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Section 1The Balance of Payments
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Content
• Objectives
• The National Income Accounts
• S, I, and CA
• The BOP Accounts
• Bookkeeping
• Summary
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Objectives
• To review national income accounting– The national income accounts record all the
income and expenditures of a country. • To review balance of payments accounting
– The balance of payments accounts record all international transactions of a country.
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The National Income Accounts
• Gross National Product (GNP)– The value of all final goods and services
produced by a country’s factors of production and sold on the market in a given time period.
– The Output of a country in a given time period.
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The National Income Accounts
• Gross Domestic Product (GDP)– The value of all final goods and services
produced by the factors of production within a country’s borders.
– GDP = GNP - net receipts of factor income from the rest of the world.
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The National Income Accounts
• The National Income Identity Y = C + I + G + EX – IM
where:• Y is GNP
• C is consumption
• I is investment
• G is government purchases
• EX is exports
• IM is imports
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The National Income Accounts
• Consumption (C)– The share of GNP consumed by the private sector.
• Investment (I)– The share of GNP used by private firms to produce
future output.
• Government Purchases (G)– The share of GNP used by federal, state, or local
governments
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The National Income Accounts
• Exports (EX)– The share of GNP exported to the rest of the
world.
• Imports (IM)– The share of GNP imported from the rest of
the world.
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The National Income Accounts
• The Current Account (CA)– CA = EX – IM
– A country has a CA surplus when its CA > 0.
– A country has a CA deficit when its CA < 0.
– CA measures the size and direction of international borrowing.
– A country’s current account balance equals the change in its net foreign wealth.
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Figure 12-1: U.S. GNP and Its Components, 2000
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Figure 12-2: The U.S. Current Account and Net Foreign Wealth Position, 1977-2000
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US Current Account and Trade Balance(as a share of GDP)
Sources: Congressional Budget Office; Department of Commerce, Bureau of Economic Analysis. Note: The vertical bars indicate periods of recession as defined by the National Bureau of Economic Research
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S, I, and CA
• National Savings (S) – The share of GNP that is not devoted to household
consumption or government purchases.
– S = Y – C – G– S = PS + GS
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S, I, and CA
• Private Savings (PS)– The share of disposable income saved.– PS = Y – T – C
• Government Savings– The share of tax revenues (T) saved.– GS = T – G– Government budget deficit: G – T
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S, I, and CA
• The key relation: I = S – CA– S = PS + GS– PS = Y – T – C– GS = T – G– CA = EX – IM– Y = C + I + G + EX - IM
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S, I, and CA
• The current account is a measure of foreign savings at home.
• Are current account deficits good?
• The twin deficits hypothesis.
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The BOP Accounts
• The Balance of Payments (BOP) accounts is a record of all transactions between a country and the rest of the world.
• Every transaction enters the BOP twice: once as a credit (+) and once as a debit (-).
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The BOP Accounts
• The Current Account (CA)– The current account divides exports and
imports into three categories:• Merchandise trade
• Services
• Interest and dividend income
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The BOP Accounts
• The Capital and Financial Account (KA)– The capital and financial account records the
exports and imports of assets.– Capital inflow: An export of assets.– Capital outflow: An import of assets.
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The BOP Accounts
• Official Reserve Transactions (ΔRFX)– Official international reserves
• Foreign assets held by central banks.
– Official foreign exchange intervention• Exchange rate intervention often requires to alter
the amount of official reserves.
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The BOP Accounts
• The key relation: CA + KA = ΔRFX
• This is an accounting identity
• Accounting:– Exports are recorded as credits (+) in CA, KA– Imports are recorded as debits (-) in CA, KA
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Bookkeeping
• Example 1:A U.S. citizen buys a $1000 typewriter from an Italian company, and the Italian company deposits the $1000 in its account at Citibank in New York.
• Entries in the U.S. balance of payments:
– Purchases (imports) typewriter: Debit CA of $1000.
– Sells (exports) asset: Credit to KA of $1000.
– CA (-$1000) + KA (+$1000) = 0
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Bookkeeping
• Example 2: A U.S. citizen buys a $95 newly issued share of stock in the United Kingdom oil giant British Petroleum (BP) by using a check drawn on his stockbroker money market account. BP deposits the $95 in its own U.S. bank account at Second Bank of Chicago.
• Entries in the U.S. balance of payments:
– Purchases (imports) share: Debit to KA of $95.
– Sells (exports) assets: Credit to KA of $95.
– CA ($0) + KA (+$95 -$95) = 0
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Bookkeeping
• A reduction of official reserves: ΔRFX < 0– An export of assets by the central bank.
• An increase of official reserves: ΔRFX > 0– An import of assets by the central bank.
• So, changes in RFX similar to transactions in KA.
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Summary
• GNP measures the income and production of a country’s factors of production.
• GDP measures the output produced within a country’s territorial borders.
• Y = C + I + G + EX – IM• I = PS + GS – CA• The current account is a measure of the
country’s net lending to foreigners.
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Summary
• The current account records net exports of goods and services.
• The capital and financial accounts record net exports of assets.
• BOP = CA + KA = ΔRFX
• Exports are recorded as a credit.
• Imports are recorded as a debit.
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