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Some Important Economic Terms

Fiscal Policy

Fiscal policy pertains to public revenue (tax and non-tax sources of revenue) and Public Expenditure (Revenue Expenditure and Capital Expenditure). How and from which sources public revenue would be mobilized is one concern of the fiscal policy. The second concern how public expenditure would be allocated to different heads. Public expenditure of recurring nature is called revenue expenditure. It may be considered governments consumption expenditure whereas capital expenditure is expenditure that creates assets. Fiscal policy is kept expansionary in case economy is facing recession and it is kept contractionary if economy is facing inflation. The two prime objectives of the fiscal policy are: growth and price stability. The secondary goals may include capital formation and equity. Fiscal policy can be distinguished from monetary policy, in that fiscal policy deals with taxation and government spending and is often administered by an executive under laws of a legislature. Monetary policy, on the other hand, deals with the money supply and interest rates and is often administered by a central bank.

Fiscal deficit

The total deficit (which is often called the fiscal deficit or just the ‘deficit’) is the primary deficit plus interest payments on the debt. The difference between total revenue and total expenditure of the government is termed as fiscal deficit. It is an indication of the total borrowings needed by the government. While calculating the total revenue, borrowings are not included. The gross fiscal deficit (GFD) is the excess of total expenditure including loans net of recovery over revenue receipts (including external grants) and non-debt capital receipts. The net fiscal deficit is the gross fiscal deficit less net lending of the Central government. Generally fiscal deficit takes place either due to revenue deficit or a major hike in capital expenditure. Capital expenditure is incurred to create long-term assets such as factories, buildings and other development.

We can also differentiate between Gross Fiscal Deficit and Net Fiscal Deficit. The gross fiscal deficit (GFD) is the excess of total expenditure including loans net of recovery over revenue receipts (including external grants) and non-debt capital receipts. The net fiscal deficit is the gross fiscal deficit less netlending of the Central government.

Dumping

Dumping is a term used in the context of international trade. It’s when a country or company exports a product at a price that is lower in the foreign importing market than the price in the exporter’s domestic market. Because dumping typically involves substantial export volumes of a product, it often endangers the financial viability of the product’s manufacturers or producers in the importing nation.

Depreciation and Devaluation

Both the terms are related to fall in the purchasing capacity of a currency vis-à-vis other currencies. Depreciation occurs when the forces of supply and demand cause the value of their currency to drop. By contrast, devaluation occurs only in countries that do not allow their exchange rates to float. These countries’ governments control the official value of their currency. Thus depreciation takes place due to the invisible market forces- demand and supply of a currency vis-a-cis other currencies. Devaluation is a deliberate decision by the central bank of country to reduce or decrease the value of a currency. Thus depreciation takes place in case of a floating exchange rate under the influence of market forces. Devaluation, however, is administered or regulated exchange rate by the central bank of country. Even in floating exchange rate, the central banks intervene by supplying or absorbing foreign currency to settle the domestic currency’s exchange rate. This is called devaluation.

Basel Committee

The Basel Committee on Banking Supervision (BCBS) is the primary global standard setter for the prudential regulation of banks and provides a forum for regular cooperation on banking supervisory matters. Its 45 members comprise central banks and bank supervisors from 28 jurisdictions. BASEL 1 Norms. Introduced in 1988. Started capital measurement system called Basel capital accord also called Basel 1. The minimum capital requirement was fixed at 8% of risk-weighted assets (RWA). Basel II is the second of the Basel Accords, (now extended and partially superseded by Basel III), which are recommendations on banking laws and regulations issued by the Basel Committee on Banking Supervision. The Basel II Accord was published initially in June 2004 and was intended to amend international banking standards that controlled how much capital banks were required to hold to guard against the financial and operational risks banks face. These regulations aimed to ensure that the more significant the risk a bank is exposed to, the greater the amount of capital the bank needs to hold to safeguard its solvency and overall economic stability. Basel II attempted to accomplish this by establishing risk and capital management requirements to ensure that a bank has adequate capital for the risk the bank exposes itself to through its lending, investment and trading activities. One focus was to maintain sufficient consistency of regulations so to limit competitive inequality amongst internationally active banks. Basel II was implemented in the years prior to 2008, and was only to be implemented in early 2008 in most major economies; that year’s Financial crisis intervened before Basel II could become fully effective. As Basel III was negotiated, the crisis was top of mind and accordingly more stringent standards were contemplated and quickly adopted in some key countries including in Europe and the US. Basel III (or the Third Basel Accord or Basel Standards) is a global, voluntary regulatory framework on bank capital adequacy, stress testing, and market liquidity risk. This third installment of the Basel Accords was developed in response to the deficiencies in financial regulation revealed by the financial crisis of 2007–08. It is intended to strengthen bank capital requirements by increasing bank liquidity and decreasing bank leverage.

Basel III was agreed upon by the members of the Basel Committee on Banking Supervision in November 2010, and was scheduled to be introduced from 2013 until 2015; however, implementation was extended repeatedly to 31 March 2019 and then again until 1 January 2022.

Main Features of Basel 3

Capital requirements- The original Basel III rule from 2010 required banks to fund themselves with 4.5% of common equity (up from 2% in Basel II) of risk-weighted assets (RWAs). Since 2015, a minimum Common Equity Tier 1 (CET1) ratio of 4.5% must be maintained at all times by the bank. The minimum Tier 1 capital increases from 4% in Basel II to 6%, applicable in 2015, over RWAs. This 6% is composed of 4.5% of CET1, plus an extra 1.5% of Additional Tier 1 (AT1).

Capital Buffers-Furthermore, Basel III introduced two additional capital buffers:

A mandatory “capital conservation buffer”, equivalent to 2.5% of risk-weighted assets. Considering the 4.5% CET1 capital ratio required, banks have to hold a total of 7% CET1 capital ratio, from 2019 onwards. A “discretionary counter-cyclical buffer”, allowing national regulators to require up to an additional 2.5% of capital during periods of high credit growth. The level of this buffer ranges between 0% and 2.5% of RWA and must be met by CET1 capital.

Leverage ratio-Basel III introduced a minimum “leverage ratio”. This is a non-risk-based leverage ratio and is calculated by dividing Tier 1 capital by the bank’s average total consolidated assets (sum of the exposures of all assets and non-balance sheet items). The banks are expected to maintain a leverage ratio in excess of 3% under Basel III.

Liquidity requirements- Basel III introduced two required liquidity ratios.The “Liquidity Coverage Ratio” was supposed to require a bank to hold sufficient high-quality liquid assets to cover its total net outflows over 30 days. The Net Stable Funding Ratio was to require the available amount of stable funding to exceed the required amount of stable funding over a one-year period of extended stress.

Purchasing Power parity

One popular macroeconomic analysis metric to compare economic productivity and standards of living between countries is purchasing power parity (PPP). PPP is an economic theory that compares different countries’ currencies through a “basket of goods” approach. According to this concept, two currencies are in equilibrium—known as the currencies being at par—when a basket of goods is priced the same in both countries, taking into account the exchange rates.

Sanitary and phyto sanitary Standards

The terms pertain to WTO provisions. The Agreement on the Application of Sanitary and Phytosanitary Measures is one of the final documents approved at the conclusion of the Uruguay Round of the Multilateral Trade Negotiations. It applies to all sanitary (relating to animals) and phytosanitary (relating to plants) (SPS) measures that may have a direct or indirect impact on international trade. The SPS agreement includes a series of understandings (trade disciplines) on how SPS measures will be established and used by countries when they establish, revise, or apply their domestic laws and regulations. Countries agree to base their SPS standards on science, and as guidance for their actions, the agreement encourages countries to use standards set by international standard setting organizations. The SPS agreement seeks to ensure that SPS measures will not arbitrarily or unjustifiably discriminate against trade of certain other members nor be used to disguise trade restrictions. In this SPS agreement, countries maintain the sovereign right to provide the level of health protection they deem appropriate, but agree that this right will not be misused for protectionist purposes nor result in unnecessary trade barriers. A rule of equivalency rather than equality applies to the use of SPS measures. The 2012 classification of non-tariff measures (NTMs) developed by the Multi-Agency Support Team (MAST), a working group of eight international organisations, classifies SPS measures as one of 16 non-tariff measure (NTM)chapters.

Non –Tariff barriers

A nontariff barrier is a way to restrict trade using trade barriers in a form other than a tariff. Nontariff barriers include quotas, embargoes, sanctions, and levies. As part of their political or economic strategy, large developed countries frequently use nontariff barriers to control the amount of trade they conduct with other countries.

Trade Deficit

A trade deficit is an economic measure of international trade in which a country’s imports exceed its exports. A trade deficit represents an outflow of domestic currency to foreign markets. It is also referred to as a negative balance of trade (BOT).

Trade Deficit = Total Value of Imports – Total Value of Exports

Current Account Deficit

The current account deficit is a measurement of a country’s trade where the value of the goods and services it imports exceeds the value of the products it exports. The current account includes net income, such as interest and dividends, and transfers, such as foreign aid, although these components make up only a small percentage of the total current account. The current account represents a country’s foreign transactions and, like the capital account, is a component of a country’s balance of payments (BOP).

Hellicopter Money

Helicopter money is a theoretical and unorthodoxmonetary policy tool that central banks use to stimulate economies. Economist Milton Friedman introduced the framework for helicopter money in 1969, but former Federal Reserve Chairman Ben Bernanke popularized it in 2002. Central banks across the globe were struggling to spur economic growth in 2016. They had used nearly all their tools to attempt to spark economic growth, including negative interest rates and stimulus programs that buy bonds every month. The Bank of Japan and the European Central Bank cut their interest rates into negative territory, attempting to stop banks from hoarding money and encouraging lending to consumers to support growth. The International Monetary Fund (IMF) warned of fragile global macroeconomic growth, which could lead to turbulence in the global financial markets. Consequently, central banks ended up looking for new ways to spark economic growth, such as “helicopter money,” which provided an alternative to quantitative easing (QE). Helicopter money involves the central bank or central government supplying large amounts of money to the public, as if the money was being distributed or scattered from a helicopter. Contrary to the concept of using helicopter money, central banks use quantitative easing to increase the money supply and lower interest rates by purchasing government or other financial securities from the market to spark economic growth. Unlike with helicopter money, which involves the distribution of printed money to the public, central banks use quantitative easing to create money and then purchase assets using the printed money. QE does not have a direct impact on the public, while helicopter money is made directly available to consumers to increase consumer spending.

SDRs

The SDR is an international reserve asset, created by the IMF in 1969 to supplement its member countries’ official reserves. So far SDR 204.2 billion (equivalent to about US$291 billion) have been allocated to members, including SDR 182.6 billion allocated in 2009 in the wake of the global financial crisis. The value of the SDR is based on a basket of five currencies—the U.S. dollar, the euro, the Chinese renminbi, the Japanese yen, and the British pound sterling. It is an accounting creation, so it is also called “paper gold.”

The SDR was created as a supplementary international reserve asset in the context of the Bretton Woods fixed exchange rate system. The collapse of Bretton Woods system in 1973 and the shift of major currencies to floating exchange rate regimes lessened the reliance on the SDR as a global reserve asset. Nonetheless, SDR allocations can play a role in providing liquidity and supplementing member countries’ official reserves, as was the case with the 2009 allocations totaling SDR 182.6 billion to IMF members amid the global financial crisis.

The SDR serves as the unit of account of the IMF and some other international organizations.

The SDR is neither a currency nor a claim on the IMF. Rather, it is a potential claim on the freely usable currencies of IMF members. SDRs can be exchanged for these currencies.

The SDR was initially defined as equivalent to 0.888671 grams of fine gold—which, at the time, was also equivalent to one U.S. dollar. After the collapse of the Bretton Woods system, the SDR was redefined as a basket of currencies.

The SDR basket is reviewed every five years, or earlier if warranted, to ensure that the SDR reflects the relative importance of currencies in the world’s trading and financial systems. The reviews cover the key elements of the SDR method of valuation, including criteria and indicators used in selecting SDR basket currencies and the initial currency weights used in determining the amounts (number of units) of each currency in the SDR basket. These currency amounts remain fixed over the five-year SDR valuation period but the actual weights of currencies in the basket fluctuate as cross-exchange rates among the basket currencies move. The value of the SDR is determined daily based on market exchange rates. The reviews are also used to assess the appropriateness of the financial instruments comprising the SDR interest rate (SDRi) basket.

During the last review concluded in November 2015, the Board decided that the Chinese renminbi (RMB) met the criteria for inclusion in the SDR basket. Following this decision, the Chinese RMB joined the US dollar, euro, Japanese yen, and British pound sterling in the SDR basket, effective October 1, 2016.

Extended Fund Facility

The Extended Fund Facility is lending facility of the Fund of the IMF and it was established in 1974 to help countries address medium- and longer-term balance of payments problems.

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