Balance of Payments

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Balance of Payments
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Balance of Payments Credits and Debits

• Credits
• give rise to payments inward to the country
• create an immediate demand for the countrys
  currency
• reflect an increase in net claims of foreign
  countries on the home country
• increase in home country assets owned by foreign
  citizens or government,
• decrease in foreign assets owned by home country
  citizens or government).

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Balance of Payments Credits and Debits

• Debits
• give rise to payments outward from the country
• create an immediate demand for another countrys
  currency
• reflect a decrease in net claims of foreign
  countries on the home country
• decrease in home country assets owned by foreign
  citizens or government,
• increase in foreign assets owned by home country
  citizens or government).

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Examples

• Credits
• exports of goods and services
• purchase of home country asset by foreign country
  
• sale of foreign country asset by home country
• investment income received from abroad
• gifts received from abroad

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Examples

• Debits
• imports of goods and services
• purchase of foreign country asset by home country
  
• sale of home country asset by foreign country
• investment income sent abroad
• gifts sent abroad

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Example You classify

• I travel to South Carolina for a holiday
• Student comes to Canada to study
• Joe Canada buys Toyota stocks
• Sam US buys stock in MTS (Manitoba Telephone
  System)
• Jane Canada gives 300 to help AIDS victims in
  Zambia
• My brother in Ohio sends my Mom flowers (flowers
  are produced in Canada), money comes in to pay
  for them.

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Double-Entry Bookkeeping

• Every international transaction is entered as
  both a credit and a debit in the balance of
  payments.
• If the main transaction is a credit, there is an
  offsetting transaction that is a debit.
• The final line in the Balance of Payments is
  always ZERO.
• (In the previous page, we classified Main
  transactions)

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Classification of Transactions

• There are four categories in the Balance of
  Payments
• Current Account most important
• Direct Investment and other long-term financial
  flows
• Also important in the long-run
• Short-term nonofficial financial flows not
  important
• Changes in reserve assets of official monetary
  authorities important for countries with fixed
  exchange rate

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Current Account

• Credits
• exports of goods and services
• income from investments abroad
• other factor income earned abroad
• unilateral transfers to home country from abroad
  (gifts)

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Current Account

• Debits
• imports of goods and services
• income to investors abroad
• payment to other countries residents for factor
  services
• unilateral transfers to other countries from home
  country (gifts)

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II Direct Investment and other long-term
financial flows

• Changes in long-term physical assets (maturity of
  one-year or longer)
• Credits
• purchase of home country assets by foreign
  residents, citizens, corporations or governments
• sale of foreign country assets by home country
  residents, citizens, corporations or governments

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II Direct Investment and other long-term
financial flows

• Debits
• purchase of foreign country assets by home
  country residents, citizens, corporations or
  governments
• sale of home country assets by foreign residents,
  citizens, corporations or governments

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III Short-term nonofficial financial flows

• Transactions in short-term assets (less than one
  year)
• Credit - Increase in foreign holding of home
  assets
• Cheque from home to foreign bank
• bank transfer to foreign bank account holder,
• credit card payment to foreign resident from home
  credit card account

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III Short-term nonofficial financial flows

• Transactions in short-term assets (less than one
  year)
• Debit - Decrease in foreign holding of home
  assets (Increase in home holding of Foreign
  assets)
• Cheque from foreign resident to home bank
• bank transfer from foreign bank account holder to
  home country account holder
• credit card payment to home resident from foreign
  credit card account

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IV Changes in reserve assets of official
monetary authorities (Central Banks)

• Credit Foreign central bank acquires home
  country currency or assets, home central bank
  sells foreign assets
• Debit Home country central bank acquires
  international currency or foreign assets.

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Practice

• Place the following transactions as a credit or
  debit in the appropriate category in Canadas
  Balance of Payments
• Keep track of the answers because we will use
  them to build a Balance of Payments Summary
  Statement in a few minutes

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Practice

• 1. The Katos family of Moose Jaw, Saskatchewan,
  purchase a 800 computer from Dell. It is shipped
  from the U.S. They pay for it with their credit
  card. The credit card company transfers the money
  to Dells account in Canada.

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Practice

• Bill Snow comes to Canada to study for his MA and
  PhD in Economics. He pays 12,000 for his tuition
  by cheque on his account in Canada.

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Practice

• 3. Laura Brown goes for a long-awaited holiday
  somewhere warm outside the country, in February.
  She spends 2000 on food and lodging on credit
  card. The bank pays by cheque to the appropriate
  companies using its account in that country.

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Practice

• 4.Mike Malloy of Steinbach, Manitoba receives a
  600 dividend cheque from his Microsoft stocks.
  Microsoft pays using its U.S. bank account to
  Mikes US bank account.

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Practice

• Mike buys 15,000 of Microsoft stocks. He pays
  by cheque on his US account.

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Practice

• TD Bank sells 10,000 US. to the Canadian
  Central Bank.

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Balance of Payments Entries Summary
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Balance of Payments Summary Statement

• We can now enter these examples into a summary
  sheet to examine our various balances.
• There are a number of balances of interest within
  Category I, the Current Account.

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Balances in the Current Account

• Start at zero
• Include only exports and imports of goods
• Merchandise Trade Balance
• Add exports and imports of services
• Balance on Goods and Services
• Add international factor income receipts and
  payments
• Balances on Goods, Services and Investment income
  (or other factor income)
• Add unilateral transfers received and made
• Current Account

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.

• Now we can build a Balance of Payments Summary
  Statement, using our six example entries.
• Note, this is a conceptual framework to help you
  think about the balance of payments.
• The Canada and US examples we examine later will
  differ slightly from this framework.

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Balance of Payments Summary Table

• I Exports of Goods
• Imports of Goods
• Merchandise trade balance
• Exports of Services
• Imports of Services
• Balance on goods and services
• Factor income receipts from abroad
• Factor income payments abroad
• Balance on goods, services and investment income
• continued

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• Unilateral transfers received
• Unilateral transfers made
• I Current Account Balance
• II Net increase in foreign long-term assets at
  home
• Net increase in long-term assets abroad
• II Balance on current account and long-term
  assets (Basic Balance)
• III Net increase in foreign short-term assets
• Net increase in short-term assets abroad
• III Official reserve transaction balance (Overall
  Balance)
• IV Net increase in foreign short-term official
  reserve assets
• Net increase in official reserve assets
  abroad
• Zero

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Note on the Balance of Payments

• Both the US and Canada have stopped using this
  statement for the balance of payments
• In recognition of the change in financial flows
  and the difficulty in distinguishing short-term
  and long-term flows, they present different
  breakdowns for the capital part of the balance of
  payments

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Current Account and National Income

• The current account provides information on the
  balance of consumption, saving, investment and
  government taxes and spending.
• Because a current account surplus means we are
  purchasing less than we are earning, this must
  mean there is a direct relationship between the
  current account and domestic national income.
• The Current Account still uses the same
  conceptual framework

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Current Account and National Income Accounting

• Recall the basic macroeconomic equality
• Y C I G X M
• Y national income
• C consumption spending
• I Investment spending on plant, equipment,
  etc.
• G government spending on goods and services
• X exports (credit items in Current Acc)
• M imports (debit items in Current Account)

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Rearrange

• Y (CIG) (X M)
• The left side represents national income less
  spending. This is domestic savings
• The right is the current account balance.
• If a country has a current account deficit, then
  it is living beyond its means. This is the case
  in the U.S. since 1982.

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Current Account and National Income

• Another approach
• Income can be written as
• Y C S T
• S private savings
• T taxes
• This means that income can be used for
  consumption, including imports, savings or taxes.
  
• We can combine this with the national income
  identity

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Current Account and National Income

• to obtain
• C I G (X M) C S T
• and rearrange to get
• (X M) S (T-G) I
• This tells us that the current account depends on
• Private savings (S)
• Public savings (T G)
• less investment spending

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Current Account and National Income

• (X M) S (T-G) I
• This shows that a positive current account
  balance means the country is saving more than it
  is investing.
• A negative balance means that the countrys net
  investment is partly being financed abroad (more
  than we are financing other countries
  investments)

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Other Balances

• Long-term assets
• movements in this category reflect the judgments
  of long-term investor on the relative
  profitability of investments made in the country.
• Basic Balance Balance on Current Account and
  Long-Term Capital Account

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Overall Balance

• The Overall Balance is the balance on the current
  account, long-term capital account and short-term
  capital account.
• Category IV is really only significant in fixed
  exchange rate regimes.
• If a country has a flexible exchange rate, the
  imbalance in the first three categories causes an
  adjustment in the exchange rate.

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One more Balance

• Financial Account Balance
• Categories II, III and IV
• In example
• - 15,000
• - 12,000?
• 27,500
• - 10,000
• -9,800
• Balance emphasized depends on topic analyst is
  addressing, there is no one balance that matters
  most

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Current Account Deficit Good or Bad

• It depends
• CA deficit means a country is spending beyond its
  means
• But, it also could mean
• it is recovering from a recession before its
  partners (income increase boosts imports,
  partners still lagging)
• it is attracting a lot of financial investment
• countrys companies are liquidating capital
  investments abroad, moving money home

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Current Account Deficit

• If financial surplus is due to investment, that
  can be good and even needed by most countries.
• However, investment implies future factor
  payments outward. Therefore continual CA deficits
  may be a cause for concern.

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Balance of Payments

• We will examine the US Balance of Payments and
  the Canadian Balance of Payments.
• The Canadian Balance Sheet differs somewhat from
  the textbook case for the US.

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US Balance of Payments(2003, billions of )

• Current Account
• Exports of goods 713.1
• Imports of goods - 1,260.7
• Merchandise trade balance - 547.6
• Exports of Services 307.4
• Imports of Services - 256.3
• Bal on Goods and Services - 496.5

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US Balance of Payments(2003, billions of )

• Main deficit is on merchandise trade balance,
  services are in surplus
• The main deficits for the US are with Japan,
  China, OPEC countries and Canada
• As of 2003 the main purchasers of US exports were
  Canada, Mexico and Japan.
• continue

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• Japan
• China light R
• OPEC Black
• Canada Grey
• 0 to -140
• (Billions)

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US Balance of Payments(2003, billions of )

• Current Account
• Income receipts from abroad 294.4
• Income payments to foreign - 261.1
• Bal on Goods, Services and factor
• income - 463.2
• Unilateral transfers (net)
• (gov. -27.2, private -40.2 - 67.4
• Current Account balance - 530.7

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US Balance of Payments(2003, billions of )

• Current Account
• Income receipts from abroad 294.4
• Income payments to foreign - 261.1
• Bal on Goods, Services and factor
• income - 463.2
• Unilateral transfers (net)
• (gov. -27.2, private -40.2 - 67.4
• Current Account balance - 530.7

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US Balance of Payments(2003, billions of )

• Capital and Financial Account
• Capital account transactions net - 3.1
• U.S official reserve assets, net
• (increase, - ) 1.5
• U.S government assets abroad, other than
• official reserve assets (increase,-) 0.5
• U.S. private assets abroad (inc,-) - 285.5
• For. Official assets in the US, net (inc, )
  248.6
• Other foreign assets in the US, net (inc, )
  580.6
• Statistical discrepancy - 12.0

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What does this tell us?

• Foreign assets, in the US, both official and
  private increased significantly.
• It is a consolidation of both long-term and
  short-term assets.
• Official assets increased a lot for that
  category.
• The overall balance for the US was about -250
  billion in 2003.

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Asset position

• US Assets Abroad
• US official reserve assets 183.6
• US govt asets abroad not off. 84.8
• US private assets abroad 6,934.3
• Total 7,202.7
• For Assets in the US
• For official assets in the US 1,474.2
• Other for assets in the US 8,159.2
• Total for assets in the US 9,633.4
• Net International investment position for
• the US -2,430.7

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• The US is the biggest debtor nation on the
  planet.
• Disadvantage
• will need to pay investors later
• foreign countries own a lot of US and may use
  that leverage politically
• Advantages
• foreign investment contributes to US growth in
  output
• keeps interests rates lower than would be
  otherwise

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Canadas Balance of Payments

• Statistics Canada Table with Canadas Balance of
  Payments is set up for you to examine.
• Check link from JUMP site or go to
• http//www.statcan.ca/Daily/English/061129/d061129
  a.htm

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Canadas Current Account

• Note when reading this article.
• The acquisition of asset is a debit.
• A credit transaction results in a liability. We
  receive the funds, the foreign investor has the
  asset.

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