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of Balance Payments Readings: Y&Y study sections 13.3 and 13.4 read the rest of the chapter (pick up the main ideas) Outline: simplified balance of payments accounts interpreting deficits and surpluses connections to government policies connections between balances and exchange rates Balance of Payments (BOP) Accounts from the perspective of US BOP three elements of the BOP accounts - current account (CA) goods and services and incomes - capital account (KA) lending, borrowing, investment - official settlements account monetary flows corresponding to CA and KA "accommodating" transactions credits and debits on CA and KA - credit if transaction generates payments to US - debit if transaction generates payments from US current account + exports of goods and services balance of - imports of goods and services trade + US investment income earned overseas - foreign investment income earned in US + remittances to US - remittances abroad = Balance on current account capital account + US borrowing from abroad - US lending abroad + sales of US assets to foreigners - US purchases of foreign assets = Balance on capital account Net results BOP = balance on CA + balance on KA = - balance on official settlements suppose BOP > 0 payments into US > payments out of US US increasing reserves of foreign currencies or foreigners reducing reserves of dollars ("reserves" = stocks of currencies held Two abroad) important implications 1. interpreting current account deficits when reserves are constant, balance on CA = -balance on KA news media interpretation: deficit on CA is "bad" deficit on CA implies surplus on KA: is this "bad"? 2. connection between BOP and exchange rates changes in reserves imply official intervention in the foreign exchange market official intervention implies exchange rate different from market equilibrium rate when BOP > 0 or BOP < 0, exchange rate regime is fixed or managed connect to exchange-rate market diagrams (to use diagrams simplify and assume only two currencies - $ and ) 1 e$/ D S e$/ D eg$/ S US BOP > 0 intervention eg$/ intervention US BOP < 0 Quantity of Euro deposits Quantity of Euro deposits Equilibrium with US BOP in deficit Equilibrium with US BOP in surplus e$/ D S Studying Currency Markets and Foreign Exchange Y&Y Chapter 13 Problems 2, 8 Y&YSG (Study guide) Chapter 13 quick quiz 1, 2, 6, 7, 9, 10 definitions: match terms below to the definitions merchandise exports services balance-of-payments accounts current account current-account balance merchandise trade balance balance on goods and services capital account capital outflow capital inflow official settlements balance balance-of-payments surplus balance-of-payments deficit BOP = 0 no intervention Quantity of Euro deposits Equilibrium when BOP = 0 2

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