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ECS3703 EXAM PACK 2023
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ECS3703EXAM PACK
2023
QUESTIONS WITH ANSWERS
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,SECTION A
You must answer all question in this section.
QUESTION 1
(a) Discuss the financial account of the South African Balance of Payment (15)
The financial account is part of a South Africa's balance of payments. It shows the
change in South Africa-owned assets abroad and foreign-owned assets in South Africa.
The financial account is a measurement of increases or decreases in international
ownership of assets. The owners can be individuals, businesses, the government, or its
central bank. The assets include direct investments, securities like stocks and bonds,
and commodities such as gold and hard currency.
The financial account of South Africa is subdivided into direct investment, portfolio
investment and other investment. The financial account is a large component of the
balance of payments. It adds to the balance of payments when it's positive, or when
foreign money is flowing into the South Africa to purchase assets. It subtracts from
the balance of payments when domestic money is flowing out of the South Africa to
purchase foreign assets.
If the financial account offsets the trade deficit, it means the South Africa is selling off
its assets to pay for purchases of foreign goods and services. That's like selling off
your land to pay for groceries. You would be better off investing in that land by
farming it to grow your food. It’s not sustainable to sell off all your assets for
something consumable.
(i) Direct investment foreign investment in South Africa and investments abroad by
South Africans. It is productive investment thus it is investment in plant, equipment,
machinery or factories, i.e. investment that will help with the process of wealth
creation. Direct investment is investment undertaken by an entity resident in one
economy in an enterprise resident in another economy. The purpose of the investment
is to obtain or sustain a lasting interest in the enterprise and exercise a significant
degree of influence in its management.
1
, (ii) Portfolio investment, on the other hand, is investment in paper assets like shares
and government bonds. Portfolio investment is the purchase and sale of financial
instruments such as bonds, treasury bills and equities. The only purpose of portfolio
investment is financial gain, so they do not involve foreigners' participation in the
management of the domestic firms. There may be both inflows and outflows of
portfolio investment. Portfolio investment is characterised by speculative “hot
money” flows which may prove disruptive and difficult for monetary authorities to
control.
(ii) Reserve assets - South Africa hold reserves of foreign currency (usually gained
from times when there are trade or investment surpluses and this section measures any
changes in these reserves. If the government influences the exchange rate, e.g. wants
to appreciate the rate, then they may sell some of their foreign currency reserves and
buy their own currency instead. A deficit or surplus on the current account is offset
with an equal and opposite surplus or deficit on the capital and/or financial account.
(b) Briefly describe the following concepts with regards to foreign exchange
market: (10)
(i) Long Position
When a speculator buys a foreign currency on the spot, forward, or futures market, or
buys an option to purchase a foreign currency in the expectation of reselling it at a
higher future spot rate, he or she is said to take a long position in the currency.
(iii) Short Position
When the speculator borrows or sells forward a foreign currency in the expectation of
buying it at a future lower price to repay the foreign exchange loan or honor the
forward sale contract or option, the speculator is said to take a short position (i.e., the
speculator is now selling what he or she does not have). (iv) Stabilising Speculation
The purchase of a foreign currency when the domestic currency price of the currency
(i.e., the exchange rate) falls or is low, in the expectation that the exchange rate will
soon rise, thus leading to a profit. Or the sale of a foreign currency when the exchange
rate rises or is high, in the expectation that it will soon fall.
(v) Destabilising Speculation
2
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