Marshall-Lerner Condition/J-Curve

The J-Curve is a curved line in which it decreases, reaches a point of inflection, and then increases in a manner that resembles the letter "J". Usually, the line increases to a point that is higher than the original starting point. The J-curve shows the effects of policies and investments: they lead to a loss, and then a gain that's usually larger than the loss.

A professional illustration of the J-curve can be found in proximity to this sentence.

In order to explain the main ideas of a J-curve, we can use an example such as the effects of a currency's depreciation. The x-axis represents time. The y-axis below 0 represents a current account deficit, while the y-axis above 0 represents a current account surplus. If a country's currency was to depreciate, the current account would encounter a greater deficit than before. This is true, in theory, because imports will become more expensive, while exports will become cheaper. In the short term, demand for imports is inelastic, because businesses are likely to continue importing the same amounts as before due to contracts or habit. Demand for exports in the short run is inelastic as well, because the world will take some time to notice the price difference. For these reasons, a currency's depreciation will lead to a current account deficit until the point of inflection.

In the long run the current account will rise towards a surplus, and hopefully will rise above it. Demand for imports will become elastic in the long run, because contracts will expire and businesses will find cheaper domestic alternatives. Demand for exports will become elastic in the long run, because the international market will find out about the cheaper exports and will make use of them. Hopefully, through this example, the main ideas of the J-curve have become clear.

What is the Marhsall-Lerner condition? The Marhsall-Lerner condition is a concept that can be used to determine whether a depreciation or a devaluation of a currency will lead to an improvement in the balance of payments. If the PED of imports and the PED of exports add up to a value that is greater than 1, an improvement in the balance of payments will occur in the long run after a depreciation or devaluation of a currency.

The consequences of the falling Euro on Latvia's Current account will be evaluated using relevant concepts and knowledge in economics. In the table above, we can see that the current account in Latvia is negative. We can also see that imports exceed exports. A fall in the Euro will lead to imports becoming more expensive in the short run. Exports will become cheaper. Since PED for imports and exports in the short run is inelastic, this situation will lead to a higher current account deficit. 

However, in the long run the situation should improve. PED of imports will become elastic due to contracts expiring and businesses finding cheaper domestic alternatives. This will lower the county's expenses on imports. The low price of exports will be noticed in the long run in the international market, therefore making PED for exports elastic. This will increase the inflow of money from exports in Latvia, effectively improving the current account in terms of bringing it closer to a surplus. An improved current account will assist the balance of trade to react a surplus.

Balance of Payments Activity

1.       Distinguish:

a.       Import and export:

                                                              i.      An import is a good or service brought in from abroad for sale (money out, good/service in). An export is a product or service sold abroad (money in, good/service out).

b.      Visible and invisible trade:

                                                              i.      Visible trade accounts for imports and exports of physical merchandise. Invisible trade accounts for business transactions that occur with no exchange of tangible goods. That includes customer service, intellectual property and patents.

2.       State whether the following are:

a.       A HK toy sold in UK

                                                              i.      Export

                                                            ii.      Visible

b.      French cheese sold in HK.

                                                              i.      Import

                                                            ii.      Visible

c.       A HK tourist holidaying in Thailand

                                                              i.      Import

                                                            ii.      Invisible

d.      Cathay Pacific buying planes from Airbus

                                                              i.      Import

                                                            ii.      Visible

e.      The HK Police Force buying Russian weapons

                                                              i.      Import

                                                            ii.      Visible

f.        An Australian tourist staying at HK Disneyland

                                                              i.      Export

                                                            ii.      Invisible

3.       In which part of the HK Balance of Payments account would the following transactions be recorded:

a.       A US company buying shares on the HK stock market

                                                              i.      The financial account: direct investment

b.      HK citizen sending wages earned in UK back to HK

                                                              i.      Current account: income

c.       A HK company selling prawns direct to France

                                                              i.      Financial account: direct investment

d.      An Italian firm investing in a chain of restaurants

                                                              i.      Financial account: direct investment

e.      HK company paying dividends to US shareholder

                                                              i.      Current account: income

4.       Which of the above transactions are inflows of money to HK (and are therefore credits on the balance of payments account) and which are outflows (and thus debits)?

a.       Credits: a, b, c

b.      Debits: e

5.       The fictitious figures below refer to HK’s balance of payments for 2007, 08, 09 and 2010 Calculate for each year

a.       Balance on trade in goods

                                                               i.      2007

1.       42345 – 57600 = -15255

                                                             ii.      2008

1.       123000 – 245786 = -122786

                                                            iii.      2009

1.       56363 – 66666 = -10303

                                                           iv.      2010

1.       853970 – 900000 = -46030

b.      Balance on trade in services

                                                               i.      2007

1.       654000 – 124000 = 530000

                                                             ii.      2008

1.       12789 – 9876 = 2913

                                                            iii.      2009

1.       46879 – 38945 = 7934

                                                           iv.      2010

1.       345876 – 200000 = 145876

c.       The balance of trade

                                                               i.      2007

1.       530000 – 15255 = 514745

                                                             ii.      2008

1.       2913 – 122786 = -119873

                                                            iii.      2009

1.       7934 – 10303 = -2369

                                                           iv.      2010

1.       145876 – 46030 = 99846

d.      The current account balance

                                                               i.      2007

1.       514745 – 12500 – 34000 = 468245

                                                             ii.      2008

1.       -119873 + 123765 + 47987 = 51879

                                                            iii.      2009

1.       -2369 + 100000 – 99999 = -92368

                                                           iv.      2010

1.       99846 + 34987 = 134833

Fed Chairperson Recommendation

US economy: statistics at a glance: http://ig.ft.com/sites/us/economic-dashboard/

As you may or may not know, an upcoming interest rate decision concerning the FED is about to occur. A decision to increase or decrease the interest rates is one that consists of many factors. Factors such as GDP, employment rate, and the rate of inflation will be affected by a increase or decrease in the interest rates.

Definitions:

• GDP: The broadest quantitative measure of a nation's total economic activity. More specifically, GDP represents the monetary value of all goods and services produced within a nation's geographic borders over a specified period of time.
• Employment rate: Indicates the percentage of persons of working age who are employed.
• Inflation: A general increase in prices and fall in the purchasing value of money.
• Interest rate: The proportion of a loan that is charged as interest to the borrower, typically expressed as an annual percentage of the loan outstanding.
• Multiplier effect: Refers to the increase in final income arising from any new injection of spending. The size of the multiplier depends upon household's marginal decisions to spend, called the marginal propensity to consume (mpc), or to save, called the marginal propensity to save (mps).

Dear Janet Yellen, chair of the Federal Reserve, as an economics student I would like to assist you with your decision to increase or decrease the interest rate. According to US economy statistics, the annualized Q2 GDP growth was 3.7%. That is a rather high percentage. A healthy rate of growth is 2%-3%. With that being true, I suggest that you decide to increase interest rates. By increasing the interest rates, several things will occur. Monthly mortgage payments will increase, granting consumers less disposable income on goods and services. This will decrease consumption, therefore lowering GDP.

An increase in interest rates will have another effect. Borrowing will become more expensive, and as such consumers will be less encouraged to borrow money and consume. Firms will be less encouraged to invest, therefore decreasing investment. A decrease in consumption and investment has a direct effect on GDP.

According to another statistic from the US economy statistics, the effective interest rate has been very low (0.25%) since 2009. By raising the interest rates, the FED will gain more money. In this situation of higher interest rates, the "winners" would be the FED and savers. Savers would also be "winners", because with the higher interest rates, they will get more money for saving their money. The "losers" in this situation would be the consumers and firms, due to reasons stated previously.

In conclusion, the interest rates have been very low since 2009. The GDP is a little too high, therefore a consideration of raising interest rates should take place. Raising interest rates will lower the GDP growth in the long run.

Country Specific Protectionist Policies

http://www.computerworld.com/article/2874816/us-to-impose-big-tariffs-on-china-and-taiwan-for-dumping-solar-panels-on-market.html

The U.S. ITC (International Trade Commission) and DOC (Department of Commerce) have found that China and Taiwan have been saturating the market for solar panels, and plan to impose a tariff of 70% on Chinese solar panels entering the U.S. A tariff ranging from 11.45% to 27.55% will be imposed on Taiwanese solar panels. In 2012, tariffs between 31% to 250% were imposed on Chinese solar panels, however, the current situation will be discussed.

Just to be clear, the product market is solar panels. The country of interest is the United States. The form of protectionism is a tariff. According to Google, a tariff is a tax or duty to be paid on a particular class of imports or exports.

Here's an illustration of the solar panel market in the U.S:*

*Diagram not to scale.

As we can see on the graph to the left, before the tariff on Chinese solar panels imported in the U.S, domestic suppliers supplied a quantity of Q1 at a price of PC (Price of Chinese solar panels before tariff). The Chinese supplied a quantity of Q2 solar panels at a price of PC.

Presumably due to dumping, China was able to supply solar panels at a price of PC, and as such had a lot of market power. According to Google, dumping is to send (goods unsaleable in the home market) to a foreign market for sale at a low price.

After a tariff of 70% on Chinese solar panels imported in the U.S, domestic suppliers supply a quantity of Q3 at a price of PC+tariff 70%. Chinese solar panel suppliers supply a quantity of Q4 at a price of PC+tariff 70%.

The winners in this situation are domestic producers in the U.S. and the U.S. government. The domestic producers win, because they are now able to supply an amount (Q3-Q1) more than before the imposition of the tariff. Their price goes from PC to PC+tariff 70%, increasing domestic producer's revenue from g to g+h+b+a. The government wins because the 70% tariff revenue will go to them. According to Google, revenue is income, especially when of an organization and of a substantial nature. The government will receive a tariff revenue of d+e.

The losers in this situation are the consumers and foreign producers. The consumers lose because solar panels became more expensive for them (from PC to PC+tariff 70%). Foreign producers lose because due to the 70% tariff, they are able to supply less. c+f represent the overall dead-weight loss in this situation. According to Wikipedia, deadweight loss (also known as excess burden or allocative inefficiency) is a loss of economic efficiency that can occur when equilibrium for a good or service is not achieved or is not achievable.

Argument for and Against Free Trade Activity