A place for reflections, some healthy fun,
critical and experiential learning.
Thursday, May 6, 2010
Foreign Exchange & BOP - HBL (S35)
Referring to HBL activity #2, respond to the question below: Why might some countries have a sustained surplus or deficit on their current account? Refer to specific countries whenever possible.
US, sustained deficit UK, sustained deficit Japan, initially having a deficit but after 2002 sustained surplus till now Germany, sustained surplus China, sustained surplus
Why some countries have a sustained surplus: Germany and Japan are very export-oriented, and they target income-inelastic and price-inelastic products to export so that their net export revenue will be always increasing. (i don't know what is a suitable example of such exports!!) They increase their productive capacity by investing in new capital so as to exploit economies of scales, such that unit costs are driven down.
Japan has interest rates that are close to zero percent, this induces borrowing and this would bring about investment in net capital and in the long run would increase productive capacity that would bring about higher export revenue.
China's yuan is undervalued, their exports will naturally be more competitive overseas, so foreigners will find exports a cheaper substitute (if goods are price elastic) thus X increases. Imports expenditure decreases because imports are more expensive due to the exchange rate.
Why does US and UK have a sustained deficit on their current account? UK: The growth in demand for goods and services (due to strong ec growth) in UK is not met by the manufacturing sector, so imports are high in order to satisfy the high demand. Consumers in UK have a high marginal propensity to import, more over the imports act as cheap substitutes for the UK produced goods! It is also due to the exchange rate- the appreciation of the Sterling. Exports not as price competitive overseas! For every country having a trade surplus there'll be a country having a trade deficit.
I think US's budget deficit is due to government borrowing money by selling bonds to other countries so as to cover government debt. Borrowing includes paying interest as well so if it's long term borrowing a sustained deficit would occur. Not too sure what they are borrowing for though, finance the war? US's exchange rate with China's yuan also a main factor. The yuan is undervalued leading to US having a trade deficit with China
China has been experiencing a sustained Current Account Surplus. This may be due to China’s undervalued currency. The undervalued yuan results in China’ exports being relatively cheaper in the global market. Hence, the demand for China’s goods and services is high, resulting in inflow of China’s current account. In addition, the undervalued yuan caused the local demand for foreign goods decrease as there are relatively more expensive. Hence, imports and outflows of currency are low and China gets to enjoy sustained current account surplus. However, UK has been experiencing a sustained Current Account deficit. This may be due to the high Marginal Propensity to Import (MPM) of the UK consumers, leading to high outflows of the current account. In addition, given its relatively strong currency, imports are cheap while exports are relatively more expensive. With cheap imports, there might be a substitution towards overseas output. This worsens the outflow of the current account with relatively low inflow. However, UK is able to sustain its current account deficit due to its large amount of FDI in other countries. The inflow of money from these investments minimises the impact of the deficit. In addition, if the deficit is due to borrowing to invest in the country, in the long run, potential growth will increase and UK will be able to grow further and earn higher revenue.
Germany: World’s 2nd largest exporter (Exports account for more than one-third of national output) Like Singapore, Germany is poor in raw materials. GDP: 70% by service sector, 29.1% by industry and 0.9% by agriculture
Sustained surplus because:
1. Specialise in engineering. Mainly produces automobiles, machinery, metals and chemical goods. These are necessary to build new infrastructure and allow goods to be produced in a more efficient manner (machineries speed up process). With China as one of its major trading partners, demand for German-made machine tools is high, especially since “Made in Germany” is a global seal of quality.
2. Leading producer of wind turbines and solar power technology in the world. Renewable energy is a industry which various countries are interested in investing as the lack of energy sources is indeed a problem.
3. Largest annual international trade fairs and congresses are held in several German cities such as Hanover, Frankfurt, and Berlin This helps attract substantial amount of FDIs (capital inflows), surplus in capital a/c.
The dip in 2008 is due to technical recession. (party due to sub-prime crisis i think?)
UK’s sustained current account deficit: The lack in productive capacity of UK firms causes demand to exceed supply. Consumers then turn to imports to fill in the gap of the domestic supply. Over the years, there are further decline in the comparative advantage in many areas. This is due to the industrialization of developing countries like China and India. The advantage that UK once had in producing certain goods and services has changed over time as technology has improved and other countries start to exploit their economic resources to produce at low cost. This has caused UK consumers to switch to the import substitutes as they are relatively cheaper than the domestic goods. Together with the overvalued exchange rate that jia min and sze zhin has mentioned, this has resulted in the high propensity to buy imported goods and services. Hence, the large volume of imports entering the country has brought about the current account deficit.
There is also a falling surplus in the UK’s trade for oil. The North Sea oil field has been providing UK with oil and forming a substantial part in UK’s exports. However, with the oil reserves dwindling, UK is exporting less oil than before and has resorted to importing more oil. Hence, the net value of X-M has decreased, contributing to the current account deficit.
UK and US are experiencing current account deficit while japan , Germany and china are experiencing current account surplus.
Uk and US are experiencing current account deficit because they are spending too much , more than what they earn. They have a high marginal propensity to import (MPM) causing current account deficit. They import a lot because their currency is strong hence it makes the imports cheaper relative to the domestic goods. Also people in UK and US tend to pursue a high standard of living hence they would import a lot of goods from other countries to improve their lives.Furthermore due to the strong currency of uk and us it would cause their exports to be less price competitive and hence there would be less exports sold causing (X-M) to decrease as M increase and X decrease. Thus there would be current account deficit. The current account deficit is sustained due to the large amount of FDI in other countries. Hence the inflow of money from this investment will minimise the effect of the current account deficit thus sustaining it.
China will have a current account surplus mainly due to the undervalued yuan. Due to the undervalued yuan, it cause the china imports to be price competitive and hence causing the china exports to increase. china exports will decrease due to the undervalued yuan as the purchasing power is smaller and foreign imports will seem more expensive relative to their own domestic goods.Thus china will experience sustained current account surplus unless other countries impose protectionist measures against them or force them to revalue yuan.
Japan and germany will also experience current account surplus as they are very export oriented. They focus on producing high technology products that are price inelastic and which not a lot of countries can produce as high technology and skills are needed. Hence many countries have to buy japan and germany exports casuing their export revenue to increase and hence causing sustained current account surplus.
Reasons for China's sustained current account surplus.
1. Undervalued Yuan.
It is argued that the Chinese Yuan is undervalued making Chinese exports relatively more competitive and imports cheaper. The Chinese government are keen to promote exports as much as possible, so they keep the Yuan undervalued. They feel that strong growth in the export sector is vital to creating employment and improving unemployment created through privatisation and decline of the agriculture sector. However, the Chinese Yuan has appreciated 20% in the past 2 years, as the Chinese government slowly allowed the Yuan to appreciate. Considering how the US is still affected from this side effect, perhaps the appreciation is still too insignificant.
2. Comparative advantage in manufacturing exports.
China has been able to grow at a fast rate because it has been able to keep exports comparatively cheaper than elsewhere in the world. China has an elastic supply of labour, enabling wage rates to remain low, giving China an advantage in the producing goods at a low cost.
3. High Domestic Savings Rate.
Despite the high rates of Chinese growth. The Chinese economy has a very high savings rate at about 40%. This means consumers are saving instead of spending on foreign imports. Sometimes, instead of buying consumer goods, the Chinese prefer to invest in foreign securities. e.g. buying US securities and bonds. This outflow of capital has financed the US current account deficit; in the process China has built up a significant number of external assets.
In the US the current account deficit is to a large extent caused by excess spending in the economy. It is partly caused by government borrowing which increases AD in the economy and hence a growing demand for imports.
A deficit on the current account increases foreign liabilities. In the beginning a current account deficit could be just a deficit on buying goods. However over time the deficit will be increased by the interest payments on the capital surplus. Foreigners (CHINA!!!!) invest in the US. On these investments they receive interest payments or dividends. These dividends count as a debit on the current account. Therefore the longer the deficit goes on the higher the level of investment income debits. Therefore in future the economy needs to attract capital flows to pay off the investment income & the deficit on goods and services.
Factors that have contributed to the US current account deficit (5% of GDP on average for the past several years)
1. US consumer spending has been rising rapidly due to tax cuts and low interest rates. With rising consumer spending, US has been increasing its expenditure on imports. US also has a high marginal propensity to import as imported goods will add to the range of domestic goods, providing consumers with more choice and a higher level of utility, hence, increasing their standard of living. Many luxury, price-elastic goods such as electronic goods and cars tend to be imported.
2. Decline in competitiveness of exports. US manufactured goods have been losing comparative advantage to Asian economies. The primary reason is that wage costs in US are much higher than Asian economies. In particular, China has seen its trade surplus with US grow due to its low labour costs.
3. Dollar remains relatively strong despite large current account deficit. Although US had a current account deficit for many years, the dollar has only devalued in recent years. The devaluation is also not as significant as we would expect for an economy with a large current account deficit. US has also been able to attract capital investment. For example, China has been buying a lot of US government securities. This inflow of capital has financed the current account deficit and allowed America to continue buying imports.
This inflow of capital has also enabled interest rates to remain low. China has bought so many US government bonds, hence US has been able to finance its national debt while still keeping interest rates low. These low interest rates have encouraged consumer borrowing and consumer spending, further causing the current account deficit.
Therefore, US has a sustained current account deficit.
From the graph in tutorial, the observed tend is that: - US and UK have been experiencing current account deficit since the 1998. - Japan was initially experiencing current account deficit before 2000 and after 2001, it was experiencing current account surplus. - Germany has been experiencing current account surplus since 1998 and its surplus has been increasing generally over the period of 2002 to 2010.
Explanation for UK sustained current account deficit:
For UK, the persistent trade deficit has a number of causes, both short and long term.
1. High propensity to buy imported goods and service - there is a tendency for UK consumers to prefer foreign produced output and in a consumer boom, an acceleration in the volume of imports coming into the country. 2. Lack of productive capacity of UK firms - if home producers have insufficient capacity to meet demand from consumers then imports will come in to satisfy the excess demand. 3. Poor price and non-price competitiveness of UK firms - Declining comparative advantage in many areas: the advantages that countries have in producing certain goods and services change over time as technolody alters and other countries exploit their economic resources and develop competing industries. UK manufacturing industry has suffered over the years from low cost production in newly industrialising countries and from other parts of Europe.
A current account deficit has to be financed. This is normally done by attracting inflows of capital from other economies. The UK has found few problems in achieving this in recent years.
Explanation for US sustained current account deficit:
During the 1990s, a bull market in US stocks dramatically increased the net worth of US households. The values of both the S&P 500 and the Dow Jones Industrial Average more than tripled from 1990 to 1999. As a results, during the same period, the ratio of net worth to disposable income rose 32.8%, putting the ratio of wealth to income far above previous highs. The surge in wealth due to stock market let to a consumption boom in US, through wealth effect. Holding all else constant, as US's demand for import ruses, its trade deficit will worsen.
From the mid-1990s, even as US international debts steadily grew, the 'strong dollar' was sustained by an inflow of capital into the US, attracted by the higher returns on investment and in the stock market.
Explanation for Japan's sustained account surplus:
1. Increasing growth of exports, exceeding imports - Exports recorded double-digit year-on-year growth due to buoyant Asian demand for a wide range of export items, as well as to the growth of machinery other than electric exports to the United States and that of motor vehicle-related goods exports to the European Union (EU). Imports also registered double-digit year-on-year growth due to the conspicuous increase of mineral fuels (petroleum, coal, etc.), reflecting their higher market prices, and the increase of finished goods, such as machinery from Asian countries. 2. Larger surplus in the balance of income - The surplus in the balance of income increased and reached a new record high. Credits of direct investment income increased against the background of the sustained strong performance recorded by the foreign subsidiaries of Japanese companies. Credits of portfolio investment income increased reflecting the accumulation of the outstanding amount of outward portfolio investment. At the same time, debits of direct investment income and portfolio investment income also increased reflecting the buoyant performance of Japanese companies.
Countries such as Germany and Japan are nearly always positive because they are constantly saving, albeit for different reasons. Germany is a country that is very dependent on trade and used to have hyperinflation in the country when they had to print a lot of money to repay war debts. But because of this lessons learnt in history, they are extremely afraid of overspending, and saving is also strongly encouraged today by Chancellor Angela Merkel. Today, Germany exports (X) everything from manufacturing inputs to cars and various technologies yet she keeps her spending on imports (M) low and high on savings. Hence she is able to sustain her (X-M)>0 for 10 years.
In Japan’s case, she is very dependent on (X-M) for economic growth, but because Japan is not a fully open trade economy and with various protectionist measures in place, their M is very small. Japan, however, has very major exports as they have the skills and knowledge in technology that has enabled them to be very competitive in the foreign market demand for their exports. Also, Japan has been in recession for the past decade, where consumers feel that prices will keep dropping if they wait longer hence they will not spend more than they have to. This increases savings even more, and with their extremely high exports and barely any imports, Japan has been able to sustain her (X-M)>0 throughout.
China’s sustained current account surplus is mainly because of its undervalued yuan that has kept their exports competitive and imports low. Without proper appreciation of the yuan, Chinese exports are more price competitive relative to American domestic goods, and with US’s high MPM (marginal propensity to import), the lower the price goes, they will import more than proportionately. This causes the US’s deficit in current account as not only are they importing more, the strength of the dollar is making their exports less price competitive compared to Chinese goods, decreasing their X. With China’s huge consumer market because of their enormous population, being less price competitive than other goods meant that US could not capture the market demand for their own exports, hence missing out on a huge opportunity as China has become increasingly wealthy. With a country in surplus, there is bound to be country in deficit, and that is evident in the China-US case.
Countries such as Germany and Japan are nearly always positive because they are constantly saving, albeit for different reasons. Germany is a country that is very dependent on trade and used to have hyperinflation in the country when they had to print a lot of money to repay war debts. But because of this lessons learnt in history, they are extremely afraid of overspending, and saving is also strongly encouraged today by Chancellor Angela Merkel. Today, Germany exports (X) everything from manufacturing inputs to cars and various technologies yet she keeps her spending on imports (M) low and high on savings. Hence she is able to sustain her (X-M)>0 for 10 years.
In Japan’s case, she is very dependent on (X-M) for economic growth, but because Japan is not a fully open trade economy and with various protectionist measures in place, their M is very small. Japan, however, has very major exports as they have the skills and knowledge in technology that has enabled them to be very competitive in the foreign market demand for their exports. Also, Japan has been in recession for the past decade, where consumers feel that prices will keep dropping if they wait longer hence they will not spend more than they have to. This increases savings even more, and with their extremely high exports and barely any imports, Japan has been able to sustain her (X-M)>0 throughout.
China’s sustained current account surplus is mainly because of its undervalued yuan that has kept their exports competitive and imports low. Without proper appreciation of the yuan, Chinese exports are more price competitive relative to American domestic goods, and with US’s high MPM (marginal propensity to import), the lower the price goes, they will import more than proportionately. This causes the US’s deficit in current account as not only are they importing more, the strength of the dollar is making their exports less price competitive compared to Chinese goods, decreasing their X. With China’s huge consumer market because of their enormous population, being less price competitive than other goods meant that US could not capture the market demand for their own exports, hence missing out on a huge opportunity as China has become increasingly wealthy. With a country in surplus, there is bound to be country in deficit, and that is evident in the China-US case.
The reason why a country gathers a surplus or deficit on the current account is mainly due to the exports and imports of goods, as well as services. Other factors include stuff like remittances or profits from abroad. Countries such as China has a sustained surplus mainly due to the fact that the Chinese Yuan is severely undervalued, resulting in the increased price competitiveness of Chinese goods to be exported. On a side note, China is a manufacturing giant, exporting products including machinery, equipment, textiles, tea and steel. China is the fourth largest country in the world and the most populous nation, hence is also able to have comparative advantage (CA) in production of wholesale goods, allowing them to utilize the very low labour costs and wage rates, hence keeping their costs of production at a rather low figure. Germany, Switzerland and certain European countries specialize in production of machinery and hence are able to have a low cost of production. This leads to the very high current account surpluses that they enjoy that result from their large export based industries. Other countries such as Philippines have a small surplus, due to the fact that many of the Philippines’ citizens work overseas and remit their income back to their homeland. On the other hand, countries heavily dependent on imports, such as the US, have a sustained BOP deficit. This mainly resulted from the low interest rates and tax cuts, which actively promote consumer spending in the states. With such factors, the population spends recklessly, purchasing many imported goods and causing the demand for imports to rise drastically, especially in the range of luxurious goods.
China's sustained surplus of their current account may be due to their large volumes of exports. China's cheap labour is an draws firms to set up factories for production. These goods are then exported to other countries. China's domestic market is largely supplied by the domestic firms. Hence, it does not rely too much on imports. Therefore, with higher exports than imports, it would lead to a current account surplus.
Countries like the US depend heavily on imports from countries like china and japan. Therefore, its export volume is lower than its imports, leading to a current account deficit.
US, sustained deficit
ReplyDeleteUK, sustained deficit
Japan, initially having a deficit but after 2002 sustained surplus till now
Germany, sustained surplus
China, sustained surplus
Why some countries have a sustained surplus:
Germany and Japan are very export-oriented, and they target income-inelastic and price-inelastic products to export so that their net export revenue will be always increasing. (i don't know what is a suitable example of such exports!!) They increase their productive capacity by investing in new capital so as to exploit economies of scales, such that unit costs are driven down.
Japan has interest rates that are close to zero percent, this induces borrowing and this would bring about investment in net capital and in the long run would increase productive capacity that would bring about higher export revenue.
China's yuan is undervalued, their exports will naturally be more competitive overseas, so foreigners will find exports a cheaper substitute (if goods are price elastic) thus X increases. Imports expenditure decreases because imports are more expensive due to the exchange rate.
Why does US and UK have a sustained deficit on their current account?
UK: The growth in demand for goods and services (due to strong ec growth) in UK is not met by the manufacturing sector, so imports are high in order to satisfy the high demand. Consumers in UK have a high marginal propensity to import, more over the imports act as cheap substitutes for the UK produced goods! It is also due to the exchange rate- the appreciation of the Sterling. Exports not as price competitive overseas! For every country having a trade surplus there'll be a country having a trade deficit.
I think US's budget deficit is due to government borrowing money by selling bonds to other countries so as to cover government debt. Borrowing includes paying interest as well so if it's long term borrowing a sustained deficit would occur. Not too sure what they are borrowing for though, finance the war? US's exchange rate with China's yuan also a main factor. The yuan is undervalued leading to US having a trade deficit with China
China has been experiencing a sustained Current Account Surplus. This may be due to China’s undervalued currency. The undervalued yuan results in China’ exports being relatively cheaper in the global market. Hence, the demand for China’s goods and services is high, resulting in inflow of China’s current account. In addition, the undervalued yuan caused the local demand for foreign goods decrease as there are relatively more expensive. Hence, imports and outflows of currency are low and China gets to enjoy sustained current account surplus.
ReplyDeleteHowever, UK has been experiencing a sustained Current Account deficit. This may be due to the high Marginal Propensity to Import (MPM) of the UK consumers, leading to high outflows of the current account. In addition, given its relatively strong currency, imports are cheap while exports are relatively more expensive. With cheap imports, there might be a substitution towards overseas output. This worsens the outflow of the current account with relatively low inflow. However, UK is able to sustain its current account deficit due to its large amount of FDI in other countries. The inflow of money from these investments minimises the impact of the deficit. In addition, if the deficit is due to borrowing to invest in the country, in the long run, potential growth will increase and UK will be able to grow further and earn higher revenue.
Germany:
ReplyDeleteWorld’s 2nd largest exporter (Exports account for more than one-third of national output)
Like Singapore, Germany is poor in raw materials.
GDP: 70% by service sector, 29.1% by industry and 0.9% by agriculture
Sustained surplus because:
1. Specialise in engineering. Mainly produces automobiles, machinery, metals and chemical goods.
These are necessary to build new infrastructure and allow goods to be produced in a more efficient manner (machineries speed up process).
With China as one of its major trading partners, demand for German-made machine tools is high, especially since “Made in Germany” is a global seal of quality.
2. Leading producer of wind turbines and solar power technology in the world.
Renewable energy is a industry which various countries are interested in investing as the lack of energy sources is indeed a problem.
3. Largest annual international trade fairs and congresses are held in several German cities such as Hanover, Frankfurt, and Berlin
This helps attract substantial amount of FDIs (capital inflows), surplus in capital a/c.
The dip in 2008 is due to technical recession. (party due to sub-prime crisis i think?)
UK’s sustained current account deficit:
ReplyDeleteThe lack in productive capacity of UK firms causes demand to exceed supply. Consumers then turn to imports to fill in the gap of the domestic supply. Over the years, there are further decline in the comparative advantage in many areas. This is due to the industrialization of developing countries like China and India. The advantage that UK once had in producing certain goods and services has changed over time as technology has improved and other countries start to exploit their economic resources to produce at low cost. This has caused UK consumers to switch to the import substitutes as they are relatively cheaper than the domestic goods.
Together with the overvalued exchange rate that jia min and sze zhin has mentioned, this has resulted in the high propensity to buy imported goods and services. Hence, the large volume of imports entering the country has brought about the current account deficit.
There is also a falling surplus in the UK’s trade for oil. The North Sea oil field has been providing UK with oil and forming a substantial part in UK’s exports. However, with the oil reserves dwindling, UK is exporting less oil than before and has resorted to importing more oil. Hence, the net value of X-M has decreased, contributing to the current account deficit.
UK and US are experiencing current account deficit while japan , Germany and china are experiencing current account surplus.
ReplyDeleteUk and US are experiencing current account deficit because they are spending too much , more than what they earn. They have a high marginal propensity to import (MPM) causing current account deficit. They import a lot because their currency is strong hence it makes the imports cheaper relative to the domestic goods. Also people in UK and US tend to pursue a high standard of living hence they would import a lot of goods from other countries to improve their lives.Furthermore due to the strong currency of uk and us it would cause their exports to be less price competitive and hence there would be less exports sold causing (X-M) to decrease as M increase and X decrease. Thus there would be current account deficit. The current account deficit is sustained due to the large amount of FDI in other countries. Hence the inflow of money from this investment will minimise the effect of the current account deficit thus sustaining it.
China will have a current account surplus mainly due to the undervalued yuan. Due to the undervalued yuan, it cause the china imports to be price competitive and hence causing the china exports to increase. china exports will decrease due to the undervalued yuan as the purchasing power is smaller and foreign imports will seem more expensive relative to their own domestic goods.Thus china will experience sustained current account surplus unless other countries impose protectionist measures against them or force them to revalue yuan.
Japan and germany will also experience current account surplus as they are very export oriented. They focus on producing high technology products that are price inelastic and which not a lot of countries can produce as high technology and skills are needed. Hence many countries have to buy japan and germany exports casuing their export revenue to increase and hence causing sustained current account surplus.
Reasons for China's sustained current account surplus.
ReplyDelete1. Undervalued Yuan.
It is argued that the Chinese Yuan is undervalued making Chinese exports relatively more competitive and imports cheaper. The Chinese government are keen to promote exports as much as possible, so they keep the Yuan undervalued. They feel that strong growth in the export sector is vital to creating employment and improving unemployment created through privatisation and decline of the agriculture sector.
However, the Chinese Yuan has appreciated 20% in the past 2 years, as the Chinese government slowly allowed the Yuan to appreciate. Considering how the US is still affected from this side effect, perhaps the appreciation is still too insignificant.
2. Comparative advantage in manufacturing exports.
China has been able to grow at a fast rate because it has been able to keep exports comparatively cheaper than elsewhere in the world. China has an elastic supply of labour, enabling wage rates to remain low, giving China an advantage in the producing goods at a low cost.
3. High Domestic Savings Rate.
Despite the high rates of Chinese growth. The Chinese economy has a very high savings rate at about 40%. This means consumers are saving instead of spending on foreign imports. Sometimes, instead of buying consumer goods, the Chinese prefer to invest in foreign securities. e.g. buying US securities and bonds. This outflow of capital has financed the US current account deficit; in the process China has built up a significant number of external assets.
In the US the current account deficit is to a large extent caused by excess spending in the economy. It is partly caused by government borrowing which increases AD in the economy and hence a growing demand for imports.
A deficit on the current account increases foreign liabilities. In the beginning a current account deficit could be just a deficit on buying goods. However over time the deficit will be increased by the interest payments on the capital surplus. Foreigners (CHINA!!!!) invest in the US. On these investments they receive interest payments or dividends. These dividends count as a debit on the current account. Therefore the longer the deficit goes on the higher the level of investment income debits. Therefore in future the economy needs to attract capital flows to pay off the investment income & the deficit on goods and services.
Factors that have contributed to the US current account deficit (5% of GDP on average for the past several years)
ReplyDelete1. US consumer spending has been rising rapidly due to tax cuts and low interest rates. With rising consumer spending, US has been increasing its expenditure on imports. US also has a high marginal propensity to import as imported goods will add to the range of domestic goods, providing consumers with more choice and a higher level of utility, hence, increasing their standard of living. Many luxury, price-elastic goods such as electronic goods and cars tend to be imported.
2. Decline in competitiveness of exports. US manufactured goods have been losing comparative advantage to Asian economies. The primary reason is that wage costs in US are much higher than Asian economies. In particular, China has seen its trade surplus with US grow due to its low labour costs.
3. Dollar remains relatively strong despite large current account deficit. Although US had a current account deficit for many years, the dollar has only devalued in recent years. The devaluation is also not as significant as we would expect for an economy with a large current account deficit. US has also been able to attract capital investment. For example, China has been buying a lot of US government securities. This inflow of capital has financed the current account deficit and allowed America to continue buying imports.
This inflow of capital has also enabled interest rates to remain low. China has bought so many US government bonds, hence US has been able to finance its national debt while still keeping interest rates low. These low interest rates have encouraged consumer borrowing and consumer spending, further causing the current account deficit.
Therefore, US has a sustained current account deficit.
From the graph in tutorial, the observed tend is that:
ReplyDelete- US and UK have been experiencing current account deficit since the 1998.
- Japan was initially experiencing current account deficit before 2000 and after 2001, it was experiencing current account surplus.
- Germany has been experiencing current account surplus since 1998 and its surplus has been increasing generally over the period of 2002 to 2010.
Explanation for UK sustained current account deficit:
For UK, the persistent trade deficit has a number of causes, both short and long term.
1. High propensity to buy imported goods and service - there is a tendency for UK consumers to prefer foreign produced output and in a consumer boom, an acceleration in the volume of imports coming into the country.
2. Lack of productive capacity of UK firms - if home producers have insufficient capacity to meet demand from consumers then imports will come in to satisfy the excess demand.
3. Poor price and non-price competitiveness of UK firms - Declining comparative advantage in many areas: the advantages that countries have in producing certain goods and services change over time as technolody alters and other countries exploit their economic resources and develop competing industries. UK manufacturing industry has suffered over the years from low cost production in newly industrialising countries and from other parts of Europe.
A current account deficit has to be financed. This is normally done by attracting inflows of capital from other economies. The UK has found few problems in achieving this in recent years.
Explanation for US sustained current account deficit:
During the 1990s, a bull market in US stocks dramatically increased the net worth of US households. The values of both the S&P 500 and the Dow Jones Industrial Average more than tripled from 1990 to 1999. As a results, during the same period, the ratio of net worth to disposable income rose 32.8%, putting the ratio of wealth to income far above previous highs. The surge in wealth due to stock market let to a consumption boom in US, through wealth effect. Holding all else constant, as US's demand for import ruses, its trade deficit will worsen.
From the mid-1990s, even as US international debts steadily grew, the 'strong dollar' was sustained by an inflow of capital into the US, attracted by the higher returns on investment and in the stock market.
Explanation for Japan's sustained account surplus:
1. Increasing growth of exports, exceeding imports - Exports recorded double-digit year-on-year growth due to buoyant Asian demand for a wide range of export items, as well as to the growth of machinery other than electric exports to the United States and that of motor vehicle-related goods exports to the European Union (EU). Imports also registered double-digit year-on-year growth due to the conspicuous increase of mineral fuels (petroleum, coal, etc.), reflecting their higher market prices, and the increase of finished goods, such as machinery from Asian countries.
2. Larger surplus in the balance of income - The surplus in the balance of income increased and reached a new record high. Credits of direct investment income increased against the background of the sustained strong performance recorded by the foreign subsidiaries of Japanese companies. Credits of portfolio investment income increased reflecting the accumulation of the outstanding amount of outward portfolio investment. At the same time, debits of direct investment income and portfolio investment income also increased reflecting the buoyant performance of Japanese companies.
Countries such as Germany and Japan are nearly always positive because they are constantly saving, albeit for different reasons. Germany is a country that is very dependent on trade and used to have hyperinflation in the country when they had to print a lot of money to repay war debts. But because of this lessons learnt in history, they are extremely afraid of overspending, and saving is also strongly encouraged today by Chancellor Angela Merkel. Today, Germany exports (X) everything from manufacturing inputs to cars and various technologies yet she keeps her spending on imports (M) low and high on savings. Hence she is able to sustain her (X-M)>0 for 10 years.
ReplyDeleteIn Japan’s case, she is very dependent on (X-M) for economic growth, but because Japan is not a fully open trade economy and with various protectionist measures in place, their M is very small. Japan, however, has very major exports as they have the skills and knowledge in technology that has enabled them to be very competitive in the foreign market demand for their exports. Also, Japan has been in recession for the past decade, where consumers feel that prices will keep dropping if they wait longer hence they will not spend more than they have to. This increases savings even more, and with their extremely high exports and barely any imports, Japan has been able to sustain her (X-M)>0 throughout.
China’s sustained current account surplus is mainly because of its undervalued yuan that has kept their exports competitive and imports low. Without proper appreciation of the yuan, Chinese exports are more price competitive relative to American domestic goods, and with US’s high MPM (marginal propensity to import), the lower the price goes, they will import more than proportionately. This causes the US’s deficit in current account as not only are they importing more, the strength of the dollar is making their exports less price competitive compared to Chinese goods, decreasing their X. With China’s huge consumer market because of their enormous population, being less price competitive than other goods meant that US could not capture the market demand for their own exports, hence missing out on a huge opportunity as China has become increasingly wealthy. With a country in surplus, there is bound to be country in deficit, and that is evident in the China-US case.
Countries such as Germany and Japan are nearly always positive because they are constantly saving, albeit for different reasons. Germany is a country that is very dependent on trade and used to have hyperinflation in the country when they had to print a lot of money to repay war debts. But because of this lessons learnt in history, they are extremely afraid of overspending, and saving is also strongly encouraged today by Chancellor Angela Merkel. Today, Germany exports (X) everything from manufacturing inputs to cars and various technologies yet she keeps her spending on imports (M) low and high on savings. Hence she is able to sustain her (X-M)>0 for 10 years.
ReplyDeleteIn Japan’s case, she is very dependent on (X-M) for economic growth, but because Japan is not a fully open trade economy and with various protectionist measures in place, their M is very small. Japan, however, has very major exports as they have the skills and knowledge in technology that has enabled them to be very competitive in the foreign market demand for their exports. Also, Japan has been in recession for the past decade, where consumers feel that prices will keep dropping if they wait longer hence they will not spend more than they have to. This increases savings even more, and with their extremely high exports and barely any imports, Japan has been able to sustain her (X-M)>0 throughout.
China’s sustained current account surplus is mainly because of its undervalued yuan that has kept their exports competitive and imports low. Without proper appreciation of the yuan, Chinese exports are more price competitive relative to American domestic goods, and with US’s high MPM (marginal propensity to import), the lower the price goes, they will import more than proportionately. This causes the US’s deficit in current account as not only are they importing more, the strength of the dollar is making their exports less price competitive compared to Chinese goods, decreasing their X. With China’s huge consumer market because of their enormous population, being less price competitive than other goods meant that US could not capture the market demand for their own exports, hence missing out on a huge opportunity as China has become increasingly wealthy. With a country in surplus, there is bound to be country in deficit, and that is evident in the China-US case.
The reason why a country gathers a surplus or deficit on the current account is mainly due to the exports and imports of goods, as well as services. Other factors include stuff like remittances or profits from abroad. Countries such as China has a sustained surplus mainly due to the fact that the Chinese Yuan is severely undervalued, resulting in the increased price competitiveness of Chinese goods to be exported. On a side note, China is a manufacturing giant, exporting products including machinery, equipment, textiles, tea and steel.
ReplyDeleteChina is the fourth largest country in the world and the most populous nation, hence is also able to have comparative advantage (CA) in production of wholesale goods, allowing them to utilize the very low labour costs and wage rates, hence keeping their costs of production at a rather low figure.
Germany, Switzerland and certain European countries specialize in production of machinery and hence are able to have a low cost of production. This leads to the very high current account surpluses that they enjoy that result from their large export based industries.
Other countries such as Philippines have a small surplus, due to the fact that many of the Philippines’ citizens work overseas and remit their income back to their homeland.
On the other hand, countries heavily dependent on imports, such as the US, have a sustained BOP deficit. This mainly resulted from the low interest rates and tax cuts, which actively promote consumer spending in the states. With such factors, the population spends recklessly, purchasing many imported goods and causing the demand for imports to rise drastically, especially in the range of luxurious goods.
China's sustained surplus of their current account may be due to their large volumes of exports. China's cheap labour is an draws firms to set up factories for production. These goods are then exported to other countries. China's domestic market is largely supplied by the domestic firms. Hence, it does not rely too much on imports.
ReplyDeleteTherefore, with higher exports than imports, it would lead to a current account surplus.
Countries like the US depend heavily on imports from countries like china and japan. Therefore, its export volume is lower than its imports, leading to a current account deficit.