Causes of Balance of Payment Problems in Emerging and Developing Economies

In the 1960s, the United States was experiencing the balance of payment problem when its trade balance was in a substantial deficit, the US dollar was under an attack and a massive amount of gold flew out of its official reserve. Such issues in the balance of payment if exist for a long time can be a threat to the whole economy because balance of payment closely interacts with key macroeconomic variables such as GDP, exchange rates, interest rates and inflation rates. However, it was not an easy task for the Kennedy government to solve the balance of payment problem as

Operating in an international economy is a must for every nation. However in order to keep an economy out of long term debt the foreign sector need to be as balanced as possible. As shown in the circular flow model (figure 2) too many imports can lead to major leakages in our economy causing foreign debt to rise. To slow rising foreign debt the causes need to be considered:

The Australian economy marks external stability as an important objective because it can influence other important aims such as economic growth, unemployment and inflation. External stability is the concept of sustaining a nation’s external accounts so that in the future, it is able to service its foreign liabilities and can avoid currency volatility. When looking at external stability, we must examine Australia’s balance of payments, which records all economic transactions between Australia and the rest of the world. Australia’s balance of payments has two components, which is the current account and the capital and financial account. The current account measures the receipts and payments for trade in goods and services, transfer payments and income flows, while the capital and financial account shows international borrowing, lending, purchasing and sales of assets.

An open market purchase of government securities  An increase in the discount rate  A cut in the required reserve ratio 14. Deficits may be desirable in the short run if they  help to stabilize the economy when the economy falls below potential output  increase savings necessary for future investment and growth  increase savings necessary for future consumption and demand  help to stabilize the economy when the economy is above potential output 15. If for a country, the quantity of its currency demanded exceeds the quantity supplied, then there is a  balance of payments surplus 

IS-LM model can be used to show the effect of expansionary and tight monetary policies. A change in money supply causes a shift in the LM curve; expansion in money supply shifts it to the right and decrease in money supply shifts it to the

To understand how we get into debt, we need to understand the role of government and fiscal policy within an economy to maintain economic growth. We have already discussed in previous chapters that the GPD is composed of four elements: consumption, net exports, investments and government spending. Government spending is the main focus of

An outstanding loan that one country owes to another country or institutions within that country. (Investopedia, 2015) Each quarter in our terms of trade Australia’s imports are greater than our exports causing deficits in the current account. Because Australia borrows and buys so much from overseas, we need to try and balance it out by achieving a surplus in our capital account. Since Australia will always need to trade because of comparative and absolute disadvantages, a relatively high or rising index is vital to reduce the current account as low as possible. A higher index means Australia’s export prices will increase faster than import prices, meaning Australians will get more money for the same amount of goods. (Murray, 2015) However,

Monetary policy is the national macroeconomic regulation and control of two basic policies. It’s mainly work by implementing expansionary policies to adjust the relationship between social total supply and total demand. They have emphasized particularly on, and closely linked. And it must handle the relationship accurately and correctly. According to the actual situation and using the monetary policy, coordinate and flexible, to give full play to its due role. The government should ensure sustained, rapid and healthy development of national economy. The country to adjust the social capital supply and demand should as far as possible to avoid administrative interference, and should use economic means to guide, when the monetary policy effect is not obvious, fiscal policy should play a leading role.

This discourages consumers and businesses from taking loans, and instead save money, as shown by the contraction in demand for money in Fig 1.1 from Q1 to Q2. This will lead to less money being circulated in the economy, with lower consumption and a contraction in investment by businesses, as shown in Fig 1.2. AD will therefore decrease and shift to the left from AD1 to AD2, shown in Fig 1.3, as consumption and investments are amongst the determinants for AD. With a left shift in AD, a new equilibrium point is established at B with a lower price level (APL2) and lower economic growth (Y2).

Monetary policy, ‘The government’s policy relating to the money supply, bank interest rates, and borrowing’ (Collin: 130), is another tool available to the government to control inflation. Figure 4 shows, that by increasing the interest rate (r), from r1 to r2, the supply of money (ms) is reduced from Q1

This essay seeks to explain what are monetary and fiscal policy and their roles and contribution to the economy. This includes the role of the government in regulating the economical performance of a country. It also explains the different features and tools of monetary and fiscal policy and their performance when applied to the third world countries with a huge informal sector.

It is often suggested that the large current account deficit poses a serious financing problem for the United States. Each year, the lament goes, the United States must attract net inflows of capital sufficient to "cover" the huge current shortfall. But this proposition gets the logic backward: the U.S. deficit is "financed" by net capital inflows only in an ex post accounting sense. In economic terms it is more nearly correct to say that net capital inflows cause the current account deficit. (p. 218)

The term balance of payments refers to the accounting record of the country’s monetary transaction with the rest of the world. These transactions include the exports and imports of goods and services of the country, financial capital and financial transfers. The balance of payment record is a way to allow countries to recognize potential business partners for trade and to evaluate a country’s performance in the global economic competition. .

These conclusions correspond to the claim of the quantitative theory that money is the primary determinant of nominal income. If thus the rate of money circulation does not change (here the rate need not necessarily by a constant ), then money exclusively determines changes in the price level and nominal income, so monetary policy can, through regulating the development of the individual money aggregates (M1, M2, etc.), influence macroeconomic variables and predict their development.

The current account is one of the components of the Balance of Payment together with the capital and financial account and the reserve assets account. This represents the difference between a country’s savings and its investment and it is defined as the sum of the payments of goods and services bought from foreigners, net income from abroad and net current transfers. When the current account is in deficit, it means that the country’s net sales abroad value is negative, while it is in surplus when this value is positive. The current account must balance, so surplus of one nation means deficits of another.