Question

Question 3

(a) Interpret the balance of payments in aggregate components of the current and capital/financial account to explain an economy’s position in the international trade and finance in any country of your choice.

(b) Using the country from the balance of payments table used in part 3(a), discuss how its strength or weakness in trade in its current account is offset or balanced by its capital account.

Answer 1

a)Balance of payments consists of current balance and capital account balance. Current account balance consists of exports, imports, transfer payment etc where as capital account balance consists of financial transactions like fdi, fpi , foreign investments etc there are visible and invisible components in the current account balances. The sum of two balances result in surplus or deficits.
The ideal scenario is keeping current account deficit low and maintaining capital account surplus to avoind Bop crisis
In case of India current account is completely convertible while capital account is partially convertible. These restrictions help the central bank to manage the forex and floating exchange rate system.
A Bop surplus gives the economy required boist and is an important economic indicator Bop deficit does not bode well for an economy's long term growth motives.
Currently india's Bop situation is comfortable with external sector gaining stability ,significant reduction in current account deficit and high capital inflows in the form of FDI, FPI and ECB.

b) India had quite a turn around in its capital account balances post liberalization era in 1991. After that period of time current account was still in deficit but capital account surplus managed to balnance out the deficit in the current account as a result the Bop has been showing a positive trend post 1991.
With liberalization policies and opening up the Indian economy to the inflow of FDI and FPI have proved to be a blessing in disguise for the indian economy. India is a major importer of finished goods and an exporter of raw materials so current account always tips in the negative direction for India. But post liberalization, privatization and globalization policies Indian economy scenario in terms of its Bop has improved significantly even with continues negative current account balance.