Trends in BOP (pages 110-119 and pages 206-218)
Group 1
1. Australia has a narrow export base. What does this mean?
It means that Australia’s exports are heavily weighted towards primary commodities. A
narrow export base means that Australia exports a limited range of products.
2. Commodity prices vary from time to time. What does this tell us about the volatility of
Australian exports and cyclical factors?
It tells us that the Australian exports are very volatile, which contributes to large
fluctuations in the BOGS from year to year. The international business cycle will
determine the demand for Australian exports as will seasonal factors overseas. E.g. a
drought in Russia will limit the supply of wheat internationally and increase the price of
wheat in markets.
3. How is Australia attempting to expand its export base? What is an ETM?
Australia is attempting to expand its export base by diversifying it towards high growth
sectors of global trade, including high-tech and elaborately transformed manufactures.
ETMs are technologically advanced goods, as opposed to simply transformed
manufactured goods (labour intensive e.g. clothing) commodity exports.
4. Should Australia concentrate on mineral exports rather than on broadening its export
base?
They should start broadening its export base because it may be economically unwise to
rely too heavily on the continued strength of the Chines economy and on nonrenewable fossil fuel exports, and that Australia could be ‘putting all its eggs in one
basket’. However, the reason mineral’s boom appears to be sustainable in the
foreseeable future.
5. How can the depreciation of the exchange rate help to make exports more
internationally competitive?
A depreciation of Australian dollar will allow exporters to sell their products at lower
international prices. This will make Australian exports more internationally competitive.
Group 2
1. Why is the CAD usually calculated as a % of GDP?
It is calculated as a % of GDP because it provides the most accurate comparison across
time and between countries. Using GDP allows a comparison of CAD relative to the size
of economy, also between countries.
2. Why is the CAD considered a structural issue?
Net primary income records the payment of interests, dividends, rents and profits. This
payment occurs because Australia depends heavily on foreign investment (equity and
debt). This is a structural issue because Australia is required to repay income on this
investment.
3. What is the savings-investment gap?
It is the gap between domestic savings and domestic investment. Due to the savinginvestment gap the Australian economy must borrow money from overseas.
4. What is the Pitchford thesis?
The Pitchford thesis states that as long as a current account deficit is the result of
savings and investment decisions by the private sector, then there is no cause for
concern about an economy’s external stability. This means private sector firms borrow
money from overseas to make profits and therefore they can afford to pay interest on
their debts.
5. Is Australia’s CAD the price the country has to pay for being a small open economy?
Yes…when Australia opened up the foreign investments and savings its net foreign
liabilities increased. As a consequence, primary income payments are increased and
these are recorded in current account.
Group 3
1. What is the terms of trade?
The terms of trade measures the relative movements in the prices of an economy’s
imports and exports over a period of time.
2. How is the terms of trade index calculated? (use an example to illustrate an
improvement in the TOT).
The terms of trade index is calculated as export price index divided by import price
index multiplied by 100.
3. How do changes in the terms of trade influence the BOP?
A higher terms of trade means that exports receive higher prices for the same output,
which increases export revenue and improves the BOGS.
4. Outline the recent trends in Australia’s terms of trade.
Between 2000 and 2010, Australia’s terms of trade almost doubled in value. Despite
easing in 2009-10 due to the global recession, the fast recovery in emerging economies
like China saw a surge in Australia’s terms of trade in 2010-11 to their highest level in
140 years. As a result, Australia experienced its largest BOGS surplus of $20.8b. This
occurred due to the improvement in terms of trade and increased export volume.
Group 4
1. Outline the cyclical factors that can influence net primary payments in the CAD.
Firstly, changes in the values of the exchange rate. Movements in the exchange rate will
alter the Australian dollar price of debt denominated in foreign currencies. An
appreciation will decrease the Australian dollar value of debt denominated in foreign
currencies, decreasing the value of Australia’s debt service, reducing the value of net
primary income outflows and improving the net primary income deficit. Note: changes
in global interest rates also influence the net primary payments components of CAD
2. What is meant by the term “debt-trap”? Why is debt-trap a structural factor?
A high foreign debt can create a vicious cycle, sometimes known as the debt trap
scenario. When a country has CAD, it depends on foreign investment to finance its
economy. As a result, it becomes more dependent on foreign funds. It gets trapped in a
debt cycle.
3. How has low national savings contributed to Australia’s foreign debt problems? Note:
the graph is showing household savings only.
Because the Australia’s saving has been low, the Australian banking system and
Australian firms have depended on foreign savings to finance growth. As a result, the
foreign debt has increased dramatically.
4. Which other groups would also contribute to national savings? (research the total
savings ratio)
The other groups that contribute to national savings are the business sector and the
government. In recent years, most savings in Australia has been through
superannuation fund managers.
Group 5 (
1. Outline in DETAIL the possible negative consequences of sustained high CAD.
- The growth of foreign liabilities
A deficit on the current account presupposes financial inflow on the capital and
financial account, either in the form of borrowings from overseas or through selling
equity in items. This is the debt-trap problem.
- Increased servicing coasts
Servicing costs (interests, rents, dividends, profits) increase due to the high levels of
foreign liabilities and it leads to larger outflows on the net primary income account,
worsening the CAD.
- Increased volatility for exchange rates
High current account deficits may undermine the confidence of overseas investors in
the Australian economy and, by reducing demand for Australia’s currency, may
result in a depreciation of the $A. This hasn’t been a case recently.
- Constraint on future economic growth
Higher levels of economic growth generally involve an increase in imports and
deterioration in the CAD. The government is aware that strong economic growth
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generally leads to high levels of imports. As a result, they control the rate of
economic growth to ensure imports do not grow too quickly.
More contractionary economic policy
Government may use tighter macroeconomic policies and accelerate the
implementation of microeconomic reform. In the short run, tighter fiscal and
monetary policies will reduce economic growth and contribute to a lower CAD.
A sudden loss of international investor confidence. Note: not relevant at the
moment
Investor confidence can change suddenly and countries with high CADs are more
vulnerable to shifts in investor sentiment. Note: not relevant to Australia at the
moment.
2. What is meant by the “balance of payments constraint”?
The balance of payments constraint is the extent to which an economy’s capacity to
grow is constrained by its need to keep the current account deficit at a sustainable level.
3. Why are some economists not concerned by Australia’s CAD and Foreign Debt?
They are not concerned by them because in the era of globalization, financial markets
became more willing to accept external imbalances, since over the past two decades
those imbalances have not stopped countries such as Australia from sustaining
economic growth. Financial markets have also been confident that Australia’s natural
resource wealth will underpin continued strong export growth in the future, allowing
Australia to service its foreign liabilities.
Group 6
1. What is meant by external stability?
External stability is an aim of government policy that seeks to promote sustainability on
the external accounts so that Australia can service its foreign liabilities in the medium to
long run and avoid currency volatility.
2. What does “net foreign liabilities measure”?
Net foreign liabilities measure Australia’s financial obligations to the rest of the world
minus the rest of the world’s financial obligations to Australia. Net foreign liabilities
include net equity and net debt
Net foreign liabilities = net equity + net debt
3. Does Australia have a debt sustainability problem?
Australia has avoided a debt sustainability problem. A long period of low global interest
rates since the 1990s, and rising export revenue and mining profits throughout the
2000s have ensured that Australia has been able to service its large foreign borrowings.
4. Why isn’t the government implementing specific policies to achieve external stability?
This is because in more recent years, external stability has not been a major objective of
macroeconomic policy. The declining importance of external stability issues has also
occurred because Australia’s economic prospects have improved with its much higher
terms of trade and the medium term prospect that China’s demand for resources will
see further increase in Australia’s mining exports.
5. What is the government doing?
The Australian government is concentrating on internal stability. This means sustainable
economic growth, low inflation and falling unemployment.