14. The International Economy (AQA A Level Economics): Flashcards

True.

More developed countries export manufactured goods at higher prices while importing cheaper raw materials, so trade tends to favour them.

Interdependence describes how national economies increasingly rely on one another through cross-border trade, flows of capital and the spread of technology.

Comparative advantage is the theory, developed by David Ricardo in 1817, that a country should specialise in the goods and services it can produce at the lowest opportunity cost.

Absolute advantage occurs when a country is able to produce a product using fewer factors of production than another country.

False.

A country may have an absolute advantage but still lack a comparative advantage; it should specialise where its opportunity cost is lowest.

Comparative advantage, based on the lower opportunity cost, is the basis for mutually beneficial trade.

The theory of comparative advantage was developed by David Ricardo in 1817.

It increases the volume of production, which decreases prices and increases the variety of goods and services available, raising living standards.

Opportunity cost is the value of the next best alternative a country gives up when it chooses to produce one good rather than another.

True.

A key assumption of the model is that transport costs are zero, so it ignores the cost of moving goods between countries.

Two assumptions are that transport costs are zero and that there is perfect knowledge of each country's comparative advantages.

By specialising according to comparative advantage, the volume of production increases, and excess output can be exported.

False.

Absolute advantage means producing with fewer factors of production; producing at a lower opportunity cost is comparative advantage.

It can import those goods and services from other countries, while exporting its own excess production.

Free trade is the movement of goods and services across borders without barriers such as taxes, quotas or subsidies.

Increased competition lets firms exploit economies of scale, causing costs to fall so consumers benefit from lower prices.

True.

Employment falls in unsuccessful industries, and structural unemployment is a particular concern when workers' skills no longer match available jobs.

Over-specialisation occurs when a country concentrates on a narrow range of commodity products, making its GDP heavily dependent on their prices.

A country that imports more than it exports will run a deficit on the current account.

Two benefits are greater choice of goods and services and lower prices for consumers.

False.

Up until the 1980s the UK mainly traded with Commonwealth countries; trade with the EU grew later.

Two reasons are the growth of emerging economies such as China and India, and changes in relative exchange rates.

If a country's exchange rate appreciates, its exports become relatively more expensive and its imports become cheaper.

An external shock is an event in another economy that has a knock-on effect at home due to the interdependence created by trade.

True.

Greater trade can leave countries more easily influenced by dominant trading partners, eroding some of their sovereignty.

Exports are a key component of GDP, so an increase in exports can drive economic growth.

Protectionism is the use of policies to limit free trade and protect domestic industries, for example by limiting imports, boosting exports or imposing administrative barriers.

To shield new firms from intense global competition until they are established, after which the support is removed.

False.

Protectionism reduces both the quantity and variety of goods and services available to consumers.

A sunset industry is an industry at the end of its life cycle that a government may support to limit the economic damage of it closing abruptly.

A current account deficit occurs when a country's imports are greater than its exports.

Foreign producers hurt by protection may prompt their governments to impose their own retaliatory measures, further harming free trade.

True.

With reduced competition, domestic firms tend to be less productively efficient and spend less on research and innovation.

Protectionism can take the form of limiting imports and putting administrative barriers in place; it can also limit or boost exports.

Protectionism causes a resource misallocation as production shifts from efficient foreign producers to less efficient domestic ones.

Free trade aims to maximise global output based on the principle of comparative advantage, allowing goods and services to move without barriers.

True.

Governments often step in to protect jobs when firms outsource production or when industries face structural unemployment.

It reduces the pressure to be efficient or innovate, leading to higher prices and lower quality that reduce export sales.

A tariff is a tax on imported goods and services, also known as a customs duty.

The price rises from the world price to the world price plus the tariff, so consumers pay more.

False.

A tariff raises the price, so imports fall as domestic supply extends and quantity demanded contracts.

A welfare loss is the reduction in total economic welfare that occurs when less efficient domestic firms produce at the expense of more efficient foreign producers.

The government receives tax revenue from a tariff, equal to the tariff multiplied by the new quantity of imports.

The government receives tax revenue equal to the tariff multiplied by the new level of imports.

True.

Higher prices allow domestic firms to raise output, so domestic producer surplus increases.

Higher prices allow domestic firms to increase their output through an extension of supply, which may raise employment.

After a tariff, less efficient domestic firms produce at the expense of more efficient foreign firms, creating a welfare loss.

Downstream producers are firms that use the imported product as a raw material, so a tariff raises their costs of production.

False.

Downstream producers face higher costs because the imported raw material becomes more expensive, which may reduce their output.

Less efficient domestic firms replace efficient foreign producers and allocative efficiency is lost, producing a net welfare loss.

A quota is a physical limit on the quantity of imports, usually set below the free market level.

By limiting cheaper imports, a quota raises the market price.

False.

A quota is usually set below the free market level of imports.

An export subsidy is a government payment that lowers domestic firms' costs of production so their goods are more competitive internationally.

By limiting cheaper imports, a quota may create shortages in the domestic market.

It lowers firms' costs of production, allowing them to increase output and lower prices.

False.

An export subsidy lowers domestic firms' costs of production.

With fewer cheaper imports, domestic firms can supply more, which may increase domestic employment.

After the Second World War, the European Union subsidised food production and later exported the excess supply.

A government can use direct subsidy payments, tax relief, or cheap credit and interest-free loans.

Imports fall, because domestic firms increase output and supply a larger share of the market.

Economic integration occurs as countries reduce trading barriers between themselves and become more interdependent.

A trading bloc is a group of countries who agree to reduce or eliminate the barriers to trade that exist between them.

False.

In a customs union, members agree on common tariff rates on imports from external countries.

In a free trade area members keep their own external trade restrictions, whereas in a customs union members agree common external tariffs.

A common market trades goods and services tariff-free like a customs union, and additionally allows the four factors of production to flow freely between members.

A monetary union establishes a common central bank that issues a common currency.

A monetary union adds a common central bank which issues a common currency and controls members' monetary policy.

True.

The WTO was established in 1995 to promote free trade as the best way to raise living standards.

Trade liberalisation is the process of rolling back the barriers to free trade, such as removing tariffs.

It brings countries together to reduce or eliminate trade barriers, and it acts as an adjudicating body in trade disputes.

The WTO acts as an adjudicating body when member countries file trade disputes.

The balance of payments is a record of all the financial transactions that occur between a country and the rest of the world.

The current account comprises trade in goods, trade in services, primary income and secondary income.

In the current account, goods are also referred to as visible exports and imports.

Services are also referred to as invisible exports and imports.

False.

A surplus occurs when more money flows into an account than out of it.

A current account deficit occurs when more money flows out of the current account than flows into it.

The capital and financial account must be in surplus, financing the excess spending on imports.

False.

High inflation relative to trading partners makes exports dearer and imports cheaper, worsening the current account.

A stronger exchange rate makes imports cheaper and exports more expensive.

An inflow of foreign investment increases demand for a currency, potentially causing an appreciation of the exchange rate.

Higher productivity raises output per worker and competitiveness, which may increase export volumes.

True.

A weaker exchange rate makes a country's assets more affordable, potentially increasing the attractiveness of investing there.

An expenditure-switching policy aims to switch consumption from foreign goods to domestic goods, using protectionism or a devaluation of the currency.

An expenditure-reducing policy aims to reduce aggregate demand in an economy, for example through contractionary fiscal or monetary policy.

False.

That describes expenditure-switching; expenditure-reducing policies lower aggregate demand to reduce spending on imports.

Protectionism (tariffs or quotas) and a devaluation of the currency under a fixed exchange rate.

A persistent current account deficit puts downward pressure on a country's currency.

Higher interest rates attract foreign investment, raising demand for the currency and helping to stop it depreciating.

A persistent current account surplus occurs when a country consistently exports more goods and services than it imports.

True.

Higher exports increase foreign demand for the local currency, leading to appreciation.

They often provoke retaliation from trading partners, such as reverse tariffs, which reduces exports.

Under a "do nothing" approach, a floating exchange rate acts as a self-correcting mechanism.

A large economy's deficit or surplus, such as the USA's deficit or China's surplus, has a significant effect on other economies.

True.

Reducing aggregate demand dampens domestic demand, so output can fall and unemployment may rise.

An exchange rate is the price of one currency in terms of another, for example £1 = €1.18.

A floating exchange rate is determined solely by the demand for and supply of a currency, with no government intervention.

The currency appreciates, meaning its price rises.

Appreciation is a rise in the value of a currency, caused by excess demand for it on the foreign exchange market.

False.

Under a floating exchange rate a rise in value is an appreciation; revaluation applies to a fixed exchange rate.

An excess supply of a currency on the foreign exchange market causes it to depreciate.

Depreciation is a fall in the value of a currency, caused by excess supply of it on the foreign exchange market.

The market forces of demand and supply determine the rate, with no government intervention.

True.

A cheaper currency makes exports more competitive and imports dearer, so exports rise and imports fall.

Natural fluctuations in demand and supply help maintain stable current account balances, and the government need not maintain a fixed rate.

Fluctuations in the exchange rate can create uncertainty for firms, leading to reduced investment.

A depreciating currency makes exports cheaper, so export sales increase and economic growth may rise.

A fixed exchange rate system is one in which the central bank intervenes in the currency market to fix (peg) the exchange rate against another currency, such as the US dollar.

It buys its own currency on the forex market using its foreign reserves, which increases demand for the currency.

True.

Under a fixed system these changes are decided by the central bank, unlike appreciation and depreciation which occur in floating systems.

A revaluation occurs when the central bank changes the peg to increase the strength of its currency.

To maintain a fixed exchange rate, a country needs to hold a large amount of foreign reserves so it can buy and sell currencies.

A devaluation occurs when the central bank changes the peg to decrease the strength of its currency.

It provides stability and predictability for international trade and investment, so businesses can plan for future costs.

False.

The central bank must focus on maintaining the exchange rate rather than the interest rate, which limits monetary policy autonomy.

A peg is the fixed value at which a central bank holds its currency relative to another, sometimes at parity but often not.

In theory, a fixed exchange rate should lower speculative trading and reduce currency volatility.

Because they cannot rely on currency movements, so they must keep costs down and raise productivity to keep inflation low.

Central bank intervention is the buying or selling of the currency on the forex market to keep the exchange rate at its target peg.

A currency union, also called a monetary union, is formed when members of a customs union and common market create a common central bank that issues a shared currency and controls their monetary policy.

True.

A shared currency removes exchange rate fluctuations within the union, reducing transaction costs and improving price stability.

They give up control over their own monetary policy to a regional authority, such as the European Central Bank.

The Eurozone is the group of EU countries that have adopted the euro as their common currency under the European Central Bank.

A single currency makes it easier for businesses to engage in cross-border trade, leading to economic growth.

It delivers price stability by eliminating exchange rate fluctuations and lowering transaction costs within the union.

False.

Members lose exchange rate control and cannot devalue or revalue independently to rebalance their economies.

A common central bank is the single regional authority, such as the European Central Bank, that issues the shared currency and sets monetary policy for all members.

A credible, independent central bank promotes investor confidence in all member countries, even weaker ones.

Members must follow strict budgetary rules and coordinated fiscal policies, which limit their fiscal policy autonomy during downturns.

False.

Members relinquish monetary policy control to a regional authority, reducing their flexibility to set interest rates.

A devaluation is a deliberate reduction in a currency's value; inside a monetary union a country loses the ability to use it to restore competitiveness.

Economic development is the sustainable increase in living standards for a country, typically shown by rising life expectancy, education levels and income.

Economic growth is an increase in a country's output, measured by GDP or GNP, without a change in the structure of society.

False.

Growth is an increase in output, whereas development is broader, covering living standards such as health and education.

The Human Development Index (HDI) is a UN composite measure of development that combines health, education and income, scored between 0 and 1.

Health (life expectancy at birth), education (years of schooling) and income (real GNI per capita at PPP).

In the HDI, each of the three indicators is given equal weighting.

True.

The closer the score is to 1, the higher the level of development and the better the standard of living.

A large primary sector, with a high share of the population in extractive industries and too few workers in secondary and tertiary sectors.

Many less-developed economies are over-dependent on one product, leaving them exposed to crop failure or price swings.

A composite indicator combines several individual measures into a single figure, giving better insight into development than a single indicator.

Because it is a composite indicator combining health, education and income, giving a fuller comparison of development across countries.

True.

It uses mean GNI per capita, so it hides income inequality and does not measure absolute or relative poverty.

There is low income per capita and a minority may control much of the wealth, resulting in widespread poverty.

Higher savings fund higher investment, which raises the capital stock and boosts economic growth.

Investment is spending on capital goods that raises a country's capital stock and supports economic growth.

True.

Better health and education raise productivity and potential output, shifting the PPF outwards.

Investing in supply-side policy to improve health and education shifts the production possibility frontier outwards.

Corruption is the misuse of public power for private gain, diverting aid or revenue away from productive investment.

It raises business costs and deters foreign direct investment, making it harder to generate economic activity.

True.

Without property rights, households cannot use their assets to secure loans or generate income.

Because they have healthier workforces, whereas less-developed economies face more sickness and disease.

It is harder for landlocked countries to grow because higher transport costs reduce their competitiveness.

Human capital is the skills, knowledge and health of the workforce, which is raised by investing in education and healthcare.

False.

Poor governance leads to inefficient use of resources and poor decision-making, which deters investment.

Because GDP rises and falls with volatile commodity prices; a more diversified export range reduces this risk.

It reduces confidence in the economy, so international investors are slower to invest for fear of losing their money.

Market-based strategies create the conditions for private firms and individuals to pursue economic activity, aiming to maximise output and profit.

Trade liberalisation is the removal of barriers to international trade, such as tariffs and quotas.

True.

It encourages new firms to enter and compete, increasing total supply and potentially efficiency in the economy.

Deregulation is the process of removing government controls and laws from markets to increase competition.

Government assets may be sold below fair market value, and service quality can fall as private firms focus on profit maximisation.

Interventionist strategies are government measures to correct the failings of the free market and promote the welfare and development of citizens.

It redistributes income from higher to lower earners, reducing income inequality and helping fund free education and healthcare.

False.

A minimum wage is set above the free market rate, and firms are not allowed to pay anyone less than the legal rate.

Transfer payments are government payments to the poorest and most vulnerable, such as unemployment, disability and pension payments.

A drawback of a high minimum wage is that firms' costs of production rise, which may reduce their competitiveness.

Aid is assistance offered to developing nations, in forms such as humanitarian aid, debt relief and Official Development Assistance, to promote growth and development.

True.

Aid may disincentivise individual responsibility and can divert funds to corrupt officials.

Bilateral ODA passes from one donor government to a recipient government, while multilateral ODA is provided through an agency such as the United Nations.