IS LONG TRADE DEFICIENCY SUSTAINABLE

Is A Large Trade Deficiency Sustainable?

What Is Deficit?

A deficit occurs when the country's imports is larger than the value of its exports.

how Deficiency occurs

Strong Consumer Demand:- real household spending has grown more quickly than the domestic economy can expand.

Strong Exchange Rate of Currency:- Increasing exchange rate of internal currency creates an expenditure-switching effect away from domestically produced output.

Comparative Advantage in the International Economy: -for example the rapid growth of China as a source of exports of household goods and other countries in South-east Asia who have a cost advantage in exporting manufactured products.

Substitution Effect:- The availability of imports from other countries at a relatively lower price

Non-price Competitiveness Factors:- non-price competitiveness factors such as design and product quality are now more important for trade than merely price alone.

The Weakness of the Global Economy.

Does a current account deficit really matter?

The UK has run large current account deficits in recent years with barely any effect on the overall performance of the economy.

The United States economy is also experiencing a huge trade deficit at the moment.

What are the implications of this?

Reasons to Worry

Structural weakness:- loss of competitiveness in overseas markets, insufficient investment in new capital or a shift in comparative advantage towards other countries.

An unbalanced economy:- A large deficit in trade is a sign of an ‘unbalanced economy’ typically the consequences of a very high level of consumer spending contrasted with a weaker industrial sector.

CONTD…

Depreciation:- In the long term, a current account deficit can cause a depreciation of the exchange rate which reduces living standards (imports are more expensive).

Potential loss of output and employment:- Arising from falling production in exports.

Potential problems in financing a current account deficit:-Countries can’t always rely on inflows of financial capital an economy to finance a deficit.

“The consequences of these persistent and massive trade deficits include not only failed businesses, displaced workers, lower real wages and rising inequality, but also permanent devastation of our communities.”

-- Democratic congressional leaders. January, 2009. letter to U.S. President.

Nancy Pelosi

House Speaker

The Trade Deficit that Ate America

Is the trade deficit sustainable?

“Net international investment position”

• America a “debtor nation” since mid-1980s—now $2.5 trillion.

• Foreigners own $13.6 trillion in U.S. assets, Americans own $11.1 trillion in assets abroad at end of 2005.

• “Foreign debt” 20 percent of GDP, < 5 percent of national wealth.

• In 2006, Americans earned $622 billion on investments abroad, paid $629 billion on foreign investments in U.S.

• U.S. paid net -$7 billion on income.

Don’t Worry!!! Its Globalisation and Financial Liberalization

Inward Investment:- If a current account deficit is financed from long term capital inflows then this can be beneficial for the economy.

Devaluation:- If the deficit gets too large it will cause a devaluation which helps to reduce the deficit.

Partial auto-correction:- If some of the deficit is due to very strong consumer demand, the deficit will automatically partially-self correct when the economic cycle turns and there is a slowdown in spending.

Contd…

Investment and the supply-side:- Some of the deficit may be due to increased imports of new capital and technology which will have a beneficial effect on productivity and competitiveness of producers in home and overseas markets.

Capital inflows balance the books:- Providing a country has a stable economy and credible economic policies, it should be possible for the current account deficit to be financed by inflows of capital without the need for a sharp jump in interest rates.

For example, the UK has run an average annual current account deficit of £10 billion from 1992-2004 and yet the economy has also enjoyed one of the longest sustained periods of growth and falling unemployment during that time.

The chart above shows that the UK has run a current account deficit in each year since 1998 but that the size of the deficit expressed as a percentage of national income (GDP) has actually been falling in the last three years – it is now less than2% of GDP – a manageable level with few obvious painful consequences.

In contrast the US economy is operating with a current account deficit on anenormous scale as the US government is facing up to huge Current account andbudget deficit problems.

1.DIVYAGYAN-H15

2. BISWAJIT GHOSH-H12

3.GURPREET KOUR BALI-H18

4.ANUP SAINI-H09

5.AMLAN GOGOI-H05

6.ANJALI SINGH-H07

Mercantilist mindset: “Exports good, imports bad.”

© 2009 AIMS PGPM-H02

IS LONG TRADE DEFICIENCY SUSTAINABLE

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