DatesApril 1925 UK returns to goldOctober 1929 The Great CrashSept 1931 UK leaves goldAug 15, 1971 Nixon Econ Program Gold window closed/Import surtax/Wage/Price FreezeOctober 1973 Arab Oil EmbargoOct 6, 1979 VolckerMonetarist experiment1982+ Third World Debt CrisisFebruary 1985 $ - £ “parity”Oct 19, 1987 Black MondayNov 9, 1989 Berlin Wall DownSeptember 1992 ERM CollapseDecember 1994 Tequila CrisisAug 1997 – 1998 East Asia CrisisSept 1998 Long Term Capital ManagementJan 1, 1999 €Sept 11, 2001January 2002 Argentine Peso CollapseAugust 2007 US Mortgage Bubble Collapse2008 US/UK/Ireland/Spain Housing Bubble CollapseCredit Crunch:Bear/Fannie/Freddie/Lehman/MerrillAIG/TARP/Currency Swaps

… and Places

Bretton Woods, ’44: IMF, IBRD

• Vietnam, 1964…

Plaza 9/85 – Louvre 2/87

• Japan bubble Maastricht, 1991 Washington Consensus

Basel I,II,… 1988, 2004

PIIGS…2010 –

The National Income Accounts Gross national product (GNP)

• The market value of all final goods and services produced by a country’s factors of production in a year, whether in the country or abroad.

Y = C + I + G + EX – IM

Y = C + I + G + CA

Expenditure by domestic individuals and

institutions

National Income Accounting for an Open Economy

Consumption (C) = 70.6 % of 2010 GDP

•The portion of GNP purchased by the private sector to fulfill current wants

Investment (I) = 12.0 % of 2010 GDP

•The part of output used by private firms to produce future output

Government Purchases (G) = 20.5 % of 2010 GDP

•Any goods and services purchased by federal, state, or local governments

Current Account (CA = “EX – IM”) = 12.5 – 16.1 = - 3.6 %

•Goods and services, including factor service, purchased by foreigners net of foreign g&s purchased by residents

U.S. GNP and Its Components

Source: U.S. Department of Commerce, Bureau of Economic Analysis.

For purposes of macro analysis,

GNP = Y = NI

Gross Domestic Product (GDP) measures the volume of production within a country’s borders.• GDP equals GNP minus net factor income from the rest of the

world. Income earned from production abroad doesn’t count in gross domestic product.

GDP = GNP – Income earned abroad

The National Income Accounts

National Income•Earned over a period by a nation’s factors of production.

NI = GNP – Depreciation – IBT + Unilateral Transfers

The Current Account and Foreign Indebtedness

• Current account (CA) balance: CA = EX – IM CA measures the size and direction of international lending.

• If we import more than we export (CA<0), we must pay for the difference by borrowing from foreigners.

CA equals the change in a country’s net foreign wealth. CA balance is equal to the difference between national income

and domestic residents’ spending or absorption:

Y – (C+ I + G) = CA CA balance is what we produce (Y) less domestic demand.

• We can live “beyond our means” if we run a current account deficit, import more than we export, and borrow the difference from foreigners.

CA balance is the excess supply of domestic financing. • If we produce and earn more than domestic demand (CA>0), we

lend our “excess” saving to foreigners

U.S. Current Account and Net Foreign Wealth, 1976–2009

Source: U.S. Department of Commerce, Bureau of Economic Analysis.

Saving and the Current Account• National saving (S) : The portion of output, Y, that is not

devoted to household consumption, C, or government purchases, G.

S = I in a closed economy.• A closed economy can save only by building up its capital stock • An open economy can save either by building up its capital stock

or by acquiring foreign wealth

S = I + CA

• A country’s CA surplus is its net foreign investment:

CA = NFI = Capital Outflows- CA = Capital Inflows

International Monetary Arithmetic Sources of Income = Uses of Income

C + I + G + CA = T + Sp + C

I = Sp + (T – G) – CA = Nat’l Saving+Capital Inflows Domestic investment is financed by our own saving plus

our net “borrowing” from foreigners

Nat’l Borrowing = - CA = (I - Sp) + (G – T) The Twin Deficits

Private Saving (Sp ) and Government Saving (Sg )

Sp = Y – T – C = I + CA – (T – G) = I + CA – Sg Sp = I + CA + (G – T)

Private saving finances domestic investment, net foreign investment, and the government’s deficit

Three types of international transactions

• Payments for exports or imports of goods or services, including factor services

Current Account

• Purchases or sales of financial assets

Financial Account

• Transfers of wealth between countries Capital Account

The Fundamental Balance of Payments Identity

Current account + financial account + capital account = 0

The Balance of Payments Accounts

U.S. Balance of Payments Accounts for 2006 (billions of dollars)

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U.S. Balance of Payments Accounts for 2006 (billions of dollars, cont.)

Financial account has at least 3 subcategories:

Official (international) reserve assets

• Foreign assets are held by central banks as a cushion against national economic misfortune.

• Central banks often buy or sell international reserves in private asset markets to affect macroeconomic conditions in their economies.

• Official reserve assets include government bonds, currency, gold and accounts at the International Monetary Fund.

All other assets Statistical discrepancy…so the balance balances The (negative) value of official reserve asset change is called the official

settlements balance or “balance of payments.” A country with a negative balance of payments is running down its reserve assets or incurring debts to foreign monetary authorities. In 2009, the Fed & Treasury increased their holdings of foreign assets by

$52.3 billion and foreign central banks and government agencies increased their holdings of US assets by $450.0 billion. The $397.7 net inflow

US “Balance of Payments” Deficit = $397.7 billion

U.S. Current Account and Net Foreign Wealth, 1976–2009

Source: U.S. Department of Commerce, Bureau of Economic Analysis.

U.S. Gross Foreign Assets and Liabilities, 1976-2009

Source: U.S. Department of Commerce, Bureau of Economic Analysis, June 2010.

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International Investment Position of the United States at Year End, 2005 and 2006 (millions of dollars)

International Investment Position of the United States at Year End, 2005 and 2006 (millions of dollars)

Problems, Chapter 13 Why might a government be concerned about a large CA deficit or

surplus? Why might it be concerned about a large surplus or deficit in its official settlements account (i.e., its “balance of payments”)?

Can a country have a CA deficit at the same time it has a BoP surplus? Explain using hypothetical figures for the CA and the nonreserve financial account. Discuss implications for official international reserve flows.

In 2006, US income receipts on foreign assets were $647.6 billion while payments on liabilities (foreign owned assets in the US) were $604.4 billion. Yet the US is a substantial net debtor to foreigners. How then is it possible that the US received more foreign income than it paid out?