Book2 Flashcards
What is the formula for calculating the Terms of Trade (TOT)?
TOT = (Export Price Index / Import Price Index).
If a country’s Export Price Index is 120 and its Import Price Index is 100, what is its TOT?
TOT = 120 / 100 = 1.2 (favourable TOT).
How is a favourable Terms of Trade (TOT) determined?
A favourable TOT occurs when the export price index is higher than the import price index.
Why might a country specializing in agricultural production face unfavourable terms of trade?
Agricultural products typically have lower prices compared to manufactured goods, leading to unfavourable terms of trade for agricultural exporters.
Explain how the prices of exports and imports influence the Terms of Trade.
If export prices are high relative to import prices, the TOT is favourable; if import prices are higher, the TOT is unfavourable.
What are the implications of a country having a consistently unfavourable Terms of Trade?
It may lead to economic challenges, such as reduced income from exports and difficulty in financing imports.
Define the Balance of Visible Trade (BOVT).
BOVT is the difference between a country’s visible exports and visible imports.
What are visible items in the context of international trade?
Visible items are physical goods traded between countries, such as machinery, oil, and agricultural products.
How is a positive or favourable Balance of Visible Trade determined?
A positive BOVT occurs when the value of visible exports exceeds the value of visible imports.
Provide examples of Nigeria’s visible exports and imports.
Visible exports: crude oil, cocoa, rubber. Visible imports: vehicles, machinery, and equipment.
If a country’s visible exports are $500 million and visible imports are $400 million, what is its BOVT?
BOVT = $500 million - $400 million = $100 million (positive BOVT).
What are the economic implications of a negative Balance of Visible Trade?
It indicates that a country is spending more on imports than it earns from exports, which can lead to trade deficits and economic strain.
What is the Balance of Invisible Trade (BOIT)?
BOIT is the difference between a country’s invisible exports (services) and invisible imports.
Give examples of invisible exports and imports.
Invisible exports: tourism, banking, insurance. Invisible imports: foreign services like shipping and entertainment.
How does tourism contribute to a country’s invisible trade balance?
Tourism generates foreign exchange earnings, which are recorded as invisible exports, improving the BOIT.
What are the consequences of a negative Balance of Invisible Trade?
It indicates that a country is spending more on foreign services than it earns, which can worsen the overall Balance of Payments.
If a country’s invisible exports are $300 million and invisible imports are $350 million, what is its BOIT?
BOIT = $300 million - $350 million = -$50 million (negative BOIT).
How can a country improve its Balance of Invisible Trade?
By promoting service sectors like tourism, banking, and insurance to increase invisible exports.
What transactions are included in the Current Account?
The Current Account includes visible and invisible trade, unrequited receipts, and payments.
How is the Current Account balance calculated?
Current Account Balance = (Exports of goods + Exports of services + Unrequited receipts) - (Imports of goods + Imports of services + Unrequited payments).
If a country has $500 million in exports of goods, $200 million in exports of services, $100 million in unrequited receipts, $400 million in imports of goods, $150 million in imports of services, and $50 million in unrequited payments, what is its Current Account Balance?
Current Account Balance = ($500 + $200 + $100) - ($400 + $150 + $50) = $800 - $600 = $200 million (positive balance).
What is the relationship between the Balance of Visible Trade and the Current Account?
The Balance of Visible Trade is a component of the Current Account, which also includes invisible trade and unrequited transfers.
Explain the role of unrequited receipts in the Current Account.
Unrequited receipts are transfers like remittances or aid that do not require a return payment, contributing to the Current Account balance.
How does a deficit in the Current Account affect a country’s economy?
It can lead to increased borrowing, depletion of foreign reserves, and potential currency devaluation.
What types of transactions are recorded in the Capital Account?
The Capital Account records foreign investments, loans, grants, and other capital movements.
What are the three main reasons for capital transfers between countries?
Investment abroad, loans between countries, and safety (e.g., moving funds to stable economies).
How does foreign direct investment (FDI) impact the Capital Account?
FDI increases capital inflows, improving the Capital Account balance.
What is the significance of a surplus in the Capital Account?
A surplus can help offset a deficit in the Current Account by providing additional foreign exchange.
If a country receives $200 million in FDI and $100 million in portfolio investment, while investing $150 million abroad, what is its Capital Account Balance?
Capital Account Balance = ($200 + $100) - $150 = $150 million (surplus).
How can a Capital Account surplus help offset a Current Account deficit?
The surplus provides foreign exchange that can be used to finance the deficit in the Current Account.
What is the purpose of the Official Settlement Account?
It records changes in a country’s official international reserves, used to balance the Balance of Payments.
How does an increase in Nigeria’s official international reserves affect the Official Settlement Account?
An increase in reserves results in a negative official settlement, as it represents an outflow of capital.
What happens to the Official Settlement Account when a country’s reserves decrease?
A decrease in reserves results in a positive official settlement, as it represents an inflow of capital.
How does Official Financing help balance the Balance of Payments?
It uses changes in reserves or borrowing to cover deficits or manage surpluses in the BOP.
If a country’s reserves increase by $50 million, what is the Official Settlement?
Official Settlement = -$50 million (negative, as it represents an outflow).
What are the implications of a negative Official Settlement?
It indicates an increase in reserves, which can be used to finance future deficits but may also reflect reduced liquidity in the economy.
Define the Balance of Payments (BOP).
The BOP is a comprehensive record of all economic transactions between a country and the rest of the world over a specific period.
Why must the Balance of Payments always balance in theory?
Because every transaction has a corresponding credit and debit entry, ensuring that total receipts equal total payments.
What does it mean for a country to have a favourable Balance of Payments?
It means the country’s total receipts from exports and capital inflows exceed its total payments for imports and capital outflows.
How is the overall Balance of Payments calculated?
Overall BOP = Current Account Balance + Capital Account Balance + Official Financing Balance.
If a country has a Current Account Balance of $200 million, a Capital Account Balance of $150 million, and an Official Financing Balance of -$50 million, what is its overall BOP?
Overall BOP = $200 + $150 - $50 = $300 million (surplus).
What are the implications of a Balance of Payments surplus?
It strengthens the local currency and increases foreign reserves but may indicate lower domestic consumption or investment.
What are the main components of the Balance of Payments account?
The main components are the Current Account, Capital Account, and Official Financing Account.
How does double-entry accounting apply to the Balance of Payments?
Every transaction is recorded as both a credit and a debit, ensuring that the BOP always balances.
What is the difference between the Current Account and the Capital Account?
The Current Account records trade in goods and services, while the Capital Account records capital movements like investments and loans.
How are statistical discrepancies accounted for in the Balance of Payments?
They are recorded as errors and omissions in the Capital Account to ensure the BOP balances.
What is the role of the Accommodating Balance in BOP accounting?
It represents non-autonomous flows used by monetary authorities to balance the BOP, such as changes in reserves or borrowing.
If a country has a Current Account deficit of $100 million and a Capital Account surplus of $120 million, what is its overall BOP?
Overall BOP = -$100 + $120 = $20 million (surplus).
What are the economic benefits of a Balance of Payments surplus?
It increases foreign reserves, strengthens the currency, and improves international creditworthiness.
Why might a Balance of Payments surplus not always be a positive indicator?
It may indicate lower domestic consumption or investment, and it can create trade imbalances with other countries.
What are the potential problems associated with a large trade surplus?
It can lead to political pressure from other countries, demand-pull inflation, and reduced demand for exports.
How does a Balance of Payments deficit affect a country’s exchange rate?
It can lead to a depreciation of the local currency, making imports more expensive and potentially causing inflation.
What are the long-term consequences of a persistent Balance of Payments deficit?
It can lead to a decline in industrial base, increased foreign debt, and reduced economic growth.
If a country has a BOP deficit of $200 million, what measures can it take to correct it?
It can devalue its currency, restrict imports, diversify its economy, or draw down on foreign reserves.
How does inflation impact a country’s Balance of Payments?
High inflation makes exports more expensive and imports cheaper, leading to a trade deficit and capital flight.
What role does investor confidence play in determining capital flows?
High confidence attracts foreign investment, while low confidence leads to capital flight, affecting the Capital Account.
How do interest rates influence short-term capital movements in the Balance of Payments?
High interest rates attract foreign capital, while low rates may lead to capital outflows.
What are some external factors that can cause Balance of Payments disequilibrium?
Natural disasters, wars, and global economic crises can disrupt trade and capital flows, leading to BOP disequilibrium.
How can political instability in a country affect its Balance of Payments?
It can lead to capital flight, reduced foreign investment, and disruptions in trade, worsening the BOP.
If a country experiences a sudden increase in inflation, how might its BOP be affected?
Exports may decrease due to higher prices, and imports may increase as foreign goods become relatively cheaper, leading to a BOP deficit.
