Page 134 - DECO503_INTERNATIONAL_TRADE_AND_FINANCE_ENGLISH

International Trade and Finance

Notes (i.e. an excess of debits over credits) is necessarily a sign of undesirable state of affairs in a country
? The answer is “no”. Because, take for example, the case of a developing country, which might be
importing vast quantities of capital goods and technology to build a strong agricultural or industrial
base. Such a country in the course of doing that might be forced to experience passive (or adverse)
trade balance, and such a situation of passive trade balance cannot be described as one of undesirable
state of affairs. This would therefore again suggest that before drawing meaningful inferences as
to whether passive trade balance is a desirable or an undesirable state of affairs for a country, we
must also know the composition of imports which are causing conditions of adverse trade balance
for that country. At any rate, the importance of trade balance in any country’s BOP can hardly be
exaggerated.
Balance of Payments on Current Account

This is a broader concept than the concept of balance of trade. Balance of Payments on Current Account
includes the sum of three balances viz. Merchandise balance, service balance and unilateral transfers
balance. In other words, it comprises of trade balance (in Meade’s sense) and transfers balance. In
Table 3 the positive unilateral transfers balance of $180 million is added on to the negative trade
balance of $130 million which will give us a current account BOP surplus of $50 million.
Balance of Payments on Current Account is also referred to as Net Foreign Investment because the
sum represents the contribution of foreign trade to GNP.
It is also worth remembering that BOP on Current Account covers all the receipts on account of
earnings (or opposed to borrowings) and all the payments arising out of spendings (as opposed to
lendings). There is no reverse flow entailed in the BOP current account transactions. This is in sharp
contrast to the balance of payments on Capital Account which we will see below.
Balance of Payments on Capital Account

For a long time, economists had assumed that factors of production do not move across international
boundaries; the classical economists built models of trade assuming that only goods and services
move across international boundaries. International capital movements viewed in that light, were an
impossibility. Perhaps, for this reason, we do not have a well developed theory of international capital
movement, although, as we have seen in previous chapters, we have well advanced theories of
international trade in goods and services (e.g. Comparative Advantage Models, Heckscher-Ohlin
model, demand reversal, factor-intensity reversal, Leontief Paradox and a whole lot of the so-called
“New” theories of international trade). However, this is no occasion to discuss the theory of
international capital flows. Theory or no theory, international capital movements in and out of countries
are a fact of life and very much a reality in today’s world. With so many multinational banks, transnational
corporations with their giant global operations, inter-governmental aid, grants and loans and
international institutional arrangements for borrowing and lending of money between the countries of
the world, the international capital and investment flows across nations have reached unprecedented
proportions, especially after World War II period. Less developed countries are the net recipients of
foreign capital and investment and some see it as an opportunity for these countries to maximize their
rate of growth and minimize their balance of payments hardships. The radical political economists
consider this trend to be potentially dangerous to the LDCs, because (a) it will subject the economies of
the poor Third World nations to economic imperialism by the Western Capitalist countries and (b) the
mounting foreign debt of these Third World countries keeps compelling them to borrow still more in
order to repay the debt resulting not in less debt but more debt as the years go by. They will be, therefore,
perpetually “dependent” on borrowings from foreign sources. Be that as it may!!
Returning to the question of BOP accounting procedure, all the transactions involving inward or
outward movement of capital and investment (be it long term or short term, direct or portfolio,
private or government, individual or institutional, tied or untied, interest bearing or non-interest
bearing, soft or hard) are included in the Capital Account of the BOP of the reporting country. In
simple terms, the BOP Capital Account comprises of the Long-Term and Short-Term Capital Accounts.
In Table 3, the Capital Account balance shows a net surplus of $40 million (see item numbers 4 and 5
and item D in the Table).

128 LOVELY PROFESSIONAL UNIVERSITY