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The Balance of Payments.

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Introduction

The Balance of Payments The Balance of Payments is a record of the financial dealings over a period of time between the UK and the international economy. Essentially the accounts are divided into two sections with the current account measuring trade in goods and services and the capital account tracking flows of money associated with saving, investment, speculation and currency stabilization in and out of the UK. The Office for National Statistics divides the UK current account into four parts. 1. Trade in goods, ranging from raw materials to industrial products. 2. Trade in services, such as transport (e.g. shipping and air transport), travel and tourism, insurance and other financial services and royalties and license fees. 3. Income flows which relate to UK investments abroad and to foreign investments in the UK (investment income). These flows comprise a substantial proportion of the invisibles. 4. Current Transfers which relate mainly to the UK's membership of the European Union. The UK has to pay part of its tax revenues to the EU, however in return receives payments such as agricultural subsidies or regional grants. These four components of the Current Account are classified as either visibles or invisibles. ...read more.

Middle

In a consumer boom increased demand is likely to be reflected in the foreign market causing an acceleration in the volume of imports entering the country. The reason that UK residents are attracted to overseas goods is largely down to favourable international prices relative to UK firms and non price factors such as, quality, design, reliability, which are deemed better in certain International goods. One of the key factors in determining the price and volume of foreign imports and ultimately the current account balance is the level of the exchange rate. Presently high interest rates in the UK compared with other EU-countries has meant that foreign currencies have been attracted into London banks. The increased foreign currency reserves have inevitably pulled up the value of the sterling. Subsequently the pound is overvalued against the euro, meaning the overseas price of UK exports has risen, while the relative price of imports has fallen. This has considerably worsened the trade deficit with the EU, producing a record figure of 2.1 billion. This has been compounded by a strong appreciation of the pound against the dollar; in December 2003 the pound had risen to unprecedented levels of $1.7361. This rise in the value of sterling has led to a rise in the foreign price of UK exported goods and services. ...read more.

Conclusion

As a result the UK is set to lose out on trade with one of its main trading partners. Forecasts from the Office for National Statistics indicate that despite current government policy, current account deficit is likely to worsen. It is essential that the UK controls this before too much need is placed on foreign lenders. In the long term this can be achieved by creating a sufficient productive capacity for the domestic economy and through low sustained inflation. Ultimately this will mean that the British economy is able to meet the demand for goods and it is able to deliver a sustained growth of exports. Subsequently the emphasis must be placed on supply side polices aimed at shifting out the long run aggregate supply curve. This will improve efficiency in the export sector, provide increased research and development in domestically produced goods and allow a greater focus on resources in industries where the UK has a genuine comparative advantage resulting in an improved balance of payments. Ultimately this may not be an issue if the UK adopts the single currency. If it does the UK will forfeit its control over exchange rates and interest rates, and the balance of payments will cease to be a concern, because Britain's trade will be included with the rest of the Euro zone. ...read more.

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