tips ....................................................n tricks.. safe investing!!!!!!!! The market is a roller coaster and let no one tell you otherwise. In the short term the market outlook may seem uncertain due to concerns on oil prices and slowdown on foreign institutional investor inflows.
But on the longer horizon Indian markets look very good. The government has been making conscious business friendly policies; the fiscal deficit too is getting under control. India continues to be one of the fastest growing economies in the world. These factors coupled with many others are ensuring India's position as a global investment destination. To grow personal capital from India's growth one has to choose the correct investment avenue. And choosing an investment avenue is like getting into a marriage, so do it wisely.
Choosing between the plentiful available mutual funds and schemes is not easy. A well thought out and well-planned decision is one that will bear fruits in the long run. Thus a structured approach to fund selection with a systematic checklist to achieve it is of utmost importance.
Even though there are many available methods of product comparisons, one doesn't want to be weighed down by all of them. Dwelling into too many numbers, will only lead to further confusion. Therefore only a few areas of comparison are of true importance and will be comprehensive enough to produce a thorough comparison.
PortfolioPortfolio is very important while comparing schemes. Even though some of the underlying stocks in portfolios could be similar, most portfolios have differing mandates and investment philosophies. As a result it is rather important to understand the stance the manager has taken while building his scheme portfolio.
The portfolio will not only determine the future outcome of your investment but will also tell you how risky the product is and hence if it is appropriate for your appetite. For example, an equity scheme, which invests in large cap companies, could be safer than one that invests in mid or small cap companies.
The portfolio for debt instruments is determined on duration of securities. A high duration, high return investment is potentially volatile and risky; while a short duration investment Portfolio is less risky. This is where we come to the next parameter of comparison - Risk.RiskIn today's scenario, investments that generate meaningful post tax; post inflation returns have risks attached to them. These are market risk, credit risk, government policy risk etc. At this point one has to understand how much risk he is willing to take in order to generate higher return. The rule of thumb is that the more risk one is willing to take the better the returns potential.
The measurement for risk to return is known as Sharpe Ratio. The higher the value, the better the risk attached to the scheme is managed. A volatile investment can also be very risky. Thus this aspect must also be quantified. Standard deviation will help us understand the volatility of a scheme vis-�-vis its benchmark. Be aware a riskier investment is not always better and a sure fire way to generate superior returns.Performance comparisons
These are the most favored methods of investors and amongst the easiest. Performance numbers are available in plentiful. But performance is only measured in hindsight, and can never be guaranteed in the future. Also performance can only be compared across similar categories of funds.
For example, performance or return comparison between an equity scheme and a debt scheme should never be done. It must be kept in mind that comparison happens only between similar funds. A large cap fund should be compared with another large cap fund and not a mid cap fund. Thus compare apples to apples only.
Performance and return comparison should be conducted usually when one has decided on the above-mentioned factors like risk and product category.Fund management and institutional backing
Since trusting your hard earned savings to some one can never be easy, it is important to evaluate their money managing capabilities. The markets are a game of understanding numbers and involve immense skill to generate growth from these numbers.
Only a very capable person with a lot of experience can generate capital appreciation in today's confusing market swings while managing risk.Investment horizon
It is very important to determine investments based on one's time horizon viz equity typically being volatile should be considered for investment horizon of 1 to 3 years. While the short term debt schemes should be considered for investment horizons of up to 1 year.It is therefore important to invest with a fund house with a good track record. It is also important to give due weightage to the quality and track record of the spouses of the fund. After evaluating these parameters and choosing a scheme one can be reasonable sure that the investment they are going into is the right one.
At this point I would like to stress, that any of these parameters could only be a guiding star and not a guarantee for the future. Choosing an investment avenue is like getting into a marriage, so do it wisely. Happy Investing!
Sunday, October 28, 2007
Wednesday, October 24, 2007
know more about business incubators!
Business Incubators
Business incubators are business assistance programs that provide entrepreneurs with an inexpensive start-up environment and a range of administrative, consulting, and networking services. In essence these programs—which may be managed by economic development agencies, local governments, for-profit businesses, or colleges and universities—serve as homes for new companies. "They offer low-cost space, shared equipment, and the comradeship of fellow entrepreneurs," wrote Richard Steffens in Planning. "An incubator usually houses about a dozen tenants, who stay two to three years, then 'graduate' to commercial space. At their best, incubators help new firms create jobs and revive communities." Indeed, statistics indicate that incubator firms have a significantly greater chance of survival than do other start-up businesses. In addition, the world's increasingly technology-driven economy has spawned new wrinkles in the incubator concept in recent years, such as Internet incubators and incubator-like arrangements within existing companies.
Development of Incubators
The growth in the number of incubators across the United States has been traced to a wide variety of factors, including increased entrepreneurship, corporate downsizing, new technologies, increased involvement of educational institutions in technology transfer, and economic globalization. Early incubator programs first appeared in the Northeast in the late 1950s and early 1960s. But programs similar to today's versions did not arrive on the scene until the 1970s and early 1980s. The 1990s saw a surge in incubator creation as statistical and anecdotal evidence of their effectiveness—both for entrepreneurs and the incubators themselves—emerged. The Los Angeles Business Journal, for example, reported in 2000 that companies that launched in incubators remained in business five years later a startling 87 percent of the time, while only 20 percent of all new business startups reached the five-year mark. In the late 1990s, meanwhile, a growing number of for-profit Internet incubators were created in the United States to capitalize on the explosion in e-commerce.
Of those incubators in existence in the late 1990s, about 70 percent were maintained by economic development agencies or local government agencies. These organizations use incubators as a tool to boost regional economic growth or blunt the impact of big lay-offs and other bad economic news in the region. The remainder are operated by universities and colleges or for-profit businesses. These programs exist in a wide variety of demographic regions, from rural areas to urban settings.
Advantages of Incubators
Given the myriad advantages associated with membership in an incubator program, small business consultants often counsel their clients to at least investigate the possibility of securing a spot in one. Strengths of incubators include the following:
SHARED BASIC OPERATING COSTS. Tenants in a business incubator share a wide range of overhead costs, including utilities, office equipment, computer services, conference rooms, laboratories, and receptionist services. In addition, basic rent costs are usually below normal for the region in which the fledgling business is operating, which allows entrepreneurs to realize additional savings. It is worth noting, however, that incubators do not allow tenants to remain in the program forever; most lease agreements at incubator facilities run for three years, with some programs offering one or two one-year renewal options.
CONSULTING AND ADMINISTRATIVE ASSISTANCE.
Incubator managers and staff members can often provide insightful advice and/or information on a broad spectrum of business issues, from marketing to business expansion financing. Small business owners should remember that the people that are responsible for overseeing the incubator program are usually quite knowledgeable about various aspects of the business world. They are a resource that should be fully utilized.
ACCESS TO CAPITAL. Many business incubators can provide entrepreneurs with "access to the kind of early-stage capital that emerging companies desperately need," wrote Entrepreneur's David R. Evanson. "According to a recent survey of [National Business Incubation Association] members, 83 percent of incubator owners and directors provide access to seed capital. Seventy-six percent provide assistance with obtaining federal grants, 74 percent assist with preparing financial proposals, 60 percent can help obtain royalty financing, and 57 percent can lend a hand in obtaining purchase-order financing."
LEGITIMACY IN THE COMMUNITY. Many entrepreneurs have stated that when their start-up businesses are accepted into business incubator programs, the rewards include an aura of legitimacy and credibility among both vendors and customers. "The fact that a business has been accepted into an incubator offers due diligence value to potential investors," Adkins told Entrepreneur. "They have already passed an important litmus test by simply being there."
UNIVERSALITY OF INCUBATOR CONCEPT. One of the key advantages of incubators is that the concept works in all communities of all shapes, sizes, demographic segments, and industries. As Richard Steffens observed in Planning, "a particular strength of an incubator is its ability to aid companies that fulfill specific needs: technology transfer, revitalizing neighborhoods, creating minority jobs, among others." In many cases, the incubator naturally takes on some of the characteristics of the community in which it is located. For example, rural-based incubators may launch companies based on the agriculture present in the area. But whether based in a small town in the Midwest or a large urban area on the West Coast, proponents of incubator programs contend that the small business people in the community would know more about how to start and operate such businesses than major corporations that focus on mass production.
COMRADESHIP OF FELLOW ENTREPRENEURS.
Many small business owners that have launched successful ventures from incubators cite the presence of fellow entrepreneurs as a key element in their success. They note that by gathering entrepreneurs together under one roof, incubators create a dynamic wherein business owners can 1) provide encouragement to one another in their endeavors; 2) share information on business-related subjects; and 3) establish networks of communication that can serve them well for years to come. "Incubators provide psychological support for entrepreneurs, who are far more likely to persist as a result," stated Steffens. "This support is, perhaps, the incubator's unique place in economic development."
Factors to Weigh in Choosing an Incubator
Many incubators have been pivotal in nourishing small businesses to the point where they can make it on their own. But observers note that the programs are not fool-proof. Some small businesses fail despite their membership in such programs, and incubators themselves sometimes fold, crippled by any number of factors. "According to many incubator managers, the most common causes of failure are lack of sustained funding, lack of tenants, and inexperienced management," wrote Steffens. "A poorly run incubator or an underfinanced one will go under, as will any other small business." Entrepreneurs, then, need to recognize that some incubators are better suited to meet their needs than others. Considerations to weigh when choosing an incubator include the following:
Is it a True Incubator?—Some office building owners falsely advertise themselves as incubators in order to lure tenants. Entrepreneurs need to study the details of each offer to determine whether such claims are legitimate.
Length of Operation—"Incubators take time," said Steffens. "To get funding, incubator promoters and managers tend to promise all things to all people. Then, if early results are not promising, the supporters often panic. One manager told me that creation of an incubator typically takes two years from concept to opening, then two more years from opening to full occupancy."
Incubator Leadership—Many analysts contend that entrepreneurs can learn a great deal about the fundamental quality of an incubator program simply by studying the program's leadership. Is the incubator managed by people with backgrounds in business, or by general college or agency administrators? Can the managers provide long-term business plans that show how they intend to guide the incubator to financial independence?
Location—Does the incubator's setting adequately address your fledgling company's needs in terms of target market, transportation, competition, and future growth plans?
Financing—Is the incubator's financial base a reliable one, or is it on shaky ground?
Entrepreneurs interested in exploring the incubator concept can request information from several sources, including the Small Business Administration, area economic development agencies, area educational institutions, or the National Business Incubation Association.
Would-be small business owners should have a complete business plan in hand before applying for entrance into an incubator program. Most incubators maintain a stringent screening process to ensure that their resources are put to the best possible use.
Recent Incubator Innovations
INTERNET INCUBATORS. "Internet incubators—a for-profit variant of the old-time government- or academic-supported not-for-profit entities—are sprouting up like dandelions in summer," wrote Thea Singer in Inc. As with traditional incubators, Internet versions provide dot-com startups with office space, business information and advice, financial assistance (either directly or by connecting them to potential sources of seed money), and management, accounting, and other infrastructure services. According to Internet incubators, these kinds of assistance can provide entrepreneurs with essential tools to accelerate their all-important "speed to market" in the fast-paced Internet economy. "No longer can a great idea or concept for a company take years to develop," confirmed Jerry Brandt in Los Angeles Business Journal. "Trial and error and time to perfect a great idea will leave the entrepeneur in the dust watching another company or individual succeed…. In today's Internet economy [speed to market] is more than a [driving force], it is the difference between success and failure." The price of membership in an Internet incubator can be steep, however. In return for providing their various services and funding, incubators receive a percentage (anywhere from 5 to more than 50 percent) of the dot-com's equity.
Entrepreneurs who are considering membership in an Internet incubator should study the benefits and drawbacks closely before making a final decision. Potential other sources of funding and assistance should be explored, as well as the level of autonomy that is present in the program. In addition, entrepreneurs should examine whether their e-business is prepared to take advantage of the incubator's ability to accelerate the launch process. Analysts note that speed to market is of little benefit if you do not have a complete, focused business plan in place. Finally, entrepreneurs need to objectively weigh whether increased speed to market is worth giving up a piece of the company.
INTERNALIZED BUSINESS INCUBATORS. Another recent wrinkle in incubator creation has emerged in the corporate world in recent years. Weary of mass defections of valuable employees who decide to launch entrepreneurial ventures of their own, some companies have established business incubators within their own corporate structures. In these programs, employees can use the company's resources (including their already established name and reputation) to build and romote their own new business ideas. "The company will provide the management guidance, infrastructure, and financial support to 'incubate' these ventures," explained David Cuthill in Los Angeles Business Journal. "The outcome is a clear win-win. Existing companies stem the hemorrhaging of top talent to Internet start-ups, while profiting from the high multiples investors are willing to pay for a share in Internet ventures…. And entrepreneurial employees get the challenge—and the profits—of creating their own 'companies' with little of the risk they would face on their own."
Friday, October 19, 2007
Foreign exchange reserves
Foreign Exchange
Foreign exchange reserves (also called Forex reserves) in a strict sense are only the foreign currency deposits held by central banks and monetary authorities. However, the term foreign exchange reserves in popular usage commonly includes foreign exchange and gold, SDRs and IMF reserve position as this total figure is more readily available, however it is accurately deemed as official reserves or international reserves. These are assets of the central banks which are held in different reserve currencies such as the dollar, euro and yen, and which are used to back its liabilities, e.g. the local currency issued, and the various bank reserves deposited with the central bank, by the government or financial institutions.
History
Reserves were formerly held only in gold, as official gold reserves. But under the Bretton Woods system, the United States pegged the dollar to gold, and allowed convertibility of dollars to gold. This effectively made dollars appear as good as gold. The U.S. later abandoned the gold standard, but the dollar has remained relatively stable as a fiat currency, and it is still the most significant reserve currency. Central banks now typically hold large amounts of multiple currencies in reserve.
Purpose
In a non fixed exchange rate system, reserves allow a central bank to purchase the issued currency, exchanging its assets to reduce its liability. The purpose of reserves is to allow central banks an additional means to stabilise the issued currency from excessive volatility, and protect the monetary system from shock, such as from currency traders engaged in flipping. Large reserves are often seen as a strength, as it indicates the backing a currency has. Low or falling reserves may be indicative of an imminent bank run on the currency or default, such as in a currency crisis.
Central banks sometimes claim that holding large reserves is a security measure. This is true to the extent that a central bank can prop up its own currency by spending reserves. (This practice is essentially large-scale manipulation of the global currency market. Central banks have sometimes attempted this in the years since the 1971 collapse of the Bretton Woods system. A few times, multiple central banks have cooperated to attempt to manipulate exchange rates. It is unclear just how effective the practice is.) But often, very large reserves are not a hedge against inflation but rather a direct consequence of the opposite policy: the bank has purchased large amounts of foreign currency in order to keep its own currency relatively cheap.
Changes in reserves
The quantity of foreign exchange reserves can change as a central bank implements monetary policy. A central bank that implements a fixed exchange rate policy may face a situation where supply and demand would tend to push the value of the currency lower or higher (an increase in demand for the currency would tend to push its value higher, and a decrease lower). In a fixed exchange rate regime, these operations occur automatically, with the central bank clearing any excess demand or supply by purchasing or selling the foreign currency. Mixed exchange rate regimes ('dirty floats', target bands or similar variations) may require the use of foreign exchange operations (sterilized or unsterilized) to maintain the targeted exchange rate within the prescribed limits.
Foreign exchange operations that are unsterilized will cause an expansion or contraction in the amount of domestic currency in circulation, and hence directly affect monetary policy and inflation: "An exchange rate target cannot be independent of an inflation target. Countries that do not target a specific exchange rate are said to have a floating exchange rate, and allow the market to set the exchange rate; for countries with floating exchange rates, other instruments of monetary policy are generally preferred and they may limit the type and amount of foreign exchange interventions. Even those central banks that stricly limit foreign exchange interventions, however, often recognize that currency markets can be volatile and may intervene to counter disruptive short-term movements.
To maintain the same exchange rate if there is increased demand, the central bank can issue more of the domestic currency and purchase the foreign currency, which will increase the sum of foreign reserves. In this case, the currency's value is being held down; since (if there is no sterilization) the domestic money supply is increasing (money is being 'printed'), this may provoke domestic inflation (the value of the domestic currency falls relative to the value of goods and services).
To maintain the same exchange rate if there is decreased demand, the central bank can purchase the domestic currency using its foreign reserves, effectively removing the domestic currency from circulation; the total foreign exchange reserves will fall. If there is no sterilization, the domestic money supply is also falling, which will tend to restrain domestic inflation (the value of the domestic currency rises relative to the value of goods and services).
Since the amount of foreign reserves available to defend a weak currency (a currency in low demand) is limited, a foreign exchange crisis or devaluation could be the end result. For a currency in very high and rising demand, foreign exchange reserves can theoretically be continuously accumulated, although eventually the increased domestic money supply will result in inflation and reduce the demand for the domestic currency (as its value relative to goods and services falls). In practice, "Some central banks, through open market operations aimed at preventing their currency from appreciating, can at the same time build substantial reserves.
In practice, few central banks or currency regimes operate on such a simplistic level, and numerous other factors (domestic demand, production and productivity, imports and exports, relative prices of goods and services, etc) will affect the eventual outcome. As certain impacts (such as inflation) can take many months or even years to become evident, changes in foreign reserves and currency values in the short term may be quite large as different markets react to imperfect data.
Costs and benefitsForeign Exchange
Foreign exchange reserves (also called Forex reserves) in a strict sense are only the foreign currency deposits held by central banks and monetary authorities. However, the term foreign exchange reserves in popular usage commonly includes foreign exchange and gold, SDRs and IMF reserve position as this total figure is more readily available, however it is accurately deemed as official reserves or international reserves. These are assets of the central banks which are held in different reserve currencies such as the dollar, euro and yen, and which are used to back its liabilities, e.g. the local currency issued, and the various bank reserves deposited with the central bank, by the government or financial institutions.
History
Reserves were formerly held only in gold, as official gold reserves. But under the Bretton Woods system, the United States pegged the dollar to gold, and allowed convertibility of dollars to gold. This effectively made dollars appear as good as gold. The U.S. later abandoned the gold standard, but the dollar has remained relatively stable as a fiat currency, and it is still the most significant reserve currency. Central banks now typically hold large amounts of multiple currencies in reserve.
Purpose
In a non fixed exchange rate system, reserves allow a central bank to purchase the issued currency, exchanging its assets to reduce its liability. The purpose of reserves is to allow central banks an additional means to stabilise the issued currency from excessive volatility, and protect the monetary system from shock, such as from currency traders engaged in flipping. Large reserves are often seen as a strength, as it indicates the backing a currency has. Low or falling reserves may be indicative of an imminent bank run on the currency or default, such as in a currency crisis.
Central banks sometimes claim that holding large reserves is a security measure. This is true to the extent that a central bank can prop up its own currency by spending reserves. (This practice is essentially large-scale manipulation of the global currency market. Central banks have sometimes attempted this in the years since the 1971 collapse of the Bretton Woods system. A few times, multiple central banks have cooperated to attempt to manipulate exchange rates. It is unclear just how effective the practice is.) But often, very large reserves are not a hedge against inflation but rather a direct consequence of the opposite policy: the bank has purchased large amounts of foreign currency in order to keep its own currency relatively cheap.
Changes in reserves
The quantity of foreign exchange reserves can change as a central bank implements monetary policy. A central bank that implements a fixed exchange rate policy may face a situation where supply and demand would tend to push the value of the currency lower or higher (an increase in demand for the currency would tend to push its value higher, and a decrease lower). In a fixed exchange rate regime, these operations occur automatically, with the central bank clearing any excess demand or supply by purchasing or selling the foreign currency. Mixed exchange rate regimes ('dirty floats', target bands or similar variations) may require the use of foreign exchange operations (sterilized or unsterilized) to maintain the targeted exchange rate within the prescribed limits.
Foreign exchange operations that are unsterilized will cause an expansion or contraction in the amount of domestic currency in circulation, and hence directly affect monetary policy and inflation: "An exchange rate target cannot be independent of an inflation target. Countries that do not target a specific exchange rate are said to have a floating exchange rate, and allow the market to set the exchange rate; for countries with floating exchange rates, other instruments of monetary policy are generally preferred and they may limit the type and amount of foreign exchange interventions. Even those central banks that stricly limit foreign exchange interventions, however, often recognize that currency markets can be volatile and may intervene to counter disruptive short-term movements.
To maintain the same exchange rate if there is increased demand, the central bank can issue more of the domestic currency and purchase the foreign currency, which will increase the sum of foreign reserves. In this case, the currency's value is being held down; since (if there is no sterilization) the domestic money supply is increasing (money is being 'printed'), this may provoke domestic inflation (the value of the domestic currency falls relative to the value of goods and services).
To maintain the same exchange rate if there is decreased demand, the central bank can purchase the domestic currency using its foreign reserves, effectively removing the domestic currency from circulation; the total foreign exchange reserves will fall. If there is no sterilization, the domestic money supply is also falling, which will tend to restrain domestic inflation (the value of the domestic currency rises relative to the value of goods and services).
Since the amount of foreign reserves available to defend a weak currency (a currency in low demand) is limited, a foreign exchange crisis or devaluation could be the end result. For a currency in very high and rising demand, foreign exchange reserves can theoretically be continuously accumulated, although eventually the increased domestic money supply will result in inflation and reduce the demand for the domestic currency (as its value relative to goods and services falls). In practice, "Some central banks, through open market operations aimed at preventing their currency from appreciating, can at the same time build substantial reserves.
In practice, few central banks or currency regimes operate on such a simplistic level, and numerous other factors (domestic demand, production and productivity, imports and exports, relative prices of goods and services, etc) will affect the eventual outcome. As certain impacts (such as inflation) can take many months or even years to become evident, changes in foreign reserves and currency values in the short term may be quite large as different markets react to imperfect data.
On one hand, if a country desires to have a government-influenced exchange rate, then holding bigger reserves gives the country a bigger ability to manipulate the currency market. On the other hand, holding reserves does induce opportunity cost. The "quasi-fiscal costs" of holding reserves are the gap between the low-yield assets that returns managers typically hold, and the average cost of government debt in the country. In addition, many governments have suffered huge losses on the management of the reserves portfolio - all of which is ultimately fiscal. When there is a currency crisis and all reserves vanish, this is ultimately a fiscal cost. Even when there is no currency crisis, there can be a fiscal cost, as is taking place in 2005 and 2006 with China, which holds huge USD assets but the RMB has been continually appreciating.
Excess Reserves
Foreign exchange reserves are important indicators of ability to repay foreign debt and for currency defense, and are used to determine credit ratings of nations, however, other government funds that are counted as liquid assets that can be applied to liabilities in times of crisis include stabilization funds. If those were included, Norway and Persian Gulf States would rank higher on these lists, and UAE's $875 billion Abu Dhabi Investment Authority would be third after Japan and China. Singapore also has significant government funds including Temasek Holdings and GIC. India is also planning to create its own investment firm from its forex reserves.
Levels
Reserves of foreign exchange and gold in 2006
At the end of 2004, 66% of the identified official foreign exchange reserves in the world were held in United States dollars and 25% in euros [1].
Monetary Authorities with the largest foreign reserves in 2007.
Rank
Country/Monetary Authority
billion USD (end of month)
People's Republic of China
$1434 (September) [1]
Japan
$946 (September)
—
Eurozone
$453 (August)
Russia
$434 (October 12)
4
Republic of China (Taiwan)
$263 (September)
South Korea
$257 (September)
India
$251 (October 5)
Brazil
$162 (October 10)
Singapore
$152 (September)
Hong Kong
$141 (September)
Germany
$117 (August)
Note:
^ China updates its information quarterly.
^ Russia updates its information weekly and monthly.
^ India updates its information weekly.
^ Brazil updates its information Daily.
These few holders account for more than 50% of total world foreign currency reserves. The adequacy of the foreign exchange reserves is more often expressed not as an absolute level, but as a percentage of short-term foreign debt, money supply, or average monthly imports.
Balance of trade
The balance of trade encompasses the activity of exports and imports, like the work of this cargo ship going through the Panama Canal.
The balance of trade (or net exports, sometimes symbolized as NX) is the difference between the monetary value of exports and imports in an economy over a certain period of time. A positive balance of trade is known as a trade surplus and consists of exporting more than is imported; a negative balance of trade is known as a trade deficit or, informally, a trade gap. The balance of trade is sometimes divided into a goods and a services balance; especially in the United Kingdom the terms visible and invisible balance are used.
Definition
The balance of trade forms part of the current account, which also includes other transactions such as income from the international investment position as well as international aid. If the current account is in surplus, the country's net international asset position increases correspondingly. Equally, a deficit decreases the net international asset position.
The trade balance is identical to the difference between a country's output and its domestic demand (the difference between what goods a country produces and how many goods it buys from abroad; this does not include money re-spent on foreign stocks, nor does it factor the concept of importing goods to produce for the domestic market).
Measuring the balance of payments can be problematic because of problems with recording and collecting data. As an illustration of this problem, when official data for all the world's countries are added up, exports exceed imports by a few percent; it appears the world is running a positive balance of trade with itself. This cannot be true, because all transactions involve an equal credit or debit in the account of each nation. The discrepancy is widely believed to be explained by transactions intended to launder money or evade taxes, smuggling and other visibility problems. However, especially for developed countries, accuracy is likely to be good.
Factors that can affect the balance of trade figures include:
Prices of goods manufactured at home (influenced by the responsiveness of supply)
Exchange rates
Trade agreements or barriers
Other tax, tariff and trade measures
Business cycle at home or abroad.
The balance of trade is likely to differ across the business cycle. In export led growth (such as oil and early industrial goods), the balance of trade will improve during an economic expansion. However, with domestic demand led growth (as in the United States and Australia) the trade balance will worsen at the same stage in the business cycle.
Economic impact
Modern economists are split on the economic impact of the trade deficit with some viewing it as a loss in a fixed volume of trade and more radical Neoliberal voices who claim it is a sign of economic strength.
The traditional view opposes long run trade deficits and outsourcing for the sake of labor arbitrage to obtain cheap labor as an example of absolute advantage which does not produce mutual gain, and not an example of comparative advantage which does.
Neoliberal economists claim that trade deficits are beneficial, noting the correlation between increasing trade deficits and increasing GDP and employment . An expanding economy means increased demand for domestic and foreign products. This rising demand promotes domestic investment as both foreign and domestic businesses seek to capitalize on the growth in demand. As the rate of growth accelerates foreign credit sources have greater incentives to invest in a growing nation's capital. The greater net inflows from abroad, the greater the trade deficit. Thus, GDP growth can be correlated with a trade deficit.
Strong GDP growth economies such as the United Kingdom, Australia, Hong Kong and the United States run consistent trade deficits.
GDP growth may be due to excess borrowing to fund consumption and not an expansion of the base of an economy. Developed nations such as Canada, Japan, and Germany typically run trade surpluses. China also has a trade surplus. A higher savings rate generally corresponds with a trade surplus. In 2006, the United States has its lowest savings rate since 1933.Correspondingly, the United States has high trade deficits. The general decline of Great Britain is another example of the deleterious effects of long term trade deficits.
Some contend long term effects of the trade deficits are deleterious. Since the stagflation of the 1970s, the U.S. economy has been characterized by somewhat slower growth. In 1985, the U.S. began its growing trade deficit with China. In 2006, the primary economic concerns have centered around: high national debt ($9 trillion), high corporate debt ($9 trillion), high mortgage debt ($9 trillion), high unfunded Medicare liability ($30 trillion), high unfunded Social Security liability ($12 trillion), high external debt (amount owed to foreign lenders) and a serious deterioration in the United States net international investment position (NIIP) (-24% of GDP),high trade deficits, and a rise in illegal immigration. These issues have raised concerns among economists and unfunded liabilites were mentioned as a serious problem facing the United States in the President's 2006 State of the Union address.
Large imbalances may sometimes be a sign of underlying economic problems or rigidities. An example would be a situation where exchange rates have been fixed or pegged for political reasons at levels impeding a correction of a trade imbalance.
The trade deficit must be "financed" by foreign income or transfers, or by a capital account surplus. This includes inward foreign investment and capital purchases (stocks, bonds ect). An increase in net foreign liabilities tends to lead to an increase in the net outflow of income on international investments.
Those in favor of the trade deficit point to this financing as the source of the benefit. Instead of buying goods back, buyers in the receiving country send the money back in the form of capital. A firm in America sends dollars for Chinese toys, and the Chinese receivers use the money to buy stock in an American firm. Although this is a form of financing, it is not a debt on any party in America.
Such payments to foreigners have intergenerational effects: by shifting consumption over time, some generations may gain at the expense of others . However, a trade deficit may lead to higher consumption in the future if, for example, it is used to finance profitable domestic investment, which generates returns in excess of that paid on the net foreign liabilities (a situation that might arise if a country experiences an unexpected gain in productivity). Similarly, a surplus on the current account implies an increase in the net international investment position and the shifting of consumption to future rather than current generations.
However, trade imbalances are not always indicative of the smooth operation of the market given differences in international productivity and intertemporal consumption preferences. Trade deficits have often been associated with a loss of international competitiveness, or unsustainable 'booms' in domestic demand. Similarly, trade surpluses have been associated with policies that inefficiently bias a country's economic activity towards external demand, resulting in lower living standards. An example of an economy which has had a positive balance of payments was Japan in the 1990s. The positive balance was partly the result of protectionist measures that brought excessive profits to Japanese exporters
The balance of trade encompasses the activity of exports and imports, like the work of this cargo ship going through the Panama Canal.
The balance of trade (or net exports, sometimes symbolized as NX) is the difference between the monetary value of exports and imports in an economy over a certain period of time. A positive balance of trade is known as a trade surplus and consists of exporting more than is imported; a negative balance of trade is known as a trade deficit or, informally, a trade gap. The balance of trade is sometimes divided into a goods and a services balance; especially in the United Kingdom the terms visible and invisible balance are used.
Definition
The balance of trade forms part of the current account, which also includes other transactions such as income from the international investment position as well as international aid. If the current account is in surplus, the country's net international asset position increases correspondingly. Equally, a deficit decreases the net international asset position.
The trade balance is identical to the difference between a country's output and its domestic demand (the difference between what goods a country produces and how many goods it buys from abroad; this does not include money re-spent on foreign stocks, nor does it factor the concept of importing goods to produce for the domestic market).
Measuring the balance of payments can be problematic because of problems with recording and collecting data. As an illustration of this problem, when official data for all the world's countries are added up, exports exceed imports by a few percent; it appears the world is running a positive balance of trade with itself. This cannot be true, because all transactions involve an equal credit or debit in the account of each nation. The discrepancy is widely believed to be explained by transactions intended to launder money or evade taxes, smuggling and other visibility problems. However, especially for developed countries, accuracy is likely to be good.
Factors that can affect the balance of trade figures include:
Prices of goods manufactured at home (influenced by the responsiveness of supply)
Exchange rates
Trade agreements or barriers
Other tax, tariff and trade measures
Business cycle at home or abroad.
The balance of trade is likely to differ across the business cycle. In export led growth (such as oil and early industrial goods), the balance of trade will improve during an economic expansion. However, with domestic demand led growth (as in the United States and Australia) the trade balance will worsen at the same stage in the business cycle.
Economic impact
Modern economists are split on the economic impact of the trade deficit with some viewing it as a loss in a fixed volume of trade and more radical Neoliberal voices who claim it is a sign of economic strength.
The traditional view opposes long run trade deficits and outsourcing for the sake of labor arbitrage to obtain cheap labor as an example of absolute advantage which does not produce mutual gain, and not an example of comparative advantage which does.
Neoliberal economists claim that trade deficits are beneficial, noting the correlation between increasing trade deficits and increasing GDP and employment . An expanding economy means increased demand for domestic and foreign products. This rising demand promotes domestic investment as both foreign and domestic businesses seek to capitalize on the growth in demand. As the rate of growth accelerates foreign credit sources have greater incentives to invest in a growing nation's capital. The greater net inflows from abroad, the greater the trade deficit. Thus, GDP growth can be correlated with a trade deficit.
Strong GDP growth economies such as the United Kingdom, Australia, Hong Kong and the United States run consistent trade deficits.
GDP growth may be due to excess borrowing to fund consumption and not an expansion of the base of an economy. Developed nations such as Canada, Japan, and Germany typically run trade surpluses. China also has a trade surplus. A higher savings rate generally corresponds with a trade surplus. In 2006, the United States has its lowest savings rate since 1933.Correspondingly, the United States has high trade deficits. The general decline of Great Britain is another example of the deleterious effects of long term trade deficits.
Some contend long term effects of the trade deficits are deleterious. Since the stagflation of the 1970s, the U.S. economy has been characterized by somewhat slower growth. In 1985, the U.S. began its growing trade deficit with China. In 2006, the primary economic concerns have centered around: high national debt ($9 trillion), high corporate debt ($9 trillion), high mortgage debt ($9 trillion), high unfunded Medicare liability ($30 trillion), high unfunded Social Security liability ($12 trillion), high external debt (amount owed to foreign lenders) and a serious deterioration in the United States net international investment position (NIIP) (-24% of GDP),high trade deficits, and a rise in illegal immigration. These issues have raised concerns among economists and unfunded liabilites were mentioned as a serious problem facing the United States in the President's 2006 State of the Union address.
Large imbalances may sometimes be a sign of underlying economic problems or rigidities. An example would be a situation where exchange rates have been fixed or pegged for political reasons at levels impeding a correction of a trade imbalance.
The trade deficit must be "financed" by foreign income or transfers, or by a capital account surplus. This includes inward foreign investment and capital purchases (stocks, bonds ect). An increase in net foreign liabilities tends to lead to an increase in the net outflow of income on international investments.
Those in favor of the trade deficit point to this financing as the source of the benefit. Instead of buying goods back, buyers in the receiving country send the money back in the form of capital. A firm in America sends dollars for Chinese toys, and the Chinese receivers use the money to buy stock in an American firm. Although this is a form of financing, it is not a debt on any party in America.
Such payments to foreigners have intergenerational effects: by shifting consumption over time, some generations may gain at the expense of others . However, a trade deficit may lead to higher consumption in the future if, for example, it is used to finance profitable domestic investment, which generates returns in excess of that paid on the net foreign liabilities (a situation that might arise if a country experiences an unexpected gain in productivity). Similarly, a surplus on the current account implies an increase in the net international investment position and the shifting of consumption to future rather than current generations.
However, trade imbalances are not always indicative of the smooth operation of the market given differences in international productivity and intertemporal consumption preferences. Trade deficits have often been associated with a loss of international competitiveness, or unsustainable 'booms' in domestic demand. Similarly, trade surpluses have been associated with policies that inefficiently bias a country's economic activity towards external demand, resulting in lower living standards. An example of an economy which has had a positive balance of payments was Japan in the 1990s. The positive balance was partly the result of protectionist measures that brought excessive profits to Japanese exporters
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