Balance of Trade and Balance of Payments

The Balance of Payments figures for a country shows the amount of money received from other countries and the amount of money being paid to other countries as a result of many different types of transactions over a given period, usually a year.

The Balance of Payments can be broadly divided into two main sections:

(a) The Current Account consists of:

(i) the Balance of Trade (difference between visible exports and visible imports)

(ii) the Balance of Services or Invisible Balance (difference between invisible exports and invisible imports)

(iii) transfers items

(b) The Capital Account consists of:

(i) the capital items (inflows or outflows)

(ii) official financing (adding to or drawing from foreign reserves)

 

  1. The difference in value between visible exports and visible imports is called Balance of Trade. If the visible export value exceeds the visible import value, the Balance of Trade is said to be favourable or in surplus. If the visible import value exceeds the visible export value, then the Balance of Trade is said to be unfavourable or in deficit.

 

  1. A country’s Balance of Trade can be assessed from annual statistical records obtained from customs declaration forms for imports and exports. The Balance of Trade is very important because:

(a) All imports have to be paid for with the proceeds received from the sale of exports.

(b) Thus, in the long run, a country cannot import more than it exports.

(c) If the Balance of Trade has been unfavourable for many successive years, then the government has to take steps to discourage imports and encourage exports.

 

  1. A country also exports and imports services: shipping, educational, tourist, etc. Singapore exports shipping services when a foreigner travels in a Singaporean ship. The total value of services exported within a year forms the invisible exports, whilst that of services imported forms the invisible imports.

 

  1. ‘Transfer items’ refers to interest, profits and dividends sent abroad as a result of foreigners investing in the home country. It also includes the repatriation of interest, profits and dividends from abroad to the home country as a result of its nationals investing abroad.

 

  1. ‘Capital items’ refers to the amount of money which have flowed into or out of a country.

(a) Examples of capital outflows are:

(j) Nationals invest in businesses abroad, buy properties or shares abroad.

(ii) The government in the home country gives monetary aid to other countries.

(iii) Nationals in the home country lend to nationals or organizations or governments of other countries.

(b) Examples of capital inflows are:

(i) The country’s citizens sell off their properties, businesses and shares abroad and bring the money home.

(ii) The government in the home country receives monetary aid from overseas.

(iii) Nationals or government in the home country borrow from abroad.

 

  1. It is very unlikely that total receipts will exactly be equal to total payments over a particular year.

(a) If total payments exceed total receipts, we have a Balance of Payments deficit.

(b) If total receipts exceed total payments, there is a surplus in the Balance of Payments.

 

  1. A country’s balance of payments is of utmost importance.

(a) If the country continues over a period of years to experience a Balance of Payments deficit, it will eventually not have enough foreign exchange to pay its creditors.

(b) No country wishes this to happen for it will cause economic ruin in the long run.

 

  1. If a country does not have sufficient foreign currency to pay its creditors abroad, it can temporarily borrow money from the International Monetary Fund (IMF) which is specially set up to help countries having Balance of Payments problems. However, this would mean that foreigners can now control the economic policies of the government of such a country.

 

  1. The calculation of Balance of Trade and Balance of Payments

Illustration

Country A

Balance of Payments for the Year 2013

Value of goods exported $4,000 million
Value of goods imported $4,800 million
Balance of Trade 2013 -$800 million
Value of services exported $8,000 million
Value of services imported $7,000 million
Invisible balance +$1,000 million
Net transfers -$50million
Balance on Current Account  +$150 million
Capital items +$200 million
Total currency flow (net) +$350 million

(a) The figure shows that the Balance of Trade for Country A in 2013 is unfavourable or adverse because the cost of goods imported is higher than those exported by $800 million.

(b) In the same period, however, Country A has a net positive balance of $1,000 million from her invisible trade. Money earned from export of services abroad exceeded the import of services from abroad.

(c) The overall amount of net transfers of interest, profits and dividends abroad is $50 million.

(d) Country A has a favourable balance on Current Account of $150 million in 2013.

(e) In 2013, Country A has an overall net inflow of capital of $200 million.

(f) In 2013, Country A has a surplus of $350 million on her Balance of Payments. This means that Country A receives $350 million more than what she paid out to the rest of the world in the same period.

(g) Since the Balance of Payments is positive in 2013, this means the central bank of Country A can build up its reserves of foreign currency. This reserve can be used to pay for future deficits or to repay funds previously borrowed from the IMF.

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