DP4208M: INTERNATIONAL MONETARY ECONOMICS
Lecture 2 - Balance of Payments Policies: The Traditional Approach
1. The balance of payments as a policy problem
The BOP was seen by governments as a potential policy problem, with some form of intervention expected, in view of the ineffectiveness or undesirability of automatic adjustments mechanisms. The question facing governments was to what degree these should be implemented and what
代写留学生论文policies were to be chosen.
1.1 AN OPEN ECONOMY IDENTITY
The ‘Keynesian’ identity for national income in an open economy is as follows: Y = C + I + G + (X - M), where Y is national income, C is domestic consumption, I is domestic investment, G is net government expenditure, X is export expenditure and M is import expenditure. Similarly, disposable income (Yd) is defined as follows: Yd = C + I + G + (X - M) - T, where T represents
taxation. Denoting savings as S = Yd - C, we get: (X - M) = (S - I) + (T - G) current balance = net saving / dis-saving + government deficit of private sector / surplus Thus, we can state that a current account deficit has a counterpart in either private dis-saving (i.e. where investment exceeds savings), and/or in a government deficit (i.e. government expenditure exceeding taxation revenue). Whilst this identity is interesting, it is incapable of identifying causation. Thus, common statements that current account deficits are due to a lack of private savings or a large government budget deficit may appear obvious conclusions to reach from this identity. However, the evidence is equally consistent with the possibility that a current account deficit may cause the lack of private savings and budget deficit.
2. The meaning of traditional balance of payments policies
These traditional policies were based upon a syn
thesis of BOP theory in the 1950s and 1960s within the IS-LM framework extended to include international trade. We shall consider them under three headings;
(i) expenditure changing,
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(ii) expenditure switching,
(iii) direct controls.
For the UK this was designed to cater specifically for an economy with a persistent current account
deficit. A surplus can, of course, be equally problematic if, for example, it generates inflationary
pressure, but it is usually the case that a deficit is more difficult (or painful and unpopular) to
eliminate and thus constitutes more of a problem in practice. This approach was developed with UK
experience in mind and therefore rests upon two assumptions which pertained at the time the
traditional approach evolved. These were;
(i) fixed exchange rates
(ii) insignificant international capital movements.
3. Traditional balance of payments policies
3.1 EXPENDITURE CHANGING POLICIES
Expenditure changing policies are based upon an ‘open’ Keynesian income adjustment model (i.e. the
circular flow of income model) and the ‘absorption’ approach to the balance of payments.
Expenditure changing policies are designed to alter the level of spending in the domestic economy.
For example, to cure a deficit the economy would be deflated so as to cut spending on imports, whilst
leaving exports intact. This approach is based upon a Keynesian income adjustment mechanism
which is opened up to international trade. Exports are viewed as ‘injections’ into the circular flow of
income as income received from abroad, while imports constitute a ‘leakage’. The extent of the
leakage effec
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