Balance of Payments Surplus and Deficit

What is Balance of Payment?

The BOP is the documentation of all international trade and financial undertakings made by a nation’s citizens. A nation’s BOP tells you whether it saves sufficient to pay for its imports. It also discloses whether the nation manufactures enough economic output to pay for its growth. The BOP is reported once in a quarter or a year.

The actuality of international payments is that just like an individual who expends more than their earning must finance the distinction by selling assets or by borrowing, a nation that has a shortfall in its current account (expending more than it receives from sales to the rest of the world) must finance it by selling assets or by borrowing abroad. Hence, any current account shortfall or deficit must be financed by a capital account surplus, i.e, a net capital inflow:

current account + capital account = 0

What is Balance of Payments Surplus?

The account by which the money coming into a nation is more than the money going out in a particular time frame.

What is Balance of Payments Deficit?

A balance of payments deficit means the nation imports more commodities, capital and services than it exports. It must take from other nations to pay for their imports.

The nation could use its reserves of foreign exchange in order to balance any shortfall in its BoP:

  • When the foreign exchange is being sold by the reserve bank when there is a deficit, it is known as official reserve sale.
  • The decrease or increase in official reserves is known as the overall balance of payments deficit or surplus.
  • The fundamental hypothesis is that the monetary authorities are the final financiers of any deficit in the BoP(or the recipients of any surplus.
  • Official reserve transactions are relevant under the reign of the fixed exchange rates than when exchange rates are floating.
Q.1 EXPLAIN THE MEANING OF DEFICIT IN BALANCE OF PAYMENT. HOW IS IT CORRECTED?

OR

HOW IS BALANCE OF PAYMENT DEFICIT MEASURED?

ANSWER:
a) MEANING OF DEFICIT IN BOP Balance of Payment deficit is a situation when autonomous receipts are less than autonomous payments.

[Current A/c + Capital A/c Receipts] < [Current A/c + Capital A/c Payments]

 

Autonomous transactions are those transactions which are carried out with economic motive irrespective of the present position of the BOP.

 

This situation arises only on account of autonomous transactions.

 

b) CORRECTION OF BOP DEFICIT To correct the deficit i.e. Adverse BOP position government will:

i. Withdraw the required amount from its Foreign Exchange Reserves or

ii. If required, it can borrow from the IMF.

These are the accommodating transactions of the government made only to bring equilibrium in the Balance of Payment.

Q.2 EXPLAIN THE MEANING OF SURPLUS IN A BALANCE OF PAYMENT ACCOUNT. HOW IS IT

CORRECTED?

OR

HOW IS BALANCE OF PAYMENT SURPLUS MEASURED?

ANSWER:
a) MEANING OF SURPLUS IN BOP Balance of Payment Surplus is a situation when autonomous receipts are more than autonomous payments.

[Current A/c + Capital A/c Receipts] > [Current A/c + Capital A/c Payments]

 

Autonomous transactions are those transactions which are carried out with economic motive irrespective of the present position of the Balance of Payment.

 

This situation arises only on account of autonomous transactions.

b) CORRECTION OF BOP SURPLUS To remove the surplus government will:

Deposit the excess foreign exchange in its Foreign Exchange Reserves.

This is an accommodating transaction of the government made only to bring equilibrium in the Balance of Payment.

 

Q.3 WHAT ARE THE CAUSES OF DEFICIT IN BOP?

OR

WHAT ARE THE CAUSES OF UNFAVOURABLE BOP?

ANSWER:
Following are the causes of Deficit in BOP or Unfavourable BOP.
a) ECONOMIC FACTORS i) Fast Economic Development

  • For fast development, developing countries import machines, technology, and other equipment.
  • This leads to a high level of outflows of foreign exchange that can result in a deficit in the BOP account.

ii) Inflation

  • Inflation i.e. continuous rise in prices in a country makes foreign goods relatively cheaper.
  • It increases imports which cause a deficit in the Balance of Payment.

 

b) POLITICAL FACTORS i) Political Instability

  • Due to uncertainty, there may be large capital outflows and lesser inflows of foreign funds. It can create an adverse position in the Balance of Payment.

 

ii) Political disturbances

  • Frequent changes in government, unstable tax structure, etc. result in loss of trust of foreign investors and discourage inflows of capital.
  • Domestic investors also prefer to invest outside the economy. As a result, an adverse position created in the balance of Payment.
c) SOCIAL FACTORS i) Changes in taste, preferences, fashion, and style, etc.

  • A favorable change for imported goods increases the demand for imported goods and lead to a deficit in the balance of payment.

ii) Demonstration effect

  • Most of the developing countries get influenced by developed nations and start adopting the foreign pattern of consumption.
  • This results in a sharp rise in imports leading to a deficit in the Balance of Payment.

iii) Population explosion

  • Population explosion in underdeveloped nations, also generally, results in large scale imports and causes a deficit in the Balance of Payment.

 

The above mentioned is the concept that is explained in detail about the Balance of Payments Surplus and Deficit for the class 12 students. To know more, stay tuned to BYJU’S.