BOP Deficits and Surplus (1)

7/31/2019 BOP Deficits and Surplus (1)

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BOP DEFICITS & SURPLUS


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BALANCEOF PAYMENTSACCOUNT

Current account payment for goods & services(X-M)

Capital account (linked to immigrant and emigrantfinances)

Financial account major player in the BoP


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FINANCIALACCOUNTS

This measures the transactions in financialassets

Split into 3 parts

FDI foreign direct investment

Portfolio investment

& other investments


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FINANCIAL ACCOUNTS

FDI Foreign DirectInvestment

Includes the flow if

money used topurchase controllinginterest in a foreign firm

Portfolio investment

Flow of money topurchase foreign

shares

Other Investments

Trade credit, loans,

purchase of currencies,bank deposits


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BALANCING OURPAYMENTS!

If we have a current account deficit, we must have asurplus on the capital and financial accounts.

This is because we have to pay for everything weconsume and fund it in some way to fund our current

account deficit, we must be selling assets to foreigninvestors.

Additionally, because the data is never completelyaccurate, the accounts also incorporate a net errors andomissions item, which makes sure that everything willbalance.


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SHOULDCOUNTRIESBEWORRIED?


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AREPERSISTENTIMBALANCESONTHE

CURRENTACCOUNTACAUSEFOR

CONCERN?

Traditionally, deficits have been seen as

worse than surpluses.

However, a small imbalance should not be

cause for concern; persistent largeimbalances are more worrying.

Large and persistent deficits can be aproblem because there is a need to finance

the increasing expenditure on imports,usually through loans from abroad (whichshow as a surplus on the financial account);


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AREPERSISTENTIMBALANCESONTHE

CURRENTACCOUNTACAUSEFOR

CONCERN?

having large debts, especially with creditorsabroad, can be problematic when thosecreditors want their money back or decide todiscontinue lending.

Large and persistent surpluses can be a

problem because resources are focused on

producing to meet export demand rather

than domestic demand.


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ISRUNNINGADEFICITORSURPLUSA

PROBLEM?


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CORRECTINGPROBLEMSONTHEBALANCE

OFPAYMENTSCURRENTACCOUNT

Governments tend not to be as concerned withcorrecting surpluses or deficits on the currentaccount as they used to be, but there is evidence ofglobal imbalance, with some countries running thelargest (persistent) deficits they have ever seen and

others (particularly oil-producing counties andChina) running enormous surpluses.


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Theoretically, under a floating exchange rateregime, current account imbalances will beself-correcting. In practise, this tends not tohappen for a multitude of reasons. there are

essentially three ways of correcting a deficit:

expenditure-reducing,expenditure switching andsupply-side policies.


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EXPENDITUREREDUCINGPOLICIES

Expenditure reducing policies require thegovernment to cut the income of its citizens,so that they spend less on imports (forexample, through deflationary fiscal policy);

however, a side-effect of this is thatspending on domestic goods alsodecreases, so AD falls.

This can reduce economic growth andcause recession. It is an unpopular policy,especially politically, and therefore unlikelyto be used.


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EXPENDITURESWITCHINGPOLICIES

Expenditure switching policies require thegovernment to find ways of reducing itscitizens spending on imports, using protectionist measures such as tariffs or

quotas,

or even a devaluation of the currency under afixed exchange rate regime.

However, since this often leads toretaliation, exports will also fall, and thecurrent account deficit may not becorrected.


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SUPPLY-SIDEPOLICIES

Supply-side policies, such as spending on

education and training in order to improve

the quality and therefore competitiveness

of exports, aim to boost export demandrather than reduce import demand.

Whilst they can incur an opportunity cost,

they contribute positively to economic

growth and can be anti-inflationary in the

long run.


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SUPPLY SIDE POLICIES

Privatisation

Deregulations of Markets

Encouragement to Small Business Start ups /

Entrepreneurship Capital Investment & Innovation

Trade Union Reforms

Increased Expenditure on Training & Development


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DIRECT CONTROLS

Heavy Import Duties on Luxurious Goods

Free Entry of Capital Goods

Exchange Controls

Fixation of Quotas Incentives to Exporters

Statuatory Restrictions

Documents

BOP Deficits and Surplus (1)