Balance of Payment: A Concise Explanation3 min read

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Balance of payment is the systematic and comprehensive record of all the economic transaction that takes place between the resident of the country and the rest of the world in the specified period of time. It is the systematic record of all the receipts and payments from/to the rest of the world. The balance of payment provides information of all receipts from and payment to on account of goods exported, services rendered, the capital received by the resident of a country and goods imported, services received, and capital outflow.

The statement of the balance of payment is prepared to:

(i) provide comprehensive records of all the economic transactions between the resident of the country and the rest of the world, and

(ii) to reveal the performance of a country in global trade

For the balance of payment equilibrium, payment must be equal to receipt i.e.

BoP = Receipt – Payment = 0

Balance of Payment

The balance of payment has three major components. The current account, capital, and financial account.

1. Current account

The current account of the balance of payment measures the inflow and outflow of goods and services, income and transfers over a specified period of time generally a year. Thus, the current account measures all the economic transactions between a resident of the country and the rest of the world that takes place within the period of a year. It includes merchandise trade, trade-in service, and unilateral transfers.

1.1. Merchandise trade

Merchandise trade refers to the import and export of goods over a specific period of time. Merchandise trade is also called the balance of trade. It includes tangible goods that require physical movement. Historically, the merchandise trade of Nepal is in deficit and the deficit is surging year-by-year. In 2017, the import to export ratio was 13:1 (TEPC, 2018), which means that import is 13 times larger than export. Statistically, the import is whooping Rs. 1.5 trillion, whereas export is meager Rs. 78 billion (TEPC, 2018).

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1.2. Trade-in services

The import and export of intangible goods give rise to trade-in services. The services account records all the services exported and imported by a country in a year. The main categories of service transactions are:

  • Transportation, banking and insurance
  • Tourism, travel services and tourist purchase of goods and services

In the context of Nepal, Nepal’s trade in services is in meager surplus. The government’s ambition to boost the tourism sector might surge the services account surplus.

1.3. Income and transfers

Income and transfers are fundamentally a different concept. Income is a payment in the form of rent for land, interest for capital, the wage for labor and profit for enterprise with goods and/or services being received in return. On the other hand, transfers are the payment by the government, foreign government, or multinational organization, migrant workers and the like without goods and/or services being received in return.

2. Capital and financial account

Capital account deals with the payment of debt and claims. In capital account, direct investment and portfolio investment are recorded. In other words, the capital accounts include all the flow of funds inside and outside the country’s economy which is concerned with the ownership of an asset. Hence, the capital flow is recorded under the capital account, while the interest and other income associated with capital are recorded under the current account.

The capital account incorporates all the long-term flows of funds inside and outside of an economy. According to IMF guidelines, the capital account includes capital transfers and acquisitions or disposal of non-produced, non-financial assets.

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On the other hand, financial accounts incorporate direct investment, portfolio investment in debt securities such as bonds, notes, money market instruments, and financial derivatives, equity, and other investments.

Therefore, BoP has three major components: the current account, capital, and financial account.

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