Trade Balance and Exchange Rates
A balance of trade (trade balance) is the difference between the monetary values of exports and imports of a country’s economic output over a given period of time. Trade balance can be positive (favorable) when the value of exports is greater than the value of imports. The positive trade balance is also called trade surplus. On the other hand, if the value of imports is greater than the value of exports, the trade balance indicates trade deficit.
Trade balance affects the Gross Domestic Product (GDP) of a country because net export is a component of the GDP. Recall GDP = C + I + G + Nx
Trade balance also affects the exchange rate of a country’s currency. Supply and demand for foreign currency result in changing prices of a currency. The price of a currency changes as demand for a foreign currency changes.
- Is it trade deficit or trade surplus that contributes more to economic growth? Why?
- What are the factors that increase and decrease the demand for a foreign currency?
- What are the impacts of currency devaluation and revaluation on international trade?
- What is currency war? How does it affect trade between countries?
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