What do you know about Balance of Trade and Balance of payment?

Answer: Balance of Trade and Balance of payment

The Balance of trade (BOT) is the amount, by which the value of a country’s export goods exceeds the value of its imports of goods. On the other hands, the balance of trade is the difference between the total value of visible imported goods and the total value of visible exported goods of a country for a particular period (generally one year).

The Balance of payment

The balance of payment (BOP) is defined as a systematic record of all economic transactions during the period between residents of the reporting countries. It is a complete record of all kinds of receipts and payments of a country with the rest of the world in a particular period (one year).

 Items of Balance of payment

Items of an imaginary balance of payment is given below:

Debit/Receipts	Credit/Payments
1. Export goods	1. Import goods
2. Export Services	2. Import services
3. Foreign donation	3. Donations to other countries
4. Capital received from abroad	4.Capital expenditure, investments in abroad
5. Interest received against investment abroad	5.Interest against foreign investments
6.Adjusting	6. Adjusting

 Classification of items under Balance of payment

Items under the balance of payment maybe classified as under:

1. Current Account

2. Capital Account

3. Unilateral Transfer Account

4. Transfer of Gold

5. Adjusting Account

 Difference between Balance of Trade and Balance of Payment

Balance of Trade and Balance of Payment is not the same thing. The main difference is given as under:

1. Balance of Trade (BOT) is the difference between Imports and Exports of visible goods and Balance of Payment(BOP) is the difference between Imports and Exports of visible and invisible goods and all other economic transactions.

2. BOT includes the accounts of visible goods but  BOP includes an account  of visible and invisible  goods and capital goods/reserve adjustments.

3. Balance of Trade is partial account and BOP is a complete account.

4. BOT is rarely balanced and BOP is always balanced.

5. Balance of Trade cannot show a complete economic picture of a country and Balance of Payment can’t show a complete economic picture of a country.

Question::01.15: Discuss the Major components of the balance of payment (BOP).

Answer: The Major components of the balance of payment (BOP). The BOP accounting system can be divided conceptually into four major accounts. The first two accounts are- the current account and the capital account-the records purchases of goods, services, and assets by the private and public sectors. The official reserves account reflects the impact of central bank intervention in the foreign exchange market. The last  account -errors and omissions-captures mistakes in recording BOP transactions.

1. Current Account:

The records four types of transactions among residents of different countries
1.    Exports and imports of goods (or merchandise)
2.    Exports and imports of services
3.    Investment income
4.    Gifts

2. Capital Account:

The second major account in the balance of payment accounting system is the capital account, which records capital transactions- purchases and sales of assets-between residents of one country and those of other countries. The capital account can be divided into two categories:

(a) Direct foreign investment (DFI)
(b) Portfolio investment.

Official Reserves Account: The third major account in the BOP accounting system is the official reserves account. The official reserves account records holdings of the reserves held by a national government. These reserves are used to intervene in the foreign –exchange market and in transactions with other central banks. Official reserves comprise four   types of assets:
1.    Gold
2.    Convertible currencies
3.    SDRs
4.    Reserve position at the IMF

Errors and omissions: The last account in the BOP accounting system is the errors and omissions account. One truism of the BOP accounting system is that BOP balance. In the theory the following equality should be observed.
Current Account + Capital Account + Official Reserves Account =0

However, equality is never achieved in practice because of measurement errors. The account is called errors and omissions  is used to make the BOP balance in accordance with the following equation:
Current Account + Capital Account + Official Reserves Account + Errors and omissions =0