Unit 3 is one connected story: Australia is a medium-sized, open economy whose prosperity depends on its links to the rest of the world. Every topic in this unit describes one part of that connection — and they feed into each other. Use this guide to pull the six topics together before the Unit 3 examination.
1. International trade & linkages
Australia links to the world through trade in goods and services, investment, tourism and migration. You should be able to describe the extent and importance of trade (a high trade-to-GDP ratio), the composition (commodity-heavy exports; manufactured and capital imports) and direction (concentrated on Asian trading partners), and outline trade policy including bilateral and regional free trade agreements.
2. Free trade & protection
The case for trade rests on comparative advantage — specialise where your opportunity cost is lowest, then trade. You should be able to demonstrate the gains from trade using the PPF and the demand & supply model, and analyse the effects of a tariff or subsidy on price, quantity, efficiency and the macroeconomy.
3. The balance of payments
The balance of payments records all transactions between Australia and the world, split into the current account (trade balance + primary and secondary income) and the capital and financial account. You should be able to explain the double-entry rule (the two accounts mirror each other), the drivers of the current account balance, and the savings–investment gap that underlies a persistent current account deficit.
4. The terms of trade
The terms of trade is an index of export prices relative to import prices. A commodity-price boom raises it, lifting national income. You should be able to analyse what shifts the terms of trade and trace the effects of a rise or fall through income, the exchange rate and the current account.
5. Exchange rates
The exchange rate is the price of the dollar, set by demand for and supply of $A in the foreign-exchange market. You should be able to show an appreciation or depreciation on a demand & supply diagram, explain the factors that move it (interest differentials, the terms of trade, commodity prices, capital flows), and trace the effects on exports, imports and the current account.
6. Foreign investment
Foreign investment is recorded in the financial account and splits into foreign direct investment (a lasting management interest) and portfolio investment (financial assets). You should be able to evaluate its benefits and costs, explain the link to the current account through income flows, and describe Australia's net-debtor international investment position.
Must-know diagrams
- PPF and the gains from specialisation and trade.
- Tariff and subsidy on the demand & supply model.
- The structure tree of the balance of payments.
- The terms of trade index over time.
- Exchange-rate appreciation/depreciation on $A demand & supply.