Balance of payment

What is the Balance of Payments (BOP)?

The balance of payments is a statement of all transactions made between entities in one country
and the rest of the world over a defined period of time, such as a quarter or a year.

What It Mean?

A country's balance of payments tells you whether it saves enough to pay for its imports. It
also reveals whether the country produces enough economic output to pay for its growth. The
BOP is reported for a quarter or a year.

Balance of payment have two component:

 Balance of payment deficit:

A balance of payments deficit means the country imports more goods, services and capital than
it exports. It must borrow from other countries to pay for its imports. In the short-term, that fuels
the country's economic growth. It's like taking out a school loan to pay for education. Your
expected higher future salary is worth the investment.

In the long-term, the country becomes a net consumer, not a producer, of the world's economic
output. It will have to go into debt to pay for consumption instead of investing in future growth.
If the deficit continues long enough, the country may have to sell off its assets to pay its
creditors. These assets include natural resources, land, and commodities.

For example the U.S. current account deficit reached a record $803 billion in 2006. That created
concern about the sustainability of such an imbalance. It fell during the recession but is now
growing again.

 Balance of payment surplus:

A balance of payments surplus means the country exports more than it imports. Its government
and residents are savers. They provide enough capital to pay for all domestic production. They
might even lend outside the country.

Definition of Balance of Trade

Trade refers to buying and selling of goods, but when it comes to buying and selling of goods
globally, then it is known as import and export. The Balance of Trade is the balance of the
imports and exports of commodities made to/by a country during a particular year. It is the most
important part of the current account of the country’s Balance of Payment. It keeps records of
tangible items only.

Definition of Balance of Payments

The Balance of Payments is a set of accounts that recognises all the commercial transactions
performed by the country in a particular period with the remaining countries of the world. It
keeps the record of all the monetary transactions done globally by the country on commodities,
services and income during the year.

. The Balance of Payment has been divided into the following sets of accounts:

 Current Account: The account that keeps the record of both tangible and intangible
items. Tangible items include goods while the intangible items are services and income.
 Capital Account: The account keeps a record of all the capital expenditure made and
income generated collectively by the public and private sector. Foreign Direct
Investment, External Commercial Borrowing, Government loan to Foreign Government,
etc. are included in Capital Account.
 Errors and Omissions: If in case the receipts and payments do not match with each
other then balance amount will be shown as errors and omissions.

Balance of Trade Vs Balance of Payments:

 1. Comparison Chart
2. Definition
3. Key Differences
4. Conclusion

 Comparison Chart:

BASIS FOR
BALANCE OF TRADE BALANCE OF PAYMENT
COMPARISON

Meaning Balance of Trade is a statement Balance of Payment is a statement

that captures the country's export that keeps track of all economic
and import of goods with the transactions done by the country with
remaining world. the remaining world.

Records Transactions related to goods Transactions related to both goods

only. and services are recorded.

Capital Transfers Are not included in the Balance of Are included in Balance of Payment.
Trade.

Which is better? It gives a partial view of the It gives a clear view of the economic
country's economic status. position of the country.

Result It can be Favorable, Unfavorable Both the receipts and payment sides
or balanced. tallies.

Component It is a component of Current Current Account and Capital

Account of Balance of Payment. Account.
Definition of Balance of Trade

Trade refers to buying and selling of goods, but when it comes to buying and selling of goods
globally, then it is known as import and export. The Balance of Trade is the balance of the
imports and exports of commodities made to/by a country during a particular year. It is the most
important part of the current account of the country’s Balance of Payment. It keeps records of
tangible items only.

Definition of Balance of Payments

The Balance of Payments is a set of accounts that recognises all the commercial transactions
performed by the country in a particular period with the remaining countries of the world. It
keeps the record of all the monetary transactions done globally by the country on commodities,
services and income during the year.

. The Balance of Payment has been divided into the following sets of accounts:

 Current Account: The account that keeps the record of both tangible and intangible
items. Tangible items include goods while the intangible items are services and income.
 Capital Account: The account keeps a record of all the capital expenditure made and
income generated collectively by the public and private sector. Foreign Direct
Investment, External Commercial Borrowing, Government loan to Foreign Government,
etc. are included in Capital Account.
 Errors and Omissions: If in case the receipts and payments do not match with each
other then balance amount will be shown as errors and omissions.

Key Differences Between Balance of Trade and Balance of Payments:

The following are the major differences between the balance of trade and balance of payments:
 1. A statement recording the imports and exports done in goods by/from the country with
the other countries, during a particular period is known as the Balance of Trade. The
Balance of Payment captures all the monetary transaction performed internationally by
the country during a course of time.
2. The Balance of Trade accounts for, only physical items, whereas Balance of Payment
keeps track of physical as well as non-physical items.
3. The Balance of Payments records capital receipts or payments, but Balance of Trade does
not include it.
4. The Balance of Trade can show a surplus, deficit or it can be balanced too. On the other
hand, Balance of Payments is always balanced.
5. The Balance of Trade is a major segment of Balance of Payment.
6. The Balance of Trade provides the only half picture of the country’s economic position.
Conversely, Balance of Payment gives a complete view of the country’s economic
position.

Conclusion:

Every country of the world keeps the record of inflow and outflow of money in the economy
with the help of a Balance of Trade and Balance of Payments. They reflect the actual position of
the whole economy. With the help of BOT and BOP, analysis and comparisons can also be made
that how much trade has increased or decreased, since the last period.

CAUSES OF DEFICIT IN BALANCE OF PAYMENT (BOP):

DEFICIT:

deficiency in amount or quality.

Causes of Deficit:

Causes for disequilibrium in BOP are listed below:

· Economic Factors(a) Imbalance between exports and imports. ...

· Political Factors

· Social Factors

Increase in capital good:

Capita lgoods means are our tangible assets like pant,machiner,there are used in
production of further goods.Import things have heavy amount increase in import of
capital goods then value of payment increase.Balance of ppayment becomes
deficit.

Decrease in Export:

Exports are mostly raw material have loe prices and imports are heavy things have
pricess.Reciepts are lesser than payments.Overall,imports are greater than
exports.therefore, BOP becomes deficit.

Inflation in Home Country:

Domestics products are expensive due to inflation .Its means foreign demand
becomes decrease and value of exppports decrease.Imports becomes high.

Old Technology:

Our country have old technology because of old technology our supply is low and
we can not manufactur good useful products.we only produce small amount of
products.we even can not fulfill our needs.Demand of local goods decrease.exports
becomes less aand imports become high,BOP becomes deficit.

Foreign Loan:
When we get low from other countries and pay interest and in returnour debt
payment is high which leads to deficit.BOP becomes low.

Dis-Equilibrium in Export & Imports:

Domestic needs do not satisfy becauses of low production. For fulfillment of basic
needs imports becomes high and exports become low.

Remedies of balance of payment:

There are many remedies of balance of payment.

1. Adjustment through Exchange Depreciation (Price Effect):
Under flexible exchange rates, the disequilibrium in the balance of payments is automatically
solved by the forces of demand and supply for foreign exchange. An exchange rate is the price of
a currency which is determined, like any other commodity, by demand and supply.

“The exchange rate varies with varying supply and demand conditions, but it is always possible
to find an equilibrium exchange rate which clears the foreign exchange market and creates
external equilibrium.” This is automatically achieved by depreciation of a country’s currency in
case of deficit in its balance of payments. Depreciation of a currency means that its relative value
decreases. Depreciation has the effect of encouraging exports and discouraging imports.

2. Devaluation or Expenditure-Switching Policy:

Devaluation raises the domestic price of imports and reduces the foreign price of exports of a
country devaluing its currency in relation to the currency of another country. Devaluation is
referred to as expenditure switching policy because it switches expenditure from imported to
domestic goods and services.

When a country devalues its currency, the price of foreign currency increases which makes
imports dearer and exports cheaper. This causes expenditures to be switched from foreign to
domestic goods as the country’s exports rise and the country produces more to meet the domestic
and foreign demand for goods with reduction in imports. Consequently, the balance of payments
deficit is eliminated.

3. Direct Controls:
To correct disequilibrium in the balance of payments, government also adopts direct controls
which aim at limiting the volume of imports. The government restricts the import of undesirable
or unimportant items by levying heavy import duties, fixation of quotas, etc.

At the same time, it may allow imports of essential goods duty free or at lower import duties, or
fix liberal import quotas for them. For instance, the government may allow free entry of capital
goods, but impose heavy import duties on luxuries.
4. Adjustment through Capital Movements:
A country can use capital imports to correct a deficit in its balance of payments. A deficit can be
financed by capital inflows. When capital is perfectly mobile within countries, a small rise in the
domestic rate of interest brings a large inflow of capital.

The balance of payments is said to be in equilibrium when the domestic interest rate equals the
world rate. If the domestic interest rate is higher than the world rate, there will be capital inflows
and the balance of payments deficit is corrected.

5. Adjustment through Income Changes:

Given the foreign exchange rate and prices in a country, an increase in the value of exports,
causes an increase in the incomes of all persons associated with the export industries. These, in
turn, create demand for other goods and services within the country. This will raise the incomes
of persons engaged in the latter industries and services. This process will continue and the
national income increases by the value of the multiplier.

6. Stimulation of Exports and Import Substitutes:

A deficit in the balance of payments can also be corrected by encouraging exports. Exports can
be encouraged by producing quality products, by increasing exports through increased
production and productivity, and by better marketing. They can also be increased by a policy of
import substitution.

It means that the country produces those goods which it imports. In the beginning imports are
reduced but in the long run exports of such goods start. An increase in exports cause the national
income to rise by many times through the operation of the foreign trade multiplier.