IB ECON The Global Economy: Key Evaluation Points

Benefits of Free Trade

Increased competition, greater efficiency, lower prices, increased consumer choice, flow of ideas and technology, access to international markets, exploitation of economies of scale, reduced violence due to high interdependence, specialisation leading to reduced wastage of resources on ineffiency production, greater allocative efficiency

Assumptions of theory of Comparative Advantage

that other countries have no protectionist policies/always free trade, always producing on PPC, fixed technology, no transportation costs, homogenous goods, fixed quality and quantity of factors of production, always ideal exchange rate,

Constrast Fixed and Floating Exchange Rates

fixed: less uncertainty allowing for less speculation, must hold reserve asset in central bank, few easy ways to address CAD if run out of reserves, less flexibility for policy makers as they must maintain currency, must rely on contractionary monetary/fiscal policy to combat CAD

floating; more uncertainty allowing for more speculations, no need to hold reserve assets, automatic correction of CAD/CAS, if inflation is high can rely on depreciation to fix CAD though this can cause cost push inflation, more freedom for policy makers

Consequences of Persistant Current Account Deficit

depreciation of exchange rate => possibly cost push inflation
high interest rates in order to attract finanical capitial and run financial account surplus => possible recession/falling GDP and unemployment
increasing levels of debt => potential to default on debt and finanical crisis
poor international credit ratings => doubts about country's ability to pay back bond interests etc causing need to increase interest rates
poor economic growth as money is used to pay back debt not on economy
painful contractionary demand side policies

Depreciation as a means to fix CAD

works by causing imports to fall and exports to rise

limitations: J curve effect, won't work if marshall learner condition is not satisfied, cost push inflation

Consequences of Persisant Current Account Surplus

low levels of domestic consumption (consumption within PPC) => low standards of living
lower domestic investment leading to low economic growht prospects => finanical account surplus means funds are exiting economy
appreciation of currency => lowers AD, GDP and more unemployment and reduced export competitiveness

Relationship between Economic Growth and Economic Development

YES growth related to development
higher incomes => less income inequality, better education and health
higher profits => greater R&D, investment, jobs, employment
fiscal dividend => more tax revenue to invest into health and education

NO growth is NOT always development
growth in one sector won't help development (e.g only military growth)
income inequalities still persist if distribution of income is still skewed
negative externalities and sustainbility impacting development despite high growth

growth needed for development, but does not gurantee development

Definition and Pros/Cons: Export Promotion

policies involve in promoting export orientated sectors; high financial assistance and incentives, public investment by government, undervalued exchange rate to make exports competitive

PROS: expansion into foreign markets, diversification beginning for a few key goods then expanding, investment into human capital, employment through use of labour intensive and appropriate technologies

CONS: may be overly dependent on exports, possibly efforts to keep wages low as possible in order to maintain export competitiveness which degrades working conditions, strong exports make other countries feel threatened causing retaliation by protectionism

Definition and Pros/Cons: Regional Trade Agreements

works best when countries in agreement are in same geographical region, have similar levels of technology, market size, development and commitment to cooporation

PROS: new and fair competition due to similar technology/size, access to larger markets, sharing of appropriate technologies, collaboration on infrastructure, environment and R&D

CONS: not too many cons, unless countries do not satisfy conditions above

Risks of Bilateral Trade Agreement for developing countries

efficient firms in developing country may be stifled by firms in developed country

making an agreement with a country that already has agreements with many other developing countries causes high competition for access to developed country's market

developing countries have weaker bargaining power

must agree to regulations that may not be in their best interest

divide developing countries and weaken regional trade agreements

Strategies for economic growth and economic development

International Trade Strategies: import substitution, export promotion, free trade agreements, trade liberalisation
Diversification
Social Enterprises
Market-based policies
Interventionist policies (redistribution of income and provision of merit goods)
Foreign Direct Investment by Multinational Corporations
Foreign Aid
Multilateral Development Assistance
Institutional Change

Definition and Pros/Cons FDI by Multinational Corporations

Investment by large businesses into setting up factories, production etc in developing countries

PROS: create employment, fill savings and investment gap, positive BoP effect as finanical account becomes more positive to finance, development of infrastructure, improve domestic productivity from competition, technological transfer, promotion of local industry if MNC purchases local inputs, tax revenue

CONS: MNC political power and loss of soveignty, employment benefits may be small or short term, environmental degration, inappropriate technologies (capital intensive), promotion of inappropriate consumption patterns, less tax revenue from tax exemption

Definition and Pros/Cons: Market-based Policies (Trade Liberalisation, Privatisation and Deregulation)

Freeing up markets by removing government imposed barriers like trade protectionism, regulations, free floating exchange rates, incentive related policies and labour market reforms etc

PROS: better allocation of resources, improvement in efficiency from competition, economic growth, lower prices, improved quality

CONS: exacerbation of poverty through exploitation of workers by MNCs attracted by fewer regulations, increasing income inequalities, negative externalities on environment, limited benefits for diversification and export growth due to little intervention, cannot deal with market failure of merit goods, public goods and common pool resources (make it worse), international competition wipe out budding industries in developing countries, no credit access for poorer people to get out of poverty cycle

Definition and Pros/Cons: Diversification

Reallocation of resources from primary products into new activities to promote manufacturing and services sector, reducing dependence on it.

PROS: Protection against volatile prices of primary products, product against dependance in primary commodities, sustained increase in exports due to the elasticity of demand for manufactured productions (large potential for increases), improvements to capital from new technology, better health, education and skills of workforce

CONS: Tariffs esclation as finished/manufactured products face more tariffs than primary goods, requires a highly skilled workforce which may not be present in developing countries.

Definition and Pros/Cons: Foreign Aid

The transfer of funds, goods and services to developing countries in order to promote development in economic, political or social conditions

PROS: fill savings gap allowing for investments in to capital and pull people out of poverty, funding to providing education, healthcare and infrastructure, improve inequalities by focusing on poorest, economic growth from increase investment and consumption (more output), redirection of funds used for debt servicing if debt relief is enacted

CONS: uncoordination between donors leads to decreased efficiency, lack of coherence and duplication of projections, aid volatility and unpredictability makes it difficult to fund/plan projects, corruption and misuse of funds not in the interest of the people, aid dependancy may restrict innovation and substitue domestic resources/services, loan repayments on loan based aid create debt problems,

Definition and Cons: Tied Aid

Aid in which the donor country forces the recipiant to spend all or some of the funds on goods and services from the donor country

CONS: forced to buy from donor country and cannot look for cheaper, cost effective alternatives leading to higher costs
may lead to purchase of inappropriate, capital intensive technologies

Definition and Pros/Cons: Aid by NGOs

NGOs are often better than a country's government at enacting foreign aid, however must be seen to be working coorporatively with governments and NOT take their place in governing a country.

PROS: strong anti-poverty focus unlike conflicting politics of governments, working closes with beneificiaries of aid and being more innovative in face of specific problems, foster political awareness, earn the trust of the people thorugh close relationships, offer advice and expertise from various projects around the world

CONS: relatively small in size compared to governments affecting scale for change, overdependence on funding sources which may have alterior motives, attract skilled personel away from governments, challenge to state authority

Definition and Pros/Cons: Import Substitution

A growth policy which promotes its domestic industry through the manufacturing of simple consumer goods (clothes, appliances) and encourage domestic consumers to purchase them in place of imports. Heavily relies on protectionist policies and overvalued exchange rate in order to grow and develop their industry

Definition and Pros/Cons: Multilateral Development Assistance

Involves lending to countries on non-concessional terms (making rates of repayment and interest the same as the market)

Lending for economic development: world bank, various banks
Lending to alleviate external payment difficulties: IMF

Definition and Pros/Cons: Microfinance

Refers to small credit loans to people who ordinarily won't be able to access credit. Microfinance involves small loans to small sized firms, with short repayment periods.

PROS: fills savings gap by allowing poor people to access the credit required to make investments to increase capital and incomes. Tendancy to lend to women helps increase women's empowerment

CONS: may become a substitute for much needed government investment and provision of healthcare, education etc. high interest rates for microfinance. extremely poor people with low literacy for finance may be harmed.

Arguments FOR protectionism

infant industry argument (allowing domestic industry to grow until it is competitive enough to compete with foreign, established firms)

national security (of aircrafts, weaponary etc) - see 2018 trade war where USA justified steel and aluminum tariffs on this basis

health/safety/environmental standards (administrative barriers)

efforts of a developing country to diversify

questionable arguments
protect domestic jobs
correcting BOP (expenditure switching policies)
unfair competiting (like dumping)

Arguments AGAINST protectionism

worsened allocation of resources. higher prices (ex subsidies). welfore loss.

potential for cost push inflation (depending on industry)

trade wars

decrease export competitiveness

Trading bloc PROS/CONS

trade creation (higher cost products replaced by lower cost imports)
more competition, larger markets, bargaining power, political advantages, resource allocation, employment opportunities, investment, consumer choice

trade diversion (low cost imports replaced by high cost imports from member of trading bloc). challenge to WTO trade liberalisation. unequal distribution of gains and losses. loss of sovereignty and independence in decision making

Monetary Union PROS/CONS

PROS: one currency, less exchange rate risk and uncertainty, no transaction costs, price transparency (no need to convert), more inward investment, promote fiscal disipline from member requirements

CONS: no domestic monetary policy, overarching monetary policy may be damaging, cannot use exchange rate ofr adjustment of BoP or uncompetitiveness, loss of soveignty and national level decision making

Consequences of Economic Growth

Can have positive impact on living standards, depending on distribution of rising incomes, household spending trends, government spending on merit goods

Can have negative impact on environment due to widespread belief that implementing environmentally "green" measures is costly for firms, taking away from economic growth

No clear relationship between growth and income distribution; depends on conditions within the economy. Can be negative, due to use of market based supply side policies, meaning vulnurable groups are exposed, or trade liberalisation which can expose vulunrable groups.