The International Economy
Higher Economics
1
The International Economy – Topic 1
International
Trade and Payments
2
GAINS FROM INTERNATIONAL TRADE
 International trade happens when different countries
specialise in the production of a product and then
trade with each other.
 There are two theories to explain why this happens:
3
THEORY OF ABSOLUTE ADVANTAGE
 This theory states that if 2 countries are each more
efficient in a product, then each should specialise in
producing the product they are best at and then
trade with each other.
4
 E.g.
UK
JAPAN
CARS
10
5
TV’s
4
10
In this example the UK should
produce cars and Japan should
produce TV’s
5
WHY DO COUNTRIES HAVE ABSOLUTE
ADVANTAGE
1.
Some countries have supplies of certain natural
resources e.g. the UK has oil and Japan doesn’t
2.
Some countries have climatic advantages e.g.
Spain can grow oranges, the UK can’t
3. Some countries have the workers with the
skills and know how.
6
THEORY OF COMPARATIVE ADVANTAGE
 This theory states that even if a country has an
absolute advantage in all products, it would benefit it
to specialise in those products in which its advantage
is greatest.
7
UK
JAPAN
CARS
7
21
TV’s
5
10
E.g.
In this example Japan should produce cars as they are
three times better than the UK at producing that
product.
The UK should produce TV’s because the disadvantage
is not so great.
8
GAINS FROM INTERNATIONAL TRADE
 Can gain economies of scale due to increased efficiency,
output and quality
 Increased choice for consumers
 Increased competition for producers may lead to increased
efficiency and lower prices for consumers
 Closer political links between countries
9
Time to Calculate…
Further reading (and the answers) can be found here:
Shortcut Link: gorf.it/absolute-comparative
10
Answers
 1 – Japan
 2 – Japan
 3
 4 2 units of TV sets (20/10)
11
Answers
 5 - 1.25 units of cameras (50/40)
 6 - 0.5 units of cameras (10/20)
 7 - Australia has a comparative advantage in the
production of TV sets since it gives up less units of
cameras (0.5 units) to produce one unit of TV sets.
 8 - Japan has a comparative advantage in the
production of cameras since it gives up less TV sets
(0.8 units) to produce one unit of cameras.
12
The International Economy: Topic 1
TRADE RESTRICTIONS
13
TRADE RESTRICTIONS

These are the barriers that are put up by countries to stop trade
even though it may have advantages.

Those who support trade restrictions see it as a way of:
1.
Protecting employment in industries affected by foreign
competition
2.
Protecting employment in new or “infant” industries which are not
large enough to compete
14
3.
Maintaining industries that are considered strategic e.g. defence
supplies
4.
Reducing imports to improve a weak Balance of Payments
5.
Retaliation against countries that have trade restrictions on our
products
6.
Prevent dumping (the selling of goods by foreign producers at prices
below the cost of production)
7.
Help the environment e.g. Ivory Trading
8.
Exerting political pressure e.g. USA embargoes on Iraq or sanctions
15
on Cuba
METHODS OF PROTECTION
1.
Tariffs – this is a tax on imported goods. This will
raise their price and reduced competitiveness.
2.
Quota – this restricts the quantity of an import
allowed into a country.
3.
Voluntary Export Restraint – an agreement
between two countries to limit exports
…continued
16
4.
Embargos – complete band on certain goods from certain sources
or exports to certain destinations.
5.
Subsidies – these are given to domestic producers to allow them
to compete more strongly. It makes it cheaper for them to
produce their product. (Wind Farm Subsidies)
6.
Soft Loans – governments may give loans to foreign buyers at a
lower rate of interest. Or they may guarantee credit that is
offered by exporters to boost exports
7.
Favouring – government may favour home producers with
government contracts.
8.
Imposing strict health and safety standards on imported goods
17
Import Controls in the UK
 There are 3 types of control:
 bans – where no import is allowed
 quotas - where the volume of goods is restricted
 surveillance – where the import of goods is monitored with
licences
 Eg currently there are:
 EU quotas on textiles and clothing from Belarus and North Korea
 EU quotas on steel products from Kazakhstan
 More information here
18
EFFECTS OF RESTRICTIONS
 Can lead to retaliatory action from another country
 Volume of trade is reduced which can lead to unemployment
 Lack of competition allows inefficiency, rising costs and prices
 Reduces consumer choice
 Political ill-will can occur
19
REMOVING TRADE BARRIERS
 The EU
Has a single market between member states. Still
has trade restrictions for nations outwith the EU.
 World Trade Organisation
Replaced the General Agreement on Tariff and
Trade (GATT). It seeks to reduce and remove
trade barriers between member states
20
Task: Fill in the blanks
Using the document provided, and the following words…then answer true/false…
















Quota
Voluntary export restraint
Government
Imports
Dumping
Protectionism
Comparative advantage
Trade
21
Importer
Absolute advantage
Raise (x2)
Increase
Decrease
Balance
Tariff
Exports
Concept Review
Answers:
1 – imports; exports; balance; trade
2 – comparative advantage;
absolute advantage
3 – protectionism; tariff; increase;
decrease
4 – quota; raise; importer
5 – voluntary export restraint; raise
6 - dumping
22
The International Economy: Topic 1
BALANCE OF PAYMENTS
23
BALANCE OF PAYMENTS
 This is a statement of the flows of foreign currency
into and out of a country in a year.
 It is collected by the government from business in the
country who must have details of any trade and
financial dealings with anyone abroad.
 `This is split into the “current account” and the
“capital and financial account”
24
Latest
Current
Account
Information:
Click here
25
THE CURRENT ACCOUNT –
TRADE IN GOODS
 exports and imports of goods.
eg. exporting oil is a credit item whereas importing Japanese
cars is a debit item
 In the UK Trade in Goods is usually a DEFICIT. This means
we import more than we export.
 In the 1980’s we did have a SURPLUS largely due to
exports of North Sea Oil.
26
THE CURRENT ACCOUNT –
TRADE IN SERVICES
 exports and imports of services.
 eg Foreign tourist spending in the UK is a CREDIT ITEM
whereas UK spending on foreign financial services is a
DEBIT ITEM
 Trade in Services is usually a SURPLUS.
 THIS MEANS THAT UK EXPORTS MORE SERVICES THAN IT
IMPORTS
27
Includes:
1.
Government Services – e.g. spending on embassies
2.
Transportation Services – e.g. rail and road
spending
3.
Travel Services – e.g. tourist spending
4.
Financial Services – e.g. fees and commissions
given to foreign banks from UK citizens and given
to UK banks from foreigners
28
The Current Account: Goods and
Services Compared
29
The Capital and Financial Account
 Capital Account: Shows the transfer of ownership of fixed assets.
 Financial Account: records short and long term monetary transactions
between the UK and abroad. These are classified into 3 areas:
 Direct investment
 Portfolio investment
 Other investments
 Reserve Assets: foreign currency held by the BoE used to balance the
overseas accounts, and less so today, to deal in the foreign exchange
markets.
30
POLICIES FOR BALANCE OF
PAYMENTS DEFICITS
31
TEMPORARY DEFICIT
 Temporary deficits do not need to be a serious
problem if it is caused by unusual imports e.g.
installation of North Sea oil platform
 It is usually financed by the government.
 This can be done by drawing on its reserves of foreign
currency.
32
 If the deficit is large or more persistent the government
could finance it by:
 Borrowing from the International Monetary Fund (IMF)
 Borrowing from the central banks of the G8 countries.
 Increase interest rates to attract hot money or discourage
money leaving the UK.
33
POLICIES FOR MORE PERSISTENT
DEFICITS
 Persistent deficits are a problem because it reduces
aggregate demand in the economy.
 An increase in demand for imports and reduced
demand for exports will lead to UK output falling and
rising unemployment.
34
MEDIUM TERM POLICIES
 Reduce aggregate demand – use fiscal or monetary policy to
reduce the demand for imports. However, could lead to
increased unemployment if demand for home produced goods
fall as well.
 Devaluation – allowing the value of sterling to fall to increase the
price of imports and reduce export price. Could be a problem if
producers don’t alter price. Also could lead to higher inflation.
The price elasticity of imports will also have an effect.
 Impose trade restrictions - the aim here is to reduce imports
coming into the country.
35
LONG TERM POLICIES
 A long term deficit can only be reduced by improving on the
competitiveness of its firms.
 This can be achieved by:
 Reducing inflation to below that of major competitors
 Increasing productivity
 Developing new products
 Improving marketing, delivery times and after-sales service
36
DOES A CURRENT ACCOUNT DEFICIT
MATTER?
 Hotly debated topic with economists.
 Some argue that is shouldn’t be a problem because the deficit
can be financed by incoming capital. However, the deficits
reflect poor competitiveness in manufacturing.
 The government can play its part by implementing anti-inflation
policies or having supply side policies such as education and
training or help fund R&D.
 This is the present governments policy to improve Balance of
Payments.
37
Problems of a Surplus
 Effect on Trade
 Large trade surplus usually arises from a protectionist
approach to the economy. This then limits imports in to their
country.
 Effect on Exchange Rate
 Surplus leads to a rise in exchange rates, making exports
dearer and imports cheaper. This is ok from a macroeconomic perspective, but individual exporters will be
harmed as a result.
38
The International Economy: Topic 1
EXCHANGE RATE SYSTEMS:
EXCHANGE RATES AND POLICIES
39
What is an Exchange Rate?
 The exchange rate of a currency is it’s price in terms
of other currencies, or a basket of currencies.
 Exchange rates are determined by the foreign
exchange market by the forces of demand and supply
for a particular currency.
40
Whiskey and Wine Examples
T0 see the effects of differences in exchange rates
between GBP and EUR on imports and exports look at
the diagrams below (notes pp20-22)
41
THE DEMAND FOR STERLING

This is determined by three factors:
1.
The demand from foreigners who want to buy British
goods and services
2.
The demand from foreign companies wanting to
invest in the UK
3.
The demand from speculators, foreign firms and
governments who want to hold surplus funds in
sterling.
42
THE SUPPLY OF STERLING

This is determined by three factors:
1.
The supply of £s from UK firms converting into other
currencies to buy foreign goods and services.
2.
The supply of £s from UK firms converting into other
currencies to invest in foreign countries.
3.
The supply of £s from speculators, companies and
government wishing to hold funds in foreign
currencies.
43
FLOATING EXCHANGE RATES
 This is a free market and has no government
intervention.
 The exchange rate is allowed to find it’s equilibrium
level. This is where the demand for a currency equals
the supply of it.
 At this level would be the exchange rate.
44
FLOATING EXCHANGE RATES
Demand Curve
Supply Curve
 The demand curve would be a
normal downward sloping curve.
 The supply curve is a normal upward
sloping curve.
 This is because if there is a fall in the
value of sterling it makes UK exports
cheaper.
 This is because a fall in the value of
sterling will make imports more
expensive.
 This attracts foreign buyers,
increases the demand for exports
and increases the demand for
sterling to pay for them.
 The demand for imports falls and
therefore less £s are coming into the
exchange market to be changed for
foreign currency.
45
 An exchange rate will change when there has been a change in either
the demand or supply of the currency.
 For example demand for sterling would increase if:




UK exports are attractive to foreign buyers
UK interest rates rise and attracts more hot money
There is an inflow of funds for long term investment
There is an increase in speculative activity in favour of the £.
 Any of these things would increase demand for a currency and would
cause the demand curve to shift to the right.
 This would cause the exchange rate
to rise in value.
46
Exchange rate of
sterling
D1
S
D
P1
P
D1
S
D
Quantity of £s
47
 In the short term it is speculative activity that is dominant in the
day-to-day changes in an exchange rate.
 In the long term is determined more by things such as the
competitiveness of UK goods.
 The advantage to a floating exchange rate is that it will
automatically correct an imbalance in the Balance of Payments
meaning that governments don’t need to intervene.
48
DISADVANTAGES OF FLOATING
EXCHANGE RATES
 Speculators are often attracted to markets where prices
move freely and where they make profits by guessing future
prices correct. This can destabilise the exchange market.
 Because there is uncertainty about future exchange rates,
and therefore profitability it may put firms off trading
internationally.
 Inflation can result from a sharp fall in the exchange rate.
Imported raw materials become more expensive, which
increases costs of production. Imports of manufactured
goods also increase which leads
to demands for increased
49
wages.
FIXED EXCHANGE RATES
 This is when the exchange
rate with another currency
always says the same.
 Downward pressure on
sterling would result in the
government buying sterling
using its reserves of foreign
currencies. Increasing demand
for sterling.
 Between 1949 and 1967 the
price of sterling was fixed at
£1=$2.80
 Upward pressure on sterling
would result in the
government selling sterling
and buying foreign currencies.
Increasing supply of sterling.
 The government had to
intervene in the foreign
exchange market to
maintain the rate.
50
MANAGED EXCHANGE RATE
(DIRTY FLOAT)
 Between 1967 and 1992, sterling was in a number of
managed exchange rates.
 These allow sterling to float with specified limits.
When sterling nears the upper or lower limit the
government will intervene.
 The most famous managed exchange rate was the
Exchange Rate Mechanism (ERM)
51
THE EXCHANGE RATE MECHANISM
 This was an agreement
among the countries of the
EU to promote stability
between their exchange
rates.
 Each country was given a
central parity rate for its
currency.
 Sterling had a central parity
of £1=DM2.95. Each
currency could float around
the central parity by plus or
minus 2.25%. The UK was
allowed to float plus or
minus 6%.
 Set up in 1979 and ended
when the single currency
was introduced in 1999.
Britain was only in the ERM
from 1990 until 1992.
52
THE EXCHANGE RATE MECHANISM
If a currency strayed too much away from the central parity then:
 The country’s central bank would intervene. They would buy their
currency to push up the value or sell it to push its value down.
 They could change interest rates. Increased interest rates would
attract hot money, decreasing the rates would make short term
investment less attractive.
 If all else failed they central parity rate was reset.
53
ADVANTAGES TO ERM MEMBERSHIP
 It made exchange rates more stable, reducing
uncertainty for traders. Promoted international
trade.
 It imposed discipline on industry and government to
keep inflation rates in line with the lowest rates in the
EU. This is because if inflation is higher and the rate is
fixed it makes exports less competitive.
54
STERLING’S HISTORY IN THE ERM
 Britain left the ERM in 1992 when the value of sterling
crashed through the floor of its parity rate.
 Since then it has been allowed to float freely. Until 1996 it
floated downwards helping UK manufacturers to be more
competitive. Since 1996 the value rose considerably. This
benefited UK tourist going to Europe but harmful to the
competitiveness of UK manufacturers.
 Since 2002 the value of sterling has been falling again
against the Euro.
55
The International Economy – Topic 2
The International
Economic Climate
56
The International Economy: Outcome 2
THE EUROPEAN UNION
57
 The EU is one of a number of international economic
associations of countries. Formed by 6 countries in
1957, it now consists of many more countries.
 Find out which countries are members of the EU and
who the most recent members have been.
 The EU has a common market or, as it is now called,
the Single European Market.
58
THE SINGLE MARKET
A single market has 3 key features:
1.
A free trade area – free movement of goods and
services.
2. A customs union – COMMON EXTERNAL TARIFF
3. A single factor market – free movement of labour
and capital.
59
ADVANTAGES OF
THE SINGLE MARKET
 Creates more trade with the removal of trade barriers.
 Economies of scale can be gained. The size of the
market has increased hugely.
 Competition has increased. Has led to more efficient
use of resources. More innovation.
 Mobility of resources has allowed labour and capital to
move where they may be efficiently employed
60
DISADVANTAGES OF
THE SINGLE MARKET
 Common external tariff has diverted trade away from
the entire EU.
 Firms have moved to the more prosperous areas of
the EU which has widened the gap between the rich
and poor regions.
61
REMAINING PROBLEMS
 VAT – variations in VAT rates between countries which can distort
prices.
 Differences in Excise Duties – alcohol and petrol are cheaper in some Eu
countries than others
 Taxes on company profits. UK has a low corporation tax level making it
successful in attracting investment.
 Income tax levels
 Adoption of the single currency and full monetary union. Some
countries have yet to join the Euro.
62
The International Economy: Outcome 2
THE SOCIAL CHAPTER
63
THE SOCIAL CHAPTER
 This was included as part of the Maastricht Treaty of 1992.
Agreement for all countries of the EU to have a common
social policy.
 UK opted out of signing The Social Chapter in 1992 but
signed up in 1997.
 By signing the Social Chapter the UK must apply EU law on
things such as the Works Council Directive and the Working
Time Directive
64
THE WORKS COUNCIL DIRECTIVE
This gives employees of multinationals the right to a WORKS
COUNCIL.
Allows for consultation between employees and management
on major changes in business strategy.
65
THE WORKING TIME DIRECTIVE
 This give workers the right to a number of things:





A maximum working week of 48 hours
At least one day of per week
Four weeks annual holiday
A rest period of 11 consecutive hours
A maximum working day of 8 hours for night shifts
WORKERS CAN OPT OUT OF THESE RULES
66
PART-TIME WORKERS DIRECTIVE
 This gives part-time and casual workers the same rights as
full-time workers in terms of training and holidays
THE PARENTAL LEAVE DIRECTIVE
 This allows fathers and mothers three months unpaid leave
after the birth or adoption of a child
67
The International Economy: Outcome 2
EUROPEAN AND MONETARY
UINION (SINGLE CURRENCY)
68
ECONOMIC AND MONETARY UNION
(EMU)
 Economic Union – all economic policies of member
states should be converged and all barriers to the
movement of products and resources removed.
 Monetary Union – aims to achieve a single currency
and common monetary policy.
69
 The EU launched the Euro in 12 member states in January
2002.
 There is a European Central Bank (ECB) which is responsible
for:




Issuing Euros
Conducting monetary policy
Acting as lender of last resort for member states
Managing the exchange rate of the Euro
70
CONVERGENCE CRITERIA
In order to join the single currencies member states
had to meet the following.
 Matching inflation rates
 Have a stable exchange rate for at least two years prior
to joining
 Matching interest rates
 Government budget deficits not exceeding 3% of GDP
 Government debt not allowed to exceed 40% of GDP
71
ADVANTAGES OF EMU
1.
Lower transaction costs – save money as firms no
longer need to pay to change currencies when they
trade with a foreign firm.
2.
Reduce exchange rate uncertainty – should lead to
more trade as firm do not worry about
unfavourable exchange rates making payments
more expensive
72
ADVANTAGES OF EMU
3.
Greater price transparency – easier to compare prices
across Europe
4.
Independent ECB which is a major factor in controlling
inflation as they will work for the good of the economy
and not to win elections.
5.
Increased foreign investment
73
DISADVANTAGES OF EMU
1.
Risk of deflation and higher unemployment.
2.
Loss of independent monetary policy which is decided by the
ECB
3.
Reduced independence on fiscal policy as governments need to
keep budget deficits within the criteria.
4.
High transitional costs – cost of changing tills and accounting
systems.
5.
Misalignment – not all policies decided by ECB will suit all
member states.
74
Britain’s Position
 The UK has not signed up for the single currency.
 The UK government has set five economic tests to
determine when would be the best time for us to join.
 They also want to hold a referendum.
75
THE FIVE ECONOMIC TESTS
1.
Sustained convergence
between the UK and
Eurozone in terms of
economic cycles.
2.
Sufficient flexibility for
the system to cope with
economic change.
3.
Joining must create
better conditions for
companies investing in
the UK
76
4.
The effect on the UK
financial services
industry should be
beneficial.
5.
Joining the Euro must
be good for
employment and
economic growth.
The International Economy: Outcome 2
THE COMMON
AGRICULTURAL POLICY
77
BACKGROUND TO CAP
 A free market for
agricultural products tends
to be highly unstable.
Supply is sensitive and
demand is price inelastic.
CAP is applied to all EU
farmers and its original aims
were to: Increase farmers
productivity;
 Ensure a fair standard of
living for farmers
 Stabilise the market
 Guarantee reasonable prices
for consumers.
 This can lead to wild swings
in prices and farm incomes.
78
HOW DID CAP WORK?
 An intervention price was set,
which was a guaranteed price
for different farm products. If
the free market price was
below this then the EU bought
and stored any surplus output.
 EU farmers were also
protected from outside
competition by tariffs on
imported farm products.
This would make these
imports more expensive.
This was often called the
THRESHOLD PRICE.
 If farmers could export their
surplus at the world price they
received a subsidy for the
difference between that price
and the intervention price.
79
PRICE
D
S
SURPLUS
INTERVENTION
PRICE
WORLD PRICE
S
D
QUANTITY PER YEAR
80
BENEFITS OF CAP
Benefits
Costs
 Prevented food shortages.
Farmers were encouraged to
produce more.
 Reduced price fluctuations for
farm products

Intervention price is above world price
resulting in overproduction of certain
products, e.g. wine lakes and butter
mountains. European taxpayers had to pay
to buy and store these surpluses.

Prices charged to consumers were high

Import tariffs and export subsidies distort
world market and are harmful to developing
nations

Harmful to the environment. Farmers
encouraged to over produce and so use
intensive production e.g. pesticides, factory
farming of animals.

CAP was expensive to run.
 Stabilised farm incomes.
81
REFORMS
1992
1999
 In 1992 CAP accounted for 75% if the
EU budget. Had created
overproduction and high prices.
 Further cuts in intervention
price for cereals, beef and milk.
 The reforms here started by cutting
the intervention price and
introducing a set-aside scheme,
which paid farmers to leave some
land empty.
 The hope was to stop
overproduction in these goods.
 An early retirement scheme was set
up.
82
2003 REFORMS
 Further pressure to change
CAP came in the late 1990s.
The EU agreed to:
 Freeze the CAP budget.
 Give income support to farmers
based on the size of their farms.
 The World Trade
Organisation wanted the EU
to remove subsidies and
 Subsidies only to be given if
tariffs.
farmers improve welfare, look
after countryside or diversify.
 Prospect of the 2004 EU
enlargement of 10 countries
 Farmers now have to plan what to
83
produce
based on world prices.
BENEFITS OF REFORM
 Lower prices for consumers
 Reduced production and removal of surpluses
 More environmentally friendly farming methods.
84
The International Economy: Outcome 2
EU ENLARGEMENT
85
CONDITIONS OF ADMISSION
All applicants for EU accession must have: A commitment to democracy
 A commitment to the mixed economy
 A willingness to accept all EU standards, rules and
regulations. This is called the acquis communautaire
86
BENEFITS OF ENLARGEMENT
New Entrants
Existing Members
 Gain from EU funding to help
prepare for entry.
 Increased political stability
 Larger market with no trade
barriers creating lower prices
and more choice for
consumers
 Will be part of a huge single
market
 An increase in Foreign Direct
Investment as Western firms
look to invest.
87
COST OF ENLARGEMENT
 Increased demand for help from these new entrants. This
means that areas of existing members will lose out on
funding e.g, The Scottish Highlands.
 Wealthier members worried that firms will relocate to the
cheaper new entrants in the East.
 Also a concern about a influx of cheap labour from Eastern
Europe because of free movement of labour.
88
The International Economy: Outcome 2
FUNDING THE EU BUDGET
89
SOURCES OF EU FINANCE
1.
A VAT-based contribution – each member state gives
1% of its VAT receipts
2.
1.2% of the countries Gross National Product.
3.
Receipts from tariffs on certain agricultural goods
4.
Custom duties on imports from non-EU states.
90
 Since the mid 1980s the UK has received a budget
rebate.
 It was agreed that the UK was paying more than its
fair share as it has a efficient agricultural sector and
received less subsidies than other members.
91
BUDGET REFORMS
 Germany, Austria, Netherlands and Sweden say that
their contributions are too much.
 They have also argued that the UK should no longer
get a budget rebate.
 More finance is needed to help new entrants
modernise eg the poorer countries of Eastern Europe.
92
The International Economy: Outcome 2
DEVELOPING AND NEWLY
INDUSTRALISED COUNTRIES
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GROUPS OF COUNTRIES
In terms of economics there are 3 groups of countries: First World – small group of rich industrialised nations
e.g. Western Europe, N. American, Australasia and
Japan.
 Second World – not as rich as first world, normally
former communist nations e.g. Russia, Poland and
Hungary
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GROUPS OF COUNTRIES:
THIRD WORLD
 Large group of poor countries in Asia, Africa and Latin America
 These countries are often called developing countries or less
developed countries (LDCs).
 Although there are some countries that are quite prosperous.
These are the newly industrialised countries (NICs) e.g. Hong
Kong, Malaysia, Thailand, South Korea.
 Called the Asian Tigers. They have experienced rapid economic
growth in recent years.
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CHARACTERISTICS OF
DEVELOPING COUNTRIES
1. Poverty – over ¾ of the world’s population have
incomes lower than those in the first world. There are
however even in the poorest countries a rich elite.
2. High population growth – birth rates and death rates
are higher than most developed nations. However,
death rates are falling causing more people in these
countries.
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4.
Agricultural Dominance – around 70% of the population in LDCs
live off the land. They have subsistence level economies.
5.
Unemployment and underemployment – rural areas have
underemployment due to the seasonal nature of the work.
6.
Urban areas have high unemployment
7.
Lack of industrial capital – there is little investment in factories,
offices and machinery.
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8. Lack of infrastructure – shortage of good roads, schools,
railways etc. These things are vital to economic
development.
9. High dependence on 1 or 2 exports – these are usually
primary products.
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DOMESTIC CONTRAINTS ON
ECONOMIC GROWTH
Problems with investment
 Growth of an economy is dependant on investment. However,
to get investment the country would need to divert resources
from the production of basic goods and services.
 In the short run standard of living needs to worsen in order for
it to improve.
 Investment needs finance but little money available.
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DOMESTIC CONTRAINTS ON
ECONOMIC GROWTH
Population Growth
Inefficiency
 Industry is inefficient due
to lack of investment in
capital and infrastructure.
 Rapid growth rates in
population are not always
matched by an increase in
output
 Labour force is inefficient
because of lack of
training and education.
 This means lower output
and lower income per
head of population
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DOMESTIC CONTRAINTS ON
ECONOMIC GROWTH
 Migration to urban areas
 Social and cultural factors
 Movement of the
underemployed from rural to
urban areas to find work has
resulted in the supply of labour
not being matched by job
opportunities.
 People are just unwilling
to change and are
attached to the
traditional ways of life.
 Increasing unemployment
further and overcrowding occurs.
 Added to pollution and
congestion
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EXTERNAL CONTRAINTS TO
ECONOMIC GROWTH
Falling export earnings
Trade barriers
 LDCs are not earning as much
from the export of agricultural
products
 Some developed
countries have erected
trade barriers to protect
domestic food producers.
 Demand for these products are
price inelastic and world prices
are falling – resulting in lower
income
 Demand is income inelastic and
so the developed world,
although having more income
does not demand more
agricultural products.
 An example of this is the
EU’s CAP
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EXTERNAL CONTRAINTS TO
ECONOMIC GROWTH
Multinational activity – although they can benefit an LDC, they
do cause problems: Have great power and can use resources to their benefit rather than
for the country’s.
 Production methods used could be harmful to the environment
 Profits are sent back to the home country
 Tax can be avoided through the use of transfer pricing
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EXTERNAL CONTRAINTS TO
ECONOMIC GROWTH
Debt crisis – LDC don’t have the ability to repay debts. 4
options available.
1.
2.
3.
4.
borrow more
not pay debts and risk not getting future loans
reduce imports to reduce demand
appeal to the IMF for help.
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DEVELOPMENT STRATEGIES
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INCREASING PRODUCTIVITY
IN AGRICULTURE
 This would mean increased food supplies and rising
incomes in rural areas.
 This would mean that there would be lower demand for
imported food stuff.
 Increased productivity might mean there will be extra
to export.
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ENCOURAGE SAVINGS
 If more people save there will be more funds available
for investment.
 This has been successful in NICs like the Asian Tigers.
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EXPORT-LED GROWTH
 This means that LDCs swapping from low earning primary
goods to industrial products in which they have comparative
advantage.
 Early stages tend to concentrate on labour intensive, low
technology methods.
 Exports tend to be cheap textiles, shoes, televisions, toys
etc.
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INVESTING IN INFRASTRUCTURE
 As incomes have increased in NICs the governments
have invested in better infrastructure.
 For LDCs to achieve better infrastructure they need
aid.
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POPULATION CONTROL
 In some LDCs they have programmes to limit the
family size.
 They also provide cheap birth control facilities.
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The International Economy: Outcome 2
AID FROM THE
DEVELOPED WORLD
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MOTIVES FOR GIVING AID
1.
Humanitarian – to help those in needs. Normally
foodstuffs, medicine.
2.
Political – to win friends.
3.
Economic – if LDCs and NICs become more
productive and prosperous they will be able to
contribute more to the world economy and
provide new markets.
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TYPES OF AID
 Writing off debt – the US
and UK have written off
debts of certain countries
on the condition that the
money saved is used to
relieve poverty. LIVE 8!
 Gifts of foodstuff
 Grants and Loans – grants
don’t need to be repaid and
can be used for any reason.
Due to corruption in many
LDCs there is a reluctance to
give grants. Loans are
sometimes given with interest
rates below commercial rates.
These are SOFT LOANS
 Tied aid – this is grants or
loans that need to be used
to purchase equipment
from the donor country.
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TYPES OF AID
 Technical assistance and education – technical experts may
go to LDCs to give advice. Wealthier nations may provide
facilities to overseas students to attend college or
university.
 Aid can either be BILATERAL – given from one country to
another or MULTILATERAL – given by the main international
agencies i.e. World Bank and the IMF.
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DISADVANTAGES OF AID
 It may not reach those in need Corrupt governments can
intercept much assistance
 Aid can lead to LDCs being
dependent on rich countries
and give no incentive for the
LDC to grow from its own
resources.
 Donors may finance the capital
expenditure e.g. new roads but
not support the current
expenditure e.g. repairs and
maintenance.
 Food aid can destroy local
farmers if it drives the prices
down.
 Tied aid forces a LDCs to buy
equipment from the donor when
it could be cheaper to borrow
and look for a cheaper supplier
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CHARACTERISTICS OF NICS
NEWLY INDUSTRALISED COUNTRIES
 High economic growth rates – these countries have been
experience growth within there economies.
 Rising export sales
 Little reliance on agriculture – most of the production is
now in manufactured goods.
 Rising standards of living.
 Increasing levels of education and training.
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REASONS FOR RAPID DEVELOPMENT
 High rate of capital investment financed by
consumer savings and high export sales.
 Large investment in education and training.
 Movement of labour from low productivity
industries to high productivity ones.
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The International Economy: Outcome 2
INTERNATIONAL TRADING AND
MONETARY ORGANISTIONS
118
WORLD TRADE ORGANISATION
(WTO)
 Consists of around 120 countries.
 Formed in 1995 and replaced the General Agreement on Tariffs
and Trade (GATT)
 Its purpose is to negotiate reducing and removing trade barriers.
 Countries can complain if they think there are unfair restrictions.
119
THE INTERNATIONAL
MONETARY FUND (IMF)
 IMF was set up in 1947. Has over
160 members.
 IMF has been criticised for
propping up inefficient
economies.
 Aims to:
 encourage the growth of world
trade
 provide conditional financial
support for members with
Balance Of Payment difficulties
 help members facing currency
collapses
 offer assistance on economic
matters
 Has recently tried to
improve by giving loans on
the condition that
governments impose tight
economic controls on their
expenditure.
120
WORLD BANK
 International Bank for Reconstruction and Development
(IBRD)
 Set up at the same time as the IMF.
 The World Bank provides long-term assistance for
development.
 Largest source of multilateral aid.
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 Member states contribute funds in proportion to
their national income.
 Loans then given to LDCs. Used to be only for
development of infrastructure but now targeting
projects that relieve poverty e.g. healthcare and
education.
122
The International Economy
Higher Economics
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