Page 206 - DECO201_MACRO_ECONOMICS_ENGLISH

Unit 12: Balance of Payments

The Total Balance of Payments Notes

The BOP is just the sum of these three accounts and is calculated as follows:
BOP = Current Account Balance + Capital Account Balance + Change in Official
Reserves Account
BOP = BCRA + CPA + ORA
The BOP must always equal 0, i.e., balance since it is an accounting identity in a fixed exchange
rate system. If for some reason, the CRA and CPA do not sum to 0, then the government must
take action by adjusting the ORA so that BOP equals 0. The government does this by buying or
selling foreign currency and gold, depending on the situation, up to a total that equals the CRA
and CPA.
On the other hand, in a floating rate system, the government is not obligated to act. Market
forces would act to adjust the exchange rate as necessary to force the BOP back to 0.

Example:

BALANCE OF PAYMENTS ACCOUNT OF A COUNTRY FOR A PARTICULAR YEAR
Credit Items (Receipts) Debit Items (Payments)
(1) Current Account (Rs. in crores)
1. Merchandise Exports 200 1. Merchandise Imports 300
2. Services Exported 100 2. Services Imported 200
3. Investment Income (accrued from 100 3. Investment Income (accrued by 200
investment in foreign countries) foreigners from their investment)
4. Unilateral Receipts 200 4. Unilateral Payments 100
Sub Total 600 Sub Total 800
(2) Capital Account
5. Long-term Borrowings 200 5. Long-term Lending’s 80
6. Short-term Borrowings 100 6. Short-term Lending’s 60
7. Gold Shipment (Sale of Gold) 100 7. Gold Shipment (Purchase of 50
Gold)
Sub Total 400 Sub Total 190
8. Errors & Omissions 10
Total Receipts 1000 Total Payments 1000
Source: www.kalyan-city.blogspot.com

12.1.1 Equilibrium and Disequilibrium in Balance of Payments

When payments are larger than receipts in international transactions, it is called deficit balance
of payments, but when receipts are larger than payments, it is called surplus balance of payments.
There are four main ways of measuring surplus or deficit:

(a) Balance on Current Account: This includes the balance of visible and invisible items and
unilateral transfers.
(b) Basic Balance: It includes only the current account balance and the long-term capital
account balance.

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