Economic assignment of international trade (usama shehzad sr ii-s) (2)


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Economic assignment of international trade (usama shehzad sr ii-s) (2)

  1. 1. Qs.1.What is balance of payments ? Ans. Balance of payments (BoP) accounts are an accounting record of all monetary transactions between a country and the rest of the world. These transactions include payments for the country's exports and imports of goods, services, financial capital, and financial transfers. The BoP accounts summarize international transactions for a specific period, usually a year, and are prepared in a single currency, typically the domestic currency for the country concerned. Sources of funds for a nation, such as exports or the receipts of loans and investments, are recorded as positive or surplus items. Uses of funds, such as for imports or to invest in foreign countries, are recorded as negative or deficit items. Qs.2.What is exchange rate ? Ans. The price of one country's currency expressed in another country's currency. In other words, the rate at which one currency can be exchanged for another. For example, the higher the exchange rate for one euro in terms of one yen, the lower the relative value of the yen. Qs.3.What is floating exchange rate and what are its causes ? Ans. Floating exchange rate system means that the exchange rate is allowed to fluctuate according to the market forces without the intervention of the Central bank or the government Causes of fluctuation in currency value : Changes in the imports and exports of the country : An increase in exports of a country will lead to an increase in demand for the currency and thus the value rises. Changes in Interest rate : Higher interest rate will attract more foreign investors to invest in the country and thus the demand for currency will rise, resulting in appreciation in value of the currency. Changes in Inflation rate : Higher inflation rate will make the country uncompetitive in the international market. The exports will fall resulting in decreased demand for the currency and hence lower value. Rise in domestic income relative to incomes abroad : currency depreciates. 1|Page
  2. 2. Investment opportunities : if bright lead to appreciation. Speculative sentiments : Individuals and institutions invest in currency markets with the sole intention to get short term gains. This is quiet like investing in stock exchange. Whenever a currency is going strong, people will invest more in an expectation to gain from it. This fuels the demand for that particular currency and it appreciates further. Global trading patterns : if strong global presence in trade then the currency appreciates. Changes in relative inflation rates : high inflation rate leads to exports becoming less competitive in international market Qs.4.What is fixed exchange rate ? Ans. Fixed Exchange Rate : A fixed exchange rate system refers to the case where the exchange rate is set and maintained at same level by the government irrespective of the market forces. Qs.5.How to correct negative balance of payment ? Ans. Restricting economic activity To correct a current account deficit a government needs to boost exports, restrain imports, or increase net investment income. From the 1880s the first policy practised by the government was to cut its own spending and encourage banks to restrict credit. This would reduce demand for imports and allow the country to meet its international interest payments. In 1938, for the first time, the Labour government intervened directly by imposing controls on imports and foreign exchange. Import controls For most of the period between 1938 and 1992, import controls were usually implemented through a licensing regime: governments issued licences to individuals and firms authorising the annual import of a specific quantity of a type of good. 2|Page
  3. 3. Though effective in reducing imports, the licensing regime could also be inefficient. Long waiting lists developed for the purchase of certain desirable imports such as cars. Licences were allocated on an arbitrary basis, rather than on the value that firms and individuals placed on an import. Worse, import licences could increase the likelihood of a payments crisis because, anticipating a licensing regime – or a more stringent one – individuals might import much more than their current requirements. This occurred in 1957 – import licensing had been suspended in 1952, but was reintroduced in 1958. Exchange controls Since foreign debts were usually settled in foreign currency, for most of the period between 1938 and 1984 New Zealand governments operated a system of exchange controls to maintain adequate reserves of foreign currency. Exporters had to convert their foreign earnings to New Zealand currency with the Reserve Bank, and, in turn, the bank supplied foreign exchange only for approved purchases. New Zealanders travelling overseas could only take limited amounts of foreign currency, and no bank outside New Zealand would deal in New Zealand currency. Devaluation A more important and effective tool New Zealand governments used to correct payments imbalances was to devalue the country’s currency against foreign currencies. This made New Zealand exports cheaper and therefore more competitive in international markets, and it discouraged imports by making them more expensive in New Zealand. Usually, New Zealand assets also became more attractive to foreign investors following devaluations, and the resulting capital inflows made a crisis less likely. However, devaluations often triggered inflation (general price rises) as import price increases were passed on to consumers. Floating currency The New Zealand dollar was floated in 1985. This should, in theory, ensure that balance of payments crises no longer occur because the currency would self-correct. For example, a high demand for imports increases the demand for foreign currency to pay for these imports. This higher demand increases the price of that currency in New Zealand dollars – a depreciation of the New Zealand dollar. Consequently, a balance of payments deficit, which might have been created by the high 3|Page
  4. 4. import demand under a fixed exchange rate, may be pre-empted by a depreciating New Zealand dollar making the imports more expensive. In practice, balance of payments deficits have persisted, but New Zealand has been able to borrow to cover them, avoiding payments crises of the kind that were common before the 1980s. Qs.6.What are the problems of trade surplus ? Ans. A variety of policies have been used to achieve protectionist goals. These include: Tariffs : Typically, tariffs (or taxes) are imposed on imported goods. Tariff rates usually vary according to the type of goods imported. Import tariffs will increase the cost to importers, and increase the price of imported goods in the local markets, thus lowering the quantity of goods imported, to favour local producers. (see Smoot– Hawley Tariff Act) Tariffs may also be imposed on exports, and in an economy with floating exchange rates, export tariffs have similar effects as import tariffs. However, since export tariffs are often perceived as 'hurting' local industries, while import tariffs are perceived as 'helping' local industries, export tariffs are seldom implemented. Import quotas : To reduce the quantity and therefore increase the market price of imported goods. The economic effects of an import quota is similar to that of a tariff, except that the tax revenue gain from a tariff will instead be distributed to those who receive import licenses. Economists often suggest that import licenses be auctioned to the highest bidder, or that import quotas be replaced by an equivalent tariff. Administrative barriers : Countries are sometimes accused of using their various administrative rules (e.g. regarding food safety, environmental standards, electrical safety, etc.) as a way to introduce barriers to imports. Anti-dumping legislation :Supporters of anti-dumping laws argue that they prevent "dumping" of cheaper foreign goods that would cause local firms to close down. However, in practice, anti-dumping laws are usually used to impose trade tariffs on foreign exporters. Direct subsidies : Government subsidies (in the form of lump-sum payments or cheap loans) are sometimes given to local firms that cannot compete well against imports. These subsidies are purported to "protect" local jobs, and to help local firms adjust to the world markets. 4|Page
  5. 5. Export subsidies :Export subsidies are often used by governments to increase exports. Export subsidies have the opposite effect of export tariffs because exporters get payment, which is a percentage or proportion of the value of exported. Export subsidies increase the amount of trade, and in a country with floating exchange rates, have effects similar to import subsidies. Exchange rate manipulation : A government may intervene in the foreign exchange market to lower the value of its currency by selling its currency in the foreign exchange market. Doing so will raise the cost of imports and lower the cost of exports, leading to an improvement in its trade balance. However, such a policy is only effective in the short run, as it will most likely lead to inflation in the country, which will in turn raise the cost of exports, and reduce the relative price of imports. International patent systems : There is an argument for viewing national patent systems as a cloak for protectionist trade policies at a national level. Two strands of this argument exist: one when patents held by one country form part of a system of exploitable relative advantage in trade negotiations against another, and a second where adhering to a worldwide system of patents confers "good citizenship" status despite 'de facto protectionism'. Peter Drahos explains that "States realized that patent systems could be used to cloak protectionist strategies. There were also reputational advantages for states to be seen to be sticking to intellectual property systems. One could attend the various revisions of the Paris and Berne conventions, participate in the cosmopolitan moral dialogue about the need to protect the fruits of authorial labor and inventive genius...knowing all the while that one's domestic intellectual property system was a handy protectionist weapon." Employment-based immigration restrictions, such certification requirements or numerical caps on work visas. as labor Political campaigns advocating domestic consumption (e.g. the "Buy American" campaign in the United States, which could be seen as an extra-legal promotion of protectionism.) Preferential governmental spending, such as the Buy American Act, federal legislation which called upon the United States government to prefer U.S.-made products in its purchases. 5|Page