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international economics 5th by gerber ch09

Chapter 9
Trade and
the Balance
of Payments

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Introduction:
The Current Account


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


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The Trade Balance


Trade balance- measures the difference between exports and imports of goods and services

– Trade deficit: negative trade balance
– Trade surplus: positive merchandise trade
balance

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The Current Account Balance
• Current account balance: Measures all current, non-capital
transactions between a nation and the rest of the world
– Goods and services = Exports of goods and services –
Imports
– Investment income = income from investments abroad –
income paid to foreigners on U.S. investments
– Unilateral transfers = any foreign aid or other transfers
received by foreigners – that given to foreigners

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TABLE 9.1
Components of the Current Account

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TABLE 9.2
The U.S. Current Account Balance,
2008

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TABLE 9.2 (continued)
The U.S. Current Account Balance,
2008

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FIGURE 9.1
U.S. Current Account Balances, 19502008

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U.S. Current Account Deficit


Current account deficit is not a sign of weakness

– In 90s, foreign demand for US exports
grew less rapidly than US demand for
imports


U.S. deficit is not sustainable in the long term

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Financial Account


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 U.S. owned assets
abroad
– Net changes in the foreign-based assets in
US
– Net change in financial derivatives

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Financial Account
• Net changes measure monetary value of the
change in country’s financial stake
• Domestic financial outflows are payments for
purchase of foreign-owned assets (debit)
• Financial inflows are receipts from sale of
domestic country’s assets to foreigners
(credit)

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Capital Account


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

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The Three Accounts are
Interdependent


Current account measures flow of goods and services



Capital and financial accounts measure flow of financing



Sum of capital account and financial accounts equal current account with the opposite sign

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TABLE 9.3
The U.S. Balance of Payments, 2008

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TABLE 9.3 (continued)
The U.S. Balance of Payments, 2008

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Table 9.4 Components of the U.S. Financial
Account, 2008

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Types of Financial Flows
• Financial flows originate in the public and private
sectors
• Some financial flows are very mobile
– Brings economic volatility
– Sudden financial outflows can create a financial crisis
– Volatility of financial flows has increased concern about
the various types of flows

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Types of Financial Flows


Official reserve assets: mainly currencies of
largest and most stable economies in world;
dollars, euros, pounds, and yen



Reserve assets are used to settle international
debts and used by central banks and treasuries
as store of value



Scarce official reserves is sign of problems



There is no tracking of total reserve assets
available

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Largest Share of Financial Flows:
Private Assets
– Foreign Direct Investment (FDI): tangible items,
physical assets
– Securities and loans can be considered foreign
portfolio investment—paper assets such as stocks
and bonds
– Both FDI and foreign portfolio investment give their
holders a claim in a foreign economy’s future output
– Holders of FDI have longer time horizons

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Role of Expectations in
Financial Flows


Sudden stop refers to shifts in expectations can lead to sudden stoppages of financial inflows



Leads to destabilization of outflows of financial capital



Sudden stops have been involved in most financial crises in last 30 years



Can’t have current account deficit with negative financial account

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Limits on Financial Flows


In past most nations limited the movement of financial flows across their borders



Nations have started to liberalize financial flows across borders

– Desirable because restrictions on financial
flows limits availability of financial capital
– Thought to improve developing countries’
access to financial capital flows

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Limits on Financial Flows


Increased financial flows across borders should improve economic efficiency



Recent volatility suggests more regulation is needed



Key is to capture benefits of more investment while limiting risks of capital flight

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TABLE 9.6
The U.S Financial Accounts, 2007-2008
(millions of dollars)

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TABLE 9.6 (continued)
The U.S Financial Accounts, 2007-2008
(millions of dollars)

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The National Income and
Product Accounts


National income and product accounts: accounting system for a country’s total production and
income

– Gross domestic product (GDP): the
value of all final goods and services
produced within a country´s borders
– Gross national product (GNP): the
value of all final goods and services
produced by a country’s resources no
matter where they produce
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