International competitiveness is the ability of a country to compete with rival countries in terms of prices and/or quality. A rise in the UK’s international price competitiveness means UK goods are cheaper, UK consumers buy more UK goods so imports fall and foreign consumers buy more UK goods so UK exports rise.
Measures of International Competitiveness The international competitiveness of an economy can be measured by:
1) Relative Unit Labour Costs.
Unit labour cost is the cost per unit of labour, that is, total wages divided by total output. Unit labour costs move inversely with labour productivity, so as labour productivity rises unit labour costs fall. A decrease in relative unit labour costs for the UK means it becomes cheaper for UK firms to produce compared to rival countries, so the UK becomes more internationally price competitive.
2) Relative Export Prices.
Relative export prices are the export prices of one country compared to the export prices of rival countries (maybe their main trading partners). An increase in relative export prices for the UK means UK exports become more expensive compared to rival countries, so the UK becomes less internationally price competitive.
A country’s infrastructure includes its roads, utilities and telecommunications. As the UK’s infrastructure improves relative to other countries, the UK’s transport and communication costs fall so the UK becomes more internationally price competitive.
Factors Effecting International Competitiveness Many factors effect international competitiveness including:
1) Real Exchange Rate.
A country’s real exchange rate is its nominal exchange rate times its price level and divided by the foreign price level:
The UK becomes more internationally price competitive if its real XR falls. The UK’s real XR will fall if the UK’s nominal XR falls, domestic prices fall and/or foreign prices rise, ceteris paribus. If the UK’s real XR depreciates then imports become more expensive so UK consumers buy more goods from UK firms and imports fall, exports become cheaper so foreign consumers buy more UK goods and the UK’s exports rise.
2) Wage and Non-Wage Costs.
Wages costs are what firms pay directly to workers in return for work. Non-wage costs include taxes, National Insurance (NI) contributions and pensions. A fall in the UK’s wage or non-wage
costs relative to foreign countries means UK firms’ costs fall, UK firms can charge lower prices than foreign rivals so the UK becomes more internationally price competitive.
A rise in the UK’s productivity relative to other countries means it is cheaper and quicker to produce in the UK so the UK is more internationally price competitive. The UK’s productivity will rise if there is more education and training, a better infrastructure or more spending on Research and Development (R&D).
Regulation includes health and safety laws (fire exits), environmental laws (no dumping toxic waste into rivers), quality control and red tape (bureaucratic form filling). A rise in regulation in the UK means UK firms’ costs increase, so UK firms’ prices rise and the UK becomes less internationally price competitive.
Better quality may be more important than price. Consumers may be willing to pay a lot for a high quality product.
Government Policies to Improve International Competitiveness The government could make the UK more internationally price competitive by:
1) Real Exchange Rate Adjustment.
A real exchange rate devaluation makes the domestic currency cheaper, the domestic economy is more internationally price competitive, exports are cheaper and rise, imports are dearer and fall.
However, as shown by the J-curve: After an exchange rate devaluation, the current account moves into a deficit in the short-run because of fixed contracts for exports and imports. Exports are cheaper and imports are dearer yet their volumes remain the same, so the current account initially moves towards a deficit. After contracts are renegotiated in the long-run, exports rise, imports fall and the current account moves towards a surplus.
2) Supply-Side Policies.
Supply-side polices could be used to increase LRAS and increase the efficiency of the domestic economy so that its firms can charge lower prices and compete internationally.
But this costs money and a large investment so in the short-run AD will rise, inflation will rise, the domestic economy loses international price competitiveness, exports become dearer and fall, imports become cheaper and rise.
Moreover, supply-side policies only come into effect in the long-run.