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Balance of Payments in Economics

The Balance of Payments Accounts, which are a part of the country’s national income accounts, are the country’s international transactions. The balance of payments contains the information about how the balance of payments accounts are constructed.

Modern economies have become open economies with virtually no exceptions. This means that they engage in international trade of goods and services and in international borrowing and lending. Economic openness is of tremendous benefit to the average person. Because the United States is an open economy, US consumer can enjoy products from around the world and US businesses can find new markets for their products abroad. Similarly, the internationalization of financial markets means that US savers have the opportunity to purchase German government bonds or shares in Taiwanese companies as well as domestic assets and US firms that want to finance investment projects can borrow in London or Tokyo as well as New York.

The ability of an open economy to spend more than it produces is both an opportunity and a potential problem. For ex: by borrowing abroad, the United States was able to finance a large excess of imports over exports during the 1980s and 1990s. As a result, Americans enjoyed higher levels of consumption, investment and government purchases than they could have otherwise. At the same time, however, they incurred foreign debts that may be a future burden to the US economy. Similarly, by borrowing heavily from abroad from abroad during 1970s, some less developed countries were able to avoid large reductions in domestic spending even though the two oil price shocks of the decade caused sharp declines in their output. During the 1980s however, many less developed countries were unable to cope with the burden of their foreign debts – a situation that became known as the LDC debt crisis – and perhaps as a result suffered severely reduced economic growth.

Why do countries sometimes borrow abroad to pay for an excess of imports over exports but at other times export more than they import and lend the difference to other countries? Why doesn’t each country just balance its books and import as much as it exports each year? The fundamental determinants of a country’s trade position are the country’s saving and investment decisions. To explore how desired national saving and desired investment help determine patterns of international trade and lending, we can extend the ideas of market equilibrium, to include a foreign sector. We know that unlike the situation in a closed economy, in an open economy desired national saving and desired investments don’t have to be equal. Instead, when a country’s desired national savings exceeds its desired investment, the country will be a lender in the international capital market and will have a current surplus. Similarly, when a country’s desired national saving is less than its desired investment, the country will be an international borrower and will have a current account deficit.

One can observe through these accounts that some of the numbers are positive and some numbers are negative. To sort out which international transactions are entered with a plus sign and which are entered with a minus sign, some principles are followed. Any transaction that involves a flow of funds into a country is a credit item and is entered with a plus sign and any transaction which involves the flow of funds out of that country is a debit item and therefore entered with a minus sign.

CURRENT ACCOUNT

Net Exports of goods and services (NX)

-164.3

Exports of goods and services

933.9

Goods

670.2

Services

263.7

Import of Goods and Services

-1098.2

Goods

-917.2

Services

-181.0

Net Income from Abroad

-12.2

Income receipts from abroad

258.3

Income payments to residents of other countries

-270.5

Net Unilateral transfers

44.1

Current Account Balance (CA)

-220.6

CAPITAL AND FINANCIAL ACCOUNT

Capital Account

Net Capital account transactions

0.6

Financial Account

Net Financial flows

209..8

Increase in US owned assets abroad

-292.8

US official reserve assets

-6.8

Other foreign assets

-286.0

Increase in foreign owned assets in US

502.6

Foreign official assets

-21.7

Other foreign assets

524.3

Capital and Financial Account Balance

210.4

Statistical Discrepancy

10.1

Balance on goods (merchandise trade balance)

-247.0

Balance on goods and services

-164.3

Balance on goods, services and Income

-176.5

Official settlements balance =

Increase in US official reserve assets minus increase in foreign official assets = 6.8 –(-21.7)

28.5

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This article is in continuation with our previous articles on Economics which include Inflation, Business Cycles, Solow’s Growth Model, Phillips Curve, Economic Development & Growth

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