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The Balance of Payments and Exchange Rates; Global Economy

The Balance of Payments and Exchange Rates; Global Economy. Learning outcomes. By studying this section students will be able to: understand the arguments for free trade, the role of the WTO and GATS understand the balance of payments accounts

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The Balance of Payments and Exchange Rates; Global Economy

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  1. The Balance of Payments and Exchange Rates; Global Economy

  2. Learning outcomes • By studying this section students will be able to: • understand the arguments for free trade, the role of the WTO and GATS • understand the balance of payments accounts • understand the significance of exchange rates to recreation, leisure and tourism organizations • distinguish between spot and forward rates of exchange

  3. Leisure and Trade Tourists arriving at Koh Phi Phi, Thailand bringing foreign currency to spend Changi Airport Singapore. Foreign currency earnings from transit tourists

  4. Free trade • Ricardo argued that specialisation and trade would lead to an increase in total output compared to a position of no specialisation and trade, based upon greater efficiency of production. • it will benefit countries to specialise in producing those goods and services which it is the very best at producing (where it has a ‘comparative advantage’ over other countries) • specialisation also leads to economies of scale and acquired expertise

  5. WTO and GATS • The WTO (World Trade Organisation) is the international agency that promotes free trade and its GATS (General Agreement on Trade in Services) is the treaty that seeks to operationalise this aim.

  6. WTO and GATS • Free trade liberalisation under GATS is based on three specific pillars: • 1. Market access: Foreign owned companies have free access to domestic markets • 2. Most Favoured Nation Status: Concessions granted to any one country must also be made available on a non-discriminatory basis to all other signatories of the agreement. • 3. National treatment: Foreign investors must be treated on an equal basis with domestic investors, domestic investors must not receive any favourable treatment that could be conceived as protectionist.

  7. Limits to trade benefits • extra costs involved in currency conversion and risk. • transport costs can add to production costs. • many countries seek to protect their home markets by protectionist policies. • most countries wish to maintain some balance of production in key strategic goods and services so as not to expose themselves to over-dependence on foreign countries.

  8. Trading blocs • The European Union (EU) • North American Free Trade Agreement (NAFTA) • The Asia-Pacific Economic Cooperation forum (APEC) • ASEAN Free Trade Agreement (AFTA)

  9. The terms of trade • measures the relative prices of what a country exports in relation to the prices of its imports. • A persistent argument put forward by developing countries is that they face unfavourable terms of trade in comparison with developed countries.

  10. The balance of payments • The balance of payments is an account which shows a country’s financial transactions with the rest of the world. • It records inflows and outflows of currency. • the balance of payments has three main components • a current • a capital • and a financial account.

  11. The current account • The current account records payments for trade in goods and services and is thus divided into two parts: visible and invisible trade. • Visibles = exports and imports in goods • Invisibles = the trade in services or intangibles

  12. Leisure Balance of Payments Tourism is an important foreign currency earner for many countries

  13. Tourism vs other exports: Australia

  14. The capital and financial account • Investment • Direct investment is the direct purchase of firms or land or buildings abroad. Portfolio investment is the purchase of securities or shares abroad. Such activity leads to an outflow of funds, but a potential future inflow of profits or dividends under invisibles in the current account. • Lending and borrowing • This records international loans. • Official reserves activity • Government use of official reserves of foreign currencies is recorded here.

  15. The Hilton, Sharm, Egypt What impact does this hotel have on Egypt’s Balance of payments? Initial Investment Bills of foreign tourists Imports of goods and services

  16. Government policy • An acute long-term current account deficit will require government intervention. This may take the form of: • devaluation or currency depreciation • protectionism

  17. Exchange rates • Significance of exchange rates: • How does a rise in a country’s exchange rate affect leisure and tourism? • Makes imports cheaper (e.g. clothes, equipment) • Makes exports dearer (e.g. discourages inbound tourists)

  18. Currency movements and prices

  19. Determination of floating exchange rates • A floating exchange rate is one which is determined in the market without government intervention. • Here the exchange rate is determined, like most prices, by the forces of demand and supply. • Using the Australian $ to stand for all foreign currencies, we can identify the main determinants of the demand for and supply of sterling as follows:

  20. Exchange Rates • A fixed exchange rate system is where the price of one currency is fixed in terms of another currency. • Spot and Forward Markets • The spot market is the immediate market in foreign currency and represents the current market rate. Payment is made today and the transaction takes place today at today’s rate. • The forward market exists to satisfy demand for a guaranteed future exchange rate. Payment is made today but the transaction is made in the future (e.g. 3 months) at a rate agreed today.

  21. Exchange rate and government policy • Governments may attempt to influence the exchange rate. • Policy instruments to affect the exchange rate consist of • interest rates and • direct buying and selling of currency by the Central Bank. • Raising interest rates will generally increase the demand for a currency as savings are moved from overseas banks to domestic banks to benefit from higher interest rates.

  22. High or Low Rate? • The government faces a dilemma in its exchange rate policy as in many other policy areas. • a lower exchange rate makes export prices competitive and discourages imports • a higher exchange rate, by cutting import prices, helps to combat inflation.

  23. Globalization

  24. Learning outcomes • By studying this section students will be able to: • explain the meaning of globalization • explain the meaning of an MNE • understand the motives for extending operations overseas

  25. Globalization • Robertson (1992: 8) describes globalization as: • “the compression of the world and the intensification of consciousness of the world as a whole . . . . concrete global interdependence and consciousness of the global whole in the twentieth century"

  26. Economic Globalization • Friedman (1999: 7-8) offers the following definition: • "[T]he inexorable integration of markets, nation-states, and technologies to a degree never witnessed before-in a way that is enabling individuals, corporations and nation-states to reach around the world farther, faster, deeper and cheaper than ever before . . . . the spread of free-market capitalism to virtually every country in the world”

  27. Economic Globalization • Refers to the increasing integration of economies around the world. • This integration is evident mainly through • trade and financial flows but it also includes • the movement of people (labour) and • knowledge (technology) across international borders

  28. Airlines UAL (United) British Airways Lufthansa Electronics Hitachi Matsushita Sony Entertainment Walt Disney Time Warner News Corp. Viacom Seagram Consumer products Coca-Cola McDonald's Nike Multinational enterprises in leisure and tourism

  29. World Airline Alliances

  30. Benefits of Globalization • improved communications • a more open world • the advent of new, better and cheaper products • the reduction in barriers to trade • its contribution to faster economic growth.

  31. Benefits of Globalization • Advocates of globalization see the major problem that it is not progressing evenly. • They note that some countries have been integrated into the global economy more quickly than others and that these are seeing faster growth and reduced poverty. • For example free trade policies have brought dynamism and greater prosperity to much of East Asia, transforming it from one of the poorest areas of the world 40 years ago.

  32. Problems of Globalization • Here concerns are expressed about • the deterioration in the well-being of particular groups (these range from whole countries, to workers in developed countries who have seen their jobs exported, to workers in developing countries who work under conditions of exploitation), • the sovereignty and identity of countries, • the disparities of wealth and opportunities among countries and people • the health of the environment • the greater exposure it brings countries to sudden and profound economic shocks.

  33. Meaning and extent of multinational enterprise • An MNE is one which has production or service capacity located in more than one country. The MNE has a headquarters in a parent country and extends its operations into one or more host countries. • The main ways in which multinational operations are extended are by • investment in new or ‘greenfield’ capacity • by taking an equity stake in a foreign company (i.e. buying up shares) • or by operating a franchise or alliance with a foreign company.

  34. Motives for going multinational • lower labour costs • lower other costs • marketing advantages • scale economies, integration and competition • extension of product life cycles • tariff avoidance • incentives in host economies

  35. Benefits of multinationals on host economies • These include • extra investment and related effects • Growth • Exports • Employment • Tax revenue • technology and skills transfer

  36. Coca Cola in Thailand • What benefits does Coca Cola bring to the economy of Thailand? • Employment: The company employs 9,000 people. • Investment: It operates seven bottling facilities including a state-of-the-art plant. • Knowledge and skills transfer: It has two licensed bottling partners in Thailand

  37. Drawbacks of multinationals on host economies These include: • leakages from the economy • prices and bargaining power • exporting of externalities • threat to local competition • power to pull out • enclaves and dual development • resource grabbing • labour exploitation

  38. McDonald’s in Thailand • What are the possible drawbacks of McDonald’s for its host country? • Competitive threat to local firms • leakages from the economy • lack of sensitivity to host culture

  39. The End

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