international economics 5th by gerber ch09

Chapter 9
Trade and
the Balance
of Payments

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Introduction:
The Current Account
•

Current account: record of the goods and services into and out of the country

•

Financial account: record of the flow of financial capital to and from the country

•

Capital account: record of some specialized types of relatively small capital flows

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The Trade Balance
•

Trade balance- measures the difference between exports and imports of goods and services

– Trade deficit: negative trade balance
– Trade surplus: positive merchandise trade
balance

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The Current Account Balance
• Current account balance: Measures all current, non-capital
transactions between a nation and the rest of the world
– Goods and services = Exports of goods and services –
Imports
– Investment income = income from investments abroad –
income paid to foreigners on U.S. investments
– Unilateral transfers = any foreign aid or other transfers
received by foreigners – that given to foreigners

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TABLE 9.1
Components of the Current Account

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TABLE 9.2
The U.S. Current Account Balance,
2008

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TABLE 9.2 (continued)
The U.S. Current Account Balance,
2008

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FIGURE 9.1
U.S. Current Account Balances, 19502008

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U.S. Current Account Deficit

•

Current account deficit is not a sign of weakness

– In 90s, foreign demand for US exports
grew less rapidly than US demand for
imports
•

U.S. deficit is not sustainable in the long term

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Financial Account
•

Financial account: A record of the flow of financial capital to and from a country

•

Financial account is divided into three categories:

– Net changes in the U.S. owned assets
abroad
– Net changes in the foreign-based assets in
US
– Net change in financial derivatives

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Financial Account
• Net changes measure monetary value of the
change in country’s financial stake
• Domestic financial outflows are payments for
purchase of foreign-owned assets (debit)
• Financial inflows are receipts from sale of
domestic country’s assets to foreigners
(credit)

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Capital Account
•

Capital account: A record of the transfers of specific types of capital, such as:

– Debt forgiveness
– Personal assets that migrants take
with them abroad
– The transfer of real estate and other
fixed assets, such as a military base or

an embassy building

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The Three Accounts are
Interdependent
•

Current account measures flow of goods and services

•

Capital and financial accounts measure flow of financing

•

Sum of capital account and financial accounts equal current account with the opposite sign

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TABLE 9.3
The U.S. Balance of Payments, 2008

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TABLE 9.3 (continued)
The U.S. Balance of Payments, 2008

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Table 9.4 Components of the U.S. Financial
Account, 2008

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Types of Financial Flows
• Financial flows originate in the public and private
sectors
• Some financial flows are very mobile
– Brings economic volatility
– Sudden financial outflows can create a financial crisis
– Volatility of financial flows has increased concern about
the various types of flows

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Types of Financial Flows
•

Official reserve assets: mainly currencies of
largest and most stable economies in world;
dollars, euros, pounds, and yen

•

Reserve assets are used to settle international
debts and used by central banks and treasuries
as store of value

•

Scarce official reserves is sign of problems

•

There is no tracking of total reserve assets
available

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Largest Share of Financial Flows:
Private Assets
– Foreign Direct Investment (FDI): tangible items,
physical assets
– Securities and loans can be considered foreign
portfolio investment—paper assets such as stocks
and bonds
– Both FDI and foreign portfolio investment give their
holders a claim in a foreign economy’s future output
– Holders of FDI have longer time horizons

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Role of Expectations in
Financial Flows
•

Sudden stop refers to shifts in expectations can lead to sudden stoppages of financial inflows

•

Leads to destabilization of outflows of financial capital

•

Sudden stops have been involved in most financial crises in last 30 years

•

Can’t have current account deficit with negative financial account

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Limits on Financial Flows
•

In past most nations limited the movement of financial flows across their borders

•

Nations have started to liberalize financial flows across borders

– Desirable because restrictions on financial
flows limits availability of financial capital
– Thought to improve developing countries’
access to financial capital flows

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Limits on Financial Flows

•

Increased financial flows across borders should improve economic efficiency

•

Recent volatility suggests more regulation is needed

•

Key is to capture benefits of more investment while limiting risks of capital flight

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TABLE 9.6
The U.S Financial Accounts, 2007-2008
(millions of dollars)

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TABLE 9.6 (continued)
The U.S Financial Accounts, 2007-2008
(millions of dollars)

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The National Income and
Product Accounts
•

National income and product accounts: accounting system for a country’s total production and
income

– Gross domestic product (GDP): the
value of all final goods and services
produced within a country´s borders
– Gross national product (GNP): the
value of all final goods and services
produced by a country’s resources no
matter where they produce
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