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The Balance of Payments
The measurement of all international economictransactions between the residents of a country
and foreign residents is called theBalance ofPayments (BOP)
The IMF is the primary source of similar statisticsworldwide
Multinational businesses use various BOP measures to
gauge the growth and health of specific types of tradeor financial transactions by country and regions of theworld against the home country
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The Balance of Payments
Monetary and fiscal policy must take the BOP intoaccount at the national level
Businesses need BOP data to anticipate changes in hostcountrys economic policies driven by BOP events
BOP data may be important for the following reasons BOP is important indicator of pressure on a countrys
exchange rate, thus potential to either gain or lose if firm istrading with that country or currency
Changes in a countrys BOP may signal imposition (orremoval) of controls over payments, dividends, interest, etc
BOP helps to forecast a countrys market potential, especiallyin the short run
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BOP Purpose
Keeping tack of country's foreign receipt and
payments.
Strength and weakness.
Gain & loss.
Facilitating in future policy formulation.
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Typical BOP Transactions
Examples of BOP transactions from US perspective Honda US is the distributor of cars manufactured in Japan by its
parent, Honda of Japan
US based firm, Fluor Corp., manages the construction of a majorwater treatment facility in Bangkok, Thailand
US subsidiary of French firm, Saint Gobain, pays profits(dividends) back to parent firm in Paris
A Mexican lawyer purchases a US corporate bond through an
investment broker in Cleveland A rule of thumb that aids in understanding the BOP is
to follow the cash flow
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Fundamentals of BOP Accounting
The BOP must balance
Three main elements of actual process of
measuring international economic activity Identifying what is/is not an international
economic transaction
Understanding how the flow of goods, services,assets, money create debits and credits
Understanding the bookkeeping procedures forBOP accounting
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Defining International Economic
Transactions
Current Account Transactions
The export of merchandise, goods such as trucks,
machinery, computers is an international transaction Imports such as French wine, Japanese cameras and
German automobiles are international transactions
The purchase of a glass figure in Venice by anAmerican tourist is a US merchandise import
Financial Account Transactions The purchase of a US Treasury bill by a foreign
resident
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BOP as a Flow Statement
Exchange of Real Assets exchange of
goods and services for other goods and
services or for monetary payment
Exchange of Financial Assets Exchange
of financial claims for other financial claims
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Balance of Trade
BOT = Net Balance of visible trade
= Export (X) Import (M)
If X>M = Trade Surplus
If M>X = Trade Deficit
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The Current Account
Goods Trade export/import of goods.
Services Trade export/import of services; common servicesare financial services provided by banks to foreign investors,
construction services and tourism services Income predominately current income associated with
investments which were made in previous periods.Additionally the wages & salaries paid to non-residentworkers
Current Transfers financial settlements associated withchange in ownership of real resources or financial items.Any transfer between countries which is one-way, a gift or agrant, is termed a current transfer
Typically dominated by the export/import of goods, for thisreason theBalance of Trade (BOT) is widely quoted
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The Capital/Financial Account
Capital account is made up of transfers of fixedassets such as real estate and acquisitions/disposal
of non-produced/non-financial assets Financial account consists of three components
and is classified either by maturity of asset ornature of ownership. The three components are
Direct Investment
Net balance of capital which isdispersed from and into a country for the purpose of
exerting control over assets. This category includesforeign direct investment
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The Capital/Financial Account
Portfolio Investment Net balance of capital which
flows in and out of the country but does not reach the
10% ownership threshold of direct investment. Thepurchase and sale of debt or equity securities is
included in this category
This capital is purely return motivated
Other Investment Assets/Liabilities Consists of
various short and long-term trade credits, cross-borderloans, currency and bank deposits and other accounts
receivable and payable related to cross-border trade
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The Other Accounts
Net Errors and Omissions Account is used to
account for statistical errors and/or untraceable
monies within a country Official Reserves total reserves held by official
monetary authorities within a country.
These reserves are typically comprised of major
currencies that are used in international trade andfinancial transactions and reserve accounts (SDRs) held
at the IMF
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Summary of Learning Objectives
The Balance of Payments is the summarystatement of all international transactions betweenone country and all other countries
The Balance of Payments is a flow statement,summarizing all the international transactions thatoccur across the geographic boundaries of thenation over a period of time
Although the BOP must always balance in theory,in practice there are substantial imbalances as aresult of statistical errors and misreporting ofCurrent Account and Financial Account flows
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Summary of Learning Objectives
Although merchandise trade is more easily observed,
the growth of services trade is more significant to the
BOP for many of the worlds largest industrialized
countries today
Monitoring of the various sub-accounts of a countrys
BOP activity is helpful to decision-makers and policy-
makers on all levels of government and industry in
detecting the underlying trends and movement offundamental economic forces driving a countrys
international economic activity
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