A Level Economics. International Issues. Globalisation

Introductory Task

Section 1. What is Globalisation?

Globalisation refers to the removal of barriers in the movement of goods, services, investment and workers between countries, leading to the world becoming a single market.

At present, there are still many restrictions on international movement of workers, although some countries rely heavily on migrant labour and some trade blocs allow workers to move between their countries. In terms of products and investments there is much greater ability for them to move between countries.

Causes of Globalisation

There are four main elements that have broken down the national barriers for product, capital and labour markets:

  • Technological advances
    • Firms are now able to maintain permanent communication with production plants that are geographically remote and to coordinate the production process internationally. This has led to a larger number of Multi National Corporations (MNCs), who have more influence. Improved technology and communication also makes it easier for customers to buy products from distant countries.
  • Improved transport
    • Higher speed, more reliable, lower cost transport has made it cheaper and easier to move parts between factories and for individuals to buy goods from other countries.
  • Removed trade restrictions
    • International efforts to remove tariffs, for instance, have enabled firms to compete on more equal terms, thus promoting international trade.
  • Removed restrictions on foreign investment
    • Although some countries still have limits on the potential for foreign firms to purchase domestic firms, or foreign firms to set up operations in a domestic market, these limits have declined in recent years.

Indicators of Globalisation

One way to measure globalisation is by looking at the growth in world trade and world output, and the ratio between them. Another related indicator is the ratio of exports to GDP of individual countries, which can indicate their level of integration in the global economy.

We can also consider flows of portfolio and direct investment. The ratio of FDI to GDP is a useful measure for this and can be measured at single country or whole world level. We can also look at flows of migrant workers and international migration.

Consequences of Globalisation

Globalisation can drive economic growth and can encourage countries to specialise at what they are best at producing. By making use of comparative advantage, global output can be increased, causing an increase in living standards.

Firms in different countries competing on more equal terms due to removed trade restrictions and lower transport costs, can lead to lower prices and increased consumer surplus. Consumers also benefit from the availability of a greater variety of goods.

Free movement of direct and portfolio investment can reduce income inequality, as when an MNC sets up in a low-income country, which can help to increase productivity and wages in that country.

There are, however, potential disadvantages of globalisation:

  • Structural unemployment – Whilst opening the economy to international competition leads to some industries expanding, it also typically leads to other industries declining. If the workers in those industries are not mobile, they may remain unemployed for a long period.
  • Demand and supply-side shocks – Countries can be more susceptible to these when they are more closely linked to other economies. For instance, a natural disaster in a country which is a major supplier of raw materials can cause disruption in output of final products. Due to free flow of portfolio and direct investment, funding can also often be withdrawn quickly, creating a negative multiplier effect.
  • Constraints on domestic government policy – Increased competition from other countries and greater mobility of factors of production can have an impact, for instance, if other governments are setting low tax rates, it can be difficult for a country that wants to set higher tax rates to get revenue to spend on reducing poverty in the country. Also, a government may find it difficult to implement stricter pollution controls, as MNCs can threaten to leave the country.

In reality, certain countries benefit from globalisation and other countries lose out. Below’s graph shows the average annualy gain in real GDP per capita between 1990 and 2016 of ten of the top beneficiaries of globalisation:

Task

Section 2. Trade Blocs

A trade bloc is a regional group of countries that has preferential trade agreements between member countries. As we saw at AS level, there are four main types of trade bloc, based on the level of economic integration:

  • Free trade area
    • Within a free trade area, governments agree to remove trade restrictions with each other. Members can determine their own external trade policies towards non-members and there is no common external tariff. US, Canada and Mexico within the US-Mexican-Canadian Agreement (USMCA) signed in 2019 is an example of this.
  • Customs union
    • In addition to removing trade restrictions between members, a customs union features a common external tariff on trade with non-members. South Africa, Botswana, Namibia, Lesotho and Eswatini within the Southern African Customs Union (SACU) agreed in 1910 is an example of this.
  • Monetary union
    • A monetary union includes further economic integration, typically removing restrictions not only on movement of goods and services, but also of capital and labour, with the intention of creating a single market. All member countries typically use the same currency and follow the same monetary and exchange rate policies. The European Union (EU) is an example of this. Not all of its members have adopted the EU’s currency, the Euro, or the European Central Bank’s single interest rate, but in some ways it is more integrated, with a number of common policies on labour market and social issues.

Task

  • Full economic union
    • This is the final stage of integration, with members having the same currency and following the same monetary, fiscal and exchange rate policies; effectively becoming a single economy. An example is in 1776 when the original 13 states formed the United States of America.

Task 1

Task 2

Section 3. Trade Creation and Diversion

Trade Creation

The establishment of a trade bloc can cause trade creation, whereby the removal of tariffs between members allows each member to specialise in the products for which they have a comparative advantage. Efficient firms within the trade bloc will have access to a larger market, which may enable them to further lower prices by taking advantage of the economies of scale.

The diagram below shows the effect of trade creation:

P and Q are the product price and quantity consumed before joining the trade bloc, Qa of which is supplied by domestic producers and Qa – Q of which is imported. Joining the trade bloc removes tariffs from imports, pushing the price down to P1 and the quantity consumed up to Q1. This represents a gain to consumers. Domestic producers however lose out, as their sales fall from Qa to Qb and they are forced to reduce their price down to P1. They may compensate for this by shifting resources to produce goods that have now become more price competitive overseas, due to the removal of tariffs. The domestic government will lose out on tariff revenue, but benefits from a domestic welfare gain.

Consumer surplus has increased by a+b+c+d, producer surplus has fallen by a, tariff revenue has vallen by c, and there is a net gain of b+d.

Trade diversion

Membership in a trade bloc may cause a country to import goods from a less efficient country within the trade bloc instead of a more efficient country outside of the trade bloc, a phenomenon known as trade diversion, that leads to a less efficient allocation of resources.

The diagram below shows the effect of trade diversion:

The diagram shows a country originally buying a product from the most efficient country and charging a tariff, leading to a price of P and quantity consumed of Q, with tax revenue earned of c+e. Joining the trade bloc diverts this trade to a member country, causing price to consumers to fall to P1 and quantity consumed to rise to Q1. As before, consumer surplus increases by a+b+c+d and producer surplus falls by a, but this time tariff revenue falls by c+e. If the areas b and d are smaller than area e, then welfare will be reduced.

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