The basic idea of international trade and investment is simple: each country produces goods and services that can be either consumed at home or exported to other countries. Thus, international trade is exchange of capital, goods and services across international borders or territories. In most countries, it represents a significant share of GDP. Whenever a country imports or exports goods and services, there is a resulting flow of funds: money returns to the exporting nation, and money flows out of the importing nation.
Goods sold abroad are visible exports, while goods a country buys abroad are visible imports. Some imports and exports are invisible. For example, if an engineering expert from Country A goes to Country B to help them to improve their engineering industry, he will earn money from B to bring it back to A. The expert is providing a service which is his knowledge or expertise. For B this is an invisible import (because money leaves the country), but for A it is invisible export (because money comes into the country).
The difference between the amount a country spends on visible imports and the amount it receives for visible exports is its Trade Balance (or Balance of Trade). The difference between the total amount a country spends on visible and invisible imports and other payments abroad, and the total number it receives from visible and invisible exports is its Payments Balance (or Balance of Payments). A country that exports more goods than it imports has a positive balance of trade or a trade surplus. The opposite is a negative balance of trade or a trade deficit.
Governments often want to protect various areas of the economy. This include agriculture – so that the economy is certain to have food – and other strategic industries that would be necessary if there was a war and international trade became impossible. Governments also want to protect other industries that provide a lot of jobs.
Many governments impose additional costs such as tariffs on goods from abroad, to make them more expensive and to encourage people to buy local products instead. However, there are an increasing number of free trade areas, without any import tariffs in Europe, Asia, Africa and the Americas
The World Trade Organization (WTO) tries to encourage free trade and reduce protectionism: restricting imports in order to help local products. According to the WTO agreement, countries have to offer the same conditions to all trading partners. Various international agreements also forbid dumping – selling goods abroad at below cost price in order to destroy or weaken competitors or to earn foreign currency to pay for necessary imports.
One of the main differences between domestic and international trade is the use of foreign currencies to pay for the goods and services crossing international boarders. The currencies of the world major economies have names and backgrounds that are as diverse as the countries themselves. For example, the “dollar” used in many countries gets its name from a silver coin minted during the Middle Ages in a small valley in Bohemia called Joachimsthal and the coins from this valley were called simply “Thaler” and came to be called “dollar” in English.
An exchange rate is the price at which one currency can be exchanged for another (e.g. how many yen are needed to buy a euro). For 25 years after World War II, the exchange rates of most major currencies were determined by governments. They were fixed or pegged against the US dollar (e.g. from 1946-67, ₤1 = $2.80), and the dollar was pegged against gold. One dollar was worth one thirty-fifth of an ounce of gold, and the US Federal Reserve guaranteed that they could exchange an ounce of gold for 35$. This system was known as gold convertibility. Pegging against the dollar ended in 1971, because following inflation in the USA
Since the early 1970s, there has been a system of floating exchange rates in most western countries. This means that exchange rates are determined by people buying and selling currencies in the foreign exchange markets. A freely floating exchange rate means one which is determined by market forces: the level of supply and demand. If there are more buyers of a currency than sellers, its price will rise; if there are more sellers, it will fall.
Governments and central banks sometimes try to change the value of their currency. They intervene in exchange markets, using foreign currency reserves to buy their own currency – in order to raise its value – or selling to lower it.
The world’s foreign exchange markets keep track of the values of all the major currencies. These markets are all linked electronically. Banks look at this global interbank market to set their daily exchange rates, which are given to foreign travelers when they change their money abroad.
