Ecomomics evelopment 10th y p todaro and smith chapter 13
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Chapter 13
Balance of
Payments,
Developing-Country
Debt, and the
Macroeconomic
Stabilization
Controversy
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The Balance of Payments
•
The current account: net flow of merchandise trade
•
The capital account: net flow of financial capital
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13-2
The Balance of Payments
The current account:
•
Exports (+)
•
Imports (-)
•
Investment income (+)
•
Debt-service payments (-)
•
Net remittances and transfers (+)
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13-3
The Balance of Payments
The capital account:
•
Direct private investment (+)
•
Foreign loans (+)
•
Foreign assets of domestic banks (-)
•
Resident capital outflow (-)
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13-4
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13-5
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13-6
The Balance of Payments
•
•
The balance of payments position:
–
Surplus: inflows > outflows
–
Deficit: outflows > inflows
Consequence:
–
Surplus: increase in cash reserves account
–
Deficit: decrease in cash reserves account
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13-7
Payments Balances on Current
Account, 1980–2006 (billions of
dollars)
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13-8
Consequences of BOP Deficit
•
Reduce cash reserves account
•
Inhabit imports: impose tariffs/quotas; foreign exchange devaluation
•
Increase exports: foreign exchange devaluation
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13-9
Consequences of BOP Deficit
• Impose restrictive fiscal and monetary policy
– Reduce income expansion to lower import growth
– Reduce inflation for exports to compete internationally
• Attract direct foreign investment
• Receive a greater share of the IMF’s “paper gold”
known as the Special Drawing Rights (SDRs)
• Increase external debt
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13-10
Third World Debt Crisis
•
The accumulation of external debt Since early 1980s
•
Allocation of a larger percentage of the GDP (from export earnings) to service
external debt
•
Scarcity of development funds: lack of investment in physical, human, and
social capital
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13-11
Dimensions of the LDC Debt
Burden, 1970–2008
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13-12
Severely Indebted Countries
•
Large outstanding debt
•
Debt as a large percentage of GDP and exports
•
High debt service-to-GDP (or GNI) ratio
•
High debt service-to-exports ratio
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13-13
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13-14
External Debt Accumulation
Define Fn as the capital inflow (i.e., the amount of debt accumulation)
Fn = dD
D = total external debt
d = percentage increase in total external debt
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13-15
External Debt Accumulation
•
Define BT as the basic transfer and r as average interest rate
charged on external debt
BT = dD – rD = (d - r)D
- dD: external debt
- rD: amortized debt
- d>r: debt accumulation
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13-16
The Debt Crisis
•
Rising d and d > r
•
Switching from fixed, concessional rates to short-term, variable rates
•
BOP deficits as LDCs’ commodity prices plummeted
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13-17
The Debt Crisis
•
Global recession, reducing demand for LDC exports
•
Lack of confidence in LDCs’ ability to repay foreign loans
•
Substantial amount of capital flight from the LDCs
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13-18
Petrodollars and Third World
Debt
The OPEC (i.e., Qatar, Saudi Arabia, Kuwait):
• Exports oil to LDCs and MDCs
• Deposits some of their export earnings in
Western banks
• Provides grants and interest-free loans to LDCs
Western Banks:
• Lend petrodollars to LDCs
• Receive debt service payments from LDCs
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13-19
The Mechanics of Petrodollar
Recycling
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13-20
The IMF Stabilization Policy
• Remove foreign exchange and import controls
• Use a floating foreign exchange rate
• Adopt stringent anti-inflationary policy
– Increase interest rates
– Reduce budget deficits
– Control wage increases
– Eliminate price subsidies
• Invite foreign investment and improve economic
openness
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13-21
The IMF Stabilization Policy
Success in LDCs:
•
Reduce inflation
•
Improve balance of payments
•
Eliminate parallel exchange rates
•
Improve economic efficiency
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13-22
The IMF Stabilization Policy
Failure in LDCs:
•
Double standards
– Harsh adjustments for the LDCs
– No adjustment for the MDCs
•
Lending agencies
– Agents of international capitalism
– Increase LDC dependence and poverty
– Prefer short-term to long-term developmental
loans
– Provide
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for corrupt
LDC governments
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13-23
Global Dimensions of LDC Debt
•
Restructuring of short-term to long-term loans
•
Debt forgiveness to selected LDCs if they continue to use IMF stabilization
policy
•
Debt-for-equity swap: banks exchange loans for ownership of domestic
industries
•
Debt-for-nature swap: MDC government forgive loans if LDCs invest in
preserving the environment
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13-24
Has the Debt Crisis Disappeared?
No! Debt crisis is just postponed!
•
LDCs continue to borrow
•
LDCs continue to make large debt service payments
•
In addition to the severely indebted LDCs, countries in Africa are greatly
dependent on external debt
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13-25
