Balance of Payments & International Economics

• A country's balance of payments account tracks overseas transactions and helps develop external policies.
• Monitoring receipts from exported and spending on imported commodities is similar to a household managing income and expenses.
• Floating exchange rates and central bank interventions add complexity.

Balance of Payments

• This is a summary of a nation's payments to and receipts from the rest of the world over a year.
• The balance of trade is the difference between the value of exports and imports.
• Capital and financial accounts record the movement of capital funds between a nation and the rest of the world.
• Credits are payments received, while debits are payments made. Current accounts record day-to-day trade.
• Current account deficits mean credits are less than debits. Current account surpluses mean credits are greater than debits.
• Sectors within the domestic economy conduct daily transactions that ultimately interact with the external sector.
• International monetary movements apart from payments for traded goods exist.
• The Australian Bureau of Statistics divides the balance of payments into the current account, and the financial account.
• The balance of payments is a record of a country's international economic transactions, detailing relationships between domestic/external sectors.

Current Account

• It includes day-to-day transactions that result in payments received
• These transactions are categorised under four main headings

Goods (Visible Commodities)

• Australian producers sell these to the rest of the world (exports), like wine, coal, and wheat.
• Australian importers buy from overseas producers (imports), such as motor vehicles, electrical goods, and chemicals.
• The balance of trade represents the difference in value between imports and exports.

Services (Invisibles)

• Transactions where no physical item is exchanged.
• The enormous cost of shipping met by Australians each year is a good example.
• Tourism, education, insurance and finance are further examples.

Net Primary Income

• Foreign investors derive income from investments in Australia in the form of interest, dividends and royalties.
• This outflow of income registers as a debit.
• Australians also receive income from overseas activities, which counts as a credit in the current account.

Net Current Transfers

• Movements of funds without reciprocal activity, such as assets transferred by migrants, foreign aid, and payments to international organizations.
• Economists often measure the balance of payments figures to allow comparisons with previous years so that they can evaluate the impact of the foreign sector

Capital and Financial Account

• Includes movement of capital funds between Australia and the rest of the world
• These funds fall into three categories

Capital Account

• Includes capital invested by migrants and capital transfers of foreign aid.

Financial account

• Divided into direct and portfolio investment categories.
• It records foreign investment in, and Australian investment abroad, divided into debt and equity sub-classifications.

Reserve Assets:

• Actions by the RBA when dealing with foreign currencies and government obligations with the International Monetary Fund(IMF)
• A capital and financial account deficit is when credits are less than debits
• A surplus is when credits are more than debits

Offsetting Deficits and Surpluses

• Any imbalance in the balance of payments is corrected by a change in the exchange rate to ensure it balances.
• The aim is to offset any deficit with an equivalent surplus.
• A current account deficit is offset by a surplus on the capital account, and vice versa.
• Capital and financial accounts fine-tune the balance of payments.

Floating Exchange Rates

• Floating exchanges rates allowed the Federal Government to divorce its external policy from its internal economy
• Under fixed exchange rates, governments would adjust the exchange rate to rectify internal problems such as inflation
• A floating exchange rate finds its own level according to supply and demand
• The government is limited to monetary, fiscal, and microeconomic policies to rectify internal imbalance
• The RBA intervenes to bolster the value

Australia’s Current Account

• Australia usually has a deficit, matched by a surplus in the capital account.
• Major issues affecting the account include the commodities prices are determined by market factors of supply and demand.
• Australia is a price-taker, as its producers have little influence over world prices, and must accept the prevailing price
• Fluctuating prices are reflected in the terms of trade.
• Australia's is demand-price elastic because there readily available substitutes.
• Fluctuating production levels also add to export price variations. Australia is also a price-taker for imports.
• Australia is considered a dependent economy, subject to cyclical fluctuations in the world economy.

Capital Account

• This account records capital transfers, including migrant funds and aid funds.
• Transactions in this account are small and insignificant.
• The financial account demonstrates inflows (credits) and outflows (debits) of debt and equity relating to foreign investment.
• Surplus means the change in foreign investment in Australia exceeds the increase in Australia's investment overseas.
• The financial account has four components: direct investment, reserves, portfolio investment, and other investment.
• Direct investment means creating assets and liabilities in a foreign country, opening a production plant or buying more than more than 10% of a company's shares.

Australia's Foreign Debt

• Gross foreign debt represents the total of Australia's overseas borrowings.
• Net foreign debt represents gross foreign debt less Australian lending to overseas residents.
• Private foreign debt is owed by private residents. Public foreign debt is owed by the government (25% of debt on average).
• Australia's foreign debt rose from less than 10% of GDP in the 1970s to 40% in the 1990s, reaching 51.7% by 2010.
• Net foreign debt exceeded A$1 trillion in 2016, reaching 60% of nominal GDP.

Causes of External Debt Growth

• Shortage of savings funds creating a need for overseas funds.
• Heavy borrowing by the private sector regardless of industry performance.
• Depreciation of the Australian dollar.
• High levels of domestic demand and high interest rates.
• Increasing globalisation integrating capital markets.
• Most of Australia's external debt is in foreign currencies, leading to increased debt burdens with AUD depreciation.
• Interest payments have become a significant drag on Australia's current account.

Dealing With Foreign Debt

• Higher interest rates are necessary to attract foreign investment.
• This leads to extra money needing to be spent by the government etc
• Increased costs of interest passed to onto Australians via higher government charges and taxes
• If the rate if interest goes lower, demand for the Australian dollar will decrease
• Taxation: In recent years, the the government has given some tax relief to the workforce rather than wage rises
• Wage rises reduce the competitiveness of Australian goods and services resulting in higher consumer spending with tax cuts
• External debt decreases export revenue gains, when external debt reaches to 160% of goods and services exports
• Australia's has reached this danger point.

Possible Solutions to External Debt

• Increase in domestic savings to reduce foreign borrowing. Improvements in the balance of goods through making exports more competitive.
• Minimizing impacts of changes in economies through more international exposure.
• Decreasing domestic demand, as long as domestic markets aren't contracted too much
• Appreciating the Australian dollar to lower debt and costs of servicing.
• Encouraging equity finance to attract overseas investors by lowering barriers to investment.

Foreign investment

• These are funds invested in an economy by the rest of the world
• There are two sub-categories, direct and portfolio investment
• Direct investment is any capital invested that gives influence over the enterprise
• At least 10% share ownership is considered the threshold for significant influence
• Portfolio investments is the acquisition of foreigners of shares in enterprises within Australia that exerts no influence on the enterprise by the acquirer.
• The Australian Government established the Investment Review Board in 1976, with goals to examine proposals by foreign interests for investment and provide advise to the the government and the investors and maintain a high level of Australian Equity

The Foreign Debt

• The amount of money owed by public and money by Australian residents. Australia has always relied on this to develop the economy
• The responsibilities of the Foreign investment review board are to examine proposed investments that are subject to the Foreign Acquisitions, provide guidance and ensure complaince
• Mining, manufacturing, retail trade, real estate and the insurance industry are the main benficiaries

Positive sides to increased foreign investment

• Increased economic activity, employment and income
• Expanded productive capacity of industries and resources
• provides foreign exchange for the purchase of imports to add to better standards of living, introduces new technology and provides market opportunities
• The UK and USA are the main traditional souces of direct foreing investment

Negative sides to increased foreign investment

• Leads to loss of control and ownership
• Leads to debt servicing, which increases the income component