Tenta 8 juni Flashcards
Balance of payments (BOP) statement
An income statement för an entire country that records all income and expenditures for that country in its transactions with the ROW over a period of time.
What have to balance in BOP?
The cash inflows and outflows have to be equal over time.
What will generate income?
Selling three things: goods, services and assets - all generate capital inflow.
Key to BOP accounting?
“Follow the money”.
What makes BOP accounting hard?
- The magnitude of transactions are huge
- The illegal ones are covered and therefore hard to measure
- More and more intangible services are traded…
- Developing countries do not have sufficient resources to do this correctly.
3 main accounts of BOP:
- Current account
- Capital account - private and public
- Errors & omissions
Current account
Measures the trade balance - the value of G&S over time.
Current account balance = X-IM.
If X>M = net seller ( CA surplus)
If X
Capital account
Financial account. Trading of assets. Private measures trade by private firms and individuals while public measures the governmental trade.
Surplus = seller
Deficit = buyer.
Errors & Omissions
Inevitably transactions will be missed and will not sum up to zero - here the adjustments are made. A very big post can indicate that the economy is illa ute… Not enough control.
FER
= Foreign exchange reserves. The value of foreign assets held by the country’s CB - buying/selling is recorded in the public capital account.
3 ways to interpret + and - in BOP:
- is surplus, - is deficit.
- is net cash inflow, - is net cash outflow.
- is net seller, - is net buyer.
All these interpretations are equivalent.
Are G&S and capital moving in the same directions?
YES! If G&S are leaving the country (net seller) then capital is also moving the country (net buyer of assets instead).
Why must the balance of payments balance? Algebraic?
Because NII says that.
NII: National Income Identity
We know that aggregate income is equal to aggregate spending: Y =C + I + G + (X-M).
Manipulating this can give us:
(Y-C-G) - I = (X-M)
And we know that income minus consumptions is equal to savings so:
(S-I) = (X-M)
–> (X-M) + (I-S) = 0
Must balance!!
What does NII tell su about current account deficits?
Tat if X-M <0 then (I-S) must be >0. So a deficit in trade means a surplus in capital and vice versa.
Debit entry in BOP
A negative entry in the BOP that records a transaction resulting in a payment abroad by aa domestic resident.
Credit entry in BOP
A positive entry in the BOP that records a transactions resulting in a payment from abroad to a domestic resident.
Double-entry bookkeeping system
In the BOP, an international transaction always results in a credit and an offsetting debit entry - therefore the sum of all entries equal zero.
Two types of capital flows between countries:
- Portfolio investment = assets that results in less than a 10% ownership share in the entity.
- FDI = assets with 10% or greater ownership.
What does a BOP deficit mean? Overall it sum to zero, right?
Yes, thats right. Overall it will sum to 0, but a deficit refers to a situation when the public capital account is positive (and current account + private capital account sum to negative). Private payments made to foreigners are greater than the received ones.
BOP surplus then?
It must be a situation where the public capital account is negative due to a trade surplus.
BOP equilibrium:
When the sum of the current account and the private account is zero so that the official settlements balance is also zero.
Is it necessarily good/bad to be a net debtor/creditor?
No, it all depends on a lot of things. For ex a debtor have less claims on foreigners than they have on us, but that means that capital is flowing into our nation today. If we use these money well, productive investments, it can payoff in the future with higher welfare. It is all about using the situation right. If the inflows are used for today’s consumption - then the future might be bad when you have to pay back the “loans”.
Interpret (S-I)>0
Okay, so domestic savings exceeds domestic investment, so when investments are done, there are savings over. This excess will be invested abroad –> capital is exported (importing assets). So home country is exporting capital which results in a capital account deficit. –> I-S <0 so we have a deficit. (and trade surplus instead).
Interpret S< I
Okay, so savings is now insufficient for our investments. We have to import savings/capita that results in a capital account surplus.
If (S-I) is negative, then (X-M) must also be negative so this comes along with a trade deficit.
Will a policy change have any effect in the trade balance?
Maybe, only if it also affects S or I. According to NII, X and M cannot change if not S or I changes too.
If S goes up by the policy, then (S-I) goes up and so (X-M) cam also rise.
Are CA surplus desirable?
2 theories
Conventional wisdom says yes. Surpluses are always good.
Empirical evidence/modern theory is not so clear. Countries with trade deficits can have very strong economy. It all depends on what they do with their money.
Are transactions a zero-sum game?
Conventional wisdom says again yes. Whatever I win, you lose.
BUT modern theory says that trade is mutually beneficial. Both parties are better off, otherwise you would not have engaged in the transaction. A borrowers do not lose - a borrower can invest in a house to his family, how is that a loss?
To understand trade imbalances you must first…
…understand why capital leave some countries and enter other. International capital flows.
Exchange rate=
The market price of foreign exchange. It is a relative price of a currency in terms of another. Always stated in pairs, therefore named bilateral rates.
Spot market
A market for contracts requiring the immediate sale or purchase of a currency asset.
S =
Spot rate.
NC/1 unit FC.
Depreciation
The value of the currency decreases, so the amount needed to purchase the other currency increases.
Appreciation
The value of the currency increases, so the amount needed to purchase the other currency decreases.
Cross rate
A bilateral exchange rate calculated from two other bilateral exchange rates.
Bid price
The rate at which the bank is willing to buy currency from you.
Ask price
The rate at which the bank is willing to sell currency to you. The offer.
Bid-ask spread
The difference between the bid and the ask price. This is the bank’s profit from the trade of currencies.
Bid-ask margin
The difference between bid and ask price expressed as a precent of the ask price.
Real exchange rate
A bilateral exchange rate that has been adjusted for price changes that occurred in the two nations.
This is used when we care about the purchasing power of our currency.
Real exchange rate = s =
=S*(P1/P2)
Ex (SEK/EUR) * (Pe/Ps)
Must the real and nominal exchange rates move in the same direction?
No, if the nation’s currency depreciates against another, while at the same time prices rise faster than in the other country, this price increase can more than offset the deprecation and cause a real appreciation. –> The purchasing power lowered by the rapid price increase (inflation).
Effective exchange rate
A measure of the weighted-average value of a currency relative to a selected group of currencies.
This can then tell us if the currency overall have become weaker or stronger in its value. (Against some countries you rise, and against other you fall, but this gives a “total” view).
Which currencies should you incorporate in the EER measure when constructing it?
The ones you judge to be the most important - depends on situation. But mostly your biggest trading partners.
Also, you can put different weights to them
REER:
The real effective exchange rate is constructed in much the same way but using the real exchange rates instead.
Composite currency:
A currency unit in which the value is expressed as a weighted average of a selected basket of currencies.
Spatial arbitrage
The act of profiting from exchange-rate differences that prevail in different geographical markets.
You buy at a low price in one market and sell at a higher rate in another market.
Triangular arbitrage
Three transactions undertaken in three different markets and/or in three different currencies in order to profit from differences in prices.
What does it mean that demand for currencies is derived demand?
It means that we derive the demand for currencies fromt he demand for the G&S and assets that people use the currency to purchase. So the demand for SEK comes from the demand for our Swedish G&S and assets.
Demand curve for currency
Downward sloping curve that relates S to Q. The lower the rate is (cheaper), the more people demand of that currency.
Shift in demand curve for a currency
This can occur if something other than S changes, that makes demand for that currency change. Ex. if it is war in Iraq, their currency will probably be less demanded.
Supply curve for currency
Upward sloping curve that relates S to Q. If S rises, more of the currency is supplied.
Shift in supply curve for a currency
When supply changes at a given S. This can happen due to a lot of things.
Equilibrium exchange rate
The market clearing exchange rate - when D=S. The intersection of the two curves. As soon as one of the curves shifts, the equilibrium changes too.
