Role of Balance of Payments in The Economy

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The balance of payments provides information about the economic interdependence of an economy with foreign countries. It records the value of all economic transactions between residents and foreigners for a given period.

Exports and investments are registered as positive or alternatively as surplus items, while imports or other capital deployments in foreign countries, are registered as negative or deficit entries.

The big difference of such entries with a record in the business sense is that the balance of payments records flows and not stocks. It therefore considers the change of an item over a period and not the total balance measured at one time.

Another difference to the business account form, is that the debit and credit side can be combined into one column.

The official balance of payments of a reserve bank is also part of the balance of capital transfers account. This balance represents funding up to a statistical change in the remaining stock of net foreign assets.

In the financial account, any changes in assets and liabilities are recognized as foreign assets. The two possible entries related to this involve  the export of capital which translates to an increase in assets or decrease in external liabilities, while capital imports point to a decrease in receivables and increase in external liabilities.

Capital outflows are found on the debit side, and capital inflows on the plus side. The difference between capital export and capital import is called net capital exports, this can be positive (export predominates) or negative.

The balancing item pertains to an amount used to bear any numerical errors, in ensuring the current and capital accounts add up to zero.  An entry in the current account leads to an entry in the capital account, and in total these two accounts must show a balance.

The foreign currency balance sheet describes the change in the official (national) currency reserves of the central bank. The reserves include cash and foreign exchange holdings, the gold holdings, reserve position with International Monetary Fund (IMF), and any existing special drawing rights.

The basic idea of the double entry of payments, is that companies and individuals must pay for the services received (goods, services) from abroad and vice versa. Each performance draws a financial transaction after transaction, and therefore affects the performance and the financial account.

The IMF defines the term financial account as one capturing transactions that in the standard accounts are recorded in the capital account. The IMF differentiates such transactions in a manner that establishes an additional top level division of the balance of payments sheet.

 

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