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Introduction to Economics
International Finance
Distribution of Income
Recession began in April, 2001
Employment in Millions,Seasonally adjusted
Source:http://www.dismal.com/ The Dismal Scientist’s Site
What is the Greatest Threat to International Stabilty?
• Political: Terrorism
• Economic: International Monetary Crisis– cause: speculative bubble in high growth rate
economies– trigger: currency speculators trying to destabilize
the currency– problem: capital flight– target country defense: sufficient foreign currency
reserves– international defense: International Monetary Fund
loans
An Example of an International Financial Crises
• East Asian Crisis
Thailand in 1997• Production down
– Toyota shuts down 2 large factories in Bangkok
• Banks hold bad loans– speculation in golf courses, condos, high rises
• West worries: potential Intl. financial crisis
• International Monetary Fund: bailout loans– Indonesia: $10 B
• US Treasury pledges $3B
– Thailand: $22 B– Philippines: $1B– South Korea: $40B
source:source:Business WeekBusiness Week11-17-9711-17-97
Problems
• Potential instability is associated with bad investments in growing countries
• trigger could be speculation against a currency if authorities hold insufficient currency reserves
• Only international mechanism for stabilization is cooperation among countries and central banks
Changing Scenario in AsiaChanging Scenario in Asia
Source: Source: Economic Report of the President ,Economic Report of the President ,19971997
Four Tigers: Hong Kong, Taiwan,Four Tigers: Hong Kong, Taiwan,Singapore, South KoreaSingapore, South Korea
Thailand and Neighbors: China,Thailand and Neighbors: China,Malaysia, IndonesiaMalaysia, Indonesia
source: CIAsource: CIA
Thailand Exchange Rate: Bahts Per Dollar, 1981-1997 .
0
5
10
15
20
25
30
35
40
19
81
.01
19
81
.11
19
82
.09
19
83
.07
19
84
.05
19
85
.03
19
86
.01
19
86
.11
19
87
.09
19
88
.07
19
89
.05
19
90
.03
19
91
.01
19
91
.11
19
92
.09
19
93
.07
19
94
.05
19
95
.03
19
96
.01
19
96
.11
19
97
.09
Date
Rate
source: Federal Reserve Bank of St. Louissource: Federal Reserve Bank of St. Louis
Capital FlightCapital Flight1. foreigners sell their Thai investments1. foreigners sell their Thai investments2. foreigners exchange their Baht proceeds for say dollars2. foreigners exchange their Baht proceeds for say dollars3. Demand for dollars shifts and price of the dollar in Bahts rises 3. Demand for dollars shifts and price of the dollar in Bahts rises
Bahts per US $Bahts per US $
quantity of dollarsquantity of dollars
demand for dollarsdemand for dollars supply of dollarssupply of dollars
Thailand Exchange Rate: Bahts Per Dollar, 1981-1997 .
0
5
10
15
20
25
30
35
40
19
81
.01
19
81
.11
19
82
.09
19
83
.07
19
84
.05
19
85
.03
19
86
.01
19
86
.11
19
87
.09
19
88
.07
19
89
.05
19
90
.03
19
91
.01
19
91
.11
19
92
.09
19
93
.07
19
94
.05
19
95
.03
19
96
.01
19
96
.11
19
97
.09
Date
Rate
source: Federal Reserve Bank of St. Louissource: Federal Reserve Bank of St. Louis
Capital FlightCapital Flight4. Thai authorities could use their Dollar Reserves to buy Bahts, 4. Thai authorities could use their Dollar Reserves to buy Bahts, stabilize the x-ch rate, but they may have used those $ to buy stabilize the x-ch rate, but they may have used those $ to buy capital goods to support growthcapital goods to support growth
Bahts per US $Bahts per US $
quantity of dollarsquantity of dollars
demand for dollarsdemand for dollars supply of dollarssupply of dollars
Source: YardeniSource: Yardeni
Source: http://interactive.wsj.comSource: http://interactive.wsj.com
Source: YardeniSource: Yardeni
‘‘94 Exports:94 Exports:Manufactures: 73%Manufactures: 73%Partners: US 21%Partners: US 21%
Japan 17%Japan 17%
Capital Flight: Can tell the story in either currencyCapital Flight: Can tell the story in either currency1. foreigners sell their Thai investments1. foreigners sell their Thai investments2. foreigners exchange their Baht proceeds for dollars2. foreigners exchange their Baht proceeds for dollars3. Supply of Bahts shifts and the dollar price of the Baht falls3. Supply of Bahts shifts and the dollar price of the Baht falls
dollar price of Bahtdollar price of Baht
quantity of Bahtsquantity of Bahts
demand for Bahtsdemand for Bahts supply of Bahtssupply of Bahts
Currency Speculators can Trigger a Crisis
• For example, currency speculators could sell Bahts, trying to drive the price down, guessing that the Thai authorities did not have sufficient foreign currency reserves to buy Bahts, and defend their currency
• In 1997, the speculators tried to destabilize Hong Kong, but the authorities had large reserves of foreign exchange and the speculators failed
Currency Speculators: A destabilizing influenceCurrency Speculators: A destabilizing influence1. Currency speculators sell their Bahts driving the Baht down1. Currency speculators sell their Bahts driving the Baht down2. If the Thai authorities do not have sufficient dollar reserves to 2. If the Thai authorities do not have sufficient dollar reserves to buy Bahts, they can not defend the currency buy Bahts, they can not defend the currency
dollar price of Bahtdollar price of Baht
quantity of Bahtsquantity of Bahts
demand for Bahtsdemand for Bahts supply of Bahtssupply of Bahts
Thailand Economy Source: World Factbook overview: After enjoying the world's highest growth rate from 1985 to 1995 - averaging almost 9% annually - increased speculative pressure on Thailand's currency in 1997 led to a crisis that uncovered financial sector weaknesses and forced the government to float the baht. Long pegged at 25 to the dollar, the baht reached its lowest point of 56 to the dollar in January 1998 and the economy contracted by 10.2% that same year. Thailand entered a recovery stage in 1999, expanding 4.2% and grew about the same amount in 2000, largely due to strong exports - which increased about 20% in 2000. An ailing financial sector and the slow pace of corporate debt restructuring, combined with a softening of global demand, is likely to slow growth in 2001.
Could the US, as a Debtor Nation, Have a Problem?
• To finance our excess imports of goods and services, we sell securities to foreigners
• As a consequence, we are leveraged by this debt
Link Between Government Deficits and Trade Deficits
• US Govt. runs a deficit– citizens don’t want higher taxes
• US Treasury finances deficit by selling treasuries– US citizens & institutions buy in primary market– foreign citizens & institutions buy in primary market
• Why do foreigners invest in US?– politically stable country– may be attracted by:
• low US inflation rate
• high US interest rate ( when they are high!)
US GovtUS GovtDeficitDeficit
TreasuryTreasuryIssues BondsIssues Bonds
ForeignersForeignersBuy BondsBuy Bonds
Foreign ConcernForeign Concernwith US Inflationwith US Inflation
Foreign Concern Foreign Concern with US Interestwith US Interest
RatesRates
FederalFederalReserveReserve
Central Bank Responsibilities: Domestic and ForeignCentral Bank Responsibilities: Domestic and Foreign
Capital FlightCapital Flight1. foreigners sell their US securities1. foreigners sell their US securities2. foreigners exchange their US $ proceeds for Yen2. foreigners exchange their US $ proceeds for Yen3. Supply of dollars shifts and price of the dollar falls3. Supply of dollars shifts and price of the dollar falls
Yen price of US $Yen price of US $
quantity of $quantity of $
demand for $demand for $ supply of $supply of $
4. Federal Reserve may use its Yen Reserves to buy $, stabilize4. Federal Reserve may use its Yen Reserves to buy $, stabilizex-ch ratex-ch rate
Exchange Rate: US Dollars Per Euro
0
0.2
0.4
0.6
0.8
1
1.2
1.4
Jan-
99
Mar
-99
May
-99
Jul-9
9
Sep-9
9
Nov-9
9
Jan-
00
Mar
-00
May
-00
Jul-0
0
Sep-0
0
Nov-0
0
Jan-
01
Mar
-01
May
-01
Jul-0
1
Sep-0
1
Date
Rat
e
US Dollar and other Currencies, 1988-96
Source: Handbook of International Economic Statistics
Real Long Term Interest Rates
Real rate = nominal rate minusexpected rate of inflation
Summary-Vocabulary-Concepts
• Japanese Yen• Thailand Baht• capital flight• devaluation
Outline: Lecture SixteenOutline: Lecture Sixteen• The Distribution of National Income by
Input Factor Shares
• The Distribution of Personal Income
• Trends in US Income Inequality
• Poverty
National Income 1996
Employee Compensation
71%
Proprietor's Income9%
Rental Income2%
Corporate Profits11%
Net Interest7%
source: Lecture Six
US National Income: Factor Shares, 1929-1965 .
0%
20%
40%
60%
80%
100%2
9
31
33
35
37
39
41
43
45
47
49
51
53
55
57
59
61
63
65
Year
Perc
en
t
Employee Compensation
Proprietor’s Income
Corporate Profits
Net Interest Rent to Persons
2/3
capital, land, entrepreneurship 1/3
• If workers are paid a real wage equal to their marginal product of labor,
• and other factors of production are paid their marginal product of production,
• does not everybody get their just desserts?
Defense of the Status QuoDefense of the Status Quo
• If the economy has constant returns to scale,
• If labor is paid its marginal product,
• If capital receives its marginal product,
• Income paid to labor & capital = output
• Everybody is paid what they are worth and there is no exploitation
• MERITOCRACY
Variation of Personal IncomeVariation of Personal Income
• The Distribution of Income– California Income 1993
• Number of tax returns by adjusted gross income (AGI) class
– US Income
California: Adjusted Gross Income, 1993 Tax Year .
0
50000
100000
150000
200000
250000
300000
0
20
00
40
00
60
00
80
00
10
00
0
12
00
0
14
00
0
16
00
0
18
00
0
20
00
0
22
00
0
24
00
0
26
00
0
28
00
0
30
00
0
Adjusted Gross Income .
Nu
mb
er
Source: California Statsitical Abstract
California: Number of Returns by Adjusted Gross Income, . Tax Year 1993
0
500000
1000000
1500000
2000000
2500000
3000000
10
00
0
20
00
0
30
00
0
40
00
0
50
00
0
60
00
0
70
00
0
80
00
0
90
00
0
10
00
00
Adjusted Gross Income .
Nu
mb
er
CA AGI, Frequency & Cumulative FrequencyCA AGI, Frequency & Cumulative FrequencyIncome Number Frequency Cumulative
< 10,000 2727672 22.86% 22.8610-20,000 2440167 20.45% 43.31 20-30,000 1802873 15.11% 58.42
30-40,000 1305679 10.94% 69.36 -50,000 997933 8.37% 77.73 -100,000 2107160 17.66% 95.39 -150,000 323390 2.71% 98.10 -200,000 102863 0.86% 98.96 -300,000 70848 0.59% 99.55 -400,000 23982 0.20% 99.75 -500,000 11661 0.10% 99.85
-1,000,000 17172 0.14% 99.99
Distribution of Adjusted Gross Income, California .
0
0.05
0.1
0.15
0.2
0.250
10
00
0
20
00
0
30
00
0
40
00
0
50
00
0
60
00
0
70
00
0
80
00
0
90
00
0
10
00
00
Income
Fre
qu
en
cy
Cumulative Distribution of California Adjusted Gross Income .
0
0.1
0.2
0.3
0.4
0.5
0.6
0.7
0.8
0.9
1
50
00
10
00
0
15
00
0
20
00
0
25
00
0
30
00
0
35
00
0
40
00
0
50
00
0
60
00
0
70
00
0
80
00
0
90
00
0
10
00
00
15
00
00
20
00
00
30
00
00
40
00
00
50
00
00
10
00
00
0
Income
Pro
bab
ilit
y
US Family Income 1995
Income Group Average Income
Lowest 20 % $ 8032
Second 20% $ 17916
Third 20% $ 28965
Fourth 20% $ 43930
Highest 20% $ 73058
Measures of Income InequalityMeasures of Income Inequality
• Lorenz Curve– What % of Population Has What % of Income
• Gini Coefficient– range: 0, meaning equal, to 1, meaning unequal
• Examples– socialist ideal: equality– life as a crap shoot: any income is equally likely
Benchmark: Frequency Distribution for Equal .
0
0.01
0.02
0.03
0.04
0.05
0.06
0.07
0.08
0.09
0.1
0 20000 40000 60000 80000 100000
Income
Fre
qu
en
cy
% Population % Income0 0
20 2040 4060 6080 80100 100
Equal Distribution of Income
Lorenz Curve: Equal Distribution of Income .
0
20
40
60
80
100
120
0 20 40 60 80 100 120
% Population
% Incom
e
Benchmark: Frequency Distribution for Uniform .
0
0.001
0.002
0.003
0.004
0.005
0.006
0.007
0.008
0.009
0.01
0 20000 40000 60000 80000 100000
Income
Fre
qu
en
cy
% Population % Income0 0
20 440 1660 3680 64100 100
Uniform Distribution of Income
Lorenz Curves: Equal and Uniform Distributions .
0
20
40
60
80
100
120
0 20 40 60 80 100 120
% Population
% In
com
e
EqualUniform
Cumulative Frequency for Uniform Distribution .
0
0.2
0.4
0.6
0.8
1
0
7000
1400
0
2100
028
000
3500
042
000
4900
056
000
6300
0
7000
077
000
8400
091
000
9800
0
Income
Prob
abilit
y
Lorenz Curve for Uniform Distribution .
0
20
40
60
80
100
0 20 40 60 80 100
% Population
% I
nco
me
Gini Coefficient = A/(A+B)
AB
% Families % Income0 0
20 4.240 14.260 29.980 53.295 79.9100 100
US Family Income, 1994
Lorenz Curve: United States Families, 1994 .
0
20
40
60
80
100
120
0 20 40 60 80 100 120
% Families
% Incom
e
EqualUniformFamily
Source: US Statistical Abstract
Frequency Distribution for the Exponential . .
0
0.005
0.01
0.015
0.02
0.025
0.030
50
00
10
00
0
15
00
0
20
00
0
25
00
0
30
00
0
35
00
0
40
00
0
45
00
0
50
00
0
55
00
0
60
00
0
65
00
0
70
00
0
75
00
0
80
00
0
85
00
0
90
00
0
95
00
0
Income
Fre
qu
en
cyCumulative Frequency for Exponential .
0
0.1
0.2
0.3
0.4
0.5
0.6
0.7
0.8
0.9
1
0
50
00
10
00
0
15
00
0
20
00
0
25
00
0
30
00
0
35
00
0
40
00
0
45
00
0
50
00
0
55
00
0
60
00
0
65
00
0
70
00
0
75
00
0
80
00
0
85
00
0
90
00
0
95
00
0
10
00
00
Income
Pro
bab
ilit
y
Lorenz Curve: Exponential Distribution .
0
0.1
0.2
0.3
0.4
0.5
0.6
0.7
0.8
0.9
1
0 0.2 0.4 0.6 0.8 1
Percent Population
Perc
en
t In
com
e
% POP % Income0 0
0.09516258 0.004678840.18126925 0.01752310.22119922 0.026499020.32967995 0.061551940.39346934 0.090204010.52763345 0.173358530.63212056 0.264241120.77686984 0.44217460.86466472 0.593994150.95021293 0.800851730.98168436 0.90842181
1 1
Distribution of Adjusted Gross Income, California .
0
0.05
0.1
0.15
0.2
0.250
10
00
0
20
00
0
30
00
0
40
00
0
50
00
0
60
00
0
70
00
0
80
00
0
90
00
0
10
00
00
Income
Fre
qu
en
cy
Why is Income Distributed So Unevenly?
Why is Income Distributed So Unevenly?
• Labor Income is Unevenly Distributed
• Part-time work– less than 50 weeks per year– less than 36 hours per week
“A rising tide lifts all boats”, JFK
“A rising tide lifts all boats”, JFK
• Economic growth may make everbody better off– increases the size of the pie
• but the rich may get a larger share of the bigger pie
• It is possible that the rich get richer and the poor get poorer
Income Distribution and GDP Per CapitaIncome Distribution and GDP Per Capita
Country GDP PerCapita,1990*
Income Share:Lowest 40%,Families
GiniCoefficient
Singapore $15,580 15% 0.42HongKong
$15,595 16.2% 0.45
Malaysia $6,140 13.9% 0.48Mexico $5,918 0.50Brazil $4,718 8.1% 0.57Jamaica $2,979 15.3% 0.66Honduras $1,470 0.62
* purchasing power parity
Source: United Nations Development Programme, Human Development Report, 1993
The Distribution of Income and Growth
Honduras
Jamaica
Brazil
Mexico
Malaysia
Hong Kong
Singapore
0
0.1
0.2
0.3
0.4
0.5
0.6
0.7
0 2000 4000 6000 8000 10000 12000 14000 16000 18000
GDP Per Capita, 1990
Gin
i Co
effi
cien
t
Lorenz Curves: US Famiy Income, 1970, 1980, 1994 . .
0
10
20
30
40
50
60
70
80
90
100
0 20 40 60 80 100
% Families
% I
nco
me
1970
1980
1994
US Family Income: Lorenz Curves .
0
10
20
30
40
50
60
70
80
90
100
0 20 40 60 80 100
Population Percent
Inco
me P
erc
en
t
1970
1980
1994
1999
Trends in Shares of US Family Income .
0
10
20
30
40
50
60
19
70
19
72
19
74
19
76
19
78
19
80
19
82
19
84
19
86
19
88
19
90
19
92
19
94
19
96
19
98
Year
Perc
en
t
Top 5 %
Top 20 %
Bottom 40%
Trends In US Median Family Income, 1994 $ .
0
5000
10000
15000
20000
25000
30000
35000
40000
45000
1970 1975 1980 1985 1990 1995
Year
19
94
$
Why has income become more unevenly distributed?
Why has income become more unevenly distributed?
• Standardize on Male Full-Time Year-Around Workers• Ability Premium
– 90 percentile: $70314 for 1995 males– 50 percentile: $31497– 10 percentile: $12920
• Education Premium– college grads gain relative to high school grads
• Experience Premium– older workers gain relative to younger workers
Earnings Ratios for Male High School Graduates .
0
0.5
1
1.5
2
2.5
19
67
19
69
19
71
19
73
19
75
19
77
19
79
19
81
19
83
19
85
19
87
19
89
19
91
19
93
19
95
Year
Rati
o
90/50 ratio
50/10 ratio
Source: Economic Report of the President, 1997
Ratio of Median Earnings, Males: College Grad to High School Grad
Source: Economic Report of the President, 1997
Ratio of Median Earnings, Males: Age 45-54 to 25-34
Source: Economic Report of the President, 1997
Source: Economic Report of the President, 1997
Growing Wage Differentials Between the Less Skilled and More Skilled:Less Demand for Less Skilled and More Demand for the More Skilled
Rich Are Getting Richer Rich Are Getting Richer
• smart are getting richer
• educated are getting richer
• experienced are getting richer
• Should we worry about the dull, the ignorant, the young and inexperienced?
Poverty in the USPoverty in the US• US Government Definition of Poverty
– Subsistence wage: $15141 in 1994• a non-farm family of four
• cost of inexpensive but nutritious food times 3– assume food is 1/3 of budget
• Trends in Poverty
• Incidence of Poverty– elderly– children/families headed by single women– rural
Incidence of Poverty Among the Aged and the YoungChildren: 14.9% in 1970 to 21.2% in 1994
Source: Economic Report of the President, 1997
Percentage of Births Occuring Out of Wedlock, . White Women by Age Group, US .
0
5
10
15
20
25
30
35
1955 1960 1965 1970 1975 1980
Year
Perc
en
t
15-19
20-24
25-29
Percentage of Births Occurring Out of Wedlock, . Black Mothers By Age Group, US
0
10
20
30
40
50
60
70
80
90
1955 1960 1965 1970 1975 1980
Year
Perc
en
t
15-19
20-24
25-29
US Families Headed By Women in Percent .
0
5
10
15
20
25
30
35
40
45
1940 1950 1960 1970 1983
Year
Perc
en
t
White
Black
Marriage and Divorce Rates Per 1000 Population, US .
0
2
4
6
8
10
12
19
50
19
53
19
56
19
59
19
62
19
65
19
68
19
71
19
74
19
77
19
80
19
83
19
86
19
89
19
92
Year
Rate
Marriages
Divorces
US Marrige Rates Per 1000 Population, . Unmarried Women 15-44 Years Old
0
20
40
60
80
100
120
140
160
19
70
19
72
19
74
19
76
19
78
19
80
19
82
19
84
19
86
19
88
19
90
19
92
19
94
Year
Rate
Summary-Vocabulary-ConceptsSummary-Vocabulary-Concepts• input factor shares• distribution of
personal income• distribution of family
income• frequency distribution
of income• cumulative
distribution of income• Lorenz curve• Gini coefficient• median family income
• part-time, part-year worker
• full-time, full-year worker
• within group variation in earnings
• ability differential• between group
variation in earnings• education differential• experience differential• definition of poverty