4 Limitations of Balance of Payments Accounts are as follows:
1. Coverage of Transactions:
(i) Central Banks, Governments, and other Authorities:
Transactions of the central banks, governments and international institutions pose conceptual and logical problems regarding their inclusion.
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According to one opinion, BOP account should make a clear distinction between the “autonomous” or “market induced” transactions and “accommodating” transactions undertaken by the central banks and governments etc. The authorities are expected to undertake only the accommodating transaction.
In effect, however, their transactions cover both varieties and this poses a problem of estimating the overall BOP surplus/deficit.
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Thus, for example, governments frequently enter into defence deals or deals motivated by political considerations, and the transactions of central banks (including those meant for ensuring an orderly working of the foreign exchange market).
(ii) International Institutions:
Similarly, international institutions are not residents of any specific country, but their activities generate huge volumes of inter-country transactions and their offices have to be located somewhere.
(iii) Illegal Transactions:
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Illegal transactions like smuggling and transfer of funds through Havana and other channels also pose their own problems. Such transactions do not find a place in the official BOP accounts.
To some extent, they are also cancelled by compensatory movements. But they add to the problems of (a) inadequate coverage and (b) discrepancy in data.
2. Classification of Items:
For revealing their accounting and economic significance, external transactions of a country should be aggregated into categories which the authorities consider appropriate and relevant. However, there is no classification which can be rated as an ideal one for all countries and for all times.
3. Agreements and their Implementation:
There is a time gap between legal agreements which govern the international flow of goods, services and capital funds, and the actual implementation of these agreements. Consequently, a sizeable portion of external transactions of a country are spread over two or more BOP time intervals.
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And this poses a problem of allocating individual transactions to specific time intervals in an unambiguous manner. Additional complications arise regarding methodical collation of data, when the data relating to different parts of a single transaction, such as the sale of goods, their shipment and the payment) are collected by different agencies like the customs authorities, the tax authorities, the banking sector, and so on.
Loss and rejection of goods; default on payments, and so on also add to the difficulties of identification, adjustment, and time interval to which a transaction belongs.
4. Valuation:
By their very nature, external transactions of a country cannot be aggregated in physical units; they have to be converted into monetary equivalents. This poses some problems of its own like the following:
Conventionally, an import is valued c.i.f. (that is, its value is recorded inclusive of the “cost, insurance and freight”).
In contrast, an export is valued f.o.b. (that is, free on board or at the price which the exporter receives). Consequently, there is an inherent tendency for the value of world imports to exceed the value of world exports.
External transactions of a country involve conversion of values from one currency into another. This entails the use of a rate of exchange between the home currency and the “foreign currency”.
Consequently, under a flexible exchange rate system, transactions spread over time are associated with different exchange rates. And this creates additional problems of aggregating these transactions.
Thus in India, an overwhelmingly large proportion of external transactions are denominated in a few foreign currencies and not in the Indian rupee.
Therefore, over time, the method of estimating rupee equivalents of the foreign currency transactions has been undergoing a revision from time to time.