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Username: Muhammad TariqBook: International Economics, Fifth Edition, No part of any book may be reproduced or transmitted in any form by any means without the publishers prior writen permission. Use (other than pursuant to the uailied fair use privilege) in violation of the law or these Terms of Service is prohibited. Violators will be prosecuted to the full extent of the law. 186 PART 3 International Finance sum of the current, capital, and financial accounts, with the sign reversed. In 2008 it was calculated as follows: (1) (706,068 + 506,013) ‘The statistical discrepancy exists because our record of all of the transactions in the balance of payments is incomplete. Although the errors could be in any of the three accounts, it is believed that most of the errors are in the financial account since it is the hardest one to measure accurately. Financial flows are intangible, and in certain cases such as money laundering associated with the ille- gal drug trade, the sending or receiving agents have incentives to hide them. 200,055 Types of Financial Flows One of the primary concerns of most governments is the form of financial flows entering and leaving their country. Some financial flows are very mobile and rep- resent short-run tendencies. These flows are often vehicles for transmitting a financial crisis from one country to another, or for generating sudden responses to changes in investor expectations about the short-run prospects of an economy. The degree of mobility of financial flows and the potential of some flows to introduce a large element of volatility into an economy have turned the consid- eration of the type of flows a country receives into a major issue. Asa first approach to a more detailed representation of the financial account, it is useful to subdivide the financial flows in Table 9.3 into categories that refer- ence their origin in the public (governmental) or private sector. In most coun- tries, the bulk of financial flows are private, although in times of crisis this can change. Table 9.4 shows the 2008 financi) agsaya (mt Kui States divided into five subcategories representing the main components of inflows and out- flows in terms of public and private assets. Official reserve assets arc mainly the currencies of the largest and most stable economies in the world, such as US. dollars, EU euros, British pounds, and Japanese yen. Reserve assets also include gold and special drawing rights (SDR), the artificial currency of the International Monetary Fund (IMF). Reserve assets are used to settle international debts and, consequently, central banks and trea- sury ministries use them as a store of value. For example, when an importer in a small country such as Chile purchases a shipload of goods from Europe, payment may be in dollars or euros or pounds, but it is unlikely that the supplier would accept Chilean pesos from the purchaser. The importer must convert some pesos into a reserve currency, such as U.S. dollars, and use them to pay for its imports. If the Chilean central bank is unable to provide dollars or another reserve currency to Chilean banks and importers, then the import business grinds to a halt unless the importer is able to secure some form of credit from the seller. Since all forms of international debts are settled with reserve assets, especially key currencies, they play a very prominent role in international finance. When they become scarce in a country, it signals that potentially serious problems are arising. For example, as discussed in Chapter 12, when Mexico’s economy collapsed in late 1994 and early 1995, it was because Mexicans owed dollars to various international