The Current Account and the Balance of Payments

Question 1

What is the balance of payments account?

Answer 1

A record of all financial dealings over a period of time between economic agents in the UK and other countries.

Question 2

What are the three components of the balance of payments account?

Answer 2

1) The current account
2) The capital account
3) The financial account

Question 3

What are the 4 components of the current account?

Answer 3

1) Trade in goods
2) Trade in services
3) Investment income
4) Transfers

Question 4

What is a trade surplus?

Answer 4

When the sum of exports of goods, services, investment income and transfers are greater than that of imports.
Exports>Imports

Question 5

What is a trade deficit?

Answer 5

When the sum of exports of goods, services, investment income and transfers are less than that of imports.
Exports<Imports

Question 6

What is the trade in goods?

Answer 6

Measures the net exports of visible goods, e.g. raw materials and food.

Question 7

Does the UK run a trade deficit or surplus on the trade in goods and why (4)?

Answer 7

A large deficit, because of:
1) The strength of the pound.
2) The lack of UK production of primary materials, like oil and gas.
3) The decline in the UK manufacturing sector - now outsourced to other nations with a lower minimum wage, e.g. Bangladesh
4) An increase in demand for consumer goods.

Question 8

What is the trade in services?

Answer 8

A measure of the net exports of invisible items, such as banking and legal services.

Question 9

Does the UK run a trade deficit or surplus on the trade in services and why (2)?

Answer 9

A large surplus, because of:
1) The UK has shifted away from the primary and secondary sectors, towards the tertiary sector.
2) London is a prime financial sector, and is a major source of income for the UK.

Question 10

What is investment income?

Answer 10

Income generated by UK owned overseas assets, e.g. a UK firm may own an overseas company. The profits and dividends received are sent back to the UK as a credit item of investment income.

Question 11

Does the UK run a trade deficit or surplus on investment income?

Answer 11

Surplus

Question 12

What are transfers?

Answer 12

Payments made or received, usually by the government, to or from other countries, e.g. foreign aid.

Question 13

Does the UK run a trade deficit or surplus on transfers?

Answer 13

Deficit, due to the UK’s global status.

Question 14

What is the balance of trade?

Answer 14

The difference between the value of a countries exports and the value of a countries imports.
Net trade balance = value of exports - value of imports

Question 15

What are the impacts of running a trade deficit (5)?

Answer 15

1) If the deficit is caused by excessive government spending, and they are the ones borrowing, then the government will become indebted, usually to foreign lenders.
2) A reduction in the money supply.
3) A fall in demand for domestic products can put downwards pressure on prices
4) Export industries could underperform, resulting in job losses.
5) A current account deficit represents a trade deficit, and since net trade is a component of AD, AD can fall, as well as economic growth.

Question 16

Does the UK run a surplus or deficit on the current account?

Answer 16

A large deficit.

Question 17

Why does the UK run a persistent trade deficit (3)?

Answer 17

1) The UK has a high propensity to import, due to the wealth of the UK economy, because as standards of living rise, consumers will naturally import more.
2) UK firms have become less competitive in the manufacturing of goods, due to real wage inflexibility.
3) The exchange rate is arguably too strong.

Question 18

What does a strong pound mean for trade?

Answer 18

Strong pound = imports are cheaper, exports are less competitive.

Question 19

What does a weak pound mean for trade?

Answer 19

Weak pound = imports are more expensive, exports are more attractive.