Balance of Payments

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Balance of Payments

• Antu Panini Murshid

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Todays Agenda

• Balance of payments
• Review sustainability of current accounts

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Balance of Payments Accounts

• The balance of payments is a comprehensive
  statement of a countrys economic transactions
  with the rest of the world for a given period of
  timenormally a quarter or a year
• It is composed of the current account and the
  capital account

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Current Account

• The current account measures transactions
  associated with trade in goods and services,
  income from abroad and also transfers and gifts
• Remember the current account is more than simply
  the balance of trade, which is a narrower concept

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Capital Account

• The capital account measures financial
  transactions, such as purchases of bonds and
  equities or direct investment activities

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The Balance of Payments Must Balance

• The current account and capital account should
  balance each other out
• Each international transaction gives rise to two
  offsetting entries one appearing in the current
  account and the other appearing in the capital
  account
• Thus a current account surplus is matched by a
  capital account deficit and a current account
  deficit is matched by a current account surplus

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The Change in Foreign Reserves

• The change in foreign reserves refers to the sale
  and purchase of official reserve assets by
  central banks
• Official reserves are foreign assets held by the
  central bank (usually as cushion against economic
  troubles)

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The Change in Foreign Reserves

• The change in foreign reserves appears in the
  capital account, although sometimes people will
  separate this item from the capital account and
  refer to a balance of payments deficit (or
  surplus)
• Change foreign reserves CA KA

Balance of payments
Here KA refers to the non-reserve capital accoun
t
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Example
Current Account Capital account
Trade balance -90 billion Net private inflows 80 billion
Net factor income from abroad -10 billion Change in foreign reserves -20 billion
Current account balance -100 billion Capital account balance 100 billion
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US Balance of Payments Accounts, 1999
Current Account Current Account Capital Account Capital Account
Merchandise Trade Balance -344.82 Capital Inflows (e.g. foreign borrowing, receive sign) 751.32
Trade Balance on Services 77.27 Capital Outflows (e.g. US lending, receive a sign) -421.13
Overall Trade Balance -267.55 Statistical discrepancy 17.45
Net Foreign Income From Abroad -24.78 Change in Official Reserves -8.72
Balance on Goods and Services and Income -292.33 Capital Account Balance 338.92
Net Unilateral Transfers (e.g. foreign aid donations) -46.59
Current Account Balance -338.92
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Sustainability of the Current Account

• What factors affect the sustainability of a
  current account deficit?
• Growth rate
• Composition of the current account
• Openness
• CA/GDP and debt burden
• Composition of capital flows
• Foreign exchange reserves
• Financial system
• Political stability