Unit 7: The Balance of Payments

Balance of Payments
  • Measure of money inflows and outflows between the Unites States and the Rest of the World (ROW)
    • Inflows: are referred to as Credit
    • Outflows are referred to as Debits 
  • The Balance of Payments is divided into 3 accounts 
    • Current account
      • Balance of trade or Net Export
        • Formula: Exports of Goods/Services - Imports of goods/ Services
        • Exports create a Credit to the balance of payments
        • imports create a Debit to the balance of payments
      • Net Foreign Income
        •  Income earned by U.S owned foreign assets - Income paid to foreign held US assets
          • EX. Interest payments on US owned Brazilian bonds - Interest payment on German owned US treasury bonds 
      • Net Transfers (tend to be unilateral)
        • Foreign Aid→ a Debit to the current account
          • EX. Mexican migrant workers send money to family in Mexico 
    • Capital/ Financial account
      • The balance of capital ownership
      • Includes the purchase of both real and financial assets
      • Direct investment in the United States is a credit to the capital account
        • EX. The Toyota Factory in San Antonio
      • Direct investment by US firms/individuals in a foreign country are debits to the capital account
        • EX. The Intel Factory in San Jose, Costa Rica
      • Purchase of foreign financial assets represents a debit to the capital account
        • EX. Warren Buffet buys stocks in Petrochina
      • Purchase of domestic financial assets  by foreigners represents a credit to the capital account
        • The United Arab Emirates sovereign wealth fund purchases a large stake in the NASDAQ 
    • Official Reserves account 
      • The foreign currency holding the the Unites States Federal Reserve system
      • When there is a balance of payments surplus the Fed accumulates foreign currency and  debits the balance of payments. 
      • When there is a balance of payments deficit the Fed depletes its reserves of foreign currency and credits the balance of payments
      • The Official Reserves zero out the balance of payments 
Relationships between current and capital account
  • Remember double entry bookkeeping 
  • The Current Account and the Capital Account should zero each other out 
  • If the Current Account has a negative balance (deficit), then the Capital Account should then have a positive balance (surplus)




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