US–China Trade War and Indonesian Textiles (Pre-A CSQ Push)

Case

Question 2: US–China Trade War — what’s in it for Asian economies?

Figure 1: Growth in real gross domestic product (% change per annum) — for China, US, Singapore and other economies, 1998–2016. Singapore exhibits the greatest variation in its growth rate; the US recorded negative growth from 2008 to 2010, while China grew positively throughout.

Source: World Bank

Table 2: Components of GDP in selected economies, 2017

	Consumption Expenditure (% of GDP)	Government Consumption Expenditure (% of GDP)	Exports of goods and services (% of GDP)	Imports of goods and services (% of GDP)
China	52.6	14.3	19.8	18.0
Singapore	46.5	10.9	173.3	149.1
US	82.4	14.0	12.1	15.0
Vietnam	74.5	6.5	101.6	98.8

Source: World Bank

Extract 5: Jobless claims fall to the lowest in nearly 49 years

The number of Americans filing for unemployment benefits unexpectedly fell last week, hitting near a 49-year low in a sign the job market remains strong. Initial claims for state unemployment benefits fell by 3,000 to a seasonally adjusted level of 201,000, the Labour Department said on Thursday.

Though there have been reports of some companies either planning job cuts or laying off workers because of trade tensions between the United States and its major trade partners, they have been partially offset by increased hiring in the steel industry, where tariffs on imported steel have been imposed. Economists, however, have warned of job losses if the trade tensions escalate.

Source: CNBC News, 15 September 2018

Extract 6: Understanding US trade imbalances

Labour-intensive mass production technology used to be profitable in the US, but technological improvements and rising labour productivity (and hence real wages) induce firms to adopt capital-intensive production technologies to save on labour costs. However, instead of going out of business, firms with labour-intensive technologies can move abroad where labour is still cheap, such as China and India.

Although the total US goods trade imbalance with Asia (including China) has been increasing, the Asian share of the US goods trade imbalance as a whole has been steadily declining since 1991, now standing at around 65 percent, despite China’s rise as the largest supplier of goods to the US. In other words, the rise of China since the late 1980s — especially after joining the WTO in 2001 — has not increased the total share of Asia’s contribution to the US trade imbalance; China simply substituted out other Asian economies by taking their positions. Given this perspective, a trade war with China may not necessarily solve the US trade imbalance problem.

Source: Federal Reserve Bank of St. Louis / NBC News, 9 October 2018

Extract 2: Indonesia set to rank among world’s five largest textile producers

Industry Minister Airlangga Hartarto said Indonesia is set to break into the rank of the five largest textile producers in a highly competitive global textile market. In tandem with steady global economic growth over recent years, the government has pushed for the expansion of the textile and textile products (TPT) industry, which could contribute more to the economy especially as it is labour intensive and export oriented.

Meanwhile, a number of strategic steps have been prepared so that the country’s TPT industry could enter the digital era in line with the industry roadmap known as ‘Making Indonesia 4.0’. The Industry Ministry is set to jack up the capacity of the upstream sector to promote synthetic fibre production, as well as encourage utilisation of digital technology such as 3D printing and automation to facilitate textile production processes.

Source: Antara News, 6 September 2018

Extract 3: An urgent need for environmental education and training

The Indonesian government has acknowledged that the level of environmental knowledge and awareness among the population is low. It has made serious commitments to the provision of environmental education and training, which allows individuals and firms to explore environmental issues, engage in problem solving, and take action to improve the environment. As a result, individuals and firms develop a deeper understanding of environmental issues and have the skills to make informed and responsible decisions.

Indonesia joined the UN’s Decade of Education for Sustainable Development (UNDESD 2005–2014), which recommended that sustainability be embedded across the curriculum. In an effort to ensure the ideal level of consumption in the market for environmental education and training, the government has also made legal commitments to implement free provision of environmental education in schools, as well as green technical and vocational training courses at polytechnics as a policy push towards skills development for green jobs.

Sources: Various

Questions

(a)(i) With reference to Figure 1, identify the economy with the greatest variation in its growth rate. [1]

(a)(ii) With reference to Figure 1, identify two differences in the growth rates between China and the US. [2]

(b) Using Table 2 and Extract 6, identify the balance of trade position of the US in 2017 and explain one reason for this position. [3]

(c) Explain how unemployment benefits could help dampen the effects on an economy during an economic downturn. [2]

(d) Evaluate the usefulness of Table 2 in comparing the size of the multiplier between the US and Vietnam. [4]

(e) Using an elasticity concept, explain how textile firms’ successful marketing strategies could significantly boost their sales volume. [4]

(f) With the aid of a diagram, explain two reasons why the Indonesian government is committed to “achieving the ideal level of consumption in the market for environmental education and training” (Extract 3). [6]

[Total: 22 marks] (Question 2: 12 marks; textiles section: 10 marks.)

Answers

(a)(i) Identify — [1]

Singapore.

(a)(ii) Identify — [2]

China had a consistently higher growth rate than the US between 1998 and 2016. China experienced positive growth over the whole period, whereas the US experienced negative growth from 2008 to 2010. [1m each, any valid difference]

(b) Identify and explain — [3]

The US had a balance of trade deficit in 2017 (imports 15.0% of GDP exceed exports 12.1%). [1m] Per Extract 6, rising US wages push firms to “move abroad” to save on labour costs — they are offshoring operations to cheaper-labour countries. [1m] Operating abroad raises US import expenditure (M), since the firms pay for foreign factors of production, worsening the balance of trade, ceteris paribus. [1m]

(c) Explain — [2]

During a recession, unemployment benefits (transfer payments or tax rebates) raise the disposable income of low-income households. [1m] This dampens the fall in purchasing power and consumption (C), softening the fall in aggregate demand and national income and so reducing the depth of negative actual growth. [1m]

(d) Evaluate — [4]

The relevant theory is the multiplier, whose size depends on the marginal propensity to consume (MPC) and the marginal propensity to import (MPM).

Useful:

• Vietnam has a smaller consumption expenditure as a % of GDP than the US, suggesting a smaller MPC; since the multiplier rises with MPC, Vietnam likely has a smaller multiplier.

• Vietnam has a larger import expenditure as a % of GDP than the US, suggesting a larger MPM; since the multiplier falls as MPM rises, Vietnam likely has a smaller multiplier.

Not useful:

• Consumption expenditure as a % of GDP is only a proxy for MPC and may be inaccurate (it is an average ratio, not a marginal propensity).

• Given the difference in economy size and data infrastructure — Vietnam has far more rural areas where data may be incomplete — the figures may not be reliable.

Mark scheme — any four valid bullet points (4m). A one-sided response is capped at 3m; three “useful” plus one “not useful” is acceptable.

(e) Explain, using an elasticity concept — [4]

Successful marketing changes consumer tastes and preferences toward the firm’s textiles, raising the demand for textiles. [1m] Per Extract 2, textile production will soon incorporate “automation” and “digital technology”, raising productivity, which suggests the price elasticity of supply (PES) is elastic since output can be expanded quickly. [1m]

With supply price-elastic, an increase in demand from $D_0$ to $D_1$ raises price modestly from $P_0$ to $P_1$ and produces a more than proportionate rise in quantity supplied of textiles from $Q_0$ to $Q_1$ — a large boost to sales volume. [1m impact + 1m accurate graph]

(f) Explain, with a diagram — [6]

The market for environmental education and training (EET) under-consumes for two reasons, both forms of market failure.

• Imperfect information. There is imperfect information in the EET market. Firms underestimate the true private benefit of training employees — for example the higher profits from less wasteful production in the long run — so perceived private benefit $\text{MPB}_{perceived}$ lies below actual private benefit $\text{MPB}_{actual}$. [1m state + 1m explain]

• Positive consumption externality. EET also generates positive consumption externalities: environmental education encourages firms and individuals to “take action to improve the environment” (Extract 3), benefiting third parties such as families near polluted rivers. Marginal social benefit (MSB) therefore lies above true private benefit $\text{MPB}_{actual}$. [1m state + 1m explain divergence]

Rational firms consume where $\text{MPB}_{perceived}$ meets MPC, at $Q_m$ — below the social optimum $Q_s$ where MSC meets MSB. The under-consumption $Q_s - Q_m$ generates a deadweight welfare loss of area ABC, which the government seeks to eliminate by promoting the ideal level of consumption. [1m under-consumption + DWL; 1m accurate graph]

Mark scheme — imperfect information (1m); under-estimation of true private benefit (1m); positive consumption externality (1m); MSB divergence (1m); under-consumption and DWL (1m); accurate graph (1m).