Question 1

What kinds of domestic policies, short of significant debt reduction, can be followed to alleviate a debt crisis? How effective have these policies been?

Accepted Answer

There are several domestic policies that can be followed to alleviate a debt crisis without significant debt reduction. These policies include implementing fiscal austerity measures, such as reducing government spending and increasing taxes, to generate budget surpluses that can be used to pay down debt. Additionally, improving tax collection and enforcement can help increase government revenue, while implementing structural reforms to boost economic growth and productivity can also help reduce debt relative to GDP.

Other policies that can be pursued include privatization of state-owned enterprises to raise funds for debt repayment, as well as debt restructuring and refinancing to lower interest rates and extend maturities. Furthermore, implementing policies to attract foreign investment and promote exports can help boost economic growth and generate the necessary resources to address the debt crisis.

The effectiveness of these policies in alleviating a debt crisis can vary depending on the specific circumstances and the willingness of the government to implement and sustain them. Fiscal austerity measures, for example, can lead to social unrest and political instability, while structural reforms may take time to yield results. Debt restructuring and refinancing can provide short-term relief, but may not address the underlying issues that led to the debt crisis.

Overall, while these domestic policies can be effective in addressing a debt crisis, they often require a comprehensive and sustained effort from the government and may have significant social and economic implications. It is important to carefully consider the potential trade-offs and unintended consequences of these policies when pursuing them.

Question 2

Explain how the devaluation of a developing country's currency is supposed to reduce its external debt.Give two reasons why a devaluation may be less effective than expected.

Accepted Answer

The devaluation of a developing country's currency is supposed to reduce its external debt in two main ways. First, when a country devalues its currency, its exports become cheaper for foreign buyers. This can lead to an increase in export sales, which in turn can generate more revenue in foreign currency. With more foreign currency coming in, the country can use this to pay off its external debt.

Second, a devaluation can make imports more expensive, which can lead to a decrease in the volume of imports. This can help to improve the country's trade balance, as it will be spending less on imports and therefore have more foreign currency available to pay off its external debt.

However, there are two main reasons why a devaluation may be less effective than expected in reducing external debt. First, if a country is heavily reliant on imported goods and services, a devaluation can lead to higher inflation and increased costs for businesses and consumers. This can offset the benefits of the devaluation and make it harder for the country to generate enough foreign currency to pay off its external debt.

Second, if a country's external debt is denominated in a foreign currency, a devaluation of the domestic currency can actually increase the real value of the debt. This is because the amount of domestic currency needed to repay the debt will increase, making it more expensive for the country to service its external debt.

In conclusion, while the devaluation of a developing country's currency is intended to reduce its external debt by increasing export revenue and decreasing import spending, it may be less effective than expected due to potential inflation and increased costs, as well as the impact on the real value of foreign currency-denominated debt.

Question 3

Debt service payments appear in
A) the current account.
B) the capital account.
C) the cash account.
D) errors and omissions.

Accepted Answer

Debt service payments represent a transfer of income from one country to another and are recorded in the current account of the balance of payments. This account measures the flow of goods, services, and income between countries over a certain period of time. Other items in the current account include exports, imports, and income from investments. Therefore, option A is the best choice.

Question 4

Discuss some of the reasons why economists are concerned about the current recovery from the global financial crisis.

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Question 5

How did the Mexican debt crisis of the early 1980s come about? How has the Mexican economy coped during the past 20 years, in the aftermath of the debt crisis? What has been the legacy of the debt crisis for the Mexican economy?

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Question 6

What is meant by petrodollar recycling? Explain the mechanism by which this phenomenon occurred.What were the consequences of this phenomenon for developing countries?

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Question 7

What economic variables would you need to consider in order to distinguish between a developing country with a short-term balance of payments problem and one in a debt crisis? Explain what data you would need to look at and why.

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Question 8

Discuss the options for financing a balance of payments deficit.

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Question 9

Consider the following hypothetical data for a developing country:
 $$\begin{array} { c c c c c } 
\hline \text { Year } & \text { Total Debt (th) } & \text { Debtexport ( h) } & \text { GDP Growth } & \text { Inv. Grawth } \
\hline 1 & 6 & 134 & 0.6 \% & - 1.0 \% \
2 & 6.5 & 147 & 2.9 \% & 1.1 \% \
3 & 7 & 159 & 5.1 \% & 1.6 \% \
4 & 7.5 & 174 & 0.4 \% & 2.4 \% \
5 & \mathbf { 8 } & 198 & 1.1 \% & - 0 .6 \%\
\hline
\end{array}$$ Does this country have a debt crisis? What additional pieces of quantitative or qualitative evidence
(if any) would help you to decide?

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Question 10

Outline the principal sources of the debt crisis.

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Question 11

Explain what is meant by capital flight.How would you distinguish capital flight from the normal desire of investors to diversify their portfolios by investing abroad?

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Question 12

Why may the debt crisis be only "sleeping" rather than "dead?"

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Question 13

An IMF official was quoted as acknowledging that the Fund's stabilization packages have often led to adjustment without growth.However, he said, "the Fund is a firefighter not a carpenter, and you cannot expect the firefighter to rebuild the house as well as put out the fire." Provide a balanced evaluation of this statement.

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Question 14

Consider debt-equity swaps as an approach to debt reduction.Briefly describe how this works.
State two arguments in favor of significant reliance on this strategy and two arguments against.

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Question 15

Explain how international trade and trade policy helped South Korea transform itself from an underdeveloped country to a high income country in the space of a single generation.You might begin by discussing South Korea's trade strategy.Why do you think international trade is of such vital importance to South Korea?

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Question 16

What is meant by the term Odious Debt"?

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Question 17

Provide a definition of the current account, the capital account, and the cash account.What is
the relationship between the three accounts?

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Question 18

Outline the elements of an IMF stabilization package.Explain the mechanism by which it is expected to help a balance of payments deficit.How successful have these packages been? Explain your answer.

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Question 19

The flow of private foreign investment and grants and loans is included in a country's
A) current account.
B) capital account.
C) cash account.
D) none of the above.

Accepted Answer

Private foreign investment and grants and loans are part of a country's capital account, which includes all financial transactions between a country's residents and foreign residents. The current account, on the other hand, includes transactions related to trade in goods and services, while the cash account records the physical movement of currency and other assets. Therefore, only option B is correct.

Question 20

Provide a concise statement on the relationship between the debt crisis and:
(a) foreign direct investment,
(b) trade liberalization,
(c) absolute poverty, and
(d) investment levels.

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Quiz 13: Balance of Payments, Debt, Financial Crises, and Stabilization Policies