Midterm Two
Should bilateral trade between two countries be balanced? Is balanced bilateral trade a sign of a healthy, competitive national economy?
No, not necessarily. In not balancing trade bilaterally, a country reaps gains from trade by exporting to those nations that need the products in which it specializes, and then importing from other nations that produce the products best suited to its needs.
According to Lawrence, is the trade balance a useful indicator of a country's economic health and its performance in international trade?
No. According to Lawrence, the view that trade deficits are an indicator of good economic health is based on a number of misconceptions (for example, the misconception that exports are good, because they are like revenues, and imports are bad, because they are like a cost that the country pays -- when in fact, both imports and exports benefit the country). More important than the trade balance is to understand the underlying causes of a country's trade balance.
Do trade deficits lead to higher unemployment and slower economic growth? Why or why not?
No. Outcomes can occur for a variety of reasons, and without identifying these basic reasons, it is impossible to infer what trade balances mean for either employment or growth. estimates of the impact of trade on employment/growth should separate changes attributed to foreign competition from changes due to increased domestic spending and production.
Global wave of capital account liberalization starting in 1970s driven by
Beliefs of government officials about optimal policy Pressure from the International Monetary Fund Lobbying by organized groups (big banks)
What are the possible sources of a current account (or trade) deficit? What is the role of private saving, private investment, and the government budget balance?
A country's inability to produce some goods. Better quality of some foreign goods. Cheaper foreign materials. Lower foreign wages. Lower foreign capital costs. Foreign subsidies. QUESTION TWO
What are capital controls?
Any measure taken by a government to regulate the flow of capital into and out of the domestic economy
what does it mean when a country has current account deficit or surplus?
Deficit: country is importing more goods and services than it is exporting Surplus: positive current account balance, country has more exports than imports
Remember Guisinger's (2009) conditions for political salience:
Do voters care about the issue? Do voters know the issue? Do voters reward/punish candidates based on this issue?
Examples of capital controls
Exchange controls (limits on buying/selling of national currency) Caps on of sales/purchases of fin. assets Transaction taxes Minimum stay requirements Limits on amount of money citizens are allowed to remove from the country
What are the different types of exchange rate regimes?
Fixed or floating
current account =
GNP - GDE gross national product (value of what country produces) gross domestic expenditure (value of what country spends)
Who benefits from high/strong levels
Groups focused on domestically-oriented (nontradables) activities and consumers→ preference for strong currency
Who benefits from low/weak levels
Groups that are heavily involved in tradables (export-oriented and import-competing sectors) → preference for weak currency
What are the trade-offs involved in determining the level of the exchange rate? Who gains and who loses from these different choices?
High (strong): favors consumers Low (weak): favors producers (domestically oriented; exporters) Trade offs: Two conflicting goals: stimulating local tradable producers vs. raising local purchasing power
Who is likely to support/oppose controls?
Oppose "Financialized" individuals Right-wing partisanship/ideology Support Underbanked individuals Financially insecure (e.g. unemployed) Left-wing partisanship/ideology
What are the main determinants of a country's trade balance in the long run?
Over the long run, the current account balance depends mostly on the fundamental determinants of saving and investment, such as income, demographics, interest rates, and the government budget deficit.
Under what conditions are capital controls likely to become politically salient?
Political salience of capital controls=Economic instability +Reintroduction of controls +Outflow controls
increases with current account deficits
Protectionist sentiment
Trade balance plays role in elite messaging around trade
Seems to affect preferences and voting behavior
what is the relationship between the current account and the capital account?
The sum between the two will always be zero because they balance each other out. They are the two halves of a nation's balance of payments.
Lawrence, five misconceptions
Trade deficits are bad, trade balances reflect trade policies, trade deficits always lead to job loss and slower growth, trade performance is the most important reason for the long-run decline in US employment manufacturing, Bilateral trade between countries should be balanced.
According to Lawrence, can trade barriers significantly help reduce a country's trade deficit?
Trade policy can, but is unlikely to, significantly reduce countries' trade deficits. For that to happen, trade policy must somehow increase total domestic saving or reduce domestic investment, which it is not well-suited to do.
When it comes to the politics of capital controls, do voters typically understand or care whether their governments restrict international financial transactions?
Voters do not pay attention to, understand, or care about capital controls Decisions about capital controls tend to be elite-driven
Trade deficits are bad
Without identifying the causes of the trade balance, we cannot say it is good or bad. Focus on national saving and investment.
Are there situations in which trade deficits might lead to good economic outcomes? If so, describe one such situation.
Yes, there are many possible examples. One would be when a country's current account deficit is the result of high investment rates, in which case the country will benefit from future economic growth. Another example is that a country that trades a lot but has a trade deficit is better off than a country that has a surplus but trades very little (since the latter does not enjoy many of the gains from trade).
Are there situations in which trade surpluses are not necessarily an indicator of good economic health? If so, describe one such situation.
Yes. A surplus might not be a good sign if it comes at the cost of lower domestic investment and production
Mercantilism
belief in promoting favorable balance of trade as best method to increase nation's wealth Discounted by experts as an economic theoryoBut still informs popular misconceptions of costs and benefits of trade
Trade deficits always lead to job loss and slower growth
estimates of the impact of trade on employment should separate changes in import growth attributable to improved foreign competitiveness from changes due to increased domestic spending and production.
Governments with BLANK under speculative pressure tend to delay the decision to float/devalue until after reelection
fixed rate regimes
Who gains and who loses from each choice?
gains from fixed: heavily involved in foreign trade/investment → exposure to currency volatility → preference for exchange rate stability loses from fixed: opposite, those not involved with foreign trade and investment. gains from floating: Groups whose activities are confined to the domestic economy → sensitive to domestic macroeconomic conditions/little exposure to exchange rate risk → preference for flexibility loses from floating: opposite, those whose activities are not confined to the domestic economy (someone who would gain from fixed exchange)
impossible trinity
government must choose two of the three goals: capital mobility, exchange rate stability, or monetary independence
What are the choices/trade-offs involved in selecting an exchange rate regime?
impossible trinity. each set of values is desirable; obtaining each requires forgoing at least some of the other
bilateral trade between countries should be balanced
in not balancing trade bilaterally, a country reaps gains from trade by exporting to those nations that need the products in which it specializes, and then importing from other nations that produce the products best suited to its needs
Fixed rate regime
more currency and monetary stability, sacrifices flexibility stability and credibility
Floating rate regime
more policy flexibility
Capital Account
net change of assets and liabilities during a certain time period
Nafta example
new barriers to trade as advocated by the administration could disrupt production and reduce rather than increase domestic employment in both the protected industries and those that use its outputs. The result could therefore be more rather than fewer US manufacturing workers losing their jobs.
trade balances are
outcomes or endogenous variables
Income effect from currency depreciation reduces? why is this important in electoral cycles?
purchasing power of population It can make depreciation unpopular and thus politicians may want to avoid it at election time
Governments show a strong tendency to allow or engineer a BLANK in the run-up to elections, which is then reversed after the government changes hands
real appreciation
Balance of Payments
record of all international financial transactions made by the residents of a country
Financial Account
records of financial transactions across countries between residents and non residents
which accounts constitute the balance of payments
the current account, the capital account and the financial account
Current Account
the difference between country's saving and investments
Trade balances reflect trade policies
the influence of trade policies on the trade balance is likely to be overshadowed by the more fundamental determinants of saving and investment.
Trade performance is the most important reason for the long-run decline in US employment in manufacturing
the primary reason for these declining shares has been rapid productivity growth coupled with demand that is relatively unresponsive to lower goods and higher incomes. (Similar to agriculture decline where there are less farmers because demand for food has lowered)