Unit 7: Balance of Payments, Foreign Exchange, Comparitive and Absolute Advantage

 

Balance of Payment 

• Measure of money inflows and outflows between the united states and the rest of the world.
• Inflows are reffered to as Credits
• Outflows are reffered to as debits
• The Balance of payment is divided into 3 accounts  

3 Accounts

• Current Account
• Balance of trade or net exports
• Exports (credit/asset) - Imports (Debit/Liability) 

• Net foreign income or Net investments
• Income earned by U.S. owned foreign assets 
• Income payed to foreign held U.S. asset

• Net Transfer: 
• Foreign Aid
• Humanitarian effort
• Sending money home to family  

• Capital/ Financial Accounts 
• Balance of capital ownership
• Purchases of both real and financial assets

• Direct investment in the U.S. is a credit to the capital account
• Toyota factory in San Antonio

• Direct investment by the U.S. firms/individuals in a foreign country are debits to the capital acct.
• Dell computer in Costa Rica

• Purchase of foreign financial asset represents a debit to the capital accounts
• Bill Gates buy stock in Petro China

• Purchase of domestic financial asset by foreigner represents a credit to the capital acctount
• Venezuela purchase a large stake in Walmart.

• Official Reserves
• The foreign currency holdings of the United States balance of payments        

Foreign Exchange Formulas 

• Balance of trade:
• goods export - goods imports
• Balance on goods and services:
• Goods exports + service exports - good imports + service imports
• Current Account:
• Net export + Net investment + Net transfers
• Capital Account:
• Foreign purchase of Assets + U.S. purchases of Assets

The Market

• Foreign Exchange Market:
• The buying and selling of currency
• Appreciation:
• Strong dollar. 
• The dollar buys more of another currency and results in less expensive imports and more expensive exports.
• Leads to a trade deficit and imports will increase because they are cheaper.
• Depreciation:
• Weak dollar
• The dollar buys less of another currency and results in more expensive imports and less expensive exports.
• Cheap exports. Weak dollar

   Comparative and Absolute Advantage  

• Comparative
• Who can produce with the lowest opportunity cost. 

Absolute Advantage  

• Who can produce more with the same resources or who can produce the same output with less resources. 
•  E.X. Papa Johns can produce more pizza than McDonald’s