3: Implications on SEM

Question 1

Problems of the EU in the 80s.

Answer 1

• Compared to the USA and Japan low growth rates as well as high unemployment rates
• Leading high technology companies tended to be either American or Japanese
• Compared to American and Japanese firms, EU firms faced considerable disadvantages created by barriers still existent in the internal market

Question 2

SEM Assumptions

Answer 2

• Access to larger markets
• Increase in efficiency
• Gains in competitiveness

Question 3

SEM Arrangements

Answer 3

Objective: Realization of the four freedoms

• Free movement of goods
• Free movement of services
• Free movement of people
• Free movement of capital

abolishment of barriers, restrictions and controls:

• frontier controls
• mutual recognition of standards
• lifiting financial service barriers
• elimination of business license requirements

Question 4

SEM Achievements

Answer 4

• Larger variety of consumption
• Increase in competition and liberalization
• Increase in consumer protection
• Reduction in export bureaucracy
• Establishment of the right to work, study or retire in any of the member states

Question 5

Rationale for SEM (From CU to SEM - reasons?)

Answer 5

• A reduction in monopoly power which improves efficiency in enterprises and leads to rationalization of industrial structures as well as the setting of prices closer to costs of production (x inefficiency)
• An increase in the incentives for innovation, new processes and new products which is stimulated by the dynamics of the internal market.
• Realization of economies of scale, which means cost reduction due to an increase in the size of production units and enterprises.
• An increase in the division of labor and specialization according to comparative advantages.

Question 6

Free Movement of Capital and Labor

Answer 6

• freedom of movement of production factors (capital, labor, enterprises, services)
• associated with labor migration:
• pull factors (availability of jobs and higher wages)
• push factors (low earnings and lack of jobs opportunities at home)
• friction factors (cost of movement, cultural/linguistic)
• legal limitations (immigration-restricting measure from receiving country)

Question 7

LM is lower in EU, compared to US.

What are reasons?

Answer 7

lingua franca eases mobility

common social security system is missing in EU

different market regulations

Question 8

Capital Market Integration

Answer 8

• Allowance of free capital account convertibility
• Liberalization of capital in- and outflows
• Liberalization of foreign direct investment

Question 9

Connection Solow and FDI

Answer 9

• FDI leads to growth effects (GDP growth)
• net inflows of investment to acquire a lasting management interest of at least 10% in an enterprise operating in an economy other than that of the investor.
• Greenfield investment
• Acquisitions

Question 10

Effects of FDI on Host Country

Answer 10

Positive:

• Resource-transfer effect (capital, technology, know-how)
• Employment effect
• Capital account – initial capital inflow
• Competition and growth effect

Negative:

• Adverse effects on competition
• Adverse effect on balance of payments
• National sovereignty and autonomy

Question 11

Effects of FDI on Home Country

Answer 11

Positive:

• Foreign earnings
• Multinational enterprises generate valuable skills from exposure to foreign markets

Negative:

• Capital account – FDI outflow
• Employment effect

Question 12

Explain that model.

Answer 12

• Consider a simple model of an economy with two sectors
• Perfect labor mobility between sectors
• TRADABLE vs. NON-TRADABLE
• Labor in the tradable goods sector is less productive in poor countries
• Labor productivity in the non-tradable goods sector is roughly the same across countries.
• If prices of tradables are roughly the same when expressed in the same currency yet labor productivity is lower in poor countries →wages are lower in these countries.
• Lower wages in poor countries lead to lower production costs for non-tradables.
• Hence, the price level (a weighted average of tradables and non-tradables) is lower in poor countries.
• The tradable goods sector is booming →labor is attracted to this particular sector.
• Labor moves from the non-tradable goods sector to the tradable goods sector.
• In order to keep workers in the other sectors (medium-term and long-term labor mobility provided), other non-tradable goods sectors have to pay higher wages.
• During the catching-up process, productivity tends to increase faster in the tradable goods sector than in the non-tradable goods sector.
• This leads to higher inflation!