Balance Of Payments Flashcards
(22 cards)
What is a Trade Surplus?
If the value of exports exceeds the value of imports
(Net injection, boosts AD)
What is a Trade Deficit?
If the value of Imports exceeds the value of Exports
(Net withdrawal, reduces AD)
What is a balance in trade?
When the value of imports is the same as the value of exports
What is the Current Account?
The current account records the transactions related to a country’s trade in goods, services, primary and secondary income
What is a Trade Balance? (BoP)
The balance of trade accounts for the difference between the value of a country’s exports and imports of goods
What is a service balance?
The balance in trade for services, such as tourism, financial services, transportation, and consulting.
What is Primary Income?
Income includes net flows of earnings from investments,
such as dividends, interest, and profits,
What is Secondary Income?
Net transfers of money or goods between countries, such as foreign aid, remittances from expatriates, and gifts.
What is the Capital Account? (BoP)
Records financial transactions that involve the acquisition or disposal of non-financial assets, such as real estate, patents, and copyrights,
between a country and the rest of the world.
• It also includes capital transfers, which involve the transfer of assets for specific purposes, like debt forgiveness.
What is the Financial Account? (BoP)
Records transactions related to financial assets and liabilities, including foreign direct investment (FDI), portfolio investment, banking flows (such as hot money) and changes in foreign exchange reserves.
• It details how a country’s residents and entities interact with foreign
assets and liabilities.
What is a Budget Deficit?
When the government spends more than it receives in tax revenue; a net injection into the circular flow (G>T); AD shifts right, ceteris paribus, encouraging growth
What is a Current Account Deficit?
The value of exports of goods and services, investment incomes and transfer inflows is lower than spending on imported goods and services, investment income outflow and outward transfers.
• A net outflow of income from a country’s circular flow (X<M)
• A current account deficit can be a sign of economic weakness, as it
means that the country is relying on borrowing from abroad to finance
its consumption.
• However, a current account deficit can also be the result of strong
economic growth or investment in importing new capital goods.
Structural causes of a Current Account Deficit?
Arise from supply-side
weaknesses such as relatively low capital investment, low productivity & research and businesses not operating at the cutting edge of innovation
Long term causes (often structural)
• Low capital investment limits productive capacity and export competitiveness
• High cost and price inflation compared to trade partners
• Weak non-price competition (e.g. branding and innovation)
• Long-term decline of dominant export sectors:
• Deindustrialisation in manufacturing
• Decline in extractive industries
• Loss of comparative advantage
Cyclical causes of a Current Account Deficit?
When an economy is booming, rising real incomes boost consumer spending increasing demand for imports, causing a wider trade deficit; and vice versa in an economic downturn
Short run causes (often cyclical) fall in value of exports, a boom in consumer spending or a broader economic boom (more imports); an
appreciation of the exchange rate (less price competitive as exports prices rise and import prices fall)
How would you reduce a Current Account Deficit?
Correcting a deficit may require:
• Deflationary policies to reduce AD and spending on imports
• Depreciation/devaluation of the currency: to restore price
competitiveness
• Direct controls: on imports via tariffs, quotas etc.
• Supply-side improvements: to improve both price and non-price
competitiveness
What are Expenditure-switching Policies?
Expenditure-switching policies: policies designed to change the relative prices of exports and imports.
• An exchange rate depreciation can improve the price competitiveness
of exports and make imports more expensive when priced in a domestic currency
• A tariff can make imported goods relatively more expensive than
domestic ones.
• Lower relative inflation makes exports more competitive relative to
imports
What are Expenditure-reducing Policies?
Expenditure-reducing policies: contractionary monetary and fiscal policies designed to lower real incomes and aggregate demand and thereby cut the demand for imports.
• Higher direct taxes
• Cuts in real government spending on welfare
• Cuts in real government spending on public services
• An increase in interest rates to lower demand for credit and increase saving
These deflationary polices might a conflict with other macroeconomic
objectives such as maintaining low unemployment and ensuring a steady rate of economic growth.
What are some Supply-Side Policies?
• Infrastructure projects in improving transport networks, telecoms to increase supply-side capacity and productive efficiency
• Incentives to promote enterprise/start-ups/new export businesses
• Privatisation/deregulation to increase productivity & efficiency
• Investment in education to improve a country’s human capital
• Protecting property rights to drive a faster rate of innovation/ideas
• Tax incentives to attract foreign direct investment from companies who subsequently export goods and services
Causes of a Current Account Surplus?
• Strong competitive advantage
• Persistent excess of savings over investment (savings glut)
• High global prices for an exported commodity
• High levels of net investment inflows
• Cyclical: a recession leading to fewer import
What is a Global Trade Imbalance? (BoP)
Trade imbalance: when a country has a current account deficit or surplus that is greater than 3% of its GDP
Main causes of Global Trade Imbalances?
• Differences in savings and investment
• Exchange rates – may be over- or under-valued
• Government protectionist policies (e.g. tariffs, export subsidies)
• Structural factors (e.g. demographics, resource endowments)
• Global supply chains
• Net capital flows (can affect exchange rates
• Cyclical factors (e.g. boom sucks in more imports
Effects of a Current Account Surplus?
• Allows a country to run deficit on the financial account of the balance
of payments
• Surplus foreign currency can be used to fund investment in assets
located overseas.
• Some current account surplus countries have large sovereign wealth funds which can be used to invest in assets at home or overseas.
• Stronger exchange rate since high export sales leads to an increase in
demand for a nation’s currency
• May cause inflation (higher AD; exporting firms competing for
resources bidding up costs; inflow of liquidity into banking system)
Policies to correct a trade surplus: reflation (boost AD, redcue S),
revaluation of currency (Marshall-Lerner condition must hold; may be an inverse J-curve effect, remove barriers to trade to increase imports)
