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ECS3703 EXAM PACK 2021
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FI 2019QUESTION 1
(a) NAME AND EXPLAIN THE ITEMS OF THE FINANCIAL ACCOUNT OF THE
SOUTH AFRICAN BOP.
1 The Financial Account
Records exchanges of international asset
Subdivided into: direct investment, portfolio investment and other
investment
Direct investment foreign investment in South Africa and investments abroad by
South Africans.
Portfolio investment is the purchase and sale of financial instruments such as
bonds, treasury bills and equities.
Other investment includes all financial transactions not part of direct or portfolio
investment. Main item is trade credit.
Direct investment is considered more desirable than portfolio investment because it
shows stronger commitment to invest. It is more stable and has lasting positive effects
on the domestic economy. Portfolio investment on the other hand is characterised by
speculative “hot money” flows which may prove disruptive and difficult for monetary
authorities to control. Direct investment may also bring with it much needed scarce skills
and technology.
2 The Current Account
Subdivided into, trade account, net service receipts, net income receipts and
current transfers.
Trade account-trade in physical goods. Trade balance not shown explicitly. Is
calculated by subtracting merchandise imports from merchandise exports plus
net gold exports. (X+NX- I)
This Service items – are transport of goods and passengers between countries
Income items are interest, dividends and foreign branch profits.
Current transfers – foreign payments and receipts of government social security
payments and taxes, private transfers of income (gifts, donations).
3 Unrecorded transactions
Arises from the use of a double entry accounting system to reconcile the balance
of payments.
Serves as a residual that ensures that the balance of payment accounts always
balance.
4 The official reserves
Records changes in the official gold and foreign exchange reserves. Changes in gold
and foreign exchange reserves are also referred to as the below the line or
'accommodating' foreign exchange flows.
,Transactions not related to changes in official reserves are called autonomous or above
the line flows.
Any imbalance in these flows is accommodated by the required change in official
reserves.
(b) DISCUSS COSTS AND BENEFITS OF DOLLARISATION
Dollarization refers to a nation adopting the currency of another country (most often the
dollar) as its legal tender.
Advantages/ benefits Disadvantages/costs
Benefits are similar to those of adopting Cost of replacing the domestic
a currency board arrangement, only they currency with the dollar.
are more pronounced because the Loss of independence of
nation gives up its “exit” option to monetary and exchange rate
abandon the system. polices.
Loss of its central bank as a
lender of last resorts to bail out
domestic banks and other
The country avoids the cost of
financial institutions facing a
exchanging the domestic
crisis.
currency for dollars and need to
hedge foreign exchange risks.
A country faces a rate of inflation
similar to that of the US.
Avoids foreign exchange crises
and need for foreign exchange
and trade controls, fostering
budgetary discipline.
Encouraging more rapid and full
international financial integration
costs.
QUESTION 2
(a) The principle of stimulating long-run growth in the economy with macroeconomic
policies is illustrated. Relying primarily on government (which is per definition the
case when we talk about policies) to stimulate growth is a socialist point of view.
In a capitalist economy, the task of the government is more to create a
favourable climate (say, combat crime) for economic growth.
, Macroeconomic Policies for Lon-run growth
LRAS LRAS’
P SRAS
SRAS’
Pc
C
Pa A
Pe
G
E
AD’
AD
Yn Ya Yn’
Long run equilibrium is at point E. AD curve and SRAS intersecting the
LRAS at PE and Yn.
Expansionary fiscal policy and monetary policy to stimulate growth shifts the
AD curve right to AD’. Nation reaches new short run equilibrium A at Pa and
Ya > Yn. The LRAS and SRAS shifts to the right to LRAS’ and SRAS’ and
define a new long run equilibrium point G at PG (=Pe) and Yn’ > Yn at the
intersection of LRAS’, SRAS’ and AD’ curves.
(b) The main idea behind the absorption approach is that the trade or current
account balance. (X-M) or (also called net exports) must equal the difference
between domestic production (Y) and domestic spending (A) absorption).X-M -
Y- A
Y= A – B
Domestic production or income minus domestic absorption minus domestic absorption
equals the trade balance. The effect of devaluation on the current account balance
depends on the degree of unemployment. For the trade balance to improve as a result
of a depreciation or devaluation Y must rise and or A must fall. If a nation is at full
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