Balance of Payments
Prof Lokesh Payasi
Multinational Corporations
• A firm that has incorporated on one country
and has production and sales operations in
other countries.
• There are about 60,000 MNCs in the world.
• Many MNCs obtain raw materials from one
nation, financial capital from another,
produce goods with labor and capital
equipment in a third country and sell their
output in various other national markets.
Privatization
• The selling off state-run enterprises to
investors is also known as “Denationalization”.
• Often seen in socialist economies in transition
to market economies.
• By most estimates this increases the efficiency
of the enterprise.
• Often spurs a tremendous increase in cross-
border investment.
Balance of Payments
• The balance of payments is an accounting
statement that summarizes all the economic
transactions between resident of the home
country and resident of all other countries.
• BOP of a country is a “systematic record of all
economic and commercial transactions
between the residents of the reporting
country and residents of foreign countries.
BOP
In BOP word transactions include..
• Export and Import of goods and services
• Lending and borrowing of fund
• Remittances and government aid and military
expenditures.
• BOP reflects the totality of a country’s economic
relation with the rest of the world.
• It is a source and uses of funds statement that
reflects changes in assets, liabilities or net worth.
BOP Characteristics(accounting)
• Double entry bookkeeping
• Neither an Income statement nor Balance sheet
• Credit transactions are those that earn foreign
exchange and recorded in (+).
• Export of goods or services
• Unilateral transfer(gifts) received from foreigners
• Capital Inflows
• Debit Transactions (-) are those that involve the
payment of foreign exchange.
• Import of Goods and Services
• Unilateral transfer(gifts) made to foreigners
• Capital outflows
BOP statement
• The Current Account: surplus->inflow of fund
– The merchandise trade balance
– The services balance
– The balance on unilateral transfer
• The Capital Account: Loans, Investment
Surplus in current acc=deficit in capital acc.
– Direct investment
– Portfolio investment
– Capital flows
• The Official Reserve account
Under Floating Exchange Rates
- BP is the current account (CA) plus the capital account (KA):
BP = CA + KA (1)
- CA is given by:
CA = X – IM + FII (2)
(X stands for exports, IM for imports, FII for foreign investment income, OF is
“official financing”)
- in a pure floating exchange rate system: domestic authority does not
intervene in foreign exchange market BP deficits and surpluses do not
exist; eliminated through exchange rate changes
OF = BP = 0 (3)
Under Floating Exchange Rates (cont.)
- KA and CA must move in opposite
directions such that:
CA = - KA (4)
“Monetary Mercantilism”
- growth strategy implied by “monetary
mercantilism” is that (e.g.) domestic
monetary authorities follow an expansionary
monetary policy and lower real interest rates:
• stimulates growth
• causes capital outflows (negative KA) – but this is
not necessarily a “bad thing”
• depreciates the real exchange rate
• leads to a further export-led stimulus to growth
(positive CA)
“Monetary Mercantilism”
- can be argued that following nations all did
something like this in their rise to
prominence as “capitalist” powers (not
necessarily always with floating rates):
• 17th century Holland
• 18th and19th century Britain
• 20th century America
• late 20th century Japan
• contemporary China
Std components of BOP
CURRENT ACCOUNT CAPITAL ACCOUNT
(+) Export fob +(-) Direct Investment
(-) Import fob +(-) Portfolio Investment
= Trade Balance +(-) Other Long term Capital
(+) Exports on Non-financial services +(-) Other Short term Capital
(-) Imports on Non-financial services +(-) Net errors and omissions
(+) Investment Income(Credit) +(-) Counterpart items
(-) Investment Income(Debit) +(-) Total change in reserves
+(-) Private unrequited transfers
+(-) Official unrequited transfers
= Current Account balance = Capital Account balance
Generic Balance of Payments
A.Current Account
1. Net Export/ Import of Goods (Trade Balance)
2. Net Export/ Imports of Services
3. Net Income (Investment income from direct and
portfolio investment plus employee compensation)
4. Net Transfer (sums sent home by migrants and
permanent workers abroad, gifts, grants, and pensions)
A( 1-4) = Current Account Balance
Generic Balance of Payments cont..
B. Capital Account
1. Capital Transfers related to the purchase and sale of fixed assets such as
real estate.
C. Financial Account
1. Net foreign direct investment
2. Net portfolio investment
3. Other financial items
A+B+C= Basic Balance
Generic Balance of Payments cont..
D. Net Errors and Omissions account
Missing Data such as illegal transfer
A+B+C+D=Overall Balance
