Lecture 11 - Balance of Payments | Macroeconomics- Learning and Analysis PDF Download

 Page 1


Balance of Payments 
Institute of Lifelong Learning, University of Delhi 
 
 
 
 
 
 
Subject: Macroeconomics 
Lesson: Balance of Payments 
Lesson Developer: Sanjeev Kumar 
College/ Department: DSC, Delhi University 
  
Page 2


Balance of Payments 
Institute of Lifelong Learning, University of Delhi 
 
 
 
 
 
 
Subject: Macroeconomics 
Lesson: Balance of Payments 
Lesson Developer: Sanjeev Kumar 
College/ Department: DSC, Delhi University 
  
Balance of Payments 
Institute of Lifelong Learning, University of Delhi 
 
TABLE OF CONTENTS 
 
? LEARNING OUTCOMES 
? SECTON I: INTRODUCTION 
? Balance of Trade 
? Balance of Payments 
? SECTON II: ACCOUNTS OF BALANCE OF PAYMENTS 
? Current Account 
? Capital and Financial Account 
? SECTON III: IS THE BALANCE OF PAYMENTS ALWAYS BALANCES 
? SECTON IV: REASONS FOR DISEQUILIBRIUM IN BALANCE OF  
PAYMENT 
? Economic Factors  
? Political Factors 
? Social Factors  
? Natural Factors 
? SECTON V: PERFORMANCE OF INDIA’S BALANCE OF PAYMENTS 
? QUESTIONS FOR EXERCISES 
? Multiple Choice Questions 
? Short Questions 
? Long Questions 
? Glossary 
? References 
 
 
 
 
 
 
 
Learning Outcomes of the Chapter 
After read this chapter, you should be familiar with the following aspects; 
Page 3


Balance of Payments 
Institute of Lifelong Learning, University of Delhi 
 
 
 
 
 
 
Subject: Macroeconomics 
Lesson: Balance of Payments 
Lesson Developer: Sanjeev Kumar 
College/ Department: DSC, Delhi University 
  
Balance of Payments 
Institute of Lifelong Learning, University of Delhi 
 
TABLE OF CONTENTS 
 
? LEARNING OUTCOMES 
? SECTON I: INTRODUCTION 
? Balance of Trade 
? Balance of Payments 
? SECTON II: ACCOUNTS OF BALANCE OF PAYMENTS 
? Current Account 
? Capital and Financial Account 
? SECTON III: IS THE BALANCE OF PAYMENTS ALWAYS BALANCES 
? SECTON IV: REASONS FOR DISEQUILIBRIUM IN BALANCE OF  
PAYMENT 
? Economic Factors  
? Political Factors 
? Social Factors  
? Natural Factors 
? SECTON V: PERFORMANCE OF INDIA’S BALANCE OF PAYMENTS 
? QUESTIONS FOR EXERCISES 
? Multiple Choice Questions 
? Short Questions 
? Long Questions 
? Glossary 
? References 
 
 
 
 
 
 
 
Learning Outcomes of the Chapter 
After read this chapter, you should be familiar with the following aspects; 
Balance of Payments 
Institute of Lifelong Learning, University of Delhi 
? Balance of payments and balance of trade 
? Current and capital account of balance of payments 
? Analysis of the causes and correction of disequilibrium of balance of payments 
? The role of balance of trade and balance of payments in the development of 
macroeconomic policy.  
? Examine the balance of payments current account and capital account for national 
economy i.e., India.  
 
SECTION I: INTRODUCTION 
During the current age, there is no country, which is self sufficient in terms to produce all 
the goods and services for their all needs. Each country imports of all those goods and services 
which are not produce in these countries or produce at higher cost. Similarly, country exports of 
all those goods and services which are prefer to buy residents of foreign country as compare to 
its residents. So, all of economic transactions, every country have a balance of payments sheet 
for its account. 
The Balance of payments (BOP) of a country is a systematical accounting record of all 
monetary transactions with the rest of the world during the given year. Basically, the country's 
exports and imports of goods, services, financial capital, and financial transfers are included in 
these transactions payments. The BOP account is a statistical record of a country’s economic 
relationships with rest of the world.  
According to Bon Sodersten, “The balance of payments is merely a way of listing receipts and 
payments in international transactions for a country.” 
According to Cohen, “It shows the country’s trading position, changes in its net position as 
foreign lender or borrower, and changes in its official reserve holding.” 
Basically, the balance of payments account of a country is constructed on the principle of 
double entry book keeping. Because balance of payment entry book keeping two side i.e. credit 
side (+ left side) and debits side (- right side). There are mainly three types of transaction of 
residents of a country to the residents of rest of the world; 
? Visible items relating transaction i.e. exports and imports of physical goods such 
as computer, mobile phone, aircraft, oil product sugar, jute, cloths, jams and 
jewelry etc. Receipts from export items are recorded as positive entry or credit for 
a nation. On the other side payments for import items are recorded as negative 
entry or debit for a nation.   
? Invisible items relating transaction i.e. exports and imports of all type services 
such as banking, shipping, traveling, insurance, financial, government services 
etc. Receipts from export of services items are recorded as positive entry or credit 
for a nation. On the other side payments for import of services items are recorded 
as negative entry or debit for a nation.   
Page 4


Balance of Payments 
Institute of Lifelong Learning, University of Delhi 
 
 
 
 
 
 
Subject: Macroeconomics 
Lesson: Balance of Payments 
Lesson Developer: Sanjeev Kumar 
College/ Department: DSC, Delhi University 
  
Balance of Payments 
Institute of Lifelong Learning, University of Delhi 
 
TABLE OF CONTENTS 
 
? LEARNING OUTCOMES 
? SECTON I: INTRODUCTION 
? Balance of Trade 
? Balance of Payments 
? SECTON II: ACCOUNTS OF BALANCE OF PAYMENTS 
? Current Account 
? Capital and Financial Account 
? SECTON III: IS THE BALANCE OF PAYMENTS ALWAYS BALANCES 
? SECTON IV: REASONS FOR DISEQUILIBRIUM IN BALANCE OF  
PAYMENT 
? Economic Factors  
? Political Factors 
? Social Factors  
? Natural Factors 
? SECTON V: PERFORMANCE OF INDIA’S BALANCE OF PAYMENTS 
? QUESTIONS FOR EXERCISES 
? Multiple Choice Questions 
? Short Questions 
? Long Questions 
? Glossary 
? References 
 
 
 
 
 
 
 
Learning Outcomes of the Chapter 
After read this chapter, you should be familiar with the following aspects; 
Balance of Payments 
Institute of Lifelong Learning, University of Delhi 
? Balance of payments and balance of trade 
? Current and capital account of balance of payments 
? Analysis of the causes and correction of disequilibrium of balance of payments 
? The role of balance of trade and balance of payments in the development of 
macroeconomic policy.  
? Examine the balance of payments current account and capital account for national 
economy i.e., India.  
 
SECTION I: INTRODUCTION 
During the current age, there is no country, which is self sufficient in terms to produce all 
the goods and services for their all needs. Each country imports of all those goods and services 
which are not produce in these countries or produce at higher cost. Similarly, country exports of 
all those goods and services which are prefer to buy residents of foreign country as compare to 
its residents. So, all of economic transactions, every country have a balance of payments sheet 
for its account. 
The Balance of payments (BOP) of a country is a systematical accounting record of all 
monetary transactions with the rest of the world during the given year. Basically, the country's 
exports and imports of goods, services, financial capital, and financial transfers are included in 
these transactions payments. The BOP account is a statistical record of a country’s economic 
relationships with rest of the world.  
According to Bon Sodersten, “The balance of payments is merely a way of listing receipts and 
payments in international transactions for a country.” 
According to Cohen, “It shows the country’s trading position, changes in its net position as 
foreign lender or borrower, and changes in its official reserve holding.” 
Basically, the balance of payments account of a country is constructed on the principle of 
double entry book keeping. Because balance of payment entry book keeping two side i.e. credit 
side (+ left side) and debits side (- right side). There are mainly three types of transaction of 
residents of a country to the residents of rest of the world; 
? Visible items relating transaction i.e. exports and imports of physical goods such 
as computer, mobile phone, aircraft, oil product sugar, jute, cloths, jams and 
jewelry etc. Receipts from export items are recorded as positive entry or credit for 
a nation. On the other side payments for import items are recorded as negative 
entry or debit for a nation.   
? Invisible items relating transaction i.e. exports and imports of all type services 
such as banking, shipping, traveling, insurance, financial, government services 
etc. Receipts from export of services items are recorded as positive entry or credit 
for a nation. On the other side payments for import of services items are recorded 
as negative entry or debit for a nation.   
Balance of Payments 
Institute of Lifelong Learning, University of Delhi 
? Capital and financial relating transaction i.e. receipt and payment of capital such 
compensation of employee, income from investment i.e. foreign direct investment 
and portfolio investment, government transfer and other transfer. Receipts from 
external assistance, commercial borrowing, NRI deposits, foreign investment and 
other capital flows are recorded as positive entry or credit for a nation. On the 
other side payments for these aspects are recorded as negative entry or debit for a 
nation.  . 
In short, the sum of credit side and debits side must be equal to zero in balance of 
payments. 
                              Total Credits + Total Debits = Zero 
Balance of Trade (BOT): Balance of trade (BOT) is the relating only physically import and 
export of a country. It measures as the difference between in the value of export and import of 
the goods and services. In this account a nation takes only visible items relating transaction. Thus 
balance of payment is a systematical accounting record of all visible items with the rest of the 
world during the given balanced year. The balance of payment may be equal, deficit or surplus 
during a given period of time. It is not necessary that exports are equal to the import. Because the 
proportion of exports and imports of a nation are not equal.  If the value of exports exceeds the 
value of imports the country is called a favourable balance of trade or export surplus. On the 
other side, if the value of imports exceeds the value of exports, it is called a unfavourable 
(adverse) balance of trade or deficit trade. 
Distinguish between Balance of Payment and Balance of Trade: The differences between 
balance of payment and balance of trade are given table; 
Balance of Trade Balance of Payments 
? The balance of trade includes only 
visible items i.e. exports and imports of 
goods and services 
? The balance of payments includes 
visible as well as non-visible items and 
capital and financial transfers 
? Balance of trade can be surplus or 
deficit i.e. favourable or unfabourable 
? The balance of payments is always 
balance 
? Balance of trade is the internal 
components of balance of payments. It 
is narrow concept at the international 
level 
? The balance of payments is the broad 
concept. Because it gives a detail clear 
economic picture of a nation at the 
international level. 
 
SECTION II: ACCOUNTS OF BALANCE OF PAYMENTS 
 There are two main components of account of balance of payments; 
Page 5


Balance of Payments 
Institute of Lifelong Learning, University of Delhi 
 
 
 
 
 
 
Subject: Macroeconomics 
Lesson: Balance of Payments 
Lesson Developer: Sanjeev Kumar 
College/ Department: DSC, Delhi University 
  
Balance of Payments 
Institute of Lifelong Learning, University of Delhi 
 
TABLE OF CONTENTS 
 
? LEARNING OUTCOMES 
? SECTON I: INTRODUCTION 
? Balance of Trade 
? Balance of Payments 
? SECTON II: ACCOUNTS OF BALANCE OF PAYMENTS 
? Current Account 
? Capital and Financial Account 
? SECTON III: IS THE BALANCE OF PAYMENTS ALWAYS BALANCES 
? SECTON IV: REASONS FOR DISEQUILIBRIUM IN BALANCE OF  
PAYMENT 
? Economic Factors  
? Political Factors 
? Social Factors  
? Natural Factors 
? SECTON V: PERFORMANCE OF INDIA’S BALANCE OF PAYMENTS 
? QUESTIONS FOR EXERCISES 
? Multiple Choice Questions 
? Short Questions 
? Long Questions 
? Glossary 
? References 
 
 
 
 
 
 
 
Learning Outcomes of the Chapter 
After read this chapter, you should be familiar with the following aspects; 
Balance of Payments 
Institute of Lifelong Learning, University of Delhi 
? Balance of payments and balance of trade 
? Current and capital account of balance of payments 
? Analysis of the causes and correction of disequilibrium of balance of payments 
? The role of balance of trade and balance of payments in the development of 
macroeconomic policy.  
? Examine the balance of payments current account and capital account for national 
economy i.e., India.  
 
SECTION I: INTRODUCTION 
During the current age, there is no country, which is self sufficient in terms to produce all 
the goods and services for their all needs. Each country imports of all those goods and services 
which are not produce in these countries or produce at higher cost. Similarly, country exports of 
all those goods and services which are prefer to buy residents of foreign country as compare to 
its residents. So, all of economic transactions, every country have a balance of payments sheet 
for its account. 
The Balance of payments (BOP) of a country is a systematical accounting record of all 
monetary transactions with the rest of the world during the given year. Basically, the country's 
exports and imports of goods, services, financial capital, and financial transfers are included in 
these transactions payments. The BOP account is a statistical record of a country’s economic 
relationships with rest of the world.  
According to Bon Sodersten, “The balance of payments is merely a way of listing receipts and 
payments in international transactions for a country.” 
According to Cohen, “It shows the country’s trading position, changes in its net position as 
foreign lender or borrower, and changes in its official reserve holding.” 
Basically, the balance of payments account of a country is constructed on the principle of 
double entry book keeping. Because balance of payment entry book keeping two side i.e. credit 
side (+ left side) and debits side (- right side). There are mainly three types of transaction of 
residents of a country to the residents of rest of the world; 
? Visible items relating transaction i.e. exports and imports of physical goods such 
as computer, mobile phone, aircraft, oil product sugar, jute, cloths, jams and 
jewelry etc. Receipts from export items are recorded as positive entry or credit for 
a nation. On the other side payments for import items are recorded as negative 
entry or debit for a nation.   
? Invisible items relating transaction i.e. exports and imports of all type services 
such as banking, shipping, traveling, insurance, financial, government services 
etc. Receipts from export of services items are recorded as positive entry or credit 
for a nation. On the other side payments for import of services items are recorded 
as negative entry or debit for a nation.   
Balance of Payments 
Institute of Lifelong Learning, University of Delhi 
? Capital and financial relating transaction i.e. receipt and payment of capital such 
compensation of employee, income from investment i.e. foreign direct investment 
and portfolio investment, government transfer and other transfer. Receipts from 
external assistance, commercial borrowing, NRI deposits, foreign investment and 
other capital flows are recorded as positive entry or credit for a nation. On the 
other side payments for these aspects are recorded as negative entry or debit for a 
nation.  . 
In short, the sum of credit side and debits side must be equal to zero in balance of 
payments. 
                              Total Credits + Total Debits = Zero 
Balance of Trade (BOT): Balance of trade (BOT) is the relating only physically import and 
export of a country. It measures as the difference between in the value of export and import of 
the goods and services. In this account a nation takes only visible items relating transaction. Thus 
balance of payment is a systematical accounting record of all visible items with the rest of the 
world during the given balanced year. The balance of payment may be equal, deficit or surplus 
during a given period of time. It is not necessary that exports are equal to the import. Because the 
proportion of exports and imports of a nation are not equal.  If the value of exports exceeds the 
value of imports the country is called a favourable balance of trade or export surplus. On the 
other side, if the value of imports exceeds the value of exports, it is called a unfavourable 
(adverse) balance of trade or deficit trade. 
Distinguish between Balance of Payment and Balance of Trade: The differences between 
balance of payment and balance of trade are given table; 
Balance of Trade Balance of Payments 
? The balance of trade includes only 
visible items i.e. exports and imports of 
goods and services 
? The balance of payments includes 
visible as well as non-visible items and 
capital and financial transfers 
? Balance of trade can be surplus or 
deficit i.e. favourable or unfabourable 
? The balance of payments is always 
balance 
? Balance of trade is the internal 
components of balance of payments. It 
is narrow concept at the international 
level 
? The balance of payments is the broad 
concept. Because it gives a detail clear 
economic picture of a nation at the 
international level. 
 
SECTION II: ACCOUNTS OF BALANCE OF PAYMENTS 
 There are two main components of account of balance of payments; 
Balance of Payments 
Institute of Lifelong Learning, University of Delhi 
? Current Account 
? Capital and Financial Account 
According to International Monetary Fund (IMF), there are five accounts of balance of 
payments. They are; 
? Current Account 
? Capital Account 
? Financial Account 
? Net Errors and Omissions 
? Reserves and Related Items 
Further, IMF divided of these accounts in two broad parts; first one is current account and 
second one is capital and financial account (capital account) which is included capital account, 
financial account, net error and omissions, reserves and related items. Basically capital account is 
the sum of capital, financial, net error and reserves. 
Balance of payments on current account includes goods, services, income and current 
transfer of a country with the rest of world. Main Components of a balance of payments on 
current account are given below; 
BOP Components of Current Account 
Components Items 
Goods Account ? Import and export of only tangible goods such as 
computer, sugar, jute, cloths, jewelry etc.  
Service Account ? Banking and Shipping 
? Travel 
? Other Services 
? Communications services 
? Construction services 
? Insurance services 
? Financial services 
? Computer and information services 
? Royalties and license fees 
? Other business services 
? Personal, cultural, and recreational services 
? Government services 
Income Account ? Compensation of Employees (wages, salaries, and 
other benefits) 
? Income from Investment  
? Income from Direct Investment (income on 
equity and income on debt) 
? Income from Portfolio Investment (income 
on equity and income on debt) 
? Income from Other Investment (income on 
loans and others)