The Balance

of Payments

Chapter Objective:
This chapter serves to introduce the students
to the meaning, and measurement of the
balance of payments. And defines the
concepts of deficit and surplus in a nations
balance of payments.

Chapter 2
Balance of Payments

1.Introduction :Meaning
2.Balance of Payments Accounting principles
(1)Credits and Debits
(2)Double-Entry Bookkeeping
3. International Transactions
4.Accounting Balances and Disequilibrium in
International Transactions
5.Balance of Payments Trends in Major Countries

(1)Meaning
The Balance of Payments is the statistical
record of a countrys international
transactions over a certain period of time
presented in the form of double-entry
bookkeeping.
A summary statement, a few major
categories

(1)Meaning
N.B.
International transaction
Resident (when we say a countrys balance
of payments we are referring to the
transactions of its citizens and government.)
A certain or a particular period of time

(1)Meaning
For example: in one year in the U.S.
Following international transaction
A U.S. firm exports $500 of goods to be paid for three
months.
A U.S. resident visits London and spent $200 on hotels,
meals and so on.
The U.S. government gives a U.S bank balance of $100
to the government of a developing nation as part of the
U.S. aid program.
A U.S. resident purchases a foreign stock for $400 .
A foreign investor purchases $300 of U.S. T-bills.

(1)Meaning
Credit(+)

Goods
Services
Unilateral transfers
Capital, net
Total

Debit(-)

$500
$200
100
200
$500

$500

2.Balance of Payments Accounting

Principles
(1)Credits and Debits
Credit: any transaction that results in receipt from
foreigners , recorded with a positive sign +
Debt: any transaction that give rise to a payment
to foreigners , recorded with a negative sign -
Capital inflows:an increase in foreign assets in the
nation or a reduction in the nations assets abroad

(2) Double-Entry Bookkeeping

Example1:Suppose that Boeing Corporation
exported a Boeing 747 aircraft to Japan
Airlines for $50million, and that Japan pays
from its dollar bank account kept with Chase
Manhattan Bank in New York City. Then the
receipt of $50 million by Boeing will be
recorded as a credit(+), which will matched
by a debit(-) of the same amount representing
a reduction of the U.S. banks liabilities.

(2) Double-Entry Bookkeeping

Example 2: Boeing imports jet engines
produced by Rolls-Royce for $30million,
that Boeing makes payment by transferring
the funds to a New York bank account kept
by Rolls-Royce. Payment by Boeing will be
recorded as a debit(-), whereas the deposit
of the funds by Rolls-Royce will be
recorded as a credit (+).

(2) Double-Entry Bookkeeping

Example 3: Suppose that Ford acquires
Jaguar, a British car manufacturer, for $750
million, and that Jaguar deposits the money
in Barclays Bank in London, which ,in
turn,uses the sum to purchase U.S treasury
notes. In this case ,the payment of
$750million by Ford will be recorded as
debit(-), Barclays purchase of the U.S.
Treasury notes recorded as a credit(+)

Transactions (million)
Boeings export
Withdrawal from
U.S. bank
Boeings import
Deposit at U.S.bank
Fords acquisition
of Jaguar
Barclays purchase
of U.S. securities

Credit
$50

Debit
-$50
-$30

$30
-$750
$750

3. International transactions
The balance of payments accounts are those that
record all transactions between the residents of a
country and residents of all foreign nations.
They are composed of the following:
(1)The Current Account
(2)The Capital Account
(3)Statistical Discrepancy
(4)The Official Reserves Account

(1)The Current Account

Includes all imports and exports of goods
and services.
Includes unilateral transfers of foreign aid.
If the debits exceed the credits, then a
country is running a trade deficit.

(2)The Capital Account

The capital account measures the difference
between U.S. sales of assets to foreigners and U.S.
purchases of foreign assets.
The U.S. enjoys about a $382 billion capital
account surplusabsent of U.S. borrowing from
foreigners, this finances our trade deficit.
The capital account is composed of Foreign Direct
Investment (FDI), portfolio investments and other
investments.

(3)Statistical Discrepancy
Theres going to be some omissions and
misrecorded transactionsso we use a
plug figure to get things to balance.
Exhibit shows a discrepancy of $11 billion
in 2001.

(4)The Official Reserves Account

Official reserves assets include gold,
foreign currencies, SDRs, reserve positions
in the IMF.

4.Accounting Balances and

Disequilibrium in International
Transactions

Autonomous transactions: items above the

line
All transactions in the current and capital
account
Accommodating transactions: items below
the line
the official reserve account

4.Accounting Balances and

Disequilibrium in International
Transactions
In BCA and BKA, If debit >credit deficit
If credit>debit surplus
where
BCA = balance on current account
BKA = balance on capital account
BRA = balance on the reserves account
BCA + BKA + BRA = 0
Under a pure flexible exchange rate regime,
BCA + BKA = 0

U.S. Balance of Payments Data2001(in

billion)
Current Account
1
Exports
2

Credits
$1,282

Imports

($1,626)

Transfers Unilateral
Balance on Current Account
Capital Account
4
Direct Investment
5
Portfolio Investment
6
Other Investments
Balance on Capital Account
7
Statistical Discrepancies
Overall Balance
Official Reserve Account

Debits

($49)
($393)
$131
$400
$218
$382
($11)
$0

($128)
($95)
($143)

($0)

U.S. Balance of Payments Data

Credits

Debits

Current Account
1

Exports

Imports

Unilateral Transfers
Balance on Current Account
Capital Account
4
5
6

Direct Investment
Portfolio Investment
Other Investments
Balance on Capital Account

Statistical Discrepancies
Overall Balance
Official Reserve Account

$1,167.61
($1,295.53)
$6.13

($45.01)
($166.80)

$107.93
$387.62
$194.95
$264.58

($119.44)
($79.28)
($227.2)

($96.76)
$1.02
($1.02)

In 1997, the U.S.

imported more
than it exported,
thus running a
current account
deficit of $166.8
billion.

U.S. Balance of Payments Data

Credits

Debits

Current Account
1

Exports

Imports

Unilateral Transfers
Balance on Current Account
Capital Account
4
5
6

Direct Investment
Portfolio Investment
Other Investments
Balance on Capital Account

Statistical Discrepancies
Overall Balance
Official Reserve Account

$1,167.61
($1,295.53)
$6.13

($45.01)
($166.80)

$107.93
$387.62
$194.95
$264.58

($119.44)
($79.28)
($227.2)

($96.76)
$1.02
($1.02)

During the same

year, the U.S.
attracted net
investment of
$264.58 billion
clearly the
rest of the world
found the U.S.
to be a good
place to invest.

U.S. Balance of Payments Data

Credits

Debits

Current Account
1

Exports

Imports

Unilateral Transfers
Balance on Current Account
Capital Account
4
5
6

Direct Investment
Portfolio Investment
Other Investments
Balance on Capital Account

Statistical Discrepancies
Overall Balance
Official Reserve Account

$1,167.61
($1,295.53)
$6.13

($45.01)
($166.80)

$107.93
$387.62
$194.95
$264.58

($119.44)
($79.28)
($227.2)

($96.76)
$1.02
($1.02)

Under a pure
flexible
exchange
rate regime,
these
numbers
would
balance each
other out.

U.S. Balance of Payments Data

Credits

Debits

Current Account
1

Exports

Imports

Unilateral Transfers
Balance on Current Account
Capital Account
4
5
6

Direct Investment
Portfolio Investment
Other Investments
Balance on Capital Account

Statistical Discrepancies
Overall Balance
Official Reserve Account

$1,167.61
($1,295.53)
$6.13

($45.01)
($166.80)

$107.93
$387.62
$194.95
$264.58

($119.44)
($79.28)
($227.2)

($96.76)
$1.02
($1.02)

In the real
world, there
is a statistical
discrepancy.

U.S. Balance of Payments Data

Credits

Debits

Current Account
1

Exports

Imports

Unilateral Transfers
Balance on Current Account
Capital Account
4
5
6

Direct Investment
Portfolio Investment
Other Investments
Balance on Capital Account

Statistical Discrepancies
Overall Balance
Official Reserve Account

$1,167.61
($1,295.53)
$6.13

($45.01)
($166.80)

$107.93
$387.62
$194.95
$264.58

($119.44)
($79.28)
($227.2)

($96.76)
$1.02
($1.02)

Including that,
the balance of
payments
identity should
hold:
BCA + BKA =
- BRA

($166.80) + $264.58 + ($96.76) = $1.02= ($1.02)

U.S. Balance of Payments Data

Credits

Debits

Current Account
1

Exports

Imports

Unilateral Transfers
Balance on Current Account
Capital Account
4
5
6

Direct Investment
Portfolio Investment
Other Investments
Balance on Capital Account

Statistical Discrepancies
Overall Balance
Official Reserve Account

$1,167.61
($1,295.53)
$6.13

($45.01)
($166.80)

$107.93
$387.62
$194.95
$264.58

($119.44)
($79.28)
($227.2)

($96.76)
$1.02
($1.02)

Exchange rate $

U.S. Balance of Payments Data

Credits

Debits

Current Account
1

Exports

Imports

Unilateral Transfers
Balance on Current Account
Capital Account
4
5
6

Direct Investment
Portfolio Investment
Other Investments
Balance on Capital Account

Statistical Discrepancies
Overall Balance
Official Reserve Account

$1,167.61
($1,295.53)
$6.13

($45.01)
($166.80)

$107.93
$387.62
$194.95
$264.58

($119.44)
($79.28)
($227.2)

($96.76)
$1.02
($1.02)

P
S

D
Q

As U.S. citizens import, they are supply dollars to the FOREX market.

U.S. Balance of Payments Data

Credits

Debits

Current Account
1

Exports

Imports

Unilateral Transfers
Balance on Current Account
Capital Account
4
5
6

Direct Investment
Portfolio Investment
Other Investments
Balance on Capital Account

Statistical Discrepancies
Overall Balance
Official Reserve Account

P
D

$1,167.61

($1,295.53)
$6.13

($45.01)
($166.80)

$107.93
$387.62
$194.95
$264.58

($119.44)
($79.28)
($227.2)

($96.76)
$1.02
($1.02)

Exchange rate $

As U.S. citizens export, others demand dollars at the FOREX market.

U.S. Balance of Payments Data

Credits

Debits

Current Account
1

Exports

Imports

Unilateral Transfers
Balance on Current Account
Capital Account
4
5
6

Direct Investment
Portfolio Investment
Other Investments
Balance on Capital Account

Statistical Discrepancies
Overall Balance
Official Reserve Account

$1,167.61
($1,295.53)
$6.13

($45.01)
($166.80)

$107.93
$387.62
$194.95
$264.58

($119.44)
($79.28)
($227.2)

($96.76)
$1.02
($1.02)

P
SS

D
Q
Exchange rate $

As the U.S. government sells dollars, the supply of dollars increases.

Chinas Balance of Payments Data(2013)

Credits

Debits

Current Account
1

Goods and services

Income

Unilateral Transfers
Balance on Current Account
Capital Account
4
5
6

Direct Investment
Portfolio Investment
Other Investments
Balance on Capital Account

Statistical Discrepancies
Overall Balance
Official Reserve Account

$24,250
$1,855
$532
$1,828
$3,478
$1,041
$12,752
$3,262

($21,896)
($2,293)
($619)

($1,629)
($436)
($11,944)
($776)

$4,314
($4,314)

5.Balance of Payments Trends

Since

1982 the U.S. has experienced

continuous deficits on the current account
and continuous surpluses on the capital
account. See case study13.3, 13.4
During

the same period, Japan has

experienced the opposite.see case
study13.3

U.S. Balance of Payments Trends

200
Balance of Payments ($b)

150
100
50

Current Account

Capital Account

-50
-100
-150
-200
Year

Japan's Balance of Payments Trend

Balance of Payments ($b)

150
100
50
Current Account

Capital Account

-50
-100
-150
Year

5.Balance of Payments Trends

Germany traditionally had current account
surpluses.
Since 1991 Germany has been experiencing
current account deficits.
This is largely due to German reunification and
the resultant need to absorb more output
domestically to rebuild the former East Germany.
What matters is the nature and causes of the
disequilibrium.

Germany's Balance of Payments Trend

80
Balance of Payments ($b)

60
40
20

Current Account

Capital Account

-20
-40
-60
-80
Year

Balance of payments
Credit
Debit
Capital inflows and outflows
Double-entry bookkeeping
Capital account
Current account
FDI
Official reserve assets
Official reserve account
Surplus and deficit

Key words

 1.Since the early

1980s, foreign
portfolio investors
have purchased a
significant portion of
U.S. Treasury bond
issues.

Discuss the short

term and long
term effects of
foreigners
portfolio
investment on the
balance of
payments

 2.China experienced large

scale trade surplus, and a
major currency parity.
Document the trend in
Chinas key economic
indicators, such as the
balance of payments, the
exchange rate and foreign
reserve holdings, during the
period 2008 through 2013

Discuss what
policy actions
might have
remained the
growth of
economy.

 1)A Japanese insurance

company purchases U.S.
Treasury bonds and pays
out of its bank account
kept in New York City.
2)A U.S citizen consumes
a meal at a restaurant in
Paris and pays with her
American Express card.

Explain how
each of the
following
transactions
will be
classified and
recorded in the
U.S. balance
of payments

 3)An Indian immigrant living

in Los Angeles sends a check
drawn on his LA bank
account as a gift to his
parents living in Bombay.
4)A U.S. computer
programmer is hired by a
British company for
consulting and gets paid from
the U.S. bank account
maintained by the British
company.