6. International trade and globalisation
- Syllabus
- 0455–2027–2028
- Section
- 6
- Level
- —
6.1. Specialisation and free trade
- Syllabus
- 0455–2027–2028
- Topic
- 6.1
- Level
- —
Explain specialisation by country
Specialisation by country occurs when a country concentrates more of its resources on a narrower range of goods and services, then trades to obtain other products. Countries tend to specialise where their resources allow efficient allocation and relatively low-cost production.
| Source of advantage | How it can support specialisation |
|---|---|
| natural resources and climate | suitable land, minerals or weather can raise output or lower production cost |
| labour skills and labour costs | expertise can raise quality and productivity; lower unit labour cost can improve competitiveness |
| capital, technology and infrastructure | better machinery, knowledge and transport can increase productivity and reduce unit cost |
Possible advantages are better use of scarce resources, higher worker expertise and productivity, economies of scale, lower average costs, greater output and export revenue, and access through trade to a wider range of products.
Possible disadvantages are dependence on a narrow range of industries or foreign suppliers, exposure to changes in world demand and prices, structural unemployment when demand moves elsewhere, depletion of natural resources, environmental damage, transport costs and supply-chain disruption.
Specialisation is most beneficial when the cost advantage is durable, resources can move when demand changes, export markets are reliable, and gains exceed adjustment, transport, environmental and dependency costs.
Specialisation does not mean producing only one product, and low cost alone does not prove that every resource is well allocated. Compare the gains with opportunity costs and risks.
Evaluate free trade
Free trade is international trade without government restrictions or protection such as tariffs, quotas and embargoes.
| Stakeholder | Possible advantage | Possible disadvantage |
|---|---|---|
| consumers | more choice, lower prices and stronger quality competition | unsafe or demerit imports may enter; dependence on foreign supply can increase |
| firms | larger markets, cheaper inputs, economies of scale and pressure to become efficient | less competitive domestic and infant firms may lose sales or close |
| workers | export growth can create jobs and raise incomes | import competition can create structural unemployment and regional decline |
| economy | resources may move to lower-cost uses, increasing output, exports and growth | gains may be unequal; external shocks, environmental costs and import dependence can rise |
One possible gain is: fewer trade restrictions → imports become cheaper and competition increases → firms cut costs or improve quality → consumers gain and resources shift towards more efficient producers. The same adjustment can close inefficient firms and displace workers before new jobs appear.
The overall effect depends on domestic competitiveness, the mobility and retraining of workers, how diversified the economy is, the size and timing of adjustment costs, the distribution of gains, and whether prices include environmental and social costs.
Free trade and specialisation are connected but not identical: specialisation is a production decision, while free trade is a trading environment with few restrictions. Free trade may encourage specialisation without guaranteeing that every group benefits.
6.2. Globalisation and trade restrictions
- Syllabus
- 0455–2027–2028
- Topic
- 6.2
- Level
- —
Define globalisation
Globalisation is the increasing integration and interdependence of national economies. It occurs as goods, services, capital, people, technology and information move more easily across borders, linking production and markets in different countries.
A product may be designed in one country, financed in another, assembled from inputs made in several others and sold worldwide. Decisions or shocks in one economy can therefore affect firms, workers and consumers elsewhere.
Globalisation is broader than international trade. Trade is one cross-border flow; globalisation also includes investment, MNC production networks, migration, communication and the spread of knowledge.
Trace causes and effects of changing globalisation
| Change | Route to more globalisation |
|---|---|
| lower trade restrictions | imports and exports face fewer barriers |
| lower transport costs | distant goods become cheaper to move |
| lower communication costs | firms coordinate, sell and transfer knowledge internationally |
| MNC expansion | production, investment and employment link more countries |
| Area | Possible gains | Possible costs or uneven effects |
|---|---|---|
| trade and competition | more markets, choice and pressure to improve | domestic firms may lose sales or exit |
| environment | cleaner technology can spread | extra transport and production may create pollution |
| migration | workers fill shortages and send remittances | skills may leave origin countries; services may face pressure |
| income distribution | new jobs, exports and lower prices can raise incomes | gains may favour skilled workers, owners, regions or MNCs more than others |
| development | investment, tax revenue, skills and technology | dependence, profit outflows or weak labour/environmental standards |
Globalisation does not automatically increase or reduce competition or inequality. The result depends on market entry, firm power, worker skills, ownership, taxation, regulation and how gains are shared.
Evaluate multinational companies
A multinational company (MNC) owns or controls production in more than one country. The host country receives the foreign operation; the home country is where the MNC is based.
| Country | Possible advantages | Possible disadvantages |
|---|---|---|
| host | jobs, investment, exports, tax revenue, skills and technology | profit outflows, pressure on local firms, environmental damage, low pay or tax avoidance |
| home | profits, overseas markets, cheaper inputs and stronger global scale | jobs or investment may move abroad; tax base may fall |
The balance depends on the type and quality of jobs, local sourcing, tax rules, regulation, profit reinvestment, technology transfer and whether the MNC gains excessive market power.
Do not count every foreign seller as an MNC: the firm must operate or control production across countries, not merely export.
Distinguish four trade restrictions
| Method | How it restricts trade | Immediate effect |
|---|---|---|
| tariff | tax on imports | raises their domestic price and government revenue |
| import quota | maximum quantity or value allowed | directly limits import supply |
| subsidy | payment or support to domestic producers | lowers their costs relative to imports |
| embargo | complete ban on trade with a country or in a product | stops the prohibited trade |
Each method protects domestic producers by making imports dearer, scarcer or unavailable, or by making home production cheaper. The exact effect on price, quantity and revenue differs by method.
A quota is not a tax and does not automatically create government revenue. A subsidy supports domestic supply rather than directly taxing or limiting imports.
Explain why governments restrict trade
| Aim | Reason for protection |
|---|---|
| infant industry | give a new industry time to lower costs and become competitive |
| declining industry | slow job losses and structural change |
| strategic industry | preserve essential domestic capacity or security |
| anti-dumping | respond to imports sold below cost or unfairly low prices |
| current-account deficit | reduce import spending |
| tax revenue | collect tariff income |
| demerit goods | reduce harmful imports |
| environmental sustainability | discourage high-pollution goods or production |
The reason must match the instrument and time horizon. Temporary infant-industry protection may allow learning and scale, while permanent protection can remove pressure to become efficient.
A stated aim is not proof the policy will achieve it. Import demand, retaliation, domestic capacity and enforcement determine the outcome.
Evaluate the consequences of trade restrictions
| Home-country group | Possible gain | Possible loss |
|---|---|---|
| protected producers and workers | higher sales, output and employment | weaker competitive pressure may reduce efficiency |
| consumers and import-using firms | domestic supply may survive | higher prices, less choice and higher input costs |
| government | tariff revenue and strategic control | subsidy cost and enforcement cost |
Trading partners lose export demand, output and employment. They may retaliate with their own restrictions, shrinking trade further. A tariff can also divert demand toward less efficient domestic production.
Short-run protection may preserve an infant, declining or strategic industry, reduce selected harmful imports or improve the current account. Long-run costs can include higher prices, inefficient firms, slower innovation, retaliation and reduced specialisation.
Do not assess only domestic producers. A complete judgment includes consumers, firms using imported inputs, government, trading partners and the time period.
6.3. Foreign exchange rates
- Syllabus
- 0455–2027–2028
- Topic
- 6.3
- Level
- —
Read a foreign exchange rate
A foreign exchange rate is the price of one currency in terms of another currency. It tells you how much of the quoted currency can be exchanged for one unit of the base currency.
If £1 = US1.25,onepoundexchangesfor1.25USdollars.Atthatsamemoment,US1 exchanges for £0.80 because 1 ÷ 1.25 = 0.80.
Always read the direction of the quotation before comparing rates. A larger number means the base currency buys more of the quoted currency; reversing the quotation reverses the number.
Why currencies are bought and sold
Every foreign-exchange transaction buys one currency and sells another. The currency needed for the payment is demanded; the currency offered in exchange is supplied.
| Reason | Why currency is exchanged |
|---|---|
| trade in goods and services | importers buy the seller's currency to pay for foreign products |
| speculation | traders buy a currency they expect to appreciate and may sell one they expect to depreciate |
| government intervention | a central bank buys or sells currencies to influence the exchange rate or reserves |
| profit, interest and dividends | cross-border earnings are converted before being paid to owners or lenders |
| workers' remittances | workers convert earnings when sending money to people in another country |
| investment in capital goods | firms and investors obtain foreign currency to purchase overseas capital or establish production abroad |
Do not label a flow as only a purchase or only a sale. Buying foreign currency to import machinery simultaneously supplies the importer's domestic currency.
How a floating exchange rate is determined
In a floating exchange-rate system, market demand and supply determine a currency's price. Equilibrium is the exchange rate at which the quantity of that currency demanded equals the quantity supplied.
An appreciation is a rise in a currency's value, so one unit buys more foreign currency. A depreciation is a fall in its value, so one unit buys less foreign currency.
| Change, other things equal | Foreign-exchange-market shift | Likely result |
|---|---|---|
| foreigners demand more of the country's exports | demand for its currency rises | appreciation |
| residents demand more imports | supply of its currency rises to buy foreign currency | depreciation |
| the country's interest rate rises relative to rates abroad | foreign financial inflows may raise currency demand | appreciation |
| speculators expect the currency to appreciate | they buy it now, raising demand | appreciation pressure |
| speculators expect the currency to depreciate | they sell it now, raising supply | depreciation pressure |
A demand increase or supply decrease creates excess demand at the old rate, bidding the currency up. A demand decrease or supply increase creates excess supply, pushing it down until a new equilibrium is reached.
State which currency's market you are analysing. More imports by the home country increase the supply of the home currency, not its demand, because residents sell it to obtain foreign currency.
Trace exchange-rate effects on trade
An exchange-rate change alters the domestic-currency price of imports and the foreign-currency price of exports. Those price changes then affect quantities demanded.
| Change in home currency | Export price for foreign buyers | Import price for home buyers | Likely demand response |
|---|---|---|---|
| appreciation | rises | falls | export demand falls; import demand rises |
| depreciation | falls | rises | export demand rises; import demand falls |
Depreciation: home currency buys less foreign currency → imported products and inputs cost more at home, while home exports become cheaper abroad → buyers tend to switch towards home output. Appreciation reverses these price signals.
The size and timing of the demand response depend on price elasticity, whether firms pass the exchange-rate change into prices, the availability of substitutes, contracts and production capacity.
A depreciation does not guarantee that export revenue rises or import spending falls. Quantity demanded must respond enough to the changed prices, and adjustment can take time.
6.4. Current account of the balance of payments
- Syllabus
- 0455–2027–2028
- Topic
- 6.4
- Level
- —
Build and calculate the current account
The current account records recurring flows of goods, services, income and transfers between a country and the rest of the world. Money received is a credit (+); money paid is a debit (−).
| Component | What it records | Balance |
|---|---|---|
| trade in goods | exports and imports of physical products | goods exports − goods imports |
| trade in services | services such as tourism, transport, insurance and banking | service exports − service imports |
| primary income | wages, profits, interest and dividends earned across borders | income received − income paid |
| secondary income | one-way current transfers such as remittances, aid and contributions | transfers received − transfers paid |
currentaccountbalance=goodsbalance+servicesbalance+netprimaryincome+netsecondaryincome
Example: goods −30bn,services+20bn, primary income +8bnandsecondaryincome−3bn give −30 + 20 + 8 − 3 = −$5bn: a current account deficit.
A deficit is a negative balance, not simply 'more physical imports than exports'. A goods deficit can be outweighed by surpluses in services or income. Purchases of overseas assets are not current-account transactions.
Explain current account deficits and surpluses
A current account deficit occurs when total current-account debits exceed credits; a surplus occurs when credits exceed debits. The cause may come from trade, primary income or secondary income.
| Change | Likely pressure on the current account | Mechanism |
|---|---|---|
| higher domestic income | towards deficit | households and firms can buy more imports |
| higher income in trading partners | towards surplus | foreign demand for exports may rise |
| higher domestic inflation or weaker productivity/quality | towards deficit | exports lose competitiveness and imports become relatively attractive |
| currency appreciation | often towards deficit | export prices rise abroad while import prices fall at home |
| lower trade restrictions at home | towards deficit | imports become easier or cheaper to buy |
| stronger investment income, remittances or aid inflows | towards surplus | primary or secondary income credits rise |
Reverse changes tend to move the balance the other way: stronger competitiveness, higher productivity, depreciation or weaker domestic demand may reduce a deficit or increase a surplus.
Do not explain the whole current account only with exports and imports of goods. Services, primary income and secondary income can reverse the trade balance's effect.
Evaluate the consequences of current account balances
A current account balance affects total demand and currency flows, but its impact depends on its size, duration and cause.
| Outcome | Persistent deficit pressure | Persistent surplus pressure |
|---|---|---|
| GDP | lower net exports can reduce total demand and growth | higher net exports can raise total demand and growth |
| employment | weaker domestic output may reduce labour demand | stronger output may increase labour demand |
| inflation | weaker demand may reduce demand-pull inflation, but depreciation can raise import costs | stronger demand may cause demand-pull inflation, while appreciation can lower import costs |
| exchange rate | selling domestic currency to finance net outflows can cause depreciation | foreign demand for the currency can cause appreciation |
A deficit may finance productive raw materials and capital goods that raise future capacity, so it is not automatically harmful. A surplus may create jobs but can reduce domestic consumption, exhaust resources or appreciate the currency and weaken future export competitiveness.
Judge the balance in context: distinguish a small temporary imbalance from a large persistent one, and identify whether imports support consumption or future production.
Choose policies for balance of payments stability
Policy should target the cause of an unwanted current account imbalance. A measure is effective only if it changes current-account credits or debits enough without creating larger costs elsewhere.
| Policy route for a deficit | Intended mechanism | Main limit |
|---|---|---|
| reduce total demand: higher taxes, lower government spending or higher interest rates | lower income and spending reduce import demand | may reduce GDP and employment; imports may be necessities |
| tariffs or import quotas | raise import prices or restrict quantities, switching demand to home output | retaliation, smuggling, higher input prices and no domestic substitutes |
| producer/export subsidies | lower costs or improve quality, raising competitiveness | fiscal cost, dependency, inefficiency and retaliation |
| currency depreciation | exports become cheaper abroad and imports dearer at home | depends on price elasticity, inflation, capacity and time |
| supply-side policies: education, infrastructure and productive investment | higher productivity lowers unit costs and improves quality | slow, costly and ineffective if foreign demand is weak |
For an unwanted surplus, policies can work in reverse: stimulate domestic demand, reduce import restrictions or allow appreciation so imports rise and export demand moderates.
Combine policies when causes differ. Supply-side improvement may be more sustainable than permanent protection, while short-run demand or exchange-rate measures can work faster. Check elasticity, time lags, spare capacity, trading-partner retaliation and effects on inflation, output and employment.
Balance of payments stability does not mean forcing the current account to equal zero every year. The aim is to avoid an imbalance that is large, persistent or damaging.