Balance of Payments

Balance of Payments

The balance of payments (BOP) is a record of all monetary transactions between a country and the rest of the world. It is a record of a country’s transactions with the rest of the world. It shows the receipts from trade. It is also known as the balance of international payments and abbreviated B.O.P. or BoP, of a country, is the record of all economic transactions between the residents of the country and the rest of the world in a particular period of time (e.g., a quarter of a year). It is the difference in total value between payments into and out of a country over a period. These transactions are made by individuals, firms, and government bodies. Thus the balance of payments includes all external visible and non-visible transactions of a country. When funds leave a country, a deduction is made. For example, when a country exports 20 shiny red convertibles to another country, a credit is made in the balance of payments. It is an important issue to be studied, especially in the international financial management field, for a few reasons. This includes payments for the country’s exports and imports, the sale and purchase of assets, and financial transfers.

The BOP can be expressed as:- BOP = Current Account + Financial Account + Capital Account + Balancing Item

Whenever a country receives funds from a foreign source, credit is recorded on the balance of payments. First, the balance of payment provides detailed information concerning the demand and supply of a country’s currency. Sources of funds include exports, the receipt of loans or investment, and income from foreign assets. For example, if Sudan imports more than it exports, then this means that the quantity of Sudanese pounds supplied by the domestic market is likely to exceed the quantity demanded in the foreign exchanging market, ceteris paribus. When all components of the BOP accounts are included they must sum to zero with no overall surplus or deficit.

Second, a country’s balance of payments data may signal its potential as a business partner for the rest of the world. The capital account is typically much smaller than the other two and includes miscellaneous transfers that do not affect national income. If a country is grappling with a major balance of payments difficulty, it may not be able to expand imports from the outside world. The current account includes a nation’s net trade in goods and services, its net earnings on cross-border investments, and its net transfer payments. Instead, the country may be tempted to impose measures to restrict imports and discourage capital outflows in order to improve the balance of payments situation. The capital account consists of a nation’s imports and exports of capital and foreign aid. On the other hand, a country with a significant balance of payments surplus would be more likely to expand imports, offering marketing opportunities for foreign enterprises, and less likely to impose foreign exchange restrictions.

Third, the balance of payments data can be used to evaluate the performance of the country in international economic competition. The balance of payments divides transactions into two accounts: the current account and the capital account. Suppose a country is experiencing trade deficits year after year. If a country cannot fund its imports through exports of capital, it must do so by running down its reserves. This trade data may then signal that the country’s domestic industries lack international competitiveness.