UNIT 7

absolute and comparative advantage

absolute and comparative advantage

unit 7

Balance of payments

• measure of money inflows and outflows between the US and the Rest of the World (ROW)

     -Inflows are referred to as CREDITS

     -out flows are referred to as DEBITS

• the balance of payments is divided by 3 accounts

      - current account
      - capital/ financial accounts
      - official reserves accounts

Current Accounts

- balance of trade or net exports

-net foreign income

-net transfers (tend to be unilateral)

Capital/ Financial Accounts

- the balance of capital ownership

-includes the purchase of both real and financial assets

-direct investment in the US is a credit to the capital account

-direct investment by US Firms/ individuals in foreign country are debits to capital accounts

-purchase of foreign financial assets represents a debit to a capital account

-purchase of domestic financial assets by foreigners represents a credit to the capital accounts

          Important Info:the current account and the capital account should zero each other out***

Official Reserves 

-foreign currency holdings of US Federal Reserve System

-when there is a balance of payments surplus the FED accumulates foreign currency and debits balance of payments

-when there is a balance of payments deficit FED depletes its reserves of foreign currency and credits balance of payments

Active US passive official reserves

-the US is passive in its use of official reserves

Exchanges

• Foreign Exchange (FOREX)

- the buying and selling of currency

      Example: in order to purchase souvenirs in France, it is first necessary for Americans to sell their dollars and buy Euros

- any transactions that occurs in the balance of payments necessitates foreign exchange

-Exchange Rate (e) is determined in foreign currency markets

• Changes in Exchange Rates

-exchange rates (e) are a function of supply and demand for currency

•        an increase in the supply of a currency

•        a decrease in supply of a currency will increase the exchange  rate of currency

•        increase in demand for currency will increase the exchange rate of currency

•        decrease in demand for a currency will decrease the exchange rate of currency

• Appreciation and Depreciation

-appreciation of currency occurs when exchange rate of that currency increases (e^)

-depreciation of a currency occurs when the exchange rate of that currency decreases

• Exchange Rate Determinants

-consumer tastes

-relative income

-relative price level

-speculation

• Exports and Imports

-exchange rate is a determinant of both exports and imports

-appreciation of the dollar causes american goods to be relatively more expensive and foreign goods to be relatively cheaper, thus reducing exports and increasing imports

-depreciation of the dollar causes american goods to be relatively cheaper and foreign goods to be relatively more expensive thus increasing exports and reducing imports

• Absolute Advantage

-Individual- exists when a person can produce more of a certain good/ service than someone else in the same amount of time (or can produce a good using the least amount of resources.)
-National-exists when a country can produce more o a good/ service than another county can in the same time period.

• Comparative Advantage

-A person or a nation has a comparative advantage in the production of a product when it can produce the product at a lower domestic opportunity cost than can a trading partner.

• Examples of output problem:

-word per minute

-miles per gallon

-tons per acre

-apple per tree

-television produced per hour

• Examples of Input problems:

-number of hours to do a job

-number of acres to feed a horse

-number of gallon of paint to paint a house

• Specialization and trade

-Gains from trade are based on comparative advantage, not absolute advantage

(who can d what in a certain amount of time)

(Smallest number is who has opportunity cost)

Economic Growth and LRAS- Macro 3.14

UNIT VI

Economic Growth Defined

                   -Sustained increase in Real GDP over time.

                   -Sustained increase in Real GDP per Capital over time.

Why Grow?

               A.)Growth leads to greater prosperity for society.

               B.)Lessens the burden of scarcity.

               C.)Increases the general level of well-being.

Conditions for Growth

            -Rule of Law

            -Sound Legal and Economic Institutions

            -Economic Freedom

            -Respect for Private Property

            -Political & Economic Stability

Low Inflationary Expectations

            •Willingness to sacrifice current consumption in order to grow

            •Saving

            •Trade

Physical Capital

                                I. Tools, machinery, factories, infrastructure

                                II.Physical Capital is the product of Investment.

                                 III.Investment is sensitive to interest rates and expected rates of return.

                                  IV.It takes capital to make capital.

                             V.Capital must be maintained.

Technology & Productivity

•Research and development, innovation and invention yield increases in available technology.

•More technology in the hands of workers increases productivity.

•Productivity is output per worker.

•More Productivity = Economic Growth.

Human Capital

                   -People are a country’s most important resource. Therefore human capital must be developed.

                   -Education

                    -Economic Freedom

                    -The right to acquire private property

                    -Incentives

                     -Clean Water

                      -Stable Food Supply

                  •Access to technology

Hindrances to Growth

*Economic and Political Instability

–High inflationary expectations

*Absence of the rule of law

*Diminished Private Property Rights

*Negative Incentives

–The welfare state

*Lack of Savings

*Excess current consumption

*Failure to maintain existing capital

*Crowding Out of Investment

–Government deficits & debt increasing long term interest rates!

*Increased income inequality à Populist policies

*Restrictions on Free International Trade

The Phillips Curve (Macro Review) Macro 3.4

Example of the Phillip Curve

UNIT V

4/11/16
DEFINTION  

1. INFLATION- a general rise in the price level
2. DEFLATION- a general decline in the price level
3. DISINFLATION- a decrease inflation rate over time.
4. STAGFLATION- unemployment and inflation increasing at the same time.
5. SUPPLY SIDE ECONOMICS- change AS not AD. Determines the level of inflation, unemployment rates, and economic growth
6. SUPPLY SIDE ECONOMIC – support policies that promote GDP growth by arguing that high marginal  tax rates along with the current system of transfer payments such as unemployment compensation or warfare programs , provide disincentive to work , save , innovate , and undertake enterperal ventures.
7. Lower Marginal tax rates – induce more work , this causes as to increase. Al6 makes leisure more expensive, and work more attractive.

INCENTIVE TO SAVE AND INVEST

-High marginal tax rates reduce the rewards for saving and investment.

-Consumption might increase , but investment depends upon savings

- Lower marginal tax rates encourage savings and investment

LAFFER CURVE

- Theoretical relationship between tax rates and government revenue.

- As tax rates increase from 0 , government revenues increase increase from 0 to

- Criticisms : 

                  A.)Research suggests that the impact of tax rates on incentives to work , save , and invest are small.

                               B.) Tax units also increase demand, which can fuel inflation, and demand may exceed supply
                               C.) Where the economy is actually located on the curve , is difficult to determine


4/26/16

• BALANCE OF PAYMENTS 

-measure of money inflows and outflows between then US and the post of the world (grow)

• Inflows = credits
• Outflows = debits

•  The balance of payments is divided into 3 accounts

1. Current account
2. Capital / financial account
3. Official reserves account

• Double entry bookkeeping
• Current account

- Balance of trade or net exports

- Exports of goods / services-import of goods /services

- Exports create a credit to the balance of payments

- Imports create a debit to the balance of payments

• Net foreign

- Income earned by US owed foreign assets – income paid to foreign held US assets

- Ex: interest payments on US own Brazilian bonds – interests payments on German owed US  treaty bonds

•  Net transfer (tend to be unilateral)

- foreign aid  a debit  to the current account

****Ex : Mex . Migrant workers send $ to farm in Mexico

• CAPITAL/ FINANCIAL ACCOUNT

                           -The balance of capital ownership
                           - Includes the purchase of both real and financial assets
                           - Direct investment in the US is a credit to the capital account

              - Toyota factory in San Antonio (EX)

•  Direct investment in the US firms (individual in a foreign country are debits to the capital account

- the Intel factory in San Jose , Costa Rica

• Purchase of domestics financial assets by foreigners represents a credit to the capital account

- The United Arab Emirates Sovereign wealth funds purchases a large stake in the NASDAQ

        RELATIONSHIP BETWEEN CURRENT AND CAPITAL ACCOUNT

- double entry bookkeeping

- The current account and capital account should sew each other out

- That is…. If the current account has a negative balance (DefIcit)

OFFICIAL RESERVES

- The current foreign currency holdings of the US federal reserve system

- When there is a balance of payments supply the federal accumulate foreign currency and debits the balance of payments

- When there is reserves of foreign currency and credits the balance of payments

- The official reserves sew out the balance of payments

ACTIVE VS. PASSIVE OFFICIAL RESERVES

• The US is passive in its use of official reserves. It dives not seek to manipulate the dollar exchange rate

• The people republic of China is active in its use of official reserves. It actively buys and sells dollars In order to maintain a steady exchange rate with the US

         BALANCE OF TRADE
            Goods             +             Goods
            Exports                           Imports

BALANCE ON GOODS AND SERVICES
             Goods           +                Service         +            Goods
              Exports                           Exports                      Imports