Cambridge O Level2281

Globalisation and trade restrictions

Economics 2281 Chapter Notes

What this chapter covers

Globalisation and trade restrictions - Definition of globalisationGlobalisation and trade restrictions - Causes and consequences of changes in globalisationGlobalisation and trade restrictions - Role of multinational companies (MNCs)Globalisation and trade restrictions - Types of trade restrictions / methods of protectionGlobalisation and trade restrictions - Reasons for trade restrictionsGlobalisation and trade restrictions - Consequences of trade restrictions
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In this chapter

  1. 1Understanding Globalisation
  2. 2Free Trade and Specialisation
  3. 3Protectionism and Trade Barriers
  4. 4Arguments For and Against Protectionism

1. Understanding Globalisation

Globalisation is the process by which the world is becoming increasingly interconnected. It describes the growing economic, social, technological, and political interdependence between countries. Economically, this means firms, capital, and labour can move more freely across borders. We see this in the rise of Multinational Corporations (MNCs) that produce goods in one country and sell them worldwide, the ability to buy products online from another continent, and the way financial markets in Tokyo can affect prices in London. Key drivers include improvements in transport (e.g., container shipping), communication technology (the internet), and the reduction of trade barriers by international organisations.

Key term

Globalisation: The process of growing economic integration and interdependence between countries, creating a single world market.

Common pitfall

Students often describe globalisation simply as 'more trade', but it's crucial to mention the wider integration of finance, capital, labour, and culture.

Fun fact

The shipping container, invented in the 1950s, is considered one of the single biggest drivers of globalisation. By standardising transport, it slashed shipping costs by over 90% and made global trade affordable.

Worked example 14 marks

Explain two features of globalisation. [4]

  1. 1
    1. One feature is the growth of Multinational Corporations (MNCs). These are large companies that operate in several different countries. For example, a company might have its headquarters in the USA, manufacture its products in Vietnam, and sell them across Europe. This demonstrates the integration of production and markets across the globe.
  2. 2
    1. A second feature is the increased international movement of capital and labour. Capital can be moved instantly between countries by businesses seeking investment opportunities or the best returns. While restrictions still exist, more people are also moving to different countries for work, leading to a more globalised labour market. This increases economic interdependence.

Recap

  • Globalisation is the increasing interdependence of the world's economies.
  • It is driven by technological advances in transport and communications.
  • The growth of Multinational Corporations (MNCs) is a key feature of globalisation.
  • Globalisation leads to increased international trade and movement of capital.
  • It can bring benefits like more choice and lower prices, but also drawbacks like job losses in some sectors.

Quick check

  1. Define a Multinational Corporation (MNC).2 marks

2. Free Trade and Specialisation

Free trade is an economic policy of not discriminating against imports from or exports to other countries. In a free trade system, there are no government-imposed barriers like tariffs or quotas. The foundation of free trade is the principle of specialisation. A country specialises in producing goods and services where it has a comparative advantage – meaning it can produce them at a lower opportunity cost than other countries. It then trades its surplus output with other nations to obtain the goods it doesn't produce. This allows all countries to consume a greater quantity and variety of goods than they could produce on their own, leading to higher living standards.

Key term

Free Trade: International trade left to its natural course without government-imposed barriers such as tariffs, quotas, or subsidies.

Examiner insight

Examiners look for clear links between specialisation, lower opportunity cost, and the resulting gains from trade like lower prices and increased choice.

Worked example 16 marks

Explain how consumers and producers in a country can benefit from free trade. [6]

  1. 1
    1. Benefit for Consumers: Consumers benefit from a wider variety of goods and services. Without trade, they would be limited to what is produced domestically. With trade, they can access products from all over the world.
  2. 2
    1. Benefit for Consumers: Prices are typically lower under free trade. This is because of increased competition from foreign producers, which forces domestic firms to be more efficient and keep prices down. Also, countries can import goods from places where they are made most cheaply.
  3. 3
    1. Benefit for Producers: Domestic producers who export can benefit from a larger market. Instead of just selling to their home country, they can sell to the entire world, allowing them to increase production, benefit from economies of scale, and earn higher revenues and profits.
  4. 4
    1. Benefit for Producers: Producers can also import cheaper or better quality raw materials and capital goods from other countries. This can lower their production costs, making them more competitive both at home and abroad.

Recap

  • Free trade means international trade without barriers.
  • It allows countries to specialise in producing goods where they have a comparative advantage.
  • Specialisation and trade lead to a more efficient allocation of global resources.
  • Consumers benefit from lower prices and greater choice.
  • Exporting firms benefit from larger markets and potential economies of scale.
  • Firms can also benefit from access to cheaper imported raw materials.

Quick check

  1. State two benefits of free trade for an economy.2 marks

3. Protectionism and Trade Barriers

Protectionism is the opposite of free trade. It is the practice of shielding a country's domestic industries from foreign competition by taxing or restricting imports. Governments use a variety of tools, known as trade barriers, to achieve this. The main types are:

  1. Tariffs: A tax imposed on imported goods. This makes the imported product more expensive for domestic consumers, encouraging them to buy the domestically produced alternative.
  2. Quotas: A physical limit on the quantity of a particular good that can be imported over a specific period. This directly restricts the supply of the imported good.
  3. Subsidies: A grant given by the government to a domestic producer. The grant lowers the producer's costs, allowing them to sell their product at a lower price and compete more effectively with cheaper imports.

Key term

Protectionism: The use of trade barriers by a government to restrict imports and protect domestic industries from foreign competition.

Worked example 14 marks

Explain the difference between a tariff and a quota as methods of protectionism. [4]

  1. 1
    1. A tariff is a tax placed on an imported good. This increases the price of the import for consumers, making the domestic equivalent seem relatively cheaper. The government also receives tax revenue from a tariff.
  2. 2
    1. A quota, on the other hand, is a physical limit on the quantity of a good that can be imported. It does not directly affect the price, but by restricting supply, it will likely cause the price of the imported good to rise. A quota does not generate revenue for the government.

Worked example 25 marks

Analyse how a government subsidy to domestic farmers could protect them from foreign competition. [5]

  1. 1
    1. A subsidy is a payment from the government to a domestic producer, in this case, farmers.
  2. 2
    1. This payment effectively lowers the farmers' costs of production.
  3. 3
    1. With lower costs, the farmers can afford to charge a lower price for their produce in the market.
  4. 4
    1. This makes their produce more price-competitive against imports which may be produced more cheaply abroad.
  5. 5
    1. As a result, domestic consumers are more likely to buy the cheaper domestic produce, increasing the farmers' market share and protecting them from being undercut by foreign competition.

Recap

  • Protectionism aims to shield domestic firms from foreign competition.
  • A tariff is a tax on imports, which raises their price and generates government revenue.
  • A quota is a physical limit on the quantity of imports, restricting supply.
  • A subsidy is a government grant to domestic firms to lower their costs.
  • Other barriers include embargoes (total bans) and complex regulations.

Quick check

  1. Which type of trade barrier provides revenue to the government?1 mark
  2. Which type of trade barrier is a limit on the quantity of imports?1 mark

4. Arguments For and Against Protectionism

Governments face a constant debate between free trade and protectionism. There are several arguments they use to justify imposing trade barriers. However, each argument has counter-points.

Arguments FOR protectionism:

  • Protecting infant (sunrise) industries: New industries may struggle against large, established foreign competitors. A temporary period of protection can allow them to grow and achieve economies of scale.
  • Protecting jobs: To prevent job losses in domestic industries that are threatened by cheaper imports.
  • Preventing dumping: Dumping occurs when a firm sells goods in a foreign market at a price below its cost of production. Protectionism can stop this unfair competition.
  • National security: To ensure the country can produce essential goods (like food, energy, or defence equipment) and is not reliant on other countries in times of conflict.
  • Improving the balance of payments: To reduce a trade deficit by cutting spending on imports.

Arguments AGAINST protectionism:

  • Higher prices and less choice for consumers.
  • Retaliation: Other countries may respond by imposing their own barriers, leading to a 'trade war' where everyone loses.
  • Reduced competition: Domestic firms, shielded from competition, may become inefficient and lack innovation.
  • Misallocation of resources: It distorts comparative advantage, leading the world to produce less efficiently.

Key term

Infant Industry Argument: The justification for temporarily protecting new industries in a country from foreign competition until they are mature enough to compete internationally.

Examiner insight

In 'discuss' questions on protectionism, examiners reward answers that present both sides of the argument and then offer a justified conclusion or judgement.

Common pitfall

Simply listing arguments for protectionism without explaining the corresponding disadvantages. 'Discuss' questions require a balanced view.

Worked example 18 marks

Discuss whether a government should protect its domestic car industry from foreign competition. [8]

  1. 1

    Arguments for protection: A government might protect its car industry to save jobs. If cheap imports cause domestic car factories to close, it could lead to mass unemployment in certain regions. It might also argue it is a strategic industry, important for national manufacturing skills and defence capabilities. If it is a new industry, it may be protected as an infant industry to allow it to grow.

  2. 2

    Arguments against protection: However, protecting the industry will lead to higher car prices and less choice for consumers. The domestic car firms, shielded from competition, may become inefficient and produce lower quality cars. Foreign countries are also likely to retaliate by placing tariffs on this country's exports, harming other industries. In the long run, it may be better for the economy to shift resources away from inefficient car manufacturing to industries where it has a comparative advantage.

  3. 3

    Conclusion: While there are short-term benefits like saving jobs, most economists argue that the long-term costs of protectionism, such as higher prices, inefficiency, and potential retaliation, outweigh the benefits. A temporary period of protection for an infant industry might be justifiable, but permanent protection is likely to harm the economy.

Recap

  • Key reasons for protectionism include protecting jobs and infant industries.
  • Preventing unfair competition like 'dumping' is another justification.
  • Arguments against protectionism focus on consumer harm (high prices, less choice).
  • Protectionism can lead to retaliation from other countries, known as a trade war.
  • It can also make domestic firms inefficient due to a lack of competition.

Quick check

  1. State one reason for protectionism and one reason against it.2 marks

End-of-chapter exercise

Test yourself on the whole chapter. Work through these before moving on.

  1. Define 'globalisation' and state two of its characteristics.4 marks
  2. Explain the difference between a tariff and a quota.4 marks
  3. Analyse two reasons why a government might want to restrict international trade.6 marks
  4. Using an example, explain what is meant by an 'infant industry'.3 marks
  5. Discuss how consumers in a country might be affected by their government introducing protectionist policies.6 marks
  6. Explain how specialisation and free trade can lead to an increase in a country's standard of living.5 marks
  7. Analyse the likely impact on a country's economy of a decision by a large MNC to move its production to another country.8 marks
  8. What is meant by 'dumping' and why might it be considered a problem?4 marks
  9. Explain how a government subsidy to domestic firms can act as a barrier to trade.4 marks
  10. Discuss whether the benefits of free trade always outweigh the costs for a developing economy.8 marks

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