Balance of Payments

Current Account- Current account is that which

records imports and exports of goods and services
and unilateral transfers.
Components of Current Account
1. Export and Import of goods(or of visible items)
2. Export and import of services(or of invisible
items)
3. Unilateral Transfers from one country to another
 Current Account Balance
Current Account Balance=Balance of visible
trade+ Balance of invisible trade+ Balance of
unilateral transfers
Note: balance of trade or trade balance
often refers to the balance occurring on
account of the export and import of goods
only(or the export and import of visible items
only)
 Unilateral transfers- These refer to one sided
transfers from one country to the other. These
are not trading transactions. There is no
payment in response to the receipt of
unilateral transfers.
Examples: Gifts,aids,donations,etc
 Capital Account
Capital Account is that account which records all such transactions
between residents of a country and rest of the world which cause a
change in the asset or liability status of the residents of a country or
its government.
Components of Capital Account:-
1. Foreign Investment
(i) FDI (Foreign Direct Investment) referring to the purchase of asset in
rest of the world which allows control over that asset.
Example: Purchase of a firm by TATA in rest of the world.
(ii) Portfolio Investment, referring to purchase of an asset in the rest of
the world without any control over that asset.
Example: Purchase of some shares of a company by TATA in the rest of
the world.
2. Loans:
(i) Commercial Borrowings- Referring to borrowing by a country
(including govt and private sector) from the international money
market. This involves market rate of interest without any
considerations of any concession.
(ii) Borrowings as External Assistance- Referring to borrowing by a
country with considerations of assistance. It involves lower rate of
interest compared to that prevailing in the open market.
(iii) Banking Capital Transactions: Referring to transactions of external
financial assets and liabilities of commercial banks and c0-
operative banks operating as authorized dealers in foreign
exchange. These transactions include NRI deposits.
 Capital Account Balance
Capital Account Balance=Inflow of foreign
exchange on account of the sale of domestic
assets or borrowings from rest of the world-
Outflow of foreign exchange on account of the
purchase of foreign assets or loans to the rest
of the world.
Surplus on capital account implies net inflow
of capital. Deficit on capital account implies
net outflow of capital.
 Balance of Payments: Accounting Sense and
Operational Sense
Assets(Credits) Rs Crore Liabilities(Debits) Rs Crore
1. Export of goods 550 1. Import of goods 800
2. Export of 150 2. Import of 50
services( banking, services( banking,
shipping, insurance, shipping, insurance,
etc) tourism, etc)
3. Transfer 100 3. Transfer 80
Payments from rest payments to rest of
of the world(gifts, the world(gifts, aid,
aid, etc) etc)
4. Capital Receipts( 200 4. Capital Payments 70
loans, sale of assets (loans to foreigners,
to foreigners, buying of assets
receipt of capital) from foreigners,
payment of capital
to foreigners)
TOTAL RECEIPTS 1000 TOTAL PAYMENTS 1000
 Accounting sense balance of payments balance,
because total receipts are equal to total payments i.e.
1000 crore.
But the Analysis reveals the following facts.
Balance of trade= Export of goods Import of goods
=Rs. 550 crore- Rs. 800 crore
=(-) Rs. 250 crore
Negative balance of trade is deficit or unfavorable . It is
an instance of disequilibrium in the balance of trade.
 Balance of Payments on Current Account shows
a deficit of Rs. 130 crore.
Balance of payments on Current Account=Balance
of trade(export of goods-import of goods)+Balance
of services(supply of services-receipts of
services)+Transfer Balance(transfer receipts-transfer
payments)
=(Rs.550 crore-Rs.800 crore)+(Rs.150 crore-Rs.50
crore)+(Rs.100 crore-Rs.80 crore)
=(-) Rs.250 crore+Rs.100 crore+Rs.20 crore
=(-) Rs.130 crore
 Balance of Payments on Capital Account
shows a surplus of Rs.130 crore
Balance of Payments on Capital Account=Capital
Receipts-Capital Payments
=Rs.200 crore-Rs.70 crore
=Rs.130 crore
 Overall Balance of Payments Balances(Rs.1000
crore of receipts= Rs.1000 crore of payments)
because the surplus balance of Rs.130 crore on
capital account compensates deficit balance of
Rs.130 crore on current account.
From where has the Rs.130 Crore surplus on
capital account emerged?
Infact, Rs.130 crore may have been received
through foreign loans. In that case, the surplus of
capital account actually reflects our indebtedness,
not a sound financial status.
 What is a Tariff?
A Tariff is a tax or duty levied on goods when
they enter and leave the national frontier or
boundary.
A Tariff refers to import duties and export
duties, But for practical purposes, a tariff is
synonymous with import duties or customs
duties.
 Non-Tariff Barriers
Non-tariff barriers refer to the measures other
than import duties which a country adopts to
restrict foreign trade either directly or
indirectly. These range from direct measures
like imposing import quotas to subtle methods
of regulating imports.
 Tariff and Non-Tariff Barriers-A
Comparison
Tarff Barriers Non-Tariff Barriers
Generation of Revenue No generation Of Revenue
Protection of local industries Protection of local industries
Direct Effect Indirect Effect-More Dangerous
Less damage NTBs cause greater mis-allocation of
resources than tariffs
 NTBs (Also known as Quantitative
Restrictions) types
1. Import Quotas
2. Voluntary Export Restraint
3. Exchange Controls
4. Import Deposit Scheme
5. Health and safety standards
6. Customs Valuation Procedure
7. Local content requirement
 Import Quotas
Under import quota, the government directly
restricts the volume of specific commodity upto a
maximum limit. The maximum limit permissible
for import is specified in the licenses issued to
import. Government may import quotas to
protect domestic industry or political reasons.
Example: If UK has put restrictions on import of
tea from india, the tea is processed in sri lanka
and then exported to UK from sri lanka.
Emphasis on local content requirement
 Voluntary Export Restraint

A voluntary export restraint means a bilateral

agreement between two governments under
which the exporting country voluntarily agrees
to restrict the exports of the specified product
to the specified quantity.
Example: Such an agreement is made to avoid
the threat of retaliation generated by quotas.
In 1981 Japan agreed to voluntarily restrict
the exports to 1.85 million vehicles per year.