THEME 4

Question 1

What is the current account

Answer 1

-balance of trade in goods
-balance of trade in services
-net primary income (income from interest and profits)
-net secondary income (contributions to military aid)

Question 2

What are the other accounts except the current account

Answer 2

financial account and capital account

Question 3

structural causes of current account deficit

Answer 3

• under-investment
  -low productivity
  -persistently high inflation

Question 4

cyclical causes of current account deficit

Answer 4

-boom in domestic demand
-over valued exchange rate
-increased demand for imported technology

Question 5

if you have a current account deficit, what must you also have

Answer 5

a financial account surplus

Question 6

In short terms what is the main objective

Answer 6

increase exports and reduce imports

Question 7

What is deflationary policy

Answer 7

using tight fiscal and monetary policy in order to cause exports to increase and imports to decrease

Question 8

(deflationary policy) how does tight fiscal policy work for reducing imports

Answer 8

High tax, low government spending. Less imports as this cuts spending. Uk imports highly inelastic though so it might not work. food and fuel

Question 9

(deflationary policy) how does tight fiscal policy work for increasing exports

Answer 9

Does not directly cause high exports. It could cause lower inflation which makes exporting cheaper. However, there is no guarantee that other countries will want our exports due to non price competition.

Question 10

(deflationary policy) how does tight monetary policy work for reducing imports

Answer 10

high interest rates. low credit availability. QE will be stopped and QT might be introduced.
demand will drop as interest rates rise so people save which will decrease the amount of imports.

Question 11

(deflationary policy) how does tight monetary policy work for increasing exports

Answer 11

In theory inflation should drop making exports increase by becoming cheaper. However, interest rates cause SPICED and exports could become more expensive due to the exchange rate getting stronger. (as hot money comes in, imports become cheaper and exports become more expensive)

Question 12

Name some supply side policies as a deficit removal policy

Answer 12

subsidies more production (decrease costs and increase technology)
-decrease coorporation tax (businesses keep profit and can re invest more)
-increase spending for education (better opportunities leading to more production)
-increase minimum wage (more incentive to take a job)
-improve infrastructure
-work on training / apprenticeships

Question 13

Eval of supply side policies

Answer 13

Time lag in making new industries. Absolute and comparative advantage but they only occur in a free market.

Question 14

What is a potential problem for supply side policies

Answer 14

If current account deficit as a percentage of gdp is greater than percentage of gdp growth then there is a problem

Question 15

4 areas of protectionism

Answer 15

-quota - limit account you can bring in
-tariff - tax on imports
-embargo - complete ban on imports
-subsidise the domestic industry - reducing cost of production within domestic industries

Question 16

Evaluation of protectionism

Answer 16

• retaliation (other countries will do it back)
• non price competition (maybe replace imports)
• inflationary pressure due to tax on imports which is cost push inflation

Question 17

what is the main objective for exchange rate policy

Answer 17

to weaken the exchange rate

Question 18

3 main changes when performing exchange rate policy

Answer 18

• Lower interest rates
• increase money supply
• sell domestic currency reserves

Question 19

(exchange rate policy) evaluative points of lowering interest rates and increasing money supply for exchange rate policies

Answer 19

-imports are inelastic
-non price competition
-liquidity trap
-depends on other countries exchange rates

Question 20

(exchange rate policy) what does it mean by selling domestic currency reserves

Answer 20

sell your currency and buy others. Increases demand for the currency you buy and increases supply of the currency you sell.

Question 21

(exchange rate policy) evaluative point of selling domestic currency reserves

Answer 21

run out of your own money

Question 22

what is the MARSHALL LERNER CONDITION

Answer 22

depreciation of the currency will only work if the combined elasticities of imports and exports are greater than 1

Question 23

j curve

Answer 23

check book

Question 24

what does the j curve show

Answer 24

it shows time lags between a falling currency and an improved trade balance

Question 25

what could a current account deficit lead to

Answer 25

-structural weakness
-unbalanced economy
-loss of output and employment
-downward exchange rate policy

Question 26

what is a floating exchange rate

Answer 26

a countries exchange rate where currency price is determined by supply and demand of other currencies

Question 27

benefits of a floating exchange rate

Answer 27

-stability in the balance of payments
-foreign exchange is unrestricted
-central bank has less need for power so there is more independence

Question 28

drawbacks of a floating exchange rate

Answer 28

-exchange rate volatility
-currency risk

Question 29

fixed exchange rate

Answer 29

you set the value but it is only fixed towards other fixed exchange rates. (if you have to adjust it then it is revalue and devalue)

Question 30

benefits of fixed exchange rate

Answer 30

-smooth flow of money from 1 country to another
-helps smaller countries avoid devaluation of their currency
-less developed countries attract foreign investment

Question 31

drawbacks of fixed exchange rate

Answer 31

-lack of flexibility
-balance of payments issues
-dependence on reserves

Question 32

managed floating

Answer 32

manipulate the exchange rate to benefit the countries specific needs. benefits of both in theory

Question 33

disadvantages of managed floating

Answer 33

• removes option for the government to use currency to improve international trade and competitiveness
• may be volatile in markets inhibiting the trade