6.4 - Current Account of Balance of Payments Flashcards
Define the balance of payments
a record of all the monetary transactions between residents of a country and the rest of the world over a given period of time
3 accounts of the balance of payments
current account
capital account
financial account
What does the current account record
The visible trade (in goods)
The invisible trade (in services
net primary income
Net current transfers
What is the net primary income
components
how to calculate
Components -
Income debits (outflows) - wages paid to overseas residents working in the country, interests, profits and dividends paid out to overseas residents and firms who have invested in the country
income credits (inflows) - wages paid to the country’s residents working overseas, interests, profits and dividends earned by the country’s residents and firms on investments they have in other countries
income received – income paid = net income received
Define transfers
payments between governments for international co-operation for non-productive activities
What is the net secondary income
components
how to calculate
debits (outflows) will include financial aid, donations, pension payments etc. paid to overseas residents and foreign governments, and tax and excise duties paid by UK residents on foreign purchases
credits (inflows) will include financial aid, donations, grants, pension payments etc. received from overseas residents and foreign governments, and tax and excise duties paid by overseas residents on UK purchases
transfers received – transfers paid = net transfers
2 states of the current account
define them
surplus - inflows > outflows
deficit - inflwos < outflows
What are the causes of a current account deficit
Higher exchange rate - imports cheaper, exports more exp. Deficit
Economic growth - more income, spend more on imported goods
Decline in competitiveness - export industries are in decline and cannot compete with foreign countries, the exports fall, ushering in a deficit.
Inflation - makes exports more exp and imports relatively cheaper
Recession in other countries - they wont import products then
Consequences of a deficit
Low growth - low agg demand
Unemployment - loss of jobs of domestic industries
Loss of foreign currency reserves - spending on imports, not getting much from exports
Increased Borrowing - need to borrow money or attract foreign investment in order to rectify their current account deficits. Expensive interest payments and debt repayment opportunity cost
Lower exchange rate - makes exports more comeptitve but vital imports may come more expensive which could cause cost push inflation
How to correct a current account defecit
Do nothing - floating ex rate will correct it
contractionary fiscal policy - reduce spending on imported products
contractionary monetary policy - attract foreign investments + reduce spending and borrowing. Depreciates the currency
Protectionist measures - reduces competitiveness of imports
What are the causes of a current account surplus
Improved competitiveness - exports may have become more competitive becuase of better labour productivty etc
Growth in foreign countries - they import more
High foreign direct investment
Depreciation
High domestic savings rates - spending reduces, more investment
closed economy - some countries have a low share of national income taken up by imports
Consequences of a surplus of the current account
Economic growth - net exports is a component of GDP
Appreciation - demand for currency increases, currency appreicates making exports less competitive
Employment - jobs in the export industries will have increased too.
Better standards of living - higher net incomes, transfers and export revenue make the country’s citizens better off.
Inflation -
increased export demand
more export industry jobs
more income
demandpullinflation
How to correct a current account surplus
Do nothing because a floating exchange rate should correct it
Use expansionary fiscal policy
Remove protectionist measures - make imports more competitive
