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Payments Among Nations. Pugel: Chapter 15 Mankiw: Chapter 5, Section 1. Accounting in Open Economies. Balance of Payments International Investment Position. Questions. Why does the USA have a Trade Deficit? Is this “Bad?”. Answers. Why does the USA have a Trade Deficit?

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payments among nations

Payments Among Nations

Pugel: Chapter 15

Mankiw: Chapter 5, Section 1

accounting in open economies
Accounting in Open Economies
  • Balance of Payments
  • International Investment Position
questions
Questions
  • Why does the USA have a Trade Deficit?
  • Is this “Bad?”
answers
Answers
  • Why does the USA have a Trade Deficit?

- Because Savings is Less than Investment

  • Is this “Bad?”

- Yes, if the Saving Rate is “Too Low”

wrong answers
Wrong Answers
  • Why does the USA have a Trade Deficit?
    • Foreign Trade Barriers
    • US Goods Aren’t “Competitive”
  • Is this “Bad?”

- Yes, Trade Deficits Cause Unemployment

balance of payments 1
Balance of Payments - 1
  • Record of International Payments
  • Payments to Domestic (firms, individuals, or governments) from Foreigners are a plus (+)
  • Payments from Domestic (firms, individuals, or governments) to Foreigners are a minus (-)
balance of payments 2
Balance of Payments – 2
  • Current Account (CA) =

Exports – Imports

+ Net Factor Income Received

+ Net Transfers Received

  • GNP = C + I + G + CA
  • GDP = C + I + G + NX
usa current account 2004 billions
USA Current Account(2004, $ Billions)

IMF, International Financial Statistics, February, 2004

chn current account 2002 billions
CHN Current Account(2002, $ Billions)

IMF, International Financial Statistics, February, 2004. Estimate for 12 months to Oct, 06: CA=161 The Economist

balance of payments 4
Balance of Payments - 4
  • Capital Account (Financial Account)
  • = Sales of Assets to Foreigners (+) minus Purchases of Assets from Foreigners (-)
  • Sale to = Capital Inflow
  • Purchase from = Capital Outflow
balance of payments 5
Balance of Payments - 5
  • Three types of capital flows:
    • Foreign Direct Investment (Ownership > 10%)
    • Portfolio Investment (Financial Assets such as stocks and bonds)
    • Other (Bank loans & deposits, other)
usa financial account 2004 billions
USA Financial Account(2004, $ Billions)

IMF, International Financial Statistics, February, 2004

chn financial account 2002 billions
CHN Financial Account(2002, $ Billions)

* Foreigners reduced holdings of Chinese other assets.

IMF, International Financial Statistics, February, 2004

official reserve transactions 1
Official Reserve Transactions - 1
  • Domestic Monetary Authority Holds Reserves of Foreign Currencies
  • Many Countries hold $US, Euros, Yen
  • Often, Short-term Government Debt
  • Note: When People’s Bank buys $US, it enters as a debit (negative) for China
official reserve transactions 2
Official Reserve Transactions - 2
  • Net Purchases (-) or Sales(+) of Official Reserves during 2002

USA: -$4 billion CHN: -$75 billion

  • Stock of Foreign Currency Reserves (End of 2002)

USA: $68 billion CHN: $291 billion

  • The Economist estimate (Oct, 06): CHN = $988 billion
official reserve transactions 3
Official Reserve Transactions - 3
  • Why keep foreign currency reserves?
  • Attempt to stabilize exchange rate by filling the gap between supply and demand in the foreign exchange market.
  • More later.
official reserve transactions 4
Official Reserve Transactions - 4
  • Why does the USA have so few reserves?
  • Currency floats.
  • US dollar is the primary reserve currency of other countries.
balance of payments 6
Balance of Payments - 6
  • In principle, Current Account + Financial Account + ORT = 0
  • => Current Account = -(Financial Account + ORT)
  • = Net Purchases of Foreign Assets
  • Household: Income – Expenditure = Saving = (“Foreign”) Investment
balance of payments 7
Balance of Payments - 7
  • But reported data are estimates, so in the accounts:

Current Account + Financial Account + ORT + Statistical Discrepancy = 0

ca fa ort 0
CA + (FA + ORT) = 0
  • CA < 0 if and only if (FA +ORT) > 0
  • Two Equivalent Questions:
    • Why does the USA have a Current Account deficit?
    • Why does the USA have a (Financial Account + ORT) surplus?
nipa 6
NIPA - 6
  • Closed: GNP = C + I + G =>

S = I

  • Open: GNP = C + I + G + CA =>

S = I + CA

  • Domestic Savings can be used either for domestic I or to buy foreign assets.
s i ca
S = I + CA
  • A Country has a Current Account Deficit if and only if Domestic Saving < Investment
  • Why does the USA have a CA Deficit?
  • Because S < I
ca s i
CA = S - I
  • How Can the USA end the CA deficit?
  • Reduce I
  • Increase S
  • Recall: S = Y – C – T + (T – G)
    • Reduce C
    • Reduce G
    • Increase T (Unless Ricardian Equiv)
ca s i26
CA = S - I
  • Is a CA Deficit “Bad?”
  • Better to Invest Less?
  • Better to Save More?
  • What is Done with the Capital Inflow?
    • 19th Century USA: I
    • 21st Century USA: G and C
international investment position
International Investment Position
  • Balance of Payments records Flows per period (usually a year).
  • International Investment Position (IIP) records Stocks at a point in time.
  • IIP is the Cumulative result of Flows.
  • US: Financial Account Surplus for 20 years => IIP declining.
world s largest debtor country international investment position usa
“World’s Largest Debtor Country”International Investment Position USA

*Includes $352 of US Currency

http://www.bea.gov/bea/newsrelarchive/2006/intinv05.xls

is this bad
Is This “Bad?”
  • When China receives FDI, China’s IIP decreases/becomes negative. Bad?
  • When the USA was developing in the 19th Century, it was also a huge debtor.
is this bad30
Is this “Bad?”
  • If the US stock market goes up, US IIP goes down (since foreigners own US stocks).
  • If I sell my house in Montana to a Chinese, is the USA worse off? Is China better off?
iip is not a balance sheet
IIP is NOT a Balance Sheet
  • Includes USA-owned Assets Abroad
  • Does NOT include USA-owned Assets in USA
  • Includes Foreign-owned Assets located in USA
    • Some are Liabilities for USA (e.g. US Government Bonds)
    • Some are Not Liabilities (Toyota plant in California)
net worth us households and nonprofits end of 2001
Net Worth: US Households and Nonprofits; End of 2001

http://www.federalreserve.gov/releases/z1/current/z1r-5.pdf

us household net worth constant 2001
US Household Net Worth(Constant $2001)

2006Q2: NW = $48T or $160,000 per person

http://www.federalreserve.gov/releases/z1/current/z1r-5.pdf

notes on usa net worth
Notes on USA “Net Worth”
  • Does NOT Include:
    • Government Assets (27% of USA Land)
    • Government “Promises” Implied by Social Security, Medicare and Medicaid Laws
  • Present Value (Expend - Revenues) = $50-70T
  • “Something’s got to give.”
  • NOT (Primarily) an International Issue
  • IS Domestic Saving/Expenditure Issue
for next class
For Next Class
  • Read Chapter 15
  • Do Problems 1,2,4,5,7,8,9,10
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