Balance of Payments Analysis

This assignment focuses on analyzing the United States' balance of payments for a specific year (likely 2008 based on the provided data). It requires calculating the current account balance, the capital and financial account balance, and determining if US official reserves increased or decreased. The analysis also explores whether the US was a net borrower or lender in that year, providing an explanation based on the calculated balances.

Running Head: BUS103 INTRODUCTION TO MACROECONOMICS 1
BUS103 Introduction to Macroeconomics
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Question 1 – 20 marks
Measuring GDP and Economic Growth
The national accounts of Parchment Paradise are kept on (you guessed it) parchment. A fire
destroys the statistics office. The accounts are now incomplete but they contain the following
data:
 GDP (income approach): $2,900
 Consumption expenditure: $2,000
 Indirect taxes less subsidies: $100
 Gross income at factor cost: $2,800
 Investment: $800
 Government expenditure: $400
 Wages: $2,000
 Net exports: –$200
a. Calculate GDP using the expenditure approach.
To begin with, the expenditure approach of calculating GDP incorporates the total sum of
money used to the purchase goods and services within an economy. It is calculated as Y = C
+ I + G + (X - M) in the above case it is given as;
Y = $2000 + $800 + $400 - $200
Y = $3000
b.Calculate the sum of total income less wages and the statistical discrepancy.
The total national income is given by the sum of all wages, rents, interests, and profits.
As such, the total national income is given by gross income at factor cost + wages
Total income = $2800 + $2000
= $4800
Statistical discrepancy, on the other hand, is the difference between the GDPs calculated
according to the income approach and the expenditure approach and then dividing the
figure by two as illustrated below:
Statistical Discrepancy = $ 3000−$ 2900
2 = $ 100
2 = $50
As such the total income less wages and the statistical discrepancy is given by
$4800 - $2000 - $50 = $2750

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The table below provides data on the economy of Maritime Republic that produces only fish
and crabs.
Quantities 2015 2016
Fish 1,000 tonnes 1,100 tonnes
Crabs 500 tonnes 525 tonnes
Prices
Fish $20 a tonne $30 a tonne
Crabs $10 a tonne $8 a tonne
c. Calculate Maritime Republic’s nominal GDP in 2015 and 2016.
Production 2015 2016
Quantity*Price Total Quantity*Price Total
Fish 1,000 tonnes*$20 $20000 1,100 tonnes*$30 $33000
Crabs 500 tonnes*$10 $5000 525 tonnes*$8 $4200
Nominal
GDP
$25000 37200

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d. Calculate Maritime Republic’s chain volume measure of real GDP in 2016
expressed in 2015 dollars.
Chain Volume Measure (CVM) of real GDP = ∑ pn−1 Qn
For this case, CVM of real GDP = 1100tonnes * $20 +525tonnes * $10
= $27250
Totally Gross
GDP has proved useful in tracking both short-term fluctuations and long-run growth.
Which isn’t to say GDP doesn’t miss some things. Amartya Sen, at Harvard, helped
create the United Nations’ Human Development Index, which combines health and
education data with per capita GDP to give a better measure of the wealth of nations.
Joseph Stiglitz, at Columbia, advocates a “green net national product” that takes into
account the depletion of natural resources. Others want to include happiness in the
measure. These alternative benchmarks have merit but can they be measured with
anything like the frequency, reliability and impartiality of GDP?
Source: Time, 21 April 2008
e. Explain the factors that the news clip identifies as limiting the usefulness of GDP
as a measure of economic welfare.
a. According to the clip, GDP does not factor in the contribution of a country’s
human capital to the economy based on the human health status and the level
of education.
Quantities 2015 2016
Fish 1,000 tonnes 1,100 tonnes
Crabs 500 tonnes 525 tonnes
Prices
Fish $20 a tonne $20 a tonne
Crabs $10 a tonne $10 a tonne

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b. The GDP approach also fails to factor in externalities such as the depletion of
the natural resources.
c. It also fails to measure the happiness levels in the economy, which would be a
major contributor to the human welfare.
d. It does not describe the wealth distribution
f. What are the challenges involved in trying to incorporate measurements of those
factors in an effort to better measure economic welfare?
a. The human development index fails to consider differences in wealth
distribution. Also some measures seem very arbitrary, especially when there
are varying measures of health and education.
b. With regards to the green net national product, it is difficult to develop a
standardized market value for some goods. For instance, the non-traded goods
have no market value. Also, measuring the depletion of some resources and
attaching a monetary value can be very difficult.
c. With regards to measuring happiness and factoring it in the gross national
product, it is difficult to standardize the happiness level among citizens. From
an economic perspective, happiness is equated to the satisfaction derived from
consumption. As such, the difference in consumer preferences leads to varying
satisfaction level and thus the happiness level.
g. What does the ranking of Australia in the Human Development Index imply
about the levels of health and education relative to other nations?

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In 2015, Australia’s Human Development Index was 0.939, which placed it at the second
position out of one hundred and eighty-eight countries. This implies that the health
rankings of the nations were above average. In fact, life expectancy at birth increased by
about six years. More so, the education level in the citizens increased evidenced by the
one and half years increase in the average schooling years and the increased expected
years of schooling by three years. This implies that the country has among the healthiest
and educated population relative to other countries.
Question 2 – 20 marks
Jobs and Inflation
Australian Bureau of Statistics reported the following data for 2015:
Labour force participation rate: 69.6 per cent
Working-age population (in thousands people): 18,429,726
Employment-to-population ratio: 65.2
(a) Calculate the labour force. (2 marks)
Labor force = Labor force participation rate * Working- age population
= .696*18,429,726

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= 12827089.3 ♎ 12827090

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(b) Calculate the employment. (2 marks)
Employment to population ratio = Employed labor force
Total Population
Total population = Employed labor force
Employment ¿ population ratio ¿
= 12827090
65.2
= 19673450.92 ♎ 19673451
Employment = 12827090
In New South Wales in October 2015, the labour force was 3,803,200 and 200,500 people
were unemployed. In November 2015, the labour force decreased by 300 and the number
employed increased by 2,900.
(c) Calculate the unemployment rate in November 2015. (2 marks)
New labor force = 3,803,200-300
= 3,802,900
New number of unemployed people = 200500+2900
= 203400
Unemployment rate = Number of Unemployed working−age
Total Population
= 203,400
3,802,900+ 203,400∗100
= 5.08%

BUS103 INTRODUCTION TO MACROECONOMICS 9
A typical family on Sandy Island consumes only juice and cloth. Last year, which was the
base year, the family spent $40 on juice and $25 on cloth. In the base year, juice was $4 a
bottle and cloth was $5 a length. This year, juice is $4 a bottle and cloth is $6 a length.
(d) Calculate the CPI in the current year (2 marks)
In this case, we assume that the family’s expenditure remains constant
Percentage of consumption on each good
Juice = 40/ 65*100= 61.54%
Cloth = 25/65*100= 38.46%
Last year’s Weighted average prices = .6154*4+.3846*5 = 4.3847
Current Year’s Weighted Average prices = .6154*4+.3846*6 = 4.7692
CPI = 4.7692/4.3847*100 = 108.77
(e) Calculate the inflation rate in the current year. What does it indicate on the price
level? (2 marks)
Inflation rate = CPI-100= 8.77%
This implies that the price level has increased by 8.77% in the last one year

BUS103 INTRODUCTION TO MACROECONOMICS 10
Unemployment and Job Vacancies Rise
The number of job vacancies in Australia rose 3.2 per cent in the three months to
August 2011, official statistics show. The number of job vacancies in the private sector
was 170,000 in August, a rise of 4.1 per cent from 163,300 in May. There were 17,100
vacancies in the public sector in August, down 4.4 per cent from vacancies recorded
three months earlier. Over the same three months, the unemployment rate increased
from 5 per cent to 5.3 per cent.
Sources: News.com.au, 29 September 2011 and ABS
(f) If the labor market is working properly, why are there job vacancies and
unemployment? Why don’t all the job vacancies get filled by unemployed
workers?(2 marks)
There are several job vacancies and unemployment in Australia because of the dynamic
nature of the labour market. For instance, while a job vacancy might exist, the
unemployed workers could lack the skills required for the job. As such, unemployment
will always exist even when there are job vacancies unless the market operates at full
employment level.
(g) Are the additional workers who couldn’t find jobs in the three months to August
2011 most likely part of the economy’s structural unemployment or part of its
cyclical unemployment? Explain your answer. (3 marks)

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The additional workers who could not find jobs are most likely part of the economy’s
structural employment. In the case of structural unemployment, the market demand for a
certain workers may diminish or cease because of technological advancement among
other reasons. Some companies may have introduced new machines that increase
efficiency and reduce the need for human capital. As such, the works who did not have
the skills to work with the new technology could have lost their jobs in the process.
Quantity Expansion (QE) of Money in the European Union (EU)
On March 9 2015, the European Union (EU) commenced quantity expansion of money, Euro
(€). The European Central Bank (ECB) has increased the quantity of money by 60 billion euro
every month in the open market in an attempt to support the economy of EU countries. The
large increase in the quantity of money is expected to have significant impacts on a range of
economic sectors in the EU and global financial markets.
(h) Analyse how the quantity expansion of euro money is likely to affect money supply,
interest rate, investment and consumption, and economic growth in the EU. Draw
relevant graph(s) for your analysis. (5 marks)
Based on the quantity theory of money, an increase in the money supply causes an
increase in the general price level in the economy. As such, the quantity of money is
increased, the interest rate, investment, consumption, and economic growth will be
affected. The illustrations below show the effects of increased quantity of money.
The Effect of Quantity Expansion of Euro Money on Money supply and Interest Rates
Interest rate r MS1 MS2
r*
r2

BUS103 INTRODUCTION TO MACROECONOMICS 12
Demand for Money
1 2 Quantity of money
Based on the above diagram, in increase in the quantity of money in the economy will shift
the money supply curve from MS1 to MS2, which implies an increase in the money supply
Also, an increase in the money supply will cause the demand to increase along the demand
curve from point r*1 to r22 as a result of the decrease in the interest rate from r* to r2. In other
words, the increase in the money supply in the market will cause a decrease in the interest
rates.
The Effect of Quantity Expansion of Euro Money on Investment
Interest rate r
r*
r2
Investment Demand
I1 I2 Investment
Due to the reduced interest rates from r* to r2, the cost of investment will decrease causing an
increase in the expected rate of return. As a result, investment demand will increase from
point r*I1 to r2I2, which implies an increase in the general investment.
The Effect of Quantity Expansion of Euro Money on Consumption
Interest rate r LM1
LM2
r*
r2
IS curve

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Y1 Y2 Income Y
Consumption C
Consumption Curve
C2
C1
Y1 Y2 Income Y
From the diagram, an increase in money supply will cause a decrease in the interest
rate and a subsequent increase shift of the LM curves to the right (from LM1 to LM2). The
overall demand for money will increase. Note that both the speculative and the transaction
demand for money will increase. As a result, the income level will increase from Y1 to Y2. As
a result of this increase in income, the consumption function, which is a function of income
will increase from C1 to C2. As such, the two diagrams shown above illustrate that the
consumption level will increase as a result of the increase in the money supply occasioned by
the quantity expansion of Euro Money.
The Effect of Quantity Expansion of Euro Money on Economic Growth
To explain the effect of quantity expansion of money on economic growth, assume
the GDP as an indicator and the expenditure approach as the method of measuring this GDP.
Under this approach, the GDP(Y) is a function of consumption, investment, government
spending, and net exports. As such, a change in any of the exogenous variables will
automatically cause a change in the GDP. In the context of the quantity expansion of Euro
Money, the investment, and consumption functions will be directly affected (Vanita, 2010).
Government expenditure will also be affected. As established, the investments will increase
along with consumption. As such, the increase in the explanatory variables in the national

BUS103 INTRODUCTION TO MACROECONOMICS 14
income function will cause an increase in the explained variable (the GDP). As such, the
quantity expansion of Euro Money will lead to economic growth.
Question 3 – 20 marks
Global Saving Glut and U.S. Current Account, remarks by Ben Bernanke (when a
governor of the Federal Reserve) on 10 March 2005:
The U.S. economy appears to be performing well: Output growth has returned to healthy
levels, the labour market is firming, and inflation appears to be under control. But, one aspect
of U.S. economic performance still evokes concern: the nation’s large and growing current
account deficit (negative net exports). Most forecasters expect the nation’s current account
imbalance to decline slowly at best, implying a continued need for foreign credit and a
concomitant decline in the U.S. net foreign asset position.

BUS103 INTRODUCTION TO MACROECONOMICS 15
(a) Why is the United States, with the world’s largest economy, borrowing heavily on
international capital markets—rather than lending, as would seem more natural?
First, borrowing from the international capital markets helps the country to take advantage of
the floating exchange rates that brings. For instance, this borrowing permits interest rate
adjustment to the needs of the domestic economy.
Secondly, borrowing on the international capital helps the country to strengthen its systems.
With robust financial systems, the country can effectively enjoy stable interest rates while
retaining its strong currency
Thirdly, the use of international capital markets as sources of finance enable that country to
effectively manage future crisis. Ideally, the country effectively distributes risks to other
countries and thus mitigating the effects of inflation or recession.
(b) What implications do the U.S. current account deficit (negative net exports) and our
reliance on foreign credit have for economic performance of the U.S. economy?
To begin with, the economic forces driving the capital flows are long-term. Home bias
has decline as evidenced by portfolio reallocations where firms build operations in other
countries in attempts to remain as going concerns. The country is also increasing the risk of
currency depreciation that could lead to financial crisis should the investors lose confident in
it. The country also risks the value of its foreign currency depreciating causing the value of
its foreign liabilities to increase and the burden of servicing the international debt follows
suit.

BUS103 INTRODUCTION TO MACROECONOMICS 16
However, the US has been lucky because most of its international debts are US dollar
denominated. As such, a decline in the foreign exchange value of the dollar has a self-
correcting effect on the value of the foreign asset holdings. More so, most of the US
investments abroad are US dollar denominated implying that the composition of the
international investment account contribute to stability in the US economy.
(c) What policies, if any, should be used to address this situation?
While the US has among the best policies to mitigate the adverse effects of excessive
reliance on the international sources of capital, more policies can be suggested as an
improvement. First, the country can reduce domestic consumption and spending on
import and encourage production of goods and services for export (Salvatore, 2016).
Secondly, the country can develop supply side policies that improve the competitiveness
of the domestic industry and exports. More so, the country should develop an agency that
closely monitors the foreign currency valuations as well as the effects of foreign currency
variation on its currency.
Exchange Rate and Balance of Payments

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Colombia is the world’s biggest producer of roses. The global demand for roses increases
and, at the same time, the central bank in Colombia increases the interest rate. In the foreign
exchange market for Colombian pesos, what happens to
a. The demand for pesos?
The demand for pesos will decrease relative to the increase in the interest rates
b. The supply of pesos?
The supply of pesos will remain relatively constant then it will start decreasing as the
economy adjusts to the increased interest rates
c. The quantity of pesos demanded?
The quantity demanded of roses from Colombia will increase in the international market
because the increased interest rate makes the local currency to be stronger. As such,
purchasing the product in Colombia’s local currency and selling it using another currency
will be more profitable
d. The quantity of pesos supplied?
The quantity supplied of roses will remain constant for a while. However, there will be a
decrease in the velocity of money resulting to the reduced number of transactions.
e. The exchange rate of the pesos against the Australian dollar?
Assuming that the Australian government does not make a decision that alters the value
of it’s the Australian dollar, then the peso will increase in value implying that the
Australian dollar will be worth less pesos.

BUS103 INTRODUCTION TO MACROECONOMICS 18
Balance of Payments
The table gives some information about the U.S. international transactions in 2008.
a. Calculate the current account balance.
Item Billions USD
Exports 1853
Less imports (2561)
Add net income 121
Add net transfers (123)
Current Balance (710)
Item
Billions of
U.S. dollars
Imports of goods and services 2,561
Foreign investment in the
United States
955
Exports of goods and services 1,853
U.S. investment abroad 300
Net interest income 121
Net transfers −123
Statistical discrepancy 66

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b. Calculate the capital and financial account balance.
Item Billions of US dollars
Foreign investment in the united states 955
Less US investment abroad (300)
Add Statistical Discrepancy 66
Total 721
c. Did U.S. official reserves increase or decrease?
Yes. The U.S official reserves increased by 11billion dollars
c. Was the United States a net borrower or a net lender in this year? Explain your
answer.
The US was a net lender in 2008 because the summation of its capital and current
accounts produced a positive balance.
References
Arnold, R. A. (2015). Macroeconomics. Boston: Cengage Learning.
Salvatore, D. (2016). International Economics, Binder Ready Version. Hoboken: John Wiley
& Sons.
Vanita, A. (2010). Macroeconomics: Theory and Policy. Delhi: Pearson Education India.

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END OF ASSIGNMENT

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