BALANCE OF PAYMENTS

BALANCE OF PAYMENT The BOP can be defined as a statement of all economic transactions between the

residents of a nation and the rest of the world during a period of time, usually one year .

Economic transactions include all the transactions that involve the transfer of title or ownership of goods ,services ,money and assets between the residents of a country and the rest of the world .

Residents means the nationals of the reporting country . Receipts are recorded on the credit side and payments on the debit side.

PURPOSE It yields necessary information on the strength and weakness of the country’s

international Economic status. Whether composition and direction of international trade and capital movements

have improved or caused deterioration in the economic condition of the country . BOP statements give warning signals for future policy formulation . To provide useful information to financial decision makers.

CURRENT ACCOUNT

•The current account records transactions relating to export and import of goods, services, unilateral transfers and international incomes.

The main components of the current account are:• Trade in goods (visible balance)• Trade in services (invisible balance) e.g. insurance and services• Investment incomes e.g. dividends, interest and migrants remittances from abroad• Net transfers – e.g. International aid, NRI transfers

CURRENT ACCOUNT BALANCEThe current account balance is the difference between a country's savings and its investment. If the current account balance is positive, it measures the portion of a

country's saving invested abroad; If negative, the portion of domestic investment financed by foreigners'

savings. It can also be defined by the sum of the value of imports of goods and

services plus net returns on investments abroad, minus the value of exports of goods and services, where all these elements are measured in the domestic currency.

BALANCE OF TRADE

The difference between a country's imports and its exports. Balance of trade is the largest component of a country's balance of payments. Debit items include imports, foreign aid, domestic spending abroad and domestic investments abroad. Credit items include exports, foreign spending in the domestic economy and foreign investments in the domestic economy. When exports are greater than imports than the BOT is favourable and if imports are greater than exports then it is unfavourable

BOP1. It is a broad term.2. It includes all transactions related to visible,

invisible and capital transfers.3. It is always balances itself.4. BOP = Current Account + Capital Account  +

or - Balancing item ( Errors and omissions)5. Following are main factors 

which affect BOPa) Conditions of foreign lenders. b) Economic policy of Govt. c) all the factors of BOT

BOT1. It is a narrow term.2. It includes only visible items. 3. It can be favourable or unfavourable.4. BOT = Net Earning on 

Export - Net payment for imports.5. Following are main factors 

which affect BOTa) cost of productionb) availability of raw materialsc) Exchange rated) Prices of goods manufactured at home

DIFFERENCE

INDIA’S CURRENT ACCOUNT• The current account deficit in India narrowed to 6200 USD Million in the second quarter of 2015 from a 7800 USD Million gap a year earlier.• Imports have been falling more than exports due to lower oil prices, thus leading to a smaller trade deficit.• The current account deficit for the three months to June of 2015 corresponds to 1.2 percent of the country's GDP.

CAPITAL ACCOUNT•Capital account transaction is defined as a transaction which:-• It includes those transactions which are undertaken by a resident of India such that his/her assets or liabilities outside India are altered.• It includes those transactions which are undertaken by a non-resident such that his/her assets or liabilities in India are altered.

•Different types of Capital Account Transactions:•Private transactions: It includes all types of investment: direct, portfolio and short-term.•Government transactions: It consists of loans to and from foreign official agencies.

LIST OF CAPITAL ACCOUNT TRANSACTIONS

Transfer or issue of any security or foreign security by any branch, office or agency in India of a person resident outside India;

Any borrowing or lending in rupees in whatever form or by whatever name called between a person resident in India and a person resident outside India;

Deposits between persons resident in India and persons resident outside India; Export, import or holding of currency or currency notes;

Acquisition and Transfer of immovable property outside India, other than a lease not exceeding five years, by a person resident in India;

Giving of a guarantee or surety in respect of any debt, obligation or other liability incurred-

(i) By a person resident in India and owed to a person resident outside India; or

(ii) By a person

BALANCE OF PAYMENT ALWAYS BALANCES Double entry system.

Debit side shows the use of total foreign exchange acquired in a particular period.

Credit side shows the sources from which the foreign exchange is acquired during a particular period.

IMPORTANCE OF BALANCE OF PAYMENTReflects Various Aspects of Country’s International Economic PositionGovernment Decision Making tool – Fiscal and Monetary policy.For Developing States – it reflects the Economic Development on financial Assistance by Developed Countries.

Economic Barometer- determining 1. Short term International Economic Prospect 2. Degree of International Solvency 3. Determine Exchange Rate of Country’s Currency.

THE RESERVE ACCOUNT

Three accounts: IMF, SDR & Reserve and Monetary Gold are collectively called as The Reserve Account. The IMF account contains purchases (credits) and re-purchase (debits) from International Monetary Fund. Special Drawing Rights (SDRs) are a reserve asset created by IMF and allocated from time to time to member countries. It can be used to settle international payments between monetary authorities of two different countries.

OVERALL BOP

•Total of a country’s current and capital account is reflected in overall Balance of payments. It includes errors and omissions and official reserve transactions.

•The errors may be due to statistical discrepancies & omission may be due to certain transactions may not be recorded.

For e.g.: A remittance by an Indian working abroad to India may not yet recorded, or a payment of dividend abroad by an MNC operating in India may not yet recorded or so on.

•The errors and omissions amount equals to the amount necessary to balance both the sides

CAUSES OF DISEQUILIBRIUM

1. Natural causes – e.g. floods, earthquake etc.

2. Economic causes – e.g. Cyclical Fluctuations, Inflation

3. Political causes – e.g. international relation, political instability, etc.

4. Social factors – e.g. change in taste and preferences etc.

HOW TO CORRECT THE BALANCE OF PAYMENT?1. Monetary Measures Deflation: It means falling prices. It is brought through monetary measures like bank rate policy, open market operations, etc. or through fiscal measures like higher taxation, reduction in public expenditure, etc. It would make our items cheaper in foreign market resulting a rise in our exports. However, it can be successful when the exchange rate remains fixed.

Exchange Depreciation: It means decline in the rate of exchange of domestic currency in terms of foreign currency. This device implies that a country has adopted a flexible exchange rate policy. It will stimulate exports and reduce imports because exports will become cheaper and imports costlier. Hence, a favorable balance of payments would emerge to pay off the deficit.

Devaluation - Devaluation refers to deliberate attempt made by monetary authorities to bring down the value of home currency against foreign currency. Generally devaluation is resorted to where there is serious adverse balance of payment problem.

2. Non-Monetary Measures Export Promotion: This includes substitutes, tax concessions to exporters, marketing facilities, credit and incentives to exporters, etc. The government may also help to promote export through exhibition, trade fairs; conducting marketing research & by providing the required administrative and diplomatic help to tap the potential markets.

Quotas: Under the quota system, the government may fix and permit the maximum quantity or value of a commodity to be imported during a given period. By restricting imports through the quota system, the deficit is reduced and the balance of payments position is improved.

Tariffs: Tariffs are duties (taxes) imposed on imports. When tariffs are imposed, the prices of imports would increase to the extent of tariff. The increased prices will reduced the demand for imported goods and at the same time induce domestic producers to produce more of import substitutes. Non-essential imports can be drastically reduced by imposing a very high rate of tariff.

HOW TO CORRECT THE BALANCE OF PAYMENT?

TRENDS IN INDIA’S BALANCE OF PAYMENTS A country, like India, which is on the path of development generally, experiences a deficit balance of payments situation.

This is because such a country requires imported machines, technology and capital equipments in order to successfully launch and carry out the programme of industrialization

BOP POSITION OF INDIA

BoP during April-March 2015:

• On a cumulative basis, the overall BoP during 2014-15 showed improvement over the preceding year. Lower CAD, on the back of contraction in trade deficit and marginal improvement in the net invisible earnings, along with a sizable increase in net financial flows enabled a large build-up of reserves.

• India’s trade deficit narrowed to US$ 144.2 billion in 2014-15 from US$ 147.6 billion in 2013-14. With modest increase in invisibles supported by some improvement in net services receipts, the CAD tracked the trade deficit and shrank to US$ 27.5 billion in 2014-15 (1.3 per cent of GDP) from US$ 32.4 billion (1.7 per cent of GDP) a year ago.

• Net inflows under the capital and financial account (excluding change in foreign exchange reserves) rose to US$ 89.5 billion during 2014-15 from US$ 48.7 billion in the previous year.

• There was an accretion to India’s foreign exchange reserves to the tune of US$ 61.4 billion in 2014-15 as compared with US$ 15.5 billion in 2013-14.

• At the end of March 2015, the level of foreign exchange reserves stood at US$ 341.6 billion.

BOP POSITION OF INDIA

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