Example AS Macro Essay AQA June 2017 Qu 32 lt;/h1>

Use the extracts and your knowledge of economics to assess the policies that could be used to reduce the UK s balance of trade deficit

INTRODUCTION

The UK has a persistent Balance of Trade deficit. The Balance of Trade Deficit shows that overall there is a greater value of goods and services imported into the UK in contrast to UK overall goods and services exports. This is part of the Balance of Payments Current Account, one of the key macro-economic objectives. In this essay the trade deficit will be assessed and the policies, namely supply side and monetary policy (interest rate and exchange rate) to reduce the deficit and their pros and cons. Given the permanent nature of the balance of trade deficit, specifically caused by goods, I will argue that supply side policies are the most significant to support the long-term reduction in the UK s balance of trade deficit, albeit demand-side policies have more significant short-term effects which I will first of all consider.

1^st PARAGRAPH

POINT EXPLAINED (PE) - Demand side policies are most effective in reducing the UK s balance of trade deficit in the short-run currently influenced by the reduction in the exchange rate, a monetary policy tool, which causes an increase in UK exports and reduction in UK imports.

CONTEXTUALISED ANALYSIS (CAN)- Interest rate changes are a key tool of monetary policy that impacts exchange rates. Keeping interest rates low helps to maintain a weaker pound as the demand for pounds is less from foreign investors. This is because foreign investors have less incentive to invest in pounds due to lower interest payments and lower profits.

Currently the UK Balance of Payments Current Account deficit in comparison to Gross Domestic Product is reducing, from 5.6% in 2016 to 4.1% in 2017 caused to a large degree by the depreciation in the value of the pound after the vote to leave the European un ion and the IMF announcement of reduced global growth causing a reduction in the value of the pound against the dollar. Both of these impacts, coupled with low interest rates make UK exports cheaper for foreign buyers as foreign buyers currency has strengthened against the pound and less foreign currency is required to purchase UK exports. This typically increases the volume and value of UK exports, which is a key component of aggregate demand (Consumption + Government Expenditure + Investment +((Exports Imports)). More recently the reduction in the value of the pound has also led to cost push inflation rising to 3% and an increase in the cost of imports as the weak UK pound means that UK importers/consumers have to pay more pounds to purchase the foreign import. This typically leads to a reduction in demand for imports, again coupled with the increase in exports leading to an increase in AD and reduction in the trade deficit. In turn the increase in AD could lead to an export multiplier effect, as shown in the diagram, resulting in the overall increase in AD being greater than the initial increase in net exports with the increase in output, jobs and associated consumption causing a second shift in AD to the right. (Diagram here)

This could further led to an increase in private sector investment, addressed as part of the supply side policy argument in the following paragraph. All in all, this increase in AD including investment could further increase exports and reduce the trade deficit.

POINT INCLUDED EVALUATION (PIE)

That said, the extract suggests that there are other demand side factors that influence the trade deficit, such as AD in other countries for our UK exports, which whilst currently forecast to grow may suffer from an external stock due to volatility perhaps caused by terrorism, increases in commodity prices or China struggling to repay its debt with the knock on effect on China s demand for exports from other countries. Such factors would lead to an increase in the trade deficit. It depends on the influence of such factors in comparison to the benefit of a reduced exchange rate on the overall cost for foreign buyers and UK importers linked in with the extent to which the demand for goods and services is price elastic a reduced exchange rate and price elastic goods leads to an increase in exports.

2^nd PARAGRAPH

POINT EXPLAINED (PE) - Supply side policies are most effective in reducing the UK s balance of trade deficit in the long-run resulting in an increase in international competitiveness reducing unit costs causing an increase in UK exports and reduction in the need for UK imports.

CONTEXTUALISED ANALYSIS (CAN)- The British Chamber of Commerce has advised that a number of supply side measures will be required to boost manufacturing exports and reduce the trade deficit. The UK Economy suffers from structural imbalance being overly dependent on services with insufficient focus on goods as shown in extract D with a trade deficit between £1 billion and £5 billion per month between January 2014 and March 2016. The large deficit in goods and the surplus in services has been as a result of deindustrialisation over the last forty years and globalisation with cheaper labour overseas leading to a rise in overseas manufacturing with the resultant reduction in UK manufacturing particularly in industries such as shipbuilding, coal, steel and textiles. In the long-run the key is invest in supply-side policies to support the growth of productivity (Education and Training policies via Apprenticeships and T-Levels to increase vocational knowledge, skills and capabilities and investment in Infrastructure e.g. high speed rail link) and reduce unit cost as well as innovate (£4.7 billion Government Expenditure on Science and Technology Research and Development) so reducing both UK export prices and enhancing quality, which in turn increases our international competitiveness. In this era of a new scientific revolution with driverless cars, drones, the internet of things, 3-D printing and artificial intelligence (robotics) innovation is highly significant and key to being internationally competitive. This leads to a shift in our LRAS to the right as shown in the diagram, an increase in output and long-run economic growth, including growth in our UK exports which in turn reduces the trade deficit. (diagram here)

POINT INCLUDED EVALUATION (PIE)

That said, international competitiveness is dependent on relative competitiveness of the UK in comparison to other countries, specifically as regards productivity, unit cost, relative inflation (comparing UK to other countries inflation) and innovation. To what extent is it realistic to become more competitiveness on manufacturing when developing countries have lower labour costs, for example Bangladesh for textiles? It may be that the UK needs to focus on high value manufacturing such as Aerospace, Cars, Pharmaceuticals and precision engineering rather than low value such as textiles.

Summary Evaluation

In my opinion supply side policies are key to reducing the trade deficit over the long-run, in particular as the trade deficit is structural (i.e. has been built up over a long period of time) which necessitates the need to be more internationally competitive, grow our productivity and innovate using policies such as education and training, infrastructure development and investment in research and development for science and technology to develop innovative high value goods and services in this new era of a Scientific Resolution. That said this depends on the continued growth in the Global Economy and its demand for exports and the extent to which the UK can develop innovative products via its long-term and risky research and development approach to out compete other countries. Arguably the most important factor is the impact of the Government expenditure on overall investment and development of world leading innovate products.

(CIRCA 86 LINES)

(DC I will subsequently tweak this is a little long.)