Controlling Imports and Exports

It is possible for Countries to influence the trade of its industries by controlling the numbers of imports and exports passing  over the country's borders. Of course a Government wants to help the domestic firms which means that a Government's trade policy will aim to maximise exports and minimise imports. This is due to balance of trade. Imports are seen as a cash outflow in that money from this country is used to buy goods and services from another country and so benefits their economy as opposed to our own. Exports on the other had benefit the domestic economy as the cash raised from the sale of goods sold to overseas consumers is put into our economy. Hence if we can keep exports higher than imports we are on our way to having a trade surplus / current account surplus.

So, how does the Government control imports and exports?

Import Protection - Quotas

Quotas are basically limits put on goods coming into the country. Say the number of Chinese T-Shirts allowed into the UK in a given year was 10 million. Therefore this means that if the demand for T-Shirts in the UK exceeded 10 million shirts per year they would have to buy form domestic firms which is good for the economy. This ensures the amount of cash spent on shirt imports is capped and so good for forecasting. However whereas it means domestic firms can compete with foreign imports, it gives consumers less choice and if the quota is reached, may be forced to buy a more expensive T-Shirt from a domestic firm.

Import Protection - Tariffs

Tariffs are taxes put on imported goods (so an import tax). It means that any number of T-Shirts can be imported, but at a higher price when taking into account the tax on top of the price. This is an incentive for consumers to use domestic firms as the tariff obviously doesn't apply to domestically produced goods. Again it limits choice and lessens the incentive of firms to lower their costs and prices if the tariff naturally eliminates some of the competition.

Export Incentives - Export Subsidy

Export Subsidies often form part of the Government's Supply Side Policy. Subsidies such as the EU's Common Agricultural Policy (CAP) encourages domestic producers to increase their output and produce more crops etc. to ensure that not only is there enough to feed the EU population but there is more to export. If output increases more than the extra costs incurred, they can lower prices and so become more competitive in the global marketplace. However it is arguable that it is unfair for countries outside of the EU who are dependent on selling their produce to survive. Therefore it is controversial but ensures that a country's trade situation improves.

Economic Policy

The Government uses four main policies to stimulate the economy but this list is by no means exhaustive with smaller policies also being adopted. So what are the main four and how do they operate?

Fiscal Policy

Fiscal Policy refers to the Government's use of taxation, spending and borrowing in order to stimulate the economy. This can create demand and so result in growth, increased output and the employment which results from the increase in output produced by firms.

The government's spending may directly create demand. For example if they chose to build a school, then this creates demand in the construction industry to physically build the school. However if the Government lowers income tax, people's real incomes increase as they're paying less in taxes out of their monthly pay-packet and so have more to spend in other industries.

If the Government has a Fiscal Deficit where tax revenue doesn't cover expenditure it may borrow in order to continue to boost the economy - or issue government bonds for the public to buy.

Monetary Policy

Monetary Policy puts the emphasis on interest rates. In times of recession interest rates may be lowered. (In the recent UK Double Dip Recession the base rate was cut to 0.5%) This means that the cost of credit is cheaper and so encourages people to buy more whilst still low. Those with mortgages and loans will find that monthly interest payments are less and so their purchasing power increases. And Finally, it due to a low return it becomes less worthwhile for savers to save their money in a bank and so spend it and create demand which fuels growth. Of course, these outcomes can be reversed if the base rate was to rise again.

However there is a danger of causing inflation due to the increased demand for goods and services created by Monetary Policy. Increasing demand causes upward pressure on price (see Demand and Supply) and so the Bank of England aims to meet the Government's target of 2% and monitors the situation constantly to keep inflation at bay.

The Monetary Policy Committee (MPC) are instrumental in setting the short term interest rates at their monthly meetings.

Supply side Policy

This focuses on making firms produce more output. It is correct to think of subsidies immediately when thinking about SS Policy as export subsidies are commonplace in the manufacturing and agricultural industries. They are basically a financial incentive for producers to produce more and become more competitive in their respective markets.

This becomes apparent when looking at the situation in terms of Supply and Demand. A farmer produces more and so supply increases. Hence, providing demand remains similar the price per unit will fall - which doesn't initially sound good for farmers.However lower prices potentially attract more buyers from overseas as well as domestically as their prices are more competitive alongside the foreign competition. So, in addition to growth this is a useful policy as growth can be sustained without inflation of prices.

Exchange Rate Policy

So, we know that an exchange rate measures how much a currency is worth in terms of another currency. Hence when the rate fluctuates (which it does slightly every few seconds) one currency becomes stronger or weaker relative to the other.

Therefore by manipulating the exchange rate using policies the government can achieve the desired effect - to boost or slow down the economy in terms of exports or imports.

Let's say we the Government devalue the GB Pound. Hence it becomes weaker. If the rate was between the Pound and the US Dollar then the dollar gets stronger. Hence to the Americans, British exports seem cheaper as 1 US Dollar buys more pounds (as the pound is weaker) and so British exports should theoretically increase.

We must remember though that altering one currency will have a direct impact on the other currency in the exchange rate.

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The Effects of Inflation

So, we have established the causes of inflation. But what are the effects?

Loss of overseas competitiveness.

This means that if prices in the country are subject to inflation, the prices of goods from that country (including those sold abroad) become more expensive to buyers overseas in the global market. This leads to lowered exports due to the fact that the consumers will use another cheaper supplier from another country where perhaps inflation is lower.

Import penetration occurs too because people within the country start to import more of their products in that they are cheaper than domestic ones even despite the increased distance they have to be shipped.

Real income is transferred

Inflation causes real income to move between different groups of people:

• Non Unionised to Unionised workers

Those in Trade Unions will probably benefit from their Union's influence across the country in order to negotiate higher wages in response to inflation and the associated rise in the cost of living.

• Tax Payers to Governments

Fiscal drag occurs here because the Government sometimes see revenue as a time to make some extra tax revenue. They are slow to move up the tax brackets and so when there is an increase in wages to respond to inflation, they end up paying some income tax at a higher rate. Income Tax allowances are usually slower to be amended than the rising wage rates.

• Lenders to Debtors

It's great for those in debt. although technically they still have to pay back the same balance, each pound they pay back is no longer worth as much and so the lender loses out. 

• Unemployed to those in work

Those in work will demand a higher wage in order to maintain their standard of living if the cost of living has increased due to inflation. Therefore this causes further inflation in that firms increase prices to maintain their profit margins. This is necessary when extra labour costs do not convert into extra productivity. The process described here is known as the Wage Price Spiral. Hence for those on fixed incomes or those without pay rising prices is a major issue. If you aren't on a fixed income your income will increase in line with inflation so you don't feel the effects as much.

Effect on capital investment

Firms spend less on capital goods due to the increase in price. However others will decide that the time is right to buy in speculation that if they wait, inflation will make prices more expensive. Furthermore if they kept the capital as savings, then inflation would erode its value so when they come to spend it in the future, it would be valued as less even after taking into account the interest received.

Hence the Monetary Policy Committee increase interest rates to encourage saving. Also this attempts to trim demand if consumers are saving as opposed to spending and so demand pull inflation is limited.

However this high interest rate leads to a higher nominal interest rate which impacts growth because buyers lose confidence in the market and "shoe leather costs" increase - This being the an increased time for a consumer to shop around for the best deal on a particular product.

For those firms using menus or catalogues there may be costs associated with altering the prices of its products. Argos produces only a few new editions of its catalogue per year and so this will be a rather costly procedure.

ITS NOT ALL DOOM & GLOOM

Possible Benefits of Inflation:

Possible Business Growth

Falling debt values 

Higher Stock Values 

Rising asset values such as property

So, depending on the nature of your firm, or your livelihood inflation will affect you for the better or maybe for the worse.

Why not read:

Inflation introduction   ,   Causes of Inflation