Presentation is loading. Please wait.

Presentation is loading. Please wait.

Chapter 9 Trade and the Balance of Payments. Copyright ©2014 Pearson Education, Inc. All rights reserved.9-2 Learning Objectives Define the current and.

Similar presentations


Presentation on theme: "Chapter 9 Trade and the Balance of Payments. Copyright ©2014 Pearson Education, Inc. All rights reserved.9-2 Learning Objectives Define the current and."— Presentation transcript:

1 Chapter 9 Trade and the Balance of Payments

2 Copyright ©2014 Pearson Education, Inc. All rights reserved.9-2 Learning Objectives Define the current and financial accounts of a countrys trade and payments. List and explain the importance of the three components of the current account. List and explain the importance of three main types of international capital flows. Use a simple algebraic model to relate the current account to savings, investment, and the general government budget balance.

3 Copyright ©2014 Pearson Education, Inc. All rights reserved.9-3 Learning Objectives (cont.) Discuss the pros and cons of current account deficits. Define a countrys international investment position and relate changes in it to the current account balance.

4 Copyright ©2014 Pearson Education, Inc. All rights reserved.9-4 Introduction: The Current Account The international transactions of a nation are divided into three separate accounts –Current account: record of the goods and services into and out of the country –Financial account: record of the flow of financial capital to and from the country –Capital account: record of some specialized types of relatively small capital flows Lets examine each of these in greater detail…

5 Copyright ©2014 Pearson Education, Inc. All rights reserved.9-5 The Trade Balance Lets first define the trade balance- measures the difference between exports and imports of goods and services –Trade deficit: negative trade balance In 2008, the U.S. had a trade deficit of $695.0 billion –Trade surplus: positive merchandise trade balance However, the U.S. had a large trade surplus in services ($144 billion)

6 Copyright ©2014 Pearson Education, Inc. All rights reserved.9-6 The Current Account Balance Current account balance: Measures all current, non-capital transactions between a nation and the rest of the world The current account has three main components: –Goods and services = the value of goods and services exported – the value of imports –Investment income = income from investments abroad – income paid to foreigners on their U.S. investments –Unilateral transfers = any foreign aid or other transfers received by foreigners – that given to foreigners

7 Copyright ©2014 Pearson Education, Inc. All rights reserved.9-7 TABLE 9.1 Components of the Current Account

8 Copyright ©2014 Pearson Education, Inc. All rights reserved.9-8 TABLE 9.2 The U.S. Current Account Balance, 2011

9 Copyright ©2014 Pearson Education, Inc. All rights reserved.9-9 FIGURE 9.1 U.S. Current Account Balances,

10 Copyright ©2014 Pearson Education, Inc. All rights reserved.9-10 U.S. Current Account Balance Large deficits in the current account began around 1982, and have been more or less a constant feature of the U.S. economy since The second began in the early 1990s and continues today

11 Copyright ©2014 Pearson Education, Inc. All rights reserved.9-11 U.S. Current Account Balance (cont.) A current account deficit is not a sign of weakness: in the U.S., the economic boom of the 1990s increased the demand for imports, while sluggish growth abroad limited the expansion if U.S. exports However, everyone agrees the U.S. deficit is not sustainable in the long term

12 Copyright ©2014 Pearson Education, Inc. All rights reserved.9-12 Introduction to the Financial and Capital Accounts Financial account: A record of the flow of financial capital to and from a country Financial account is divided into three categories: –Net changes in the countrys assets abroad –Net changes in the foreign-based assets in the country –Net change in financial derivatives

13 Copyright ©2014 Pearson Education, Inc. All rights reserved.9-13 Introduction to the Financial and Capital Accounts (cont.) Assets include bank accounts, stocks and bonds, and real property such as factories, businesses, and real estate Financial derivatives are complex financial contracts traded in a variety of forms; until recently they were not included in the balance of payments Value of financial derivatives is derived from the value of a variable such as interest rates, exchange rates, or commodity prices

14 Copyright ©2014 Pearson Education, Inc. All rights reserved.9-14 Introduction to the Financial and Capital Accounts (cont.) Capital account: A record of the transfers of specific types of capital, such as: –Debt forgiveness –Personal assets that migrants take with them abroad –The transfer of real estate and other fixed assets, such as a military base or an embassy building

15 Copyright ©2014 Pearson Education, Inc. All rights reserved.9-15 Introduction to the Financial and Capital Accounts (cont.) Two points about the capital and financial accounts: First, both accounts present the flow of assets during the year, not the stock of assets that have accumulated Second, all flows are net changes rather than gross changes Net changes are informative because they measure the monetary value of the change in a countrys financial stake in foreign economies

16 Copyright ©2014 Pearson Education, Inc. All rights reserved.9-16 Introduction to the Financial and Capital Accounts (cont.) Three accounting caveats: 1.Both the capital account and the financial account present the flow of assets during the year in question and not the stock of assets that have accumulated over time 2.All flows are net changes (differences between assets sold and bought, for example) rather than gross (stock) changes 3.As long as the capital account balance is zero, financial account balance = current account balance, but with the opposite sign

17 Copyright ©2014 Pearson Education, Inc. All rights reserved.9-17 Introduction to the Financial and Capital Accounts (cont.) The current, capital, and financial accounts are interdependent Current account measures flow of goods and services Capital and financial accounts measure flow of financing Therefore, sum of capital account and financial accounts equal to current account with opposite sign

18 Copyright ©2014 Pearson Education, Inc. All rights reserved.9-18 TABLE 9.3 The U.S. Balance of Payments, 2011 Balance of payments = current account + capital account + financial account

19 Copyright ©2014 Pearson Education, Inc. All rights reserved.9-19 Statistical Discrepancy in the Balance of Payments Statistical discrepancy: The amount by which the sum of the current, capital, and financial accounts is off the total of zero Statistical discrepancy is calculated as the sum of the current, capital, and financial accounts, with the sign reversed

20 Copyright ©2014 Pearson Education, Inc. All rights reserved.9-20 Statistical Discrepancy in the Balance of Payments (cont.) Statistical discrepancy exists because the record of all the transactions in the balance of payments is incomplete – Errors tend to lie in the financial account calculation, as it is the hardest to measure correctly

21 Copyright ©2014 Pearson Education, Inc. All rights reserved.9-21 TABLE 9.4 Components of the U.S. Financial Account, 2011

22 Copyright ©2014 Pearson Education, Inc. All rights reserved.9-22 Types of Financial Flows Financial flows originate in the public and private sectors Some financial flows are very mobile and represent short-run tendencies: –Mobility of financial flows brings economic volatility –Upon sudden financial outflows, a country can sink into a financial crisis –The volatility of financial flows has increased concern about the various types of flows

23 Copyright ©2014 Pearson Education, Inc. All rights reserved.9-23 Types of Financial Flows (cont.) 1.U.S. assets abroad (outflows) A.Official reserve assets: currencies of the largest and most stable economies (US dollars, EU euros, British pounds, Japanese yen including gold and Special Drawing Rights SDR) B.U.S. Government assets: loans and rescheduled loans to foreign governments, received on outstanding loans, changes in non- reserve currency holdings (e.g., Mexican pesos) C.U.S. Private assets: direct investment, foreign securities, loans to foreign firms and banks

24 Copyright ©2014 Pearson Education, Inc. All rights reserved.9-24 Types of Financial Flows (cont.) 2.Foreign assets in the U.S. (inflows) A. Foreign official assets: gold bullion, IM´s special drawing rights (SDRs), major currencies B. Other foreign assets: direct investment, U.S. securities and currency, loans to U.S. firms and banks 3. Net change in financial derivatives

25 Copyright ©2014 Pearson Education, Inc. All rights reserved.9-25 Types of Financial Flows (cont.) Subcomponents of private assets: foreign direct investment (FDI), foreign securities, loans to foreign firms and banks –FDI: tangible items: real estate, factories, warehouses, transportation facilities, and other physical (real) assets –Securities and loans can be considered foreign portfolio investment - paper assets such as stocks and bonds –Both FDI and foreign portfolio investment- claim in a foreign economys future output; FDI have longer time horizons

26 Copyright ©2014 Pearson Education, Inc. All rights reserved.9-26 TABLE 9.5 Private Flows in the U.S. Financial Account, 2011

27 Copyright ©2014 Pearson Education, Inc. All rights reserved.9-27 Role of Expectations in Financial Flows Shifts in expectations can lead to sudden stoppages of financial inflows The result is a destabilizing of outflows of financial capital This occurrence has been labeled a sudden stop Sudden stops have been involved in the most financial crises in last 30 years

28 Copyright ©2014 Pearson Education, Inc. All rights reserved.9-28 Limits on Financial Flows Until recently, most nations limited the movement of financial flows related financial account transactions across their borders –The European Union liberalized financial flows between member countries only in 1993

29 Copyright ©2014 Pearson Education, Inc. All rights reserved.9-29 Limits on Financial Flows (cont.) The movement toward open markets over the 1980s and 1990s resulted in the lifting of controls on financial flows –Developing countries, in particular, have liberalized financial account transactions in order to get access to financial capital for development –Although financial flows can be volatile, economists agree that free flows are best for economic efficiency

30 Copyright ©2014 Pearson Education, Inc. All rights reserved.9-30 TABLE 9.6 The U.S Financial Accounts, (Billions of Dollars)

31 Copyright ©2014 Pearson Education, Inc. All rights reserved.9-31 The Current Account and the Macroeconomy Why study the balance of payments? –Balance of payments help understand the broader implications of current account imbalances and how to tame current account deficits –Balance of payments give cues how nations can avoid crises brought by volatile financial flows and how they can minimize the damage of financial crises if such occur

32 Copyright ©2014 Pearson Education, Inc. All rights reserved.9-32 The National Income and Product Accounts National income and product accounts (NIPA): internal, domestic accounting systems the countries use to keep track of total production and total income Two fundamental concepts of the system: –Gross domestic product (GDP): the value of all final goods and services produced within a countrys borders during a period of time (usually a year) –Gross national product (GNP): the value of all final goods and services produced by the labor, capital, and other resources of a country within the country as well as abroad

33 Copyright ©2014 Pearson Education, Inc. All rights reserved.9-33 The National Income and Product Accounts (cont.) GNP = GDP + foreign investment income received – investment income paid to foreigners + net unilateral transfers

34 Copyright ©2014 Pearson Education, Inc. All rights reserved.9-34 Table 9.7 Variable Definitions

35 Copyright ©2014 Pearson Education, Inc. All rights reserved.9-35 The National Income and Product Accounts (cont.) Interplay of the variables of the national accounts 1.GDP = C + I + G + X – M 2.GNP = GDP + (net foreign investment income + net transfers) 3.GNP = (C + I + G) + (X – M + net foreign investment income + net transfers) 4.GNP in terms of current account balance: GNP = C + I + G + CA 5.GNP is also the value of income received: GNP = C + S + T 6.Since 4 and 5 are equivalent definitions of GNP, C + I + G + CA = C +S + T 7.I + G + CA = S + T 8.S + (T – G) = I + CA

36 Copyright ©2014 Pearson Education, Inc. All rights reserved.9-36 The National Income and Product Accounts (cont.) S + (T – G) = I + CA summarizes the current account balance, investment, and public and private savings in the economy The following figure illustrates the equation in the U.S. in

37 Copyright ©2014 Pearson Education, Inc. All rights reserved.9-37 FIGURE 9.2 U.S. Savings and Investment, 1990–2010

38 Copyright ©2014 Pearson Education, Inc. All rights reserved.9-38 The National Income and Product Accounts (cont.) The four macroeconomic variables demonstrate there is not a fixed relationship between the current account balances and government budget balances, or between savings and investment The four variables are determined by the other three A change in any one of them influences all of them

39 Copyright ©2014 Pearson Education, Inc. All rights reserved.9-39 Are Current Account Deficits Harmful? The relationship between the current account balance, investment, and total national savings is an identity Consequently, it does not tell us why an economy runs a current account deficit or surplus

40 Copyright ©2014 Pearson Education, Inc. All rights reserved.9-40 International Debt Debt is defined as money owed to nonresidents with must be paid in a foreign currency Current account deficits must be financed through inflows of financial capital (loans) Loans from abroad add to a countrys stock of external debt and generate debt service obligations

41 Copyright ©2014 Pearson Education, Inc. All rights reserved.9-41 International Debt (cont.) All countries, rich and poor, have external debt In many low and middle income countries, external debt leads to financial problems Unsustainable debt occurs for numerous reasons: –Sudden drop in commodity prices –Natural disasters –Corruption –Foreign lending behavior

42 Copyright ©2014 Pearson Education, Inc. All rights reserved.9-42 The International Investment Position When a country runs a current account deficit, it borrows from abroad and increases its indebtedness If a country runs a current account surplus, it lends to foreigners and reduces its overall indebtedness International investment position = domestically owned foreign assets –foreign owned domestic assets

43 Copyright ©2014 Pearson Education, Inc. All rights reserved.9-43 The International Investment Position (cont.) The International Investment Position Total of all domestic assets owned by foreigners, subtracted from the total of all foreign assets owned by residents of the home country

44 Copyright ©2014 Pearson Education, Inc. All rights reserved.9-44 The International Investment Position (cont.) Costs and benefits of capital inflows -enables countries to invest more -makes it possible for governments and consumers to spend more (save less) -capital inflows take the form of direct investment, may bring new technologies (technology transfer) -new management techniques


Download ppt "Chapter 9 Trade and the Balance of Payments. Copyright ©2014 Pearson Education, Inc. All rights reserved.9-2 Learning Objectives Define the current and."

Similar presentations


Ads by Google