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Extract 2
Extract 2
Globalisation and balance of
payments imbalances
Globalisation and Balance of Payments Imbalances
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Extract 2: Key Term Glossary
Key term
Brief definition
Balance of Payments imbalances
Persistent trade deficits or surpluses
Current account surplus
Net external trade and income is positive
Current account deficit
The amount by which money relating to trade, investment
income and transfers going out of a country is more than the
amount coming in
Exchange rate index
The trade-weighted value of a currency
Financial flows
Flows of capital across national borders
Excess savings
When gross national savings > investment
Capital account (BoP)
Balance of investment flows
Depreciation
Fall in the external value of a currency
Marshall Lerner Condition
A devaluation of a currency improves the BoP only if the
combined (or sum of) price elasticities of demand for imports &
exports are greater than one.
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Extract 2: Some Suggested Questions
1. Analyse two causes of a current account deficit in countries
such as the United States
2. Analyse two causes of a current account surplus in countries
such as China
3. Analyse why depreciation in the US dollar might not necessarily
lead to a fall in their external deficit
4. Comment on two policies that might be used to correct a
deficit on the current account of the balance of payments
5. Describe what is meant by balance of payments imbalances
6. Distinguish between the current account and the capital
account of the balance of payments
7. Distinguish between the current account and the capital
account of the balance of payments
8. Evaluate the case for and against protectionism as a policy to
help prevent a recession and rising unemployment
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The Fast-Changing Global Economy
40%
Percentage share of world GDP, at current market prices & exchange rates
35%
31.4%
30%
28.5%
26.2%
25%
20%
22.7%
19.6%
15%
10%
5%
0%
1980
1990
2000
US
EU-28
Asia-Pacific
2010
2015
Source: IMF World Outlook
The world economy is changing rapidly! Since 1980 the share of global economic
output has shifted towards Asian-Pacific countries who now dominate.
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Extract 2: Text and Commentary
• While globalisation has
brought about an
increase in the volume of
world trade, it has also
increased balance of
payments imbalances.
• Much of the discussion
about these global
imbalances has focused
on China’s current
account surplus and the
USA’s current account
deficit
• Imbalances refer to the
persistent current
account surpluses for
some countries
contrasted with large
current account deficits
in other nations.
• The main way of
measuring trade /
current account
imbalances is as a % of
GDP
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Extract 2: Text and Commentary
• The period between 2007
and 2013 saw fluctuations in
the current account deficit of
the USA and in its effective
exchange rate index.
• Changes in its effective
exchange rate (see Fig. 2.2)
did not always have the
expected impact on the USA’s
current account deficit.
• The USA runs a permanent
(i.e. a structural) current
account deficit.
• Countries running external
deficits normally see their
currency depreciate
• The size of the US external
deficit halved from 2007 to
2009 – in large part due to
the recession.
• It has since been fairly stable
at around $200bn per year
• But real growth in the US
economy post crisis has
brought about a fall in the
deficit as a % of US GDP
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Fig. 2.1 Current Account Balances of China and USA
Surplus
China’s current account surplus has more than
halved since peaking > $400bn in 2008. It has
also declined as a % of China’s GDP
Deficit
The US current account deficit has narrowed
from over $700bn in 2007 to under $400bn in
2009 and has remained fairly stable at this level
since – declining as a share of GDP
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Current Account Balances of China and USA (% of GDP)
% of GDP is a better measure of the
scale of a deficit or a surplus
Surplus
China’s current
account surplus
measured as a
share of GDP
has diminished
significantly
since peaking at
10% of GDP in
2007.
The surplus
averaged 2% of
national output
in 2012-2014
Deficit
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Fig. 2.2 Effective exchange rate index of US dollar ($)
104
103
Base Year for
the Index
Appreciation
100
99
98
Depreciation
99
95
Overall, the US dollar has been depreciating against a tradeweighted basket of other currencies. But the size of the changes in
percentage terms in the external value of the $ have been small.
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US Dollar – Chinese Yuan Exchange Rate
Yuan per $1
China ends their fullyfixed exchange rate
against the US dollar
Yuan appreciating v $
China devalues the Yuan
in summer of 2015
Effective return of a fixed
exchange rate during the
global financial crisis
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How changes in the exchange rate affects trade balance
$ has fallen in value
e.g. v Chinese Yuan
US goods and
services cheaper in
foreign currency
terms
Demand for US
imports should fall
Demand for US
exports should rise
Imports into the
USA more
expensive prices in
US $s
Ceteris paribus,
value of US exports
will rise
Ceteris paribus,
value of US imports
will fall
So the US trade
deficit should
reduce in size!
Depreciation in
market value of the
US $
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Will an Exchange Rate Depreciation improve the BoP?
The diagram below shows the “J Curve effect” – it shows the time
lags between a falling currency and an improved trade balance
Trade
surplus
Currency
depreciation
here
Trade
deficit
Trade deficit may
grow in the initial
period after
depreciation
Time period after
depreciation
Net improvement in
trade provided certain
conditions are met –
known as the Marshall
Lerner condition
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