1

MACROECONOMICS 2C: TRADE

AND MULTINATIONALS

Lecture 01: Chapter 1 &3

ECB2INTE
Emmanuel Mensah
e.b.mensah@uu.nl
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Outline for today

• Set up of the course
• Chapter 1
I. World Bank regions
II. Land area and population
III. Income
IV. Income per capita
V. International trade
VI. Conclusions
• Chapter 3
I. National income accounting
II. The Balance of Payments
III. Nations and firms
IV. Feldstein – Horioka puzzle
V. Conclusions
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Course information
• All information can be found on Blackboard
• Course manual
• Lecture slides
• Assignments and Data Simulation exercises
• Course announcements
• Course format
• In-person lectures on Mondays at 15:15 ICU Auditorium
• Tutorials on Tuesdays ( Tutorial 1 and 3) and Thursdays (Tutorial 2)
check schedule on MyTimetable
• Form groups for presentations and assignments during the first tutorial
• Course assessment
• Written exam (open questions; 60% of the final grade)
• Assignments, presentation and discussion (40% of the final grade)
Effort requirements
• Attendance (80%) and active participation in the tutorials
• Students present and discuss the weekly assignments.
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Missing the exam and retake

• What to do in case of no participation (e.g. due to illness)
• Inform the course coordinator via email about absence
• Apply to Board of Examiners for special provision
• Contact U.S.E. study advisor for more information on this(!)

• Course Repeaters
• Can follow the regular lectures;
• Cannot follow the regular tutorials;
• Do not have effort requirements;
• Will have the possibility to follow a special tutorial before the exam

Assessment for Course Repeaters

• Have a final exam (100%).
• Have a possibility for a supplementary or replacement exam if the
unrounded final grade is higher than or equal to 4.0.
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Textbook of the course

• van Marrewijk, C. International Trade
• Lectures closely follow book
• Assignments and data simulation
exercises for tutorials taken from the book
• Read selected chapters and assignments
of the week before you attend tutorials

• During discussions, individual evaluation

will take place, students will get passing grade if they
demonstrate they have read and understood the selected
chapters of the week.
• Engage with the book and exercises!
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CHAPTER 1 THE WORLD ECONOMY 6

Overview

Definition of international economics

World Bank regions
Land area and population
Income
Income per capita
International trade
Conclusions
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CHAPTER 1 THE WORLD ECONOMY 7

▪ What is international economics? It is concerned with the study

of economic interactions between countries and the international
institutions and policies that govern these interactions. A big part
of it is international trade

▪ International economics is divided into two main parts:

▪ International real analysis and international monetary analysis
▪ This course focuses on International real analysis such as trade
flows, FDI, etc

▪ A distinguishing feature is the general equilibrium approach

INTERNATIONAL TRADE CHARLES VAN MARREWIJK OXFORD UNIVERSITY PRESS

CHAPTER 1 THE WORLD ECONOMY 8

Overview
We present basic information on the world economy
Countries are ‘big’ measured by area, population, or income
Income can be measured as Gross Domestic Product or Gross
National Product; the difference is based on nationality of
ownership of production factors:
GDP + net receipts of factor income = GNP
For most countries the difference (GDP – GNP) is small (but not, for
example, for small oil-rich countries)
Using exchange rates to compare income levels in different countries
underestimates income in developing countries; it is better to use
Purchasing Power Parity (PPP) rates to correct for price differences.
Taxes on international trade can be an important source of revenue,
particularly for developing countries
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CHAPTER 1 THE WORLD ECONOMY 9

Overview
World Bank regions
Land area and population
Income
Income per capita
International trade
Conclusions
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CHAPTER 1 THE WORLD ECONOMY 10

TABLE 1-1 OVERVIEW OF THE WORLD BANK REGIONS

Code Region Example countries #

EAP East Asia and Pacific China, Japan, Indonesia, Australia 32
ECA Europe & Central Asia UK, Germany, France, Russia 49
LAC Latin America & Caribbean Brazil, Mexico, Argentina 35
MNA Middle East & North Africa Egypt, S Arabia, Algeria 21
NAM North America USA, Canada 3
SAS South Asia India, Pakistan, Bangladesh 8
SSA Sub-Sahara Africa Nigeria, S Africa, Ethiopia 48
Source: World Development Indicators online; # = number of countries
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CHAPTER 1 THE WORLD ECONOMY 11

Overview
World Bank regions
Land area and population
Income
Income per capita
International trade
Conclusions
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CHAPTER 1 THE WORLD ECONOMY 12

TABLE 1-2 TOP TEN COUNTRIES IN LAND AREA AND AGRICULTURAL LAND AREA, 2014

Rank Country Land area % Country Agricultural %

1 Russia 16,380 12.6 China 5,146 10.5
2 China 9,388 7.2 USA 4,087 8.3
3 USA 9,147 7.0 Australia 4,055 8.2
4 Canada 9,094 7.0 Brazil 2,756 5.6
5 Brazil 8,358 6.4 Russia 2,144 4.4
6 Australia 7,682 5.9 Kazakhstan 2,080 4.2
7 India 2,973 2.3 India 1,793 3.6
8 Argentina 2,737 2.1 S Arabia 1,734 3.5
9 Kazakhstan 2,700 2.1 Argentina 1,488 3.0
10 Algeria 2,382 1.8 Mongolia 1,134 2.3
World 129,936 100 World 49,152 100
Source: based on the most recently available information in the World Development Indicators online
for the period 2010-2014 and CIA World Fact book for missing data; land area and agricultural land
area in 1000 km2; % is relative to world total; 196 countries included.
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CHAPTER 1 THE WORLD ECONOMY 13

1.1a land area, 2014
SSA

Russia EAP
Canada
Kazakhstan ECA

LAC
USA
China MNA
Algeria NAM
India
Mexico SAS

Brazil Congo DR Indonesia

Australia

Argentina
bubbles are proportional to a country’s land area, located at the geographic centre
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CHAPTER 1 THE WORLD ECONOMY 14

1.1b agricultural land area, 2014 The Netherlands .. but .. 2nd largest agricultural
goods exporter in the world (America first NL second) SSA
Canada
EAP
Russia
ECA
Kazakhstan
LAC
USA
MNA
China
NAM
S Arabia
India
Mexico Sudan
SAS

Brazil Indonesia

Australia
S Africa

Argentina

bubbles are proportional to a country’s agricultural land area, located at the geographic centre
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CHAPTER 1 THE WORLD ECONOMY 15

TABLE 1-3 TOP FIFTEEN COUNTRIES BY POPULATION, 2014

Rank Country Population %

1 China 1,357 19.1
2 India 1,252 17.6
3 USA 316 4.4
4 Indonesia 250 3.5
5 Brazil 200 2.8
6 Pakistan 182 2.6
7 Nigeria 174 2.4
8 Bangladesh 157 2.2
9 Russia 143 2.0
10 Japan 127 1.8
11 Mexico 122 1.7
12 Philippines 98 1.4
13 Ethiopia 94 1.3
14 Vietnam 90 1.3
15 Egypt 82 1.2
World 7,124 100
Source: see Table 1-2; population in millions.
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CHAPTER 1 THE WORLD ECONOMY 16

1.2 population, 2014
SSA
Russia
EAP

ECA

LAC
Japan
USA China MNA

NAM
Egypt
Mexico India SAS
Philippines

Ethiopia
Nigeria

Brazil
Indonesia

bubbles are proportional to a country’s population, located at the geographic centre

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CHAPTER 1 THE WORLD ECONOMY 17

Overview
World Bank regions
Land area and population
Income
Income per capita
International trade
Conclusions
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CHAPTER 1 THE WORLD ECONOMY 18

1.3 GNI and GDP, 2014

10.000
In general small differences
between GNI and GDP

1.000
Gross Domestic product, log scale

Philippines
100 Puerto Rico

10

1
1 10 100 1.000 10.000
Gross National Income, log scale
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CHAPTER 1 THE WORLD ECONOMY 19

TABLE 1-4 TOP TEN COUNTRIES BY GDP AND GDP PPP, 2014

Rank Country GDP xrate % Country GDP PPP %

1 USA 16,768 22.2 USA 16,768 16.3
2 China 9,240 12.2 China 16,162 15.7
3 Japan 4,920 6.5 India 6,784 6.6
4 Germany 3,730 4.9 Japan 4,613 4.5
5 France 2,806 3.7 Germany 3,539 3.4
6 UK 2,679 3.5 Russia 3,623 3.5
7 Brazil 2,246 3.0 Brazil 3,013 2.9
8 Italy 2,150 2.8 France 2,475 2.4
9 Russia 2,097 2.8 UK 2,453 2.4
10 India 1,875 2.5 Indonesia 2,389 2.3
World 75,628 100 World 102,762 100
Source: Table 1-2; GDP and GDP PPP in billion current USD; xrate = exchange rate; 196 countries.
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CHAPTER 1 THE WORLD ECONOMY 20

1.4a GDP at exchange rates, 2014 SSA

EAP
Germany Russia
UK ECA
France LAC
USA
China MNA
Japan
NAM
India
Mexico SAS

Nigeria

Brazil

Australia

bubbles are proportional to a country’s GDP, exchange rate, located at the geographic centre
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CHAPTER 1 THE WORLD ECONOMY 21

1.4b GDP PPP, 2014 PPP income rises for developing countries SSA

EAP
Germany Russia
UK
ECA
S Korea
France
LAC
USA
China MNA
Japan
NAM
S Arabia India
Mexico SAS

Nigeria

Brazil Indonesia

S Africa Australia

bubbles are proportional to a country’s GDP PPP, located at the geographic centre
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CHAPTER 1 THE WORLD ECONOMY 22

• Using exchange rates to compare income levels in different

countries underestimates income in developing countries; it is
better to use Purchasing Power Parity (PPP) rates to correct for
price differences.

• Exchange rate reflects the price of tradable goods and services but
there are nontradable goods and services that are cheaper in
developing countries. Eg, compare the price of haircut in India and
Netherlands. PPP reflects price of both tradable and nontradable
goods and services
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CHAPTER 1 THE WORLD ECONOMY 23

Overview
World Bank regions
Land area and population
Income
Income per capita
International trade
Conclusions
INTERNATIONAL TRADE CHARLES VAN MARREWIJK OXFORD UNIVERSITY PRESS

CHAPTER 1 THE WORLD ECONOMY 24

TABLE 1-5 TOP TEN RICH AND POOR COUNTRIES BY INCOME PER CAPITA, 2014

Rank Rich country GDP PPP % Poor country GDP PPP %

1 Macao 138,025 957 Somalia 544 3.8
2 Qatar 127,562 884 C African Rep 584 4.1
3 Luxembourg 88,850 616 Burundi 747 5.2
4 Kuwait 79,471 551 Malawi 755 5.2
5 Singapore 76,237 528 Congo DR 783 5.4
6 Brunei 69,474 482 Liberia 850 5.9
7 Norway 62,411 433 Niger 887 6.1
8 Un Arab Em 56,187 389 Mozambique 1,070 7.4
9 Switzerland 54,993 381 Eritrea 1,157 8.0
10 S Arabia 52,068 361 Guinea 1,213 8.4
World 14,426 100 World 14,426 100
Source: see Table 1-2; GDP PPP in current USD; 196 countries.
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CHAPTER 1 THE WORLD ECONOMY 25

Overview
World Bank regions
Land area and population
Income
Income per capita
International trade
Conclusions
INTERNATIONAL TRADE CHARLES VAN MARREWIJK OXFORD UNIVERSITY PRESS

CHAPTER 1 THE WORLD ECONOMY 26

TABLE 1-6 TOP FIFTEEN EXPORTING COUNTRIES BY GOODS AND SERVICES, 2013

Rank Country Export goods % Country Export services %

1 China 2,148 11.6 USA 687 14.5
2 USA 1,593 8.6 UK 298 6.3
3 Germany 1,440 7.8 Germany 261 5.5
4 Japan 695 3.7 France 255 5.4
5 S Korea 617 3.3 China 215 4.5
6 France 581 3.1 India 149 3.1
7 Netherlands 551 3.0 Spain 145 3.1
8 Russia 523 2.8 Japan 135 2.8
9 Hong Kong 509 2.7 Singapore 130 2.7
10 Italy 502 2.7 Ireland 118 2.5
11 UK 477 2.6 Netherlands 117 2.5
12 Canada 465 2.5 Belgium 114 2.4
13 Singapore 438 2.4 Italy 113 2.4
14 Mexico 381 2.1 Hong Kong 105 2.2
15 Switzerland 379 2.0 S Korea 102 2.1
World 18,552 100 World 4,754 100
Source: see Table 1-2; values in billion current USD; based on BoP items for goods and services.
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CHAPTER 1 THE WORLD ECONOMY 27

Bahamas 56

St. Lucia 48

Madagascar 41

Cote d'Ivoire 39

Antigua & B 36

Botswana 34

Liberia 33

Ethiopia 30

Maldives 28
1.5 taxes on international trade;
Grenada 27
% of government revenue, 2013
Russia 26
Can be substantial part
C African R 25
of government revenue,
Bangladesh 25
particularly for
Benin 23
developing countries
Belize 22

0 10 20 30 40 50 60
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CHAPTER 1 THE WORLD ECONOMY 28

1.6 exports and imports of goods, 2014

10.000 USA
import value; USD billion, log scale

Japan Germany

1.000
China
ship
stores
and 100
bunkers Netherlands

Qatar
10

1
0 0 1 10 100 1.000 10.000
Deviations can be substantial; imports
0
larger than exports for developing countries
(foreign aid)
export value; USD billion, log scale
0
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CHAPTER 1 THE WORLD ECONOMY 29

Hong Kong 230

Luxembourg 203

Singapore 191

Maldives 111

Macao 107

Ireland 105

Un Arab Em 98 1.7 exports of goods and

services; % of GDP, 2013
Malta 94

Slovak Republic 93 Trade is value

Hungary 89 measure; income
Eq Guinea 88 is value-added
Estonia 86 measure; there is
Vietnam 84 no upper limit
Netherlands 83

Belgium 83

0 50 100 150 200 250

 INTERNATIONAL TRADE CHARLES VAN MARREWIJK OXFORD UNIVERSITY PRESS

CHAPTER 1 THE WORLD ECONOMY 30

Overview
World Bank regions
Land area and population
Income
Income per capita
International trade
Conclusions
INTERNATIONAL TRADE CHARLES VAN MARREWIJK OXFORD UNIVERSITY PRESS

CHAPTER 1 THE WORLD ECONOMY 31

Conclusion
Large countries land: Russia, China, Canada, USA
Large countries population: China, India
Large countries income: USA, Japan, Germany, UK, France
Large countries income PPP: USA, China, Japan, India
Price differences (at exchange rates) between countries can be large
for non-traded goods (no arbitrage opportunities)
Deviations GDP – GNP relatively small for most countries
Deviations Exports – Imports can be relatively large
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CHAPTER 3 THE BALANCE OF PAYMENTS 32

Objectives
National income accounting
The Balance of Payments
Nations and firms
Feldstein – Horioka puzzle
Conclusions
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CHAPTER 3 THE BALANCE OF PAYMENTS 33

Objectives
To know the main principles of national income accounting.
To understand why savings are equal to investments in a closed economy
and how their difference is reflected in the current account balance for an
open economy.
To know that a surplus in the current account is a net capital & financial
outflow.
To understand that private savings can be used for either domestic
investment, acquiring foreign wealth, or purchasing new government debt.
To understand the difficulties of comparing the economic power of firms
with the economic power of countries.
To know the Feldstein – Horioka puzzle and its relation to capital market
integration.
To know the difference between endogenous and exogenous variables and
to understand the basic econometrics problems with running a regression to
test a model.
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CHAPTER 3 THE BALANCE OF PAYMENTS 34

Objectives
National income accounting
The Balance of Payments
Nations and firms
Feldstein – Horioka puzzle
Conclusions
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CHAPTER 3 THE BALANCE OF PAYMENTS 35

National income accounting

Y – output; the total value of all goods and services produced in an
economy.
C – consumption of goods and services by households.
I – investments by firms.
G – government expenditure
In a closed economy: Y = C+I+G
S – savings; output saved, not spent on consumption or government
spending: S = Y-C-G
In a closed economy savings = investment: S = I
EX – exports of goods and services
IM – imports of goods and services
In an open economy: Y = C+I+G+(EX-IM)
Therefore: S-I = (EX-IM) change in net wealth = current account balance
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CHAPTER 3 THE BALANCE OF PAYMENTS 36

15 3.2 European Union – 28 income components, 2015
14,6

10

8,3

5,9
6,4
5

2,9 3,0

0
Y C I G X M
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CHAPTER 3 THE BALANCE OF PAYMENTS 37

Objectives
National income accounting
The Balance of Payments
Nations and firms
Feldstein – Horioka puzzle
Conclusions
INTERNATIONAL TRADE CHARLES VAN MARREWIJK OXFORD UNIVERSITY PRESS

CHAPTER 3 THE BALANCE OF PAYMENTS 38

The balance of payments 3.3 the balance of payments

Current account
Goods
Trade balance
Services
Income
Current transfers
Capital and financial account
Capital account
Financial account
Direct investment
Portfolio investment
Other investment
Reserve assets
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CHAPTER 3 THE BALANCE OF PAYMENTS 39

Accounting identities
By definition the BoP is equal to zero:
𝑐𝑢𝑟𝑟𝑒𝑛𝑡 𝑎𝑐𝑐𝑜𝑢𝑛𝑡 𝑏𝑎𝑙𝑎𝑛𝑐𝑒 + 𝑐𝑎𝑝𝑖𝑡𝑎𝑙 𝑎𝑐𝑐𝑜𝑢𝑛𝑡 𝑏𝑎𝑙𝑎𝑛𝑐𝑒 = 0
This implies that net exports (surplus on the current account) have to be
accompanied by a capital outflow (deficit on the capital account), while net
imports go together with a capital inflow
𝑠𝑢𝑟𝑝𝑙𝑢𝑠 𝑐𝑢𝑟𝑟𝑒𝑛𝑡 𝑎𝑐𝑐𝑜𝑢𝑛𝑡 ⇔ 𝑛𝑒𝑡 𝑐𝑎𝑝𝑖𝑡𝑎𝑙 𝑜𝑢𝑡𝑓𝑙𝑜𝑤
We can thus use the current account balance as a good indicator for net
capital flows
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CHAPTER 3 THE BALANCE OF PAYMENTS 40

3.4 current account balance (% of GDP); selected countries, 2005-2014 11,0
10,0
China Netherlands
9

0
2005 2006 2007 2008 2009 2010 2011 2012 2013 2014

USA
-5,8

-7,5 Australia
-9
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CHAPTER 3 THE BALANCE OF PAYMENTS 41

3.5 the Louisiana territory relative to the present continental USA

Canada

United States Louisiana United States

of America Territory of America

New
Mexico Orleans
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CHAPTER 3 THE BALANCE OF PAYMENTS 42

Objectives
National income accounting
The Balance of Payments
Nations and firms
Feldstein – Horioka puzzle
Conclusions
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CHAPTER 3 THE BALANCE OF PAYMENTS 43

Nations and Firms: a classic mistake

Large multinational firms can have significant economic power
In 2010, for example, Walmart was number 1 on the Fortune Global 500 list with
firm sales of $408 billion
This is almost the same as the total GDP of Sweden ($406 billion)
So is the firm Walmart as powerful as the nation Sweden?
No! because sales is a value measure and GDP is a value-added measure
Walmart's profits were $14.3 billion, which is the same as Honduras GDP
Moreover, firms can have economic power (and may abuse this power), but they do
not have the same abilities as sovereign nation states (to impose taxes, pass laws,
organize police, justice, and defence systems, and so on)
TABLE 3-1 COUNTRY GDP COMPARED TO FIRM SALES AND PROFITS (USD BILLION)

Country GDP Firm sales Firm profits

Sweden: 406 Walmart (1): 408 Walmart (1): 14.3
Honduras: 14.3 Dai Nippon Printing (500): 17 Dai Nippon Printing (500): 0.3
Source: Brakman et al. (2013); based on Fortune Global 500 and World Development Indicators.
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CHAPTER 3 THE BALANCE OF PAYMENTS 44

3.6 basic econometrics: observations and regression line

12

observations
variable

objective: draw straight line such that the sum of distance

from observations (dots) to straight line is 'minimized'

0
0 variable 10
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CHAPTER 3 THE BALANCE OF PAYMENTS 45

Objectives
National income accounting
The Balance of Payments
Nations and firms
Feldstein – Horioka puzzle
Conclusions
 INTERNATIONAL TRADE CHARLES VAN MARREWIJK OXFORD UNIVERSITY PRESS

CHAPTER 3 THE BALANCE OF PAYMENTS 46

Feldstein – Horioka puzzle

International capital mobility and financial integration implies S≠I
National saving is not perfectly correlated with national investment
Based on this observation Feldstein and Horioka (1980) measured the
correlation between investment and saving to determine the degree of
capital mobility
𝐼 𝑆
= 𝛼0 + 𝛼1 , low 𝛼1 indicates low correlation, implies higher degree of
𝑌 𝑌
international capital mobility
However, Feldstein-Horioka (1980) found that correlation between S and I is
typically high
This suggests that there is only a moderate degree of international capital
mobility. This finding is puzzling because it is in contrast to popular
conviction that capital markets have become highly integrated
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CHAPTER 3 THE BALANCE OF PAYMENTS 47

TABLE 3-2 THE FELDSTEIN – HORIOKA TEST

Period 𝛼0 𝛼1 explained variance (𝑅 2 )

1960-64 7.02 (1.50) 0.70 (3.75) 0.50
1965-69 8.78 (2.07) 0.65 (3.90) 0.50
1970-74 5.93 (1.96) 0.74 (6.62) 0.74
1975-79 6.47 (1.45) 0.78 (4.17) 0.54
1980-84 12.17 (4.36) 0.48 (3.81) 0.49
1985-89 10.41 (3.91) 0.54 (4.57) 0.58
1990-94 10.26 (5.88) 0.53 (6.46) 0.74
1995-97 7.83 (2.93) 0.56 (4.74) 0.58
Source: Ostrup (2002) based on OECD National Accounts; t-statistics between brackets; for the
test: see equation 3-11.
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CHAPTER 3 THE BALANCE OF PAYMENTS 48

Objectives
National income accounting
The Balance of Payments
Nations and firms
Feldstein – Horioka puzzle
Conclusions
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CHAPTER 3 THE BALANCE OF PAYMENTS 49

Conclusions
Income accounting identities are useful for organizing our thoughts and
avoiding mistakes
The balance of payments records a country's transactions with the rest of
the world; it consists of the current account and the capital & financial
account
A surplus on the current account implies a capital outflow; a deficit on the
current account implies a capital inflow
Firms can be economically powerful, but in many aspects are not
comparable to sovereign nation states
The correlation between domestic saving and domestic investment is high
for most countries, despite rising international capital mobility (Feldstein –
Horioka puzzle)