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A balance of trade (trade balance) is the difference between the monetary values of exports and imports of a country’s economic output over a given period of time. Trade balance can be positive (favorable) when the value of exports is greater than the value of imports. The positive trade balance is also called trade surplus. On the other hand, if the value of imports is greater than the value of exports, the trade balance indicates trade deficit.

Trade balance affects the Gross Domestic Product (GDP) of a country because net export is a component of the GDP. Recall GDP = C + I + G + Nx

Trade balance also affects the exchange rate of a country’s currency. Supply and demand for foreign currency result in changing prices of a currency. The price of a currency changes as demand for a foreign currency changes.

Based on the above summary and the detailed descriptions of the balance of payments, exchange rates and trade deficits issues in the textbook (Chapter 41) discuss the following questions.

• Is it trade deficit or trade surplus that contributes more to economic growth? Why?
• What are the factors that increase and decrease the demand for a foreign currency?
• What are the impacts of currency devaluation and revaluation on international trade?
• What is currency war? How does it affect trade between countries?

Do the discussion first add citation and reference. then response each posted below.

Posted 1

To answer this question a trade surplus and deficit need to be understood. When a nation is importing more goods than they export it is considered a trade deficit. This is not a healthy situation for an economy. This is not a healthy situation for an economy as in the long run they will incur debt to pay for the deficit (Amadeo, 2021) When a nation Is experiencing a surplus, they are exporting more than they import. This contributes to economic growth because a country will have a surplus of wealth driven by the money earned from exports.

Currency exchange rates are constantly fluctuating. According to McConnell et al., (2018) there are several factors that can increase or decrease the demand for a foreign currency. These factors are changes in tastes, relative income changes, relative inflation rate changes, relative interest rates, changes in relative expected returns on stocks real estate and production facilities, and speculation. Depending on the shift in these factors positive or negative they can move the demand for the currency.

Devaluation of a currency is when a country intentionally reduces the value of its exchange rate in relation to foreign currencies ( (Gilbert, 2018). Currency revaluation occurs when a country increased the value of its exchange rate in relation to other currencies. When a currency is devalued and then revalued in the international market it can be seen as riskier. Due to the inherent concern around a fluctuating currency value may drive investors to second guess their purchase of trade through the exchange system. This can be an overall negative and lead to diminished trade.

A currency war is a situation where a country will set their economic policies to intentionally devalue their currency. The result of this action is to gain a competitive advantage in international trade. When a country has a low value currency it will be attractive to foreign investors (Amadeo, 2020). When countries engage in these actions it impacts not only the currency of the country but others as well. A currency war can lower prices and help to increase the growth of a country, but they also increase the price of goods being imported since the relative value of local currency has been reduced.

Posted 2

A balance of trade is the difference between the monetary values of exports and imports of a country’s economic output over a given period, it is used to compare a country’s economy to its trading partners. When a country’s exports are greater than its imports, it has a trade surplus. When exports are less than imports, it has a trade deficit (McConnell, 2021). On first look, a surplus would seem better than a deficit, but it is harmful when there is government restriction on trade (protectionism). A trade deficit on the other hand can be more beneficial to countries that import heavily, this coupled with prudent investment decisions, can lead to stronger economic growth long-term (Amadeo, 2021).

The factors that increase and decrease the demand for foreign currency include inflation rates (caused by changes in the market), interest rates, debt, economic health, political stability, terms of trade, recession, consumer spending, etc. A country’s currency is demanded and sold on the currency market, as such when the demand for the currency rises, its value rises, and when the supply rises, the currency’s value falls. For example, when consumers in the market want to buy goods from the foreign market, if the demand for the foreign goods increases the consumer will be demanding foreign currency.

Devaluation and revaluation are official changes in the value of a country’s currency relative to other currencies. Devaluation makes the country’s exports relatively less expensive for foreigners however it increases the price of exports and stimulates a higher demand for domestic products which could lead to inflation. When this happens, the government would step in to control inflation by raising interest rates at the cost of slow economic growth. Revaluation is a significant rise in a country’s exchange rates in relation to a foreign currency. Should a country resort to currency revaluation, the impact would be that it’s buying imports would be less expensive domestically, they would be able to maintain profitability and economic competitiveness.

Currency war, also known as competitive devaluation, occurs when a country deliberately lower’s the value of its currency with the use of expansionary monetary policies to drive economic growth. The impact this has on other countries and emerging markets is that it increases their currency value, causing their price of goods to rise, demand falls resulting in the exporting country’s economic growth to decline. Countries that engage in this stand to gain a comparative advantage in international trade. When they devalue their currencies, they make their exports less expensive in foreign markets. Companies export more, become more profitable, and create new jobs making for stronger economic growth (Amadeo, 2020).

Posted 3

A trade deficit occurs when imports are greater than exports (McConnel). If the United States imported $700B worth of goods and only exported $300B, there would be a $400B trade deficit. Conversely, trade surpluses occur when a country exports more than it imports. For example, should China export $900B worth of goods but only imported $200B, it would have a $700B trade surplus. Clearly, both instances have immediate impacts on several economic factors, including GDP. Much of the direct impact of a trade deficit or surplus depends on the country itself. For example, the United States tends to operate at a trade deficit, but since it produces and consumes many domestic products, it does not feel the impact that same as a more heavily globalized country in this context would. Other issues of protectionism, tax, and unemployment all factor into this discussion as well. Ultimately, whether a trade surplus or deficit benefits a nation’s economy is contingent on the home country itself.

There are a multitude of factors that increase and decrease the demand for a foreign currency. For example, a rapid increase in income of the country, interest and inflation rates, stock exchange performance, changes in consumer spending and more. Interest rates, being the amount it costs to borrow the money, can be moved to either stifle or stimulate economic growth and is largely considered the most major contributing factor to the demand for a given currency. Modigliani and Sutch (1966) stated that interest rates “have the capacity to revalue the whole market” (p. 1). The higher the interest rate, the higher the demand. Should demand change for a given currency, this can either have a beneficial or detrimental effect regarding foreign trade. Typically, conversions are made, and the global currency utilized for such trades is the American dollar. However, there are many advocating for that to change to a more stable currency. Some politicians like Rand Paul contend that Bitcoin is the future currency of global trade.

Regarding currency wars, Bénassy-Quéré, Gourinchas, Martin and Plantin (2014) state, “All currencies cannot be weak at the same time; if one currency weakens, another one at least must strengthen. From this unpleasant arithmetic emerges the concept of ‘currency wars’, a mutual and vain race to the monetary bottom” (p. 1). Countries engage in currency wars by actively devaluing their currencies to gain comparative advantage in international trade. This makes their exports less expenses, leading to increased use, increased jobs and increased economic strength. Although it may not be altogether intentional, expansionary monetary and fiscal policies devalue the dollar in the same way over time.