The balance of payments is rarely a way of listing receipts and payments in international transactions for a country. Balance of payment is an application of double-entry book keeping and if entry is done in a proper way, debits and credits will always balance; hence in a way, the balance of payment will always be in equilibrium. It is important to understand in what way the balance of payments can be in dis-equilibrium and in what sense it will always be in equilibrium.
Credit entries show all the ways in which a country can acquire foreign currency. Debit entries show all the ways in which a country can spend the foreign exchange.
Items (1), (2), (3), (5), (6), and (7) enumerate all the payments and receipts made for the current period of time; they all have a flow dimension and refer to a certain value of exports per time period. The balance of payments of a country always refers to a certain time period, usually a calendar year.
Items (4) and (8) express changes in stock and refer to capital receipts and payments. Government, corporation and individuals borrow money from abroad, which leads to inflow of foreign currencies, and these transactions will be entered as items in (4). Similarly, Government, corporation and individuals lend money abroad, leading to outflow of foreign currencies and these transactions will be entered as items in (8).
Total of Credit side of Balance of payment should always equal debit side.
(i) Balance of Trade:
In case exports of goods is Rs. 1100 crore and imports of goods is Rs 1600 crore, balance of trade will be 1100-600= —500. Balance of trade is the difference in the revenue through exports and foreign currency spent on imports.
Balance of trade need not always balance. If the country exports more goods than it imports, it is said to have a favourable balance or surplus in its balance of trade. If it imports more goods than it exports, it has a deficit or unfavourable balance of trade Even though the country had a deficit in its balance of trade, this might be offset by items on other accounts.
(ii) Balance of services:
It is the difference between export of services and import of services. From balance of services is calculated from differences between item (2) and item (6). In case export of services is Rs. 300 crore and import of services is Rs. 100 crore, balance of trade will be Rs. 300 crore -Rs. 100 crore = Rs. 200 crore.
(iii) Balance of unrequited transfers:
It is the difference between unequited receipts and unrequited payments, balance of unrequited transfer is calculated from differences between item (3) and item (7). In case of unrequited receipts of Rs. 200 crore and unrequited payment of Rs. 160 crore, balance of unrequited transfers will be: Rs. 200 crore minus Rs. 160 crore is equal to Rs. 40 crore.
(iv) Balance on current account:
It shows the flow aspect of a country’s international transactions. Balance on current account can be calculated by adding up the balance of trade, services and unrequited transfers.
All the goods and services produced within the country and exported during the time period in question, are entered on the credit side of the balance of current account, and all the goods and services imported and consumed within the country during the same period are entered on the debit side of the balance of current account. All the international transactions entering a country’s system of national accounting should be listed on the country’s balance of current account.
Balance on current A/C = -500 + 200 + 40 = -360
(v) Balance on capital account:
All items of a flow nature should be included in the balance of current account and that all items expressing changes in stock should enter the balance of capital account. If a country has a deficit on the balance of current account, the country has spent more abroad during the period than it has earned.
A way to settle this is by a transaction on the capital account. The country can deplete part of its stock to an amount equal to the deficit on the balance of current account. This can be done by borrowing from abroad, selling assets or by depleting its reserves of foreign currency.
Balance on current account can be calculated by deriving the difference between item (4) and item (6). If capital receipts are Rs 400 crore and capital payment is Rs 140, then balance on capital account is: Rs400 crore minus Rs 140 crore is equal to Rs 260 crore. Balance of capital account should be equal to balance on current account, but of opposite sign. Adding up of balances of capital account and current account leads to balance of payments which should always be zero.