BALANCE OF PAYMENTS STATEMENT INTRODUCTION COMPONENTS OF BOP The balance of payments BOP records the transactions in goods services and assets between residents of a country with the rest of the world for a specified time period typically a year It represents a summation of country s current demand and supply of the claims on foreign currencies and of foreign claims on its currency The balance of payments of a country is a systematic record of all economic transactions between the residents of a country and the rest of the world It presents a classified record of all receipts on account of goods exported services rendered and capital received by residents and payments made by them on account of goods imported and services received from the capital transferred to non residents or foreigners There are three main accounts in the BOP the current account the capital account and the financial account 1 Current Account The current account records exports and imports in goods trade in services and transfer payments BOP on current account is a statement of actual receipts and payments in short period It includes the value of export and imports of both visible and invisible goods There can be either surplus or deficit in current account The current account includes export import of services interests profits dividends and unilateral receipts payments from to abroad BOP on current account refers to the inclusion of three balances of namely Merchandise balance Services balance and Unilateral Transfer balance 2 Capital Account The capital account records all international purchases and sales of assets such as money stocks bonds etc It includes foreign investments and loans The capital account records all international transactions that involve a resident of the country concerned changing either his assets with or his liabilities to a resident of another country Transactions in the capital account reflect a change in a stock either assets or liabilities It is difference between the receipts and payments on account of capital account It refers to all financial transactions The capital account involves inflows and outflows relating to investments short term borrowings lending and medium term to long term borrowing lending 3 Financial account In the financial account international monetary flows related to investment in business real estate bonds and stocks are documented gold special Also included are government owned assets such as foreign reserves rights SDRs held with the International Monetary Fund IMF private assets held abroad and direct foreign investment Assets owned by foreigners private and official are also recorded in the financial account drawing FEATURES OF BOP It is a systematic record of all economic transactions between one country and the rest of the world It includes all transactions visible as well as invisible It relates to a period of time Generally it is an annual statement It adopts a double entry book keeping system It has two sides credit side and debit side Receipts are recorded on the credit side and payments on the debit side CALCULATION OF BOP The Balance of Payments is a record of transactions between individuals or entities of one country with the rest of the world within an accounting year It helps governments examine imports and exports of goods and services to ascertain the state of their economy The formula for calculating the balance of payments is Current account Capital account Financial account Balancing item 0 Current transfers are transfers of money where nothing is received in return such as workers remittances pensions aids and donations Non financial asset transfers include the purchase or use of natural resources that have not been produced Capital transfers include things like debt forgiveness non life insurance claims and investment grants Reserve assets are foreign currencies purchased to be used by the central bank in its monetary policy Portfolio investment is the purchase of shares and bonds Direct investment includes investment in physical capital usually undertaken by multinational corporations Current account balance equals to the sum of the capital account and financial account balances Current account surplus indicates that the country is a net leader to the rest of the world as it usually implies that the current account is large and therefore the country is a major exporter Over all it means that more income is flowing into the country than outwards Current account deficit indicates that the country is a net borrower to the rest of the world as it usually implies that the current account is small and therefore the country mainly imports products Over all it means that less income is flowing into the country than outwards CURRENT ACCOUNT SURPLUS If there is a current account surplus then exports tend to exceed imports this means that the demand for the currency has risen as people have bought products in that country s currency This then causes an upward pressure on the exchange rate and the relative value of the currency to rise appreciation The increase in relative exports causing appreciation is shown in the adjacent diagram Implications of a persistent current account surplus Appreciation As exports increase the demand for the currency increases and therefore the value of the currency increases Reduced export competitiveness As the currency appreciates in a floating exchange rate exports become comparatively more expensive so demand for exports fall Lower domestic consumption and investment As the currency appreciates imports will become more affordable compared to domestic products so consumption of domestic products falls The appreciation can also deter foreign investment from abroad as it becomes more expensive CURRENT ACCOUNT DEFICIT If there is a current account deficit then imports tend to exceed exports this means that the supply of the currency has risen as people have bought fewer products in that country s currency This then causes a downward pressure on the exchange rate and the relative value of the currency to fall depreciation The relative increase in imports causing depreciation is shown in the adjacent diagram Implications of a persistent current account deficit Exchange rates The currency should automatically depreciate which will then help to rectify the deficit as exports become cheaper relative to imports Interest rates The central bank may decide to increase these in order to encourage foreign direct investment