BOP PART 2
BOP DISEQUILIBRIUM: When there's persistent & substential deficit/surplus
BOP DEFICIT/SURPLUS
Is a problem when it exceeds 5-6% of country's GDP
CAUSES OF CURRENT A/C DEFICIT:
CAUSES OF CAPITAL A/C DEFICIT:
1) CHANGES IN GLOBAL DEMAND CONDITIONS
2) LOSS OF COMPARATIVE ADVANTAGE--> decrease in country's internal efficiency or competitors's efficiency improved--> exports fall leading to trade deficit
3) DETERIORATION OF TERMS OF TRADE: a country may rely on 1 or 2 major exports (developing countries rely on agricultural X)--> fall in prices of these primary exports may lead to current a/c deficit as the PED<1 for these primary exports--> Qdd increases less than proportionately to fall in price--->X earnings (TRx) fall--> hence CA deficit
FALLING INCOME OF MAIN TRADING PARTNERS--> fall in demand for the country's exports (our X falls)
HIGHER INFLATION RATES THAN TRADING PARTNERS--> domestic goods relatively more expensive than imported goods--> consumers will switch to imported gds--> DDm RISE, total EXPENDITURE for M RISE-->at the same time, exported gds more expensive than its trading rivals.Px RISE--> hence quantity demanded for exports fall--> assume PEDx>1, Qdd fall more than proportionately to price rise, hence export revenue fall--> country's current a/c in deficit
Due to high labour cost, many DC e.g)US lost their comparative advantage in labour intensive manufactured goods to the low cost developing countries e.g)China
Chinese M to US are relatively cheaper and DDm rises, hence US expt. on M rises + US X of labour-intensive goods are more expensive hence Add falls, PEDx>1, Qdd fall more than proportionately, US X earnings fall--> hence current a/c deficit
4) OVER-VALUED EXCHANGE RATE Overvaluation of the US dollars against the Asian currencies--> strength of US dollar has reduced the competitiveness of US exports in overseas mets + encourage imports
2)EXPECTED FALL IN EXTERNAL VALUE OF MONEY: Hence hot money outflow--> capital a/c in deficit
1)LOWER INTEREST RATE THAN FOREIGN COUNTRIES' : Foreigners will withdraw funds from domestic banks & deposit it in foreign banks with relatively higher I/r rates to earn higher returns--> CAPITAL OUTFLOW, hence capital a/c goes into deficit
3)FALL IN EXPECTED RETURNS ON INVESTMENT: e.g due to rising cost of capital// fall in National Y//political instability--> fall in FDI into country--> capital a/c worsen to a deficit
4)FALLING INCOME GLOBALLY: global economic slowdown--> rising pessimism & lower business confidence--> firms hold back expansion plans due to uncertainty--> FDI FALL GLOBALLY--> worsen capital a/c
CAUSES OF CURRENT A/C SURPLUS:
CAUSES OF CAPITAL A/C SURPLUS:
1)RISING INCOME OF TRADING PARTNERS: increase dd for country's X (economic recovery of global economy is expected to cause SG's X & GDP to rise)
2)DEVELOPMENT OF NEW NICHE SECTORS:huge resources devoted to tourism and healthcare sector--> growth of these sectors contributed immensely to improvement in srvs balance on our invisible trade account--> subsequently improve country's current a/c
3)IMPROVEMENT IN TERMS OF TRADE: higher dd for country's X--> higher X revenue--> current a/c surplus
4)UNDER-VALUED EXCHANGE RATE: causes exports to be cheaper--> higher X earnings assuming PEDx>1--> imports more expensive--> fall in M expenditure assuming PEDm>1 (E.G CHINA)--> Hence current a/c surplus
1)HIGHER INTEREST RATE THAN FOREIGN COUNTRIES': foreigners will deposit their funds in domestic banks to earn higher I/r returns--> capital inflow--> capital a/c surplus
2)EXPECTED RISE IN EXTERNAL VALUE OF MONEY: Hot money inflow--> improve capital a/c
3)RISE IN EXPECTED RETURNS ON INVESTMENT: due to falling cost of capital//lower corporate tax//large domestic mkt--> rise in FDI into country--> improve capital ac
4)RISING INCOME GLOBALLY: Global economic boom lead to rising optimism and business confidence--> firms pursues expansion plans due to higher expected level of future profit and expected returns to investment--> FDI RISE GLOBALLY--> improve capital a/c of many countries(higher LT capital flows)
CONSEQUENCES OF PERSISTENT BOP DEFICIT IN PERSPECTIVES OF...
CONSEQUENCES OF PERSISTENT BOP SURPLUS IN PERSPECTIVE OF...
CONSUMERS ❤
PRODUCERS ❤
GOVT ❤
CONSUMERS ❤
PRODUCERS ❤
GOVT ❤
consumers spend more on better quality foreign gds & srvs --> SOL INCREASE
Govt may impose taxes on foreign gds to reduce consumption of M--> reduces competition in domestic mkt & domestic prices likely to rise--Assume wages rise at slower rate--> PP of consumers fall--> SOL FALLS
to boost its X & bring Bop back to elm, country may be forced to devalue its currency --> fall in external value of country's currency-->raises prices of M--> reduce country's ability to import from overseas--> LOWER SOL with a fall in M of consumer gds + LOWER POTENTIAL EG with a fall in M of capital gds 🏁 🚩
persistent BOP deficit shows lack of competitiveness of domestic firms in terms of prices & quality--> domestic firms face strong competition from foreign M --> mkt shares dwindle, firms cut back investment expenditure--> firms that cannot withstand foreign competition shut down
FALLING FOREIGN RESERVES--> run the risk of exhaustion if deficit continues indefinitely
🏁 🚩
M may exceeds X & Investment outflow exceeds investments inflow--> indicates net withdrawal from country's circular flow of Y as M>X--> FALL IN AD-> MULTIPLIED FALL IN NATIONAL Y due to multiplier effect + UN worsens
CUT M DUE TO LACK OF ABILITY TO PAY--> GREATLY REDUCE CONSUMER & INVESTOR CONFIDENCE--> Further deterioration In economic performance
X & I ARE INCREASING--> AD INCREASE--> multiplied INCREASE IN NATIONAL Y --> if economy below Yf, REAL GDP INCREASE + UN FALL --> if economy initially close to Yf, demand-pull inflation, cost of living rise, SOL fall if wage rises at slower rate
FOREIGN RESERVES HAVE BEEN INCREASING as net receipts > expenditures
APPRECIATE CURRENCY SHARPLY Due to loss of competitiveness in X in future
REDUCE LEVEL OF INVESTMENT & PRODUCTION
FDIs important to SG--> SG small, open & lack natural resources
INVESTMENT RISE ---> AD RISE--> INCOME RISE (ACTUAL GROWTH)
INCREASE TALENT POOL (attract foreign talent to relocate to SG)
INCREASE PRODUCTIVITY & EFFICIENCY --> RISE IN LRAS
IMPROVES BOP CAPITAL A/C