The exchange of goods and services across national borders
When an economy can make more of a product with the same resources than another economy (ie at a lower unit cost)
When a country can make a product at relatively lower opportunity cost than another nation
A capital-abundant country will export the capital-intensive good: labour-abundant country will export the labour-intensive good
How to gain comparative advantage
Investing in education and technology
How does international trade affect world GDP
Specialisation and trade increase world output with given inputs. Better use is made of scarce resources. More wants are met. Trade increases exports which increases AD, real GDP and so results in economic growth
How does international trade affect economies of scale
The size of the market increases. Exporting firms increase scale of production. Long run unit costs fall and LRAS increases leading to potential growth
How does international trade affect competition
Domestic monopolies must compete with importers and have incentives to eliminate x-inefficiencies. This leads to increased productivity which increases LRAS leading to potential growth
How does international trade affect dynamic efficiency
Dynamic efficiency occurs when firms make productive efficiency gains over time. Trade increases competition encouraging firms to adopt latest technologies which increase productivity, LRAS and potential growth.
Terms of trade
Ratio of export prices to import prices stated as an index value
Measurement of terms of trade
Terms of trade = index of export prices / index of import prices x 100
Improvement in terms of trade
When export prices rise faster than import prices
Importance of terms of trade
Influences the ability of countries to benefit from international trade. A fall in the ToT means a country must export a larger amount of exports to pay for a given amount of imports
Terms of trade between primary products and manufactured goods tend to deteriorate over time. Developing economies exporting mainly primary commodities are able to import fewer manufactures for a given level of exports
Implications of prebisch-singer
To avoid the development trap, developing economies must change the change the structure of the economy and acquire a comparative advantage in non-primary products eg tourism or call centres.
Limitations of the terms of trade
Movements in the terms of trade reflect relative price changes but give no information about import and export volumes. The impact on the current account depends on the price elasticity of demand for imports and exports
Infant Industry Argument
Economic development requires infant industries in developing countries to receive protection from rivals in developed countries. This allows them time to realise their potential competitive advantage.
High human development
Countries with a HDI of 0.8 or higher.
Impact of increase in LRAS on BoP
Productivity gains, new machinery and technological innovations all strengthen international competitiveness. Higher X and lower M improve the current account
World Trade organisation (WTO)
An International agency which negotiates and policies trade agreements between member nations.
Fewer people in relative poverty
Suggests improving economic development
Impact of rising consumption on balance of payments
Worsen BoP. Impact is magnified if demand for imports is elastic
Impact of rising exports on BoP of payments
Current account improves
Industries with a potential comparative advantage that need short run protection from lower cost overseas rivals while they establish themselves.
Occurs when income is insufficient to buy basic necessities of life e.g. food and shelter. WTO = $1.25
Bilateral exchange rate
The exchange rate between two currencies e.g. $2/£.
A country with a low per capita income, and undeveloped secondary and tertiary sectors.
The process of improving individual economic wellbeing and quality of life across all sections of an economy.
The process of improving individual's economic wellbeing and quality of life across all sections of society.
Occurs when best use is made of scarce resources; when both productive and allocative efficiency are achieved.
An individual material standard of living.
Making the best use of scarce resources.
The process of creating ever closer links between national economies.
A World Bank classification of a country with a 2009 per capita Gross National Income of $12,196 or more.
Human development Index (HDI)
A measure of country's average achievements in three equally weighted aspects of human development: life expectancy, educational attainment and per capita $PPP income.
An increase in the proportion of GDP and employment accounted for by the secondary sector of the economy i.e. manufacturing
When economic agents are interlinked e.g. trading partners become mutually dependent on one another for products.
International Monetary Fund (IMF)
The central institution of the international monetary system established to promote international financial stability.
Low human development
Countries with a HDI below 0.5.
A World Bank classification of a country with a 2009 per capita Gross National Income of $995 or less.
Medium human development
Countries with a HDI at or above 0.5 and less than 0.8.
A multinational (transnational) corporation is a business that operates in more than one country.
When output is maximized from given inputs. This means products are made a lowest possible unit cost. MC = AC.
Government policies that create barriers to trade e.g. tariffs and quotas to shield domestic firms from overseas competition.
Quality of life
Non-economic aspect of wellbeing such as health, education, life expectancy, participation in society and individual freedom.
Relative opportunity cost
The cost of one product in terms of the sacrificed output of another product in one country, compared with another nation.
Transfers of cash by households resident in one economy to households resident in another economy.
Send funds to the home country e.g. MNCs repatriate profits made overseas.
Barriers and restrictions on the import or export of products.
is a global organisation that provides development funding to countries.
Quantity and quality of land, labour, capital and enterprise
Capital Account of the Balance of Payments
Direct investment- Company and property acquisitions
The Keynesian view on unemployment
The economy can be in long-run equilibrium below the potential level of GDP and below full employment
The Keynesian view on why the economy can be below full employment
Wages and factor prices can be 'sticky' because markets are not perfect
Classical economists view
SRAS shifts as as labour markets adjust
Classical view on unemployment
Labour markets will clear as wages fall
72 year rule
1% growth leads to GDP doubling
The difference between actual and potential output
Long term economic growth requires
increased or better quality labour, capital and enterprise
Classical and keynesian economists agree
A shift in LRAS is required for long-term growth
increase in the stock of plant building and machinery
Quality of capital
Improves labour productivity
the amount of capital needed to generate £1 of GDP each year
More wants can be satisfied
Lower unemployment means
country is making better use of its resources
Indicates improved international competitiveness
Improved current account
Indicates improved international trade position
Workers are generating more output with given input
Determined by quantity and quality of resources (labour, capital, enterprise)
Long-run economic growth
Increase in productive capacity
Short-run economic growth
Increase in real GDP
Actual or short-run economic growth is achieved by
Better use of existing resources
Potential or long-run economic growth is achieved by
Increase in the quantity or quality of resources
Actual or short-run economic growth is caused by
changes in AD and SRAS
UK's trend growth
Fluctuations in the level of real GDP over time
Negative output gap
Actual GDP is below potential GDP. Under-utilised resources. Spare capacity. Cyclical unemployment. Little upward pressure on prices
Positive output gap
Actual GDP is above potential GDP. Economy is operating above full capacity. Labour works overtime. Upward pressure on prices.
How to increase the quantity of labour
Increase working age population and increase labour participation
Increased quality of labour
Increasing the quantity of capital
Increases capital stock
Reduces capital stock
Productivity of capital
Capital output ratio
Harrod Domar Model
Rate of economic growth depends on: Level of national saving (S) + the productivity of capital investment (capital-output ratio). With insufficient savings in developing nations, growth will be limited
How much output is created with one unit of capital - For example, if £100 worth of capital equipment produces each £10 of annual output, a capital-output ratio of 10 to 1 exists
Potential benefit of FDI
technology and knowledge transfer to host country resulting in dynamic efficiencies
What is inflation
A sustained rise in the price level
Percentage change in the price level over a given period of time
Classical view of inflation
Increase in AD always causes in inflation if no increase in LRAS
Keynesian view of inflation (1)
Increase in AD may not cause inflation if economy stuck in elastic LRAS. Increase in AD will cause inflation at or near Yfe.
Link between structure of AD and inflation
If C or G rise there is no impact on productive capacity. If I rises there is an increase in AD and in LRAS
Balance of payments
Records economic transactions between a country and the rest of the world
loans and deposits. movement of funds seeking profit from changes in actual or anticipated interest rates or exchange rates
Mergers and acquisitions. Buying shares to gain control.
Impact on BoP of inward FDI
Capital account improves in the short run
Impact on BoP of potential economic growth
Supply side improvements strengthen international competitiveness
Impact of economic growth on tax receipts
Higher income, VAT and corporation tax
Government spending and taxation decisions
Two or more consecutive falls in quarterly GDP.
Bank of England
Responsible for monetary policy since 1997
Impact of interest rates
Consumption, investment and net exports are affected which affect AD and GDP
Individuals willing and able to work but unable to find a paying job.
Subsidising education and training
Supply side policy to improve quality of labour. Improved occupational mobility and skill levels for high-tech high value added jobs
Actual economic growth
An increase in real GDP over time - from making better use of an economy's existing resources. Short run economic growth.
The amount of total output produced by an economy in a given time period.
Total demand for a country's output at different price levels in a given time period.
Aggregate demand curve
Shows total planned spending on domestic output at a different price levels.
The total amount of output a country's firms are willing and able to produce at a given price level, in a given time period.
Capital and Financial Account
A record of money between UK and overseas residents from the purchase of fixed or financial assets e.g. factories shares and loans.
A Latin phrase meaning 'all other things (influences) being equal'
Economists who argue that the forces of supply and demand means market clear quickly without the need for government intervention.
Primary products such as gold, oil, wheat or rubber.
Where one country devalues its currency to improve international price competitiveness.
Competitive non appreciation
Where one country prevents a rise in the value of its currency to improve international price competitiveness
A record of money flows between UK and overseas residents arising from transactions in goods, services, investment income and current transfers.
Government measures to lower total aggregate demand and spending e.g. higher interest rates and taxes. Also called contractionary policies.
Decline in the proportion of GDP and employment accounted for by the secondary sector of the economy i.e. manufacturing.
A country with a high per capita income and modern secondary and tertiary sectors.
Improved economic efficiency over time.
Short run: an increase in an economy's real GDP over time; long run: an increase in an economy's productive capacity over time.
Any economic matric (statistic) that measures economic activity e.g. GDP, economic growth, inflation or unemployment rate, or current account.
How well a country or firm uses it scarce resources.
An unexpected economic event that occurs outside the economy.
Methods used by society to allocate scarce resources between alternative uses; How economies decide what how and for whom to produce.
A state of balance.
The price of one currency in terms of another currency (bilateral) or other currencies (effective exchange rate)
Originating externally e.g. world economic activity.
The balance on the current account.
External economic shocks
A significant unexpected economic event occurring outside an economy e.g. a rise in world oil prices
Fixed exchange rate
The price of one currency against other currencies is held constant by state intervention.
Floating exchange rate
The value of the currency is determined in markets called Foreign Exchange Market (Forex), without any government intervention.
Foreign currency reserves
Official international reserves (deposits) of overseas currencies of $, €, ¥, etc. held by the government at the central bank.
Foreign direct investment (FDI)
A multinational in one economy acquires a lasting interest in a business in another economy; international investment.
The body that passes, monitors and enforces laws, collects taxes to finance public expenditure, and intervenes in markets to influence the behavior of economic agents.
Gross Domestic Product (GDP)
The total value of goods and services produced in an economy in a time period.
Gross National Income
The total income earned by the citizens of a country in one year from economic activity, during a given period, usually one year.
The skill knowledge and expertise of the labour force acquired through experience education and training.
Upward forces on the price level from cost push or demand pull inflation factors - Firms may opt to hold or raise prices to maintain margins.
The ability of firms in an economy to match the price and quality of other nation's output.
J curve effect
The path followed by the current account following an exchange rate depreciation where the trade balance initially worsens before it improves.
Knowledge and technology transfer
The transfer of research and development outcome between firms and countries.
Long term capital flows
Flows of money between countries to finance foreign direct investment in assets such as land, building, stocks and portfolio investment in e.g. shares.
Predicts that depreciation improves the current account only if the combined elasticities of demand for imports and exports are greater than one.
When the market price of a product is unstable overtime.
An economic variable that moves in the same direction as the economic cycle e.g. employment; Economic policy that magnifies the economic cycle.
The amount of output created per unit input of used.
Nominal GDP adjusted for inflation; real output i.e. current output valued at constant (base year) prices.
Household savings are insufficient to finance appropriate levels of net investment.
Short term Capital flows
Speculative funds that move between countries hoping to make a capital gain from expected changes in interest and exchange rates i.e. hot money.
The ability to increase output using existing resources by making use of currently idle capital and labour.
Supply side policy
Government measures designed to increase productive capacity and so increase aggregate supply.
The increase in an economy's productive capacity i.e. potential GDP, over time.
The extent to which total wealth is shared out between households.