International trade has been growing fast in the 21st century. In USA International trade has roughly tripled in importance compared with the economy as a whole
Imports and exports have both increased but imports have grown more. This has led to a large excess of imports over exports. How is this paid? The money is supplied by inflows of capital, foreign investments which want a stake in the U.S. economy. Earlier this amount of inflow of capital was inconceivable. This is a sign of growing international capital linkages in this example.
In 2009 both imports and exports plunged which reflected the global economic crisis which started in 2008. It is an example of the close link between world trade and the overall state of the world economy.
International economic relations are more crucial for other countries than USA, which as a result of its size and the diversity of its resources, relies less on international trade than almost any other country.
Average of exports and imports as a share of country GDP: Belgium 90%, USA 15%, Germany 45%
International Economics uses the same fundamental methods as domestic transactions. Individuals motives and behavior is the same regardless of the situation.
Seven themes recur throughout the study of international economics
the gains from trade
the pattern of trade
the balance of payments
exchange rate determination
international policy coordination
international capital market
Beans from Hawaii and Mexico sold in Florida. Path same but different: Mexico imported, Hawaji internal trade.
International trade can be affected by government decisions and currency rates, such as quotas and as an example... if the value of the Mexican currency falls against the dollar--> Now Mexican coffee is cheaper for Americans.
restraints on interstate trade and all U.S. states use the same currency, so this kind of example can't occur with the beans from Hawaii.
The gains from trade
Remember! In international economics single insight important- there are gains from trade- meaning that when countries sell goods and services to each other, this exchange is almost always to their mutual benefit.
Common misconception- trade is harmful if there are large disparities between countries in productivity or wages. People in developing countries such as India fear that if international trade opened, they won't be able to compete against high technology countries. On the other hand, high technology countries fear of diminishing living standards if trading with less advanced lower wage countries occurs.
Chapter 3 shows in how all the parties benefit international trade are even in a situation where another country is more efficient than other, and producers in the less efficient country can only compete with price. We will also see that trade provides the possibility to export goods which use heavily resources that are locally rich and import goods which use heavily resources that are locally narrow. International trade also allows countries to specialize in a narrower range of goods, the potential for larger scale production.
Not only benefits limited to the trade in tangible goods, also migration, borrowing & lending.
International trade can hurt particular groups within the nation, in other words, international trade will have a strong effect on the distribution of income. The important theme is that the International trade can make people redundant with particular narrow skills and affect the distribution of capital ( workers vs owners of capital). it has become clear that real wages for low skilled workers in USA have been declining, as a result of imports from developing countries?
The Pattern of Trade
The main concern for economists is to understand the patterns of international trade- who sells to whom- and also how to observe these paths when discussing recommendations for governmental policies.
Climate and resources partly explain the patterns of trade, Brazil exports coffee and Saudi Arabia Oil.
Why does Japan export Automobiles while USA aircraft? David Riccardo in 19th Century explained that this is a result of international differences in labor productivity. Another theory developed in the 20th century suggests that differences occur as trade patterns are linked to an interaction between the relative supplies of national resources such as capital, labor, and land on one side and the relative use of these factors in the production of different goods on other hands. More in Chapter 5.--> Recent tests shown that this theory is less valid.
How Much Trade?
If Idea of gains from trade most important theoretical concept in International Trade, its most important policy theme is to debate how much trade to allow.
All time governments fear that international competition has a bad impact on the domestic industries. This has led to protectionistic regulations and subsidies, for example by setting limits to imports and subsidizing exports.
Important mission of International economics is to show the positive effects of free trade and analyze the effects of protectionist policies.
In the 90's international trade took one step further as advanced democratic countries led by the United States removed barriers for International trade, which was seen inevitable for future prosperity and world peace.
Major Free Trade Agreements were negotiated.
-North American Free Trade Agreement, NAFTA 1993. USA MEXICO CANADA
-Uruguay Round Agreement, WTO World Tread Organization formed 1994
The anti-globalization movement has been growing along. In Seattle 94, major international trade meeting was disturbed by demonstrators with traditional protectionists- and new ideologies.
Analytical framework has been developed to assess if the Government should interfere with policies regarding international trade, also cost-benefit analysis.
Trade policy disagreements usually within nations not between nations.
Balance of Payments
Trade surplus or trade deficit better? South Korea insists to have deficit while China has been blamed for not playing according to the rules with a surplus of 40 Billion Dollar.
Country's balance of payment must be put into context of an economic analysis to better understand each country's situation.
1.Foreign direct investment by foreign multi-national corporations
2. International transactions to national income accounting (Finnish people buying alcohol from Estonia, Estonia's drink the most alcohol/per inhabitant in the world?)
3. International monetary policy
The problem of protectionism, USA has had trade deficit since 83.
Exchange Rate Determination
Currency exchange rate new subject to the international trade, earlier rates were fixed by governments rather than determined in the marketplace. Euro- Dollar comparison. As Euro depreciates like in 2002, Eur= (0,82 Dollar), European exporters benefit.
More in the later chapters
1. working of a fixed rate systems 2. historical performance of alternative exchange rate systems 3. economics of currency areas. 4. floating exchange rates.
International Policy Coordination
In integrated system important for the countries to coordinate their policies. A fundamental problem in international trade is to produce an acceptable degree of harmony among the international trade and monetary policies of different countries.
Germany's Bundesbank raised interest in 1990 to control the possible inflationary impact of the reunification of West and East Germany. This helped building recession to other Western European countries.
International trade policies have been governed for 70 years by an International Treaty known as General Agreement on Tariffs and Trade (GATT). SInce 94 international trade rules have been enforced by WTO.
-Coordination of international macroeconomic policies more newer and also uncertain topic.
The International Capital Market
Examples from the past as advanced countries have lend money to developing countries, leading to financial crises.
1982 Mexico was unable to pay back money they owed-->Debt crisis persisted untill 90's.
Latin America and Asian countries got investments worth of hundreds of billions of dollars as emerging markets.
1997 Asia massive crisis
These show that there is a need for an international capital market.
Today in sophisticated economies there is an extensive capital market. A set of arrangements by which individuals and firms exchange money for promises to pay in the future.
International capital market examples:
70's Middle Eastern Oil companies placed oil revenues in banks in London and New York--> these corporations lend money to Latin America and Asia
80's Japan converted its export revenues into investments in the US, including many subsidiaries of Japanese corporations.
China invests its own exports into foreign assets, including dollar which is hold as international reserves.
International capital markets differ from domestic markets. They must cope with special regulations that are imposed on foreign investments. Possibilities also to evade regulations regarding domestic market
-London EuroDollar market. Billions of Dollars exchanges without it ever landing USA.
Currency fluctuation-if Euro falls- USA Eur bond investors lose capital.
National defaults, one country simply could refuse to pay its debts.
International Economics: Trade and Money
The economics of International trade can be divided into two subfields:
Study of international trade
Study of international money
International trade: Focuses on the real transactions in the international economy, physical transactions of goods or tangible commitment of economic resources.
International money: Monetary analysis focuses on the financial transactions such as foreign purchases of U.S. Dollars.
World Trade Chapter 2
In 2008 around the world goods and services produced worth of about 50 Trillion Dollars at current prices. More than 30% were sold across borders.
Who trades with whom?
Empirical relationship known as the gravity model helps to understand the value of trade between any pair of countries and shows obstacles which limit international trade
..Changing the structure of world trade, towards Asia and types of goods that make up the trade...
USA main trade partners: Canada, China, Mexico, Japan, Germany, UK, South Korea
Three highest European countries in USA top 10..? list, Germany, UK and France. They have the highest GDP, which is the total value of all goods and services produced in an economy. A Strong empirical relationship is found between the large size of the economy and the volume of both imports and exports.
Looking at world trade as whole, the economists have found have found out that the following equation predicts the volume of trade between any two countries fairly accurately:
Tij= A x Yi x Yj/Dij
Tij= value of trade between two countries i and j
Yi= country i GDP
Yj= country j GDP
Dij= Distance between two countries
-Is trade proportional to the product?
ASK!!!! what is meant by the product???.....!!!
Why does gravity model work?
The larger the economy the larger the income. With the larger income comes the larger amount of imports. They also tend to get a share of other countries spending as they produce a wide range of products.
Actual trade flow between countries smaller than could think. The USA and Europe form 25% of Worlds GDP, but only attract 2% of the other's spending (Whole world or either of these areas? To make sense of actual trade flows, we need to consider factors limiting international trade.
Anomalies in gravity model make economists search deeper into the context. Belgium and Ireland larger share of US trade than gravity model suggests. Cultural reason for Ireland, same language, and the many USA descend from Irish people. Belgium's location is perfect at the entrance of River Rhine and West Europe. Antwerp together with Rotterdam one of the biggest harbors in EU...logistic costs cheaper.
Gravity model estimate to distance= 1 % increase to distance results in fall of 0-7-1% in trade between two countries
Also less tangible role with distance= the closer countries the closer usually shared culture and personal contact.
NAFTA trade agreement: no barriers or tariffs on trade among USA, Canada, and Mexico.
The Canada-USA border is reducing the potentiality of trade. Look closer at the study made between British Columbia and its trade calculated by the GDP rate of the USA and Canadian provinces surrounding it. More trade with Canadian provinces compared with USA provinces from an equal distance, border not efficient.
The changing Pattern of World Trade
Has the world become smaller? With technology and easier transportation access, the distance shouldn't be a too big problem. Gravity model still suggests that in international trade distance has a negative effect on trade.
Vertical disintegration- today a product can increase value already in the production phase as the product is produced and assembled in different countries and so affecting positive international trade flows. Estonia vs Finland... the benefit for Finland of Companies only moving production elsewhere?
2008 World trade= 54,73 % Manufacturers, 19.77% Services, 18,48 % Fuels and Mining, 7,02% Agricultural
Exotic new forms of trade can rise up and form a bigger part of services, like telecommunication from developing countries.
Service exports include transportation fees, insurance fees from foreigners and spending by foreign tourists.
From primary goods in the 70's to manufactured goods today. Primary= Agriculture, cloth Manufactured= Finished product like cloths
Service offshoring= outsourcing, which products are tradable at long distances. How big can outsourging become? Service jobs possible to outsource more than manufacturing. 2008 USA study 40% outsourcable, 60% not.
Labour Productivity and Comparative Advantage: The Ricardian Model Chapter 3
Two reasons why countries engage to International trade, both contribute to gains of trade.
The opportunity cost of producing one good from producing another. Roses and Computer example--> Rearrangement of production--> Same amount of roses produced but more computers.
The opportunity cost of producing: 10 million roses could be produced in USA, if this labour would be used for computers, amount of produced computers would be 100 000. The opportunity cost of producing 10 million roses is 100 000 computers. Another way round opportunity cost of producing 100 000 computers would be 10 million roses.
Roses could be instead produced in Columbia. The opportunity cost of those roses in terms of computers is less than it would be in the USA.
Columbian workes also less efficient in producing sophisticated goods such as computers, which means that with equal resources production of computers yields fewer computers in Columbia than in the US. Opportunity cost of producing 10 million roses in Columbia is propablt a lot smaller in terms of computers, maybe 30 000.
A country has a comparative advantage if the opportunity of producing a good in terms of other goods is lower in that country than it is in other countries, like roses in Colombia and computers in USA.
two countries can benefit both countries if each country exports the goods in which it
has a comparative advantage.
Ricardion model: international trade is solely due to international differences in the productivity of labour.
COMPARAtIVE ADVANTAGE-IMPORTANT TOPIC!!
Production Possibility Frontie PPP
factors of production:number of h/per x amount
aLC Qc + aLW Qw =
aLC & aLW =labour requirements for goods
Qw=economy's production of wine
Qc=economu's production of cheese
Slope: aLC/ aLW =opportunity cost of cheese in terms of wine
Relative prices and supply
Production Possibility Frontier shows different mixes of goods the economy can produce.
To decide what goods to produce we need to know the relative prices- the price of one good in terms of other-
In a competitive economy:
1.supply decisions are determined by individuals attempts to maximize earnings.
2. In simplified economy, where Labour only factor of production
---> the supply of cheese and wine will be determined by the movements of workers to the sector which pays higher wages.
Economy is a theory of choice
-one way to study how people make decisions
Politics is about ''who gets what, when and how''
two categories of economics
Positive: Economic analysis: price value exchange-> how things are right now, how prices change, how currencies change-> do analysis how they are
Normative: Political economy: More about how things should be, what kind of tax rates should, minimum wage. Focus on things as they are. call economists why inflation is so high, call economist. ideas value judgements policy
-economistic models probabilistic
-Potivie and normative can't be separated.
Ex minimum wages.same aim but normative consideration lead to different means.
-1.Donald Trump, conservative ideas come up--> China and other developing countries getting ahead.
2.Protectionism. Protecting own domestic economy to increase internal demand. Fear of losing balance.
3.Automatisation, digitalization--> conservative--> people don't understand.
-->Permanent jobs to part-time jobs.
-->pecialized jobs, loss of traditional jobs.
-->Change of working routines.
-More open markets, new ideas overrule. Change of generation. two generations using and living in the Internet
-Not stable, Oil supply problems--> Potential for world economic risks
-EU more specific regarding in handling crises, more integrated monetary Union
-China world leader in markets, Developing countries in better market positions-->automatization of manufacturing
-The World more interconnected
-uncertainty (unknown unknown) and risk (knownunknown) are not the same things
2.nothing but single market
3. Those who want more, do more
4.Doing less more efficiently, not as much structural funds as today
Structural fund definition: Definition of EU structural funds. This is the EU's flagship development programme which is designed to narrow the gap between the rich and poor parts of Europe. ... The majority of that spending is allocated to three funds: the European Regional Development Fund (ERDF), the European Social Fund (ESF) and the Cohesion fund ...by Financial times Lexicob
World economic slowing down after a recession. Structural problems or ..jakso....?
TTIP Transatlantic trade investment Partnership.
Three main institutions
IMF Financial assistance
World Bank Development assistance
Wto trade policy regulation and negotiation
Noodle Bowl map-- reflection in universal agreements aren't succeeded
WTO not successful 164 member states each have one vote. IMF votes based on investments.
-new trade opportunities-destroy old ones-gain new ones
Estonia entering Europe
Unilateral agreement with Ukraine, rice
After entering EU--> EU trade agreements--> End on unilateral agreement
-Estonian relationship with Ukraine got worse
French bottles cheaper in Estonia than domestic producers
--> Economies of scale--> Larger economies can produce with lower unit cost
-a weaker multilateral trading system
--> EU, USA, Japan--> historically if they had mutual agreement--> votes trough
-India, China Brazil
-Intellectual properties, good for Microsoft, Hollywood--> not good for developed countries
-Behind the curtains, bigger economies press on the decisions
Cars exported from Japan>USA car manufacturing struggling
The USA brought voluntary Export quota agreement
-> Japan forced to undersign under circumstances something ''worse'' could happen
->Japan chose to limit its exports, USA car manufacturing benefits
->Japan cars built in the USA, Subaru struggling in keeping up with the demand as they built the cars in Japan--> Export limits limit their possibility to supply and the increasing demand
-WTO, IMF and World Bank criticized by Opponents of globalization and corporations. Developing countries for dominance by US, rich countries, and corporations
--> Scholars for institutional flaws IMF: has imposed misguided policies World Bank: Wates resources on corrupt elites, WTO: Dominated by rich countries, corporations
-World bank more aid organization than bank
Why countries trade
-Autarky price--> completely protected markets--> no trade
country with lower price exports-> prices rise-> suppliers grain
a country with higher price imports-> prices go down->demanders gain, suppliers lose
======>>> WORLD GAINS
-determined by the
productivity of labor, Price of labor (w=wage, Exchange rate
-since w and W are larger commons to all sectors
--> main determinant of how individual sectors trade is productivity
-if all of a country's prices too high for export
--> exchange rate will fall or wages will fall
Gains of trade never equal--> Theory that even though one of the participants is a loser, in absolute they all gain as a result of wider possibilities (modern economics theory)
One factor of production model: Labor
-Absolute advantage vs comparative advantage, lawyer & secretary example
-comparing at what you do best instead at comparing with everything you do (microeconomic theory)
Sources of comparative advantage
-larger firms dominating digital markets in EU--> imperfect competition
The Heckscher-Ohlin Model
-Factors proportions model
-Comparative advantage determined by factor endownments: production facotrs--> some countries focused on one individual factor--> China cheap Labour, other... cheap land...
-Factor intensities: Agriculture--> requiring land= land intensive--> requiring cheap labour=labour intensive, need finding cheap labour --> requiring capital
-Two differences drive trade in H-o model
Countries differ in endownments of factors
-labour,capital,land,skill (human capital).... resources
2. Industries differ in factor intensities
-Countries export good that use abundant factors
--abundant factors are cheap (in Autarky=closed markets)
--> factors are perfectly mobile within a country accross industires, same resource can be used in energyu production or car manufacturing
Effects of Trade
according to H-O theory
Trade causes: Improts decrease, exports grow--> Factors to move industires--> towards export sector
For factor prized: Price equalization, China labour prices increase,>USA decrease
Pareto efficient outcome: Thinking about also what happens to the ones left outside of welfare.
Monopoly-one seller Oligopoly- few selles Monopolistic competition- many sellers but each with some market power
-in many international markets
The new trade theory
-Subsidies making each contributor coming to the markets, even though would be negative profit without subsidies
----> Boeing and Airbus example
---> Boeing goes to USA government, Airbus enters markets as a result of subsidies
---> USA gov subsidizes Boeing
---> Case taken to WTO court
Ad valorem: % of value
Specific: Dollars per unit
-Terms of trade price of its (country's) exports relative to its important tot= p exports/p imports
-artificial demand: clubs keep people in the queue-->consumers think that the place is popular
Pizzeria in Tallinn, limited quantity 90/per day--> after closed. Creates artificial demand, people want to go look and try this place
-Eu multifunctionality with Common Agricultural Policy=Cap
-->Explained by reserving way of life, supporting old farming ways.
-Unfair Trade Laws
-Andi-Dumping Duties--> selling under fair prices
What does it not Mean.
-deficit doesn't mean that we are losing money.
-deficit means we are losing jobs.
--> imports are good we dont produce and exports are good we do produce. Increase in imports can be the cause of more people are working, earning income and buying more from abroad---> doesnt mean that jobs lost as imports went up.
- Turmp backs these statements often. Doesn't mean that there isn't any backing in his claims.
-Current Account; Trade in goods,trade in services, investment income and unilateral transfers (i.e gifts, foreign aid).
-Financial account; Incldues only changes in asset holdings. A change in Estonian ownership of assets abroad, foregin ownership of assets in Estonia
Balance of payments required!
Example: China exports to USA-> trade deficit in the current account. Chinese people invest in to USA shares and infra--> Financial account surplus
-Balance of trade= crredits minus debits on trade transactions
-Current account deficit--> Current account balance/GDP--> predict financial crisies
-scoreboard of macroeconomic imbalances, 10 indicators--> if red--> feedback to the countries
-In EU if current account balance less than 5%.
-In case of surplus 6%
-trade growth has stayed flat in recent in Estonia. Eu has helped Estonia to trade with Russia. More exporting to Russia than importing from there. With other EU countries trade deficit
-global value chains, imports require exports. Ericson imports parts from UK, assembles in Estonia and Exports.
-Cravity theory- trading with closing countries
Income= C+S, saving
Trade deficit= spending more than our income, X-M<0, means that we are spending (C+I+G) more than our income Y
Bilateral Nominal Exchange rates:the actual rate between a pair of currencies
-size of an exchange rate means very little. Wheter ero is worth more or less than a dollar is not important
-Currency Envy, people do care
-Multilateral exchage rates: Tells trhe overall value of a currency, you need an index relative to many others
-Real exchange rates: corrected for inflation
---> E= euro/dollar nominal exchange rate
Forward Exchange Rates
-These are rates of exchange for later, not today
rates for exchange today are called spot rates
-in forward market, no money changes hands today; a forward exchange is a contract for both buyer and seller to transact
-Exchange rate adjusts to eliminate the motive to shift assets between currencies
-Penson Fud Tuleva in Estonia, idea that no fund managers needed--> investments to index funds. Remember BlackRock fund
-markets highly rational, consumers invest money according to where the expected higher return is
-Warren Buffet investment strategy: Investment into undervalued assets
- 2 ways to think: Prices already reflect the through value (perfect markets) or Price are not in the equilibrium and some are undervalued.
Supply and Demand model of the market for Foreign Exchange
Foreign exchange than foreign currency. Nit the marker for holding currency such as studied in some courses eg the Money Market.
- Example Price of E= Exchange rate, Quantity of Euro
-Sources of supply of E
- US exports to EU and gets payment in Euros. , US Capital inflows.. US investors buy US bonds etc...Other...
Sources of Demand for E
-US imports, US capital outflows
Use of the model- price in the diagram E= price of the foreign exchange, E= S/Eur--> DOLLAR in the Y axis--> change in demand for Eur re
-Implications of the model
Nixon 10% surcharge on imports--> reduces demand for imports and demand for Eur, shifts dEur to the left--> causes dollar to appreciate
US interest rates increase
--> US bonds more attractive, causes increased capital inflow to US, increased demand for S and thus supply of Eur -> shifts Supply of Eur right
Pegging the exchange rate
- fixed or floating exchange rates
-Central bank buys and sells currencies so that supply and demand are not perfect in the market
- central banks set a par value, intervene only if rate moves some distance above or below this par value--> this range of movement is called an exchange rate band
-Manager float-does not try to set new target to the exchange rate, but to slow its rate of change. Purpose: to dampen fluctuations.
-Crawling peg-slow and predictable
-developing counties, Brazil float Argentina Pegged to US Dollar, Bulgaria pegged to euro, China pegged to the dollar until summer 05 and july 08 ot july 2010, Costa Rica crawling peg, India and Egypt managed float
-Money supply--> money in the circulation--> US bank buys EUr, Dollars to circulation and increase in money supply.As US sells the EUR dollars out of circulation and money supply decreases.
-Reserve ratio: how much money the banks need to keep in reserve to secure its functions.
-Overvalued peg leads to a crisis, undervalued not
-US Dollar special case: many countries reserves are dollar-denominated assets, mostly US govt bonds--> if currencies kept undervalued, that means the dollar is overvalued
-Americans benefit from the high dollar they can buy cheap food and services
-americans borrow in dollars in order to do it--> if other countries stopped lending for the US, the dollar would fall so would the value of US debt.
The US DOllar vs Chinese Renminbi
-why US pressures China to appreciate yuan? to make it easier to sell US goods.
-Levy argues: Tariffs against China won't work-> US will jsut switch to importing from other low-cost countries-> US trade deficit will be unchanged
---> Instead usa should reduce gov. spending.
PEGGING vs FLOATING
China currency floating, USA expansion, the supply of dollar shifts right, more US imports from China, Yuan appreciates.
Fixed versus Floating Exchange Rates
-Pegged are more fixed and floating exchange rates are more flexible.
Pros and cons of floating
-macro effects- depreciation
-Micro- uncertainty exports and imports, instability --> both can be costly for traders
-Capital controls limit inflows and outflows of capital.
The impossible trinity- Triangle 1.Full capital controls--> USA federal reserve Goal: Exchange rate stability, security for investors 2. Policy Monetary Unions Goal: Full financial integration 3. Pure float Goal: Monetary Independence.
Not all can be used at the same time!
NB Check the goals!!! Important
Example Estonia: Full capital controls--> European Central bank, No individual monetary policy--> No monetary independence. Exchange rate stability achieved and at the same time full financial integration. Capital can flow across borders.
-Bretton woods system down as a result of it couldn't handle inflation, caused overvaluation of currencies. These lead to crisis. Correction devaluation or floating.
EUROPEAN MONETARY UNIFICATION AND THE EURO
-Robert Mundell, check.
EMU, European monetary union
-12 original members, now 19.
-Euro controlled by European Central Bank.
European snake- exchange rate tunnel, not completely fixed or free float-> this policy was followed by EU in 73.
Maastricht Treaty- Formation of more wide ERM--> Finland joined.
-UK and Denmark dropped.
Need for Convergence
-countries with same currencies should become similar -> Example inflation rate.
-if countries have different rates of inflation the high inflation countries will lose markets to low inflation countries.
-if countries have different interest rates capital will flow to high-interest rate countries seeking a higher return.
--> Countries with common currency inflation and interest rates, budget and government deficits.
Maastricht Convergence Criteria
1. National currency in ERM for 2 yeras
2. Budget deficit <3% of GDP
3. Government debt < 60% of GDP
4. Inflation <1.5% above the average of lowest 3. !Estonia when entering EU!
5. Long-term interest rates <2% above average of lowest 3
-when one country is hit with a shock that others are not
WInners and losers of EMU
Winners: Multinational companies, costs of operating in multiple countries were reduced. Europe's biggest banks were expected to gain through consolidation across borders. Consumers, able to comparison-shop across borders.
Losers: Small firms (e.g. shops, restaurants), for whom changeover was costly with little benefit.
The EUro zone crisis
-In process of negotiating a mechanism to 1. provide loans to troubled countries 2. put pressure on them for austerity--> cut spending and raise taxes. 3. FOrm banking union to safely manage bank failures.
Bailout money from others to pay it off--> favoured by weaker countries (France)
Bonds cut for private investors. --> supported by the stronger countries (Germany)
-structural deficit in EU budget, a nominal deficit in bookkeeping, revenue vs expenses. Structural adjusted to by business cycles. Potential annual growth...what is nest years forecast. GDP gap!! Hard to say exact GDP gap... many ways to calculate.
NB! Japan high loan to GDP ratio. Japanese gov loans bought by Japanese individuals.
Headline and underlying inflation
-one includes the energy prices.
1. GDP- growth, is the country economy stuck or evolving
2. High Government debt--> loan interest, credit rating
3. Inflation/deflation --> purchasing power
4. interest rate on loans--> availability of loans, consumer ability to pay
5. Credit quality of loans
Lecture 2 06.09.2018.
Balance of trade
=Exports minus Imports
Trade surplus= Bal of Trade >0
Deficit= we are losing money--> misconception
Earlier kind of true-> money was gold, there was no inter capital flow, imports>exports meant you were spending more than earning
Today there are capital flows
a country with imports> exports can Borrow and sell assets to foreigners
Definit= we are losing jobs --> misconception
Scott; connection exports= gained jobs, Import=jobs lost.
--> he assumes that imports replace domestic production--> sometimes true... but mostly not.
Griswold: US economy has done best when the trade deficit was growing--> misconception
--> High incomes led to higher imports... not the cause of the trade deficit!!!!
Deficit means other countries are misbehaving--> misconception
--> things affecting; competitive advantage (China), currencies
Germany example--> german growing domestic demand through other countries trade deficit--> not necessarily, can be an effect on development that German goods are demanded.
International transactions are divided into two parts:
Current Account and Financial Account.
---> Remember that balance is needed.
Current account: Trade in goods, services, investment income and unlater transfers (gifts, foreign aid).
FInancial account: Includes only changes in asset holdings
-Balance part of the current account! Remember.
Indicators of crisis, 5:
1.Current account deficit, EU scoreboard of macroeconomic imbalances-toolkit. Note Maastricht indicators: 3% deficit/GDP, 60% debt/GDP
Current account deficit concern of Donald Trump--> mainly looking into the deficit of goods--> Remember that other indicators are important too!
Short period Current account deficit does not risk if its related to a fastly growing economy
Estonia has currently trade deficit
Biggest exporting countries for Estonia: Sweden, Finland
Importing countries: Germany, Finland
Trade surplus with Finland and Sweden
Trade deficit with Germany
Esports of services; EBS in Helsinki
Trade deficit: borrowing from foreigners, selling shares to foreigners--> the current USA
Forms of Exchange Rates
Bilateral rates tell a value of a currency relative to a single other currency
To get the overall value we need to compare currencies with indexes
Rates of inflation (of prices) are important for exchange rates
--> important to at real exchange rates as well as nominal rates
''By contrast, the real exchange rate R is defined as the ratio of the price level abroad and the domestic price level, where the foreign price level is converted into domestic currency units via the current nominal exchange rate''
Formally, R=(E.P*)/P, where the foreign price level is denoted as P* and the domestic price level as P. A decrease in R is termed appreciation of the real exchange rate, an increase is termed depreciation
Forward Exchange rates: no money changes hands today; a forward exchange is a ''contract'' for both buyer and seller to transact.
What determines exchange rates
-Markets; supply and demand and governments/central banks; if they intervene in the markets
3 theories of exchange rates
1.PPP- purchasing power parity-useful bust mostly wrong- works best only in the very long run
-Exchange rate reflects relative purchasing powers of two currencies.
-if one country prices are rising faster then another's, the currency of the first should depreciate
-if good gets more expensive, its currency should get less expensive.
Prediction: Bilateral exchange rate between currencies A and B
PP used to guess if currency is over-or undervalued
Which prise to use for PPP= CPI, consumer price index
Exchange rates of poor countries tend to be low to PPP while rich countries have high
Reason: prices of some goods effecting heavily on local inputs (rents and wages) that tend to be low in poor countries.
---> Best to only compare countries with similar incomes.
Example Norway: PPP GD per capita less than with nominal GDP
´2.Asset theory-always right but useless
Exchange rate adjusts to eliminate the ...
Exchange rate must already be whatever people think it is about to be.
Reason: if they were not
----> CHECK later
-rates do not respond to normal economic forces ( like the supply and demand but respond as soon as they are expected.
-rates behave according to investor psychology which is irrational
3.Supply and Demand model-best for understanding what has happened. -not much help in predicting the future
- we say foreign exchange rather than currency
-- x quantity of E, Y exchange rate Dollars/Euros (price of the foreign currency, not the dollar) .. microeonomic model
Demand: us imports, us capital outflows, other; us investments income paymetns, transfers out
->thus all debits in balance of accounts
US traif increase on lots of goods /nixons 10 surcharge on imports 71)
-reduce demand for imports
-reduces demand for euro
-shits D EUR left--> equilibrium moves
US interest rate increase
-us bonds more attractive
-increase capital inflow to US
-increases demand for the dollar and thus the supply of euro
Shifts S Eur rights--> depreciation of Euro
US dollar appreciates as:
-increase in demand for US exports
-Fall in foreign interest rates
-increase in the perceived riskiness of foreign assets
-Fall in US transfer payments to foreigners
--> opposites of all these will cause the dollar to depreciate
Example ECB increases interest rates before US
=to fix the exchangE
--> <overvalued pegging results in reduction
National Income Accounting and the Balance of Payments
Why individual countries fortune differs? Example different circumstances after the recession (China slow growth, USA contradicting effect)
Microeconomics: Studies how individual economic actors collectively determine how resources are used
--->International microeconomics study example--> how individual production and consumptions decisions produce patterns of international trade and specialization
--> government intervention or market failures can cause waste even when all the factors of production are fully in use.
Macroeconomics: Studies how economies overall levels of employment, production, and growth are determined. Studies the behaviour of an economy as a whole.
--> We will learn how the interaction between different national economies affect the worldwide pattern of macroeconomic activity.
Studies four aspects of economic life:
Unemployment, Saving, Trade imbalance and Money & The price level.
National Accounting concepts; production and international transactions
1.national income accounting: records all the expenditures related to a country'es income and output.
2. balance of payments accounting; informs about the country's debts to foreigners and fortunes of its exports and import-competing industries. Shows also the connection between foreign transactions and national money supply.
National Income accounts: