Chapter 5 - The Balance of Payments, Exchange Rates and International Competitiveness Flashcards

1
Q

What is the balance of payments?

A

A set of accounts showing one country’s financial transactions with other countries.

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2
Q

The Current account of the Balance of payments?

A

Trade in goods balance
Trade in services balance
Investment income
Current transfers: Payments received - payments paid (aid)

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3
Q

When does a current account deficit occur?

A

When the value of exported goods and services is less than those imported.

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4
Q

The capital and financial accounts of the balance of payments?

A

Concerned with changes of ownership of UK’s foreign financial assets and liabilities.
FDI
Portfolio investment : Purchase of UK shares and bonds by foreigners - Foreign Purchases by UK citizens.
Short-term capital flows: AKA Hot money flows
ChAnges in foreign currency reserves

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5
Q

What part of the balance of payments does the UK usually have a surplus on?

A

The capital and financial accounts as it is good at attracting FDI.

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6
Q

What is a key feature of the balance of Payments?

A

It MUST balance each year

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7
Q

Why has the UK persisted to have a current account deficit?

A

Low productivity
High sterling value from 1992-2008
Continued economic growth between 1996-2008 as the UK has a marginal propensity to import
Despite the 28% depreciation of the sterling between 2008-2009, there was slowdown in the EU, which buys 45% of UK exports.

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8
Q

Significance of a current account deficit?

A

Goods are seen as uncompetitive
May lead to an increase in unemployment
May be forced to borrow money from the IMF or other countries
With a floating exchange rate, a persistent current account deficit may depreciate the exchange rate.

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9
Q

When might a deficit on the current account not be a problem?

A

When it is caused by an import of capital goods
If it is only short term
If it is easily balanced by a surplus on the financial and capital account

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10
Q

Measures to reduce current account deficit?

A
Reducing corporation tax. 
Improved Infrastructure.
Superfast Internet
Training and education
Reduction in regulation and red tape
Modern Apprenticeships
Reduction in employers' national insurance contributions
Improved childcare provision.
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11
Q

When did the UK cut corporation tax and why?

A

28% in 2010 to 21% by 2014. To encourage investment back into the firms, leading to increased efficiency.

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12
Q

Provide an example of increased infrastructure

A

Crossrail and the second Forth Bridge in Scotland. In 2012 the UK government offered guarantees designed to underwrite the financing for $40 billion of stalled projects within the National Infrastructure Plan. Supply side

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13
Q

What is the Trade-weighted Index?

A

When one currency is measured against a number of different currencies weighted according to their relative importance

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14
Q

What Factors Influence Exchange Rates?

A

Relative Interest Rates
Relative Inflation Rates: Higher inflation rates compared to competitors then its purchasing power will fall relative o its competitors and, in the long term, it is likely that its exchange rate will fall. Explained under Purchasing Power Parity.
Current Account Balance: A persistent current account deficit implies that the supply of its currency is increasing relative to demand for it, resulting in a depreciation of its currency.
FDI
Speculation

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15
Q

What are the effects of a depreciation in the value of a currency?

A

Decreases in foreign currency price.
An increase in the domestic price of imports.
Both would cause an increase in competitiveness and should improve the current account of the BoP.
Will increase AD, causing a rise in real output and increase in the price level.
Costs-push inflation from higher commodity prices.
Rise in real output should reduce unemployment.

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16
Q

Marshall-Lerner Condition?

A

Current account on the BoP will only improve if the sum of the price elasticities of demand for exports and imports is greater than 1 (elastic). If this condition isn’t met then a depreciation in the currency will further increase the current account deficit.

17
Q

J-Curve?

A

In the short run a depreciation a currency will lead to an increase in current account deficit. Demand in the short run may be inelastic due to the market taking time to react to lower prices and for supplies to replenish in foreign firms. In the long run, the deficit will be reduced as these factors will no longer be relevant.

18
Q

What is the type of trading bloc within the EU and how members does it have?

A

The European Monetary Union (EMU) was established in 1999 with 11 members and by 2012 it increased to 17 members. The continued crisis within the Eurozone leads to speculation that some might leave.

19
Q

What are the benefits to belonging to a monetary union?

A

Elimination of transaction costs (very small cost)
Price transparency (easy to compare)
Elimination of currency fluctuations
Increase in FDI: Argued that TNCs might be encouraged to invest in countries which are part of a monetary union because they would save on transaction costs when they sell goods to other member countries.
Little evidence of this though.

20
Q

What are the costs of belonging to a monetary union?

A

Transition costs
Diversity of economies in the union: Different countries will develop at different rates. Greece and Italian wages rose faster than Germany’s between 2000-2010.
Loss of independent monetary policy. Given to ECB. High interest needs high interest rate
Loss of exchange rate flexibility. Uncompetitive countries can no longer rely on a falling exchange rate to restore competitiveness.
More stringent monetary policy. ECB 2% inflation. More deflationary than UK.

21
Q

What is international competitiveness?

A

A measure of a country’s advantage or disadvantage in selling goods to international markets. either though Price competitiveness or non price.

22
Q

What effects international competitiveness?

A
Unit labour costs
Productivity
Real exchange rate 
Labour taxes or subsidies
Government laws and regulations
Research and development.
23
Q

What is the real exchange rate and how do you work it out ?

A

Real exchange rate refers to how much the goods ad services in the domestic country can be exchanged for the goods and services in a foreign country.
(Nominal exchange rate x Domestic price level) % foreign price level

24
Q

How is international competitiveness measured?

A

relative unit labour costs
Relative productivity measures
Global competitive index and other composite indices.

25
Q

What is the Global Competitiveness Index?

A

A way of measuring competitiveness internationally. Based on a range of indicators such as macroeconomic stability, labour market efficiency, infrastructure, health and primary education. Most competitive include 1.Switzerland 2.Singapore 3.Finland 4. Sweden 5.Netherlands 6.Germany 7. US 8.UK 9.Hong Kong 10.Japan

26
Q

Why is international competitiveness significant?

A

An improvement on the account
reduction in unemployment
Export led growth as an increase in exports has a multiplier effect on national income.

27
Q

Policies to increase International Competitiveness?

A
Better Infrastructure
Training and education 
Reduction in regulation and red tape.
Modern apprenticeships
reduction in employers' national insurance contributions
Tax incentives to encourage R&D
Currency Depreciation (Recession)
Protectionism