IV Semester

BAE-4.1 International Economics

Module 1: Introduction and Theories of International Trade.

Meaning and importance of International Economics

International economics refers to a study of international forces that influence the domestic conditions of an economy and shape the economic relationship between countries. In other words, it studies the economic interdependence between countries and its effects on economy.

International trade studies goods-and-services flows across international boundaries from supply-and-demand factors, economic integration, international factor movements, and policy variables such as tariff rates and trade quotas.

The scope of international economics is wide as it includes various concepts, such as globalization, gains from trade, pattern of trade, balance of payments, and FDI. Apart from this, international economics describes production, trade, and investment between countries.

International economics has emerged as one of the most essential concepts for countries. Over the years, the field of international economics has developed drastically with various theoretical, empirical, and descriptive contributions.

Generally, the economic activities between nations differ from activities within nations. For example, the factors of production are less mobile between countries due to various restrictions imposed by governments.

The impact of various government restrictions on production, trade, consumption, and distribution of income are covered in the study of internal economics. Thus, it is important to study the international economics as a special field of economics.

Difference between International Trade and Internal Trade There are, however, a number of things which make a difference between foreign trade and domestic trade and necessitate a separate theory of international trade.

They are as under: (i) Immobility of Factors of Production: Labour and capital do not move freely from one country to another as they do within the same country. ―Man‖, declared Adam Smith, ―is, of all forms of luggage, the most difficult to transport‖. Much more so when a foreign frontier has to be crossed. Hence differences in the cost of production cannot be removed by moving men and money, the result is the movement of goods.

On the contrary, between regions within the same political boundaries, people distribute themselves more or less according to opportunities. Real wages and standard of living tend to seek a common level, though they are not wholly uniform. As between nations, however, these differences continue to persist for wages and check population movements. Capital also does not move freely from- one country to another. Capital is notoriously shy.

(ii) Different Currencies: ADVERTISEMENTS:

Each country has a different currency. India for instance, has the rupee, the U.S.A. the dollar, Germany the mark, Italy the lira, Spain the peso, Japan the yen, and so on. Hence, buying and selling between nations give rise to complications absent in internal trade.

(iii) Restrictions on Trade: Trade between different countries is not free. Very often there are restrictions imposed by custom duties, exchange restrictions, fixed quotas or other tariff barriers. For example, our own country has imposed heavy duties on import of motor cars, wines and liquors and other luxury goods.

(iv) Ignorance: Knowledge of other countries cannot be as exact and full as of one‘s own country. Differences in culture, language and religion stand in the way of free communication between different countries. On the other hand, within the borders of a country, labour and capital freely move about. These factors, too, make internal trade different from international trade.

(v) Transport and Insurance Costs: Then costs of transport and insurance also check- free international trade. The greater the distance between the two countries, the greater are these costs. Wars increase them still more.

Conclusion: ADVERTISEMENTS: Thus, comparative immobility of labour and capital, restrictions on trade, transport and other costs, ignorance, and differences in language, customs, laws and currency systems make international trade different from domestic trade and necessitate a separate theory of international trade.

Absolute cost advantage:

Absolute advantage is the ability of an individual, company, region, or country to produce a greater quantity of a good or service with the same quantity of inputs per unit of time, or to produce the same quantity of a good or service per unit of time using a lesser quantity of inputs, than another entity that produces the same good or service. An entity with an absolute advantage can produce a product or service at a lower absolute cost per unit using a smaller number of inputs or a more efficient process than another entity producing the same good or service.

 Absolute advantage is when a producer can produce a good or service in greater quantity for the same cost, or the same quantity at lower cost, than other producers.  Absolute advantage can be the basis for large gains from trade between producers of different goods with different absolute advantages.  By specialization, division of labor, and trade, producers with different absolute advantages can always gain over producing in isolation.  Absolute advantage is related to comparative advantage, which can open up even more widespread opportunities for the division of labor and gains from trade.

The concept of absolute advantage was developed by Adam Smith in his book Wealth of Nations to show how countries can gain from trade by specializing in producing and exporting the goods that they can produce more efficiently than other countries. Countries with an absolute advantage can decide to specialize in producing and selling a specific good or service and use the funds that good or service generates to purchase goods and services from other countries.

By Smith‘s argument, specializing in the products that they each have an absolute advantage in and then trading products, can make all countries better off, as long as they each have at least one product for which they hold an absolute advantage over other nations.

General Example of Absolute Advantage Consider the two hypothetical countries, Atlantica and Krasnovia, with equivalent populations and resource endowments, which each produce two products, Guns and Bacon. Each year Atlantica can produce either 12 Guns or 6 slabs of Bacon, while Krasnovia can produce either 6 Guns or 12 slabs of Bacon. Each country needs a minimum of 4 Guns and 4 slabs of Bacon to survive. In a state of autarky, producing solely on their own for their own needs, Atlantica can spend ⅓ of the year making Guns and ⅔ making Bacon for a total of 4 Guns and 4 slabs of Bacon. Krasnovia can spend ⅓ of the year making Bacon and ⅔ making Guns to produce the same, 4 Guns and 4 slabs of Bacon. This leaves each country at the brink of survival, with barely enough Guns and Bacon to go around. However, not that Atlantica has an absolute advantage in producing Guns, and Krasnovia has an absolute advantage in producing Bacon.

Absolute advantage also explains why it makes sense for individuals, businesses and countries to trade. Since each has advantages in producing certain goods and services, both entities can benefit from trade.

If each country were to specialize in their absolute advantage, Atlantica could make 12 Guns and no Bacon, while Krasnovia makes no Guns and 12 slabs of Bacon. By specializing, the two countries divide the tasks of their labor between them. If they then trade 6 Guns for 6 slabs of Bacon, each country would then have 6 of each. Both countries would now be better off than before, because each would have 6 Guns and 6 Bacon, as opposed to 4 of each good which they could produce on their own.

This mutual gain from trade forms the basis of Adam Smith‘s argument that specialization, the division of labor, and subsequent trade leads to an overall increase of wealth from which all can benefit.

Theory of comparative cost:

This theory is developed by a classical economist David Ricardo. According to this theory, the international trade between two countries is possible only if each of them has absolute or comparative cost advantage in the production of at least one commodity. This theory is based upon following assumption:

 There are only two countries and two commodities  There is no governmental intervention in export and import  Only labor is factor of production. Quantity of labor used gives cost of production  There is perfect mobility of labor within the country but not between the countries  There is no cost of transportation between the countries  The law of constant returns to scale operates in production.  The units of labor are homogeneous  The units of each commodity in both countries are homogeneous

According to comparative cost advantage theory of international trade, each country exports the commodity in which it has cost advantage and imports the commodity in which it has cost disadvantage. This theory can be explained as following:

A. Comparative cost advantage If a country can produce both commodities with less cost than another country but in different ratio, the country is said to have comparative cost advantage.

Country Labor required to produce Labor required to produce shoe clothe Nepal 10 4 India 20 12 ratio 10/20=0.5 4/12=0.33 In the above table, the cost of production of clothe in Nepal is only 50% of cost of production of clothe in India. In case of shoes, the cost of production is only 1/3rd of cost in India. It shows that Nepal can produce both commodities with fewer cots than India. But in order to take advantage, it produces only shoes land let India produce clothe for it. Nepal produces shoes and exports to India. India produces clothe and exports to Nepal. If they do so, both of them can take benefits. B. Absolute cost advantage: If a country can produce a commodity with less cost but has to bear more cost in the production of another commodity than another country then the country is said to have absolute cost advantage. In this case, both of the countries produce and export the commodities in which they have absolute cost advantage.

Country Labor required to produce Labor required to produce shoe clothe Nepal 10 8 India 20 4 ratio 10/20=0.5 8/4=2 In the above table, the cost of production of clothe in Nepal is less than in India. But cost of production of shoes is less in India than in Nepal. In this case, Nepal is said to have absolute cost advantage in production of clothe but absolute cost disadvantage in production of shoes. India is said to have absolute cost advantage in production of shoes but absolute cost disadvantage in production of clothe. Therefore, Nepal produces only clothe and exports to India. India produces only shoes and exports to Nepal. Doing it, both the countries can take benefit. C. No cost advantage: If a country can produce both commodities with less cost than another country but in equal ratio, the country is said to have no cost advantage.

Country Labor required to produce Labor required to produce shoe clothe Nepal 10 4 India 20 8 ratio 10/20=0.5 4/8=0.5 In the above table, Nepal is shown able to produce both commodities with less cost than India in equal ratio. It means Nepal has no cost advantage. It is loss to the Nepal to import any commodity form India. That‘s why it decides to produce both goods for itself. Therefore, India too produces both goods for itself. Hew is no trade between them.

Criticisms

 This theory is not applicable if there are more than two countries and more than two commodities  In every country there is more or less government intervention in international trade  There is cost of transportation from one country to another country  The units of labor are not homogeneous and the workers are paid more or less in different countries  There may be increasing or decreasing returns to scale  Labor is not perfectly mobile within the country too. In the modern era, there is mobility of labor from one country to another  The commodities produced in the different countries differ in quality, taste, size, quantity etc.

The Heckscher-Ohlin model is an economic theory that proposes that countries export what they can most efficiently and plentifully produce. Also referred to as the H-O model or 2x2x2 model, it's used to evaluate trade and, more specifically, the equilibrium of trade between two countries that have varying specialties and natural resources.

The model emphasizes the export of goods requiring factors of production that a country has in abundance. It also emphasizes the import of goods that a nation cannot produce as efficiently. It takes the position that countries should ideally export materials and resources of which they have an excess, while proportionately importing those resources they need.

 The Heckscher-Ohlin model evaluates the equilibrium of trade between two countries that have varying specialties and natural resources.  The model explains how a nation should operate and trade when resources are imbalanced throughout the world.  The model isn't limited to commodities, but also incorporates other production factors such as labor.

The Basics of the Heckscher-Ohlin Model The primary work behind the Heckscher-Ohlin model was a 1919 Swedish paper written by Eli Heckscher at the Stockholm School of Economics. His student, Bertil Ohlin, added to it in 1933. Economist Paul Samuelson expanded the original model through articles written in 1949 and 1953. Some refer to it as the Heckscher-Ohlin-Samuelson model for this reason.

The Heckscher-Ohlin model explains mathematically how a country should operate and trade when resources are imbalanced throughout the world. It pinpoints a preferred balance between two countries, each with its resources.

The model isn't limited to tradable commodities. It also incorporates other production factors such as labor. The costs of labor vary from one nation to another, so countries with cheap labor forces should focus primarily on producing labor-intensive goods, according to the model.

Evidence Supporting the Heckscher-Ohlin Model Although the Heckscher-Ohlin model appears reasonable, most economists have had difficulty finding evidence to support it. A variety of other models have been used to explain why industrialized and developed countries traditionally lean toward trading with one another and rely less heavily on trade with developing markets. The Linder hypothesis outlines and explains this theory. It states that countries with similar incomes require similarly valued products and that this leads them to trade with each other.

Real-World Example of the Heckscher-Ohlin Model Certain countries have extensive oil reserves but have very little iron ore. Meanwhile, other countries can easily access and store precious metals, but they have little in the way of agriculture.

For example, the Netherlands exported almost $506 million in U.S. dollars in 2017, compared to imports that year of approximately $450 million. Its top import-export partner was Germany. Importing on a close to equal basis allowed it to more efficiently and economically manufacture and provide its exports.

The model emphasizes the benefits of international trade and the global benefits to everyone when each country puts the most effort into exporting resources that are domestically naturally abundant. All countries benefit when they import the resources they naturally lack. Because a nation does not have to rely solely on internal markets, it can take advantage of elastic demand. The cost of labor increases and marginal productivity declines as more countries and emerging markets develop. Trading internationally allows countries to adjust to capital-intensive goods production, which would not be possible if each country only sold goods internally.

Leontief Paradox:

Leontief's paradox in economics is that a country with a higher capital per worker has a lower capital/labor ratio in exports than in imports. This econometric find was the result of Wassily W. Leontief's attempt to test the Heckscher– Ohlin theory ("H–O theory") empirically. In 1953, Leontief found that the United States—the most capital-abundant country in the world—exported commodities that were more labor- intensive than capital-intensive, contrary to H-O theory.[1] Leontief inferred from this result that the U.S. should adapt its competitive policy to match its economic realities.

 In 1971 Robert Baldwin showed that U.S. imports were 27% more capital-intensive than U.S. exports in the 1962 trade data, using a measure similar to Leontief's.[2][3]  In 1980 Edward Leamer questioned Leontief's original methodology for comparing factor contents of an equal dollar value of imports and exports (i.e. on real exchange rate grounds). However, he acknowledged that the U.S. paradox still appears in Baldwin's data for 1962 when using a corrected method comparing factor contents of net exports and domestic consumption.[4][5]  A 1999 survey of the econometric literature by Elhanan Helpman concluded that the paradox persists, but some studies in non-US trade were instead consistent with the H–O theory.  In 2005 Kwok & Yu used an updated methodology to argue for a lower or zero paradox in U.S. trade statistics, though the paradox is still derived in other developed nations.[6] Responses to the paradox[edit] For many economists, Leontief's paradox undermined the validity of the Heckscher–Ohlin theorem (H–O) theory, which predicted that trade patterns would be based on countries' comparative advantage in certain factors of production (such as capital and labor). Many economists have dismissed the H-O theory in favor of a more Ricardian model where technological differences determine comparative advantage. These economists argue that the United States has an advantage in highly skilled labor more so than capital. This can be seen as viewing "capital" more broadly, to include human capital. Using this definition, the exports of the United States are very (human) capital-intensive, and not particularly intensive in (unskilled) labor. Some explanations for the paradox dismiss the importance of comparative advantage as a determinant of trade. For instance, the Linder hypothesis states that demand plays a more important role than comparative advantage as a determinant of trade—with the hypothesis that countries which share similar demands will be more likely to trade. For instance, both the United States and Germany are developed countries with a significant demand for cars, so both have large automotive industries. Rather than one country dominating the industry with a comparative advantage, both countries trade different brands of cars between them. Similarly, New Trade Theory argues that comparative advantages can develop separately from factor endowment variation (e.g., in industrial increasing returns to scale). Module 2:

Terms of Trade

The terms of trade (TOT) is the relative price of exports in terms of imports[1] and is defined as the ratio of export prices to import prices.[2] It can be interpreted as the amount of import goods an economy can purchase per unit of export goods. An improvement of a nation's terms of trade benefits that country in the sense that it can buy more imports for any given level of exports. The terms of trade may be influenced by the exchange rate because a rise in the value of a country's currency lowers the domestic prices of its imports but may not directly affect the prices of the commodities it exports. Terms of trade (TOT) is a measure of how much imports an economy can get for a unit of exported goods. For example, if an economy is only exporting apples and only importing oranges, then the terms of trade are simply the price of apples divided by the price of oranges — in other words, how many oranges can be obtained for a unit of apples. Since economies export and import many goods, measuring the TOT requires defining price indices for exported and imported goods and comparing the two.[3] A rise in the prices of exported goods in international markets would increase the TOT, while a rise in the prices of imported goods would decrease it. For example, countries that export oil will see an increase in their TOT when oil prices go up, while the TOT of countries that import oil would decrease. Gains from trade: How the gain from international trade would be shared by the participating countries depends upon the terms of trade. The terms of trade refer to the rate at which one country exchanges its goods for the goods of other countries. Thus, terms of trade determine the international values of commodities. Obviously, the terms of trade depend upon the prices of exports a country and the prices of its imports.

Concepts of Terms of Trade: Net Barter Terms of Trade: ADVERTISEMENTS:

The most widely used concept of the terms of trade is what has been caned the net barker terms of trade which refers to the relation between prices of exports and prices of imports. In symbolic terms:

Tn = Px/Pm Where

Tn stands for net barter terms of trade. ADVERTISEMENTS:

Px stands for price of exports (x),

Pm stands for price of imports (m). When we want to know the changes in net barter tends of trade over a period of time, we prepare the price index numbers of exports and imports by choosing a certain appropriate base year and obtain the following ratio:

Px1/ Pm1 : Px0/ Pm0 ADVERTISEMENTS:

. Px„ Pm„

where Pxo and Pm0 stand for price index numbers of exports and imports in the base year re- spectively, and Px1) and Pm1) denote price index numbers of exports and imports respectively in the current year. Since the prices of both exports and imports in the base year are taken as 100, the terms of trade in the base year would be equal to one

Px0/ Pm0 = 100/100 = 1 ADVERTISEMENTS:

Suppose in the current period the price index number of exports has gone upto 165, and the price index number of imports has risen to 110, then terms of trade in the current period would be: 165/110: 100/100 = 1.5:1

Thus, in the current period, terms of trade have improved by 50 pa‘ cent as compared to the base period. Further, it implies that if the prices of exports of a country rise relatively greater than those of its imports, terms of trade for it would improve or become favourable.

On the other hand, if the prices of imports rise relatively greater than those of its exports, terms of trade for it would deteriorate or become unfavourable. Thus, net barter terms of trade is an important concept which can be applied to measure changes in the capacity of exports of a country to buy the imported products. Obviously, if the net barter terms of trade of a country improve over a period of time, it can buy more quantity of imported products for a given volume of its exports.

But the concept of net barter terms of trade suffers from some important limitations in that it shows nothing about the changes in the volume of trade. If the prices of exports rise relatively to those of its imports but due to this rise in prices, the volume of exports falls substantially, then the gain from rise in export prices may be offset or even more than offset by the decline in exports.

This has been well described by saying, ―We make a big profit on every sale but we don‘t sell much‖. In order to overcome this drawback, the net barter terms of trade are weighted by the volume of exports. This has led to the development of another concept of terms of trade known as the income terms of trade which shall be explained later. Even so, the net barter terms of trade is most widely used concept to measure the power of the exports of a country to buy imports.

Gross Barter Terms of Trade: This concept of the gross terms of trade was introduced by F.W. Taussig and in his view this is an improvement over the concept of net barter terms of trade as it directly takes into account the volume of trade. Accordingly, the gross barter terms of trade refer to the relation of the volume of imports to the volume of exports. Thus, Tg = Om/Qx Where

Tg = gross barter terms of trade, Qm = quantity of imports

Qx = quantity of exports

To compare the change in the trade situation over a period of time, the following ratio is employed:

Om1/Qx1 : Qm0/Qx0 ADVERTISEMENTS:

Where the subscript 0 denotes the base year and the subscript I denotes the current year.

It is obvious that the gross barter tenns of trade for a country will rise (i.e., will improve) if more imports can be obtained for a given volume of exports. It is important to note that when the balance of trade is in equilibrium (that is, when value of exports is equal to the value of imports), the gross barter terms of trade amount to the same thing as net barter terms of trade.

This can be shown as under: Value of imports = price of imports x quantity of imports = Pm. Qm

ADVERTISEMENTS:

Value of exports = Price of exports x quantity of exports = Px. Qx

Therefore, when balance of trade is in equilibrium.

Px . Qx = Pm. Qm

Px .Qm = Pm Qx

However, when balance of trade is not it equilibrium, the gross barter terms of trade would differ from net barter terms of trade.

Income Terms of Trade: In order to improve upon the net barter terms of trade G.S. Dorrance developed the concept of income terms of trade which is obtained by weighting net barter terms of trade by the volume of exports. Income terms of trade therefore refer to the index of the value of exports divided by the price of imports. Symbolically, income terms of trade can be written as

Ty = Px.Qx/Pm

Where

Ty = Income terms of trade

Px = Price of exports

Qx = Volume of exports

Pm= Price of imports Income terms of trade yields a better index of the capacity to import of a country and is, indeed, sometimes called ‗capacity to import. This is because in the long run balance of payments must be in equilibrium the value of exports would be equal to the value of imports.

Thus, in the long run: Pm, Qm = Px, Qx

Qm = Px.Qx/Pm

It follows from above that the volume of imports (Qm) which a country can buy (that is, capacity to import) depends upon the income terms of trade i.e., Px.Qx/Pm. Since income terms of trade is a better indicator of the capacity to import and since the developing countries are unable to change Px and Pm. Kindleberger‘ thinks it to be superior to the net barter terms of trade for these countries, However, it may be mentioned once again that it is the concept of net barter terms of trade that is usually employed.

Determination of Terms of Trade: Theory of Reciprocal Demand: As seen above, the share of a country from the gain in international trade depends on the terms of trade. The terms of trade at which the foreign trade would take place is determined by reciprocal demand of each country for the product of the other countries. The theory of reciprocal demand was put forward by JS. Mill and is thought to be still valid and true even today. By reciprocal demand we mean the relative strength and elasticity of the demand of the two trading countries for each other‘s product.

Let us take two countries and B which on the basis of their comparative costs specialise in the production of cloth and wheat respectively. Obviously, country would export cloth to country B, and in exchange import wheat from it. Reciprocal demand means the strength and elasticity of demand of country A for wheat of country B, and the intensity and elasticity of country B‘s demand for cloth from country A If the country has inelastic demand for wheat of country B, she will be prepared to give more of cloth for a given amount of wheat. In this case terms of trade will be unfavourable to it and consequently its share of gain from trade will be relatively smaller.

On the contrary, if country A‘s demand for import of wheat is elastic, it will be willing to offer a smaller quantity of its cloth for a given quantity of the imports of wheat. In this case terms of trade would be favourable to country A and its share of gain from trade will be relatively larger. The equilibrium terms of trade would settle at a level at which its reciprocal demand, that is, quantity of its exports which it will be willing to give for a given quantity of its imports is equal to the reciprocal demand of the other country.

Note that the equilibrium terms of trade are determined by the intensity of reciprocal demand of the two trading countries but they will lie in between the comparative costs (i.e., domestic exchange ratios) of the two countries. This is because no country would be willing to trade at a price which is lower than at which it can produce at home.

Determination of Terms of Trade and Offer Curves: The theory of reciprocal demand has been explained graphically with the help of the concept of offer curves developed by Edgeworth and Marshall. The offer curve of a country shows the amounts of a commodity it offers at various prices for a given quantity of the commodity produced by the other country.

To understand how offer curves are derived and how with their help determination of the terms of trade is explained, we shall first explain how a country reaches its equilibrium position about the amounts of goods to be produced and consumed.

For this purpose, modern economists usually employ the tools of production possibility curve and the community indifference curves. The production possibility curve represents the combinations of two commodities which a country, given its resources and technology, can produce.

A community indifference curve shows the combinations of two goods which provide same satisfaction to the community as a whole. A map of community indifference curves portrays the tastes and demand pattern of a community for the two goods. A production possibility curve TT‘ and a set of community indifference curves IC1IC2 and IC3 of country A have been drawn in Fig. 45.1. The country reaches its equilibrium position with regard to production and consumption of cloth and wheat at the point Q where the production possibility curve TT‘ is tangent to the highest possible indifference curve IC2 at which marginal rate of transformation of cloth for wheat

(MRTCW) equals marginal rate of substitution of cloth for wheat (MRSCW) as well as the price ratio of the two commodities Pc/Pw as shown by the slope of the price line P1P1.

Thus, tangency point Q in Fig. 45.1 depicts the equilibrium position of country in the absence of trade. Suppose country A enters into trade relation with country B and price of cloth rises relative to wheat so that new price-ratio line becomes P2P2.

It will be observed from Fig. 45.1 that with price- ratio line P2P2 production equilibrium of country is at point M, its consumption equilibrium is at point R. This shows that with price-ratio line PP2 country A will offer or export MN of cloth for RN imports of wheat. Similarly, if price of cloth further rises relative to wheat, price-ratio line will become more steep, then for the same quantity offered of export of cloth, the or import of wheat will increase. With such information gathered from Fig. 45.1, we can derive offer curve of country A in Fig. 45.2. The tangent line in Fig. 45.1 shows the domestic price ratio of the two commodities and has a negative slope. In the analysis of the offer curve, the price line is drawn with a positive slope from the origin. This is because in the drawing of an offer curve we are interested only in knowing the quantity of one commodity which can be exchanged for a certain quantity of another commodity.

In other words, in the analysis of terms of trade what we are really interested is the absolute slope of the curve, i.e., the price ratio. In Fig. 45.2 the positively sloping price line OP1 from the origin, which in absolute terms, has the same slope as P1P1 of Fig. 45.1 has been drawn. In Fig.

45.2 at price ratio line O1P1 no trade occurs.

When price of cloth rises and price ratio line shifts to OP2 as will be from Fig. 45.2, country A offers ON1 of cloth (exports) for RN1 of wheat (imports). (Note that at a given price ratio how much quantity of a commodity, a country will offer for imports from the other country is determined by production possibility curve and community‘s indifference curves as illustrated in Fig. 45.1). Suppose the price of cloth further rises relatively to that of wheat causing the price line to shift to the position OP3. It will be seen that with the price line OP3, country A is willing to offer for export ON2 quantity of cloth for SN2 of wheat.

Likewise, Fig. 45.2 portrays the exports and imports of the country A as price of cloth in terms of wheat increases further and consequently price line shifts further above to OP4 and OP and the new offers of export of cloth for import of wheat are determined by equilibrium points T and U. If points such as R, S, T and U representing the country A‘s offers of cloth for wheat are joined we get its offer curve. It is important to note that the offer curve may be regarded as the supply curve in the international trade as it shows amounts of cloth which the country A is willing to offer for certain amounts of imports of wheat at various price ratios.

Another important point to be noted is that the offer curve cannot go below the price line OP, which represents the domestic exchange ratio determined by the tangency point Q of production possibility curve and community indifference curve of country A as shown in Fig. 45.1. This is because, as stated above, no country will be willing to export its product for the quantity of the imported product which is smaller than that it can produce at home.

Likewise, we can derive the offer curve of country B. Figure 45.3 portrays the derivation of the offer curve of country B. representing quantities of wheat which it is willing to exchange for certain quantities of cloth from country A at various prices.

Note that so long as country B is importing a smaller quantity of cloth, it will be willing to offer relatively more wheat for cloth. But as the quantity of imported cloth is increased, it would be prepared to offer relatively less wheat for the given quantity of imports of cloth.

In Fig. 45.3 whose Y-axis represents wheat, the origin for indifference curves of country B will be the North-West Comer Price lines. OP7, OP6, OP5, OP4 etc., express successively higher price ratios of wheat for cloth. Price line OP1 represents the domestic price ratio in country B in the absence of trade. The points C, D, E, F, G which has been obtained from the equilibrium or tangency points between the community indifference curves of country B and the various price- ratio lines show the equilibrium offers of wheat by country B for cloth of country A at various prices. By joining together points, C. D, E, F and G we obtain the offer curve of country B indicating its demand for cloth of country A in terms of its own product wheat. It would be observed from Fig. 45.2 and 45.3 that offer curves OA and OB of the two countries have been drawn with the same origin O (i.e., South-West Corner) as the basis. These offer curves represent reciprocal demand of the two countries for each other‘s product in terms of their own product. The offer curves OA and OB of the two countries have been brought together in

Fig. 45.4. The intersection of the offer curves of the two countries determines the equilibrium terms of trade. It will be seen from Fig. 45.4 that the offer curves of two countries cross at point T. By joining point T with the origin we get the price-ratio line OT whose slope represents the equilibrium terms of trade which will be finally settled between the two countries. At any other price-ratio line the offer of a product by country A in exchange for the product of the other would not be equal to the reciprocal offer and demand of the other country B. For instance, at price-ratio line OP1, country B would offer OM wheat for MH or ON of cloth from country A (H lies on B‘s offer curve corresponding to price-ratio line OP5). But at this price-ratio line OP country A would demand much greater quantity of wheat UW for OU of cloth as determined by point W at which the offer curve of country A intersects the price ratio line OP. This will result in rise in price of wheat and the price-ratio line will shift to the right until it reaches the equilibrium position OT or OP4. On the other hand, if price ratio line lies to the right of Or (for instance, if it is OP,), then, as will be observed from Fig. 45.4, it cuts the offer curve of country A at point L implying thereby that the country A would offer OR of cloth in exchange for RL of wheat. However, with terms of trade implied by the price ratio line OP4, the country B would demand OZ of cloth for ZS quantity of wheat as determined by point S.

It therefore follows that only at the terms of trade implied by the price ratio line OT (i.e., OP4) that the offer of a product by one country will be equal to its demand by the other. We therefore conclude that the intersection of the offer curves of the two countries determines the equilibrium terms of trade. As explained above, the offer curves of the two countries are determined by their reciprocal demand. Any change in the strength and elasticity of reciprocal demand would cause a change in the offer curves and hence in the equilibrium terms of trade.

It is worthwhile to note that terms of trade must settle within the price lines OP1 and

OP7 representing the domestic rates of exchange between the two commodities in the two countries respectively as determined on the basis of production cost and s demand conditions existing in them.

When the terms of trade are settled within these limits set by these price lines OP1 and OP7, both countries would gain from trade, though one may gain relatively more than the other depending on the position of terms of trade line. As explained above, the terms of trade cannot settle beyond these domestic prices ratio lines because in case of terms of trade line lying beyond these price lines, it will be advantageous for a country to produce both the goods (wheat and cloth) domestically rather than entering into foreign trade.

Effect of Tariff on Terms of Trade: The various countries of the world have imposed tariffs (i.e., import duties) to protect their domestic industries. It has been said in favour of tariffs that through them a country can provide not only protection to its industries but under appropriate circumstances it can also improve its terms of trade, that is, tariffs under favourable circumstances enable a country to get its imports cheaper.

These favourable circumstances are: (1) The demand for the exports of the tariff-imposing countries is both large and inelastic

(2) The demand for the imports by the country is quite elastic. Under these circumstances, as a result of the imposition of tariff by that country, the imports of the country will decline since the price of the imported commodity will rise. But this is not the end of the story. The decline in imports of the tariff-imposing country would reduce the export earnings of its trading partner as it will lead to the decrease in demand for it exported commodity. The decrease in demand for the exported commodity in the trading partner would result in lowering its domestic price.

As a result of the fall in the domestic price of the exported commodity and in order to maintain its export earnings the exporting country is likely to reduce the price of its exports. This means that the tariff- imposing country would now be able to get its imports at a relatively lower price than before.

Given the demand and price of its exports, the fall in its prices of imports of the tariff- imposing country would imply the improvement in its terms of trade. It is worth mentioning that the improvement in the terms of trade through tariff depends upon the changes in price and resultant changes in quantity demanded of imports and exports of the trading countries which in turn depends upon the elasticity‘s of their reciprocal demand.

The effect of tariff on the terms of trade can be explained through the geometrical device of offer curves. In Fig. 45.5 the offer curves OA and OB respectively of the two countries A and B are shown. These offer curves intersect at T implying thereby that terms of trade equal to the slope of OT are determined between them.

Now, suppose that country A imposes import duty on wheat from country B. As a result of this imposition of tariff, the offer curve of country A will shift to a new position OA ‗(dotted). This implies, for instance, that, before tariff, country was prepared to offer ON of cloth for NQ of wheat, but after imposition of tariff it requires NT‘ of wheat for ON of cloth and collects QT ‗ as import duty.

It will be noticed from Fig. 45.5 that the new offer curve OA ‗(dotted) of country A intersects the offer curve OB of country B at point T and thereby the terms of trade changes from OT to OT‘. Note that the slope of the terms of trade line OT‘ is greater than that of OT‘.

Thus terms of trade for country A have improved consequent upon the imposition of tariff by country A. For instance, whereas according to terms of trade line OT country A was exchanging ON of cloth for N L imports of wheat, it is now exchanging ON of cloth for NT‘ of wheat.

The following three things are worth nothing about the impact of tariffs on terms of trade: 1. The gain in terms of trade from imposing a tariff depends on the elasticity of the offer curve of the opposite trading country. If the offer curve of the opposite trading country is perfectly elastic, that is, when it has constant costs so that offer curve is the straight line OB from the origin with slope equal to that of OT as shown in Fig. 45.6, the imposition of tariff would reduce the volume of trade between them, the terms of trade remaining the same.

For example, if in the situation depicted in Fig. 45.6 country A imposes a tariff on imports of a wheat from the country B and as a result the offer curve of A shifts upward to the new position OA‘ (dotted), the terms of trade remain constant as measured by the slope of the terms of trade line OT. It will be seen from Fig. 45.6 that in this case only volume of trade has declined from ON to OM

2. The gain in terms of trade from imposing a tariff will finally accrue to a country only in the absence of retaliation from the trading country B. But when one country can play a game to improve its position, the other can retaliate and play the same game.

That is, on country A imposing a tariff on its imports from country B in a bid to improve its terms of trade, the latter can also impose a tariff on the imports from the former and thereby cancels out the original gain by country A. Such competition in imposing tariffs on each other‘s product would greatly reduce the volume of trade and leave the terms of trade between them unchanged.

As a result of the reduction in volume of trade, both countries would suffer a loss. ―The imposi- tion of tariffs to improve the terms of trade, followed by retaliation, ensures that both countries lose. The reciprocal removal of tariffs, on the other hand, will enable both countries to gain. That is why different countries enter into bilateral agreements to reduce tariffs on each other‘s products.‖ Further, there is now World Trade Organisation (WTO) which requires the member countries to reduce tariffs so that the volume of international trade expands.

The terms of trade among the trading countries are affected by several factors.

Factor 1. Reciprocal Demand: The reciprocal demand signifies the intensity of demand for the product of one country by the other. If the demand for cloth, exportable commodity of country A, is more intense (or inelastic) in country B, the latter will offer more units of steel, its exportable product, to import a given quantity of cloth. On the contrary, if the demand for cloth in country B is less intense (elastic), then B will offer smaller quantity of steel to import the given quantity of cloth. If the reciprocal demand for steel in country A increases, the offer curve of country A will shift to the right as it will be willing to offer more quantity of cloth for the given import of steel. On the contrary, a decrease in the reciprocal demand for steel in country A, will cause a shift in its offer curve to the left as it will offer a lesser quantity of cloth to import the same quantity of steel. In the former case, the terms of trade get worsened and in the latter case they get improved for country A. From the point of view of country B, if there is an increase in the reciprocal demand for cloth in country B, the offer curve of this country will shift to the left and the terms of trade for this country become favourable. On the opposite, a decrease in the reciprocal demand for cloth in country B results in a shift in the offer curve of this country to the right. The consequence is the worsening of the terms of trade for this country. In Figs. 12.1 (i) and 12.1 (ii), cloth, the exportable commodity of country A and importable commodity of country B, is measured along the horizontal scale. Steel, the exportable commodity of country B and importable commodity of country A, is measured along the vertical scale.

In Fig. 12.1 (i), given the offer curves OA and OB of countries A and B respectively, exchange takes place at P where country A imports PQ quantity of steel and exports OQ quantity of cloth.

If the reciprocal demand for steel in country A increases, the offer curve of A shifts to the right to OA1. The intersection of OA1 and OB takes place at P1, which is the point of exchange. At this point, country A imports P1Q1 quantity of steel and exports OQ1 quantity of cloth.

Since Tan α2 > Tan α, there is an improvement in the terms of trade for country A in this situation. In Fig. 12.1 (ii) originally OA and OB are the offer curves of countries A and B respectively. The exchange takes place at P where country A imports PQ quantity of steel and exports OQ quantity of cloth. If reciprocal demand for cloth in country B increases, the offer curve of country B shifts to the left to OB1.

The exchange, in this case, takes place at P1 and country A imports P1Q1 quantity of steel and exports OQ1 quantity of cloth. If the reciprocal demand for cloth in country B decreases, the offer curve of country B shifts to the right to OB2. In this case exchange takes place at P2 where country A imports P2Q2 quantity of steel and exports OQ2 quantity of cloth.

Since Tan a1 > Tan α, there is an improvement in the terms of trade for country A at P1 and worsening of the terms of trade for country B. Since Tan α2 < Tan α, there is worsening of the terms of trade for country A at P2 and improvement in the terms of trade for country B. Factor # 2. Tariff: When a country imposes tariffs on imports from the foreign country, it implies a lesser willingness to absorb the foreign products. It means the reciprocal demand in the tariff- imposing country for the foreign product has got reduced. The tariffs or import duties are, therefore, likely to improve the terms of trade for the tariff- imposing country. It may be explained through Fig. 12.2.

In Fig. 12.2, OA is the offer curve of country A and OB is the offer curve of country B. Their intersection determines the point of exchange P where country A imports PQ quantity of steel and exports OQ quantity of cloth. The TOT for country A at P = (QM/QX) = (PQ/OQ) = Slope of Line OP = Tan α. When tariff is imposed by country A on steel, the offer curve of country A shifts to the left to

OA1. The exchange now takes place at P1 where P1Q1 quantity of steel is imported in exchange of OQ1 quantity of cloth. The TOT for A at P1 = (QM/QX) = (P1Q1/OQ1) = Slope of Line OP1 =

Tan α 1. Since Tan α1 > Tan α, the terms of trade have become favorable for the tariff-imposing country A. In this connection, it should be remembered that tariff will improve the terms of trade for the tariff-imposing country, if the elasticity of offer curve of the other country is more than unity but less than infinity. If the foreign country B imposes retaliatory tariff of the equivalent or relatively larger magnitude, the effect of imposition of tariff by the first country A may get off-set or more than off-set. Factor # 3. Changes in Tastes: ADVERTISEMENTS: The terms of trade of a country may also be affected by the changes in tastes. If tastes or preferences of the people in country A shift from the product Y of country B to its own product X, the terms of trade will become favourable to country A. In an opposite situation, the terms of trade will turn against this country. It may be shown through Fig. 12.3.

In Fig. 12.3, the offer curves OA and OB of countries A and B respectively intersect each other at P. At this point of exchange, country A imports PQ quantity of Y and exports OQ quantity of X.

The TOT for country A at P = (QM/QX) = (PQ/OQ) = Slope of Line OP = Tan α. If people in country A do not have a stronger preference for the commodity Y and their preference or taste shifts towards their own product X, the offer curve of country A shifts to the left to OA1. Now exchange takes place at P1. Country A buys P1Q1 quantity of Y in exchange of OQ1 quantity of

X. The TOT for country A at P1 = (QM/QX) = (P1Q1/OQ1) = slope of Line OP1 = Tan α1. Since

Tan α1 > Tan α, there is an improvement in the terms of trade for country A. On the opposite, the shift in preference towards the foreign product Y will result in the worsening of terms of trade for the home country A. Factor # 4. Changes in Factor Endowments: If there is an increase in the supply of labour in country A, specialising in the production of labour-intensive commodity cloth, while factor endowments in country B remain unchanged, the fall in labour cost will lower the price of cloth. Consequently, more quantity of cloth will be offered by country A for the same quantity of steel resulting in the terms of trade becoming unfavourable to A. If labour becomes scarcer in this country, the terms of trade are likely to become favourable for it. This may be shown through Fig. 12.4.

In Fig. 12.4, given OA and OB as the offer curves of countries A and B respectively, exchange takes place originally at P. Country A exports OQ quantity of cloth and imports PQ quantity of steel.

The TOT for country A at P = (QM/QX) = (PQ/OQ) = Slope of Line OP = Tan α. If there is an increase in the supply of labour in this country, the price of labour will fall. There will also be a fall in the price of labour-intensive commodity cloth relative to the price of steel. For the same quantity of cloth, now less quantity of steel can be bought. ADVERTISEMENTS:

Therefore, the offers curve of country A shifts to the right to OA1. The exchange takes place at

P1 where P1Q1 quantity of steel is imported in exchange of OQ1 quantity of cloth. The TOT for country A at P1 = 9QM/QX) = (P1Q1/OQ1) = Slope of Line OP1 = Tan α1. Since Tan α1 < Tan α, terms of trade become unfavourable for country A subsequent to change in the factor endowments, i.e., increased supply of labour. Factor # 5. Changes in Technology: The terms of trade of a country get affected also by the changes in techniques of production. As there is technological improvement in the home country, say A, there is rise in productivity and/or a fall in the cost of producing exportable commodity, say cloth. If the technological progress is labour-saving in this labour-intensive export sector (cloth industry) there will be worsening of the terms of trade as the offer curve of country A will shift to the right. This may be explained through Fig. 12.5.

In Fig. 12.5, OA and OB are the-offer curves of countries A and B respectively. The exchange takes place at P where PQ quantity of steel is imported in exchange of OQ quantity of cloth. ADVERTISEMENTS:

The TOT for A at P = (QM/QX) = (PQ/OQ) = Slope of Line OP = Tan α. If labour-saving technical progress takes place in the labour-intensive export sector (cloth industry), the offer curve of country A shifts to the right to OA1 where P1O1 quantity of steel is imported in exchange of OQ1 quantity of cloth. The TOT for country A at P1 = (QM/QX) = (P1Q1/OQ1) =

Slope of Line OP1 = Tan α1. Since Tan α1 < Tan α, there is worsening of the terms of trade for this country after technological progress. In case this type of technical progress takes place in the import-competing sector in this county, there will be an improvement in the terms of trade. If capital-saving technical progress takes place in labour-intensive export sector, there can still be the possibility of improvement in the terms of trade. Factor # 6. Economic Growth: The economic growth involves a rise in real national product or income of a country over a long period. As growth takes place, there is an expansion in the productive capacity of the country. The increased productive capacity may result from the increased supply of productive factors. It is supposed that there are two countries A and B. The former is the labour-abundant home country and cloth is its exportable product, which is labour-intensive. Steel, the capital-intensive commodity, is its importable product from the foreign country B. The offer curves of two countries are given. As the supply of labour in the labour- abundant country A increases or growth takes place, the offer curve of this country will shift to the right. The cost and price of exportable commodity falls relative to the cost and price of steel in country B. As a result, this country will offer more quantity of cloth for the same quantity of steel. In this situation, the terms of trade will get worsened for the growing home country A, although the volume of trade will get enlarged. If the supply of scarce factor capital increases, subsequent to growth, the cost and price of importable good steel will fall relative to the price of cloth. More quantity of steel can be obtained for the same quantity of cloth. In this case, the offer curve of country A will shift to the left. This will cause the improvement in the terms of trade for the growing home country A but the volume of trade will get reduced. This may be explained through Fig. 12.6.

In Fig. 12.6, originally OA and OB are the offer curves of two counties. The exchange takes place at P. Country A exports OQ quantity of cloth and imports PQ quantity of steel. The TOT at

P = (QM/QX) = (PQ/OQ) = Slope of Line OP = Tan α. If growth takes place and supply of abundant factor labour increases, the offer curve of A shifts to the right to OA1 and exchange takes place at P1. P1Q1 quantity of steel is imported and OQ1 quantity of cloth is exported. The

TOT for A at P1 = (QM/QX) = (P1Q1/OQ1) = Slope of Line OP1 = Tan α1.

Since Tan α1 < Tan α, there is worsening of the terms of trade for the home country after growth. Since there is an expansion of both exports and imports, the volume of trade has however, increased. If growth involves the increased supply of scarce factor capital, the offer curve of country A will shift to the left to OA2. In this case, exchange takes place at P2. The quantity imported of steel is P2Q2 whereas the quantity exported of cloth is OQ2.

The TOT at P2 = (QM/QX) = (P2Q2/OQ2) = Slope of Line OP2 = Tan α2.

Since Tan α2 > Tan α, the terms of trade for the growing home country have improved. But in this case, the volume of trade of the country has decreased. The export and import of cloth and steel respectively have been less than quantities transacted before the process of growth. In the above two cases, it was assumed that the relative prices of the two commodities undergo change. Suppose the prices of cloth and steel remain unchanged even after growth, the terms of trade will remain unchanged. If growth involves increased supply of abundant factor labour and prices of two commodities remain the same, the exchange may occur at P4 where the slope of line OP is exactly equal to the slope of line OP4 (P and P4 lie on the same line). The terms of trade remain the same there, although the volume of trade is much larger than at P. If there is increased supply of scarce factor capital but the prices of commodities remain the same, the exchange occurs at P3. The terms of trade at P3 are exactly equal to the term of trade at P (both the points lie on the same line OP). So there is no change in the terms but the volume of trade is smaller than volume of trade at the original position P. It is now clear that growth process can lead to deterioration or worsening of the terms of trade or these may remain unchanged. Factor # 7. Devaluation: Devaluation is the reduction of the value of home currency in relation to the value of foreign currency. Since devaluation causes a lowering of export prices relative to import prices, the terms of trade are supposed to get worsened after devaluation of the home currency. In fact there is much controversy about the impact of devaluation upon the terms of trade among the economists. F.D. Graham and several other classical theorists held the view that the devaluation would leave the terms of trade unaffected because the countries transact at the international prices upon which they have little control. The neo-classical, theorists, including Joan Robinson, on the contrary, maintained that most countries specialised in the export of a few commodities, the foreign demand of which was relatively inelastic while, at the same time, they imported such goods, the supply of which was relatively more elastic. Consequently devaluation tends to deteriorate their terms of trade. This is particularly true in the case of the developing countries. If, however, the country enjoys a monopsony power, it will specialise in imports while exporting a variety of goods. It is likely to make imports at a lower price even after devaluation and the terms of trade, as a consequence, will get improved. The devaluation can be successful or effective if the export prices fall and import prices rise. It means the successful devaluation is likely to make the commodity terms of trade unfavourable. Even the gross barter terms of trade are likely to turn adverse in the event of successful devaluation that result in a balance of trade surplus. As a matter of fact, whether the terms of trade will become adverse or favourable, is determined by the elasticities of demand and supply of exports and imports of the devaluing country. If the elasticities of supply of exports and imports are higher than the elasticities of demand for exports and imports, so that the product of demand elasticity co-efficients is less than the product of supply elasticity co-efficients (DX.DM < SX.SM), there will be deterioration in the terms of trade after devaluation. Here DX and DM are elasticity coefficients of the demand for exports and imports respectively. SX and SM are the elasticity coefficients of supply of exports and imports respectively. If the product of elasticity co-efficients related to demand for exports and imports is exactly equal to the product of the elasticity co-efficients of supply of exports and imports respectively

(DX.DM = SX.SM), the devaluation will leave the terms of trade unchanged. If the product of elasticity co-efficients of demand for exports and imports is greater than the product of elasticity co-efficients of supply of exports and imports, (DX.DM > SX.SM), there will be an improvement in the terms of trade after devaluation. To sum up, the terms of trade will worsen, remain unchanged and improve, consequent upon devaluation, if:

Factor # 8. Balance of Payments Position: If a country is faced with a deficit in balance of trade and payments and it has to adopt measures intended to restrict import and enlarge exports such as internal deflation, devaluation, import and exchange controls, the terms of trade are likely to get worsened. On the opposite, a trade and payments surplus may be tackled through the exchange appreciation and reflationary policies. As a consequence, the terms of trade may get improved. Factor # 9. International Capital Flows: An increased flow of capital from abroad involves larger demand for the products of the creditor country and consequent rise in the prices of imported goods. The rise in prices of imports relatively to the prices of exports causes deterioration in the net barter terms of trade. When the borrowing country makes repayments of outstanding loans, there is outflow of capital. In order to get hold of required foreign currencies for making repayments, there may be sale of home-produced goods at rather low prices. The fall in export prices relative to import prices will again result in the deterioration in the net barter terms of trade. Factor # 10. Import Substitutes: If there is sufficient production of close substitutes for import goods within the home country, its reciprocal demand for the foreign products will be weak and the terms of trade are likely to become favourable for the home country. On the opposite, if the close substitutes of the import goods are not available in the home country, the reciprocal demand for foreign products may be relatively high. As a result, the terms of trade are likely to be unfavourable for the home country. There can be several other minor influences upon the terms of trade such as price movements, business cycles, transfer problems and political conditions. Free Trade Vs. Protectionism: Overview

One view says that we should make it as easy as possible for goods and services to move between countries. This approach is based on the argument that more trade makes us wealthier and is therefore a good thing. It is known as free trade. Another approach says that we should restrict trade. We might do this to protect certain jobs. We might think that we need certain industries – such as food production or steel-making – just in case things go wrong in the wider world. We might want to restrict imports from countries with lower labour or environmental standards so they can‘t undercut our industries. This approach is known as protectionism. Many economists agree that some restrictions on trade are desirable, but that we should be careful, as such restrictions can make us poorer overall. For example, limits on agricultural imports may be good for British farmers, but they also increase food prices.

The following sections set out some of the arguments in more detail.

Arguments for Free Trade

There are several key arguments in favour of free trade:

 Free trade increases the size of the economy as a whole. It allows goods and services to be produced more efficiently. That‘s because it encourages goods or services to be produced where natural resources, infrastructure, or skills and expertise are best suited to them. It increases productivity, which can lead to higher wages in the long term. There is widespread agreement that rising global trade in recent decades has increased economic growth.  Free trade is good for consumers. It reduces prices by eliminating tariffs and increasing competition. Greater competition is also likely to improve quality and choice. Some things, such as tropical fruit, would not be available in the UK without trade.  Reducing non-tariff barriers can remove red tape, thus reducing the cost of trading. If companies that trade in several countries have to work with only one set of regulations, their costs of ‗compliance‘ come down. In principle, this will make goods and services cheaper.  In contrast, protectionism can result in destructive trade wars that increase costs and uncertainty as each side attempts to protect its own economy. Protectionist rules can tend to favour big business and vested interests, as they have the resources to lobby most effectively. Arguments for Protectionism

While free trade increases the size of the economy as a whole, it isn‘t always good for everyone:  As more countries experience industrial development, traditional domestic industries can decline. In the UK, for example, the shipbuilding industry has declined in the face of international competition since the 1950s and currently steel production faces increasing competition. Protectionism can help preserve jobs in these sectors, or at least slow the process of change.  Protectionism can also help build up new industries. In sectors with high start-up costs, new firms might find it difficult to compete if there is not support from government in the form of tariffs or subsidies. Once they have become competitive, such barriers can be removed.  Protectionism can be used to safeguard ‗strategic‘ industries such as energy, water, steel, armaments and food. For example, ‗food security‘ may be seen as important so that we can feed ourselves if something terrible happens to disrupt the system of world trade.  Some people worry that free trade deals can lead to a lowering of standards. Such deals might require us to let in goods and services even though they don‘t meet our standards, which might then be cheaper than those made by domestic industries. For example, some people have been worried recently that a free trade deal with the US might let in imports of chlorine-washed chicken. There might also be pressure to reduce our standards for workers‘ rights or environmental protection so that our companies can compete with companies in countries that have lower standards. Free Trade: Advantages and Disadvantages | Advantages of Free Trade: The advocates of free trade put forward the following advantages of free trade: (a) International Specialization: Free trade causes international specialisation as it enables the different countries to produce those goods in which they have comparative advantage. International trade enables countries to obtain the advantages of specialisation. First, a great variety of products may be obtained.

If there were no international trade, many countries would have to go without some products. Thus, Iceland would have no coal, Nepal no oil, Spain no gold and Britain no tea. Second, specialisation leads to an increase in total production.

(b) Increase in World Production and World Consumption: International trade permits an industry to take full advantages of the economies of scale (large- scale production). If certain goods were produced only for the home market, it would not be possible to achieve the full advantage of large-scale production. So, free trade increases the world production and the world consumption of internationally traded goods as every trading country produces only the selected goods at lower costs. (c) Safeguard against the Advent of Monopolies: Thirdly, if there were no international competition, the home market would be so narrow that it would be comparatively easy for the combinations of firms in many industries, e.g., motor cars, paper and electrical goods, to exercise some control over it. Free trade is often an efficient way of breaking up domestic monopolies.

(d) Links with Other Countries: International trade and commercial relations often lead to an interchange of knowledge, ideas and culture between nations. This often produces a better understanding among those countries and leads to amity and theory reduces the possibility of commercial rivalry and war.

(e) Higher Earnings of the Factors of Production: ADVERTISEMENTS:

Furthermore, free trade increases the earnings of all the factors as they are engaged in the production of those goods in which the country has comparative advantage. It would increase the productivity of each factor.

(f) Benefits to Consumers: On account of free trade the consumers of the different countries get the best quality foreign goods, often of a wider range of choice, at low prices.

(g) Higher Efficiency and Optimum Utilisation of Resources: Free trade stimulates home producers, who face to foreign competition, to put forth their best effort and thus increase managerial efficiency. Again, as under free trade each country produces those goods in which it has the best advantages, the resources (both human and material) of each country are utilised in the best possible manner.

(h) Evil Effects of Protection: Free trade is also advocated because it can remove the evil effects of protection, such as high prices, growth of monopolies, etc. It is also immune from such abuses as ‗corruption and bribery‘ and the creation of vested interests which often arise under a protectionist system.

Disadvantages of Free Trade: But, free trade is opposed on several grounds. (a) Excessive Dependence: ADVERTISEMENTS:

As a country depends too much on foreign countries, an outbreak of war may upset its economy. During the 1991 Gulf War America refused to sell its products to its enemies (i.e., Gulf countries).

(b) Obstacles to the Development of Home Industries: If foreign goods are imported freely, the domestic industries of the developing countries would not be able to develop rapidly due to the superior strength of foreign industries.

(c) Empire-Builder: Under free trade, the foreign traders particularly the dominant ones may try to become empire- builders in future. In the past free trade gave rise to colonialism and imperialism.

(d) Import of Expensive Harmful Goods: A country may also import expensive and harmful foreign goods.

(e) Rivalry and Friction: Finally, free trade sometimes creates rivalry and frictions among the trading nations. In other words, commercial rivalries resulting from trade often lead to war. This is an important point.

Conclusion: At present times, no country in the world follows the policy of free trade. Every country imposes some restrictions on the import and the export of goods in the broader interest of the country. Finally, as T. Scitovsky has pointed out, free trade can be shown to be beneficial to the world as a whole but has never been proved to be the best policy for a single country.

Protectionism: Advantages and Disadvantages

Trade protectionism is implemented by countries when they believe their industries are being affected negatively by unjust competition. It may be seen as a defensive measure and it is almost always driven by political forces. It may turn successful, especially in the short run. In the long run, however it usually does the opposite of its intentions as it can make the country, and the industries it is trying to look after, not so competitive on the global marketplace. While economic theory suggests, and economic history demonstrates, protectionism‘s counter productivity on a global scale, we still believe that economists have a responsibility to defy increasing protectionist pressures by more than just recitationfree trade benefits. The typical protectionist argues that the traditional case for free trade is based on an oversimplified model which is no longer applicable to the real world. These charges are usually based on misconstructions or misinterpretations of the role of assumptions in economic theory. The fundamental illustrations of international trade theory are not necessary conditions for the theory‘s conclusions to have real world relevance.

Protectionism is the government‘s actions and policies that restrict or restrain international trade, often done with the purpose of protecting local businesses and jobs from foreign competition. Classic methods of protectionism are import tariffs, subsidies, quotas and direct state intervention. The fact that trade protection hurts the economy of the country that enforces it is one of the oldest but still most astonishing understandings economics has to offer. The idea dates back to the beginning of economic science itself, which gave birth to economics, contains the argument for free trade by specializing in production instead of producing everything, nations would profit from free trade. In international economics, it is the direct opposite to the proposition that people within a national economy will all be better off if they specialize at what they do best instead of trying to be self-sufficient.

Disadvantages of protectionism Trade protectionism has more than a few disadvantages, the most noteworthy of which are the pressures it places on the very core principles of free trade. Further disadvantages are the protections it offers to firms that contest on a stage of price over quality, the incorrect sense of security that it builds and the denial of easy access to certain products for consumers. At the core of protectionism are tariffs, duties, quotas and any other measures designed to restrict the import of foreign goods in interest of protecting domestic companies from foreign take overs. More disadvantages are as follows:

1) Consumers pay more with protectionism. Without a system of competitive pricing, domestic companies are free to raise their prices without raising the quality of their goods. When a business has no competition then the consumer is left without options.

2) Businesses suffer from protectionism too. Government support often builds corporate contentment, which could lead to a business to believe that it has a pleasant safety net set up behind it in the event of strong foreign competition as these businesses might not have the resources necessary to survive on their own.

3) Trade protectionism limits consumer access to foreign goods and non-domestic companies that offer unique products and services are also subject to the restrictions.

4) Foreign businesses and domestic consumers face the greatest disadvantages of trade protectionism. Businesses face imbalanced restrictions while their domestic competitors are offered financial advantages, and the consumer ends up paying higher prices for a limited variety of products that are not always worth their costs.

Meaning of Import Quotas: The import quota means physical limitation of the quantities of different products to be imported from foreign countries within a specified period of time, usually one year. The import quota may be fixed either in terms of quantity or the value of the product. For instance, the government may specify that 60,000 colour T.V. sets may be imported from Japan. Alternatively, it may specify that T.V. sets of the value of Rs. 50 crores can be imported from that country during a given year. For the purpose of restricting imports, it may adopt one of the alternative ways such as: (i) Issue of import licence to the highest bidder in the open market; (ii) Issue of import licence by calling for the tenders form prospective importers, the highest tenderer getting the licence; (iii) Issue of import licence on first-come first-serve basis; iv) Issue of import licences of specific categories of importers such as established importers, star trading houses, actual users etc.; (v) Issue of import licences to some government agency such as the State Trading Corporation. Objectives of Import Quotas: The system of prescribing import quota is resorted to by the government of a country for realising some of the following objectives: (i) To afford protection to domestic industries through restricting foreign competition by limiting the imports from abroad. (ii) To make adjustment in the adverse balance of payments. The restriction of imports through quotas can reduce the balance of payments deficit faced by the country. (iii) To conserve the scarce foreign exchange resources of the country and to direct their use for high-priority import items. (iv) To ensure the stabilisation of the internal price level by properly regulating the imports of goods from abroad. (v) To discourage conspicuous consumption by the wealthy sections through placing quota restrictions on the import of luxury goods. (vi) To improve the international bargaining position of the country through allocating larger import quotas for the products of such countries as allow a liberal inflow of the products of the home country. (vii) To retaliate against the restrictive trade policies adopted by some of the foreign countries. (viii) To check the speculative imports in anticipation of changes in exchange rates, tariff rates and internal money and credit policies, the government may take resort to import quota. Types of Import Quotas: The main types of import quotas are as below: (i) Tariff or Custom Quota: ADVERTISEMENTS: In the case of tariff or custom quota, a certain specified quantity of a commodity is allowed to be imported by the government of the importing country either duty free or at a low rate of import duty. The imports in excess of this specified quantity are subject to a relatively higher rate of tariff. A tariff quota is either an autonomous quota or agreed quota. The autonomous tariff quota is fixed by decree or law. On the opposite, the agreed tariff quota is one, which is the result of some agreement between the quota-imposing country and one or more foreign countries. This variant of import quota has some merits. Firstly, this system has the advantage of flexibility and it synthesises the tariff and import quota. Secondly, as the imports above-a specific limit are subject to a higher rate of tariff, this system, on the one hand, restricts imports and conserves scarce foreign exchange resources and, on the other hand, yields revenues to the government. Thirdly, this system does not completely prohibit imports. Some quantity of the importable goods is allowed to enter the home market either without duty or at very low rate of duty. Fourthly, the prices of domestic products under this system remain related to the prices of the foreign products. The home prices of a given product are not supposed to exceed the foreign prices by more than the amount of custom duty leviable upon it. Although this system has some merits, yet its drawbacks cannot be overlooked. The main drawbacks of this system are- Firstly, since the imports upto a specified limit are allowed duty free or at low rates of tariffs, the entire gain from low rates is enjoyed by the exporting country. ADVERTISEMENTS:

Secondly, the rush of imports at low rates of tariff is likely to have disturbing effect upon the domestic price structure. Thirdly, this system discriminates against the relatively poor consuming sections, as they cannot import goods at higher tariff rates. On the contrary, the wealthy consuming sections can continue to secure the supply of foreign products even at higher tariff rates. (ii) Unilateral Quota: Under the system of unilateral quota, a country places an absolute limit upon the quantity of a commodity to be imported during a specified period. This limit is fixed without any prior negotiation or agreement with the foreign countries. The unilateral quota can be broadly of two types – (a) global quota and (b) allocated quota. In the case of global quota, the entire quantity to be imported may be obtained from any one or more countries during the specified period. Under the allocated quota system, the total quantity of import quota is allocated or distributed among the different exporting countries on the basis of certain criteria. ADVERTISEMENTS: The global quota system allows the importing country to import even entire quota from anyone country. This greatly improves the bargaining position of the importing country. The exporting countries compete among themselves to capture the market of the importing country. They offer their products at lower prices and assure more favourable terms of trade compared with the rival countries. However, the global quota system suffers from certain defects. Firstly, the global quota system generally favours the nearby exporting countries than the distant countries. Secondly, as the quota is announced by the government, the importers rush to make imports. This results in the flooding of home market and unnecessary stock-piling of goods. Such a situation may cause rapid fall in prices. Thirdly, in the subsequent stages when the quota does not permit further imports, shortages and consequent rise in-prices occur. ADVERTISEMENTS:

Fourthly, in the global quota system, the small and less organised countries are at a disadvantage compared with the large and advanced industrialised countries. Fifthly, the global quota system does not provide sufficient protection to the home industries from foreign competition. In view of the above defects of global unilateral quota, the countries have developed preference for the allocated quota. But even the allocated quota system is not free from drawbacks. The main drawbacks in the allocated unilateral quota are- Firstly, this system results in avoidable rigidity in the sources of supply of imports. Secondly, this system may not prove to be cost and quality efficient. Some quota may be allocated, for political reasons, to such countries where the cost is relatively higher and the quality of the product is somewhat inferior. Thirdly, as the exporting countries are assured of their share in the import quota, there is possibility of foreign firms indulging in monopoly practices. Fourthly, the system is often criticised as discriminatory and creates a sense of grievance among some of the trading partners. (iii) Bilateral Quota: In case of the bilateral quota system, the import quota is fixed after negotiations between the importing and exporting countries. Haberler has called the bilateral quotas as agreed quotas. The system has the following merits: (a) As the quotas are fixed after negotiations among the countries, there is discrimination against one or the other country. (b) There is no possibility of excessive fluctuations in imports and prices. (c) The exporting countries are not likely to resort to monopolistic practices. (d) It is not arbitrary. Therefore, it may not provoke opposition and retaliation by the foreign countries. This system, at the same time, has the following drawbacks: (a) This system promotes the formation of international cartels. (b) It opens the floodgate of corruption on an extensive scale. (c) The exporting countries, after securing the desired quota, may raise the prices of their products to the detriment of importing countries. (d) This system greatly intensifies competition. (e) It is an open invitation to monopolies in the exporting countries. (iv) Mixing Quota: Under this system, which is also known as indirect quota, the domestic producers in the quota- fixing country are required to make use of domestic raw materials along with the imported raw material in a specified proportion. This system of import quota has the following merits: (a) It affords protection to the producers of raw materials. (b) It saves the valuable and scarce foreign exchange resources of the country. (c) It induces the domestic processing of semi-finished goods and manufacturing of finished goods. The system of mixing quota is, however, is subjected to some objections on the following grounds: (a) If the domestic materials, which are required to be used in a fixed proportion along with imported materials, are of poor quality, there is a danger of deterioration in the quality of production in the quota-enforcing country. (b) It causes deviation from the principle of comparative cost advantage and thus results in inefficiency and higher cost structure. (v) Licensing of Imports: The government of a country may prescribe any one of the systems of import quota. The most crucial aspect of any system of fixation of quota is its administration. For this purpose, the government may follow the mechanism of issuing licences to different categories of importers on the basis of specific terms, conditions and norms. The system of issuing licences for the regulation of imports has the following main merits: (a) The licensing authority can have an effective control over the volume of imports. (b) The system tends to discourage the speculation in foreign exchange. (c) It does not permit wide fluctuations in prices. (d) It assures continuous supply of scarce products from abroad and prevents domestic shortages in a more efficient manner. (e) This system has a great deal of flexibility and is easily adaptable to changing situations. (f) It ensures the economical use of foreign exchange resources of the country. The system of licensing of imports, at the same time, suffers from certain defects indicated below: (a) This system generally favours the established, and prevents the entry of new importers. Thus the system of licensing of imports tends to encourage the growth of monopolies in the import trade. (b) This system promotes bureaucratic corruption, favouritism and nepotism. (c) Another defect of the system is that it tends to create ‗premium market‘ for licences. Some of the unscrupulous importers transfer their licenses to the others and pocket substantial amounts of premia. This practice increases greatly the prices of imported goods and can intensify the inflationary condition within the quota enforcing country. (d) The licensing tends to make the system more rigid. (e) It causes concentration of economic power in the hands of small and privileged groups of established importers. The Optimum Tariff In the absence of retaliation, a country should be able to levy a tariff on imports which yields some optimal terms of trade and hence an optimal level of community welfare.

Beginning at the free trade position (or any tariff- distorted trade position) as a country raises its tariff unilaterally, the terms of trade improve and the volume of trade declines.

The improvement in the terms of trade initially, tends to more than offset the accompanying reduction in the volume of trade and hence a higher trade indifference curve is reached and community welfare is enhanced. Beyond some point, however, it is likely that the detrimental effect of successive reductions in trade volume will begin to outweigh the positive effect of further improvements in the terms of trade so that community welfare begins to fall. Somewhere in between there must be a tariff which will optimize a country‘s welfare level under these conditions.

The following figure 6 explains the existence of some optimum tariff level. (R) is free trade equilibrium. At that point the volume of trade is og of A-good and oc of the B-good, and the terms of trade are given by the slope of line TP. The home country (II) now wishes to impose a tariff that will maximize its community welfare, i.e. place it on the highest possible trade indifference curve assuming no retaliation on the part of the foreign, country. Under free trade conditions at (R) country (H) attains the trade indifference level (h1) which crosses the foreign offer curve (OF) at (R) and at some other point (T). Any tariff which distorts the home country‘s offer curve in such a way that it crosses the foreign country‘s offer curve between points (T) and (R) will lead to a higher trade indifference level. If the new tariff distorted point is at (T), of course, the trade indifference level will be unchanged.

The highest possible trade indifference curve that the home country can reach is one that is tangent to the foreign offer curve. This is trade indifference curve (h2) tangent to foreign offer curve OF at point (s). Hence, if the home country can impose a tariff of such magnitude that the tariff distorted offer curve (OHt) touches the foreign offer curve (OF) at point (s); this is the optimum tariff (sd). Given the foreign country‘s offer curve, the optimum tariff, in terms of A-good is quantity (Sa) or in terms of B-good, quantity (Sd). This is the optimum tariff. Given the foreign country‘s offer curve OF, there is no tariff the home country can impose that will yield a higher level of community welfare.

The magnitude of optimum tariff depends upon the elasticity of foreign offer curve. If the foreign offer curve is perfectly elastic, no tariff will yield the home country improved terms of trade. Hence it cannot possibly advance to a higher trade indifference level. The less elastic the foreign offer curve, the higher will be the optimum tariff. Where the foreign offer curve has elasticity of one and thus is horizontal, the optimum tariff will be infinity.

In actuality the probability is that the foreign country will retaliate against the home country‘s imposition of an optimum tariff since it is thereby placed on a lower trade indifference curve. Hence, the foreign country may itself levy an optimum tariff that crosses the home country‘s tariff distorted offer curve at point which yields the foreign nation a maximum trade indifference level. Then the home country may counter retaliate with another optimum tariff and the tariff war process takes its usual course.

Offer curves:

In economics and particularly in international trade, an offer curve shows the quantity of one type of product that an agent will export ("offer") for each quantity of another type of product that it imports. The offer curve was first derived by English economists Edgeworth and Marshall to help explain international trade. The offer curve is derived from the country's PPF. We describe a Country named K which enjoys both goods Y and X. It is slightly better at producing good X, but wants to consume both goods. It wants to consume at point C or higher (above the PPF). Country K starts in Autarky at point C. At point C, country K can produce (and consume) 3 Y for 5 X. As trade begins with another country, and country K begins to specialize in producing good X. When it produces at point B, it can trade with the other country and consume at point S. We now look at our Offer curve and draw a ray at the level 5 Y for 7 X. When full specialization occurs, K then produces at point A, trades and then consumes at point T. The price has reduced to 1 Y for 1 X, and the economy is now at equilibrium.

Module 3: Balance of payment

(a) Balance of Trade: It is the difference between the money value of exports and imports of material goods [called visible items or merchandise) during a year.

Examples of visible items are clothes, shoes, machines, etc. Clearly, the two transactions which determine BOT are exports and imports of goods. Exports and imports of services (invisible items like shipping, insurance, banking, payment of dividend and interest, expenditure by tourists, etc.) are not included.

The difference between values of exports and imports is called Balance of trade or Trade balance. Remember export means sending goods abroad to earn foreign exchange whereas imports means buying goods from abroad and pay in foreign exchange. Exports are considered as income and imports as expenditure. It includes only visible items and does not consider exchange of services.

Surplus or Deficit BOT: Balance of trade may be in surplus or in deficit or in equilibrium. If value of exports of visible items is more than the value of imports of visible items, balance of trade is said to the positive or favourable. Thus, BOT shows a surplus. In case the value of exports is less than the value of imports, the balance of trade is said to be negative or adverse or unfavourable.

Then BOT is called in deficit. In case value of exports equals its imports, BOT is said to be balanced or in equilibrium. Rows (1) and (5) of the table given in Section 10.1 show balance of trade for the country as a hypothetical example .This country exported goods worth Rs 550 crore and imported goods worth Rs 800 crore. It had a deficit in its balance of trade of Rs 250 crore.

Balance of Trade = Rows (1) and (5) of table = 550-800 = Rs -250

Even though the country had a deficit in its balance of trade, this might be offset by items on other accounts especially by capital account. Balance of trade (merchandise) provides substantial account of payments emerging from international transactions but it does not reflect a complete picture of all the payments due to the country and the payments due from the country. For that we require Balance of Pa5Tnent Account. Mind, balance of visible items in BOP account is called BOT.

(b) Balance of Payment: It is the difference between a nation‘s total payments to foreign countries and its total receipts from them. In other words, it is a systematic record of a country‘s receipts and payments in international economic transactions in a specific period of time.

ADVERTISEMENTS: Since BOP takes into account exchange of both visible and invisible items, therefore, it represents a wider and better picture of a country‘s international transactions than balance of trade. Each transaction is entered on the credit and debit side of the balance sheet.

Main items (or components) on credit side: They are: (i) Exports of Goods (visible exports) (ii) Exports of Services [invisible exports) (iii) Unrequited Receipts [unilateral transfers) and (iv) Capital Receipts.

Similar items are shown on debit side. They are: (i) Imports of Goods, (ii) Imports of Services, (iii) Unrequited Payments and (iv) Capital Payments. All these items have been discussed in detail in the preceding Section 10.2. Clearly, the balance of payment is an application of double entry book-keeping with the result that debits and credits will always balance. In other words, balance of payment will always be in equilibrium.

(c) Comparison: Balance of payment is a wider concept as compared to balance of trade which is just one of the four components of the former. The other three components of balance of payment are export/import of services, unilateral receipts/payments and capital receipts/payments.

BOT does not include any of these three components. Therefore, BOP represents a better picture of a country‘s economic transactions with the rest of the world than the Balance of Trade. Both are compared below.

Consequences of disequlibrium and various measures to correct deficit in the balance of payments.

Method 1# Trade Policy Measures: Expanding Exports and Restraining Imports: Trade policy measures to improve the balance of payments refer to the measures adopted to promote exports and reduce imports.

Exports may be encouraged by reducing or abolishing export duties and lowering the interest rate on credit used for financing exports. Exports are also encouraged by granting subsidies to manufacturers and exporters. Besides, on export earnings lower income tax can be levied to provide incentives to the exporters to produce and export more goods and services. By imposing lower excise duties, prices of exports can be reduced to make them competitive in the world markets.

On the other hand, imports may be reduced by imposing or raising tariffs (i.e., import duties) on imports of goods. Imports may also be restricted through imposing import quotas, introducing li- censes for imports. Imports of some inessential items may be totally prohibited.

Before the economic reforms carried out since 1991. India had been following all the above policy measures to promote exports and restrict imports so as to improve its balance of payments position. But they had not achieved full success in their aim to correct balance of payments disequilibrium.

Therefore, India had to face great difficulties with regard to balance of payments. At several occasions it approached IMF to bail it out of the foreign exchange crisis that emerged as a result of huge deficits in the balance of payments. At long last, economic crisis caused by persistent deficits in balance of payments forced India to introduce structural reforms to achieve a long- lasting solution of balance of payments problem.

Method 2# Expenditure-Reducing Policies:

The important way to reduce imports and thereby reduce deficit in balance of payments is to adopt monetary and fiscal policies that aim at reducing aggregate expenditure in the economy. The fall in aggregate expenditure or aggregate demand in the economy works to reduce imports and help in solving the balance of payments problem.

The two important tools of reducing aggregate expenditure are the use of: (1) Tight monetary policy and

(2) Concretionary fiscal policy.

Tight Monetary Policy: Tight monetary is often used to check aggregate expenditure or demand by raising the cost of bank credit and restricting the availability of credit. For this bank rate is raised by the Central Bank of the country which leads to higher lending rates charged by the commercial banks. This discourages businessmen to borrow for investment and consumers to borrow for buying durable consumers goods.

This therefore leads to the reduction in investment and consumption expenditure. Besides, availability of credit to lend for investment and consumption purposes is reduced by raising the cash reserve ratio (CRR) of the banks and also undertaking of open market operations (selling Government securities in the open market) by the Central Bank of the country.

This also tends to lower aggregate expenditure or demand which will helps in reducing imports. But there are limitations of the successful use of monetary policy to check imports, especially in a developing country like India. This is because tight monetary policy adversely affects investment increase in which is necessary for accelerating economic growth.

If a developing country is experiencing inflation, tight monetary policy is quite effective in curbing inflation by reducing aggregate demand. This will help in reducing aggregate expenditure and, depending on the income propensity to import, will curtail imports. Besides, tight monetary policy helps to reduce prices or lower the rate of inflation. Lower price level or lower inflation rate will curb the tendency to import, both on the part of businessmen and consumers.

But when a developing country like India is experiencing recession or slowdown in-economic growth along with deficits in balance of payments, use of tight monetary policy that reduces aggregate expenditure or demand will not help much as it will adversely affect economic growth and deepen economic recession. Therefore, in a developing country, monetary policy has to be used along with other policies such as a appropriate fiscal policy and trade policy to tackle the problem of disequilibrium in the balance of payments.

Contractionary Fiscal Policy: Appropriate fiscal policy is also an important means of reducing aggregate expenditure. An increase in direct taxes such as income tax will reduce aggregate expenditure. A part of reduction in expenditure may lead to decrease in imports. Increase in indirect taxes such as excise duties and sales tax will also cause reduction in expenditure

The other fiscal policy measure is to reduce Government expenditure, especially unproductive or non-developmental expenditure. The cut in Government expenditure will not only reduce expenditure directly but also indirectly through the operation of multiplier. It may be noted that if tight monetary and contractionary fiscal policies succeed in lowing aggregate expenditure which causes reduction in prices or lowering the rate of inflation, they will work in two ways to improve the balance of payments. First, fall in domestic prices or lower rate of inflation will induce people to buy domestic products rather than imported goods. Second, lower domestic prices or lower rate of inflation will stimulate exports. Fall in imports and rise in exports will help in reducing deficit in balance of payments.

However, it may be emphasised again that the method of reducing expenditure through contractionary monetary and fiscal policies is not without limitations. If reduction in aggregate demand lowers investment, this will adversely affect economic growth. Thus, correction in balance of payments may be achieved at the expense of economic growth.

Further, it is not easy to reduce substantially government expenditure and impose heavy taxes as they are likely to affect incentives to work and invest and invite public protest and opposition. We thus see that correcting the balance of payments through contractionary fiscal policy is not an easy matter.

Method 3# Expenditure – Switching Policies: Devaluation: ADVERTISEMENTS:

A significant method which is quite often used to correct fundamental disequilibrium in balance of payments is the use of expenditure-switching policies. Expenditure switching policies work through changes in relative prices. Prices of imports are increased by making domestically produced goods relatively cheaper. Expenditure switching policies may lower the prices of exports which will encourage exports of a country. In this way by changing relative prices, expenditure-switching policies help in correcting disequilibrium in balance of payments.

The important form of expenditure switching policy is the reduction in foreign exchange rate of the national currency, namely, devaluation. By devaluation we mean reducing the value or exchange rate of a national currency with respect to other foreign currencies. It should be remembered that devaluation is made when a country is under fixed exchange rate system and occasionally decides to lower the exchange rate of its currency to improve its balance of payments.

Under the Bretton Woods System adopted in 1946, fixed exchange rate system was adopted, but to correct fundamental disequilibrium in the balance of payments, the countries were allowed to make devaluation of their currencies with the permission of IMF. Now, Bretton Woods System has been abandoned and most of the countries of the world have floated their currencies and have thus adopted the system of flexible exchange rates as determined by market forces of demand for and supply of them.

However, even in the present flexible exchange rate system, the value of a currency or its exchange rate as determined by demand for and supply of it can fall. Fall in the value of a currency with respect to foreign currencies as determined by demand and supply conditions is described as depreciation.

ADVERTISEMENTS:

If a country permits its currency to depreciate without taking effective steps to check it, it will have the same effects as devaluation. Thus, in our analysis we will discuss the effects of fall in value of a currency whether it is brought about through devaluation or depreciation. In July 1991, when India was under Bretton-Woods fixed exchange rate system, it devalued its rupee to the extent of about 20%. (From Rs. 20 per dollar to Rs. 25 per dollar) to correct disequilibrium in the balance of payments.

Now, the question is how devaluation of a currency works to improve balance of payments. As a result of reduction in the exchange rate of a currency with respect to foreign currencies, the prices of goods to be exported fall, whereas prices of imports go up. This encourages exports and discourages imports. With exports so stimulated and imports discouraged, the deficit in the balance of payments will tend to be reduced.

Thus policy of devaluation is also referred to as expenditure switching policy since as a result of reduction of imports, people of a country switches their expenditure on imports to the domestically produced goods. It may be noted that as a result of the lowering of prices of exports, export earnings will increase if the demand for a country‘s exports is price elastic (i.e., er > 1). And also with the rise in prices of imports the value of imports will fall if a country‘s demand for imports is elastic. If demand of a country for imports is inelastic, its expenditure on imports will rise instead of falling due to higher prices of imports. Devaluation: Marshall Lerner Condition. It is clear from above that whether devaluation or depreciation will lead to the rise in export earnings and reduction in import expenditure depends on the price elasticity of foreign demand for exports and domestic demand for imports.

ADVERTISEMENTS: Marshall and Lerner have developed a condition which states that devaluation will succeed in improving the balance of payments if sum of price elasticity of exports and price elasticity of imports is greater than one. Thus, according to Marshall-Lerner Condition, devaluation improves balance of payments if

ex + em > 1 where

ex stands for price elasticity of exports em stands for price elasticity of imports

If in case of a country ex + em < 1, the devaluation will adversely affect balance of payments position instead of improving it. If ex + em = 1, devaluation will leave the disequilibrium in the balance of payments unchanged. Income-Absorption Approach to Devaluation: Further, for devaluation to be successful in correcting disequilibrium in the balance of payments a country should have sufficient exportable surplus. If a country does not have adequate amount of goods and services to be exported, fall in their prices due to devaluation or depreciation will be of no avail.

This can be explained through income-absorption approach put forward by Sidney S Alexander. According to this approach, trade balance is the difference between the total output of goods and services produced in a country and its absorption by it.

By absorption of output of goods and services we mean how much of them is used up for consumption and investment in that country. That is, absorption means the sum of consumption and investment expenditure on domestically produced goods and services.

Expressing algebraically we have; B = Y – A

Where: B = trade balance or exportable surplus

Y = national income or value of output of goods and services produced

A = Absorption or sum of consumption and investment expenditure It follows from above that if expenditure or absorption is less than national product, it will have positive trade balance or exportable surplus. To create this exportable surplus, expenditure on domestically produced consumer and investment goods should be reduced or national product must be raised sufficiently.

To sum up, it follows from above that for devaluation or depreciation to be successful in correcting disequilibrium in the balance of payments, the sum of price elasticities of demand for a country s exports and imports should be high (that is, greater than one) and secondly it should have sufficient exportable surplus. The devaluation will also not be successful in the achievement of its aim if other countries retaliate and make similar devaluation in their currencies and thus competitive devaluation of the exchange rate may start.

After Independence India devalued its currency three times, first in 1949, the second in June 1966 and third in July 1991 to correct the disequilibrium in the balance of payments. The devaluation of June 1966 was not successful for some time to reduce deficit in the balance of payments.

This is because the demand for bulk of our traditional exports was not very elastic and also we could not reduce our imports despite their higher prices. However devaluation of July 1991 proved quite successful as after it our exports grew at a rapid rate for some years and growth of imports remained within safe limits.

Method 4# Exchange Control: Finally, there is the method of exchange control. We know that deflation is dangerous; devalu- ation has a temporary effect and may provoke others also to devalue. Devaluation also hits the prestige of a country. These methods are, therefore, avoided and instead foreign exchange is controlled by the government.

Under it, all the exporters are ordered to surrender their foreign exchange to the central bank of a country and it is then rationed out among the licensed importers. None else is allowed to import goods without a licence. The balance of payments is thus rectified by keeping the imports within limits.

After the Second War World a new international institution‘ International Monetary Fund (IMF)‘ was set up for maintaining equilibrium in the balance of payments of member countries for a short term. Member countries borrow from it for a short period to maintain equilibrium in the balance of payments. IMF also advises member countries how to correct fundamental disequilibrium in the balance of Payments when it does arise. It may, however, be mentioned here that no country now needs to be forced into deflation (and so depression) to root out the causes underlying disequilibrium as had to be done under the gold standard. On the contrary, the IMF provides a mechanism by which changes in the rates of foreign exchange can be made in an orderly fashion.

Conclusion: In short, correction of disequilibrium calls for a judicious combination of the following methods: (i) Monetary and fiscal changes affecting income and prices in the country;

(ii) Exchange rate adjustment, i.e., devaluation or appreciation of the home currency;

(iii) Trade restrictions, i.e., tariffs, quotas, etc.;

(iv) Capital movement, i. e., borrowing or lending aboard; and

(v) Exchange control.

No reliance can be placed on any single tool. There is room for more than one approach and for more than one device. But the application of the tools depends on the nature of the disequilibrium.

There are, we have said, three types of disequilibrium: (1) Cyclical disequilibrium,

(2) secular disequilibrium,

(3) Structural disequilibrium (at the goods and the factor level).

It is more appropriate that fiscal measures should be used to correct cyclical disequilibrium in the balance of payments. To correct structural disequilibrium adjustment in exchange rate should be avoided. Capital movements are needed to offset deep-seated forces in secular disequilibrium.

The main methods of desirable adjustment are, therefore, monetary and fiscal policies which directly affect income, and exchange depreciation (that is, devaluation) which affects prices in the first instance. Devaluation or depreciation of exchange rate can also have income effect through price effects. Monetary and fiscal policies affect relative prices also. Devaluation:Merits and Demerits.

Devaluation is the decision to reduce the value of a currency in a fixed exchange rate. A devaluation means that the value of the currency falls. Domestic residents will find imports and foreign travel more expensive. However domestic exports will benefit from their exports becoming cheaper.

Advantages of devaluation

1. Exports become cheaper and more competitive to foreign buyers. Therefore, this provides a boost for domestic demand and could lead to job creation in the export sector. 2. A higher level of exports should lead to an improvement in the current account deficit. This is important if the country has a large current account deficit due to a lack of competitiveness. 3. Higher exports and aggregate demand (AD) can lead to higher rates of economic growth. 4. Devaluation is a less damaging way to restore competitiveness than ‗internal devaluation‗. Internal devaluation relies on deflationary policies to reduce prices by reducing aggregate demand. Devaluation can restore competitiveness without reducing aggregate demand. 5. With a decision to devalue the currency, the Central Bank can cut interest rates as it no longer needs to ‗prop up‘ the currency with high interest rates. Disadvantages of devaluation

1. Inflation. Devaluation is likely to cause inflation because:  Imports will be more expensive (any imported good or raw material will increase in price)  Aggregate Demand (AD) increases – causing demand-pull inflation.  Firms/exporters have less incentive to cut costs because they can rely on the devaluation to improve competitiveness. The concern is in the long-term devaluation may lead to lower productivity because of the decline in incentives. 2. Reduces the purchasing power of citizens abroad. e.g. it is more expensive to go on holiday abroad.

3. Reduced real wages. In a period of low wage growth, a devaluation which causes rising import prices will make many consumers feel worse off. This was an issue in the UK during the period 2007-2018.

4. A large and rapid devaluation may scare off international investors. It makes investors less willing to hold government debt because the devaluation is effectively reducing the real value of their holdings. In some cases, rapid devaluation can trigger capital flight. 5. If consumers have debts, e.g. mortgages in foreign currency – after a devaluation, they will see a sharp rise in the cost of their debt repayments. This occurred in Hungary when many had taken out a mortgage in foreign currency and after the devaluation it became very expensive to pay off Euro denominated mortgages.

Evaluation of impact of devaluation  It depends on the state of the business cycle – In a recession a devaluation can help boost growth without causing inflation. In a boom, a devaluation is more likely to cause inflation.  The elasticity of demand. A devaluation may take a while to improve current account because demand is inelastic in the short term. However, if demand is price elastic, then it will cause a relatively bigger increase in demand for exports. (See: J-Curve effect)  If the country has lost competitiveness in a fixed exchange rate, a devaluation could be beneficial in solving that decline in competitiveness.  Exports and imports increasingly invoiced in dominant currencies such as Euro and Dollar. This means that a fall in the value of Sterling has less impact on UK competitiveness because UK exports may be involved in Euros anyway. See paper on ―Dominant Currency Paradigm‖ August 7, 2017 (Casas, Gopinath)  Type of economy. A developing economy which relies on import of raw materials may experience serious costs from a devaluation which makes basic goods and food more expensive. Case studies of devaluation

UK leaving ERM in 1992

In 1992, the UK was in recession. Trying to keep the Pound in the ERM, the government increased interest rates to 15%. When the government left the ERM, the Pound devalued 20%, but more importantly, it allowed interest rates to be cut, and the economy recovered. This is widely considered to be a beneficial devaluation. An important note is that the Pound was overvalued in early 1992.

See: also: UK in the ERM 1992 2. UK – 25% fall in value of Sterling in 2008/09 The pound fell considerably after the financial crisis of 2008/09, the depreciation in the Pound made UK goods more competitive. It also caused some cost-push inflation. The benefits of this depreciation were muted because of weak export demand in the global recession. The depreciation in the Pound also caused imported inflation, which during a time of low wage growth, reduced household living standards.

Between 2007 and 2018, UK prices rose 30%, compared to 17% in the Eurozone.

With low wage growth, imported inflation has led to periods of falling real wages.

3. Russian economic crisis – 2014

The Rouble plunged during the economic crisis. This was due to the fall in the price of oil and balance of payments problems. The scale of this devaluation was not helpful – causing a rise in inflation and a decline in living standards. The problem was not so much the devaluation as the fact the economy was reliant on oil exports – so when oil prices fell there was a significant fall in demand for the Rouble.

See: Fall in value of the Rouble – an example of the impact of the devaluation in the value of the Rouble on the Russian economy. Winner and losers from devaluation

One way to think about the advantages and disadvantages of a devaluation is to think who gains and who loses.

Long-term effects vs short-term effects

A long-term devaluation tends to reflect an underperforming economy.

In the post-war period, the UK has experienced a decline in the value of the Pounds against its main competitors

 1948, £1 = $4 and 13.4DM  2018, £1= $1.3 and 2.2DM Module 4: India‘s Foreign Trade

Recent changes in the composition and direction of foreign trade.

1) Increasing Share of Gross National Income: 2) In 1990-91, share of India‘s foreign trade (import export) in net national income was 17 per cent which in 2006-07 rose to 25 per cent. In 2006-07 exports and imports as percentage of GDP were 14.0 per cent and 21 per cent respectively.

3) 2) Less Percentage of World Trade: 4) Share of India‘s foreign trade in world trade has been declining. In 1950-51, India‘s share in total import trade of the world was 1.8 per cent and in export trade it was 2 per cent. According to World Trade Statistics, India‘s share in world trade has gone-up from 1.4 per cent in 2004 to 1.5 per cent in 2006 and estimated to be 2 per cent in 2009.

5) 3) Oceanic Trade: 6) Most of India‘s trade is by sea, India has very little trade relations with its neighing countries like Nepal, Afghanistan, Myanmar, Sri Lanka, etc. Thus, 68 per cent of India‘s trade is oceanic trade: Share of these neighing countries in our export trade was 21.8 per cent and in import trade 19.1 per cent.

7) 4) Dependence on a Few Ports: For its foreign trade, India depends mostly on Mumbai, Kolkata, and Chennai ports. These ports are therefore, over-crowded. Recently, India has developed Kandla, Cochin, and Visakhapatnam ports to lessen the burden on former ports.

8) 5) Increase in Volume and Value of Trade: 9) Since 1990-91, volume and value of India‘s foreign trade has gone up. India now exports and imports goods which are several times more in value and volume. In 1990-91, total value of India‘s foreign trade was Rs 75,751 and in 2008-09, it rose to Rs 22, 15,191 crore. Of it, value of exports was Rs 8, 40,755 crore and that of imports was Rs 13, 74,436 crore.

10) 6) Change in the Composition of Exports: 11) Since independence, composition of export trade of India has undergone a change. Prior to independence, India used to export agricultural products and raw materials, like jute, cotton, tea, oil seeds, leather, food grains, cashew nuts, and mineral products. It also exported manufactured goods. But now in its export kitty are included mostly manufactured items like, machines, ready-made garments, gems and jewellery, tea, jute manufactures, Cashew Kernels, electronic goods, especially hardware‘s and software‘s which occupy prime place in exports.

12) 7) Change in the Composition of Imports: 13) Since Independence, composition of India‘s import trade has also witnessed a sea change. Prior to Independence, India used to import mostly consumption goods like medicines, cloth, motor vehicles, electrical goods, iron, steel, etc. Now it has been importing mostly petrol and petroleum products, machines, chemicals-, fertilizers, oil seeds, raw materials, steel, edible oils, etc. 14) 8) Direction of Foreign Trade: 15) It refers to the countries with whom a country trades. Main changes in the direction of foreign trade are as under:

16) In the year 1990, in exports the maximum share, i.e., 17.9 per cent was that of Eastern Europe, i.e., Romania, East Germany, and U.S.S.R., etc. In import trade, maximum share, i.e., 16.5 per cent was that of OPEC, i.e., Iran, Iraq, Saudi Arabia, Kuwait, etc. In 2008- 09, the largest share in India‘s foreign trade (both imports and exports) was that of European Union (EU), i.e., Germany, Belgium, France, U.K., etc., and developing countries. Now, U.A.E., China and U.S.A. have occupied important place in India‘s foreign trade. The importance of England, Russia, etc., has declined.

17) 9) Mounting Deficit in Balance of Trade: 18) Since 1950-51, India‘s balance of trade has been continuously adverse except for two years, viz., 1972-73 and 1976-77, besides it has been mounting year after year. In 1950- 51 balance of trade was adverse to the tune of Rs 2 crore and by 1990-1991 it rose to Rs 16,933 crore. After the policy of liberalization, the country has witnessed a rapid increase in it. In 1999- 2000 it rose to Rs 77,359crorc and in 2008-09 it amounted to 5, 33,680 crore. Fast rise in the value of imports and slow rise in the value of exports accounted for this tremendous rise in balance of trade deficit.

19) 10) Trend towards Globalization: 20) Globalization and diversification mark the latest trend of India‘s foreign trade. India‘s foreign trade is no longer confined or a few goods or a few countries. Presently, India exports 7,500 items to about 190 countries and in its import- kitty there are 6,000 items from 140 countries. It unveiled the changing pattern of India‘s foreign trade.

21) 11) Changing Role of Public Sector: Since 1991 the role of public sector in India‘s foreign trade has undergone a change. Prior to it, State Trading Corporation (STC), Minerals and Metals Trading Corporation (MMTC), Handicraft and Handloom Corporation, Steel Authority of India Ltd. (SAIL), Hindustan Machine Tools (HMT), Bharat Heavy Electrical Limited (BHEL), etc., used to play significant role in India‘s foreign trade. As a result of implementation of the policy of liberalization, the importance of all these public sector enterprises has diminished.

Some of the major important causes of deficit (disequilibrium) in balance of payments are : 1. Economic Factors 2. Political Factors 3. Social Factors. Deficit in the balance of payments may be caused due to number of factors.

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These factors can be divided into three groups: 1. Economic Factors: (i) Developmental activities: Developing countries depend on developed nations for supply of machines, technology and other equipment. This leads to increased levels of imports, thereby, resulting in a deficit in the BOP account.

(ii) High rate of inflation: ADVERTISEMENTS:

When there is inflation in the domestic economy, foreign goods become relatively cheaper as compared to domestic goods. It increases imports which causes a deficit in the BOP.

(iii) Cyclical fluctuations: When the domestic economy is going through a phase of boom, then domestic production may be unable to satisfy the domestic demand. It leads to a deficit in BOP, due to increase in imports.

(iv) Change in Demand: ADVERTISEMENTS:

Fall in demand for country‘s goods in the foreign markets leads to fall in exports and it adversely affects the balance of payments.

(v) Import of Services: Underdeveloped countries import services from developed countries for which, they have to pay huge amounts of money. It leads to a deficit in the BOP.

2. Political Factors: (i) Political Instability: ADVERTISEMENTS:

Political instability may lead to large capital outflows and reduce the inflows of foreign funds, thus, creating disequilibrium in the BOP. (ii) Political disturbances: Frequent changes in the government, inadequate support to the government in parliament also discourage inflows of capital. This leads to a deficit due to higher outflows than inflows.

3. Social Factors: (i) Demonstration Effect: ADVERTISEMENTS:

When the people of underdeveloped countries come in contact with those of advanced countries, they start adopting the foreign pattern of consumption. Due to this reason, their imports increase and it leads to an adverse balance of payments for underdeveloped country.

(ii) Change in tastes, preferences, fashion and trends: An unfavorable change for the domestic goods leads to a deficit in the balance of payments.

Foreign Capital in India: Need and Forms of Foreign Capital! Everywhere in the world, including the developed countries, governments are vying with each other to attract foreign capital. The belief that foreign capital plays a constructive role in a country‘s economic development, it has become even stronger since mid-1980.

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The experience of South East Asian Countries (1986-1995) has especially confirmed this belief and has led to a progressive reduction in regulations and restraints that could have inhibited the inflow of foreign capital.

1. Need for Foreign Capital: The need for foreign capital arises because of the following reasons. In most developing countries like India, domestic capital is inadequate for the purpose of economic growth. Foreign capital is typically seen as a way of filling in gaps between the domestically available supplies of savings, foreign exchange, government revenue and the planned investment necessary to achieve developmental targets. To give an example of this ‗savings-investment‘ gap, let us suppose that planned rate of growth output per annum is 7 percent and the capital-output ratio is 3 percent, then the rate of saving required is 21 percent. If the saving that can be domestically mobilized is 16 percent, there is a shortfall or a savings gap of 5 percent. Thus the foremost contribution of foreign capital to national development is its role in filling the resource gap between targeted investment and locally mobilized savings. Foreign capital is needed to fill the gap between the targeted foreign exchange requirements and those derived from net export earnings plus net public foreign aid. This is generally called the foreign exchange or trade gap.

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An inflow of private foreign capital helps in removing deficit in the balance of payments over time if the foreign-owned enterprise can generate a net positive flow of export earnings.

The third gap that the foreign capital and specifically, foreign investment helps to fill is that between governmental tax revenue and the locally raised taxes. By taxing the profits of the foreign enterprises the governments of developing countries are able to mobilize funds for projects (like energy, infrastructure) that are badly needed for economic development.

Foreign investment meets the gap in management, entrepreneurship, technology and skill. The package of these much-needed resources is transferred to the local country through training programmes and the process of learning by doing‘. Further foreign companies bring with them sophisticated technological knowledge about production processes while transferring modern machinery equipment to the capital-poor developing countries.

In fact, in this era of globalization, there is a great belief that foreign capital transforms the productive structures of the developing economics leading to high rates of growth. Besides the above, foreign capital, by creating new productive assets, contributes to the generation of employment a prime need of a country like India.

2. Forms of Foreign Capital: Foreign Capital can be obtained in the form of foreign investment or non-concessional assistance or concessional assistance.

ADVERTISEMENTS: 1. Foreign Investment includes Foreign Direct Investment (FDI) and Foreign Portfolio Investment (FPI). FPI includes the amounts raised by Indian corporate through Euro Equities, Global Depository Receipts (GDR‘s), and American Depository Receipts (ADR‘s).

2. Non-Concessional Assistance mainly includes External Commercial Borrowings (ECB‘s), loans from governments of other countries/multilateral agencies on market terms and deposits obtained from Non-Resident Indians (NRIs).

3. Concessional Assistance includes grants and loans obtained at low rates of interest with long maturity periods. Such assistance is generally provided on a bilateral basis or through multilateral agencies like the World Bank, International Monetary Fund (IMF), and International Development Association (IDA) etc. Loans have to be repaid generally in terms of foreign currency but in certain cases the donor may allow the recipient country to repay in terms of its own currency.

Foreign Capital in India: Need and Forms of Foreign Capital! Everywhere in the world, including the developed countries, governments are vying with each other to attract foreign capital. The belief that foreign capital plays a constructive role in a country‘s economic development, it has become even stronger since mid-1980.

ADVERTISEMENTS:

The experience of South East Asian Countries (1986-1995) has especially confirmed this belief and has led to a progressive reduction in regulations and restraints that could have inhibited the inflow of foreign capital.

1. Need for Foreign Capital: The need for foreign capital arises because of the following reasons. In most developing countries like India, domestic capital is inadequate for the purpose of economic growth. Foreign capital is typically seen as a way of filling in gaps between the domestically available supplies of savings, foreign exchange, government revenue and the planned investment necessary to achieve developmental targets. To give an example of this ‗savings-investment‘ gap, let us suppose that planned rate of growth output per annum is 7 percent and the capital-output ratio is 3 percent, then the rate of saving required is 21 percent. If the saving that can be domestically mobilized is 16 percent, there is a shortfall or a savings gap of 5 percent. Thus the foremost contribution of foreign capital to national development is its role in filling the resource gap between targeted investment and locally mobilized savings. Foreign capital is needed to fill the gap between the targeted foreign exchange requirements and those derived from net export earnings plus net public foreign aid. This is generally called the foreign exchange or trade gap.

ADVERTISEMENTS:

An inflow of private foreign capital helps in removing deficit in the balance of payments over time if the foreign-owned enterprise can generate a net positive flow of export earnings.

The third gap that the foreign capital and specifically, foreign investment helps to fill is that between governmental tax revenue and the locally raised taxes. By taxing the profits of the foreign enterprises the governments of developing countries are able to mobilize funds for projects (like energy, infrastructure) that are badly needed for economic development.

Foreign investment meets the gap in management, entrepreneurship, technology and skill. The package of these much-needed resources is transferred to the local country through training programmes and the process of learning by doing‘. Further foreign companies bring with them sophisticated technological knowledge about production processes while transferring modern machinery equipment to the capital-poor developing countries.

In fact, in this era of globalization, there is a great belief that foreign capital transforms the productive structures of the developing economics leading to high rates of growth. Besides the above, foreign capital, by creating new productive assets, contributes to the generation of employment a prime need of a country like India.

2. Forms of Foreign Capital: Foreign Capital can be obtained in the form of foreign investment or non-concessional assistance or concessional assistance.

ADVERTISEMENTS: 1. Foreign Investment includes Foreign Direct Investment (FDI) and Foreign Portfolio Investment (FPI). FPI includes the amounts raised by Indian corporate through Euro Equities, Global Depository Receipts (GDR‘s), and American Depository Receipts (ADR‘s).

2. Non-Concessional Assistance mainly includes External Commercial Borrowings (ECB‘s), loans from governments of other countries/multilateral agencies on market terms and deposits obtained from Non-Resident Indians (NRIs).

3. Concessional Assistance includes grants and loans obtained at low rates of interest with long maturity periods. Such assistance is generally provided on a bilateral basis or through multilateral agencies like the World Bank, International Monetary Fund (IMF), and International Development Association (IDA) etc. Loans have to be repaid generally in terms of foreign currency but in certain cases the donor may allow the recipient country to repay in terms of its own currency.

Foreign Direct Investment:

A foreign direct investment (FDI) is an investment in the form of a controlling ownership in a business in one country by an entity based in another country.[1] It is thus distinguished from a foreign portfolio investment by a notion of direct control. The origin of the investment does not impact the definition, as an FDI: the investment may be made either "inorganically" by buying a company in the target country or "organically" by expanding the operations of an existing business in that country. Broadly, foreign direct investment includes "mergers and acquisitions, building new facilities, reinvesting profits earned from overseas operations, and intra company loans". In a narrow sense, foreign direct investment refers just to building new facility, and a lasting management interest (10 percent or more of voting stock) in an enterprise operating in an economy other than that of the investor.[2] FDI is the sum of equity capital, long-term capital, and short-term capital as shown in the balance of payments. FDI usually involves participation in management, joint- venture, transfer of technology and expertise. Stock of FDI is the net (i.e., outward FDI minus inward FDI) cumulative FDI for any given period. Direct investment excludes investment through purchase of shares (if that purchase results in an investor controlling less than 10% of the shares of the company). FDI, a subset of international factor movements, is characterized by controlling ownership of a business enterprise in one country by an entity based in another country. Foreign direct investment is distinguished from foreign portfolio investment, a passive investment in the securities of another country such as public stocks and bonds, by the element of "control".[1] According to the Financial Times, "Standard definitions of control use the internationally agreed 10 percent threshold of voting shares, but this is a grey area as often a smaller block of shares will give control in widely held companies. Moreover, control of technology, management, even crucial inputs can confer de facto control. Benefits of Foreign Direct Investment Foreign direct investment offers advantages to both the investor and the foreign host country. These incentives encourage both parties to engage in and allow FDI.

Below are some of the benefits for businesses:

 Market diversification  Tax incentives

 Lower labor costs  Preferential tariffs  Subsidies

Diversification is also covered in CFI‘s corporate & business strategy course, make sure to check it out!

The following are some of the benefits for the host country:

 Economic stimulation  Development of human capital  Increase in employment  Access to management expertise, skills, and technology

For businesses, most of these benefits are based on cost-cutting and lowering risk. For host countries, the benefits are mainly economic.

Disadvantages of Foreign Direct Investment Despite many benefits, there are still two main disadvantages to FDI, such as:

 Displacement of local businesses  Profit repatriation

The entry of large firms, such as Walmart, may displace local businesses. Walmart is often criticized for driving out local businesses that cannot compete with its lower prices.

In the case of profit repatriation, the primary concern is that firms will not reinvest profits back into the host country. This leads to large capital outflows from the host country.

As a result, many countries have regulations limiting foreign direct investment.

Types and Examples of Foreign Direct Investment Typically, there are two main types of FDI: horizontal and vertical FDI. Horizontal: a business expands its domestic operations to a foreign country. In this case, the business conducts the same activities but in a foreign country. For example, McDonald‘s opening restaurants in Japan would be considered horizontal FDI.

Vertical: a business expands into a foreign country by moving to a different level of the supply chain. In other words, a firm conducts different activities abroad but these activities are still related to the main business. Using the same example, McDonald‘s could purchase a large-scale farm in Canada to produce meat for their restaurants.

However, two other forms of FDI have also been observed: conglomerate and platform FDI.

Conglomerate: a business acquires an unrelated business in a foreign country. This is uncommon, as it requires overcoming two barriers to entry: entering a foreign country and entering a new industry or market. An example of this would be if Virgin Group, which is based in the United Kingdom, acquired a clothing line in France.

Platform: a business expands into a foreign country but the output from the foreign operations is exported to a third country. This is also referred to as export-platform FDI. Platform FDI commonly happens in low-cost locations inside free-trade areas. For example, if Ford purchased manufacturing plants in Ireland with the primary purpose of exporting cars to other countries in the EU.

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Benefits of Foreign Direct Investment Foreign direct investment offers advantages to both the investor and the foreign host country. These incentives encourage both parties to engage in and allow FDI.

Below are some of the benefits for businesses:

 Market diversification  Tax incentives  Lower labor costs  Preferential tariffs  Subsidies

Diversification is also covered in CFI‘s corporate & business strategy course, make sure to check it out!

The following are some of the benefits for the host country:

 Economic stimulation  Development of human capital  Increase in employment  Access to management expertise, skills, and technology

For businesses, most of these benefits are based on cost-cutting and lowering risk. For host countries, the benefits are mainly economic.

Disadvantages of Foreign Direct Investment Despite many benefits, there are still two main disadvantages to FDI, such as:

 Displacement of local businesses  Profit repatriation

The entry of large firms, such as Walmart, may displace local businesses. Walmart is often criticized for driving out local businesses that cannot compete with its lower prices.

In the case of profit repatriation, the primary concern is that firms will not reinvest profits back into the host country. This leads to large capital outflows from the host country.

As a result, many countries have regulations limiting foreign direct investment.

Types and Examples of Foreign Direct Investment Typically, there are two main types of FDI: horizontal and vertical FDI. Horizontal: a business expands its domestic operations to a foreign country. In this case, the business conducts the same activities but in a foreign country. For example, McDonald‘s opening restaurants in Japan would be considered horizontal FDI.

Vertical: a business expands into a foreign country by moving to a different level of the supply chain. In other words, a firm conducts different activities abroad but these activities are still related to the main business. Using the same example, McDonald‘s could purchase a large-scale farm in Canada to produce meat for their restaurants.

Multinational Corporations:

A multinational corporation (MNC) is a corporate organization that owns or controls production of goods or services in at least one country other than its home country.[10][11] Black's Law Dictionary suggests that a company or group should be considered a multinational corporation if it derives 25% or more of its revenue from out-of-home-country operations. However, a firm that owns and controls 51% of a foreign subsidiary also controls production of goods or services in at least one country other than its home country and therefore would also meet the criterion, even if that foreign affiliate generates only a few percent of its revenue.[12] A multinational corporation can also be referred to as a multinational enterprise (MNE), a transnational enterprise (TNE), a transnational corporation (TNC), an international corporation, or a stateless corporation.[13] There are subtle but real differences between these terms. Most of the largest and most influential companies of the modern age are publicly traded multinational corporations, including Forbes Global 2000 companies. Multinational corporations are subject to criticisms for lacking ethical standards. They have also become associated with multinational tax havens and base erosion and profit shifting tax avoidance activities.

Features of Multinational Corporations (MNCs): Following are the salient features of MNCs: (i) Huge Assets and Turnover: Because of operations on a global basis, MNCs have huge physical and financial assets. This also results in huge turnover (sales) of MNCs. In fact, in terms of assets and turnover, many MNCs are bigger than national economies of several countries.

(ii) International Operations Through a Network of Branches: MNCs have production and marketing operations in several countries; operating through a network of branches, subsidiaries and affiliates in host countries. (iii) Unity of Control: MNCs are characterized by unity of control. MNCs control business activities of their branches in foreign countries through head office located in the home country. Managements of branches operate within the policy framework of the parent corporation.

(iv) Mighty Economic Power: MNCs are powerful economic entities. They keep on adding to their economic power through constant mergers and acquisitions of companies, in host countries.

(v) Advanced and Sophisticated Technology: Generally, a MNC has at its command advanced and sophisticated technology. It employs capital intensive technology in manufacturing and marketing.

(vi) Professional Management:  Home  Share Your Files  Disclaimer  Privacy Policy  Contact Us  Prohibited Content o o o o o o Multinational Corporations (MNCs): Meaning, Features and Advantages | Business Article shared by : <="" div="" style="margin: 0px; padding: 0px; border: 0px; outline: 0px; font-size: 16px; vertical-align: bottom; background: transparent; max-width: 100%;">

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Read this article to learn about the meaning, features, advantages and limitations of Multinational Corporations (MNCs). Meaning of Multinational Companies (MNCs): A multinational company is one which is incorporated in one country (called the home country); but whose operations extend beyond the home country and which carries on business in other countries (called the host countries) in addition to the home country.

It must be emphasized that the headquarters of a multinational company are located in the home country.

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Neil H. Jacoby defines a multinational company as follows: ―A multinational corporation owns and manages business in two or more countries.‖

Point of comment: A multinational corporation is known by various names such as: global enterprise, international enterprise, world enterprise, transnational corporation etc.

ADVERTISEMENTS: Some popular examples of multinationals are given below:

Features of Multinational Corporations (MNCs): Following are the salient features of MNCs: (i) Huge Assets and Turnover: Because of operations on a global basis, MNCs have huge physical and financial assets. This also results in huge turnover (sales) of MNCs. In fact, in terms of assets and turnover, many MNCs are bigger than national economies of several countries.

(ii) International Operations Through a Network of Branches: ADVERTISEMENTS:

MNCs have production and marketing operations in several countries; operating through a network of branches, subsidiaries and affiliates in host countries.

(iii) Unity of Control: MNCs are characterized by unity of control. MNCs control business activities of their branches in foreign countries through head office located in the home country. Managements of branches operate within the policy framework of the parent corporation.

(iv) Mighty Economic Power: MNCs are powerful economic entities. They keep on adding to their economic power through constant mergers and acquisitions of companies, in host countries.

(v) Advanced and Sophisticated Technology: Generally, a MNC has at its command advanced and sophisticated technology. It employs capital intensive technology in manufacturing and marketing. (vi) Professional Management: ADVERTISEMENTS:

A MNC employs professionally trained managers to handle huge funds, advanced technology and international business operations.

(vii)Aggressive Advertising and Marketing: MNCs spend huge sums of money on advertising and marketing to secure international business. This is, perhaps, the biggest strategy of success of MNCs. Because of this strategy, they are able to sell whatever products/services, they produce/generate.

(viii) Better Quality of Products: A MNC has to compete on the world level. It, therefore, has to pay special attention to the quality of its products.

Advantages and Limitations of MNCs: Advantages of MNCs from the Viewpoint of Host Country: We propose to examine the advantages and limitations of MNCs from the viewpoint of the host country. In fact, advantages of MNCs make for the case in favour of MNCs; while limitations of MNCs become the case against MNCs.

(i) Employment Generation: MNCs create large scale employment opportunities in host countries. This is a big advantage of MNCs for countries; where there is a lot of unemployment.

(ii) Automatic Inflow of Foreign Capital: MNCs bring in much needed capital for the rapid development of developing countries. In fact, with the entry of MNCs, inflow of foreign capital is automatic. As a result of the entry of MNCs, India e.g. has attracted foreign investment with several million dollars. (iii) Proper Use of Idle Resources: Because of their advanced technical knowledge, MNCs are in a position to properly utilise idle physical and human resources of the host country. This results in an increase in the National Income of the host country.

(iv) Improvement in Balance of Payment Position: MNCs help the host countries to increase their exports. As such, they help the host country to improve upon its Balance of Payment position.

(vi) Technical Development: MNCs carry the advantages of technical development 10 host countries. In fact, MNCs are a vehicle for transference of technical development from one country to another. Because of MNCs poor host countries also begin to develop technically.

(vii) Managerial Development: MNCs employ latest management techniques. People employed by MNCs do a lot of research in management. In a way, they help to professionalize management along latest lines of management theory and practice. This leads to managerial development in host countries. (viii) End of Local Monopolies: The entry of MNCs leads to competition in the host countries. Local monopolies of host countries either start improving their products or reduce their prices. Thus MNCs put an end to exploitative practices of local monopolists. As a matter of fact, MNCs compel domestic companies to improve their efficiency and quality.

In India, many Indian companies acquired ISO-9000 quality certificates, due to fear of competition posed by MNCs.

(ix) Improvement in Standard of Living: By providing super quality products and services, MNCs help to improve the standard of living of people of host countries.

(x) Promotion of international brotherhood and culture: MNCs integrate economies of various nations with the world economy. Through their international dealings, MNCs promote international brotherhood and culture; and pave way for world peace and prosperity. Limitations of MNCs from the Viewpoint of Host Country: (i) Danger for Domestic Industries: MNCs, because of their vast economic power, pose a danger to domestic industries; which are still in the process of development. Domestic industries cannot face challenges posed by MNCs. Many domestic industries have to wind up, as a result of threat from MNCs. Thus MNCs give a setback to the economic growth of host countries.

(ii) Repatriation of Profits: (Repatriation of profits means sending profits to their country).

MNCs earn huge profits. Repatriation of profits by MNCs adversely affects the foreign exchange reserves of the host country; which means that a large amount of foreign exchange goes out of the host country.

(iii) No Benefit to Poor People: MNCs produce only those things, which are used by the rich. Therefore, poor people of host countries do not get, generally, any benefit, out of MNCs.

(iv) Danger to Independence: Initially MNCs help the Government of the host country, in a number of ways; and then gradually start interfering in the political affairs of the host country. There is, then, an implicit danger to the independence of the host country, in the long-run.

(v) Disregard of the National Interests of the Host Country: MNCs invest in most profitable sectors; and disregard the national goals and priorities of the host country. They do not care for the development of backward regions; and never care to solve chronic problems of the host country like unemployment and poverty.

(vi) Misuse of Mighty Status: MNCs are powerful economic entities. They can afford to bear losses for a long while, in the hope of earning huge profits-once they have ended local competition and achieved monopoly. This may be the dirties strategy of MNCs to wipe off local competitors from the host country.

(vii) Careless Exploitation of Natural Resources: MNCs tend to use the natural resources of the host country carelessly. They cause rapid depletion of some of the non-renewable natural resources of the host country. In this way, MNCs cause a permanent damage to the economic development of the host country.

(viii) Selfish Promotion of Alien Culture: MNCs tend to promote alien culture in host country to sell their products. They make people forget about their own cultural heritage. In India, e.g. MNCs have created a taste for synthetic food, soft drinks etc. This promotion of foreign culture by MNCs is injurious to the health of people also.

(ix) Exploitation of People, in a Systematic Manner: MNCs join hands with big business houses of host country and emerge as powerful monopolies. This leads to concentration of economic power only in a few hands. Gradually these monopolies make it their birth right to exploit poor people and enrich themselves at the cost of the poor working class.

Advantages from the Viewpoint of the Home Country: Some of the advantages of the MNCs from the viewpoint of the home country are: (i) MNCs usually get raw-materials and labour supplies from host countries at lower prices; specially when host countries are backward or developing economies.

(ii) MNCs can widen their market for goods by selling in host countries; and increase their profits. They usually have good earnings by way of dividends earned from operations in host countries.

(iii) Through operating in many countries and providing quality services, MNCs add to their international goodwill on which they can capitalize, in the long-run.

Limitations from the Viewpoint of the Home Country: Some of the limitations of MNCs from the viewpoint of home country may be: (i) There may be loss of employment in the home country, due to spreading manufacturing and marketing operations in other countries.

(ii) MNCs face severe problems of managing cultural diversity. This might distract managements‘ attention from main business issues, causing loss to the home country.

(iii) MNCs may face severe competition from bigger MNCs in international markets. Their attention and finances might be more devoted to wasteful counter and competitive advertising; resulting in higher marketing costs and lesser profits for the home country.

Role of Multinational Corporations in the Indian Economy! Prior to 1991 Multinational companies did not play much role in the Indian economy. In the pre- reform period the Indian economy was dominated by public enterprises.

To prevent concentration of economic power industrial policy 1956 did not allow the private firms to grow in size beyond a point. By definition multinational companies were quite big and operate in several countries.

Role of Multinational Corporations in the Indian Economy Article Shared by <="" div="" style="margin: 0px; padding: 0px; border: 0px; outline: 0px; font-size: 14px; vertical-align: bottom; background: transparent; max-width: 100%;">

Role of Multinational Corporations in the Indian Economy! Prior to 1991 Multinational companies did not play much role in the Indian economy. In the pre- reform period the Indian economy was dominated by public enterprises.

To prevent concentration of economic power industrial policy 1956 did not allow the private firms to grow in size beyond a point. By definition multinational companies were quite big and operate in several countries.

While multinational companies played a significant role in the promotion of growth and trade in South-East Asian countries they did not play much role in the Indian economy where import- substitution development strategy was followed. Since 1991 with the adoption of industrial policy of liberalisation and privatisation rote of private foreign capital has been recognized as important for rapid growth of the Indian economy.

Since source of bulk of foreign capital and investment are multinational corporation, they have been allowed to operate in the Indian economy subject to some regulations. The following are the important reasons for this change in policy towards multinational companies in the post- reform period.

Some of world’s largest multinational corporations are given below:

1. Promotion Foreign Investment: In the recent years, external assistance to developing countries has been declining. This is because the donor developed countries have not been willing to part with a larger proportion of their GDP as assistance to developing countries. MNCs can bridge the gap between the requirements of foreign capital for increasing foreign investment in India.

The liberalized foreign investment pursued since 1991, allows MNCs to make investment in India subject to different ceilings fixed for different industries or projects. However, in some industries 100 per cent export-oriented units (EOUs) can be set up. It may be noted, like domestic investment, foreign investment has also a multiplier effect on income and employment in a country.

For example, the effect of Suzuki firm‘s investment in Maruti Udyog manufacturing cars is not confined to income and employment for the workers and employees of Maruti Udyog but goes beyond that. Many workers are employed in dealer firms who sell Maruti cars.

Moreover, many intermediate goods are supplied by Indian suppliers to Maruti Udyog and for this many workers are employed by them to manufacture various parts and components used in Maruti cars. Thus their incomes also go up by investment by a Japanese multinational in Maruti Udyog Limited in India.

2. Non-Debt Creating Capital inflows: In pre-reform period in India when foreign direct investment by MNCs was discouraged, we relied heavily on external commercial borrowing (ECB) which was of debt-creating capital inflows. This raised the burden of external debt and debt service payments reached the alarming figure of 35 per cent of our current account receipts. This created doubts about our ability to fulfill our debt obligations and there was a flight of capital from

India and this resulted in balance of payments crisis in 1991. As direct foreign investment by multinational corporations represents non-debt creating capital inflows we can avoid the liability of debt-servicing payments. Moreover, the advantage of investment by MNCs lies in the fact that servicing of non-debt capital begins only when the MNC firm reaches the stage of making profits to repatriate Thus, MNCs can play an important role in reducing stress strains and on India‘s balance of payments (BOP).

3. Technology Transfer: Another important role of multinational corporations is that they transfer high sophisticated technology to developing countries which are essential for raising productivity of working class and enable us to start new productive ventures requiring high technology. Whenever, multinational firms set up their subsidiary production units or joint-venture units, they not only import new equipment and machinery embodying new technology but also skills and technical know-how to use the new equipment and machinery.

As a result, the Indian workers and engineers come to know of new superior technology and the way to use it. In India, the corporate sector spends only few resources on Research and Development (R&D). It is the giant multinational corporate firms (MNCs) which spend a lot on the development of new technologies can greatly benefit the developing countries by transferring the new technology developed by them. Therefore, MNCs can play an important role in the technological up-gradation of the Indian economy.

4. Promotion of Exports: With extensive links all over the world and producing products efficiently and therefore with lower costs multinationals can play a significant role in promoting exports of a country in which they invest. For example, the rapid expansion in China‘s exports in recent years is due to the large investment made by multinationals in various fields of Chinese industry. Historically in India, multinationals made large investment in plantations whose products they exported. In recent years, Japanese automobile company Suzuki made a large investment in Maruti Udyog with a joint collaboration with Government of India. Maruti cars are not only being sold in the Indian domestic market but are exported in a large number to the foreign countries.

As a matter of fact until recently, when giving permission to a multinational firm for investment in India, Government granted the permission subject to the condition that the concerned multinational company would export the product so as to earn foreign exchange for India.

However, in case of Pepsi, a famous cold -drink multinational company, while for getting a product license in 1961 to produce Pepsi Cola in India it agreed to export a certain proportion of its product, but later it expressed its inability to do so. Instead, it ultimately agreed to export things other than what it produced such as tea.

5. Investment in Infrastructure: With a large command over financial resources and their superior ability to raise resources both globally and inside India it is said that multinational corporations could invest in infrastructure such as power projects, modernisation of airports and posts, telecommunication.

The investment in infrastructure will give a boost to industrial growth and help in creating income and employment in the India economy. The external economies generated by investment in infrastructure by MNCs will therefore crowd in investment by the indigenous private sector and will therefore stimulate economic growth.

In view of above, even Common Minimum Programme of the present UPA government provides that foreign direct investment (FDI) will be encouraged and actively sought, especially in areas of (a) infrastructure, (b) high technology and (c) exports, and (d) where domestic assets and employment are created on a significant scale.

Module 5: Economic Integration and International Monetary Institutions.

Meaning of economic integration:

Economic integration is an arrangement among nations that typically includes the reduction or elimination of trade barriers and the coordination of monetary and fiscal policies. Economic integration aims to reduce costs for both consumers and producers and to increase trade between the countries involved in the agreement. Economic integration is sometimes referred to as regional integration as it often occurs among neighboring nations.

European Union:

Objectives

The European Union‘s main objective is to promote peace, follow the EU‘s values and improve the wellbeing of nations. The European Parliament and other institutions see to it that these objectives are achieved. The main objectives are:

A common European area without borders

The objective is to create a free and safe Europe with no internal borders. The citizens living in the area enjoy the rights granted by the European Union.

Internal market

The objective is to ensure smooth and efficient trade within Europe. Competition between companies is free and fair.

Stable and sustainable development

The objective is to ensure Europe‘s sustainable and steady development. It means balanced economic growth and stable prices. The European Union seeks to create a competitive market economy which takes into account people‘s wellbeing and social needs. An important issue is environmental protection. Efforts are made to protect the environment and repair any damage made.

Scientific and technological development

The European Union supports the advancement of science and technology and invests in education. Another objective is to achieve a skilled workforce and a high standard of technological production.

Prevention of social exclusion

The European Union works hard to prevent social exclusion. It seeks to prevent people from drifting outside the labour market and society. Efforts are made to eliminate poverty. The Union works for equality. Minority rights are protected. Social security is improved. Men and women must be treated equally. Children‘s rights must be protected and children given a happy childhood. Old people must be looked after and respected. Solidarity

Solidarity between countries and people is promoted in the field of the economy, social equality and regions. The member states must be loyal to one another. It means that states must take responsibility for and be understanding of one another.

Respect for languages and cultures

The European Union respects the languages and cultures of the individual countries. National cultures and the common European culture are cherished and developed.

Common foreign and security policy

The European Union seeks to promote peace not only in Europe but also elsewhere in the world. It seeks to ensure that peace is maintained in Europe and that people have security. With the common foreign policy, the European Union wants to make sure that the resources of the planet are used sensibly and that the environment is not destroyed. The European Union also wishes to respect other countries and nations. It works for free and fair trade and tries to eliminate poverty. Human rights are important all over the world. The European Union follows the Charter of the United Nations and underlines the importance of common international rules.

The European Union‘s general objectives are recorded in the Treaties of the European Union.

Euro Currency:

The euro (sign: €; code: EUR) is the official currency of 19 of the 27 member states of the European Union. This group of states is known as the eurozone or euro area, and counts about 343 million citizens as of 2019.[9][10] The euro, which is divided into 100 cents, is the second-largest and second-most traded currency in the foreign exchange market after the United States dollar.[11] The currency is also used officially by the institutions of the European Union, by four European microstates that are not EU members,[10] the British Overseas Territory of Akrotiri and Dhekelia, as well as unilaterally by Montenegro and Kosovo. Outside Europe, a number of special territories of EU members also use the euro as their currency. Additionally, over 200 million people worldwide use currencies pegged to the euro. The euro is the second-largest reserve currency as well as the second-most traded currency in the world after the United States dollar.[12][13][14] As of December 2019, with more than €1.3 trillion in circulation, the euro has one of the highest combined values of banknotes and coins in circulation in the world.[15][16] The name euro was officially adopted on 16 December 1995 in Madrid.[17] The euro was introduced to world financial markets as an accounting currency on 1 January 1999, replacing the former European Currency Unit (ECU) at a ratio of 1:1 (US$1.1743). Physical euro coins and banknotes entered into circulation on 1 January 2002, making it the day-to-day operating currency of its original members, and by March 2002 it had completely replaced the former currencies.[18] While the euro dropped subsequently to US$0.83 within two years (26 October 2000), it has traded above the U.S. dollar since the end of 2002, peaking at US$1.60 on 18 July 2008.[19] In late 2009, the euro became immersed in the European sovereign-debt crisis, which led to the creation of the European Financial Stability Facility as well as other reforms aimed at stabilising and strengthening the currency. South asian Association for Regional Co-operation.

The South Asian Association for Regional Cooperation (SAARC) is the regional intergovernmental organization and geopolitical union of states in South Asia. Its member states are Afghanistan, Bangladesh, Bhutan, India, the Maldives, Nepal, Pakistan and Sri Lanka. SAARC comprises 3% of the world's area, 21% of the world's population and 4.21% (US$3.67 trillion)[3] of the global economy, as of 2019. SAARC was founded in Dhaka on 8 December 1985.[4] Its secretariat is based in Kathmandu, Nepal. The organization promotes development of economic and regional integration.[5] It launched the South Asian Free Trade Area in 2006.[6] SAARC maintains permanent diplomatic relations at the United Nations as an observer and has developed links with multilateral entities, including the European Union. The idea of co-operation among South Asian Countries was discussed in three conferences: the Asian Relations Conference held in New Delhi on April 1947; the Baguio Conference in the Philippines on May 1950; and the Colombo Powers Conference held in Sri Lanka in April 1954.

In the ending years of the 1970s, the seven inner South Asian nations that included Bangladesh, Bhutan, India, Maldives, Nepal, Pakistan, and Sri Lanka agreed upon the creation of a trade bloc and to provide a platform for the people of South Asia to work together in a spirit of friendship, trust, and understanding. President Ziaur Rahman later addressed official letters to the leaders of the countries of the South Asia, presenting his vision for the future of the region and the compelling arguments for region.[8] During his visit to India in December 1977, Rahman discussed the issue of regional cooperation with the Indian Prime Minister, Morarji Desai. In the inaugural speech to the Colombo Plan Consultative Committee which met in Kathmandu also in 1977, King Birendra of Nepal gave a call for close regional cooperation among South Asian countries in sharing river waters.[9] After the USSR's intervention in Afghanistan, the efforts to establish the union was accelerated in 1979 and the resulting rapid deterioration of South Asian security situation.[9] Responding to Rahman and Birendra's convention, the officials of the foreign ministries of the seven countries met for the first time in Colombo in April 1981.[9] The Bangladeshi proposal was promptly endorsed by Nepal, Sri Lanka, Bhutan, and the Maldives but India and Pakistan were sceptical initially.[9] The Indian concern was the proposal's reference to the security matters in South Asia and feared that Rahman's proposal for a regional organisation might provide an opportunity for new smaller neighbours to re-internationalize all bilateral issues and to join with each other to form an opposition against India. Pakistan assumed that it might be an Indian strategy to organize the other South Asian countries against Pakistan and ensure a regional market for Indian products, thereby consolidating and further strengthening India's economic dominance in the region.[9] However, after a series of diplomatic consultations headed by Bangladesh between South Asian U.N. representatives at the UN headquarters in New York, from September 1979 to 1980, it was agreed that Bangladesh would prepare the draft of a working paper for discussion among the foreign secretaries of South Asian countries.[9] The foreign secretaries of the inner seven countries again delegated a Committee of the Whole in Colombo on September 1981, which identified five broad areas for regional cooperation. New areas of co-operation were added in the following years.[10] In 1983, the international conference held in Dhaka by its Ministry of Foreign Affairs, the foreign ministers of the inner seven countries adopted the Declaration on South Asian Association Regional Cooperation (SAARC) and formally launched the Integrated Programme of Action (IPA) initially in five agreed areas of cooperation namely, Agriculture; Rural Development; Telecommunications; Meteorology; and Health and Population Activities.[11] Officially, the union was established in Dhaka with Kathmandu being union's secretariat- general.[12] The first SAARC summit was held in Dhaka on 7–8 December 1985 and hosted by the President of Bangladesh Hussain Ershad.[13] The declaration signed by King of Bhutan Jigme Singye Wangchuk, President of Pakistan Zia-ul-Haq, Prime Minister of India Rajiv Gandhi, King of Nepal Birendra Shah, President of Sri Lanka JR Jayewardene, and President of Maldives Maumoon Gayoom

Members and observers Economic data is sourced from the International Monetary Fund, current as of December 2019, and is given in US dollars Members[edit] F F o o r r e e i i g g n n

P d e D G o i x e D p r c f P G u e h e S D l c a n e ( P P a t n c c n P r t g e L o o ( E o i i P i e i n m P x p m o o n b t d H i P p u a n G p G v r u e a u n P o l r l u G D e e d r r m a ) r a y u o l D P s s g a y a l t t n b a P t e e c n D N ) [ s L i s d a t g m r t y s e u U i o c e l i p r e v c D m c [ S ( f n h r W o e o n e ( r h e o l U $ U e o n T o C n r w t s U a o v c e S S b o o e B r o [ t S t o e r a $ m $ e e l u r B I S l u 1 c h ( ( $ e l l a G I A B A A r i x l r r R M A A A d n 5 a U U o c 2 O P B I C m l m p o e i o I S S C D t ] p r S S m ( e p y 0 R T I I D w i l i e w n s r C T E U B B r [ i a $ $ i a n m A A N B e l i l c r h i S E C a y 1 t t l b r e I a l o l t p o e s C n 6 a e m m l o o n n p i n i a o l d m k ] i i i v l t d o o , o n v m ( ( l l o e l e n n n c e e ( I ( P 2 l l n m I x s , 2 , y r n % n 2 P 0 i i , a e n 0 t t , d 0 P 1 o o g n d 2 1 2 y e 1 ) 8 n n 2 e t e 0 9 0 [ 2 x 8 ) , , 0 x 1 ] 1 l 2 0 ) 2 1 [ 9 [ 8 i 0 1 2 2 0 5 2 ] 1 ) n ] 5 0 0 ) ) 1 [ 8 e ) [ ] 1 ] 1 2 [ 1 7 7 0 2 9

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5 $ . M $ $ 1 2 $ 9 7 7 a 5 8 6 $ $ $ 5 5 1 8 8 7 1 N N 1 N N l , , . 2 3 7 . , , 6 . . 6 / / 7 / / ✖ ✖ ✖ ✖ ✖ ✖ ✔ ✔ ✔ ✖ ✔ ✔ ✖ d 7 6 9 5 2 2 2 6 7 . 6 3 % A A A A i 8 6 % 6 4 2 % ( 9 6 4 % 4 v 6 7 1 e 6 0 0 1 s )

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2 0 4 1 $ 6 $ $ $ . . S , 3 $ $ . 8 1 1 9 7 7 0 r 2 0 3 7 2 6 1 6 3 0 N 3 5 9 9 2 7 7 i 2 4 . , , . 9 , , , / . . 4 9 2 0 7 ✖ ✖ ✔ ✔ ✔ ✖ ✔ ✔ ✔ ✔ ✔ ✔ ✖ L 8 , 0 6 5 7 5 3 9 A 2 2 % % % a , 8 % 3 0 % ( 5 9 3 % 8 ( 7 ( n 7 2 5 0 7 4 k 6 7 0 1 6 6 6 ) 2 a 3 ) )

The member states are Afghanistan, Bangladesh, Bhutan, India, Maldives, Nepal, Pakistan, and Sri Lanka.[23] SAARC was founded by seven states in 1985. In 2005, Afghanistan began negotiating their accession to SAARC and formally applied for membership on the same year.[24][25] The issue of Afghanistan joining SAARC generated a great deal of debate in each member state, including concerns about the definition of South Asian identity because Afghanistan is a Central Asian country.[ The SAARC member states imposed a stipulation for Afghanistan to hold a general election; the non-partisan elections were held in late 2005. Despite initial reluctance and internal debates, Afghanistan joined SAARC as its eighth member state in April 2007. Observers[edit] States with observer status include Australia, China, the European Union, Iran, Japan, Mauritius, Myanmar, South Korea and the United States. On 2 August 2006, the foreign ministers of the SAARC countries agreed in principle to grant observer status to three applicants; the US and South Korea (both made requests in April 2006), as well as the European Union (requested in July 2006).[34] On 4 March 2007, Iran requested observer status, followed shortly by Mauritius. Potential future members Myanmar has expressed interest in upgrading its status from an observer to a full member of SAARC. Russia has applied for observer status membership of SAARC. Turkey applied for observer status membership of SAARC in 2012. South Africa has participated in meetings. SAARC summits:

No Date Country Host Host leader

1st 7–8 December 1985 Bangladesh Dhaka Ataur Rahman Khan

2nd 16–17 November 1986 India Bengaluru Rajiv Gandhi

3rd 2–4 November 1987 Nepal Kathmandu King Birendra Bir Bikram Shah

4th 29–31 December 1988 Pakistan Islamabad Benazir Bhutto

5th 21–23 November 1990 Maldives Malé Maumoon Abdul Gayoom

6th 21 December 1991 Sri Lanka Colombo Ranasinghe Premadasa

7th 10–11 April 1993 Bangladesh Dhaka Khaleda Zia

8th 2–4 May 1995 India New Delhi P V Narasimha Rao

9th 12–14 May 1997 Maldives Malé Maumoon Abdul Gayoom

10th 29–31 July 1998 Sri Lanka Colombo Chandrika Kumaratunga

11th 4–6 January 2002 Nepal Kathmandu Sher Bahadur Deuba

12th 2–6 January 2004 Pakistan Islamabad Zafarullah Khan Jamali 13th 12–13 November 2005 Bangladesh Dhaka Khaleda Zia

14th 3–4 April 2007 India New Delhi Manmohan Singh

15th 1–3 August 2008 Sri Lanka Colombo Mahinda Rajapaksa

16th 28–29 April 2010 Bhutan Thimphu Jigme Thinley

17th 10–11 November 2011 Maldives Addu Mohammed Nasheed

[65]

18th 26–27 November 2014 Nepal Kathmandu Sushil Koirala

19th 9–10 November 2016 Pakistan Islamabad Cancelled

20th 2019 Sri Lanka Colombo Mahinda Rajapaksa

Origin,objectives,functions and achievements of WTO:

The Uruguay round of GATT (1986-93) gave birth to World Trade Organization. The members of GATT singed on an agreement of Uruguay round in April 1994 in Morocco for establishing a new organization named WTO.

It was officially constituted on January 1, 1995 which took the place of GATT as an effective formal, organization. GATT was an informal organization which regulated world trade since 1948.

Contrary to the temporary nature of GATT, WTO is a permanent organization which has been established on the basis of an international treaty approved by participating countries. It achieved the international status like IMF and IBRD, but it is not an agency of the United Nations Organization (UNO). Structure: The WTO has nearly 153 members accounting for over 97% of world trade. Around 30 others are negotiating membership. Decisions are made by the entire membership. This is typically by consensus.

A majority vote is also possible but it has never been used in the WTO and was extremely rare under the WTO‘s predecessor, GATT. The WTO‘s agreements have been ratified in all members‘ parliaments.

The WTO‘s top level decision-making body is the Ministerial Conferences which meets at least once in every two years. Below this is the General Council (normally ambassadors and heads of delegation in Geneva, but sometimes officials sent from members‘ capitals) which meets several times a year in the Geneva headquarters. The General Council also meets as the Trade Policy Review Body and the Disputes Settlement Body.

At the next level, the Goods Council, Services Council and Intellectual Property (TRIPs) Council report to the General Council. Numerous specialized committees, working groups and working parties deal with the individual agreements and other areas such as, the environment, development, membership applications and regional trade agreements.

Secretariat: The WTO secretariat, based in Geneva, has around 600 staff and is headed by a Director- General. Its annual budget is roughly 160 million Swiss Francs. It does not have branch offices outside Geneva. Since decisions are taken by the members themselves, the secretariat does not have the decision making the role that other international bureaucracies are given.

The secretariat s main duties to supply technical support for the various councils and committees and the ministerial conferences, to provide technical assistance for developing countries, to analyze world trade and to explain WTO affairs to the public and media. The secretariat also provides some forms of legal assistance in the dispute settlement process and advises governments wishing to become members of the WTO.

Objectives: The important objectives of WTO are: 1. To improve the standard of living of people in the member countries. 2. To ensure full employment and broad increase in effective demand.

3. To enlarge production and trade of goods.

4. To increase the trade of services.

5. To ensure optimum utilization of world resources.

The main functions of WTO are discussed below: 1. To implement rules and provisions related to trade policy review mechanism.

2. To provide a platform to member countries to decide future strategies related to trade and tariff.

3. To provide facilities for implementation, administration and operation of multilateral and bilateral agreements of the world trade.

4. To administer the rules and processes related to dispute settlement.

5. To ensure the optimum use of world resources.

6. To assist international organizations such as, IMF and IBRD for establishing coherence in Universal Economic Policy determination.

Table: 2 WTO Ministerial Conference:

Conference Year Place

I 9-13 Dec., 1996 Singapore

ADVERTISEMENTS: 18-20 May 1998 Geneva (Switzerland)

II

III ADVERTISEMENTS: Seattle (USA)

30 Nov.-З Dec., 1999 IV 9-14 Nov., 2001 Doha (Qatar)

V 10-14 Sep., 2003 Cancun (Mexico)

VI 13-18 Dec.. 2005 Hong Kong

VII 30 Nov-2Dec., 2009 Geneva (Switzerland)

WTO Agreements: The WTO‘s rule and the agreements are the result of negotiations between the members. The current sets were the outcome to the 1986-93 Uruguay Round negotiations which included a major revision of the original General Agreement on Tariffs and Trade (GATI).

GATT is now the WTO‘s principal rule-book for trade in goods. The Uruguay Round also created new rules for dealing with trade in services, relevant aspects of intellectual property, dispute settlement and trade policy reviews.

The complete set runs to some 30,000 pages consisting of about 30 agreements and separate commitments (called schedules) made by individual members in specific areas such as, lower customs duty rates and services market-opening.

Through these agreements, WTO members operate a non-discriminatory trading system that spells out their rights and their obligations. Each country receives guarantees that its exports will be treated fairly and consistently in other countries‘ markets. Each country promises to do the same for imports into its own market. The system also gives developing countries some flexibility in implementing their commitments.

(a) Goods: It all began with trade in goods. From 1947 to 1994, GATT was the forum for negotiating lower customs duty rates and other trade barriers; the text of the General Agreement spelt out important, rules, particularly non-discriminations since 1995, the updated GATT has become the WTO s umbrella agreement for trade in goods.

It has annexes dealing with specific sectors such as, agriculture and textiles and with specific issues such as, state trading, product standards, subsidies and action taken against dumping. (b) Services: Banks, insurance firms, telecommunication companies, tour operators, hotel chains and transport companies looking to do business abroad can now enjoy the same principles of free and fair that originally only applied to trade in goods.

These principles appear in the new General Agreement on Trade in Services (GATS). WTO members have also made individual commitments under GATS stating which of their services sectors, they are willing to open for foreign competition and how open those markets are.

(c) Intellectual Property: The WTO‘s intellectual property agreement amounts to rules for trade and investment in ideas and creativity. The rules state how copyrights, patents, trademarks, geographical names used to identify products, industrial designs, integrated circuit layout designs and undisclosed information such as trade secrets ―intellectual property‖ should be protected when trade is involved.

(d) Dispute Settlement: The WTO‘s procedure for resolving trade quarrels under the Dispute Settlement Understanding is vital for enforcing the rules and therefore, for ensuring that trade flows smoothly.

Countries bring disputes to the WTO if they think their rights under the agreements are being infringed. Judgments by specially appointed independent experts are based on interpretations of the agreements and individual countries‘ commitments.

The system encourages countries to settle their differences through consultation. Failing that, they can follow a carefully mapped out, stage-by-stage procedure that includes the possibility of the ruling by a panel of experts and the chance to appeal the ruling on legal grounds.

Confidence in the system is bourne out by the number of cases brought to the WTO, around 300 cases in eight years compared to the 300 disputes dealt with during the entire life of GATT (1947-94).

(e) Policy Review: The Trade Policy Review Mechanism‘s purpose is to improve transparency, to create a greater understanding of the policies that countries are adopting and to assess their impact. Many members also see the reviews as constructive feedback on their policies. All WTO members must undergo periodic scrutiny, each review containing reports by the country concerned and the WTO Secretariat.

International Monetary Fund:

The International Monetary Fund (IMF) is an international organization headquartered in Washington, D.C., consisting of 189 countries working to foster global monetary cooperation, secure financial stability, facilitate international trade, promote high employment and sustainable economic growth, and reduce poverty around the world while periodically depending on the World Bank for its resources.[1] Formed in 1944 at the Bretton Woods Conference primarily by the ideas of Harry Dexter White and John Maynard Keynes,[6] it came into formal existence in 1945 with 29 member countries and the goal of reconstructing the international payment system. It now plays a central role in the management of balance of payments difficulties and international financial crises.[7] Countries contribute funds to a pool through a quota system from which countries experiencing balance of payments problems can borrow money. As of 2016, the fund had XDR 477 billion (about US$ 667 billion). Through the fund and other activities such as the gathering of statistics and analysis, surveillance of its members' economies, and the demand for particular policies,[9] the IMF works to improve the economies of its member countries The organization's objectives stated in the Articles of Agreement are:[11] to promote international monetary co-operation, international trade, high employment, exchange-rate stability, sustainable economic growth, and making resources available to member countries in financial difficulty.[12] IMF funds come from two major sources: quotas and loans. Quotas, which are pooled funds of member nations, generate most IMF funds. The size of a member's quota depends on its economic and financial importance in the world. Nations with larger economic importance have larger quotas. The quotas are increased periodically as a means of boosting the IMF's resources in the form of special drawing rightsThe current Managing Director (MD) and Chairwoman of the IMF is Bulgarian Economist Kristalina Georgieva, who has held the post since October 1, 2019 Gita Gopinath was appointed as Chief Economist of IMF from 1 October 2018. She received her PhD in economics from Princeton University. Prior to her IMF appointment she was economic adviser to the Chief Minister of Kerala, India.[

6. To protect the environment.

7. To accept the concept of sustainable development.

Functions:

According to the IMF itself, it works to foster global growth and economic stability by providing policy advice and financing the members by working with developing nations to help them achieve macroeconomic stability and reduce poverty The rationale for this is that private international capital markets function imperfectly and many countries have limited access to financial markets. Such market imperfections, together with balance-of-payments financing, provide the justification for official financing, without which many countries could only correct large external payment imbalances through measures with adverse economic consequences. The IMF provides alternate sources of financing. Upon the founding of the IMF, its three primary functions were: to oversee the fixed exchange rate arrangements between countries, thus helping national governments manage their exchange rates and allowing these governments to prioritize economic growth, and to provide short-term capital to aid the balance of payments. This assistance was meant to prevent the spread of international economic crises. The IMF was also intended to help mend the pieces of the international economy after the Great Depression and World War II as well as provide capital investments for economic growth and projects such as infrastructure. The IMF's role was fundamentally altered by the floating exchange rates post-1971. It shifted to examining the economic policies of countries with IMF loan agreements to determine if a shortage of capital was due to economic fluctuations or economic policy. The IMF also researched what types of government policy would ensure economic recovery.[18] A particular concern of the IMF was to prevent financial crises such as those in Mexico in 1982, Brazil in 1987, East Asia in 1997–98, and Russia in 1998, from spreading and threatening the entire global financial and currency system. The challenge was to promote and implement policy that reduced the frequency of crises among the emerging market countries, especially the middle-income countries which are vulnerable to massive capital outflows.[20] Rather than maintaining a position of oversight of only exchange rates, their function became one of surveillance of the overall macroeconomic performance of member countries. Their role became a lot more active because the IMF now manages economic policy rather than just exchange rates. In addition, the IMF negotiates conditions on lending and loans under their policy of conditionality,[ which was established in the 1950s. Low-income countries can borrow on concessional terms, which means there is a period of time with no interest rates, through the Extended Credit Facility (ECF), the Standby Credit Facility (SCF) and the Rapid Credit Facility (RCF). Nonconcessional loans, which include interest rates, are provided mainly through Stand- By Arrangements (SBA), the Flexible Credit Line (FCL), the Precautionary and Liquidity Line (PLL), and the Extended Fund Facility. The IMF provides emergency assistance via the Rapid Financing Instrument (RFI) to members facing urgent balance-of-payments needs Surveillance of the global economy The IMF is mandated to oversee the international monetary and financial system and monitor the economic and financial policies of its member countries This activity is known as surveillance and facilitates international co-operation. Since the demise of the Bretton Woods system of fixed exchange rates in the early 1970s, surveillance has evolved largely by way of changes in procedures rather than through the adoption of new obligations. The responsibilities changed from those of guardian to those of overseer of members' policies. The Fund typically analyses the appropriateness of each member country's economic and financial policies for achieving orderly economic growth, and assesses the consequences of these policies for other countries and for the global economy In 1995 the International Monetary Fund began work on data dissemination standards with the view of guiding IMF member countries to disseminate their economic and financial data to the public. The International Monetary and Financial Committee (IMFC) endorsed the guidelines for the dissemination standards and they were split into two tiers: The General Data Dissemination System (GDDS) and the Special Data Dissemination Standard (SDDS). The executive board approved the SDDS and GDDS in 1996 and 1997 respectively, and subsequent amendments were published in a revised Guide to the General Data Dissemination System. The system is aimed primarily at statisticians and aims to improve many aspects of statistical systems in a country. It is also part of the World Bank Millennium Development Goals and Poverty Reduction Strategic Papers. The primary objective of the GDDS is to encourage member countries to build a framework to improve data quality and statistical capacity building to evaluate statistical needs, set priorities in improving the timeliness, transparency, reliability and accessibility of financial and economic data. Some countries initially used the GDDS, but later upgraded to SDDS. Some entities that are not themselves IMF members also contribute statistical data to the systems:

Criticisms: Overseas Development Institute (ODI) research undertaken in 1980 included criticisms of the IMF which support the analysis that it is a pillar of what activist Titus Alexander calls global apartheid. Developed countries were seen to have a more dominant role and control over less developed countries (LDCs).

 The Fund worked on the incorrect assumption that all payments disequilibria were caused domestically. The Group of 24 (G-24), on behalf of LDC members, and the United Nations Conference on Trade and Development (UNCTAD) complained that the IMF did not distinguish sufficiently between disequilibria with predominantly external as opposed to internal causes. This criticism was voiced in the aftermath of the 1973 oil crisis. Then LDCs found themselves with payment deficits due to adverse changes in their terms of trade, with the Fund prescribing stabilization programmes similar to those suggested for deficits caused by government over-spending. Faced with long-term, externally generated disequilibria, the G-24 argued for more time for LDCs to adjust their economies.  Some IMF policies may be anti-developmental; the report said that deflationary effects of IMF programmes quickly led to losses of output and employment in economies where incomes were low and unemployment was high. Moreover, the burden of the deflation is disproportionately borne by the poor.  The IMF's initial policies were based in theory and influenced by differing opinions and departmental rivalries. Critics suggest that its intentions to implement these policies in countries with widely varying economic circumstances were misinformed and lacked economic rationale. ODI conclusions were that the IMF's very nature of promoting market-oriented approaches attracted unavoidable criticism. On the other hand, the IMF could serve as a scapegoat while allowing governments to blame international bankers. The ODI conceded that the IMF was insensitive to political aspirations of LDCs, while its policy conditions were inflexible. Argentina, which had been considered by the IMF to be a model country in its compliance to policy proposals by the Bretton Woods institutions, experienced a catastrophic economic crisis in 2001 which some believe to have been caused by IMF-induced budget restrictions—which undercut the government's ability to sustain national infrastructure even in crucial areas such as health, education, and security—and privatisation of strategically vital national resources. Others attribute the crisis to Argentina's misdesigned fiscal federalism, which caused subnational spending to increase rapidly. The crisis added to widespread hatred of this institution in Argentina and other South American countries, with many blaming the IMF for the region's economic problems. The current—as of early 2006—trend toward moderate left-wing governments in the region and a growing concern with the development of a regional economic policy largely independent of big business pressures has been ascribed to this crisis. In 2006, a senior ActionAid policy analyst Akanksha Marphatia stated that IMF policies in Africa undermine any possibility of meeting the Millennium Development Goals (MDGs) due to imposed restrictions that prevent spending on important sectors, such as education and health. In an interview (2008-05-19), the former Romanian Prime Minister Călin Popescu- Tăriceanu claimed that "Since 2005, IMF is constantly making mistakes when it appreciates the country's economic performances Former Tanzanian President Julius Nyerere, who claimed that debt-ridden African states were ceding sovereignty to the IMF and the World Bank, famously asked, "Who elected the IMF to be the ministry of finance for every country in the world?" Former chief economist of IMF and former Reserve Bank of India (RBI) Governor Raghuram Rajan who predicted Financial crisis of 2007–08 criticised IMF for remaining a sideline player to the developed world. He criticised IMF for praising the monetary policies of the US, which he believed were wreaking havoc in emerging markets. He had been critical of the ultra-loose money policies of the Western nations and IMFCountries such as Zambia have not received proper aid with long-lasting effects, leading to concern from economists. Since 2005, Zambia (as well as 29 other African countries) did receive debt write-offs, which helped with the country's medical and education funds. However, Zambia returned to a debt of over half its GDP in less than a decade. American economist William Easterly, sceptical of the IMF's methods, had initially warned that "debt relief would simply encourage more reckless borrowing by crooked governments unless it was accompanied by reforms to speed up economic growth and improve governance," according to The Economist. Conditionality The IMF has been criticised for being "out of touch" with local economic conditions, cultures, and environments in the countries they are requiring policy reform.] The economic advice the IMF gives might not always take into consideration the difference between what spending means on paper and how it is felt by citizens.[111] Countries charge that with excessive conditionality, they do not "own" the programs and the links are broken between a recipient country's people, its government, and the goals being pursued by the IMF. Jeffrey Sachs argues that the IMF's "usual prescription is 'budgetary belt tightening to countries who are much too poor to own belts'". Sachs wrote that the IMF's role as a generalist institution specialising in macroeconomic issues needs reform. Conditionality has also been criticised because a country can pledge collateral of "acceptable assets" to obtain waivers—if one assumes that all countries are able to provide "acceptable collateral". One view is that conditionality undermines domestic political institutions. The recipient governments are sacrificing policy autonomy in exchange for funds, which can lead to public resentment of the local leadership for accepting and enforcing the IMF conditions. Political instability can result from more leadership turnover as political leaders are replaced in electoral backlashes. IMF conditions are often criticised for reducing government services, thus increasing unemployment. Another criticism is that IMF programs are only designed to address poor governance, excessive government spending, excessive government intervention in markets, and too much state ownership. This assumes that this narrow range of issues represents the only possible problems; everything is standardised and differing contexts are ignored. A country may also be compelled to accept conditions it would not normally accept had they not been in a financial crisis in need of assistance. On top of that, regardless of what methodologies and data sets used, it comes to same the conclusion of exacerbating income inequality. With Gini coefficient, it became clear that countries with IMF programs face increased income inequality. It is claimed that conditionalities retard social stability and hence inhibit the stated goals of the IMF, while Structural Adjustment Programs lead to an increase in poverty in recipient countries The IMF sometimes advocates "austerity programmes", cutting public spending and increasing taxes even when the economy is weak, to bring budgets closer to a balance, thus reducing budget deficits. Countries are often advised to lower their corporate tax rate. In Globalization and Its Discontents, Joseph E. Stiglitz, former chief economist and senior vice- president at the World Bank, criticises these policies. He argues that by converting to a more monetarist approach, the purpose of the fund is no longer valid, as it was designed to provide funds for countries to carry out Keynesian reflations, and that the IMF "was not participating in a conspiracy, but it was reflecting the interests and ideology of the Western financial community. Stiglitz concludes, "Modern high-tech warfare is designed to remove physical contact: dropping bombs from 50,000 feet ensures that one does not 'feel' what one does. Modern economic management is similar: from one's luxury hotel, one can callously impose policies about which one would think twice if one knew the people whose lives one was destroying." The researchers Eric Toussaint and Damien Millet argue that the IMF 's policies amount to a new form of colonization that does not need a military presence: Following the exigencies of the governments of the richest companies, the IMF, permitted countries in crisis to borrow in order to avoid default on their repayments. Caught in the debt's downward spiral, developing countries soon had no other recourse than to take on new debt in order to repay the old debt. Before providing them with new loans, at higher interest rates, future leaders asked the IMF, to intervene with the guarantee of ulterior reimbursement, asking for a signed agreement with the said countries. The IMF thus agreed to restart the flow of the 'finance pump' on condition that the concerned countries first use this money to reimburse banks and other private lenders, while restructuring their economy at the IMF's discretion: these were the famous conditionalities, detailed in the Structural Adjustment Programs. The IMF and its ultra- liberal experts took control of the borrowing countries' economic policies. A new form of colonization was thus instituted. It was not even necessary to establish an administrative or military presence; the debt alone maintained this new form of submission." International politics play an important role in IMF decision making. The clout of member states is roughly proportional to its contribution to IMF finances. The United States has the greatest number of votes and therefore wields the most influence. Domestic politics often come into play, with politicians in developing countries using conditionality to gain leverage over the opposition to influence policy. World Bank: The World Bank is an international financial institution that provides loans and grants to the governments of poorer countries for the purpose of pursuing capital projects. It comprises two institutions: the International Bank for Reconstruction and Development (IBRD), and the International Development Association (IDA). The World Bank is a component of the World Bank Group. The World Bank's most recent stated goal is the reduction of poverty. As of November 2018, the largest recipients of World Bank loans were India ($859 million in 2018) and China ($370 million in 2018), through loans from IBRD.

The World Bank Group is an extended family of five international organizations, and the parent organization of the World Bank, the collective name given to the first two listed organizations, the IBRD and the IDA:

 International Bank for Reconstruction and Development (IBRD)  International Development Association (IDA)  International Finance Corporation (IFC)  Multilateral Investment Guarantee Agency (MIGA)  International Centre for Settlement of Investment Disputes (ICSID) Presidents:

Presidents of the World Bank

Name Dates Nationality Previous work

Eugene 1946– Newspaper publisher and Chairman of the Federal United States

Meyer 1946 Reserve

John J. 1947– United States Lawyer and US Assistant Secretary of War

McCloy 1949

Eugene R. 1949– United States Bank executive with Chase and executive director Black, Sr. 1963 with the World Bank

George 1963– United States Bank executive with First Boston Corporation

Woods 1968

President of the Ford Motor Company, US Defense Robert 1968– United States Secretary under presidents John F.

McNamara 1981 Kennedy and Lyndon B. Johnson

Alden W. 1981– United States Lawyer, bank executive with Bank of America

Clausen 1986

Barber 1986– United States New York State Senator and US Congressman

Conable 1991

Lewis T. 1991– United States Bank executive with J.P. Morgan

Preston 1995

James 1995– United States Wolfensohn was a naturalised American citizen

Wolfensohn 2005 Australia (prev.) before taking office. Corporate lawyer and banker

US Ambassador to Indonesia, US Deputy Secretary of Defense, Dean of the School of Advanced Paul 2005– International Studies (SAIS) at Johns Hopkins United States

Wolfowitz 2007 University, prominent architect of 2003 invasion of Iraq, resigned World Bank post due to ethics scandal[30]

Robert 2007– Deputy Secretary of State and US Trade United States

Zoellick 2012 Representative

Jim Yong 2012– United States Former Chair of the Department of Global Health Kim 2019 South and Social Medicine at Harvard, president Korea (prev.) of Dartmouth College, naturalized American citizen[31]

Former European Commissioner for the Budget and Kristalina 2017– Bulgaria Human Resources and 2010's "European of the

Georgieva 2019 Year"

David 2019– Under Secretary of the Treasury for International

United States

Malpass present Affairs

Chief Economists:

World Bank Chief Economists[

Name Dates Nationality

Hollis B. Chenery 1972–1982 United States

Anne Osborn Krueger 1982–1986 United States

Stanley Fischer 1988–1990 United States/Israel

Lawrence Summers 1991–1993 United States

Michael Bruno 1993–1996 Israel

Joseph E. Stiglitz 1997–2000 United States

Nicholas Stern 2000–2003 United Kingdom François Bourguignon 2003–2007 France

Justin Yifu Lin 2008–2012 China

Kaushik Basu 2012–2016 India

Shanta Devarajan 2016–2018 United States

Members: The International Bank for Reconstruction and Development (IBRD) has 189 member countries, while the International Development Association (IDA) has 173 members. Each member state of IBRD should also be a member of the International Monetary Fund (IMF) and only members of IBRD are allowed to join other institutions within the Bank (such as IDA). Voting power[edit] In 2010 voting powers at the World Bank were revised to increase the voice of developing countries, notably China. The countries with most voting power are now the United States (15.85%), Japan (6.84%), China (4.42%), Germany (4.00%), the United Kingdom (3.75%), France (3.75%), India (2.91%), Russia (2.77%), Saudi Arabia (2.77%) and Italy (2.64%). Under the changes, known as 'Voice Reform – Phase 2', countries other than China that saw significant gains included South Korea, Turkey, Mexico, Singapore, Greece, Brazil, India, and Spain. Most developed countries' voting power was reduced, along with a few developing countries such as Nigeria. The voting powers of the United States, Russia and Saudi Arabia were unchanged The changes were brought about with the goal of making voting more universal in regards to standards, rule-based with objective indicators, and transparent among other things. Now, developing countries have an increased voice in the "Pool Model", backed especially by Europe. Additionally, voting power is based on economic size in addition to International Development Association contributions.

List of 20 largest countries by voting power in each World Bank institution[edit] The following table shows the subscriptions of the top 20 member countries of the World Bank by voting power in the following World Bank institutions as of December 2014 or March 2015: the International Bank for Reconstruction and Development (IBRD), the International Finance Corporation (IFC), the International Development Association (IDA), and the Multilateral Investment Guarantee Agency (MIGA). Member countries are allocated votes at the time of membership and subsequently for additional subscriptions to capital (one vote for each share of capital stock held by the member). The 20 Largest Countries by Voting Power (Number of Votes)

Ran Countr Countr Countr Countr MIG

IBRD IFC IDA k y y y y A

2,201,7 2,653,4 24,682,9 218,23 World World World World 54 76 51 7

United United United 2,546,50 United 1 358,498 570,179 32,790 States States States 3 States

2,112,24 2 Japan 166,094 Japan 163,334 Japan Japan 9,205 3

United 1,510,93 3 China 107,244 Germany 129,708 Germany 9,162 Kingdom 4

1,368,00 4 Germany 97,224 France 121,815 Germany France 8,791 1

United United 5 France 87,241 121,815 France 908,843 8,791 Kingdom Kingdom

United Saudi 6 87,241 India 103,747 810,293 China 5,756 Kingdom Arabia

7 India 67,690 Russia 103,653 India 661,909 Russia 5,754

Saudi Saudi 8 67,155 Canada 82,142 Canada 629,658 5,754 Arabia Arabia The 20 Largest Countries by Voting Power (Number of Votes)

Ran Countr Countr Countr Countr MIG

IBRD IFC IDA k y y y y A

9 Canada 59,004 Italy 82,142 Italy 573,858 India 5,597

10 Italy 54,877 China 62,392 China 521,830 Canada 5,451

Netherlan 11 Russia 54,651 56,931 Poland 498,102 Italy 5,196 ds

Netherlan 12 Spain 42,948 Belgium 51,410 Sweden 494,360 4,048 ds

Netherlan 13 Brazil 42,613 Australia 48,129 488,209 Belgium 3,803 ds

Netherlan Switzerla 14 42,348 44,863 Brazil 412,322 Australia 3,245 ds nd

Switzerla 15 Korea 36,591 Brazil 40,279 Australia 312,566 2,869 nd

Switzerla 16 Belgium 36,463 Mexico 38,929 275,755 Brazil 2,832 nd

17 Iran 34,718 Spain 37,826 Belgium 275,474 Spain 2,491 The 20 Largest Countries by Voting Power (Number of Votes)

Ran Countr Countr Countr Countr MIG

IBRD IFC IDA k y y y y A

Switzerla 18 33,296 Indonesia 32,402 Norway 258,209 Argentina 2,436 nd

Saudi 19 Australia 30,910 30,862 Denmark 231,685 Indonesia 2,075 Arabia

20 Turkey 26,293 Korea 28,895 Pakistan 218,506 Sweden 2,075

Poverty reduction strategies For the poorest developing countries in the world, the bank's assistance plans are based on poverty reduction strategies; by combining an analysis of local groups with an analysis of the country's financial and economic situation the World Bank develops a plan pertaining to the country in question. The government then identifies the country's priorities and targets for the reduction of poverty, and the World Bank instigates its aid efforts correspondingly. Forty-five countries pledged US$25.1 billion in "aid for the world's poorest countries", aid that goes to the World Bank International Development Association (IDA), which distributes the loans to eighty poorer countries. Wealthier nations sometimes fund their own aid projects, including those for diseases. Robert B. Zoellick, the former president of the World Bank, said when the loans were announced on 15 December 2007, that IDA money "is the core funding that the poorest developing countries rely on". World Bank organizes the Development Marketplace Awards, a grant program that surfaces and funds development projects with potential for development impact that are scalable and/or replicable. The grant beneficiaries are social enterprises with projects that aim to deliver social and public services to groups with lowest incomes. Asian Developmen Bank (ADB). The Asian Development Bank (ADB) is a regional development bank established on 19 December 1966,[4] which is headquartered in the Ortigas Center located in the city of Mandaluyong, Metro Manila, Philippines. The company also maintains 31 field offices around the world to promote social and economic development in Asia. The bank admits the members of the United Nations Economic and Social Commission for Asia and the Pacific (UNESCAP, formerly the Economic Commission for Asia and the Far East or ECAFE) and non- regional developed countries.From 31 members at its establishment, ADB now has 68 members. The ADB was modeled closely on the World Bank, and has a similar weighted voting system where votes are distributed in proportion with members' capital subscriptions. ADB releases an annual report that summarizes its operations, budget and other materials for review by the public. The ADB-Japan Scholarship Program (ADB-JSP) enrolls about 300 students annually in academic institutions located in 10 countries within the Region. Upon completion of their study programs, scholars are expected to contribute to the economic and social development of their home countries.[8] ADB is an official United Nations Observer. As of 31 December 2016, Japan holds the largest proportion of shares at 15.677%, closely followed by United States with 15.567% capital share. China holds 6.473%, India holds 6.359%, and Australia holds 5.812%.[ The highest policy-making body of the bank is the Board of Governors, composed of one representative from each member state. The Board of Governors, in turn, elect among themselves the twelve members of the Board of Directors and their deputies. Eight of the twelve members come from regional (Asia-Pacific) members while the others come from non-regional members. The Board of Governors also elect the bank's president, who is the chairperson of the Board of Directors and manages ADB. The president has a term of office lasting five years, and may be reelected. Traditionally, and because Japan is one of the largest shareholders of the bank, the president has always been Japanese. The current president is Masatsugu Asakawa. He succeeded Takehiko Nakao on 17 January 2020[12], who succeeded Haruhiko Kuroda in 2013.. The headquarters of the bank is at 6 ADB Avenue, Mandaluyong, Metro Manila, Philippines,. and it has 31 field offices in Asia and the Pacific and representative offices in Washington, Frankfurt, Tokyo and Sydney. The bank employs about 3,000 people, representing 60 of its 67 members.. List of presidents:

Name Dates Nationality

Takeshi Watanabe 1966–1972 Japanese

Shiro Inoue 1972–1976 Japanese

Taroichi Yoshida 1976–1981 Japanese

Masao Fujioka 1981–1989 Japanese Kimimasa Tarumizu 1989–1993 Japanese

Mitsuo Sato 1993–1999 Japanese

Tadao Chino 1999–2005 Japanese

Haruhiko Kuroda 2005–2013 Japanese

Takehiko Nakao 2013–2020 Japanese

Masatsugu Asakawa (*) 2020-present Japanese

(*) As from 17 January 2020, Masatsugu Asakawa was president of ADB.

History: 1960s: As early as 1956, Japan Finance Minister Hisato Ichimada had suggested to United States Secretary of State John Foster Dulles that development projects in Southeast Asia could be supported by a new financial institution for the region. A year later, Japanese Prime Minister Nobusuke Kishi announced that Japan intended to sponsor the establishment of a regional development fund with resources largely from Japan and other industrial countries. But the US did not warm to the plan and the concept was shelved. See full account in "Banking on the Future of Asia and the Pacific: 50 Years of the Asian Development Bank," July 2017. The idea came up again late in 1962 when Kaoru Ohashi, an economist from a research institute in Tokyo, visited Takeshi Watanabe, then a private financial consultant in Tokyo, and proposed a study group to form a development bank for the Asian region. The group met regularly in 1963, examining various scenarios for setting up a new institution and drew on Watanabe's experiences with the World Bank. However, the idea received a cool reception from the World Bank itself and the study group became discouraged. In parallel, the concept was formally proposed at a trade conference organized by the Economic Commission for Asia and the Far East (ECAFE) in 1963 by a young Thai economist, Paul Sithi- Amnuai. (ESCAP, United Nations Publication March 2007, "The first parliament of Asia" pp. 65). Despite an initial mixed reaction, support for the establishment of a new bank soon grew. An expert group was convened to study the idea, with Japan invited to contribute to the group. When Watanabe was recommended, the two streams proposing a new bank—from ECAFE and Japan—came together. Initially, the US was on the fence, not opposing the idea but not ready to commit financial support. But a new bank for Asia was soon seen to fit in with a broader program of assistance to Asia planned by U.S. President Lyndon B. Johnson in the wake of the escalating US military support for the government of South Vietnam. As a key player in the concept, Japan hoped that the ADB offices would be in Tokyo. However, eight other cities had also expressed an interest—Bangkok, Colombo, Kabul, Kuala Lumpur, Manila, Phnom Penh, Singapore, and Tehran. To decide, the 18 prospective regional members of the new bank held three rounds of votes at a ministerial conference in Manila in November/December 1965. In the first round on 30 November, Tokyo failed to win a majority, so a second ballot was held the next day at noon. Although Japan was in the lead, it was still inconclusive, so a final vote was held after lunch. In the third poll, Tokyo gained eight votes to Manila's nine, with one abstention. Therefore, Manila was declared the host of the new development bank. The Japanese were mystified and deeply disappointed. Watanabe later wrote in his personal history of ADB: "I felt as if the child I had so carefully reared had been taken away to a distant country." (Asian Development Bank publication, "Towards a New Asia", 1977, p. 16) As intensive work took place during 1966 to prepare for the opening of the new bank in Manila, high on the agenda was choice of president. Japanese Prime Minister Eisaku Satō asked Watanabe to be a candidate. Although he initially declined, pressure came from other countries and Watanabe agreed. In the absence of any other candidates, Watanabe was elected first President of the Asian Development Bank at its Inaugural Meeting on 24 November 1966. By the end of 1972, Japan had contributed $173.7 million (22.6% of the total) to the ordinary capital resources and $122.6 million (59.6% of the total) to the special funds. In contrast, the United States contributed only $1.25 million to the special fund.[ After its creation in the 1960s, ADB focused much of its assistance on food production and rural development. At the time, Asia was one of the poorest regions in the world. Early loans went largely to Indonesia, Thailand, Malaysia, South Korea and the Philippines; these nations accounted for 78.48% of the total ADB loans between 1967 and 1972. Moreover, Japan received tangible benefits, 41.67% of the total procurements between 1967 and 1976. Japan tied its special funds contributions to its preferred sectors and regions and procurements of its goods and services, as reflected in its $100 million donation for the Agricultural Special Fund in April 1968. Watanabe served as the first ADB president to 1972. 1970s–1980s: In the 1970s, ADB's assistance to developing countries in Asia expanded into education and health, and then to infrastructure and industry. The gradual emergence of Asian economies in the latter part of the decade spurred demand for better infrastructure to support economic growth. ADB focused on improving roads and providing electricity. When the world suffered its first oil price shock, ADB shifted more of its assistance to support energy projects, especially those promoting the development of domestic energy sources in member countries. Following considerable pressure from the Reagan Administration in the 1980s, ADB reluctantly began working with the private sector in an attempt to increase the impact of its development assistance to poor countries in Asia and the Pacific. In the wake of the second oil crisis, ADB expanded its assistance to energy projects. In 1982, ADB opened its first field office, in Bangladesh, and later in the decade it expanded its work with non-government organizations (NGOs). Japanese presidents Inoue Shiro (1972–76) and Yoshida Taroichi (1976–81) took the spotlight in the 1970s. Fujioka Masao, the fourth president (1981–90), adopted an assertive leadership style, launching an ambitious plan to expand the ADB into a high-impact development agency. 1990s: In the 1990s, ADB began promoting regional cooperation by helping the countries on the Mekong River to trade and work together. The decade also saw an expansion of ADB's membership with the addition of several Central Asian countries following the end of the Cold War.[18] In mid-1997, ADB responded to the financial crisis that hit the region with projects designed to strengthen financial sectors and create social safety nets for the poor. During the crisis, ADB approved its largest single loan – a $4 billion emergency loan to the South Korea. In 1999, ADB adopted poverty reduction as its overarching goal.[18] 2000s: The early years of 2000s saw a dramatic expansion of private sector finance. While the institution had such operations since the 1980s (under pressure from the Reagan Administration) the early attempts were highly unsuccessful with low lending volumes, considerable losses and financial scandals associated with an entity named AFIC. However, beginning in 2002, the ADB undertook a dramatic expansion of private sector lending under a new team. Over the course of the next six years, the Private Sector Operations Department (PSOD) grew by a factor of 41 times the 2001 levels of new financings and earnings for the ADB. This culminated with the Board's formal recognition if these achievements in March 2008, when the Board of Directors formally adopted the Long Term Strategic Framework (LTSF). That document formally stated that assistance to private sector development was the lead priority of the ADB and that it should constitute 50% of the bank's lending by 2020. In 2003, the severe acute respiratory syndrome (SARS) epidemic hit the region and ADB responded with programs to help the countries in the region work together to address infectious diseases, including avian influenza and HIV/AIDS. ADB also responded to a multitude of natural disasters in the region, committing more than $850 million for recovery in areas of India, Indonesia, Maldives, and Sri Lanka which were impacted by the December 2004 Asian tsunami. In addition, $1 billion in loans and grants was provided to the victims of the October 2005 earthquake in Pakistan.[18] In 2009, ADB's Board of Governors agreed to triple ADB's capital base from $55 billion to $165 billion, giving it much-needed resources to respond to the global economic crisis. The 200% increase is the largest in ADB's history, and was the first since 1994.[18] 2010s: Asia moved beyond the economic crisis and by 2010 had emerged as a new engine of global economic growth though it remained home to two-thirds of the world's poor. In addition, the increasing prosperity of many people in the region created a widening income gap that left many people behind. ADB responded to this with loans and grants that encouraged economic growth. In early 2012, the ADB began to re-engage with Myanmar in response to reforms initiated by the government. In April 2014, ADB opened an office in Myanmar and resumed making loans and grants to the country.. In 2017, ADB combined the lending operations of its Asian Development Fund (ADF) with its ordinary capital resources (OCR). The result was to expand the OCR balance sheet to permit increasing annual lending and grants to $20 billion by 2020 — 50% more than the previous level.

Objectives and activities: Aim: The ADB defines itself as a social development organization that is dedicated to reducing poverty in Asia and the Pacific through inclusive economic growth, environmentally sustainable growth, and regional integration. This is carried out through investments – in the form of loans, grants and information sharing – in infrastructure, health care services, financial and public administration systems, helping nations prepare for the impact of climate change or better manage their natural resources, as well as other areas. Focus areas: Eighty percent of ADB's lending is concentrated public sector lending in five operational areas.

 Education – Most developing countries in Asia and the Pacific have earned high marks for a dramatic rise in primary education enrollment rates in the last three decades, but daunting challenges remain, threatening economic and social growth.  Environment, Climate Change, and Disaster Risk Management – Environmental sustainability is a prerequisite for economic growth and poverty reduction in Asia and the Pacific.  Finance Sector Development – The financial system is the lifeline of a country's economy. It creates prosperity that can be shared throughout society and benefit the poorest and most vulnerable people. Financial sector and capital market development, including microfinance, small and medium-sized enterprises, and regulatory reforms, is vital to decreasing poverty in Asia and the Pacific.This has been a key priority of the Private Sector Operations Department (PSOD)since 2002. One of the most active sub-sectors of finance is the PSOD's support for trade finance. Each year the PSOD finances billions of dollars in letters of credit across all of Asia and the rest of the world.  Infrastructure, including transport and communications, energy, water supply and sanitation, and urban development.  Regional Cooperation and Integration – Regional cooperation and integration (RCI) was introduced by President Kuroda when he joined the ADB in 2004. It was seen as a long- standing priority of the Japanese government as a process by which national economies become more regionally connected. It plays a critical role in accelerating economic growth, reducing poverty and economic disparity, raising productivity and employment, and strengthening institutions.[  Private Sector Lending – This priority was introduced into the ADB's activities at the insistence of the Reagan Administration. However, that effort was never a true priority until the administration of President Tadeo Chino who in turn brought in a seasoned American banker – Robert Bestani. From then on, the Private Sector Operations Department (PSOD) grew at a very rapid pace, growing from the smallest financing unit of the ADB to the largest in terms of financing volume. As noted earlier, this culminated in the Long Term Strategic Framework (LTSF) which was adopted by the Board in March 2008.

Financings: The ADB offers "hard" loans on commercial terms primarily to middle income countries in Asia and "soft" loans with lower interest rates to poorer countries in the region. Based on a new policy, both types of loans will be sourced starting January 2017 from the bank's ordinary capital resources (OCR), which functions as its general operational fund The ADB's Private Sector Department (PSOD) can and does offer a broader range of financings beyond commercial loans. They also have the capability to provide guarantees, equity and mezzanine finance (a combination of debt and equity). In 2017, ADB lent $19.1 billion of which $3.2 billion went to private enterprises, as part of its "nonsovereign" operations. ADB's operations in 2017, including grants and cofinancing, totaled $28.9 billion ADB obtains its funding by issuing bonds on the world's capital markets. It also relies on the contributions of member countries, retained earnings from lending operations, and the repayment of loans.

Five largest borrowing countries

2018 2017 2016 2015 Country $ million % $ million % $ million % $ million %

China 17,015 16.6 16,284 16.9 15,615 24.8 14,646 25.2

India 16,115 15.7 14,720 15.2 13,331 21.2 12,916 22.2

Pakistan 10,818 10.6 10,975 11.4 4,570 7.3 4,319 7.4

Indonesia 10,356 10.1 9,393 9.7 8,700 13.8 8,214 14.1 Five largest borrowing countries

2018 2017 2016 2015 Country $ million % $ million % $ million % $ million %

Bangladesh 9,169 8.9 8,685 9.0 - - - -

Philippines - - - - 5,935 9.4 5,525 9.5

Others 38,998 38.1 36,519 37.8 14,831 23.5 12,486 21.6

Total 102,470 100.0 96,577 100.0 62,983 100.0 58,106 100.0

Private sector investments: ADB provides direct financial assistance, in the form of debt, equity and mezzanine finance to private sector companies, for projects that have clear social benefits beyond the financial rate of return. ADB's participation is usually limited but it leverages a large amount of funds from commercial sources to finance these projects by holding no more than 25% of any given transaction.

Cofinancing: ADB partners with other development organizations on some projects to increase the amount of funding available. In 2014, $9.2 billion—or nearly half—of ADB's $22.9 billion in operations were financed by other organizations. According to Jason Rush, Principal Communication Specialist, the Bank communicates with many other multilateral organizations.

Funds and resources: More than 50 financing partnership facilities, trust funds, and other funds – totalling several billion each year – are administered by ADB and put toward projects that promote social and economic development in Asia and the Pacific. ADB has raised Rs 5 billion or around Rs 500 crores from its issuance of 5-year offshore Indian rupee (INR) linked bonds. On 26 Feb 2020, ADB raises $118 million from rupee-linked bonds and supporting the development of India International Exchange in India, as it also contributes to an established yield curve which stretches from 2021 through 2030 with $1 billion of outstanding bonds.[ BRICS: BRICS is the acronym coined for an association of five major emerging national economies: Brazil, Russia, India, China and South Africa. Originally the first four were grouped as "BRIC" (or "the BRICs"), before the induction of South Africa in 2010. The BRICS members are known for their significant influence on regional affairs; all are members of G20. Since 2009, the BRICS nations have met annually at formal summits. China hosted the 9th BRICS summit in Xiamen on September 2017,] while Brazil hosted the most recent 11th BRICS summit on 13-14 November 2019. In 2015, the five BRICS countries represented over 3.1 billion people, or about 41% of the world population; four out of five members (excluding South Africa at #24) were in the top 10 of the world by population. As of 2018, these five nations had a combined nominal GDP of US$18.6 trillion, about 23.2% of the gross world product, a combined GDP (PPP) of around US$40.55 trillion (32% of World's GDP PPP), and an estimated US$4.46 trillion in combined foreign reserves. The BRICS have received both praise and criticism from numerous commentators. Bilateral relations among BRICS nations are conducted mainly on the basis of non-interference, equality, and mutual benefit he term "BRIC" is believed to be coined in 2001 by then-chairman of Goldman Sachs Asset Management, Jim O'Neill, in his publication Building Better Global Economic BRICs.[10]. But, it was actually coined by Roopa Purushothaman who was a Research Assistant in the original report.[11] The foreign ministers of the initial four BRIC General states (Brazil, Russia, India, and China) met in New York City in September 2006 at the margins of the General Debate of the UN Assembly, beginning a series of high-level meetings.[12] A full-scale diplomatic meeting was held in Yekaterinburg, Russia, on 16 June 2009.[13] First BRIC summit[edit]

The BRIC grouping's first formal summit, also held in Yekaterinburg, commenced on 16 June 2009,[14] with Luiz Inácio Lula da Silva, Dmitry Medvedev, Manmohan Singh, and Hu Jintao, the respective leaders of Brazil, Russia, India and China, all attending.[15] The summit's focus was on means of improving the global economic situation and reforming financial institutions, and discussed how the four countries could better co-operate in the future.[14][15] There was further discussion of ways that developing countries, such as 3/4 of the BRIC members, could become more involved in global affairs.[15] In the aftermath of the Yekaterinburg summit, the BRIC nations announced the need for a new global reserve currency, which would have to be "diverse, stable and predictable".[16] Although the statement that was released did not directly criticise the perceived "dominance" of the US dollar – something that Russia had criticised in the past – it did spark a fall in the value of the dollar against other major currencies.[17] Entry of South Africa[edit]

In 2010, South Africa began efforts to join the BRIC grouping, and the process for its formal admission began in August of that year.[18] South Africa officially became a member nation on 24 December 2010, after being formally invited by China to join[19] and subsequently accepted by other BRIC countries.[18] The group was renamed BRICS – with the "S" standing for South Africa – to reflect the group's expanded membership.[20] In April 2011, the President of South Africa, Jacob Zuma, attended the 2011 BRICS summit in Sanya, China, as a full member.[21][22][23] Developments[edit]

The BRICS leaders in 2019. Left to right: Xi, Putin, Bolsonaro, Modi, and Ramaphosa.

The BRICS Forum, an independent international organisation encouraging commercial, political and cultural cooperation between the BRICS nations, was formed in 2011.[24] In June 2012, the BRICS nations pledged $75 billion to boost the lending power of the International Monetary Fund (IMF). However, this loan was conditional on IMF voting reforms.[25] In late March 2013, during the fifth BRICS summit in Durban, South Africa, the member countries agreed to create a global financial institution which they intended to rival the western-dominated IMF and World Bank.[26] After the summit, the BRICS stated that they planned to finalise the arrangements for this New Development Bank by 2014.[27] However, disputes relating to burden sharing and location slowed down the agreements. At the BRICS leaders meeting in St Petersburg in September 2013, China committed $41 billion towards the pool; Brazil, India and Russia $18 billion each; and South Africa $5 billion. China, holder of the world's largest foreign exchange reserves and who is to contribute the bulk of the currency pool, wants a greater managing role, said one BRICS official. China also wants to be the location of the reserve. "Brazil and India want the initial capital to be shared equally. We know that China wants more," said a Brazilian official. "However, we are still negotiating, there are no tensions arising yet."[28] On 11 October 2013, Russia's Finance Minister Anton Siluanov said that a decision on creating a $100 billion fund designated to steady currency markets would be taken in early 2014. The Brazilian finance minister, Guido Mantega stated that the fund would be created by March 2014.[29] However, by April 2014, the currency reserve pool and development bank had yet to be set up, and the date was rescheduled to 2015.[30] One driver for the BRICS development bank is that the existing institutions primarily benefit extra-BRICS corporations, and the political significance is notable because it allows BRICS member states "to promote their interests abroad... and can highlight the strengthening positions of countries whose opinion is frequently ignored by their developed American and European colleagues." In March 2014, at a meeting on the margins of the Nuclear Security Summit in The Hague, the BRICS Foreign Ministers issued a communique that "noted with concern, the recent media statement on the forthcoming G20 Summit to be held in Brisbane in November 2014. The custodianship of the G20 belongs to all Member States equally and no one Member State can unilaterally determine its nature and character." In light of the tensions surrounding the 2014 Crimean crisis, the Ministers remarked that "The escalation of hostile language, sanctions and counter-sanctions, and force does not contribute to a sustainable and peaceful solution, according to international law, including the principles and purposes of the United Nations Charter."[31] This was in response to the statement of Australian Foreign Minister Julie Bishop, who had said earlier that Russian President Vladimir Putin might be barred from attending the G20 Summit in Brisbane.[32]

BRICS Tower headquarters (former Oriental Financial Centre) in Shanghai.

In July 2014, the Governor of the Russian Central Bank, Elvira Nabiullina, claimed that the "BRICS partners the establishment of a system of multilateral swaps that will allow to transfer resources to one or another country, if needed" in an article which concluded that "If the current trend continues, soon the dollar will be abandoned by most of the significant global economies and it will be kicked out of the global trade finance."[33] Over the weekend of 13 July 2014, when the final game of the FIFA World Cup was held, and in advance of the BRICS Fortaleza summit, Putin met fellow leader Dilma Rousseff to discuss the BRICS development bank, and sign some other bilateral accords on air defence, gas and education. Rouseff said that the BRICS countries "are among the largest in the world and cannot content themselves in the middle of the 21st century with any kind of dependency."[34] The Fortaleza summit was followed by a BRICS meeting with the Union of South American Nations president's in Brasilia, where the development bank and the monetary fund were introduced.[35] The development bank will have capital of US$50 billion with each country contributing US$10 billion, while the monetary fund will have US$100 billion at its disposal.[35] On 15 July, the first day of the BRICS 6th summit in Fortaleza, Brazil, the group of emerging economies signed the long-anticipated document to create the US$100 billion New Development Bank (formerly known as the "BRICS Development Bank") and a reserve currency pool worth over another US$100 billion. Documents on cooperation between BRICS export credit agencies and an agreement of cooperation on innovation were also inked.[36] At the end of October 2014, Brazil trimmed down its US government holdings to US$261.7 billion; India, US$77.5 billion; China, US$1.25 trillion; South Africa, US$10.3 billion.[37] In March 2015, Morgan Stanley stated that India and Indonesia had escaped from the 'fragile five' (the five major emerging markets with the most fragile currencies) by instituting economic reforms. Previously, in August 2013, Morgan Stanley rated India and Indonesia, together with Brazil, Turkey and South Africa, as the 'fragile five' due to their vulnerable currencies. But since then, India and Indonesia have reformed their economies, completing 85% and 65% of the necessary adjustments respectively, while Brazil had only achieved 15%, Turkey only 10%, and South Africa even less.[38] After the 2015 summit, the respective communications ministers, under a Russian proposal, had a first summit for their ministries in Moscow in October where the host minister, Nikolai Nikiforov, proposed an initiative to further tighten their information technology sectors and challenge the monopoly of the United States in the sector.[39] Since 2012, the BRICS group of countries have been planning an optical fibre submarine communications cable system to carry telecommunications between the BRICS countries, known as the BRICS Cable.[40] Part of the motivation for the project was the spying of the National Security Agency on all telecommunications that flowed across the US.[41][42] In August 2019, the communications ministers of the BRICS countries signed a letter of intent to cooperate in the Information and Communication Technology sector. This agreement was signed in the fifth edition of meeting of communication ministers of countries member of the group.[43] The agreement was signed at the fifth meeting of BRICS communications minister held in Brasilia.

BRICS:

BRICS is the acronym coined for an association of five major emerging national economies: Brazil, Russia, India, China and South Africa. Originally the first four were grouped as "BRIC" (or "the BRICs"), before the induction of South Africa in 2010. The BRICS members are known for their significant influence on regional affairs; all are members of G20. Since 2009, the BRICS nations have met annually at formal summits. China hosted the 9th BRICS summit in Xiamen on September 2017, while Brazil hosted the most recent 11th BRICS summit on 13-14 November 2019. In 2015, the five BRICS countries represented over 3.1 billion people, or about 41% of the world population; four out of five members (excluding South Africa at #24) were in the top 10 of the world by population. As of 2018, these five nations had a combined nominal GDP of US$18.6 trillion, about 23.2% of the gross world product, a combined GDP (PPP) of around US$40.55 trillion (32% of World's GDP PPP), and an estimated US$4.46 trillion in combined foreign reserves. The BRICS have received both praise and criticism from numerous commentators. Bilateral relations among BRICS nations are conducted mainly on the basis of non-interference, equality, and mutual benefit

Summits The grouping has held annual summits since 2009, with member countries taking turns to host. Prior to South Africa's admission, two BRIC summits were held, in 2009 and 2010. The first five-member BRICS summit was held in 2011. The most recent BRICS summit took place in Brazil from 13 to 14 November 2019

Sr. Host Date(s) Host leader Location Notes No. country

Dmitry Yekaterinburg (Sevastianov's

1st 16 June 2009

Russia Medvedev House)

Guests: Jacob Zuma (President of South Africa) and Riyad al- Luiz Inácio

2nd 15 April 2010 Brasília (Itamaraty Palace) Maliki (Foreign Minister of the Palestinian National

Brazil Lula da Silva Authority)

First summit to include South Africa alongside the

3rd 14 April 2011 Hu Jintao Sanya (Sheraton Sanya Resort) China original BRIC countries.

4th New Delhi (Taj Mahal Hotel) The BRICS Cable announced an optical fibre submarine 29 March Manmohan communications cable system that carries 2012 India Singh telecommunications between the BRICS countries.

26–27 March

5th South Jacob Zuma Durban (Durban ICC) 2013 Africa

BRICS New Development Bank and BRICS Contingent 14–17 July Fortaleza (Centro de Eventos do Reserve Arrangement agreements signed.

6th Dilma Rousseff 2014 Brazil Ceará)[45] Guest: Leaders of Union of South American Nations (UNASUR)[46][47]

[48] 7th 8–9 July 2015 Vladimir Putin Ufa (Congress Hall) Joint summit with SCO-EAEU Russia

15–16 Narendra

8th Benaulim (Taj Exotica) Joint summit with BIMSTEC

October 2016 India Modi

3–5 Xiamen (Xiamen International

9th September Xi Jinping Joint summit with EMDCD China Conference Center) 2017

25–27 July Cyril Johannesburg (Sandton

10th South

2018 Ramaphosa Convention Centre) Africa

13–14 [44] 11th November Jair Bolsonaro Brasília (Itamaraty Palace) Brazil 2019

[49]

12th July 2020 Vladimir Putin Saint Petersburg Joint summit with SCO Russia Member countries[edit]

G For No PP No D Pop PPP eig m. P m. P ulati GD n GD GD GD gr P Gov on P Exc P b P b per o Lit Life (in per han HF ern Co il. il. capi wt Ex Imp era expect HDI Tho capi ge CE men un US US ta U h por ort cy ancy (y (201 usa ta U Res (20 t [55] [56] [59] try D D SD (2 ts s rat ears, 8)

SD 17) spen nds) (202 erv [57] [58] (20 (20 (202 01 e avg.) (201 0 es ding 20 20 0 8 8)[50][5 est.) (20 est est est.) [52] 1] es [5 [52] [52] [52] [ 18) .) .) t.) 4] 53]

$379, $1,30 1,89 3,59 17,01 444 $846.6 $217. $151. 91.7 0.761 Bra 210,86 8,956 1.0 3,885 75.1 3 7 6 millio bn 2 bn 9 bn % (high) zil 7.954 % bn n

$460, $826, 0.824 1,65 4,51 11,30 30,82 300 $414.0 $336. $212. 99.7 Rus 143,96 1.6 390 72.7 (very 8 9 5 0 millio bn 8 bn 7 bn % sia 4.709 % bn high) n

$401, $1,52 0.647 1,367, 3,20 12,3 790 $616.0 $303. $426. 72.1 Indi 2,338 9,027 7.1 8,691 68.8 (mediu 089.87 2 63 millio bn 4 bn 8 bn % a % bn m) 9 n

$3,10 $4,69 $2,15 $1,73 1,415, 15,2 29,4 10,87 20,98 9,700 $2,031 96.4 0.758 Chi 6.7 7,723 7.0 1.0 76.4 045.92 70 71 3 4 millio .0 bn % (high) na % bn bn bn 8 n

$50,7 Sou $207, 13,96 22 $95.27 $78.2 $80.2 94.3 0.705 th 57,398 370 834 6,193 1.4 648 63.6 5 millio bn 5 bn 2 bn % (high) Afric .421 % bn n a

$1,00 $1,71 0.739 Aver 3,65 8,11 19,04 3.970 $800.5 $562. $446. 627,06 7,422 3.5 2,867 93% 71.2 (high) age 3.7 9.9 1 millio 74 bn 94 bn 68 bn 0.914 % bn n