Importance of International Trade to an Open Economy such as the UK - Essay Example

European Business Table of Contents European Business Table of Contents 2 Introduction 5 Task 5 1. Importance of International Trade to an OpenEconomy Such As the UK 5 1.2.a. Definitions to Comparative Advantage, Absolute Advantage, Terms of Trade (ToT) and Exchange Rate 6 1.2.b. Significance of Comparative Advantage, Absolute Advantage, Terms of Trade and Exchange Rates to the UK Economy 7 1.3. Structure of Balance of Payments 8 1.4.a. Definitions to ‘Surplus’ and ‘Deficit’ in an Economy 9 1.4.b. Significance of Long-Term Deficits to Open Economies 10 Task 2 11 a. Role Played By Exchange Rates in European Business 11 b. Advantages Attributed To the Adoption of a Single European Currency 12 c. Differences between Free Trade and Protectionism and the Role Played By Tariffs, Quotas and Deregulation within the EU 13 d. Importance of Geographic and Occupational Mobility in Wealth Creation for EU Member Countries 14 Task 3 15 a. Advise to the UK Government regarding the Role That the Main EU Institutions Play In the Determination and Legitimizing Of EU Policy 15 Discuss Whether There Is Any Veracity to the Argument That the UK has relinquished Too Much Powers to These Institutions. 16 b. Advice to the UK Government 17 Task 4 19 1) Profile of the EU as a Trading Bloc and Its Importance to Member States 19 2) Significance of Linguistic, Cultural, Logistical and Environmental Barriers to EU Operations 20 How These Factors May Influence As Barriers To The National Budgets Of The Member States. 20 3) Audit of Possible EU Funding Streams 21 4) Action Plan 22 Conclusion 22 References 24 Introduction The statistics of the recent decade illustrate that European countries have been undergoing high economic growth because of the open economic framework followed within the countries that allow free trade among the member states of the European Union. Moreover, it has also provided certain comparative advantages as well as absolute advantages for the countries that further contribute to the economic development of individual economy within the union. It has been driven with the objective to retain these comparative benefits in the global platform that EU restricts the import of goods from foreign countries other than the EU member states. In addition, reforms are being made in the government policies to allow free trade with various foreign countries that would serve beneficial for the economic growth of the EU countries. Nevertheless, these policies have its negative effects as well if concerned with the sovereignty of the individual member states of the EU. In this paper, the discussion has been focused on critical evaluation of such encouraging and disadvantageous factors related with the free trade network followed within the EU. Task 1 1.1. Importance of International Trade to an Open Economy Such As the UK International trade plays a major role in the economic growth and development of a country. Today, almost every country in the world follows an open economy framework, through which they can import and export goods and services with various foreign countries, to which, UK is also not any exception. International trade in the UK allows the country to gain economic strengths as well as help in their progress to the global competitive environment. Even though international trade helps in the development of the UK economy, although, it has resulted in the loss of local jobs due to higher dependency on various foreign markets. However, the introduction of international trade in the country has helped the organizations and industries of the UK to operate effectively and gain competitive advantages (Crown, 2011). This is fundamentally owing to the efficient manpower, technology and machineries those can be imported from other foreign countries as per the requirements. Moreover, the open market has also augmented facilities to outsource commodities to other countries those have helped it to attain cost effectiveness as well as efficiency in the manufacturing process of industries. The UK is one of the top players in producing palm oil, which has become a profitable business in the country. As per the given case scenario, it can be also be asserted that there is a high demand for palm oil in foreign countries that has created an added opportunity for the palm oil manufacturers to export their products to these countries (Harris & Cher Li, 2005). 1.2.a. Definitions to Comparative Advantage, Absolute Advantage, Terms of Trade (ToT) and Exchange Rate ‘Comparative advantage’ refers to the potential gains those may be attained by a nation or an organization due to the differences in technological factors and other factor endowments. Comparative advantages generally occur when the products and services being produced by a country have lesser opportunity costs in comparison to other countries, which denote that the country can produce goods at a relatively cheaper price as compared to other producing economies. It is to be noted in this regard that the UK has a comparative advantage in producing palm oil at a cheaper price in comparison to other countries, which is an added advantage for the country (Kılıc, 2002). Whereas, the term, ‘absolute advantage’ denotes that the UK economy allows the production of products and services at a lower price in comparison to other countries, which represents that lesser amount of resources are necessary for the production of the same amount of products and services (NCCR, 2015). Correspondingly, ‘Terms of Trade (ToT)’ refers to the value of exports of a country as compared to its imports. It is generally calculated by dividing the value of imports with the value of exports. It is thus asserted that if the ToT of a country is lower than 100 percent, it represents that higher amount of capital is going out for buying the imports as compared to what is coming in the country. Whereas, if TOT is more than 100 percent, it represents that higher amount of money is coming in from exports (Mendoza, 1995). Exchange rate herein refers to the price at which, the currency of a particular country is exchanged for the currency of another country. There are various factors affecting the exchange rate of a particular country that includes trade balance, interest rates, political stability, administrative rules and inflation rates among others (Mendoza, 1995). 1.2.b. Significance of Comparative Advantage, Absolute Advantage, Terms of Trade and Exchange Rates to the UK Economy There are various comparative advantages possessed by the UK economy that helps the country to compete within the global platform. For instance, as can be observed through the case study that the UK is famous for producing palm oil and various products manufactured with palm oil. When addressing the various driving forces to the aspect, it can be observed that opportunity costs for the country is lower in comparison to other countries those provide a comparative advantage over other countries. Similarly, open economy of the country allows UK to produce same amount of goods and services with better utilization of the resources available, which in turn helps it to attain Absolute advantage over other countries. However, the ToT in the UK has increased from 98.60 index point as recorded in January 2015 to 99.30 index point as per the records of February 2015, it reflects to be lower than 100 percent and therefore, more capital of the country is going out as compared to the imports. The exchange rate of the UK is accordingly measured with respect to the US dollar. Reports thus state that the exchange rate of British Pound rose from 1.48 in March to 1.49 in April 2015 (Trading Economics, 2015). 1.3. Structure of Balance of Payments Balance of Payment (BOP) refers to a statement that provides a detailed summary regarding the economic transactions of a country with other countries for a particular period of time. These economic transactions include all forms of transactions made by the residents as well as non-residents of a country. BOP is generally referred as the method being used by the countries in order to measure various international monetary transactions, usually for a specific time period. All forms of international trade, whether it is being conducted by private sector or public sector, come under the accountability of BOP. This helps in determining the amount of finances flowing in within a country and going out to other countries. Through BOP, it can easily be understood whether a particular country is suffering from deficit or surplus. Structure of BOP CREDITS DEBITS Items of Export of Goods Export of Services Unilateral Transfer Receipts (gifts, indemnities from foreigners) Income Receipts Current Account Import of Goods Import of Services Unilateral Transfer Payments (gifts, indemnities to foreigners) Income payments Items of Capital Receipts (borrowings from capital repayments by or sale of assets to foreigners) Capital Account Capital Payments (lending to, capital repayments to or purchase of assets from foreigners) Visible trade balance = Value of visible export – Value of visible import = £ (400 – 500) = £ 100 Current Balance = Export – Import + net unilateral transfer income = £ (400-500+200-150) = £ 50 Balance for Official Financing = Export (visible and invisible) – Import (visible and invisible) + Capital inflow – Capital Outflow = £ (400-500+200-150-45) = £ 95 1.4.a. Definitions to ‘Surplus’ and ‘Deficit’ in an Economy Trade surplus refers to the situation in which, the amount of total exports of a country is more than the cost of its imports. Trade surplus is also known as positive balance of trade, which reflects that the country possessing trade surplus has overall control over the currency of the nation. Market analysts state that a country possessing trade surplus creates high employment opportunity for the people along with an increased GDP (European Union, 2012). Trade deficit herein refers to the situation when the total value of imports of a country is higher than that of the total exports made by that country. Trade deficit is also known as ‘negative balance of trade’, as it indicates the outflow of domestic currency to other foreign countries. It is therefore unfavourable for the economy of the domestic country as it involves higher currency outflow (Baker, 2014). 1.4.b. Significance of Long-Term Deficits to Open Economies Trade deficit for a long term may negatively affect the economy of a particular country. Moreover, stock market is also adversely affected through a long term trade deficit, as it involves the outflow of domestic currency to other foreign markets. The country would probably suffer from huge debt if more goods are imported for a long time as compared to exports. However, spending on the domestic products will reduce as a result of which, the manufacturers will suffer huge loss and the stock price will also fall down. Therefore, the investors will find a better opportunity for investing in the foreign products and thus, the domestic market will decline gradually that will negatively affect the economic growth of the country. Similarly, since the UK has an open economy, the same situation would be applicable in context to the economy of the UK. Long-term trade deficit in the UK would therefore lead to economic downfall of the country. However, besides the mentioned disadvantages, there are certain benefits of long-term trade deficits as well, to an open economy. Trade deficit in an open economy intensely attracts the foreign investors to invest in the economy of that particular country. This further tends to help in strengthening the import structure of the open economy and further contribute to globalisation that serves beneficial for the economic growth of the country. Moreover, the inflationary pressure of the open economy is also quite likely to reduce along with the economic overheating, which would serve beneficial for the country with open economy (Baker, 2014). Task 2 a. Role Played By Exchange Rates in European Business Exchange rate plays a major role in the business of European countries. Theoretically, exchange rate refers to the rate at which the currency of one country is exchanged with that of the other country. Exchange rates are generally said to affect companies of the European countries who are involved with the exporting of goods and importing raw materials from other countries. A depreciation or devaluation in the exchange rates would therefore lead to a cheaper export that would serve beneficial for the exporting companies (Auboin & Ruta, 2011). Whereas appreciation in the currency rate would lead to an expensive export as well as hamper the competitiveness of the exporting companies and organizations. For example, if the value of Pound depreciates the exporting companies of the UK, the economy is likely to be benefited because of lower exporting costs of their goods to other countries and vice versa. Depreciation for long term would also minimize incentives for the exports with a view of cutting down the costs. Thus, it would lead to an increased profit margin for the business. However, appreciation of the currency rate would help in maximizing the incentives and thus, the business would possess higher incentives for cutting the costs (Mendoza, 1995). b. Advantages Attributed To the Adoption of a Single European Currency The current scenario depicts countries of the European Union are on a mission to adopt a single currency, i.e. Euro because of the various advantages of adopting a single currency that would benefit the economic growth of the EU countries. However, the advantage of adopting a single currency for all the EU countries as follows. Cost of Transactions If there is a single currency, the costs involved in the exchange of currencies will eliminate and thus, the companies and individuals who are involved with trading among the EU countries would be benefited. Market analysts herein suggest that the benefits being derived would contribute to about 1 percent of the total GDP of the countries (BBC, 1997). Transparency of Price If Euro were considered as a common currency, comparing the prices in various EU countries would become easier. This would enable the companies in acquiring raw materials in a cheaper rate and thereby, the consumers can purchase goods at a lesser price. Moreover, differences in the prices of similar products in various EU countries will also reduce which will serve beneficial for the consumers (Europa, 2011). Elimination of the Uncertainty in Exchange Rates Differentiation in the exchange rates greatly hampers the profitability of exports generally due to the appreciation of currency rate. Due to this uncertainty in the exchange rates, the business establishments suffer from lack of confidence in investing. However, with the help of a single currency, the confidence of the business establishments would increase and thus, lead to maximized trade as well as the improvement of economic growth of the countries (BBC, 1997). Reduced Rate of Interest Through market research, it has been identified that if Euro would be the single currency of all the EU countries, the rate of interest charged for the loans and credits would also reduce. Moreover, the bond yields will also reduce that would serve beneficial for the customers as well as business of the EU countries (Currency Solutions, 2015). Beneficial For the Financial Sector The common currency in all the EU countries would lead to a reduced cost of trading in equity, banking assets and bonds within the countries of the Euro Zone that will help in the financial growth of the countries (Europa, 2011). c. Differences between Free Trade and Protectionism and the Role Played By Tariffs, Quotas and Deregulation within the EU Free trade refers to the situation where there does not exist any barrier between two countries in conducting trade. Free trade agreements between two countries support the economic growth of both these countries through increased trade. Market opportunities and economic opportunities are also enhanced through free trade and therefore, allow fair competition and transparency among the countries (Fouda, 2012). On the other hand, ‘Protectionism’ refers to the rules, regulations and policies through which, a country creates barriers in the form of some tariffs at the time of conducting trade with other countries. This strategy is generally being implemented by a country in order to protect the interest of the domestic manufacturers. It is particularly owing to the fact that is cheap imported products enter the country, it would shut down the factories. Therefore, it restricts the increasing amount of imports that would hamper domestic production (Fouda, 2012). Tariffs are tax imposed on import as well as export of goods from one country to other country referring to international trade procedures. The tariffs being framed by the governments of various EU countries help the companies to import and export their products at a specific rate as per the tariff. However, there are certain products upon which, there are reductions on the customs duty (1Europa.eu, 2015). This reduction in the duty is referred as tariff quotas and is applicable on the import of specified products to the EU countries. The European Commission is correspondingly held responsible for managing the tariff quotas of the EU countries. However, the EU commission has also been successful in implementing deregulations in various fields such as capital markets from where there is a positive response from the people (CEPR, 2015; 1Crown, 2012). d. Importance of Geographic and Occupational Mobility in Wealth Creation for EU Member Countries As per the terms of the ‘Treaty establishing the European committee’, there have been limited restrictions on the movement of workers within various areas of the European Union countries. However, there is a strict restriction for employing workers from other countries to the member nations of the EU (Parliament, 2002). However, thorough geographical and occupational mobility, the workers of various EU countries can be employed within the Euro zone without any restriction. Moreover, mobility also creates easy availability of workforce from various countries and therefore, the transfer of skills and technology takes place that would lead to the economic development of the EU countries. Large availability of skilled workforce from the foreign countries would also serve beneficial for the organisations of the EU countries as they have the opportunity to pay lower salary because of the high availability of workforce. This will lead to the creation of wealth by the EU countries. Moreover, the highly skilled labours and workforce from other countries would contribute to help the organisations of the EU countries to maximise their overall profit and thus, would ultimately create wealth to the EU countries. Thus, it can be asserted that the geographical and occupational mobility helps in the creation of wealth for the EU member countries (Bonin & et. al., 2008). Task 3 a. Advise to the UK Government regarding the Role That the Main EU Institutions Play In the Determination and Legitimizing Of EU Policy There are generally four major governing institutions of the EU that plays an important role in the determination and legitimizing of the EU policy. These EU institutions include ‘The Council of Ministers’, ‘The European Commission’, ‘The European Parliament’ and ‘The European Court of Justice’. The council of ministers is the main decision making body of the European Union that comprises of the ministers from various EU member countries. The meetings are usually organized in Luxembourg or Brussels where the agreements of important legislations and policies are being formulated. The European Commission is the executive and administrative body of the European Union and is generally leaded by the president and 24 commissioners of the EU member states (Stratulat & Janis, 2014). The commission herein possesses the sole authority for proposing draft legislation and is considered responsible for the proper implementation of various legislations, budgets and programs being adopted by the council and the parliament. However, the European parliament also plays a major role in legitimizing of EU policy. The Council of ministers is therefore shared by the European parliament, bestowed with the power to act as a budgetary authority of the European Union as well as the power to legislate. Finally, the European court of justice is responsible for solving the issues related with Community law and various legal issues, which therefore ensures effective application and uniform interpretation of Community law. However, all these EU institutions play an important role in legitimizing and determining the EU policies (RSPCA, 2015). Discuss Whether There Is Any Veracity to the Argument That the UK has relinquished Too Much Powers to These Institutions. All these institutions are provided with their respective responsibilities and powers through which they can legitimize the EU policy. The powers being provided to these institutions are justified as it would become difficult for the UK government itself to regulate and legitimize the EU policy. Every institution is thus provided with their respective power of legitimacy which is followed in a responsible manner. However, the UK government controls the regulations of these instructions and changes in responsibilities whenever necessary (Stratulat & Janis, 2014).The Prime Minister of the UK has declared that they do not want to be anymore under the control of the EU. Rather the UK will remain as a member state of the EU. According to the Treaty of European Union, every member state possesses the right to withdraw their name from the EU member states after undergoing certain constitutional procedures. However, every member state is liable to follow the EU directives and laws. Similarly, UK also has to obey the laws and directives as established by the EU or withdraw its name as a member state to the union. Thus, it makes the statement of the UK prime Minister wrong that being within the EU, UK will not be under the control of the union (Stratulat & Janis, 2014). b. Advice to the UK Government 1) Functions of EU Directives EU Directives refer to the legislations being provided to the member states of the European Union, expected to be implemented by them in the form of laws. The directive serves as the base for the free and easy movement of products within the European market and thereby assures protection to the citizens and workers of the European Union countries. Directives may also be helpful in establishing various social policies and therefore, would affect the labour law, health and safety as well as employment issues (Find Law, 2015; European Law Monitor, 2015). However, as per the given case scenario, the directive 267/14 being issued by the EU for the member states would be a breach of their contract with the non-EU countries where the fire arms are being supplied. This is principally because as per the directive the supply of fire arms outside the European Union countries are prohibited. Thus, it is recommended for the European Union to modify the directive and formulate it in such a manner that would allow the EU member countries to supply firearms to the selected countries with which, the contract has been established. Suggestively, prohibiting the supply of fire arms to the outside countries would not be a wise decision, as it will hamper the level of profit earning by the EU countries (Robinson & et. al., 2009). 2) Main EU Funding Streams and an Evaluation of their Structure and Purposes There are generally two types of European Union funds, i.e. Non-competitive funds and competitive funds. Non-competitive funds are usually ascertained when higher level negotiations are being conducted on the ‘Multi Annual Financial framework’ that determines the overall budget of the EU. These funds are allocated to the EU member states being allocated for funding in various regions of the country (Stewart, 2014). On the other hand, competitive funding, which are also known as grants, is not allocated directly to the member states by the European Union. Rather, these funds are managed centrally by the European Commission and are distributed for the competitive programs in the field of education, health and research (Ford, 2009). Non-competitive funding streams can be divided into Structural funds and Cohesion funds. Structural funds are one of the major financial instruments of the EU regional policy. These funds are generally subdivided into two parts, i.e. ‘The European Regional Development Fund’ and ‘The European Social Fund’. ERDF provides support in creating infrastructure for the business establishments among the EU member states, whereas ESF provides training measures to the poorer section of the society. Cohesion fund also plays a major role in boosting the social, territorial and economic convergence systems, as the funds are mainly intended towards the community whose GDP per capita is lesser than 90 percent of the community average. On the other hand, competitive funding is awarded among the organisations via open competition by the European Commission. Thus, the fund is not directly allocated to the EU member states (Stewart, 2014). Task 4 1) Profile of the EU as a Trading Bloc and Its Importance to Member States ‘Trading blocs’ refer to the intergovernmental agreement through which, the regional barriers involved in conducting trade are eliminated or reduced among the countries participating in the business. Trade policies of European Union restrict the business of foreign countries to enter the economy of EU member states. It only allows the member states to conduct their business activities freely all across the Euro Zone. However, through trading bloc there would be free access to the EU markets by the foreign countries that would lead to an increased international trading. Moreover, easier access to the markets of various countries would result in the replacement of higher cost for domestic producers with lower costs in carrying out the imports more efficiently. The lower cost of production by the manufacturers would therefore lead to lower prices of the commodities to be sold to the consumers that would serve profitable for them. Moreover, it will also create job opportunities for the people of the countries because of increased trade between the countries. The companies within the bloc would also be protected by restricting the import of cheaper quality products from other countries. Therefore, considering the EU as a trading block would serve beneficial for the member countries in gaining wider access to the markets, facilitating job opportunities for the people, protection of the domestic producers and acquiring the economies of scale benefits (Economics Online Ltd, 2015). 2) Significance of Linguistic, Cultural, Logistical and Environmental Barriers to EU Operations Language creates a huge barrier for conducting international business operations among the European countries effectively. Among the 25 EU member states, there are 20 official languages among which some of the languages are also shared by the member states (Malv, 2004). It is found in this context that in spite of the use of official languages, majority of the official documents and works are conducted in English that often creates a barrier for people to communicate with those who are not acquainted with English. Similarly, the cross-cultural barriers, due to the differences of the cultures in various European Union countries, often create barriers when conducting trade within the EU member states. Different countries possess different cultures and in an organisation there are people from various cultures who at times face difficulty to cope up with the culture of another particular country (Dalton & et. al., 2009). Logistical barriers and Environmental barriers also affect the proper conduct of the EU operations. The Environmental policy of the European Union also restricts some of the major manufacturing companies in producing products that emit harmful substances. How These Factors May Influence As Barriers To The National Budgets Of The Member States. All the above mentioned factors would create barriers for the national budgets of the EU member states, as the agreements in the budget are formulated after concerning the opinion of the ministries of the member states and thus, all these factors would create hindrances in their opinion. Moreover, the national budgets of the EU member states are prepared based upon the economic conditions of the country. However, due to linguistic, cultural and environmental barriers, countries are often negatively affected, inhibiting the effective formulation of the national budget (Skalak & Turk, 2006). 3) Audit of Possible EU Funding Streams Various EU funding streams are generally applicable for funding in France and Italy. Among the various funding streams, the ‘European Social Fund’ and ‘European Regional Development Fund’ serve as the two major EU funding streams for France and Italy. However, both of them are structural funds and are generally used for funding the member states of EU. The ESF is also used by France and Italy in supporting and combating unemployment and therefore, helping the unemployed people in finding their jobs. Job seekers from different communities of the country participate in various programs in order to acquire the necessary skills to overcome obstacles and get employment. However, the ERDF is used by France and Italy with the aim of eliminating the economic disparities among the member states by safeguarding the jobs and supporting economic re-generation. However, among these two funding streams, the ESF would serve as the most effective for both the countries, as it mainly focuses on a broad range of services to be provided to the job seekers, workers and other citizens of the countries. The social fund may also serve effective for the citizens of France and Italy who intend to start new business in the country and thereby, will create more job opportunities for the unemployed sections of the society. However, both the countries are reducing their fiscal budget in order to acquire more EU budget that might act as a barrier to further expulsion of the economies in entrepreneurial ventures. 4) Action Plan Wonga is a loan company headquartered in the UK that provides short-term loans at higher rate of interests to the customers. Thus, in order to begin an investment venture in the EU, it is necessary for the company to sign an agreement with the European Commission as per the dictated norms. Moreover, they have to analyse the market thoroughly regarding the demand for their products in the European market along with the social and environmental factors, which would lead to the long-term sustainability of their business in the European Union. It is also necessary for the company to follow specific trade rules and regulations of the particular EU member states where Wonga would be establishing their business. The company should also ensure job opportunity for the local people. Conclusion Based on the ideas generated throughout the discussion above, it can be concluded that the nature of open economy of the EU countries has contributed to the economic development of individual member states, but on the contrary, it has also made them increasingly dependent on each other’s resources, which has often been criticised to affect their sovereignty. For instance, among various businesses, EU countries are well known for the manufacturing of palm oil that has a high demand in the foreign countries. The European commission has been taking measures to legalise the free trade among majority of the foreign countries in addition to the EU member states that would enhance the geographical and occupational mobility in this particular industry. However, there have been certain cultural, linguistic and environmental barriers creating hindrances for conducting business operations in the EU countries. 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