IBHL-2 BW 027

IBHL-2 BW 027

Distinguish between bilateral and multilateral trade agreements

Between 2 and between many countries

Explain and give an example of each of the six stages of economic integration described by Bela Balassa

Preferential trading areas

A trading bloc that gives preferential access to certain products from certain countries.

Usually carried out by reducing (but not eliminating) tariffs.

·         free trading areas

When countries agree to trade freely within the FTA, but are able to trade with countries outside the FTA in whatever way they wish.

·         Custom unions

When countries agree to trade freely within the CU, and also agree to adopt common external barriers against any country attempting to import into the Customs Union.

All common markets and economic and monetary unions are also customs unions, thus the EU is customs union [plus a common market].

·         Common markets

Common markets are customs unions with common policies on product regulation & free movement of goods, services, capital and labor.

The best known example of a common market is the EU.

·         Economic and monetary union

An economic and monetary union is a common market with a common currency.

The best example of an economic and monetary union is the Eurozone, which includes EU member countries that have adopted the Euro as their currency.

·         Complete economic integration

This would be the final stage of economic integration

Individual countries involved would have no control of economic policy, full monetary union, and complete harmonization of fiscal policy.

This is what the Eurozone is moving toward.

Chart the advantages and disadvantages of a monetary union for its members

•       Benefits in economic terms include:

§  greater size of market with the potential for larger export markets

§  increased competition leading to greater efficiency

§  more choice

§  lower prices for consumers

•       Consequences are uneven

§  Some domestic producers will gain from a larger market while others may not be able to compete.

BW

2)            Explain the marshal Lerner condition

has been cited as a technical reason why a reduction in value of a nation's currency need not immediately improve its balance of payments.[1] The condition states that, for a currency devaluation to have a positive impact on trade balance, the sum of price elasticity of exports and imports (in absolute value) must be greater than 1.

1)            Illustrate and explain the J-curve effect

In economics, the 'J curve' refers to the trend of a country’s trade balance following a devaluation or depreciation under a certain set of assumptions. A devalued currency means imports are more expensive, and on the assumption that the volume of imports and exports change little immediately, this causes a depreciation of the current account (a bigger deficit or smaller surplus).

Economic integration

Economic integration

Introduction	Describes a process whereby countries coordinate and link their economic policies. As the degree of economic integration increases, the trade barriers between countries decrease and their fiscal and monetary policies start to synchronize.
Trading blocs	Defines as a group that joins together in some form of agrement in order to increase trade between themselves sic stage ·         Preferential trading areas A trading bloc that gives preferential access to certain products from certain countries. Usually carried out by reducing (but not eliminating) tariffs. ·         free trading areas When countries agree to trade freely within the FTA, but are able to trade with countries outside the FTA in whatever way they wish. ·         Custom unions When countries agree to trade freely within the CU, and also agree to adopt common external barriers against any country attempting to import into the Customs Union. All common markets and economic and monetary unions are also customs unions, thus the EU is customs union [plus a common market]. ·         Common markets Common markets are customs unions with common policies on product regulation & free movement of goods, services, capital and labor. The best known example of a common market is the EU. ·         Economic and monetary union An economic and monetary union is a common market with a common currency. The best example of an economic and monetary union is the Eurozone, which includes EU member countries that have adopted the Euro as their currency. ·         Complete economic integration This would be the final stage of economic integration Individual countries involved would have no control of economic policy, full monetary union, and complete harmonization of fiscal policy. This is what the Eurozone is moving toward.
An evaluation of trading blocs	Depends on degree of integration •       Benefits in economic terms include: §  greater size of market with the potential for larger export markets §  increased competition leading to greater efficiency §  more choice §  lower prices for consumers •       Consequences are uneven §  Some domestic producers will gain from a larger market while others may not be able to compete.
Trade creation and trade diversion	Trade creation- Trade diversion-

BW 022

1)      Describe a fixed exchange rate system and explain the actions required to maintain currency x fixed.

2)      Draw and explain quota graph.

1) When the value of a currency is pegged (fixed) to the value of:

a.       another currency

b.      the average value of a selection of currencies

c.       the value of a commodity (gold for example)

If a currency devalues then the coutry will need to buy its currency on the forex to increase D then the exchange rate increases

If a currency  revalues then the country will need to sell its currency on the forex, to increase S then decrease the exchange rates

2)           

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Balance of payments

The balance of payments account	•       Balance of payments account is a record of the value of all transactions between residents of one country, with the residents of all other countries in the world over a given time period (usually one year).
The current account	•       The current account is a measure of the flow of funds from trade in goods/services (plus other  income flows). It is sub-divided into three parts: 1.       Balance of trade in goods 2.        Balance of trade in services 3.       Net income flows
Balance of trade in goods	•       Also called- visible trade balance, merchandise account balance or balance of trade •       It is a measure of the revenue received from the exports of tangible (physical) goods, minus the expenditure on the imports of tangible goods, over a given time period. •       Examples- trade in airplanes or chickens (something you can touch!)
The balance of trade in services	•       Also called the invisible trade balance, service balance or net services. •       It is a measure of the revenue received from the exports of services, minus, the expenditure on the imports of services over a given time period. •       Examples: banking, insurance, tourism
Income	Net investment incomes (net factor income from abroad)- a measure of the net monetary movement of profit, interest and dividends moving into and out of the country over a given period of time. It is a result of financial investment abroad.
Current transfers	•       Also called the invisible trade balance, service balance or net services. •       It is a measure of the revenue received from the exports of services, minus, the expenditure on the imports of services over a given time period. •       Examples: banking, insurance, tourism
The capital account	•       The capital account is a measure of the buying and selling of assets between countries. •       Examples- land, real estate, firms
The financial account	Direct investments- a measure of the purchase of long term assst where the purchaser is aimoing to gain long lasting interst Portfolio Investment- investment in stocks/shares, currency transactions and bank and savings account deposits Reserve assets- In the context of BOP and international monetary systems, the reserve asset is the currency or other store of value that is primarily used by nations for their foreign reserves.[
Consequences	The existence of a deficit or surplus in either the current or capital account result in economic consequences. Foreign exchange reserves may be used to increase the capital account & regain the balance. A country can’t do this forever, eventually the reserves will run out… In some case,s a high level of buying assets for ownership is financing the current account deficit; this could be based on foreign confidence in the domestic economy and is not a bad thing. BUT if foreign ownership of domestic assets is too great, economic sovereignty could be at stake. Plus if there is a “drop” in confidence, foreigners might sell the assets, increasing the supply of the currency making its value fall. It may be the current account deficit is financed by high levels of lending from abroad. If this is the case then high levels of interest must be paid. In the short-term, this could drain the economy and further increase the current account deficit in  the future. Also, the danger exists that lenders could withdraw their money, leading to massive selling of the currency and a sharp decline in the exchange rate. •       A capital account surplus is mainly positive, as it allows a current account deficit. •       BUT a capital account surplus based on high levels of borrowing from abroad is not good. –      High interest payments may drain the economy for years and if the lender withdraws its money could cause a sharp decline in the exchange rate.
Methods of correcting a persistent current account deficit	Expenditure-switching policies-Policies that attempt to switch the spending of domestic consumers away from imports and toward domestically produced goods/services. When successful, spending on imports falls and the current account deficit improves Examples- policies to depreciate/devalue the currency or protectionist measures Expenditure-reducing policies-Policies that attempt to reduce overall spending in the economy, shifting the AD curve left. When this occurs spending on all goods/services decreases (including spending on imports) The size of the fall in imports will depend on the marginal propensity to import Examples- Deflationary fiscal policies (increase taxes or decrease G [government spending] OR deflationary monetary policies (increase interest rate OR reduce the money supply)
Marshal lerner condioton	Introduction- In theory, when a country’s currency depreciates or is devalued there will be an increase in exports and a decrease in imports. AND that should improve a country’s current account deficit. BUT this is not always the case. B/C the effect of a price change (even a currency price change) depends on Price Elasticity of Demand (for imports or exports)
The J curve	If a government is facing a current account deficit, it may reduce the exchange rate of its currency in order to make exports relatively less expensive and imports relatively more expensive. If this happens AND the Marshall-Lerner condition is satisfied, PEDexports + PEDimports >1, then we can expect an improvement in the current account deficit. But in the short-run this is not always the case and the current account deficit actually gets worse before it gets better. This is called the J-curve effect

Exchange rates

Exchange rates

Exchange rates	An exchange rate is the value of one currency expressed in terms of another currency  1 Euro- 1.28 dollars
Exchange rate systems- Fixed rate	When the value of a currency is pegged (fixed) to the value of: a.       another currency b.      the average value of a selection of currencies c.       the value of a commodity (gold for example) As the value of the variable that the currency is pegged to changes, then so does the value of the currency. Choosing and maintaining the fixed value  source of the currency is done by the government or central bank. If the value of the currency is raised, we call it a revaluation, if lowered, a devaluation.
Floating	A type of regime where the value of a currency is determined solely by demand for, and supply of, the currency on the Forex. There is no government intervention. When the value of the currency rises in a floating exchange rate regime, we say it has appreciated (appreciation), when it falls, it has depreciated (depreciation).
Demand shifts in the country's currency	Buy US exports of goods or services Change in taste in EU in favor of US products Increase in European incomes, thereby increasing demand for all things, including US imports Lower inflation rates in US, thereby making US products/services relatively cheaper than EU products/services Travel to the US Save their money in US banks or financial institutions US interest rates increase, making it more attractive to save money in the US than in the EU Make money speculating on the US dollar European speculators think the value of the dollar will rise in the future, so they buy it now to sell once it has appreciated and make financial gain.
Managed exchanged rates	No currency in the world is completely free floating. Certain circumstances require non-interventionist governments to get involved. –      For example: when a currency experiences extreme &/or frequent fluctuations, governments tend to intervene to stabilize the currency. –      Why are frequent &/or extreme fluctuations bad for business?
The possible advantages and disadvantages of high and low exchange rates	Pros- high Downward pressure on inflation- overall price levels experience downward pressure due to inexpensive imports More imports can be bought- each unit of currency buys more foreign currency, and therefore, more foreign goods and services. Forces domestic producers to improve efficiency to remain competitive Cons-high Damage to export industries- Exporters may find it difficult to sell abroad, could possibly lead to unemployment. Damage to domestic industries- With more imports purchased, domestic producers may find increased competition causes a fall in demand for domestic goods/services, could also lead to unemployment. Pros- low Greater employment in export industries- Exports from the country are attractive to buyers abroad, possibly leading to more employment. Greater employment in domestic industries- Relatively expensive imports encourages domestic consumption & therefore domestic employment . Cons- low Inflation- Imports needed for production will be relatively expensive, increasing the cost of production for firms which leads to overall higher prices in the economy. Increased demand for products/services from international buyers encourages  firms to raise prices across all economic sectors. Pros and cons of all
Gov. intervention to intervene in the foreign exchange market	Lower exchange rate to increase employment Raise exchange rate to fight inflation Maintain fixed exchange rate Avoid large fluctuations in a floating exchange rate. Achieve relative exchange rate stability to improve business confidence Improve a current account deficit (when spending on imports exceeds revenue earned from exports) Use foreign currency reserves to buy, or sell foreign currencies. Use reserves of foreign currencies to buy own currency (increasing demand forcing exchange rate up) Buy foreign currency (increasing the supply of own currency on the Forex) Change interest rates Raise interest rates- encouraging foreign investment saving Lower interest rate- making foreign investment abroad attractive, increasing supply of currency on the Forex
Advantages and disadvantages of fixed exchange rate	Pros fixed Reduces uncertainty- business can plan ahead knowing cost & prices for international trading agreements will not change. Ensure sensible government policies on inflation (because damage from inflation could be so harmful if competitiveness is not maintained) Theoretically, should reduce speculation on the Forex Cons fixed The macroeconomic goal of low unemployment may have to be sacrificed to maintain the fixed rate through interest rate changes. Country must maintain high levels of foreign reserves to defend it’s own currency on the Forex. Choosing the exact “fixed” level is complicated and difficult and may require revaluation/devaluation. A country (China) that fixes its exchange rate artificially low risks international disagreement. •       Its exports would gain an unfair trade advantage on the world market, possibly infuriating other nations. Pros floating Frees up interest rates to be employed as domestic monetary policy tools to control aggregate demand & therefore inflation/employment Floating exchange rates should adjust themselves to maintain a current account balance. (Explain) High levels of foreign currency reserves or gold are not necessary. Cons floating Creates uncertainty, hard for businesses to plan for costs, investments are difficult to assess. Self-adjustment doesn’t always work (fast enough) to eliminate current account deficits. Can worsen existing levels of inflation. •       A country with relatively high inflation has difficultly exporting to others. •       The exchange rate would then fall to rectify the situation •       But this could lead to high import costs on raw materials/components necessary for production •       Leading to cost-push inflation

BW

1)      List as many different international currencies and their corresponding countries as you can.

South African Rand

United States Dollar

Lire Egypt- Egyptian pound

Danish kroner

Swedish kroner

Norwegian kroner

Icelandic kroner

`European Euro

English pound

Chinese yuan

Japanese Yen

Jornadian dinars

Tunisian Dinars

Indian Rupee

Canadian dollar

Swiss frank

Australian dollars

Russian ruble

Mexican peso

Argantinian peso

Philipinian peso

Chilean peso

Colombian peso

Cuban peso

Zimbabwe dollar

Lao kip

Nigerian Naira

Jamaican dollar

Bermudan dollar

Ukrain ruble

Lybian Lib

Manx pound

Scottish pound

UAE Durham

Oman riyals

Qatar riyals

Fijian dollars

Singapore dollars

Sudanese pound

2)a Olive oil= euro 10

10/0.80= 12.5

b) 10/0.85=11.76

c) 1 euro= 1.25 dollar

D) 1/0.85 = 1.18