BALANCE OF PAYMENTS

Balance of payments (BoP) accounts are an accounting record of all monetary transactions between a country and the rest of the world. These transactions include payments for the country's exports and imports of goods, services, financial capital, and financial transfers. The BoP accounts summarize international transactions for a specific period, usually a year, and are prepared in a single currency, typically the domestic currency for the country concerned. Sources of funds for a nation, such as exports or the receipts of loans and investments, are recorded as positive or surplus items. Uses of funds, such as for imports or to invest in foreign countries, are recorded as negative or deficit items.

Balance of Payments
The Balance of Payments is the statistical record of a countrys international transactions over a certain period of time presented in the form of doubleentry bookkeeping. Why is it useful to examine a countrys BOP? The BOP provides detailed information about the supply and demand of the countrys currency. The trade statistics in the Current Account, for example, show the composition of trade what a country imports and what it exports. The Capital Account shows inflows and outflows of capital in various categories. Viewed over time, BOP data can shed light on important developments in a countrys comparative advantage and international competitiveness.

Balance of Payments Accounts

They are composed of the following:

The Current Account The Capital Account The Official Reserve Account

Balance of Payments Accounts

Current Account
Records flows of exports, imports, investment income, and international financial transfers. Merchandise trade export and import of tangible goods Services payments and receipts for legal and consulting fees, royalties, tourist expenditures Investment income payments and receipts of interest, dividends, and other income on foreign investments Unilateral Transfers unrequited payments (e.g. Foreign aid). 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.

Balance of Payments Accounts

The capital account
The capital account is composed of Foreign Direct Investment (FDI), portfolio investments, and other investment.

Direct investment involves acquisitions of controlling interests in foreign businesses. Portfolio investment represents investment in foreign shares and bonds that do not involve acquisitions of control. Other investment includes bank deposits, currency investment, trade credit and the like.

Balance of Payments Accounts

The Reserve Account
The Reserve Account of BOP records changes in the amount of official reserve assets held by the regulatory. Official reserves assets include gold, foreign currencies, etc. If a country must make net payment to foreigners because of BOP deficit, the country could either run down its official reserve assets or borrow from foreigners.

Typical BOP Statement

A Current Accounts Goods Account Exports(+) Imports (-) Balance on Goods Account= A(I) Services Account Receipts as interest and dividends, tourism receipts for travel and financial charges(+) Payments as interest and dividends, tourism receipts for travel and financial charges(-) Balance on Services Account= A(II) Unilateral Transfers Gifts, donations, subsidies received from foreigners (+) Gifts, donations, subsidies made to foreigners (-)

 Balance on Unilateral Transfers Account= A(III) Current Account Balance: A(I) + A(II) + A(III) B. Long- Term Capital Account Foreign Direct Investment (FDI) Direct investment by foreigners (+) Direct investment abroad (-) Balance on Direct Foreign Investment = B(I) Portfolio Investment Foreigners investment in the securities of the country (+) Investment in securities abroad (-) Balance on Portfolio Investment = B(II) Balance on Long- Term Capital Account = B(I) + B(II)

Private Short Term Capital Flows Foreigners claim on the country (+) Short-term claim on foreigners (-) Balance on Short- Term Private Capital Account= B (III) Overall Balance: [ A(I) + A(II) + A(III) + B(I) + B(II) + B(III) ] C. Official reserves Account Decrease or increase in foreign exchange reserves (Monetary authority of a country)

Importance of BOP

The BOP is one of the major indicators of a country's status in international trade, as it keeps record of all transactions between the country and the outside world. Moreover, it provides the country with a means of identifying economic imbalances, and allows them to ensure they sell enough to pay for what they buy abroad. BOP is an important source of information on economic and financial situation of a country.

10

Limitations of BOP
Sources of information used to prepare a BOP Statement are varied (e.g. Central Bank, EXIM Bank, etc). Thus the account of errors and omissions arises. BOP Statement is established in terms of transactions. Thus it takes into account transactions rather than settlements. BOP is expressed in national currency. But often the operations have been done in other currencies. This causes the problem of exchange of gain or loss, which is ignored. Some countries like Japan prepare BOP Statement in two currencies, Yen and US dollar.

11