-border movement of people, goods/services, technology & finance
This integration of global economies has impacted national cultures, spread ideas, speeded up
industrialisation in developing nations & led to de-industrialisation in developed nations
Globalisation has been increasing for thousands of years - it is not a new phenomenon
Improvements in technology & the speed of global connections have exponentially increased the
level of interdependence between nations in the past 50 years
Consumers now source products globally recognising global brands wherever they travel
The Four Main Characteristics of Globalisation
Increasing movement of labour & technology

Increasing foreign ownership of companies
across borders
Free trade in goods/services Easy flows of capital (finance) across borders
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Factors Contributing to Globalisation

In 2000 the value of global trade was approximately $6.45 trillion. By 2020 this figure was at $19 Your notes
trillion
Numerous factors have contributed to the rapid increase in the pace of globalisation but perhaps two
of the most significant are the improvements in containerised shipping & the innovation in
communication technology
Factors Contributing to Globalisation in the Last 50 Years
The improved ability for firms to The Increased effectiveness of the

easily connect and to promote World Trade Organisation (WTO)
themselves internationally as a in negotiating new trade
Economies of scale generated by
result of the internet & agreements & in helping countries
containerisation in the shipping
improvements to to open up to free trade (trade
industry
communications technology e.g liberalisation), thus increasing
Skype, WhatsApp, WeChat etc international specialisation & the
volume of trade
A rapid growth in the number & The end of the cold war between In the 1990's there was
influence of transnational Russia & the West in 1990 opened deregulation of many financial
corporations up former communist countries markets which resulted in the
around the world enlarging the expansion of global financial
global supply of labour e.g. more services & provided more access
than 800,000 people migrated to capital
from East Germany to West
Germany between 1990 and 1991
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Impact of Globalisation on Stakeholders

Many of the impacts of globalisation have been positive, however there have been some very negative Your notes
ones too
When considering the impacts, it is useful to acknowledge all of the stakeholders including individual
countries, governments, firms, consumers, workers & the environment
The impacts of Globalisation on Stakeholders
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Two of the more recent criticisms of globalisation include

The lack of action by some governments to help workers unable to find new jobs as a result of
structural unemployment Your notes
The use of legal mechanisms (e.g. transfer pricing) & corruption by transnational corporations is
stripping developing countries of their assets & has been called 'new colonialism'
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4.1.2 Specialisation & Trade

Your notes
Absolute & Comparative Advantage
International trade decreases prices & increases the variety of goods/services available to a nation
This results in a higher standard of living
Comparative advantage is the theory developed by David Ricardo in 1817 which states that a country
should specialise in the goods/services that it can produce at the lowest opportunity cost
By specialising, the volume of production increases
Excess production can be exported
Goods/services which are not produced in the country can be imported
Absolute advantage occurs when a country is able to produce a product using fewer factors of
production than another country
A country may well have absolute advantage but still not have comparative advantage
It should produce goods/services in which it has comparative advantage
The Assumptions of Comparative Advantage
As with any economic model, there are underlying assumptions to the theory of comparative
advantage
1. Transport costs are zero: it does not account for moving the goods/services between countries.
Depending on a nation's location this is more or less of a problem
2. There is perfect knowledge: each country knows what it has a comparative advantage in & also the
comparative advantages of other countries
3. Factor substitution is easily achieved: economies can quickly adjust to changing global market
conditions by switching from capital to labour - and vice versa
4. Constant costs of production: the theory does not take into account the economies of scale that can
be achieved with an increase in output
Using Production Possibility Frontiers to Illustrate Comparative & Absolute Advantage
Production possibility frontiers can be used to illustrate these concepts
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Your notes
The production possibility frontiers for 2 countries who both produce t-shirts & computer chips
Diagram Analysis
Country A has an absolute advantage as it can produce more of both products
Country A can produce either 200,000 t-shirts or 100,000 computer chips

To produce 100,000 computer chips, it gives up production of 200,000 t-shirts
t− shirts 200 ,000

The opportunity cost of producing 1 computer chip is = = 2 t-
computer chips 100 ,000
shirts
computer chips 100 ,000

The opportunity cost of producing 1 t-shirt is = = 0.5 computer
t− shirts 200 ,000
chip
Country B can produce either 80,000 t-shirts or 80,000 computer chips
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To produce 80,000 computer chips it gives up production of 80,000 t-shirts
t− shirts 80,000 Your notes

The opportunity cost of producing 1 computer chip is = = 1 t-
computer chips 80,000
shirts
computer chips 80,000

The opportunity cost of producing 1 t-shirt is = = 1 computer chip
t− shirts 80,000
To produce 1 computer chip Country A gives up 2 t-shirts & Country B gives up 1 t-shirt
Country B has a comparative advantage in producing computer chips as it is giving up fewer t-
shirts & so it should specialise in computer chip production
To produce 1 t-shirt Country A gives up 0.5 computer chips & Country B gives up 1 computer chip
Country A has a comparative advantage in producing t-shirts as it is giving up fewer computer
chips & so it should specialise in t-shirt production
Limitations to the Theory of Comparative Advantage
Comparative advantage does tend to be one of the main factors that drives a nation's manufacturing in
a global economy. However, there are limitations & drawbacks to the theory
The Limitations of Comparative Advantage
Structural
Over-dependence Environmental damage Distribution of Income
unemployment
Specialisation creates a The impact of negative The GDP/capita is likely Although there should be
dependence on other externalities of to increase, however the a net increase in
countries which production is not distribution of the extra employment, as
generates vulnerability considered by the theory income is likely to be countries specialise
e.g. receiving gas & these can significantly uneven with the wealthier certain industries are
supplies from Russia worsen the quality of life sections of the likely to shut down
works well when relations in towns, cities & population gaining more resulting in
are good but has proven countries unemployment for some
otherwise in an workers. These workers
unexpected time of war. may not be able to move
There has been an over- into other occupations &
dependence on Russian if so the number of long-
gas term unemployed will rise
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Advantages & Disadvantages of International Specialisation & Trade

The advantages of international specialisation & trade are significant & are backed up by the Your notes
large increase in the volume of global trade in the past fifty years
1. Lower prices
2. Greater variety of goods/services
3. More competition leads to better quality products
4. Economies of scale create efficiencies
5. Higher economic growth
6. Improved living standards
The Disadvantages of Specialisation & Trade
Disadvantage Explanation
Global Monopolies As transnational firms grow in size & increase market power, they can dictate
Emerge prices & output in many regions. They are also able to wield their influence to
influence governments & gain access to raw materials through bribery &
corruption e.g Glencore has recently admitted to multiple allegations of
bribery so as to secure favourable mineral rights deals
Exposure to external Shocks to other economies have a knock-on effect due to the
shocks interdependence that develops with trade e.g. the Russian war on Ukraine has
created global shockwaves in the energy & grain markets
Deficit on the Current Some countries will import more than they export resulting in a deficit on the
Account of the Balance current account. When this happens in developed countries, it is usually
of Payments because the income of the citizens is high & they are importing to improve
their standard of living. In developing countries, this situation is usually as a
result of a lack of global competitiveness & it is importing necessity products
Unemployment Many firms that were successful in the local market may well fail in a global
market. Employment in successful industries will increase & employment in
unsuccessful industries will decrease. Structural unemployment is a particular
concern. Government supply-side policies make a significant difference to
the length and severity of structural unemployment
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Dumping due to illegal Some governments support key industries to ensure they are globally
Government support competitive. This support often comes in the form of subsidies which Your notes
encourage excess production. This excess production is then dumped on
world markets at low prices e.g The USA subsidises cotton farmers to the
extent that they have put competitors out of business through the sale of
below cost cotton
Challenges for Start-up firms in developing countries (infant industries) find it harder to
Developing Countries compete due to global competition - the ones that survive often have
government support. Global monopolies also exert large amounts of pressure
on developing countries through the use of monopsony power & transfer
pricing
Over-specialisation in Developing countries often lack the finance to develop a diversified product
developing economies base & end up over-specialising in commodity products. This makes the
country's GDP very dependent on the commodity prices
Loss of sovereignty & With an increase in trade, languages & cultures have blended impacting on
culture some indigenous languages & cultures. Countries have also lost some
sovereignty as they are more easily influenced by dominant trading partners
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4.1.3 Pattern of Trade

Your notes
Factors Influencing the Pattern of Trade
Numerous factors influence the pattern of trade between countries
Patterns of trade can change significantly over time e.g. up to the 1980s the UK traded
predominantly with Commonwealth Countries. In 2020, 46% of trade was with EU countries & 26%
was with the USA
1. Comparative advantage: this is less a grand plan & more a natural market outcome as firms seek to
profit maximise. Where it makes sense to increase production due to natural advantages, firms do.
When it makes financial sense to outsource production because another country does it
better/cheaper, firms do. Over time, this changes what countries produce & trade
2. Impact of emerging economies: Emerging world economies like China, Brazil, India & Thailand have
obtained a much higher share of the global business which means that other countries are losing out as
trading relationships change
3. Growth of trading blocs & bilateral trading agreements: By December of 2016, the World Trade
Organisation (WTO) had helped to facilitate more than 420 regional trading blocs & bilateral
agreements (between 2 countries). This results in trade creation & causes trade diversion
4. Changes in relative exchange rates: If a country's exchange rate appreciates, then its exports are
relatively more expensive & its imports become cheaper. This means that changes to the exchange
rates influence the patterns of trade over time as goods/services either become cheaper or more
expensive in relation to the price of goods/services in other countries.
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4.1.4 Terms of Trade

Your notes
The Terms of Trade
Terms of trade refer to the ratio of a country’s average price of exports to the country’s average price
of imports
The relative price of imports & exports can have a direct bearing on the standard of living within a
country
Exporting goods which are highly priced results in higher incomes & the ability to buy
cheaper imports
The terms of trade capture the relationship between the average prices of a country's exports &
imports
Calculation of The Terms of Trade

Index of average export prices
Terms of trade = × 100
Index of average import prices
The index for exports & imports is created in much the same way that a consumer price index is created
(using a weighted basket of imports & exports)
Worked example
Calculate the terms of trade for Country X. State if the terms of trade have improved or worsened. In
the final column explain what that means for country X
Index of Index of
Improvement
average average Calculation of Terms of
Year or Explanation
export import terms of trade trade
deterioration?
prices prices
2012 100 100
2013 100 107
2014 112 108
2015 115 110
Step 1: Identify the index year as this is the base year & complete calculations for the index year
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The index year will be the year in which both the index for export & import prices is 100
Your notes
Index of
Index of Improvement
average Calculation of Terms of
Year average or Explanation
export terms of trade trade
import prices deterioration?
prices
100 Both export & import
2012 100 100 × 100 = 100 Base year
100 index = 100
2013 100 107
2014 112 107
2015 115 110
Step 2: Calculate the terms of trade for each year & state if they have improved/deteriorated
Index of
prices
2012 100 100 × 100 = 100 Base year
100 index = 100
100
2013 100 107 × 100 = 93.45 Deterioration
107
112
2014 112 107 × 100 = 104.67 Improvement
107
115
2015 115 110 × 100 = 104.55 Deterioration
110
Step 3: Explain what the improvement or deterioration means (explanation)
Index of
prices
2012 100 100 × 100 = 100 Base year
100 index = 100
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One unit of exports

100 buys fewer imports
2013 100 107 × 100 = 93.45 Deterioration Your notes
107 compared to the
previous year
One unit of exports
112 buys more imports
2014 112 107 × 100 = 104.67 Improvement
107 compared to the
previous year
One unit of exports
115 buys fewer imports
2015 115 110 × 100 = 104.55 Deterioration
110 compared to the
previous year
Factors Influencing a Country's Terms of Trade
1. Relative inflation rates: Inflation increases the price of goods/services within a country. This means
that their price is now more expensive to the rest of the world. If the exports are price inelastic in
demand this will improve the terms of trade, if elastic then it is likely to worsen the terms of trade
2. Relative productivity rates: continuous improvements in productivity can lower costs & these can be
passed on in the form of lower prices. Lower prices for export products will mean that the terms of
trade will deteriorate i.e. fewer imports can be bought with one unit of exports
3. Changes in exchange rates: exchange rates constantly change the price of exports & imports. If
prices change then the terms of trade between the two countries change. Specific data would need
to be provided in order to determine if the terms of trade have improved or deteriorated for each
trading partner
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Impact of Changes in the Terms of Trade

Depending on the contribution that net exports make to GDP, changes to the terms of trade can have Your notes
far reaching impacts on an economy. These include
Changes to the current account balance in the Balance of Payments
Changes to national output (GDP)
Changes to unemployment levels
Changes to the level of international competitiveness
Changes to disposable income
Changes to standards of living
The impact of changes to the terms of trade are more complex than assuming that an improvement in
the terms of trade is good & a deterioration is bad
E.g. Improvement in terms of trade → one unit exports buys more imports → standard of living
improves
However, it depends on what caused the improvement & on the price elasticity of demand
for exports & imports
If the improvement was caused by an increase in the price of exports, then following the law
of demand fewer exports will be consumed by foreigners. How much fewer depends on the
PED for exports. This could worsen the standard of living
PED & Changes To the Terms of Trade
Condition (ToT) Cause PED Value Likely outcome
Improvement Price of exports rises If PED of exports is inelastic Output increases

then the reduction in quantity Unemployment
demanded will be less than the decreases
increase in price & the Standard of living
economy will benefit improves
Improvement Price of imports falls If PED of imports is elastic More disposable

(necessity) then the increase in income
quantity demanded will be Standard of living
more than the decrease in improves
price & the economy will spend Domestic output may
more on imports fall as foreign
consumption increases
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Deterioration Price of exports falls If PED of exports is elastic then Output increases
the increase in quantity Unemployment
demanded will be more than decreases Your notes
the decrease in price & the Standard of living
economy will benefit improves
Deterioration Price of imports rises Where demand for imports is Domestic output
price inelastic, consumers unlikely to fall
would demand the goods in Imports will decrease
similar proportions and thus slightly
spend significantly more on Less disposable income
imports so worse standard of
living
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4.1.5 Trading Blocs & the World Trade Organisation (WTO)

Your notes
Types of Trading Blocs
A trading bloc is a group of countries who come together & agree to reduce or eliminate any barriers
to trade that exist between them
There are different levels of economic integration ranging from relatively low integration in a bilateral
agreement to high integration in a monetary union e.g. the Eurozone
Globally, there were more than 420 regional trade agreements in effect in 2022
The trading blocs below each have an increased level of economic integration
Free Trade Areas

A free trade area is a bloc in which countries agree to abolish trade restrictions between themselves
but maintain their own restrictions with other countries e.g Canada–United States–Mexico Agreement
(CUSMA)
Mexico, Canada & The USA have a free trade agreement but can deal individually with Cuba as they see
fit
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In the diagram above, Mexico, Canada & the USA have reduced/eliminated many trade restrictions
between themselves
The USA refuses to trade with Cuba & has placed a complete ban on all exports/imports to Cuba Your notes
Canada trades with Cuba but imposes tariffs on all imports
Mexico trades freely with Cuba
Customs Unions
A customs union is an agreement between countries in which all goods/services produced by
members are traded tariff free. Additionally, countries agree on common tariff rates on imports from
all external (third party) countries
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Countries within the European Union trade freely between themselves & have common barriers with all
third-party countries e.g. UK
Your notes
In the diagram above, countries in the European Union have eliminated all tariff barriers between
themselves but impose common tariff barriers on third party countries such as the UK or China
Common Markets
Similarly, to a customs union, goods/services are traded tariff free in common markets. Additionally,
the four factors of production flow freely between member countries
The goal is to improve the allocation of resources between the common market members & lower
costs of production
The European Union is a customs union & a common market
Monetary Unions
A monetary union takes integration a step further. Members enjoy all of the benefits of a customs union
& common market, but then also establish a common central bank which issues a common currency &
controls the monetary policy of member countries
Prior to Brexit, the UK was a member of the European Customs Union & common market but never
joined the Eurozone
Essential Conditions for a Successful Monetary Union Such as the Eurozone
Movement of labour Similar trade cycles
Labour should be able to move freely without any The trade cycles of member countries should be
major barriers e.g. language. The main languages of similar so as to avoid tensions with the union e.g.
the Eurozone are English, French & German but after the 2008 Financial Crisis, Southern European
language is still a limiting factor countries were in a depression compared to the
temporary recession in Northern European
countries. This created extreme pressure on the
survival of the Eurozone
Mobility of finance Fiscal transfers
There should be complete mobility of finance with To maintain stability, there should be automatic
prices & wages free to adjust based on market fiscal transfers to countries that are performing
conditions. This is a strength of the Eurozone & poorly. This is especially important as members have
labour markets fluctuate based on members market lost the use of monetary policy to deal with a crisis in
conditions their nation e.g. fiscal transfers to Spain, Portugal &
Greece post 2008 Financial Crisis were very weak.
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Political tensions emerged in which citizens of

wealthier countries (Germany) did not want their tax
revenue used to bail out countries with perceived Your notes
poor fiscal history (Greece)
Costs & Benefits of Regional Trade Agreements

Benefits & Costs of Regional Trade Agreements
Benefits Costs
Trade creation improves efficiency & generates Trade diversion occurs as countries reallocate
higher income trade to partners in their agreement. This may
worsen global efficiency
Tariffs between member states are eliminated Some domestic industries experience
Common tariffs to third party countries simplify structural unemployment
trading conditions Increased negative externalities of production,
resource depletion & environmental damage
A monetary union simplifies trading costs & Transitioning to a monetary union can be
provides pricing transparency expensive & firms may find it hard to
Some member countries gain from improved adjust/change their menu prices
monetary policy conditions e.g. European Member countries lose their ability to set
interest rates may well be lower than an interest rates & control the supply of money
individual country's rates would have been (monetary policy)
There is less uncertainty surrounding exchange Loss of sovereignty
rates as members all use the same currency
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Role of the WTO in Trade Liberalisation

The World Trade Organisation (WTO) was established in 1995 to promote free trade Your notes
They believe free trade is the best way to raise living standards, create jobs & improve people's
lives
Trade liberalisation is the process of rolling back the barriers to free trade e.g. removing tariffs
The WTO has two main roles in liberalising trade
1. It brings countries together at conferences & encourages them to reduce or eliminate protectionist
trade barriers between themselves e.g. The Doha Round conferences
2. It acts as an adjudicating body in trade disputes. Member countries can file a complaint if they believe
a trading partner has violated a trade agreement. The WTO will then run a hearing & make a judgement
Exam Tip
WTO judgements are not legally binding. Members voluntarily submit to them (or not). A judgement in
favour of a trade dispute does allow the aggrieved nation to put protectionist measures in place with
the WTO's approval. The hope is that these measures will then force the nation committing the
violation to back down and resolve the trade issue.
When evaluating the effectiveness of trade agreements, it is worth noting that larger economies tend
to selectively choose which rulings of the WTO to abide by. Smaller (usually developing) economies
tend not to have that luxury.
Conflicts Between Regional Trade Agreements & the WTO

In March 2022 there were 320 regional trade agreements globally
While these are beneficial to the members in the agreement (as they strengthen ties & create more
trade between them), they also create conflicts with the stated aim of the WTO - to liberalise trade
Regional agreements often shift trade from a non-member who has comparative advantage, to a
member who does not
Regional trade members then often institute common trade barriers on non-members which is the
opposite of trade liberalisation (protectionism)
Regional trade agreements can be beneficial for member countries but may result in global
inefficiency in the allocation of resources
The WTO advocates for free trade between all member countries
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4.1.6 Restrictions on Free Trade

Your notes
Reasons for Restrictions on Free Trade (Protectionism)
Free trade aims to maximise global output based on the principle of comparative advantage
However, there are numerous reasons why countries would seek to limit free trade in order to protect
themselves from certain outcomes
This is called protectionism & may take the form of limiting imports, limiting exports, boosting exports
- or putting administrative barriers in place
Reasons for Protectionism

Reason Explanation
Infant industries To protect new firms that would be unlikely to succeed at start-up due to the
level of global competition. Once established support is removed
Sunset industries Similar to above, but at the other end of the life cycle, these firms are on their
way out & the government chooses to support them to help limit the
economic damage that would occur if they closed abruptly
Strategic industries Industries such as energy, defence & agriculture are essential to self-
sufficiency & security. Being reliant on other countries for these creates
vulnerabilities for a nation
Dumping Dumping is anti-competitive & can harm a country's industries
Employment When firms outsource production to other countries or certain industries are
experiencing structural unemployment governments will step in to protect
jobs
Current Account deficit When imports > exports the amount of money leaving the country to support
foreign firms is greater than that entering to support domestic firms.
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Protectionism aims to correct this imbalance
Your notes
Labour/environmental Many countries offer cheap labour & low-cost production due to poor
regulations environmental regulations. Protectionism can help apply pressure to bring
about change in these countries
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Types of Protectionism
The most commonly used forms of trade protectionism include tariffs, subsidies, quotas & Your notes
administrative barriers
Tariffs
A tariff is a tax on imported goods/services (customs duty)
Domestic producers/retailers have to pay the tariff when the good/service crosses the border into
the country
This raises the cost of production for domestic firms
Firms often pass on the increased costs to consumers in the form of higher prices
These higher prices allow some domestic firms to increase their output (law of supply)
More inefficient domestic firms are now producing at the expense of more efficient firms globally who
reduce their output due to the tariff
With increased domestic output, employment may increase
A tariff raises the price of the world supply from Pw to Pw + tariff. This reduces the quantity of imports
from Q1Q2 to Q3Q4
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Diagram Analysis
World supply (Ws) is considered to be infinite & this supply curve is added to the domestic demand Your notes
(DD) & supply (SD) curves
The pre-tariff market equilibrium is seen at PwQ2
Domestic firms supply up to Q1 at a price of Pw
Foreign firms supply the difference equal to Q1Q2 at a price of Pw (imports)
After the tariff is imposed, the world price increases from Pw to Pw+ tariff
The new market equilibrium is seen at Pw+tariffQ4
Following the law of demand, the quantity demanded contracts from Q2 to Q4
Following the law of supply, the quantity supplied by domestic firms extends from Q1 to Q3
The level of imports is reduced from Q1Q2 to Q3Q4
Quotas
A quota is a physical limit on imports e.g. in June 2022 the UK extended their quota on steel imports
for a further two years in order to protect employment in the domestic steel industry
This limit is usually set below the free market level of imports
As cheaper imports are limited, a quota raises the market price
As cheaper imports are limited a quota may create shortages
Some domestic firms benefit as they are able to supply more due to the lower level of imports
This may increase the level of employment for domestic firms
Subsidies to domestic producers

A subsidy lowers the cost of production for domestic firms
They can increase output & lower prices
With lower prices their goods/services are more competitive internationally
The level of exports increases
The increased output may result in increased domestic employment
Non-tariff barriers
There are many strategies that can be used to create barriers to trade using less obvious methods
than tariffs, quotas & subsidies
Health & safety regulations e.g. in 2017 the EU put a new health regulation in place regarding the
permitted level of aflotoxins in nuts. Aflotoxin levels are naturally higher in southern hemisphere
countries & it effectively blocked the import of southern hemisphere nuts
Product specifications e.g. Canada specified that all jam imported into Canada needed to be in a
certain size of jar. Many countries do not usually manufacture jars in the required size
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Environmental regulations e.g. in November 2021 new regulations were put in place in the EU & the
USA to limit the amount of imports of 'dirty steel' - predominantly this is steel produced using coal
fired power stations which are prevalent in China Your notes
Product labelling can be expensive for firms to apply & may limit their desire to sell into certain
markets
Page 26 of 45
Impacts of Protectionist Policies

Protectionist policies have a range of impacts on consumers, producers, governments, living Your notes
standards, & equality
Tariffs
The best way to consider the impact of a tariff on stakeholders is to explain it using a diagram
A tariff impacts domestic producers, consumers, foreign producers & the government
Domestic producers
Before the tariff domestic producers produced output equal to 0Q1 & their revenue was equal to Pw X
Q1
After the tariff was imposed domestic producers produced 0Q3 & their revenue was equal to Pw X Q3
Domestic producer surplus has increased by area 2
Domestic consumers
Before the tariff domestic consumers consumed Q2 products at a price of Pw
After the tariff domestic consumers consumed fewer products (Q4) at a higher price of Pw+tariff
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Domestic consumer surplus has decreased by areas 1, 2, 3 & 4
Government Your notes

After the tariff is imposed the government receives tax revenue equal to ((Pw+tariff)- Pw) x (Q4-Q3) -
area 3
Standards of living
The standards of living for consumers worsen as the value of their income is eroded as they are paying
higher prices
Domestic firms who benefit from increased production may increase employees' wages
This would increase the standard of living for employees
Equality
Workers in industries that have been experiencing structural unemployment due to foreign
competition will feel that the tariff results in them being treated more fairly
The Impact of Quotas, Subsidies & Non-tariff Barriers on Stakeholders
Stakeholder Quota Subsidies Non-tariff
Domestic Increases their output Decreases costs of Limits foreign

Producers Raises the selling price production competition
Increases their revenue Increases output Protects levels of outputs
Increases international May increase selling price
competitiveness & revenue
Foreign Decreases their output Makes it harder for them Acts as a disincentive to
Producers Compared to a tariff, to compete with sell into foreign markets
those firms who manage domestic firms Costs of meeting the non-
to export in the quota tariff barriers may
receive a higher price for significantly reduce profit
their sales margins
Consumers Results in higher prices & Lowers prices May reduce

less choice choice/variety in a market
Government They do not receive any This costs the They may lose some
tariff revenue (as there is government the amount credibility with the WTO
no tariff) of the subsidy
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They may receive higher There is an opportunity Enforcing the non-tariff

tax revenue at the end of cost associated with barriers may be difficult or
the financial year when every subsidy provided expensive Your notes
domestic firms pay their
corporation tax
Standards of Reduces for consumers Improves for consumers Less choice & higher
Living as higher prices erode as they benefit from prices erode standards of
the purchasing power of lower prices - their living
their income income goes further Product labelling
information may improve
decision making & quality
of life
Equality Improves for domestic Domestic firms can May help improve equality
firms but worsens for compete more equally e.g. environmental
foreign firms standards help create
equal production inputs
which results in equality in
the costs of production
Page 29 of 45
4.1.7 Balance of Payments

Your notes
Components of the Balance of Payments
The Balance of Payments (BoP) for a country is a record of all the financial transactions that occur
between it and the rest of the world
The BoP has two main sections:

The current account: all transactions related to goods/services along with payments related to
the transfer of income
The financial & capital account: all transactions related to savings, investment and currency
stabilisation
Money flowing into the country is recorded in the relevant account as a credit (+) and money flowing
out as a debit (-)
The Current Account of the Balance of Payments

The Current Account is often considered to be the most important account in the BoP
It records the net income that an economy gains from international transactions
An Example of the UK Current Account Balance For 2017
Component 2017
Net trade in goods (exports - imports) £-32.9bn
Net trade in services (exports - imports) £27.9bn
Sub-total trade in goods/services £-5bn
Net income (interest, profits & dividends) £-2.1bn
Current transfers £-3.6bn
Total Current Account Balance £-10.7bn
Current Account as a % of GDP 3.7%
Goods are also referred to as visible exports/imports

Services are also referred to as invisible exports/imports
Net income consists of income transfers by citizens and corporations
Credits are received from UK citizens who are abroad and send remittances home
Debits are sent by foreigners working in the UK back to their countries
Current transfers are typically payments at government level between countries e.g. contributions to
the World Bank
Page 30 of 45
The Capital Account

The Capital Account records small capital flows between countries and is relatively inconsequential Your notes
E.g. debt forgiveness by the government towards developing countries
E.g. capital transfers by migrants as they emigrate & immigrate
The Financial Account

The Financial Account records the flow of all transactions associated with changes of ownership of the
UK’s foreign financial assets & liabilities
It includes the following sub-sections
1. Foreign Direct Investment (FDI): flows of money to purchase a controlling interest (10% or more) in a
foreign firm. Money flowing in is recorded as a credit (+) and money flowing out is a debit (-)
2. Portfolio Investment: flows of money to purchase foreign company shares & debt securities
(government & corporate bonds). Money flowing in is recorded as a credit (+) and money flowing out is
a debit (-)
3. Financial derivatives: are sophisticated financial instruments which investors use to speculate &
return a profit. Money flowing in is recorded as a credit (+) and money flowing out is a debit (-)
4. Reserve Assets: are assets controlled by the Central Bank & available for use in achieving the goals of
monetary policy. They include gold, foreign currency positions at the International Monetary Fund
(IMF) & foreign exchange held by the Central Bank (USD, Euros etc.)
Page 31 of 45
Causes of Deficits & Surpluses on the Current Account

It is called the BoP as the current account should balance with the capital & financial account & be Your notes
equal to zero
If the current account balance is positive, then the capital/financial account balance is negative
(and vice versa)
In reality, it never balances perfectly & the difference is called 'net error & omissions'
If there is a current account deficit, there must be a surplus in the capital & financial account
The excess spending on imports (current account deficit) has to be financed from money flowing
into the country from the sale of assets (financial account surplus)
If there is a current account surplus, there must be a deficit in the capital & financial account
The excess income from exports (current account surplus) is financing the purchase of assets
(financial account deficit) in other countries
Causes of Current Account Deficits
Relatively low productivity Relatively high value of the Relatively high rate of inflation
country’s currency
Currency appreciation makes A relatively high rate of

Low productivity raises costs a country's exports more inflation makes a country's
Exporting firms with low expensive relative to other exports more expensive than
productivity may find nations other nations
themselves at a price & cost Foreign buyers look for Foreign buyers look for
disadvantage in overseas substitute products which are substitute products which are
markets which will decrease priced lower priced lower
competitiveness & the level of Exports fall & the balance on Exports fall & the balance on
exports the current account worsens the current account worsens
With higher domestic prices, Similarly, currency Similarly, high inflation may
consumers may also buy appreciation makes imports mean that goods/services are
abroad thus increasing the cheaper cheaper in other countries
imports Domestic consumers may Domestic consumers may
Falling exports & rising imports switch demand to foreign switch demand to foreign
creates a deficit goods & as imports rise, the goods & as imports rise, the
balance on the current balance on the current
account worsens account worsens
Rapid economic growth resulting Non-price factors such as poor
Page 32 of 45
in increased imports quality and design
Your notes
Rapid economic growth raises When a country develops a
household income reputation for poor quality &
Households respond by design, its exports fall as
purchasing goods/services foreign buyers look for better
with a high-income elasticity substitutes elsewhere
of demand (income elastic) Domestic buyers who are able
Many of these goods are to shop abroad also choose to
imported & as imports rise, the buy better quality products
balance on the current elsewhere & the level of
account worsens imports rise
A fall in exports & a rise in
imports worsens the balance
on the current account
Page 33 of 45
Measures to Reduce Imbalances on the Current Account

The Government has several options available to them in order to tackle a current account deficit Your notes
They could do nothing, leaving it to market forces in the foreign exchange market to self-correct
the deficit
They could use expenditure switching policies
They could use expenditure reducing policies
They could use supply-side policies
The choice of any policy - or any combination of policies generates both costs & benefits
Costs & Benefits of Policies Used to Tackle Current Account Deficit
Policy Option Benefit Cost
Floating exchange rates act as a self- There may be other external factors that
correcting mechanism. Over time a prevent the currency from depreciating. It
higher level of imports will end up may take a long time for self-correction to
depreciating the currency causing happen & many domestic industries may go
Do nothing
imports to decrease (they are now more out of business in the interim. The longer it
expensive) & exports to increase (they takes to self-correct, the more firms will
are now cheaper). This improves the delay investment in the economy
deficit
This is often successful in changing the Any protectionist policy often leads to
buying habits of consumers, switching retaliation by trading partners. This may
Expenditure
consumption on imports to consist of reverse tariffs/quotas which will
Switching
consumption on domestically decrease the level of exports. This may
produced goods/services. This helps offset any improvement to the deficit
improve a deficit caused by the policy
Deflationary fiscal policy invariably Deflationary fiscal policy also dampens

Expenditure reduces discretionary income which domestic demand which can cause output
Reducing leads to a fall in the demand for to fall. When output falls, GDP growth slows
imported goods & improves a deficit & unemployment may increase
Supply-side Improves the quality of products & These policies tend to be long term policies
lowers the costs of production. Both of so the benefits may not be seen for some
these factors help the level of exports time. They usually involve government
Page 34 of 45
to increase thus reducing the deficit spending in the form of subsidies & this
always carries an opportunity cost
Your notes
Significance of Global Trade Imbalances

As global trade is a net sum game where the value of global exports = global imports, it follows that if
one country is running a current account surplus then another country is running a deficit
Persistent deficits can be problematic as it means that finance from abroad (in the form of loans or
foreign direct investment) is required in order to fund continued imports
This may mean that a country is gradually selling its assets
Owning money to a foreign entity creates vulnerabilities
The 2008 Global Financial Crisis demonstrated the impact of fast changing conditions in
which creditors were insisting on being repaid quickly e.g. Greece owed creditors (including
Germany) significant sums & was required to pay these back creating numerous problems in
their economy
Persistent surpluses can be problematic as it means that the focus of the allocation of a nation's
resources is on meeting foreign demand as opposed to meeting domestic demand
This can limit availability of goods/services in the local economy which can possibly decrease the
standard of living for some households
It can also create instability in the foreign exchange market if there is a floating exchange rate
mechanism in operation
E.g. China ran a surplus for years but did not allow its currency to float freely. In recent years they
have switched their focus to increasing domestic demand
This surplus has resulted in significant foreign direct investment by Chinese firms & the level of
foreign asset ownership is high
Page 35 of 45
4.1.8 Exchange Rates

Your notes
Exchange Rate Systems
An exchange rate is the price of one currency in terms of another e.g. £1 = €1.18
International currencies are essentially products that can be bought & sold on the foreign
exchange market (forex)
The Central Bank of a country controls the exchange rate system that is used in determining the value
of a nation's currency
There are three exchange rate systems

A floating exchange rate
A fixed exchange rate
A managed exchange rate
Exchange Rate Systems
Exchange Rate System Explanation
As with any market, if there is excess demand for the currency

on the forex market, then prices rise (the currency is worth
more)
Floating In a floating exchange rate system this is called an
appreciation
If there is an excess supply of the currency on the forex
market, then prices fall (the currency is worth less)
In a floating exchange rate system this is called a
depreciation
Fixed
The Central Bank negotiates with the international Monetary
Fund (IMF) to fix (peg) their currency to another one
Sometimes the peg is at parity e.g. 1 Brunei Dollar = 1
Singapore Dollar
Often the peg is not at parity e.g. Hong Kong has pegged
its currency to the US$ at a rate of HK$ 7.75 = US$ 1
A revaluation occurs if the Central Bank decides to change the

peg and increase the strength of its currency
Page 36 of 45
A devaluation occurs if the Central Bank decides to change

the peg and decrease the strength of its currency
Your notes
This is a combination of the fixed & floating mechanism
The Central Bank determines the preferred currency value -
and then the currency is free to fluctuate within a certain range
of this value e.g 0.75%
If it goes above this range then the Central Bank will intervene
by selling its own currency in forex markets so as to increase
supply
Increased supply of their currency in the forex market
decreases the value of the currency & brings it back within
the range
If it goes below this value then the Central Bank will intervene
Managed
by buying its own currency in the forex market using its
foreign reserves (US$, Euros etc.)
Increased demand for their currency in the forex market
increases the value of the currency & brings it back within
the range
Interest rates can also be used to intervene

Raising interest rates appreciates a currency as returns on
investment/savings become more attractive to
foreigners & they demand local currency
Decreasing interest rates depreciates a currency as
returns on investment/savings become less attractive to
foreigners & they sell their local currency & move their
money elsewhere
Page 37 of 45
Factors Influencing Floating Exchange Rates

Numerous factors influence floating exchange rates, resulting in an appreciation or depreciation of a Your notes
currency
Factors influencing floating exchange rates

1. Relative interest rates: influence the flow of hot money between countries. If the UK increases its
interest rate, then demand for £'s by foreign investors increases & the £ appreciates. If the UK
decreases its interest rate, then the supply of £'s increases as investors sell their £'s in favour of other
currencies & the £ depreciates
2. Relative inflation rates: as inflation in the UK rises relative to other countries, its exports become more
expensive so there is less demand for UK products by foreigners, which means there is less demand for
£s & so the £ depreciates
3. Net investment: foreign direct investment (FDI) into the UK creates a demand for the £ which leads to
the £ appreciating. FDI by UK firms abroad creates a supply of £'s which leads to the £ depreciating
4. The current account: UK exports have to be paid for in £'s. UK imports have to be paid for in local
currencies, which requires £'s to be supplied to the forex market. Due to this, an increasing trade
surplus will result in an appreciation of the £ & an increasing deficit will result in a depreciation of the £
Page 38 of 45
5. Speculation: the vast majority of currency trades are speculative. Speculation occurs when traders
buy a currency in the expectation that it will be worth more in the short to medium term, at which point
they will sell it to realise a profit Your notes
6. Quantitative easing: involves increasing the money supply & much of the new supply is used to buy
back gilts. Many of these gilts are owned by foreigners who then exchange the £s received for their
own currency. The increase in the supply of £'s depreciates the £
Intervention in Markets Using Forex Transactions & Interest Rates

When using a managed exchange rate system, Government intervention in currency markets takes
place in two ways & is managed by the Central Bank
1. Changing interest rates: if the Central Bank wants to appreciate the country’s currency, it would raise
interest rates thereby making it more attractive for foreigners to move money into the country's banks
(hot money). Decreasing interest rates has the opposite effect & causes a depreciation
2. Buying & selling currency in the forex market: The Central Bank can change the demand or supply for
their currency using their reserves. If they want to appreciate the currency then they buy it on the forex
market using foreign currencies e.g. to bolster the value of the £, the Central Bank could take US$'s
from their reserves & buy £'s. If they want to depreciate the currency then they sell their own currency
& buy foreign currencies
The Consequences of Competitive Devaluation/depreciation

When a currency is intentionally devalued/depreciated by a government, it makes the country's
exports cheaper
If demand for their exports is price elastic, then the country is likely to experience higher export
volumes & higher export revenues
E.g. for many years China prevented the value of their currency from appreciating & saw a boom in
their export sales
Intentional devaluation/depreciation has several consequences

It is anticompetitive & upsets international competitors
Large countries usually have more financial resources to manipulate markets & so gain unfair
advantages over smaller countries
Other countries may respond by also lowering the value of their currencies resulting in very little
change to market share
The devaluation/depreciation raises the cost of imports used in production & with little change to
the value of exports - profits decrease
Page 39 of 45
Impacts of Changes in Exchange Rates

Changes to exchange rates may have far-reaching impacts on an economy Your notes
The impact of changes to exchange rates on an economy
Economic Indicator Explanation
The Current Account Depreciation of the £ causes exports to be cheaper for foreigners to buy
& imports to the UK are more expensive
The extent to which this improves the current account balance depends
on the Marshall-Lerner condition
This follows the revenue rule which states that in order to increase
revenue, firms should lower prices for products that are price elastic
in demand
If the combined elasticity of exports/imports is less than 1 (inelastic),
a depreciation (fall in price) will actually worsen the current account
balance
It is also important to recognise that there is a time lag between the

depreciation of the £ and any subsequent improvement in the current
Page 40 of 45
account balance
This is explained by the J-Curve effect
It takes time for firms & consumers to respond to changes in price Your notes
Once it becomes evident that price changes will last for a longer
period of time, firms & consumers switch
E.g. a firm in the USA has been importing electric scooters from
the UK. If the Euro depreciates, the price of scooters in France
becomes relatively cheaper. In the short-term, the USA firm will
not switch immediately to purchasing scooters from France as
the exchange rate may soon bounce back. They also have a good
relationship with their UK suppliers. In the long term they are likely
to switch
Economic growth Net exports are a component of aggregate demand (AD)

A depreciation that results in an increase in net exports will lead to
economic growth
Inflation Cost push inflation is likely to occur as the price of imported raw
materials increases with currency depreciation
Net exports are a component of aggregate demand (AD)
A depreciation that results in an increase in net exports will lead to an
increase in aggregate demand
This may lead to an increase in demand pull inflation
An appreciation of the currency will have the opposite effect
Unemployment If depreciation leads to an increase in exports, unemployment is likely to

fall as more workers are required to produce the additional products
demanded
An appreciation of the currency will have the opposite effect
Living standards The impact of a depreciation on living standards can be muted

As imports are more expensive, households face higher prices & less
choice, which detracts from living standards
Rising exports can decrease unemployment & increase
wages/income which means an improved standard of living for some
households
The impact of an appreciation on living standards will be the opposite
Foreign direct investment Depreciation of a currency makes it cheaper for foreign firms to invest in
(FDI) the country and can increase the FDI
The money they have available to invest is worth more when the
currency has depreciated
Page 41 of 45
An appreciation has the opposite effect
Your notes
Page 42 of 45
4.1.9 International Competitiveness

Your notes
Measures of International Competitiveness
International competitiveness refers to how well a country's products compete in international
markets
Competitiveness can change over time
In order to make a comparison between the competitiveness of two countries, two metrics are
commonly used
1. Relative unit labour costs: the total wages in an economy divided by output. This provides a number
that indicates the labour costs for each unit of output produced. It is then possible to look at the
relative unit labour cost for the UK compared to France. If it is lower than the UK is more competitive in
the international market
2. Relative export prices: monitoring export prices provides insight into whether they are rising or falling
over time. If they are rising in the UK relative to other countries, then the UK is becoming less
competitive. If they are falling in the UK, it is becoming more competitive
Page 43 of 45
Factors Influencing International Competitiveness

When considering factors that influence international competitiveness, the word relative is important Your notes
If inflation is happening at an equal rate in all competitor nations, there will be little change to the
level of competitiveness
However, if it increases more in the UK relative to its competitors, then the UK competitiveness in
international markets will decrease
Factors Influencing International Competitiveness
Factor Explanation
A rise in productivity levels of UK workers, relative to their

competitors, will lower the production cost per unit & increase
Relative unit labour costs competitiveness
A decrease or stagnation in productivity, relative to their
competitors, will worsen competitiveness
Increases in labour costs, relative to other countries, are likely to

make exports more expensive as the costs of production have
Relative wages & non-wage increased resulting in a worse level of competitiveness
costs Increases in non-wage costs such as pensions or social security
taxes paid by the employer are likely to reduce output or raise costs
of production, thus making exports less competitive
Decreasing wage & non-wage costs have the opposite effect
Inflation raises the price of goods/service in an economy

If inflation increases in the UK, relative to other countries, then foreign
Relative rate of inflation buyers pay more for the exports they purchase & this worsens
competitiveness
Decreasing inflation has the opposite effect
Government regulation tends to raise costs of production as it sets

standards/requirements that firms have to meet
Relative level of regulation Increased costs of production mean that export prices are likely to
rise & competitiveness will worsen
Deregulation may have the opposite effect
Page 44 of 45
Significance of International Competitiveness

Benefits of International Competitiveness Your notes
1. Export led growth: An increase in exports generates an increase in economic activity resulting in
economic growth
2. Unemployment decreases: Economic growth leads to an increase in employment, incomes & wage
growth
3. Current account surpluses: exports are likely to be greater than imports & the government does not
have to concern itself with difficult policy decisions aimed at reducing a large deficit
4. Increased overseas foreign direct investment (FDI): It provides finance for firms to invest in overseas
assets which in the long-term means they are able to increase their income & profit
5. Standards of living improve: as incomes tend to rise with economic growth, households gain
purchasing power & access to a wider variety of goods/services
Problems Caused by Being Internationally Uncompetitive

In many ways, the problems of being uncompetitive are the reverse of the above. The following point is
worth highlighting
1. Government policies: with a current account deficit & a lack of international competitiveness,
governments will focus more of their resources on gaining ground. E.g. more spending on supply-side
policies. Any policy action creates opportunity costs & trade-offs
Page 45 of 45

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Edexcel A Level Economics A Your notes

4.1 International Economics

The Four Main Characteristics of Globalisation

Increasing movement of labour & technology

Free trade in goods/services Easy flows of capital (finance) across borders

Factors Contributing to Globalisation

Factors Contributing to Globalisation in the Last 50 Years

The improved ability for firms to The Increased effectiveness of the

Impact of Globalisation on Stakeholders

The impacts of Globalisation on Stakeholders

Two of the more recent criticisms of globalisation include

4.1.2 Specialisation & Trade

The Assumptions of Comparative Advantage

Using Production Possibility Frontiers to Illustrate Comparative & Absolute Advantage

Production possibility frontiers can be used to illustrate these concepts

Country A can produce either 200,000 t-shirts or 100,000 computer chips

t− shirts 200 ,000

computer chips 100 ,000

Country B can produce either 80,000 t-shirts or 80,000 computer chips

To produce 80,000 computer chips it gives up production of 80,000 t-shirts

t− shirts 80,000 Your notes

computer chips 80,000

The Limitations of Comparative Advantage

Advantages & Disadvantages of International Specialisation & Trade

The Disadvantages of Specialisation & Trade

4.1.3 Pattern of Trade

4.1.4 Terms of Trade

Calculation of The Terms of Trade

Step 3: Explain what the improvement or deterioration means (explanation)

One unit of exports

Factors Influencing a Country's Terms of Trade

Impact of Changes in the Terms of Trade

Condition (ToT) Cause PED Value Likely outcome

Improvement Price of exports rises If PED of exports is inelastic Output increases

Improvement Price of imports falls If PED of imports is elastic More disposable

4.1.5 Trading Blocs & the World Trade Organisation (WTO)

Free Trade Areas

Essential Conditions for a Successful Monetary Union Such as the Eurozone

Movement of labour Similar trade cycles

Mobility of finance Fiscal transfers

Political tensions emerged in which citizens of

Costs & Benefits of Regional Trade Agreements

Role of the WTO in Trade Liberalisation

Conflicts Between Regional Trade Agreements & the WTO

4.1.6 Restrictions on Free Trade

Reasons for Protectionism

Dumping Dumping is anti-competitive & can harm a country's industries

Protectionism aims to correct this imbalance

Subsidies to domestic producers

Impacts of Protectionist Policies

Domestic consumer surplus has decreased by areas 1, 2, 3 & 4

Government Your notes

The Impact of Quotas, Subsidies & Non-tariff Barriers on Stakeholders

Stakeholder Quota Subsidies Non-tariff

Domestic Increases their output Decreases costs of Limits foreign

Consumers Results in higher prices & Lowers prices May reduce

They may receive higher There is an opportunity Enforcing the non-tariff

4.1.7 Balance of Payments

The BoP has two main sections:

The Current Account of the Balance of Payments

An Example of the UK Current Account Balance For 2017