What is a foreign currency gap?
When a foreign currency outflows for a country exceed the foreign currency inflows. This means the foreign currency reserves are that low, that the country doesn’t have enough foreign currency to pay for essential imports such as food, fuel, raw materials
What are the causes of a foreign currency gap?
- Persistent current account deficit
- Capital flight
- Fall in value of inflow of remittances from nationals living and working overseas
Explain with examples why a shortage of foreign currency can be an economic problem for developing countries
One of the main problems is that it can make it difficult for a country to pay for essential imports such as food, fuel and raw materials. This can lead to a shortage of these goods, which can result in higher prices and inflation. For example, in Venezuela, a shortage in foreign currency has led to a shortage of essential imports and hyperinflation, which can caused significant economic and social problems for the country.
Another problem is that a shortage of foreign currency can make it difficult for a country to service its foreign debt. This can lead to a debt crisis and a potential default on loans. For example, in Greece a shortage of foreign currency during the sovereign debt crisis made it difficult first the country to service its debt, which led to a financial crisis and bailout by the European Union.
A shortage of foreign currency can also make it difficult for a country to maintain a stable exchange rate. For example in Argentina, a shortage of foreign currency has led to a decline in the value of the of the Argentine Peso, making it difficult for the country to maintain a stable exchange rate, which has contributed to economic problems.
Additionally, a shortage of foreign currency can also lead to a lack of investor confidence, which can make or difficult for a country to attract FDI.
Lastly a shortage of foreign currency can also lead to a decline in standard of living for the population, as it makes it difficult for people to afford the imported goods and services such as food, medicine and fuel, the area essential for a decent standard of living.
What is capital flight?
Uncertain and rapid movement of large sums of money out of a country, motivated by political and economic uncertainty
What are some causes of capital flight?
- Political turmoil and unrest
- Fear of an increase in corporate tax
- Fear that a government may default on their debts (bonds)
What are the effects of capital flight?
- reduced domestic investment
- depreciation of currency, increasing import costs–> inflation
- loss of tax revenue
- high borroing costs for governments that may have needed to borrow at high intrest rates
list the 8 barriers to development
- infrastructure gaps
- primary export dependancy
- conflict and corruption
- human capital weakness
- savings gap
- foreign currency gap
- lack of competition in markets
- high income and wealth inequality
define primary product dependancy
a country heavily relies on the export of primary products as a significant source of revenue and foreign exchange earnings
whats wrong with primary product dependancy?
this means they are privy to the volatile prices of commodities the prebisch- Singer Hypothesis states that there is likley to be a long term decline in real commodity prices , leading to falling terms of trade, meaning have to export more per ecah import reducing living standards
what are some evaluations towards the prebisch singer hypothesis?
rising global population and increasing per capita incomes have lead to an increase in world price of commodities for example price of rare materials such as lithium used in manufacturing smart phones
whats the main way of reducing/ combating primary product dependancy?
economic/ export diversification into sectors such as manufacturing/ services and technology
what is a savings gap?
a big gap between a country’s gross national savings (from households, governments and corporations) and spending needed for new capital inestment needed for growth
what is the harrod domar model?
it suggests that a higher savings ratio leads to an increased rate of investment (in a closed economy)
why are saving needed for economic growth?
- provide a flow of funds into the financial system eg: banks, insurance companies
- these funds can be used to provide credit for firms
how can a country overcome a domestic savings gap?
- attracting inflows of FDI
- financing through overseas aid
- remitance inflows
why is high external debt a growth barrier?
- debt servicing costs, high intrest payments means that governments have less to spend on public services
- credit rating downgrades, so more intrest if want to borrow again
- may try create inflation to reduce the real value of debt, hindering economic growth
what is the importance of propert rights?
- people have collateral to apply to finance
- government can generate land based taxes which can then be used to finance public services
what are the consequences of poor infrastructure?
- increased logistic costs
- reduced geographical mobility of labour
- less attractive to FDI
- country more vunerable to natural disasters
why might an ageing population have negative consequences for economic growth?
- rise in age dependancy ratio
- incresed spedning requiremnts on social care/ pension
- older people tend to save more and consume less (AD)
how might an aging population be positive for economic growth?
- increased demand for housing and social care
- if life expectancy improves then they can work for a longer age
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