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Section A

Answer one question from this section.

1. Study the following extract and answer the questions that follow.

South Korea’s current account surplus

1 South Korea, Asia’s fourth-largest economy, has experienced a current account surplus since
2012. South Korea’s large working-age population, which tends to save a large portion of its
income for retirement, contributes to the surplus. The South Korean government has expressed
concerns about the impact of the high savings on domestic demand and the level of imports.
However, it has been predicted that as the population ages the surplus will gradually disappear
by 2042.

2 The South Korean won (South Korea’s currency) recorded the second highest appreciation
against the United States dollar (US$) in 2017 among currencies of the G20* nations. The
current account surplus, the improved economic conditions and the expectations of an
interest rate rise have all helped increase the South Korean won’s value.

3 The South Korean won officially operates under a floating exchange rate system, but the central
bank would intervene if there were major fluctuations in the market that needed to be managed.
The US is monitoring the exchange rate policy of South Korea due to the significant trade
imbalance between the two countries. If the US identifies that a major trading partner like South
Korea tries to limit an appreciation of its currency, then the US may consider tariffs to reduce
the imbalance.

4 South Korea’s financial account in the balance of payments recorded a deficit of US$13 billion
in 2018, as Koreans have invested extensively in other countries. Furthermore, foreigners have
been reluctant to invest in South Korea due to the trade disputes and the potential of a trade
war erupting between the US and China. The US and China are South Korea’s largest trading
partners, and South Korea, with its export-oriented economy (exports amount to 43 % of gross
domestic product [GDP]), is sensitive to external demand shocks.

5 South Korea’s domestic investment in key areas (such as manufacturing, construction and
machinery) fell during 2018, and GDP grew by less than expected. Additionally, private
consumption increased only by 0.3 % in 2018, the slowest growth for 4 years. There is also
concern about the level of unemployment, especially the high rates of youth unemployment.

6 Normally, in a situation of low growth, the central bank would implement expansionary monetary
policy. However, the US Federal Reserve (the central bank of the US) and the European central
bank are considering monetary tightening. If the South Korean central bank does not raise
interest rates in line with the US and the European Union it runs the risk that the South Korean
won may depreciate. Therefore, the South Korean government has begun discussions on using
fiscal policy to help revive the job market and support domestic demand.

* G20 members include: Argentina, Australia, Brazil, Canada, China, France,

(This question continues on the following page)

(Question 1 continued)

(a) (i) Define the term interest rate indicated in bold in the text (paragraph 2).[2]

(ii) List two components of the financial account (paragraph 4).[2]

(b) Using an exchange rate diagram, explain how South Korea’s current account surplus
could have “helped increase the South Korean won’s value” (paragraph 2).[4]

(c) Using an AD/AS diagram, explain how the use of fiscal policy could lower “the high
rates of youth unemployment” in South Korea (paragraph 5).[4]

(d) Using information from the text/data and your knowledge of economics, discuss the
possible implications on South Korea’s economy of a current account surplus. [8]

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2. Study the following extract and answer the questions that follow.

The Comprehensive and Progressive Agreement for Trans-Pacific

1 In 2018, Australia signed the Comprehensive and Progressive Agreement for Trans-Pacific
Partnership (CPTPP)*. The agreement creates the third largest free trade area in the world,
covers nearly 500 million people and is worth more than US$12 trillion. The members of the
agreement have stated that economic integration and free trade is important to help foster good
political relations and inclusive growth for all nations.

2 The trade agreement will aim to gradually eliminate most trade protection within the member
countries. The agreement will see tariffs eliminated for Australian cheese and beef exports to
Japan, and increased quotas for the export of rice to Japan from 4400 to 8400 tonnes. Nikkei
Asian Review reported that “Fast-food restaurants in particular are embracing the import as
a way to cut costs to cope with rising wages.” Additionally, Japanese food manufacturers will
be able to lower production costs for rice-based meals and benefit from increased stability of
input prices. The benefits from the agreement for Japan’s economy are projected to exceed
US$70 billion, but some industries would be negatively affected.

3 Japanese farmers are worried about the increase in imported food from Australia. Furthermore,
the Japanese government is concerned about the effects of the CPTPP on Japan’s food
self-sufficiency—Japan relies on other countries for over 60 % of its food. In response to these
concerns the Japanese government has offered support for domestic farmers to diversify
production into other crops. The government also plans to subsidize the rice farmers through
the initial phase of lowering trade barriers.

4 The agreement is said to be worth more than US$37 billion to Australian agricultural exports. It
is hoped that CPTPP and the falling value of the Australian dollar will help Australia to reduce
its current account deficit, but some economists have argued that this can take a long time.
According to some estimations, the short-run price elasticity of demand (PED) for Australian
exports is 0.2 and the short-run PED for imports in Australia is 0.4. However, the long-run PED
for Australian exports is 1.1 and the long-run PED for imports in Australia is 1.3.

5 There have also been concerns about the CPTPP from trade unions in Australia. They argue
that it deregulates the labour markets and gives corporations from other countries an ability to
take legal action against governments for implementing laws that raise wages or protect the
environment, if the foreign corporation can prove that the law hurt their commercial interests.
One university lecturer said that the future costs to the taxpayer could be significant if foreign
companies take the Australian government to court.

6 The trade agreement would allow workers from other countries to work in Australia without
employers being required to check if Australian citizens are available to fill the jobs before
the migrant workers are employed. It is estimated this may risk 39 000 jobs in Australia.
Furthermore, environmental activists have expressed concerns that the negative environmental
and social effects of the agreement have not been well considered. This may lead to conflicts
with Australia’s commitment to the United Nations’ Sustainable Development Goals.

* The CPTPP includes eleven member countries: Australia, Brunei, Canada, Chile,
Japan, Malaysia, Mexico, New Zealand, Peru, Singapore and Vietnam.

(This question continues on the following page)

(Question 2 continued)

(a) (i) Define the term free trade area indicated in bold in the text (paragraph 1).[2]

(ii) Define the term quotas indicated in bold in the text (paragraph 2).[2]

(b) Using price elasticity of demand (PED) data from the text and the J-curve effect,
explain the most likely impact of “the falling value of the Australian dollar” on Australia’s
current account (paragraph 4).[4]

(c) Using an international trade diagram, explain how “increased quotas for the export of
rice to Japan” will affect the price of rice in Japan (paragraph 2).[4]

(d) Using information from the text/data and your knowledge of economics,
evaluate the view that free trade is beneficial to Japan’s economy. [8]

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