Self-Check Questions

10.6 The Difference between Level of Trade and the Trade Balance

There is a difference between the level of a country’s trade and the balance of trade. The government measures its level of trade by the percentage of exports out of GDP, or the size of the economy. Small economies that have nearby trading partners and a history of international trade will tend to have higher levels of trade. Larger economies with few nearby trading partners and a limited history of international trade will tend to have lower levels of trade. The level of trade is different from the trade balance. The level of trade depends on a country’s history of trade, its geography, and the size of its economy. A country’s balance of trade is the dollar difference between its exports and imports. Trade deficits and trade surpluses are not necessarily good or bad—it depends on the circumstances. Even if a country is borrowing, if it invests that money in productivity-boosting investments it can lead to an improvement in long-term economic growth.

Self-Check Questions

1 . If foreign investors buy more U.S. stocks and bonds, how would that show up in the current account balance? 2 . If the trade deficit of the United States increases, how is the current account balance affected? 3 . State whether each of the following events involves a financial flow to the Mexican economy or a financial flow out of the Mexican economy: a. Mexico imports services from Japan b. Mexico exports goods to Canada c. U.S. investors receive a return from past financial investments in Mexico 4 . In what way does comparing a country’s exports to GDP reflect its degree of globalization? 5 . At one point Canada’s GDP was $1,800 billion and its exports were $542 billion. What was Canada’s export ratio at this time? 6 . The GDP for the United States is $18,036 billion and its current account balance is –$484 billion. What percent of GDP is the current account balance? 7 . Why does the trade balance and the current account balance track so closely together over time? 8 . State whether each of the following events involves a financial flow to the U.S. economy or away from the U.S. economy: a. Export sales to Germany b. Returns paid on past U.S. financial investments in Brazil c. Foreign aid from the U.S. government to Egypt d. Imported oil from the Russian Federation e. Japanese investors buying U.S. real estate 9 . How does the bottom portion of Figure 10.3, showing the international flow of investments and capital, differ from the upper portion? 10 . Explain the relationship between a current account deficit or surplus and the flow of funds. 11 . Using the national savings and investment identity, explain how each of the following changes (ceteris paribus) will increase or decrease the trade balance: a. A lower domestic savings rate b. The government changes from running a budget surplus to running a budget deficit c. The rate of domestic investment surges 12 . If a country is running a government budget surplus, why is (T – G) on the left side of the saving- investment identity? 13 . What determines the size of a country’s trade deficit? 14 . If domestic investment increases, and there is no change in the amount of private and public saving, what must happen to the size of the trade deficit? 15 . Why does a recession cause a trade deficit to increase? 16 . Both the United States and global economies are booming. Will U.S. imports and/or exports increase? 17 . For each of the following, indicate which type of government spending would justify a budget deficit and which would not. a. Increased federal spending on Medicare b. Increased spending on education c. Increased spending on the space program d. Increased spending on airports and air traffic control 18 . How did large trade deficits hurt the East Asian countries in the mid 1980s? (Recall that trade deficits are equivalent to inflows of financial capital from abroad.) 19 . Describe a scenario in which a trade surplus benefits an economy and one in which a trade surplus is occurring in an economy that performs poorly. What key factor or factors are making the difference in the outcome that results from a trade surplus? 20 . The United States exports 14% of GDP while Germany exports about 50% of its GDP. Explain what that means. 21 . Explain briefly whether each of the following would be more likely to lead to a higher level of trade for an economy, or a greater imbalance of trade for an economy. a. Living in an especially large country b. Having a domestic investment rate much higher than the domestic savings rate c. Having many other large economies geographically nearby d. Having an especially large budget deficit e. Having countries with a tradition of strong protectionist legislation shutting out imports

Review Questions

22 . If imports exceed exports, is it a trade deficit or a trade surplus? What about if exports exceed imports? 23 . What is included in the current account balance? 24 . In recent decades, has the U.S. trade balance usually been in deficit, surplus, or balanced? 25 . Does a trade surplus mean an overall inflow of financial capital to an economy, or an overall outflow of financial capital? What about a trade deficit? 26 . What are the two main sides of the national savings and investment identity? 27 . What are the main components of the national savings and investment identity? 28 . When is a trade deficit likely to work out well for an economy? When is it likely to work out poorly? 29 . Does a trade surplus help to guarantee strong economic growth? 30 . What three factors will determine whether a nation has a higher or lower share of trade relative to its GDP? 31 . What is the difference between trade deficits and balance of trade?