Question

Please show the balance of payments equation. Does the US balance of payments have a deficit or surplus? Please explain. If China has a trade surplus, then how do they have a deficit in their capital account? If the US had an estimated trade deficit of $379 billion in 2013, please explain in the context of the international macroeconomic model (e.g., what is their GDP v. aggregate demand,...). If Y - Yd > 0, what happens to savings, the trade balance, and the capital account for a country.

Answer 1

The BOP can be expressed as:

BOP=CurrentAccount+FinancialAccount+CapitalAccount+BalancingItemBOP=CurrentAccount+FinancialAccount+CapitalAccount+BalancingItem

The current account records the flow of income from one country to another. It includes the balance of trade (net earnings on exports minus payments for imports), factor income (earnings on foreign investments minus payments made to foreign investors), and cash transfers.

The financial account records the flow of assets from one country to another. It is composed of foreign direct investment, portfolio investment, other investment, and reserve account flows.

The balance of payments (BOP) is a record of all monetary transactions between a country and the rest of the world. This includes payments for the country’s exports and imports, the sale and purchase of assets, and financial transfers. The BOP is given for a specific period of time (usually a year) and in terms of the domestic currency.

Whenever a country receives funds from a foreign source, a credit is recorded on the balance of payments. Sources of funds include exports, the receipt of loans or investment, and income from foreign assets. Whenever a country has an outflow of funds, such as when the country imports goods and services or when it invests in foreign assets, it is recorded as a debit on the balance of payments.

When all components of the BOP accounts are included they must sum to zero with no overall surplus or deficit. For example, if a country is importing more than it exports, its trade balance will be in deficit, but the shortfall will have to be counterbalanced in other ways – such as by funds earned from its foreign investments, by running down central bank reserves, or by receiving loans from other countries.

The capital account can be split into two categories: non-produced and non-financial assets, and capital transfers. Non-produced and non-financial assets include things like drilling rights, patents, and trademarks. For example, if a domestic company acquires the rights to mineral resources in a foreign country, there is an outflow of money and the domestic country acquires an asset, creating a capital account deficit.