Unit 5/6 Introduction

https://www.youtube.com/watch?v=E81t3NTOCqU
https://www.youtube.com/watch?v=Qd1CiKVQ124

The Balance of Payments

• Measuring money of inflows and outflows between the United States and the rest of the world.

• Inflows are referred as Credits

• Outflows are referred to as Debits

• The balance of payments is divided into 3 accounts

-Current Account

-Capital/Financial Account

-Official Reserves Account

- Double Entry Bookkeeping

• Every transaction in the balance of payments is recorded twice in accordance with standard accounting prices.

- Current Account

• Balance of trade or Net Exports

 - Exports of goods and services-imports of goods and services

 - Exports create a credit to the balance of payments

 - Imports create a debit to the balance of payments

    -Net Foreign Income

       • Income earned by US owned foreign assets- income foreign held US Assets

- 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 tot he capital account

• Direct investment by US firms/individuals in foreign country are debits to the capital account

• Purchase of foreign financial assets represents a debit to the capital account.

• Purchase of domestic financial assets by foreigners reprints a credit to the capital account. 

- Relationship between Current and Capital Account

• The current account and the capital account should zero each other out.

- Official Reserves

• The foreign currency holdings of the United States Federal Reserve System

• When there is a balance of payments surplus the Fed accumulates foreign currency and debits the balance of payments

• When there is a balance of payments deficit the Fed depletes its reserves of foreign currency and credits the balance of payments.

- Active v. Passive Official Reserves

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

• The People’s 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 United States.

Foreign Exchange Market

• Foreign Exchange: the buying or selling of currency

• The Exchange adage is determined in the foreign currency markets.

      -Ex: The current exchange rate is approximately 77 Japanese Yen to 1 US dollar.

• Simply put the exchange rate is the price of a currency

• Do not try to calculate the exact exchange rate.

Tips

• Always change the D line on one currency graph, the S like on the other currency's graph

• Move the lines of the two currency graphs in the same direction (right or left) and you will have the correct answer.

• If D on one graph increases, S on the other will also increase.

• If D moves to the left, S will move got the left on the other graph.

- Changes in Exchange Rates

• Exchange rates (e) are a function of the supply and demand for currency.

   - An increase in the supply of a currency will make it cheaper to buy one unit of that currency.

   - A decrease in supply of a currency will make a more expensive to buy one unit of that currency.

   - An increase in demand for a currency will make it more expensive to buy one unit of that currency

    - A decrease in demand for a currency will make it cheaper to buy one unit of that currency

- Appreciation

• Appreciation of a currency occurs when the exchange rate of that currency increases

     -Ex: 100 Yen used to buy $1.

                             Now 200 Yen buy 1US dollar.

     - The dollar is "stronger" because one buys more Yen than it used to.

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

       -100 Yen used to buy one dollar. Now 50

         Yen buys one dollar.

      - The dollar is weaker because it takes fewer Yen to buy one dollar.

The Dollar

Dollar Appreciation:

• Each dollar gets you more of the other currency.

• This means is that US exports gets more expensive for foreigners.

• US imports gets cheaper for us

• Results: Exports decrease while imports increased

• $ is leaving the US

   -Xn and GDP decrease

   - Demand for the dollar increases

   - Supply of the dollar decreases

Dollar Depreciation:

• Each dollar gets you less of the other currency.

• Less of the foreign currency is needed.

• Exports are going to increase and imports are going to decrease.

• Money is entering the US

   - Net Exports increases

   - GDP increases

• Demand for the dollar decreases

• Supply of the dollar increase

- If it comes to supply of the dollar, we're making transferred payments to foreigners

- If it comes from supply of the dollar, foreigners are making transfer payments to us.

- Supply of the dollar: comes from US Citizens, banks and industries, wanting to purchase our goods, investments and assets.

Absolute Advantage vs. Comparative Advantage

•Absolute Advantage

-Individual: exists when a person can produce more of a certain good/service than someone else in the same amount of time.

-National: exists when a country can produce more of a good/service than another country can in the same time period.

•Comparative Advantage

-Individual/National: Exists when an individual or nation can produce a good/service at a lower opportunity cost than can another individual or nation.

- Absolute advantage is faster and more efficient while comparative has a lower opportunity cost.

Unit 4: Monetary Policy

Unit 2 Notes

- Gross Domestic Product-  Total dollar value of all final goods and services produced within a countries  borders within a given year 

- Gross national product- total value of all final goods and services produced by americans in a year 

- GDP Equation = C + Ig+ G + X 

- Gross Domestic Product 

- C: Consumption  

- Ig: Gross Private Domestic Investment 

- G: Government spending 

- Xn: Exports-imports 

- Expenditure approach  

• Add up the market value of all domestic expenditures made on final foods and services in a single year 
• C+Ig+G+Xn 

- Income approach 

• Adding up all the incomes earned by households and firms in a single year 
• W+R+I+P+Statistical adjustments 
• W: Wages 
• R: Rents  
• I: Interest 
• P: Profit 

- Budget 

• Government purchases of good + services + govt transfer payments - govt tax and fee collection 
• If it is a positive number, it is a deficit  
• If it is a negative number, it is a surplus 

- Trade 

• Exports- Imports 

- GNP 

• GDP+ net foreign factor payment 

- NNP: net national product 

• GNP- depreciation 

- NDP 

• GDP - depreciation 

- National income 

•  GDP- Indirect business taxes - depreciation - net foreign factor payment  
• Compensation of employees + proprietors income + rental income + interest income  + corporate profits  

- Disposable personal income  

• national income - personal household taxes + gov. transfer payments 

- Nominal GDP 

• Def: Value of output produced in current prices  
• P x Q 
• Can increase from year to year if either output or price increase 

- Real GDP 

• Def: Value of output produced in constant or based year prices  
• Adjusted for inflation  
• P x Q  
• Can increase from year to year only if output increases  

- Price index 

• Def: measure inflation by tracking changes in the price of a market basket of goods compared to the base year 
• price of market basket of goods in current year / price of market basket of goods in base year  

- GDP deflator 

• A price index that is used to adjust nominal GDP to real GDP 
• In the base year the GDP deflator is
• = 100  for years after base year  
• = >100 For years before the base year  
• = <100 (Nomial GDP/ Real GDP)  ×100 

- Inflation 

• (New GDP Deflator - Old GDP Deflator / Old GDP Deflator ) ×100 

- Inflation  

• Rise in the general level of prices 
• Standard inflation rate 2 to 3 percent  

- Measuring Inflation 

• Inflation rate: measures the percentage increase in the price level over time  
• Key indicator of an economy's strength  
• A decline in the general price level

- Disinflation 

• It occurs when the inflation rate itself declines  

- Consumer Price Index 

• Measures inflation by tracking the yearly price of a fixed basket of consumer goods and services  
• Indicates changes in the price level and cost of living  

- Solving inflation problems 

• Finding inflation rate by using market basket data 
• (current year market basket value - base year market basket value / base year market basket value ) x 100  

- Finding inflation rate using price index 

• (current year price index - base year price index / base year  price index )x 100 

- Estimating inflation using the rule of 70 

• Used to calculate the number of years it will take for the price level to double at any give rate of inflation 
• Years needed to double inflation = 70/ annual inflation rate  

- Real wages  

• (nominal wages / price level ) ×100  

- Finding real interest rates 

•  nominal interest rate - inflation premium  

- Cost of borrowing or lending money that is adjusted for expected inflation 

• Nominal interest rate 
• Unadjusted cost of borrowing or lending money  

- Demand pull inflation 

• Caused by excess of demand / output that pulls prices upwards 

- Cost pushed inflation 

• Caused by a rise in per unit production cost due to increasing resource cost  
• Borrowers 
• Fixed Contract 

- Inflation Hurts... 

• Fixed income 
• Savers 
• Lenders / creditors