Balance of Payments

• The Balance of Payments of a country is a

systematic record of all economic transactions
(payments and receipts) with the rest of the
world in a given fiscal year
• It is presented in the form of double-entry
bookkeeping
• Any payments to foreigners is entered as a
debit (negative sign)
• Any receipts from foreigners is entered as credit
(positive sign)
Balance of Payments - Accounts
• Balance of Payments Accounts
1. The Current Account
2. The Capital Account
3. Official Settlement Account or Official
Reserves Account
4. Statistical Discrepancy

• The fifth item is in fact a part of capital

accounts, but in UK and USA , it is shown as a
separate account
 Current Account
• It consists of two important items
Visibles item and invisibles item.

• Visibles includes the merchandise trade

i.e. exports and imports

• The difference between export and

imports is balance of trade
continued…
• Invisibles items includes services and unilateral
transfers like
1. Foreign travel
2. Transportation
3. insurance
4. investment income (Factor income from
abroad)
5. Transfers (official & private). It includes gifts
foreign aid, charitable donations, etc
6. Government not included elsewhere
 continued
• The difference between debit and the credit in
the current account is the current account
balance.

• If the debits exceed the credits, then a country

is running a trade deficit.

• If the credits exceed the debits, then a country

is running a trade surplus
 Capital Account
• It consists of a country’s transactions in financial
assets in long term and short term lendings and
borrowings and private and official investment.
• In other words it shows flow of loans and
investment.
• Foreign investment is of two types Foreign
direct investment and Foreign Portfolio
investment.
• Capital Accounts items in India are Foreign
investment, loans and Banking
Balance of payments Equilibrium
• Any positive (surplus) in any one of the account
must have a counterpart negative (deficit) in
one of the accounts. The Balance of payments
will always balance in an accounting sense
X – M = I- B
(X - M) – (I – B) = 0
BOP = current account + capital Account
Statistical discrepancies
 continued…
• Any international transactions automatically
give rise to two offsetting entries in the balance
of payment through double entry accounting i.e.
any entry in the current account gives rise to an
entry in the capital account
• There might be surplus or deficit in the individual
account
• A balance isn't always reflected in reported
figures, which might report a surplus for both
accounts because of actions of the monetary
authority
Credit(+) Balance of Payment Debit (-)

Current Account
Exports (merchandise) Imports
services (invisibles) and Services
Transfer receipts Transfer payments
Transfer Payments
Capital Account
Foreign investment by Foreign investment to
world world

Borrowings of loan Lending of loan

Errors and omission

Causes of disequilibrium
• Random variation in trade, seasonal fluctuations
• Technical change or innovation in methods of
production
• change in national income
• Inflation
• Borrowing and lending
Deficit or surplus occurs mostly because of fixed
exchange rate. Under floating exchange rate in
principle there can be no deficit or surplus
Measures to correct disequilibrium

• Adjustment through Exchange depreciation

• Devaluation of currency

• Direct control

• Adjustment through capital movement