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Balance of Payments
Residents with non-residents
Residents mean the individuals, institutions, corporate bodies, government department etc, domiciled in the country. Units/ branches of MNCs domiciled in the country are residents and their transactions with their parents are reflected in the BOP. Certain exceptions if gold is sold to the central bank of the country which increases the monetary gold of the country, it will appear in BOP. Also foreign assets exchanged between residents will be included in the BOP
Balance of payment
A Flow Statement
BOP is compilation of the flow of economic transactions of the country during the period and not a statement of the position as on a date. It is more like a funds flow statement rather than a balance sheet.
PeriodicityNormally BOP statement is prepared covering a period of one year. However, it can be prepared for shorter periods also such as a month, quarter or half year.
1. Current Account
1 1.A 1.A.a 1.A.b 1.A.b.1 1.A.b.2 1.A.b.3 1.A.b.4 1.A.b.5 1.A.b.6 1.A.b.7 1.A.b.8 1.A.b.9 1.A.b.10 1.A.b.11 1.A.b.12 1.B 1.C Current Account (1.A+1.B+1.C) Goods & Services (1.A.a+ 1.A.b) Goods (1.A.a.1 to 1.A.a.3) Services (1.A.b.1 to 1.A.b.13) Manufacturing services on physical inputs owned by others Maintenance and repair services n.i.e. Transport Travel Construction Insurance and pension services Financial services Charges for the use of intellectual property n.i.e. Telecommunications, computer, and information services Other business services Personal, cultural, and recreational services Government goods and services n.i.e. Primary Income (1.B.1to1.B.3) Secondary Income (1.C.1+1.C.2)
2. Capital Account
2 2.1 2.2 2.2.1 2.2.1.1 2.2.1.2 2.2.2 2.2.2.1 2.2.2.2 Capital Account (2.1+2.2) Gross acquisitions (DR.)/disposals (CR.) of non-produced nonfinancial assets Capital transfers General government Debt forgiveness Other capital transfers Financial corporations, nonfinancial corporations, households, and NPISHs Debt forgiveness Other capital transfers including migrants transfers
3.Financial Account
3 3.1 3.1.A 3.1.B 3.2 3.3 3.4 3.5 3 3.0.1 3.0.2 3.0.3 4 Financial Account (3.1 to 3.5) Direct Investment (3.1A+3.1B) Direct Investment in India Direct Investment by India Portfolio Investment Financial derivatives (other than reserves) and employee stock options Other investment Reserve assets Total assets/liabilities Of which: (by instrument): Equity and investment fund shares Debt instruments Other financial assets and liabilities Net errors and omissions
CAPITAL ACCOUNT 1 Foreign Investment (a+b) (a) Foreign Direct Invesment (i) In India Equity Reinvested Earnings Other Capital (ii) Abroad Equity Reinvested Earnings Other Capital (b) Portfolio Investment In India Abroad 2 Loans (a+b+c) (a) External Assistance (i) By India (ii) To India (b) Commercial Borrowings (MT & LT) (i) By India (ii) To India ( c) Short-term to India 3 Banking Capital (a+b) (a) Commercial Banks (i) Assets (ii) Liabilities Of which : Non-resident deposits (b) Others 4 Rupee Debt Service 5 Other Capital Total Capital Account (1 to 5)
Credit (+)
Debit (-)
Net
Credit (+) C D E Errors & Omissions Overall Balance (A+B+C) Monetary Movements (i) IMF (ii) Foreign Exchange Reserves
Debit(-)
Net
Indias BOP
BOP September 2012.xls
Current Account refers to transactions in goods and services, income and current transfers. It covers all transactions between residents and non-residents.
Merchandise (Goods) represents export and import of commodities from/into India. Credit (+) refers to Exports and Debit (-) refers to Imports. The net balance being the difference between these two refers to Balance of Trade. Exports are at FOB and Imports are at CIF. If freight and insurance are paid separately, these are shown under transportation and insurance. Services (Invisibles) include services, transfers and investment income also known as intangibles to distinguish from merchandise trade.
Balance on Capital Account is the net inflows and outflows on capital transactions. Overall Balance is the total of balance on current account and balance on capital account. It is also called official settlements balance as it must be financed by official reserves or by other non-reserve transactions. It reflects countrys overall competitive position in terms of all private transactions and has influence on the exchange rate of the countrys currency.
BOP Accounting
In conformity with business and national accounting, in the balance of payments, the term credit is used to denote a reduction in assets or an increase in liabilities, and the term debit is used to denote a reduction in liabilities or an increase in assets. This usage has been supplemented by the rule that every recording of a debit movement shall be matched by the recording of a credit movement and vice versa. For example, India borrows $ 2 billion in USD from the government of US and deposits the money with a US commercial bank. India then acquires an asset (the bank balance) as well as incurring a liability (the debt to the government of US). The asset account is debited, and the liability account is credited. The Indian BOP entries to record the transaction are: Credit Debit Liabilities (obligation to US ) 200,000 Assets (bank balance in US) 200,000
BOP Accounting
In summary form, double entry accounting conventions used in the balance of payments consist of: Credit (CR) entries Exports of goods and services Income receivable Offsets to real or financial resources received without a quid pro quo (transfers) Increases in liabilities Decreases in financial assets Debit (DR) entries Imports of goods and services Income payable Offsets to real or financial resources provided without a quid pro quo (transfers) Increases in financial assets Decreases in liabilities
BOP Accounting
Credits (+) (inflow of foreign exchange) Current Account Export of merchandise Export of software Licensing fees earned by an Indian company. Interest earned on Loans given to a foreign entity. Profits earned on Indian owned companies abroad. Amount spent in foreign currency by foreign tourists in India. Capital /Financial Account Purchase of real estate by a nonresident Purchase of stocks of Indian companies by a non-resident Purchase of GOI bonds by a foreign bank abroad. Debits (-) (outflow of foreign exchange) Current Account Import of merchandise Import of software Hotel bills of Indian travellers overseas Amount spent by Indian travellers abroad Profit earned by foreign companies in India repatriated Remittances by foreigners working in India to their home country Capital/Financial Account New investment by an Indian company in USA Purchase of gold by RBI Purchase of US treasury bonds by RBI
BOP components
Indias balance of trade (BoT) is projected between USD 262 billion and USD 280 billion in the fiscal 2012-13, exerting further pressure on the countrys current account deficit (CAD), according to an ASSOCHAM study. In the fiscal 2011-12, the countrys merchandise imports totalled USD 488 billion against exports of USD 303 billion leaving balance of trade (BoT) of USD 185 billion. Against the backdrop of weak recovery in the US economy and continuing troubles in the European markets, export shipments were up 21 per cent as there was some good performance in the initial months of the 2011-12 fiscal. But, imports shot up by 32 per cent thanks mainly to high crude prices and rising gold and silver imports. Import on these two counts itself was a whopping USD 217 billion, accounting for over 44 per cent of the countrys total import bill of USD 489 billion, said The Associated Chambers of Commerce and Industry of India (ASSOCHAM).
Disequilibrium in BOP
The statement that BOP should always balance is true from the accounting point of view on account of the double entry principle. In the economic sense, balance of payment is balanced only when each of the segments balances by itself. Balances that arise in each of the segment of the BOP indicates disequilibrium in that segment. Each of the segments like Balance of Trade, Balance on Current Account, Balance on Capital/Financial Account and Overall Balance when they are not zero means that there is a disequilibrium. The disequilibrium is considered surplus or favourable When the inflow of foreign exchange into the country is greater than the outflow means there is a surplus : net foreign exchange inflow into the country. The balance is deficit or unfavourable when inflow is lower than the outflow. This poses a more serious problem and requires various corrective measures from the government.
Disequilibrium in BOP
Imbalance in Current Account
Persistent surplus in the balance on current account would indicate that the countrys export of goods & services are more than imports. The total savings is not used for domestic capital formation but partly diverted for foreign investments. The country acquired foreign assets, but the residents are not enjoying the standard of living they are entitled to. The production of the country is not being enjoyed by the residents but by the importing countries A deficit indicates imports exceed exports for which payments are deferred or met by borrowings. If it persists over long term, it leads to dire consequences. For developing countries, the problem is of facing deficit rather than surplus.
Disequilibrium in BOP
Imbalance in Capital/Financial Account
Surplus in current account is generally welcome, it cannot be a similar situation in capital account A surplus in capital account indicates that the country is a net borrower. Unlike surplus in current account, surplus in capital account has to be repaid with interest/dividend. A deficit in capital account indicates that the country is a net lender or it is repaying its previous borrowings on a larger scale than the current borrowings. A country with surplus in current account and a deficit in capital account indicates deployment of surplus resources. A country with deficit in current account as well as deficit in capital account indicates a position of crisis.
Disequilibrium in BOP.
Imbalance in Overall BOP
It relates to the combined balance in current account and capital account. The overall balance has an immediate effect on the exchange rate of the currency of the country as it represents demand and supply of the currency in the foreign exchange market. The effect on foreign exchange depends on the exchange rate policy of the country Fixed exchange rate domestic currency is expected to suffer due to the shortage of supply of foreign currency. The government is expected to intervene in the market by selling foreign currency. But the government should have foreign exchange reserves. If it has no reserves, devaluation becomes inevitable.
Disequilibrium in BOP.
Imbalance in Overall BOP
Floating rate - under the system market determines the exchange rate & government has no obligation to maintain the rate. Theoretically this mechanism provides an automatic correction in the balance of payment disequilibrium. When BOP is in deficit the demand for foreign currency is more than its supply. It will lead to strengthening of the foreign currency which will in turn lead to exports becoming cheaper and competitive and imports costlier. It will ultimately lead to balance of payments correction. Managed Float though the day to day exchange rate is determined by the market forces of demand and supply, the government may intervene selectively or take other actions to lend stability to the exchange rate. The government may adopt interest rates and exchange controls to preserve the domestic currency value within a certain range.
Devaluation: Means lowering the value of the local currency by the government. A currency undergoes depreciation under floating exchange system. It is devalued under fixed exchange rate system. While the devaluation is reduction in the external value of the local currency by the government, depreciation refers to reduction in value due to market forces.
Devaluation When the country faces chronic balance of payments deficit, with devaluation, exports from the country is made cheaper and imports costlier. The pre-conditions are (a) the demand for exports and imports should be price elastic, (b) there should not be any change in the internal value of the currency and (c) other countries should not indulge in competitive devaluation.
Year 1970 1975 1980 1985 1990 1995 2000 2006 2007 (Oct) 2008 (Jun) 2008 (Oct) 2009 (Oct) 2010 (Jan) 2011 (Apr) 2011 (Dec) Exchange rate (rupees per US$) 7.57 8.41 7.89 12.37 17.50 32.43 45.00 48.34 38.48 42.51 48.88 46.37 46.21 44.17 53.71