Balance of Payments Flashcards
(19 cards)
What is the balance of payments?
The balance of payments is a record of the value of all transactions between the residents of one country and the residents of all other countries in the world over a given period of time. The three main components of the balance of payments are the current account, the capital account and the financial account.
It always balances to zero
What do we call money flowing into and out of the country?
Into- Credit
Out-to- Debit
What is the current account?
A record of all the money coming into and going out of a country for trade in goods and services, income transfers and current transfers.
What are the components of current account?
Balance of trade in goods
Balance of trade in services
Income transfers- Factor payments for factors of production
Current transfers- Stuff that isn’t necessarily for anything in return(e.g. remittances)
What is capital account?
record of all the transfers of ownership of capital and other assets between countries.
Components of capital account?
Capital transfers- transfers of fixed assets+debt forgiveness
Transaction in non-produced, non-financial assets- e.g. rights, patents
What is financial account?
record of all financial transactions and direct investment between countries, and currency reserves held by central banks.
Components of financial account?
Direct investment: When a firm or part of a firm is bought
Portfolio investment: Purchase and sale of financial capital- shares, bonds, derivatives, the trading of commodities and currencies
Reserve assets: foreign currency reserves held by central banks
Why does the balance of payments balance?
Because currencies can only be spent within the country
Current account deficit. What could this mean? Could it balance out over time?
If foreign countries have an increasing supply of currency form exporting, they could
A. Buy imports, moving the exchange rate back
B. save- deficit persists
What is current account deficit?
the sum of the balance of trade and current and income transfers is negative
Consequences of a current account deficit
Foreign ownership of domestic assets
Exchange rates- If deficit is large, the exchange rate can be pushed up. Country needs to borrow to pay back, so interest rates spike…
Indebtedness
What is International credit ratings
A measure of a country’s deficit. AAA is best, and it goes to D
Is current account deficit always bad?
No. It could be that it is caused by hella lot of imports, that could signify a growing economy
Correcting CA deficit with expenditure reducing policies
Gov uses contractionary fiscal policy to reduce quantity imported.(less income to spend)
Correcting CA deficit with supply side policies
Increasing the competitiveness of exports. Maybe there is a reason why the CA is so shit
What is the Marshall-Lerner condition?
a currency depreciation will improve the balance of trade if the sum of PEDX and PEDM is greater than 1. It is important to note that it may take some time, as the J curve means that elasticities may increase
Can a current account surplus be a bad thing?
Yes. The issue is that the BOT has to balance, and as a result a surplus here could mean a financial account deficit.
Other countries buy local currency, so your country has more foreign currency. The country could then do one of 2 things:
A. Spend to buy imports. This would return CA to normal
B. Spend in other countries. This may mean that the supply of foreign currency increases AGAIN. This is bad, as financial deficit would increase
Things to consider about a surplus in CA
Lower domestic consumption and investment. This is because of the upward pressure on currency
Appreciation of currency- May or may not be bad- ML condition
Reduced export competitiveness
Employment- Would it increase? Decrease? This depends if the origin of the surplus is because of reduced imports or increased exports
