Table 5 shows selected items of the balance of payments for Laylaland in 2020. Figures are in millions of US dollars (US$).
Table 5
Laylaland has a current account deficit of US$1865 million.
Chia seeds are an agricultural good produced in many countries and priced in US dollars (US$).
Figure 1 illustrates the market for chia seeds in a small country called Nofiberland. D is the domestic demand and S is the domestic supply for chia seeds. Chia seeds can be initially imported at the current world price of US$15.00 per kg. Sw is therefore the world supply faced in Nofiberland with free trade. To protect Nofiberland producers, the government decides to impose a US$6.00 tariff on chia seed imports. St is therefore the world supply faced in Nofiberland after the tariff is imposed.
Figure 1
Quinoa is a great source of protein and is thus considered a “super food”. As a result, the demand for quinoa in advanced economies has lately been rising very fast while global supply has not changed. A small country called Proteinland gets 80 % of its export revenues from exporting quinoa to advanced economies.
Distinguish between credit and debit items in the balance of payments.
State one example of a debit item from the financial account of the balance of payments.
Using Table 5, calculate the value of net current transfers for Laylaland in 2020.
Using Table 5, calculate the net exports of goods and services for Laylaland in 2020.
Explain two methods that Laylaland’s government could use to correct the current account deficit.
List two administrative barriers that Nofiberland could have used to limit imports of chia seeds.
Calculate the price elasticity of demand for chia seeds in Nofiberland following the imposition of the tariff.
Calculate the change in consumer expenditure on imported chia seeds in Nofiberland resulting from the imposition of the tariff.
Calculate the total welfare loss resulting from the imposition of the tariff on chia seeds.
Outline one reason why the imposition of the tariff would lead to a welfare loss.
Describe the impact of the rise in demand for quinoa on the terms of trade of Proteinland.
Explain how the increase in world demand for quinoa would likely affect the current account balance of Proteinland.
Explain how aggregate demand might be affected by an increase in interest rates.
Discuss whether the use of fiscal policy is the most effective way to bring an economy out of a recession.
Macroeconomics
Explain how an increase in interest rates might affect the level of aggregate demand in an economy.
Evaluate the effectiveness of monetary policy when an economy is in deep recession.
Explain why demerit goods are an example of market failure.
Evaluate the effectiveness of using indirect taxation to correct market failure.
Explain how equilibrium interest rates are determined in an economy.
Discuss whether an increase in interest rates is the most effective way of reducing the rate of inflation in an economy.
Explain how business spending on research and development and government expenditure on infrastructure might shift the long-run aggregate supply curve.
Evaluate the effectiveness of interventionist supply-side policies to achieve economic growth.
Pakistan and the International Monetary Fund
Pakistan is a low-income country with a rapidly growing population and widespread poverty. As of 2019, it has a large budget deficit due to high levels of military spending and high costs of debt servicing (35 % of the deficit is interest payments). It is also experiencing a widening current account deficit and is heavily dependent on foreign aid.
Pakistan’s government is negotiating a loan from the International Monetary Fund (IMF). Amongst its conditions, the IMF has said that the government must decrease private-sector regulation such as regulations on financial institutions. The government must also sell state-owned enterprises and government revenue must be raised by increasing indirect taxes and improving tax collection systems. Furthermore, the IMF insists that the government cuts its spending further.
The government has stated that the IMF loan is essential to restore confidence in Pakistan’s economy. This would help to attract foreign direct investment (FDI) to encourage economic growth and help break out of the poverty cycle. High debt levels and slowing economic growth in 2018 discouraged FDI. The IMF loan is also needed to help persuade other multilateral lenders such as the World Bank and the Asian Development Bank to provide and extend loans.
In the past, Pakistan has had 21 agreements with the IMF with limited success—any balance of payments or external debt improvement has been temporary. The IMF states that this is because Pakistan has not always met the conditions of the loans, while other stakeholders argue it was the lack of support given to Pakistan to implement the conditions and to allocate the loan funds appropriately.
Economists say that there needs to be a focus on improving human capital to provide the large number of young people entering the labour force with the skills to grow businesses. The quality of education needs to improve and to be combined with an effort to provide girls with greater access to education—female participation in the labour force is the lowest in the region.
The World Bank has financed education and infrastructure, such as renewable energy projects, in poor regions of Pakistan. However, critics of the World Bank argue that the projects are not making a significant difference and the construction of hydroelectric dams leads to environmental damage.
The government believes that the macroeconomic concerns of the IMF should be addressed first, and poverty issues in Pakistan can be dealt with later.
[Source: © International Baccalaureate Organization 2020.]
State two functions of the International Monetary Fund (IMF) (paragraph [2]).
Define the term human capital indicated in bold in the text (paragraph [5]).
Using a poverty cycle diagram, explain how the government of Pakistan could intervene to “break out of the poverty cycle” (paragraph [3]).
Using an externalities diagram, explain how “greater access to education” for girls in Pakistan could reduce market failure (paragraph [5]).
Using information from the text/data and your knowledge of economics, evaluate the potential impact of the IMF and the World Bank on economic development in Pakistan.
New Zealand dollar overvalued
The New Zealand finance minister said the exchange rate of the New Zealand dollar (NZD), is “unsustainably high; it is somewhere between 10 % to 15 % overvalued”.
The NZD had been near its record high against the US dollar before weakening last week on slower inflation figures and a fall in dairy prices. The NZD has gained about 6 % so far this year.
However, the finance minister said that New Zealand exporters had developed strength because of the high currency. “New Zealand is actually in reasonably good shape,” he said. “We have had an export sector operating with a strong exchange rate now for five or six years and that has had an impact on efficiency.”
An economist said recently that the central bank might consider intervening in the currency market to achieve a depreciation in the value of the NZD.
The Reserve Bank (central bank) governor raised the official interest rate for the fourth time this year to 3.5 % at a time when other major economies have their rates at record low levels.
He said that, “Encouragingly, the economy appears to be adjusting to the monetary policy tightening that has taken place since the start of the year. It is important that inflation expectations remain contained. This interest rate increase will help keep future average inflation near the 2 % target and ensure that the economic expansion can be sustained”.
New Zealand’s economy is expected to grow at an annual pace of 3.7 % over 2014. New Zealand government figures showed a monthly trade (in goods) surplus of 371 million in June 2013. The annual trade (in goods) balance turned to a surplus of 819 million a year earlier.
Global demand for New Zealand dairy products has been a key support for the country’s exports over the past 18 months, though prices have dropped this year with increased supply.
Define the term depreciation indicated in bold in the text (paragraph[4]).
Define the term monetary policy indicated in bold in the text(paragraph[6]).
Using an exchange rate diagram, explain how the increase in the official interest rate to 3.5 % is likely to affect the value of the New Zealand dollar (paragraph[5]).
Using an AD/AS diagram, explain how “monetary policy tightening” may affect a country’s inflation rate (paragraph[6]).
Using information from the text/data and your knowledge of economics, discuss the possible economic consequences of an overvalued New Zealand dollar on the New Zealand economy.
Explain the view that an increase in price will lead to an increase in the quantity supplied whilst an increase in supply will lead to a decrease in price.
To what extent are subsidies the most effective way of encouraging the consumption of merit goods?
Explain how the Lorenz curve and the Gini coefficient are used to measure differences in income inequality between countries.
Discuss the view that taxation is the most effective means of achieving equity in the distribution of income.