In this topic, we will discuss a number of aspects of the domestic economy that are influenced by international economics. This final topic also links many of the economic concepts we have already considered. It illustrates the linkages from the individual and national or domestic level flowing through to international trade, the various national government policies, as well as economic policies of countries working together in various international organisations. This is the final stage of our study of economics before the last assessment! At this point, you should be looking back and recalling economic concepts and principles from earlier topics and hopefully be able to see the connections better and understand the impacts in everyday life.
Welcome to Topic 11: International Economics. In this topic, you will learn about:
- International economic flows
- International Investment and Savings
- Trade deficits
- Trade surpluses.
These relate to the Subject Learning Outcomes:
- Understand the microeconomic models to consider fundamental economic choices for households and firms.
- Interpret economic models, diagrams and tables to describe the economic situations.
- Explain how government policy influences microeconomic choices and macroeconomic outcomes.
- Analyse the economy as a whole using macroeconomic models.
Welcome to your pre-seminar learning tasks for this week. Please ensure you complete these prior to attending your scheduled seminar with your lecturer.
Click on each of the following headings to read more about what is required for each of your pre-seminar learning tasks.
Read Chapter 31 of the prescribed text – Mankiw, NG 2016, Principles of microeconomics, 8th edn., Cengage Learning Custom Publishing.
Read the article, Doncui, EC 2013, ‘Promoting and attracting foreign direct investment’, CES Working Papers, VI(3):17-28.
Task: Complete the following questions in your reflective journal:
- Identify as many examples as possible of the tools, methods and policies used by national governments to attract foreign investment.
- Why is attracting foreign investment good for a country’s economy and citizens?
You can access the reflective journal by clicking on ‘Journal’ in the navigation bar for this subject.
Complete the following tasks and write your response in your reflective journal:
- Which countries do you think would be the top five (5) trading partners for Australia? Note: Do not search for an answer to this question.
- Read the article: Department of Foreign Affairs and Trade (DFAT) n.d., Trade in goods and services, Australian Government.
- Which countries were different from the top five (5) that you listed earlier?
- What economic factors cause the trade between these countries to be the most significant level and type of trade for these countries?
Watch the following video and complete the questions. Write your answers in your reflective journal.
- For developed affluent countries, identify the advantages and disadvantages of global trade (importing and exporting).
- For developing poorer countries, what are the advantages and disadvantages of global trade (importing and exporting)
- With the eliminating tax havens and exposing the $84 million secret offshore accounts, identify the effects on:
- Capital
- Economic flow.
Read the following content.
International economic flows
The two (2) primary types of international capital flows are official capital flows and private capital flows.
Understanding the nature of capital flows requires an understanding of monetary policy and fiscal policy of the countries involved. International capital flows are part of macroeconomics for a country and a big part of international trade around the world.
Let us first take a look at monetary policy, then review both official and private capital flows.
Monetary policy
Monetary policy implications include the rates of interest that can be earned through investment in financial instruments, including government bonds. From a big picture perspective, an investor can direct their investment into almost any county in the world to invest in bonds or other financial instruments that offer a rate of interest payable as the return on that investment. Strong growing economies attract more investment than small or dwindling economies. This can be large scale and trillions of transactions where investments chase better and better returns for their funds.
As with most investments, the greater the returns, the greater the risks. Some countries have effectively been bankrupted when they have defaulted on repaying the investments made into their countries through foreign investment. This happens when the government is either unable or unwilling to make good on its fiscal promises to repay its bondholders. Argentina, Russia and Lebanon are just a few of the governments that have defaulted over the past decades (Kurt 2021).
Official capital flows
Official capital flows are transacted at the national level, with governments collecting revenues in the form of taxes or issuing government bonds (interest-bearing bonds guaranteed by the government). The government then spends the earned proceeds on various public projects, including infrastructure. It would not be unusual for a large-scale bridge, hydroelectric dam or other major pieces of infrastructure to be financed in part by another foreign government investing directly.
Well-developed, prosperous countries may also provide aid to poor neighbouring countries in the form of foreign aid. Australia has agreed to refinance an existing USD300 million loan (provided in late 2019) and provide a further USD100 million loan, to assist Papua New Guinea to continue the delivery of core government services, such as healthcare and education (DFAT 2021a). Around the world, many affluent countries (like Australia, the United States of America and the United Kingdom) allocate large sums annually to foreign aid for developing countries.
Private capital flows
Private individuals, households and companies can direct their spending and investment anywhere in the world. Economic theory suggests that capital will move from countries where it is abundant, to countries where it is scarce because the returns on new investment opportunities are higher where capital is limited (International Monetary Fund 2021).
Underlying this theory is the premise that returns to capital decrease as more machinery is installed and new structures are built. Although, in practice, this is not always or even generally true. New investment is more productive in countries with a skilled workforce and well-developed physical infrastructure, which demonstrates why capital rarely (if ever) flows from rich to poor countries (foreign aid is different again). New capital investment tends to go to countries that have received large flows in the past, which is where investors also seek favourable business environments with lower risk environments.
Although economic theory has much to say about where international capital may flow, once in a country, private capital may increase either domestic consumption or investment, or it may principally increase the country’s foreign exchange reserves. If flows are driven merely by intentions to evade taxes or avoid other legal barriers, money may flow out of a country as quickly as it flows in, particularly if the regulatory environment changes quickly or is blighted by corruption (OECD 2020).
International investment
Private capital flows are generally found to have a significant impact on domestic investment, with the relationship being strongest for Direct Foreign Investment (DFI) and international bank lending. When a country is poor and saves little, additional capital from outside the country can help it realise investment opportunities.
As a country becomes better integrated with the rest of the world over time, a dollar of foreign capital raises investment less than it did previously in terms of aggregate demand. Outflows are not well captured in international statistics. However, it appears that traditional ‘flight’ of domestic capital and ‘round-tripping’, that is when capital flows out and then flows back in) to escape domestic taxes, are not the only reasons for outflows, just like the ‘secret Swiss bank account’ in many spy novels. Some part of the capital flows represent a diversification of investment portfolios by domestic residents and, ultimately, benefits both the residents and the global economy (Mishra, Mody & Murshid 2001).
Savings
Secret Swiss bank accounts, tax havens in the Cayman Islands and other exotic arrangements are the fantasies of movies and crime dramas. In reality, savings in international economics are more mundane and we can draw upon foundational microeconomic and macroeconomic principles. In the simplest terms, people will save (their funds) if there is not a return from their funds allocation that is efficient for them and of sufficient value to warrant the risk of redirecting savings to investment.
Nobel laureate Milton Friedman’s contributions to economic theory included his 1957 articulation of the permanent income hypothesis in A Theory of the Consumption Function (1957). The idea that a household’s consumption and savings decisions are more affected by changes in its permanent income, than by income changes that the household perceives as temporary or transitory (Caldwell 2021).
The circular economic flow can be expanded to consider how households and businesses may choose to save (savings) some of their income rather than spend it (consumption), which reduces the circular flow of income. Deciding to direct funds into savings reduces the flow of income in the economy because saving is a withdrawal out of the circular flow (investment) (Economics Online 2020).
International trade
According to the Commonwealth Department of Foreign Affairs and Trade (DFAT) (2021b), international trade and investment is critical to the Australian economy, providing jobs and prosperity. International trade and investment opens up opportunities for Australians to expand their businesses. Trade agreements can improve market access across all areas of trade – goods, services and investment – and help to maintain and stimulate the competitiveness of Australian firms. This benefits Australian consumers through access to an increased range of better-value goods and services.
What is also being implied by DFAT, is that international trade puts pressure on firms trading globally to be more efficient. Thus, the foundation principle of economics, the efficient allocation of resources, can continue on an international dimension and scale. Historically, some countries have been less willing to trade and have produced goods and services domestically that may have been produced more efficiently elsewhere and brought in via international trade (or in some centrally planned economies citizens have gone without certain goods and services) (DFAT 2021b).
Contemporary economics
This trade of efficiently produced surplus goods also connects to concepts from Topics One, Two and Three, about comparative advantage of countries and absolute advantage of companies or sectors within a country. The principle of contemporary economics is that there should be an effective allocation of resources to what a company or country is most efficient at and trade (import/export) the needed items and surplus production (DFAT 2021b).
Aggregate demand
When we consider the formula for aggregate demand and take into account exports minus imports (X − M) to show net imports, we can see the balance of trade between countries. The composition of goods and services will significantly affect the balance of payment and net imports. For example, a country exporting diamonds, computers, luxury ships and military equipment will have a huge value to the exports. If they are importing fresh food and low-value consumables, then their balance of trade or net imports will be low or favourable.
Economic flow
The concept of economic flows now takes into account the international flows in and out of a whole county via government investment overseas, private investment overseas as well as trade between government buyers and sellers (importers and exporters) and between private companies and individuals. This has of course been dramatically ramped up with Amazon, Alibaba and other global, eCommerce-based companies that enable individuals and companies to purchase items from around the world. These items become imports and affect the local economic flows.
In years gone by, most trade was in primary produce, mineral resources and manufacturing in larger, wealthier countries. But as global conditions change over many years, investment is attracted to some counties more than others at various times and cycles. Thus, the net imports for countries with many exports will be positive or have a favourable balance of trade (DFAT 2021b).
Throughout the topics of this subject, we have examined small scale concepts, such as pricing, and a range of participants in an economy, from:
- individuals
- organisations
- governments
- central banks
- multinational global corporations.
Economics connects all the suppliers, buyers, individuals and government entities in an economy. An illustrative way to see the connections is by looking at the economic flows. More than ever in this decade, resources, funds, goods, services and capital investment flow dynamically around the international economy. No matter what job or career you may be involved with, there will be benefits from understanding the principles of economics. It is an ever-changing world of economic conditions.
Knowledge check
Complete the following three (3) tasks. Click the arrows to navigate between the tasks.
Key takeouts
Congratulations, we made it to the end of the eleventh and final topic! Some key takeouts from Topic 11:
- The GDP or domestic economy is connected to international flows in and out of the country.
- The overall balance of trade, the net level of imports and the attraction of international investment all affect national and international economic flows and efficiency.
- Domestic savings and global investment are connected. The domestic conditions for savings and global conditions for investment significantly influence the economic flows.
- Governments will seek to attract international investment to enhance the economic growth of their country for their citizens. However, trade is essential for the efficient allocation of resources in international economics.
Welcome to your seminar for this topic. Your lecturer will start a video stream during your scheduled class time. You can access your scheduled class by clicking on ‘Live Sessions’ found within your navigation bar and locating the relevant day/class or by clicking on the following link and then clicking ‘Join’ to enter the class.
Click here to access your seminar.
The learning tasks are listed below. These will be completed during the seminar with your lecturer. Should you be unable to attend, you will be able to watch the recording, which can be found via the following link or by navigating to the class through ‘Live Sessions’ via your navigation bar.
Click here to access the recording. (Please note: this will be available shortly after the live session has ended.)
In-seminar learning tasks
The in-seminar learning tasks identified below will be completed during the scheduled seminar. Your lecturer will guide you through these tasks. Click on each of the following headings to read more about the requirements for each of your in-seminar learning tasks.
Based on your pre-seminar learning task 2, in a breakout room assigned by your lecturer, complete the following tasks:
- Identify factors that were present during the historic periods highlighted, where imports rose.
- Identify the economic conditions that are the same or similar in today’s economy.
- Identify ways or tools that the government may use to discourage an increase of imports being bought into Australia.
- Independently watch the video, What are global public goods?
- Answer the following in your reflective journal:
- Identify five (5) public goods you have used or benefited from that are available in various parts of the world.
- Be prepared to discuss your responses during the seminar.
Welcome to your post-seminar learning tasks for this week. Please ensure you complete these after attending your scheduled seminar with your lecturer. Your lecturer will advise you if any of these are to be completed during your consultation session. Click on each of the following headings to read more about the requirements for each of your post-seminar learning tasks.
To wrap up your learning for this topic, read the following article. Take note that the article describes economic or trade sanctions as 'measures not involving the use of armed force', including a 'complete or partial interruption of economic relations'.
Identify at least two (2) key takeouts and write your notes in your reflective journal.
Listen to the podcast The simple economics of saving the Amazon rainforest (Levitt 2021).
Focus on the economic premise, that what is demanded by some (as customers) may not be readily available from the supplier. The economic value, which is not only monetary, must be sufficient for the supply to respond. We know this as market equilibrium and, at a global scale (just as in microeconomics), not all markets are balanced.
In your reflective journal, identify two (2) other internationally significant issues/problems that could be approached from a similar economic perspective and identify who the supplier is in each situation.
Each week you will have a consultation session, which will be facilitated by your lecturer. You can join in and work with your peers on activities relating to this subject. These session times and activities will be communicated to you by your lecturer each week. Your lecturer will start a video stream during your scheduled class time. You can access your scheduled class by clicking on ‘Live Sessions’ found within your navigation bar and locating the relevant day/class or by clicking on the following link and then clicking 'Join' to enter the class.
Click here to access your consultation session.
Should you be unable to attend, you will be able to watch the recording, which can be found via the following link or by navigating to the class through ‘Live Sessions’ via your navigation bar.
Click here to access the recording. (Please note: this will be available shortly after the live session has ended.)
- Chapter 3 of Jomo, KS 2003, South Asian Paper Tigers, 1st edn., Routledge.
- Part I, p.41-49: Hughes, A & Brewster, H 2002, Lowering the threshold: Reducing the cost and risk of private direct investment in least developed, small and vulnerable economies, London Commonwealth Secretariat, Economic Affairs Division.
References
- Austrade 2020, Premium food and JAEPA, streaming video, YouTube, https://www.youtube.com/watch?v=iTM7kIDhqeU
- Austrade 2016, A video case study on Australian financial services in Japan, streaming video, YouTube, https://www.youtube.com/watch?v=HCFHgd2FjCE&t=3s
- Caldwell, BJ 2021, Milton Friedman, Britannica, https://www.britannica.com/biography/Milton-Friedman
- Dark, D & Hawkins, J 2004, Why have Australia’s imports of goods increased so much?, Australian Government Treasury, https://treasury.gov.au/sites/default/files/2019-03/04_Imports_of_goods.pdf
- Department of Foreign Affairs and Trade (DFAT) 2021a, Development assistance in Papua New Guinea, Australian Government, https://www.dfat.gov.au/geo/papua-new-guinea/development-assistance/papua-new-guinea
- Department of Foreign Affairs and Trade (DFAT) 2021b, Trade and investment, Australian Government, https://www.dfat.gov.au/trade/resources/trade-statistics/trade-in-goods-and-services
- Department of Foreign Affairs and Trade (DFAT) 2019, Sanctions -What you need to know, Australian Government, https://www.dfat.gov.au/sites/default/files/sanctions-snapshot-what-you-need-to-know.pdf
- Doncui, EC 2013, ‘Promoting and attracting foreign direct investment’, CES Working Papers, VI(3):17-28.
- Economics Online 2020, The circular flow of income, EconomicsOnline, https://www.economicsonline.co.uk/managing_the_economy/the_circular_flow_of_income.html/
- International Monetary Fund (IMF) 2021, What are global public goods?, streaming video, YouTube, https://www.youtube.com/watch?v=qwrJ3QcL1pY
- Kurt, D 2021, Why and when do countries default?, Investopedia, https://www.investopedia.com/articles/investing/102413/why-and-when-do-countries-default.asp
- Levitt, S 2021, The simple economics of saving the Amazon rainforest, Podcast, Freakonomics, https://freakonomics.com/podcast/the-simple-economics-of-saving-the-amazon-rainforest/
- Mankiw, NG 2016, Principles of microeconomics, 8th edn., Cengage Learning Custom Publishing.
- Mishra, D, Mody, A & Murshid, AP 2001, Private capital flows and growth, The International Monetary Fund, 38(2), https://www.imf.org/external/pubs/ft/fandd/2001/06/mishra.htm
- OECD 2021, The OECD 60th anniversary: Forging a path for better lives, streaming video, YouTube, https://www.youtube.com/watch?v=CxRMdqZEoPk
- United Nations 2021, In highly uneven recovery, global investment flows rebound, United Nations, https://news.un.org/en/story/2021/10/1103402
