Balance of paymentd Flashcards
(17 cards)
What is the Balance of Payments (BoP)?
A record of all economic transactions between one country and the rest of the world over a period of time.
What are the main components of the BoP?
- Current Account
- Capital Account
- Financial Account
What does it mean if the BoP is in equilibrium?
Total inflows = total outflows. Any current account deficit is balanced by a financial/capital account surplus, and vice versa.
What does the current account measure?
Trade in goods, trade in services, primary income, and secondary income.
What is a current account surplus?
When a country exports more than it imports (net inflows > net outflows).
What is a current account deficit?
When a country imports more than it exports (net outflows > net inflows).
What is recorded in the capital account?
One-off transfers like debt forgiveness, inheritance, and transfer of non-produced assets.
What is the financial account?
Tracks long-term and short-term capital flows such as:
• Foreign Direct Investment (FDI)
• Portfolio Investment
• Reserve Assets
• Hot money flows
What are hot money flows?
Rapid movement of capital between countries to exploit interest rate differences or changes in confidence.
How can a depreciation improve the BoP?
Makes exports cheaper & imports more expensive → improves trade balance (if Marshall-Lerner condition holds).
What is the J-Curve effect?
After a depreciation, the current account may worsen short term before improving long term due to contract lags.
What causes a current account deficit?
• Low competitiveness
• High inflation
• Strong exchange rate
• High domestic demand for imports
What causes a current account surplus?
• Strong export sector
• Weak currency
• High saving, low consumption
• Trade surplus with major partners
How can a country fix a BoP deficit?
• Expenditure-reducing: Cut AD (e.g. raise taxes, interest rates)
• Expenditure-switching: Improve competitiveness (e.g. devaluation, tariffs)
• Supply-side: Improve productivity, innovation, education
What are the downsides of devaluation?
• Imported inflation
• Retaliation
• Depends on elasticity of demand for exports/imports
Why might policies to fix a deficit conflict with other goals?
• Lowering AD may hurt growth and raise unemployment
• Tariffs may reduce consumer choice and worsen inflation
• Exchange rate changes may be unpredictable
Why do global imbalances matter?
• Surpluses in some countries mean deficits in others
• Can lead to trade wars, currency manipulation
• Correction in one country affects global growth patterns
