Define balance of payments and current account. Define trade balance, trade surplus and trade deficit. Define trade creation, trade diversion, and trade deflection.

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BlackTom AI · Accepted Answer

The question asks you to define several macroeconomic concepts related to international payments and trade, so we can treat each term in turn and evaluate the accuracy of the provided definitions.

Balance of payments: The definition given describes it as a systematic record of all economic transactions between a country and the rest of the world during a given period, and notes that it covers all monetary transfers in and out of a country (current account, capital account and financial account).
- This is broadly correct. The balance of payments (BoP) indeed aggregates cross-border flows for a period and is typically divided into the current account, capital/financial accounts, and sometimes the financial account is treated as part of the capital and financial accounts. The key idea is that it records both debits and credits across all categories, ensuring it balances to zero when all entries are properly recorded.

Current account: The definition provided states it records exports and imports of goods and services, income receipts from abroad (like dividends and interest), and transfers such as remittances and foreign aid and current transfers.
- This is a solid and standard description. The current account captures trade in goods and services (trade in goods and services), net income from factor incomes (primary income), and current transfers (secondary income) between residents and non-residents.

Trade balance: Described as the gap between exports and imports of goods and services; a trade surplus occurs when exports exceed imports, and a deficit when imports exceed exports.
- This aligns with the conventional definition. The trade balance is the net value of a country’s cross-border trade in goods and services, and it is a key component of the current account, though note that in BoP accounting, the trade balance is specifically the net exports of goods and services.

Trade creation: The explanation states it occurs when the formation of a new trade bloc causes member nations to consume more cheaply rather than producing more cheaply relative to non-member nations, implying that integration enables substitution of foreign products for domestic output under consumption efficiency.
- This captures the core idea: trade creation happens when removing trade barriers within a bloc makes member countries produce less domestically and import more from fellow members because it becomes cheaper or more attractive. The phrasing about “consuming more cheaply” and substituting foreign products for domestic output reflects the efficiency motive and is consistent with standard explanations, though some definitions emphasize the shift from higher-cost domestic production to lower-cost member-country production.

Trade diversion: The answer states it occurs when a trade agreement diverts trade from a more efficient producer outside the bloc to a less efficient producer inside the bloc due to preferential treatment.
- This is accurate and commonly cited. Trade diversion arises when, because of preferential tariffs within the bloc, trade flows shift away from the most efficient global suppliers to higher-cost internal suppliers, reducing overall welfare gains from trade.

Trade deflection: The definition says it happens when a non-member country’s goods enter the trading bloc through the member nation with the cheapest external tariff, thereby bypassing higher tariffs on goods sold within member states.
- This description aligns with the notion of deflection (sometimes called tariff deflection or deflected trade). It captures the idea that firms route shipments through a member-country with the lowest external tariff to gain tariff advantages, effectively bypassing higher tariffs that would apply if the goods entered directly from the non-member.

Overall, the set of definitions provided covers the essential concepts of balance of payments, current account, trade balance, and the three trade-related notions (creation, diversion, deflection). The explanations are coherent and align with standard economic interpretations, with minor stylistic differences in phrasing that do not alter the substantive meaning. If you wish, I can offer a few clarifying refinements to terminology or add an example for each concept to reinforce understanding.

SESS0010_24-25 LSA Test

Define balance of payments and current account. Define trade balance, trade surplus and trade deficit. Define trade creation, trade diversion, and trade deflection.

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