BALANCE OF PAYMENTS

It is s a macro level statement showing inflow and outflow of

foreign exchange
The system of recording is based on the concept of double
entry book keeping- where the credit side shows the receipt of
foreign exchange from abroad and debit side shows the
payments in foreign exchange to foreign residents.

Receipts and payments are compartmentalized into 2 heads

Current account
Capital account
Basic distinction between the two is that former represents
transfer of real income and latter accounts only for transfer
of funds without effecting a shift in real income.

CURRENT ACCOUNT

It is the part of BOP showing the flow of real income or

foreign exchange transactions on account of trade of goods
and invisibles.
The current account records the receipts and payments of
foreign exchange in the following ways.

Current account receipts

1. Export of goods
2. Invisibles
a) Services
b) Unilateral transfers
c) Investment income
3. Non-monetary movement of gold
Current account payments
1. Import of goods
2. Invisibles
a) Services
b) Unilateral transfers
c) Investment income
3. Non-monetary movement of gold

Export of goods effects the Inflow of foreign exchange into

the country, while import of goods causes outflow of foreign
exchange from the country.
The difference between the two is known as the Balance Of
Trade.

If export exceeds import ,balance of trade is surplus.

If import exceeds export ,balance of trade is deficit.
Trade in services, the unilateral transfers and the investment
income form the invisibles.

Trade in services includes receipts and payments on account

of travel and tourism, financial charges concerning banking,
insurance, transportation and so on.
Unilateral transfers
include pension, remittances, gifts and other transfer for
which no specific services are rendered.
They are called unilateral transfers because they represent
the flow of funds only in one direction.
They are unlike export and import, where goods flow in
one direction and the payment flows in the other.
Investment income include interest, dividend and other such
payments and receipts.

Non monetary movement of gold

There are 2 types of sale and purchase of gold.
1. One is termed as monetary sale and purchase that influence the
international monetary reserves.
2. The other is non monetary sale and purchase of gold
this is for industrial purposes and is shown in the current
account, either separately from or along with trade in
merchandise.
The debit and credit sides of two accounts- trade in merchandise
and invisibles are balanced.
oIf credit side>debit side current account surplus
oIf debit side> credit side current account deficit

CAPITAL ACCOUNT
It is the part of bop statement showing flow of foreign
loans/investments and banking funds
Capital account transactions takes place in the following ways:
Capital account receipts
1. Long term inflow of funds
2. Short term inflow of funds
Capital account payments
1. Long term outflow of funds
2. Short term outflow of funds

The flow of capital account is long term as well as short term.

Long term flows involves maturity over one year
Short term flows are effected for one year or less.
The credit side records
The official and private borrowing from abroad net of
repayments
Direct and portfolio investment
Short term investments into the country
The bank balances of non residents held in the country.
The debit side includes
disinvestment of capital
countrys investment abroad
loans given to the foreign government or a foreign party
the bank balances held abroad.

The difference between credit side of the current account along

with the credit side of long term capital account transactions is
compared with the transactions on the debit side of current account
and the long term account is known as the basic balance, which
may be negative or positive.
As per the practice adopted by the RBI, basic balance is not
shown in the BOP statement.
The capital account balancing is not complete with the basic
balance
The debit side and credit side of short term capital transactions are
added to respective sides.
Difference between these sides is known as Capital Account
Balance

Errors and omissions is an important item on the BOP

statement and taken into account for arriving at the overall
balance.
Also known as statistical discrepancy
Statistical Discrepancy refers to estimate of foreign exchange
flow on account of either variations in the collection of related
figures or unrecorded illegal transaction of foreign exchange.

It arises on different accounts

It arises because of the difficulties involved in collecting
BOP Data. There are different sources of data, which
sometimes differ in their approach.
For example: In India, trade figures compiled by RBI and the
DGCIS(Director general of commercial intelligence and
statistics) differ.
The movement of funds may lead or lag the transactions
that they are supposed to be finance.
For example: goods are shipped in March but payments are
received in April.

Certain figures are derived on estimates

For example: figures of earning on travel and tourism are
estimated on basis of sample Cases. If sample is defective,
errors are sure.
Unrecorded illegal transactions either on debit side or
credit side or both

After the statistical discrepancy is located,the overall balance is

arrived at.

Overall balance represents the balancing between the credit

items and the debit items appearing on the current account,
capital account, and the statistical discrepancy.
If the overall balance of payments is in surplus, the surplus
amount is used for repaying the borrowings from the IMF and
then the rest is transferred to the official reserves account.
On the contrary, when the overall balance is found deficit, the
monetary authorities arrange for capital flows to cover up the
deficit.

Such inflows may take the form of drawing down of foreign

exchange reserves or official borrowings or purchases from
the IMF.
From this point of view, capital flows are bifurcated into
autonomous and accommodating ones.

Accommodating or compensatory capital flow is the

inflow of foreign exchange to meet the balance of payments
deficit, normally from the IMF . On other words, it aim at
putting the balance of payments in equilibrium.
Autonomous capital flow refers to flow of loans/investment
in normal course of a business.

OFFICIAL RESERVES ACCOUNT

Official reserves are held by the monetary authorities of a
country.
They comprise monetary gold, SDR allocations by the IMF,
and foreign currency assets.
Foreign currency assets are normally held in form of balances
with foreign central banks and investment in foreign
government securities.

If the overall BOP is in surplus, it adds to the official

reserves account.

If overall BOP is in deficit, and if accommodating capital

is not available, the official reserves account is debited by
the amount of deficit.

BALANCE OF PAYMENTS

Balance of Trade= Export of Goods Import of Goods

Balance of Current Account= Balance Of Trade + Net
Earnings on Invisibles
Balance of Capital Account = Foreign Exchange Inflow
Foreign Exchange outflow, on account of foreign investment,
foreign loans, banking transactions, and other capital flows
Overall Balance of Payments = Balance of Current Account +
Balance of Capital Account + Statistical Discrepancy

Indias external sector witnessed further improvement with

the recovery seen in the global economy as reflected in the
turnaround in exports, buoyancy in capital inflows and
further accretion to the countrys foreign exchange reserves.
Exports recovered from 12 months of consecutive decline
and posted an average growth of 20.5 per cent during
November 2009-February 2010.
Imports also turned around and exhibited an average
growth of about 43.0 per cent during December 2009February 2010, mirroring the impact of strong recovery in
growth.

Indias balance of payments position during AprilDecember 2009 remained comfortable with a modest
increase in current account deficit, despite a lower
trade deficit, on account of decline in invisibles surplus.
There has been a turnaround in capital inflows, mainly led
by portfolio inflows, reflecting the buoyant growth
prospects of the Indian economy.
Indias foreign exchange reserves during 2009-10
increased by US$ 27.1 billion to reach US$ 279.1 billion as
at end-March 2010.
As on April 9, 2010, foreign exchange reserves stood at
US$ 280.0 billion.

The impact of global economic recovery was visible in different accounts of

Indias balance of payments.
The current account position during the third quarter of 2009-10 witnessed
a turnaround in both exports and imports.
Indias merchandise
exports (on BoP basis) registered a robust
growth in the third quarter of 2009-10 as
compared with decline in the corresponding
period of 2008-09.
Imports (on BoP basis)
increased moderately during the quarter as
compared with a higher growth in the
corresponding quarter of the previous year.
Trade deficit was lower during the third
quarter of 2009-10 as compared with the
preceding quarter and the corresponding
quarter a year ago.
During April-December
2009 also, trade deficit remained lower (US
$ 89.5 billion) as compared with the
corresponding period of the preceding year
(US$ 98.4 billion) led by decline in both
oil and non-oil imports (Table III.5).

Invisibles
The robust growth observed in
invisibles receipts and payments in the past few years was
reversed during 2009-10, reflecting the lagged impact of the
recession in advanced economies.
The decline was
seen in both factor and non-factor
components.
Although software exports
witnessed a turnaround, the decline in nonsoftware
Exports
Despite lower trade deficit, the fall in
invisibles surplus led to marginally higher
current account deficit during the third
quarter of 2009-10
The current
account deficit during April-December 2009
stood at US$ 30.3 billion, higher than US$
27.5 billion during April-December 2008.
During 2008-09, current account deficit as
a per cent of GDP stood higher at 2.4 per
cent as compared to 1.3 per cent a year ago.

Capital Account
Capital flows continued to remain
buoyant during the third quarter of 2009-10, mainly led by
large inflows under foreign direct investments, portfolio
investments and short-term trade credits
The latest available information
on certain indicators of the capital account
indicates that the revival in capital inflows,
which started at the beginning of 2009-10
and gathered momentum in the second and
third quarters, has remained buoyant even
in the last quarter
Stronger
recovery in 2009-10 ahead of the global economy
coupled with positive sentiments
of global investors about Indias growth
prospects are the factors that underlie the
momentum of sustained capital inflows
during the year.

During 2009-10, Indias foreign

exchange reserves increased by US$ 27.1
billion to reach US$ 279.1 billion as at endMarch 2010
Foreign currency assets (FCAs) increased
by US$ 13.3 billion during the year.
the Reserve Bank purchased
200 metric tonnes of gold from the IMF
on November 3, 2009 as part of the Reserve
Banks foreign exchange reserve
management operations.
The foreign
exchange reserves, however, remained
unaffected by this transaction as it merely
reflected substitution of foreign currency
assets by gold.
The IMF made additional
allocations of SDRs to India in two
tranches, viz., general allocation of SDR
3,082 million (equivalent to US$ 4.82

Both long-term and shortterm

debt increased at end-December
2009 from their levels at end-March
2009. Of the total increase in Indias
external debt at end-December 2009, the
valuation effect on account of
depreciation of US dollar against major
international currencies accounted for
36.9 per cent.

Indias external sector, thus,

improved alongside the recovery in global
economy and further stabilisation in global financial conditions.
This was
reflected in the turnaround in exports and
continued buoyancy in capital inflows.
Despite higher net capital inflows during
2009-10, reflecting improved absorptive
capacity of the economy, capital inflows
mostly financed the higher current account
deficit.
Reflecting easy global liquidity
conditions and both interest rate and growth
differentials in favour of India, capital inflows are expected to be strong,
which may
put pressure on asset prices and exchange
rate.
Global commodity price trends,
particularly possible firming up of oil prices
could exert pressures on the balance of
payments through higher imports. For
dealing with the external shocks
transmitting through various accounts of the

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