balance of payments

rs rs SG

damn. can someone explain to me why BOP must always balance but it does not guarantee BOP equilibrium? any econs student can help?

maurizio13 SG

same reason as why a company's financial accounts must balance.

rs rs SG

which is?

tinuviel07 SG

same reason as why a company's financial accounts must balance.

the two parts like no link leh.. i mean his question.. one is the definition of BOP what. the other one is the condition where reserves no change.

eagle SG

I forgot damn a lot of econs liao... but can try... with a bit of wiki's help

Like what tinuviel07 said, when in equilibrium, there are no change in the official reserves of the country...

The balance of payments is a statistical statement that summarizes transactions between residents and nonresidents during a period

A balance of payments equilibrium is defined as a condition where the sum of debits and credits from the current account and the capital and financial accounts equal to zero; in other words, equilibrium is where

This is a condition where there are no changes in Official Reserves.^[12] When there is no change in Official Reserves, the balance of payments may also be stated as follows:

or:

rs rs SG

erm... so does it means that it can balance with the help of official reserves, but may not be in equilibrium?

eagle SG

balancing is only due to transactions.

no official reserves are included

You can have balance, yet you hv budget surplus (not sure if this part is correct). Then you don't have equilibrium.

rs rs SG

shit... catch no ball leh...

tinuviel07 SG

anyhow just curious. your balancing means what?

what i understand about your question is that.

say x = y + z,

so x will always = y+ z since that's the definition - which is your term ' balancing'.

then equilbrium is just a condition where by z = 0 and x = y.

that's how i understand your question cos i see no link..

maurizio13 SG

shit... catch no ball leh...

time to read your econ notes or ask lecturer.

rs rs SG

yeah. that's wad i have in my notes... maybe i'll ask my lecturer.

vulpes macrotis mutica SG

don't exactly quite get your question because when balance of payment is in equilibrium,

BP = current account + capital account = 0

your question would make more sense if it involves floating or fixed exchange rate policies

for floating exchange rate, BP = 0 in both accounting and economic sense

for fixed exchange rate, BP = 0 in the accounting sense but BP does not = 0 in the economic sense; this is because central bank activity is not taken into consideration in the economic sense.

a deficit or surplus in the balance of payment in the economic sense will tell the central bank know how much adjustments they have to make to their gold and forex holdings in a fixed exchange rate policy in order to maintain the value of the currency.

maurizio13 SG

Do you do accounting?

Just bear in mind that for every credit there is a corresponding debit like in accounting, that's why accounts always have to balance.

Fundamental disequilibrium occurs when the home currency is over valued compared to foreign currency, this will cause a persistent deficit in the home country accounts and a surplus in the foreign country accounts. Perhaps this could explain the US persistent deficit.

vulpes macrotis mutica SG

Do you do accounting?

Just bear in mind that for every credit there is a corresponding debit like in accounting, that's why accounts always have to balance.

it's like accountings with one slight alternation

let's say in a floating exchange rate and the BP goes into deficit due to an increase in imports, this will cause the currency to depreciate. when the currency depreciates, this will cause prices of exports to become cheaper and hence foreigners will buy more exports, hence balancing out BP.

if we're in a fixed exchange rate regime and the BP goes into deficit due to an increase in imports, the central bank will have to increase demand of the currency by buying back their local currency from the market by selling their gold and forex reserves, thus allowing the exchange rate to remain constant instead of depreciating.

tinuviel07 SG

i dont think his studies take into account the nature of the rates right

maurizio13 SG

it's like accountings with one slight alternation

ultimately the accounts still have to balance.

vulpes macrotis mutica SG

i dont think his studies take into account the nature of the rates right

you're probably right, though i thought it would make clearer sense if we apply balance of payment onto exchange rates since most topics in macroeconomics builds on the knowledge of the previous chapters. besides, they both fall under the external sector market.

sorry if i made everything more confusing q: ...

vulpes macrotis mutica SG

ultimately the accounts still have to balance.

fair enough; the ends justify the mean :D

Ahm97sic SG

damn. can someone explain to me why BOP must always balance but it does not guarantee BOP equilibrium? any econs student can help?

Hi rs rs,

When your "A" level economics lecturer says that BOP must always balance, he/she is actually referring to the accounting BOP balance.

In accounting, when a company buys goods for sale using cash, it will be recorded in the accounting books as debit purchases and credit cash. For every transaction, there will be a debit entry and a credit entry.

At the end of accounting year, the accountant will prepare a statement known as a trial balance. The trial balance will total up the values of all the debit entries and all the credit entries and if there is no mistake in recording every transaction, the total debit value will be equal to the total credit value. When this happens, the accountant says that the account is in balance ie all debit value = all credit value

Similarly, when a country buys goods from abroad ie imports, the country needs to exchange its local currency for the foreign currency to buy the imports, so the country official reserves of foreign currency will decrease. This will be recorded as debit imports and credit official reserves.

Similarly, at the end of the government year, the government statistician will total up the values of all the debit entries and all the credit entries and if there is no mistake in recording every transaction, the total debit value will be equal to the total credit value. When this happens, the accounting BOP statement is said to be in balance ie all debit value = all credit value.

However, the term BOP balance is used differently in newspapers, news, economics and finance.

BOP balance can be positive, zero or negative

Positive BOP balance (commonly known as BOP surplus) means the country's international receipts are more than its international payments arising out of its international transactions ie imports, exports of goods and services, unilateral transfers, capital inflow and outflow. The excess/surplus of international receipts over international payments increases the country's official reserves of foreign currencies.

Zero BOP balance (commonly known as equilibrium BOP) means the country's international receipts are equal to its international payments arising out of its international transactions ie imports, exports of goods and services, unilateral transfers, capital inflow and outflow. No excess/shortage of international receipts over international payments leaves the country's official reserves of foreign currencies unchanged.

Negative BOP balance (commonly known as deficit BOP) means the country's international receipts are less than than its international payments arising out of its international transactions ie imports, exports of goods and services, unilateral transfers, capital inflow and outflow. The shortage/deficit of international receipts over international payments decreases the country's official reserves of foreign currencies.

Thank you for your kind attention.

Regards,

ahm97sic

rs rs SG

Yeah. i've more or less understood already. thank you!