Definition of specialisation by country

International Trade and Globalisation – Specialisation, Free Trade, Restrictions & Foreign‑exchange

6.1 Specialisation and Free Trade

Definition of specialisation by country

Specialisation by country occurs when a nation concentrates its resources on producing a limited range of goods or services in which it has a comparative advantage and imports the remaining goods from other countries. This enables the country to increase total output, lower average costs and raise the standard of living.

Key concepts

• Comparative advantage: the ability to produce a good at a lower opportunity cost than another country.
• Opportunity cost: the value of the next‑best alternative that is fore‑gone when a choice is made.
• Absolute advantage: the ability to produce more of a good with the same resources than another country.
• Free trade: the removal of tariffs, quotas, subsidies and other barriers to the exchange of goods and services.

Why countries specialise (syllabus point 6.1 a)

1. To exploit comparative advantage and minimise opportunity costs.
2. To achieve economies of scale – larger output reduces average cost.
3. To obtain a wider variety of goods and services for consumers.
4. To stimulate economic growth through higher efficiency and productivity.

Advantages of free trade (syllabus point 6.1 b)

• Greater consumer choice and lower prices.
• Higher real incomes and standards of living.
• Increased competition encourages innovation and more efficient use of resources.
• Access to larger markets enables firms to benefit from economies of scale.
• Potential for technology transfer and skill development.

Disadvantages / limits of free trade (syllabus point 6.1 c)

• Job losses in industries that cannot compete with imports.
• Pressure on small‑scale producers and domestic firms lacking scale.
• Widening regional or income inequality if gains are not evenly distributed.
• Environmental concerns – increased production and transport can raise carbon emissions unless sustainability measures are introduced.
• Dependence on foreign suppliers for essential goods (e.g., food, energy).

Link to sustainability (optional extension)

Free‑trade policies can raise living standards, but without environmental safeguards they may increase carbon footprints and resource depletion. Sustainable trade policies therefore combine liberalisation with measures such as carbon tariffs, green standards and support for eco‑friendly industries.

Illustrative numerical example

Two countries, Country A and Country B, produce textiles and electronics.

Country	Units of Textiles per labour‑hour	Units of Electronics per labour‑hour	Comparative advantage
Country A	5	2	Textiles
Country B	3	4	Electronics

Opportunity cost of 1 unit of textiles:

• Country A: 0.4 units of electronics (2 ÷ 5).
• Country B: 0.75 units of electronics (4 ÷ 3).

Because Country A gives up fewer electronics, it has a comparative advantage in textiles; Country B has a comparative advantage in electronics. When each country specialises and trades, the total output of both goods rises.

Diagram suggestion

Draw two Production Possibility Frontiers (PPFs). Mark the autarky points, the specialisation points, and the line of trade (terms of trade) that shows the gain in consumption possibilities for both countries.

Summary of 6.1

• Specialisation = focusing production on goods with comparative advantage.
• Free trade allows countries to exchange specialised goods, creating efficiency gains.
• Benefits include lower prices, higher incomes and larger variety; drawbacks involve job displacement, inequality and environmental impact.

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6.2 Globalisation and Trade Restrictions

Definition of globalisation (syllabus point 6.2 a)

Globalisation is the increasing integration of national economies through the growth of international trade, investment, migration and the spread of technology, ideas and culture.

Key drivers of globalisation (6.2 a)

• Fall in transport costs (containerisation, cheaper shipping, air freight).
• Fall in communication costs (Internet, mobile phones, satellite).
• Growth of multinational corporations (MNCs) that locate production and sales worldwide.
• Liberalisation of trade and investment policies (e.g., WTO, regional trade agreements).
• Technological innovation and diffusion of knowledge.

Role of multinational corporations (MNCs) (6.2 b)

Aspect	Home country (origin)	Host country (location)
Advantages	Higher profits, access to new markets, economies of scale.	Foreign direct investment, job creation, technology transfer, increased tax revenue.
Disadvantages	Potential loss of domestic jobs, profit repatriation.	Profit repatriation, crowding‑out of local firms, possible exploitation of labour or environment.

How changes in globalisation cause economic consequences (6.2 b – extension)

Reductions in transport and communication costs, together with the expansion of MNC activity, drive globalisation. These changes affect:

• Trade volumes – larger markets and more specialised production.
• Competition – domestic firms face new foreign rivals.
• Environment – increased production and transport can raise emissions unless green policies are adopted.
• Migration – labour moves to where MNCs locate factories.
• Income distribution – gains may be uneven, creating winners and losers.
• Economic development – developing countries can access technology and export markets, but may become dependent on a narrow range of commodities.

Trade restrictions – types, reasons & economic consequences (6.2 c)

Restriction	Typical reasons for use	Economic consequences
Tariff (import duty)	Protect infant industries; raise government revenue; retaliatory measures.	Higher domestic prices, reduced consumer surplus, welfare loss; possible gain for protected producers.
Quota (quantity limit)	Limit import volumes to protect domestic producers; manage balance of payments.	Supply shortage, higher prices, rent‑seeking behaviour (quota licences).
Subsidy (export or production)	Encourage export growth; support strategic sectors; maintain employment.	Distorts competition, can provoke trade disputes, fiscal cost to government.
Embargo / sanction	Political objectives, human‑rights concerns, national security.	Loss of market access for both parties, possible retaliation, impact on consumers.
Technical / health / environmental standards	Protect health, safety or the environment.	Legitimate protection, but can be used as a disguised restriction; may raise production costs.

Advantages of trade restrictions (6.2 d)

• Protection of nascent or strategic industries.
• Preservation of jobs in vulnerable sectors.
• Revenue generation (tariffs).
• Ability to pursue environmental or health objectives through standards.

Disadvantages / limits of trade restrictions (6.2 d)

• Higher prices and reduced choice for consumers.
• Inefficiency – resources are not used where they are most productive.
• Retaliation from trading partners, leading to trade wars.
• Potential for corruption (e.g., allocation of licences).
• Negative impact on developing countries that rely on export markets.

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6.3 Foreign‑exchange Rates

Definition (6.3 a)

A foreign‑exchange rate (or exchange rate) is the price of one currency expressed in terms of another currency (e.g., £1 = $1.30).

Why individuals, firms and governments buy or sell foreign currency (6.3 b)

• Importers need foreign currency to pay for overseas purchases.
• Exporters sell foreign currency received from overseas buyers.
• Tourists exchange money for travel.
• Investors buy foreign assets (stocks, bonds, property) and need the relevant currency.
• Governments intervene to stabilise the currency or to build foreign‑exchange reserves.

How exchange rates are determined (6.3 c)

• Floating exchange rate: set by supply and demand in the foreign‑exchange market. Influencing factors include interest‑rate differentials, inflation expectations, economic growth, political stability and speculation.
• Managed float (hybrid system): the rate is generally market‑determined, but the central bank may intervene occasionally to smooth excessive volatility.
• Additional content (optional): Fixed or pegged rates – the government or central bank commits to a set rate and uses reserves to maintain it.

Consequences of exchange‑rate movements (6.3 d)

Change in rate	Effect on exports	Effect on imports	Other macro impacts
Depreciation (home currency falls)	Exports become cheaper abroad → demand rises.	Imports become more expensive → demand falls.	Improves the current‑account balance; may raise inflation; can attract foreign investment if investors expect later appreciation.
Appreciation (home currency rises)	Exports become more expensive → demand falls.	Imports become cheaper → demand rises.	Worsens the current‑account balance; reduces inflationary pressure; may discourage foreign investment.

Simple numerical example

Assume the initial rate is £1 = $1.30. A UK firm sells goods worth $130 million abroad.

• At the original rate, revenue = £100 million.
• If the pound depreciates to £1 = $1.20, the same $130 million is worth £108.33 million – an 8.3 % gain for the exporter.
• Conversely, a UK importer buying $130 million of goods would now pay £108.33 million instead of £100 million, a higher cost.

Summary of 6.3

• Exchange rates show how currencies are priced relative to each other.
• In a floating system they are driven by market forces; in a managed float the central bank may intervene occasionally.
• Movements affect the competitiveness of exports and imports, the balance of payments, inflation and overall economic performance.

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Overall Summary

• Specialisation lets countries produce where they have comparative advantage; free trade unlocks the gains, but policy must address distributional and environmental concerns (optional sustainability extension).
• Globalisation is propelled by lower transport/communication costs and the activity of MNCs; governments may impose trade restrictions for strategic, political, health or environmental reasons, each with its own pros and cons.
• Foreign‑exchange rates determine the price of cross‑border transactions; their fluctuations directly affect trade balances, inflation and investment decisions.