ACJC International Trade Answers Case Study 1

Question 1: Looming Threats to Globalisation Questions & Suggested Answers Marks (a) (i) State what happened to the British pound sterling effective exchange rate between the Q1 2014 and Q4 2016. [2] • The British pound sterling effective exchange rate depreciated in value between Q1 2014 and Q4 2016. [1 mark]. • However, it was rising over the period Q1 2014 to Q3 2015 [1 mark] before decreasing thereafter. (ii) Using a demand and supply diagram, explain the cause of the trend observed in the Sterling Effective Exchange Rate Index in 2016. [4] • The main cause was a loss of investor confidence due to Britain’s decision to exit from the EU (Brexit). [1 mark] This resulted in capital flight from the UK. This caused an increase in SS of sterling pound [1 mark] from S 0 to S1 in the foreign exchange market. • At the same time, as fewer foreign investors would want to invest in the UK. This means a decrease in the demand for UK sterling pounds from D0 to D1. [1 mark] Figure 1: Market for Sterling Pound (b) With reference to Table 3, calculate and compare the net income flow (including transfers) in the UK current account balance with that of the US. [2] Note to students: current account comprises of both good and services balance (balance of trade) and income balance. Hence, to calculate the net income flow, we should subtract the current account balance from the balance of trade. • UK’s current account balance is -5.8% of GDP while its balance of trade is - 2% of GDP. Hence, its net income flow should be -3.8% of GDP. • US’s current account balance is - 2.4% of GDP while its balance of trade is - 2.8% of GDP. Hence its net income flow should be +0.4% of GDP. • This shows that UK experienced a net income outflow, while US had a net income inflow. S0 S1 D0 D1 E0 E1 0 Quantity of Sterling SEER

(c) Explain how a free trade agreement between the EU and Canada might affect a small dairy farmer in Belgium. [4] Effects on revenue • Since a free trade agreement would mean a removal or reduction of tariffs on imports, dairy farmers in Belgium will now have to compete with cheaper imports from Canada → likely fall in demand → lower prices and total revenue OR • Demand for Belgium milk producers would also become price elastic due to rising competition from imports, which mean more substitutes. This would cause prices to fall to compete, affecting revenue. [2 mark] Effects on costs • Moreover, small dairy farmers tend to have higher costs compared to large multi-nationals, due to their lack of economies of scale. [2 mark] (d) Given that membership in the EU means free movement of goods, labour and capital among member countries, assess the possible impact of Brexit on the UK economy. [8] Command Assess possible impact on economy • Negative impacts of Brexit on UK’s macro goals • Positive impacts of Brexit on UK’s macro goals Concepts AD/AS analysis