Why do countries trade with each other?
The reasons for international trade, the meaning of imports and exports, the balance of payments, the role of exchange rates, and the benefits and drawbacks of trade.
A focused answer for AQA GCSE Economics on why countries trade, imports and exports, the balance of payments, exchange rates, and the benefits and drawbacks of trade.
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What this dot point is asking
AQA wants you to explain why countries trade, define imports and exports, explain the balance of payments, explain how exchange rates work, and evaluate the benefits and drawbacks of international trade. Exchange-rate questions often include a short calculation converting prices between currencies.
Why countries trade
Countries trade because they cannot produce everything cheaply themselves. Trade lets each country specialise in goods it makes relatively well and import the rest. Reasons include:
- Differences in resources and climate (oil in the Gulf, coffee in Brazil).
- Lower costs in some countries, allowing cheaper production.
- Access to a wider choice of goods and to bigger markets that allow economies of scale.
Imports and exports
The balance of payments
A persistent trade deficit can be a concern because it must be financed by borrowing or selling assets abroad, though it can also reflect strong demand for imports in a growing economy.
Exchange rates
A handy aid is SPICED: a Stronger Pound means Imports Cheaper and Exports Dearer. A weaker pound does the reverse, which can help exporters but raises the cost of imported goods and may add to inflation. Exchange rates change because of supply and demand for the currency: strong demand for UK exports or higher UK interest rates attract foreign buyers of pounds and push the rate up, while weak exports or lower interest rates push it down. A floating exchange rate therefore moves constantly, which is why exporters and importers face uncertainty about future prices.
Benefits and drawbacks of trade
Benefits:
- Lower prices and more choice for consumers.
- Access to larger markets, allowing economies of scale.
- Encourages specialisation, efficiency and the spread of technology.
Drawbacks:
- Domestic firms may not survive foreign competition, causing job losses.
- Over-dependence on imports of key goods can be risky if supply is disrupted.
- Possible structural unemployment in declining industries.
Worked calculation
Try this
Q1. Define an export. [2 marks]
- Cue. A good or service produced domestically and sold to buyers in another country.
Q2. Explain one benefit of international trade for consumers. [3 marks]
- Cue. Trade gives access to a wider choice of goods, often at lower prices, than domestic firms alone could offer.
Exam-style practice questions
Practice questions written in the style of AQA exam questions on this dot point, with worked answer explainers. The year tag is the paper they imitate, not the source.
AQA 20196 marksExplain how a fall in the value of the pound could affect UK exports and imports.Show worked answer →
A fall in the value of the pound (a depreciation) makes UK goods cheaper for foreign buyers when priced in their own currency, so exports tend to rise.
At the same time, foreign goods become more expensive for UK buyers, so imports tend to fall.
A useful memory aid is SPICED: a Stronger Pound means Imports Cheaper and Exports Dearer, so a weaker pound does the opposite. A 6 mark answer states the direction for both exports and imports and links it to the change in relative prices, ideally with a quick price example.
AQA 20224 marksThe exchange rate is 1 pound to 1.25 dollars. A UK firm exports a machine priced at 4000 pounds. Calculate its price in dollars, then recalculate it if the pound falls to 1 pound to 1.10 dollars. Show your working.Show worked answer →
At 1 pound to 1.25 dollars, the dollar price is dollars.
After the pound depreciates to 1 pound to 1.10 dollars, the dollar price is dollars.
So the machine becomes cheaper for the US buyer, falling from 5000 to 4400 dollars, which is why a weaker pound tends to raise exports. Markers reward multiplying the pound price by the exchange rate for both cases and noting that the lower dollar price makes UK exports more competitive.
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Sources & how we know this
- AQA GCSE Economics (8136) specification — AQA (2017)