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Section 1
The Balance of Payments
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Content
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Objectives
The National Income Accounts
S, I, and CA
The BOP Accounts
Bookkeeping
Summary
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Objectives
• To review national income accounting
– The national income accounts record all the
income and expenditures of a country.
• To review balance of payments accounting
– The balance of payments accounts record all
international transactions of a country.
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The National Income Accounts
• Gross National Product (GNP)
– The value of all final goods and services
produced by a country’s factors of production
and sold on the market in a given time period.
– The Output of a country in a given time period.
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The National Income Accounts
• Gross Domestic Product (GDP)
– The value of all final goods and services
produced by the factors of production within a
country’s borders.
– GDP = GNP - net receipts of factor income
from the rest of the world.
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The National Income Accounts
• The National Income Identity
Y = C + I + G + EX – IM
where:
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Y is GNP
C is consumption
I is investment
G is government purchases
EX is exports
IM is imports
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The National Income Accounts
• Consumption (C)
– The share of GNP consumed by the private sector.
• Investment (I)
– The share of GNP used by private firms to produce
future output.
• Government Purchases (G)
– The share of GNP used by federal, state, or local
governments
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The National Income Accounts
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Exports (EX)
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The share of GNP exported to the rest of the
world.
Imports (IM)
–
The share of GNP imported from the rest of
the world.
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The National Income Accounts
• The Current Account (CA)
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CA = EX – IM
A country has a CA surplus when its CA > 0.
A country has a CA deficit when its CA < 0.
CA measures the size and direction of international
borrowing.
– A country’s current account balance equals the change
in its net foreign wealth.
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Figure 12-1: U.S. GNP and Its Components, 2000
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Figure 12-2: The U.S. Current Account and Net Foreign
Wealth Position, 1977-2000
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US Current Account and Trade Balance
(as a share of GDP)
Sources: Congressional Budget Office; Department of Commerce, Bureau of Economic Analysis.
Note: The vertical bars indicate periods of recession as defined by the National Bureau of Economic
Research
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S, I, and CA
• National Savings (S)
– The share of GNP that is not devoted to household
consumption or government purchases.
– S=Y–C–G
– S = PS + GS
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S, I, and CA
• Private Savings (PS)
– The share of disposable income saved.
– PS = Y – T – C
• Government Savings
– The share of tax revenues (T) saved.
– GS = T – G
– Government budget deficit: G – T
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S, I, and CA
• The key relation: I = S – CA
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S = PS + GS
PS = Y – T – C
GS = T – G
CA = EX – IM
Y = C + I + G + EX - IM
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S, I, and CA
• The current account is a measure of foreign
savings at home.
• Are current account deficits good?
• The twin deficits hypothesis.
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The BOP Accounts
• The Balance of Payments (BOP) accounts is
a record of all transactions between a
country and the rest of the world.
• Every transaction enters the BOP twice:
once as a credit (+) and once as a debit (-).
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The BOP Accounts
• The Current Account (CA)
– The current account divides exports and
imports into three categories:
• Merchandise trade
• Services
• Interest and dividend income
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The BOP Accounts
• The Capital and Financial Account (KA)
– The capital and financial account records the
exports and imports of assets.
– Capital inflow: An export of assets.
– Capital outflow: An import of assets.
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The BOP Accounts
• Official Reserve Transactions (ΔRFX)
– Official international reserves
• Foreign assets held by central banks.
– Official foreign exchange intervention
• Exchange rate intervention often requires to alter
the amount of official reserves.
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The BOP Accounts
• The key relation: CA + KA = ΔRFX
• This is an accounting identity
• Accounting:
– Exports are recorded as credits (+) in CA, KA
– Imports are recorded as debits (-) in CA, KA
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Bookkeeping
• Example 1:A U.S. citizen buys a $1000 typewriter from
an Italian company, and the Italian company deposits the
$1000 in its account at Citibank in New York.
• Entries in the U.S. balance of payments:
– Purchases (imports) typewriter: Debit CA of $1000.
– Sells (exports) asset: Credit to KA of $1000.
– CA (-$1000) + KA (+$1000) = 0
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Bookkeeping
• Example 2: A U.S. citizen buys a $95 newly issued share
of stock in the United Kingdom oil giant British Petroleum
(BP) by using a check drawn on his stockbroker money
market account. BP deposits the $95 in its own U.S. bank
account at Second Bank of Chicago.
• Entries in the U.S. balance of payments:
– Purchases (imports) share: Debit to KA of $95.
– Sells (exports) assets: Credit to KA of $95.
– CA ($0) + KA (+$95 -$95) = 0
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Bookkeeping
• A reduction of official reserves: ΔRFX < 0
– An export of assets by the central bank.
• An increase of official reserves: ΔRFX > 0
– An import of assets by the central bank.
• So, changes in RFX similar to transactions
in KA.
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Summary
• GNP measures the income and production
of a country’s factors of production.
• GDP measures the output produced within a
country’s territorial borders.
• Y = C + I + G + EX – IM
• I = PS + GS – CA
• The current account is a measure of the
country’s net lending to foreigners.
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Summary
• The current account records net exports of
goods and services.
• The capital and financial accounts record
net exports of assets.
• BOP = CA + KA = ΔRFX
• Exports are recorded as a credit.
• Imports are recorded as a debit.
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