Balance of Payment

Balance of payment : Meaning andcomponenets

Meaning :- The balance of payment of a country is a systematic record of all economic transactions between the residents of the reporting country and the residents of foreign countries during a given period of time

Balance of trade and balance of payment :-

Balance of trade takes into account only those transactions arising out of the exports and imports of goods(the visible items).It does not consider the exchange of services rendered such as shipping. Balance of payments takes into account the exchange of both visible and invisible items. Hence, the balance of payments represents a better picture of a country’s economic transactions with the rest of the world than the Balance of Trade.

Structure of Balance of Payments Accounts :-

A Balance of payments statements is a summary of a nation’s total economic transactions undertaken on international account. It is usually composed of two sections :-

1) Current Account

2) Capital Account

1) Current Account :- It records the following 3 items :-

i) Visible items of trade :- The balance of export and import of goods is called the balance of visible trade eg. Tea, Coffee etc.

ii) Invisible trade :- The balance of exports and imports of services is called the balance invisible trade eg. Shipping, insurance etc.

iii) Unilateral transfers :- Unilateral transfer are receipts which residents of a country make without getting anything in return eg. Gifts etc.

       The net balance of visible trade, invisible trade and of unilateral transfers is the balance on current account.

2) Capital Account :- It records are international transactions that involve a resident of the domestic country changing his assets with a foreign resident or his liabilities to a foreign resident.

Various forms of capital account transactions :-

1) Private Transactions :- There are transactions that effect the liabilities

    and assets of individuals.

2) Official Transactions :- Transactions affecting assets and liabilities by

    the govt. and its agencies.

3) Portfolio Investment :- It is the acquisition of an asset that does not

    give the purchaser control over the asset.

4) Direct Investment :- It is the act of purchasing an asset and at the same

    time acquiring control of it.

    The net value of the balance of direct and portfolio investment is called

    the balanced on Capital Account.

Other items in the balance of payments:-

These are included since the full balance of payments account must balance. These are as follows –

i) Errors and omissions :- These may arise due to the presence of sampling error or dishonesty.

ii) Official reserve transactions :- All transactions excepts those in the category of autonomous transactions.

Autonomous Items :-

Autonomous items in BOP refer to international economic transactions that take place due to some economic motive. Such as profit maximization. These items are often called above the line items in BOP.

          The BOP is in deficit if autonomous receipts are less than autonomous payments. The monetary authorities may finance a deficit by depleting their reserves of foreign currencies or by borrowing from the IMF.

Accommodating Items :- Accommodating items in the BOP refer to transactions that occur because of other activities in the BOP, such as government financing. Accommodating items are also referred to as below the line items.

Disequilibrium in BOP :-

There are number of factors that cause disequilibrium in the BOP. Showing either a surplus or deficit. These are categorized in three factors:-  i)       Economic factors

i)                   Political factors

ii)                Social factors

Very Short Answer type Question ( 1 Mark each )

Q1. What is meant by balance payment?

Ans. The balance of payment of a country is a systematic record of all

         economic transactions between the residents of the reporting

         country and the residents of foreign countries during a given period

         of time

Q2:-  What is meant by balance of trade?

Ans. Balance of trade takes into account only those transactions arising

         out of the experts and imports of goods(the visible items).It does

         not consider the exchange of services.

Q3.  Give two examples of invisible items of balance of payments.

Ans. The two examples of invisible items of balance of payments are:-

1)    Services like shipping, insurance banking

2)    Expenditure by tourists.

Q4.  Name the two accounts of balance of payment.

Ans. 1) Current account

        2) Capital account

Q5.  What type of activities are recorded in the current account of

        balance of payment?

Ans. The current account records imports and exports of goods and

         services and unilateral transfers.

Q6.  What type of transactions are recorded in the capital account of

        balance of payments?

Ans. The capital account records all international transactions that

         involve a resident of the domestic country changing his assets with

         a foreign resident or his liabilities to a foreign resident.

Q7.  What are unilateral transfers or unrequited transfers?

Ans. Unilateral transfer are receipts which residents of a country make

         without getting anything in return eg. Gifts etc.

         The net balance of visible trade, invisible trade and of unilateral

         transfers is the balance on current account.

Q8.  Are exports and imports recorded as positive or negative items in

        foreign exchange?

Ans. Exports cause an inflow of foreign exchange into the country so

         they are entered as positive items. Imports cause an outflow, so they

         are entered as a negative item.

Q9.  Give an example of private unrequited transfers.

Ans. Gifts that domestic residents receive from or make to foreign

         residents eg. An Indian resident working in Dubai sending back

         money to their relative in India.

Q10.  Give an example of official unrequited transfers.

Ans.  Receipt of or giving of foreign aid from development countries to

          developing countries.

Q11.  What is meant by ‘ Portfolio Investment’ in the capital account

          transactions?

Ans. Portfolio Investment is the acquisition of an asset that does not give

         the purchaser control over the asset. For eg. Investment in the

         purchase of shares in a foreign company or of bonds issued by a

         foreign govt.

Q12.  What is meant by ‘Direct Investment’ in the capital account

          transactions?

Ans. Direct investment is the act of purchasing an asset and at the same

         time acquiring control of it. For example, acquisition of a firm in

         one country by a firm in another country.

Short Answer Questions :-

Q1.  Differentiate between balance of payment and balance of trade.

Ans.

Balance of Trade	Balance of Payments
1. Balance of trade is a record of     only visible items i.e. exports     and imports of goods. 2. Balance of trade is a narrower     concept as it is only a part of     the balance of payments     account. 3. Balance of trade can be in a     deficit, surplus or balanced	1. Balance of payments is a record     of both visible items (goods) and     invisible items (services) 2. Balance of payments is a wider     and more useful concept as it is a     record of all transactions in     foreign exchange. 3. Balance of payments must     always balance

Q2.  Explain the components of capital account

Ans.  It records are international transactions that involve a resident of

         the domestic country changing his assets with a foreign resident or

         his liabilities to a foreign resident.

        Various forms of capital account transactions :-

         1) Private Transactions :- There are transactions that effect the

             liabilities and assets of individuals.

         2) Official Transactions :- Transactions affecting assets and  

             liabilities by the govt. and its agencies.

         3) Portfolio Investment :- It is the acquisition of an asset that does

             not give the purchaser control over the asset.

         4) Direct Investment :- It is the act of purchasing an asset and at the

            same time acquiring control of it.

            The net value of the balance of direct and portfolio investment is

            called the balanced on Capital Account.

Q3.  Differentiate between autonomous and accommodating items.

Ans.

Autonomous Items	Accommodating Items
1. Autonomous items refer to     international economic     transactions that take place     due to some economic     motive such as profit     maximization. These     transactions are independent     of the state of the country’s     BOP. 2. These items are often called     above the line items in the     BOP.	1. This refers to transactions that     occur because of other activity in     the BOP, such as government     financing. 2. These items are called below the     line items

Q4.  Describe the cause for disequilibrium in the BOP.

Ans. The cause of disequilibrium in the BOP are :-

        1) Economic Factors :- Large scale development expenditure that

            may cause large imports

·        Cyclical fluctuations in general business activity such as recession or depression.

·        High domestic prices may result in increase in imports.

·        New sources of supply, new and better substitutes to existing products and changes in costs will bring about a change in trade flows and hence BOP over a period of time.

        2) Political Factors :- Political instability can cause large capital

             outflows and reduce the inflow of foreign capital.

        3) Social Factor :- Changes in tastes, preferences and fashion may

            affect imports and exports and hence the balance of trade.