Environment Management

Module 4
Macro Economic Environment
Balance of Trade and Balance of Payment
Economy
• Characteristics of …….
•Closed Economy

•Open Economy ……………

•Transaction with the rest of the world
Balance of Payment (BoP)
• The balance of payments is a statement of a country’s
international transactions.
• It presents a systematic record of all economic
transactions, during a given time period, between
residents of that country and those of the rest of the
world.
• It registers the changes in the country’s financial
claims and obligations vis-à- vis all other countries
during a month, quarter, or year
• In short ………….
• Balance of Payments (BoP) is a statement or record of all
monetary and economic transactions made between a
country and the rest of the world within a defined period
(every quarter or year).

• BoP is in Equilibrium –
• When all the elements are correctly included in the BOP, it
should sum up that the inflows and outflows of funds are
balance.
 BoP Situation -Disequilibrium
• BoP statement indicates whether the country has a surplus
or a deficit of funds and imbalance is termed as
Disequilibrium
•when a country’s Inflow is more than its Outflow, its BOP
is said to be in surplus.
•a country’s Outflows are more than its Inflows BOP
deficit .
• Transactions under BOP is something similar to the double
entry system of accounting.
• This means, all the transaction will have a debit entry and a
corresponding credit entry and must always balance
Component of BoP
• Typically the balance of payments statement is divided into
three main sections:
• Current account: includes imports and exports and unilateral
transfer of goods and services
• Capital account: transactions leading to changes in foreign
assets and liabilities of a country
• Official monetary transactions (show transactions among
central banks, including deposits to or withdrawals from a
country’s foreign exchange reserves)
Current Account

• The current account of the balance of payments refers to the monetary

value of international flows associated with transactions in goods,
services, income flows, and unilateral transfers.
Current Account

• Merchandise (exports and imports)

• Services (tourism, shipping, dividends)
• Unilateral transfers (government grants, private gifts)
• Merchandise trade includes all of the goods the India’s exports or
imports: agricultural products, machinery, autos, petroleum,
electronics, textiles, and the like.
• The dollar value of merchandise exports is recorded as a plus (credit),
and the dollar value of merchandise imports is recorded as a minus
(debit).
• Combining the exports and imports of goods gives the merchandise
trade balance.
 Services
• Exports and imports of services include a variety of items
• When Indian ships carry foreign products or foreign tourists
spend money at Indian restaurants and motels, valuable
services are being provided by Indian residents, who must be
compensated.
• Such services are considered exports and are recorded as
credit items on the goods and services account. Conversely,
when foreign ships carry Indian products or when Indian
tourists spend money at hotels and restaurants abroad, then
foreign residents are providing services that require
compensation.
• Because Indian residents are, in effect, importing these
services, the services are recorded as debit items.
• Insurance and banking services are explained in the
same way. Services also include items such as transfers
of goods under military programs, construction
services, legal services, technical services, and the like.
• To get a broader understanding of the international
transactions of a country, we must add services to the
merchandise trade account. This total gives the goods
and services balance.
Unilateral transfers.
• These items include transfers of goods and services (gifts
in kind) or financial assets (money gifts) between the
India and the rest of the world.
• Private transfer payments refer to gifts made by
individuals and nongovernmental institutions to
foreigners. These might include a remittance from an
immigrant living in the India to relatives back home, a
birthday present sent to a friend overseas, or a
contribution by a Indian resident to a relief fund for
underdeveloped nations.
• Governmental transfers refer to gifts or grants made by one
government to foreign residents or foreign governments. The Indian
government makes transfers in the form of money and capital goods to
underdeveloped nations, military aid to foreign governments, and
remittances such as retirement pensions to foreign workers who have
moved back home.
Capital and Financial Account
• Capital and financial transactions in the balance of
payments include all international purchases or sales of
assets.
• The term assets is broadly defined to include items such
as titles to real estate, corporate stocks and bonds,
government securities, and ordinary commercial bank
deposits.
• The capital and financial account includes both private-
sector and official (central bank) transactions.
Capital Account

• Long term (debt and equity; private and government)

• Short term (private and government)
• Errors and omissions, NET
• Capital transactions consist of capital transfers and the
acquisition and disposal of certain nonfinancial assets.
• The acquisition and disposal of certain nonfinancial
assets include the sales and purchases of rights to
natural resources, patents, copyrights, trademarks,
franchises, and leases.
Official Monetary Transactions
• Gold movements
• Official reserve transactions
• The balance of payments statement is a statement of
international funds flows for an economy,
corresponding to a funds flow statement for a
company.
• The current account is analogous to “sources and uses
from operations,”
• the capital accounts are analogous to the financial
transactions for a company,
• while the reserve transactions correspond roughly to
the “cash in bank” entry
• Balance of payments analysis requires an appraisal of
current transactions, capital flows, the adequacy of
reserves, and the overall position of foreign claims and
assets.
• In fact, the real analytical pay-off often requires
relating this analysis of external transactions to an
analysis of internal or domestic developments,
• such as the importation of machinery as part of a
domestic investment program, and the importation of
capital (equity or debt) to help finance this investment
program.
Balance of Payments Accounting

• In theory, balance of payments accounting is based upon double-entry

bookkeeping.
• For example, exports are registered as credits (like sales) balanced by
debit entries to show increased claims on foreigners (like increased
accounts receivable or increased cash in bank) or decreased liabilities
to foreigners (like decreased debt to a bank).
• If one thinks in terms of funds flows, debit entries record uses while
credit entries record sources.
• A credit transaction is one that results in a receipt of a
payment from foreigners.
• A debit transaction is one that leads to a payment to
foreigners.
• Each credit entry is balanced by a debit entry, and vice
versa, so that the recording of any international
transaction leads to two offsetting entries. In other
words, the balance-of-payments accounts utilize a
double-entry accounting sys- tem. The following two
examples illustrate the double-entry technique.
Balance of Payment contains…
• 1. Trading of visible items
• Balance of trade refers to the difference in values of
imports and exports of commodities only-Goods
• 2. Trading of invisible Items
• -Services
• 3. Unilateral transfers
• =Current Account

• 4. Capital Transfers
=Capital Account
 Balance of Payment

CURRENT ACCOUNT CAPITAL ACCOUNT

Trade in Goods Net Foreign Investment
BoT=Export-Imports Visibles
External assistance
Factor Trade in Service
Commercial Borrowings

Non-Factor Trade in IMF

services Net
NR Deposits
Invisibles
Private Transfer payments
Net Rupee Debt services
Transfer
Official Transfer Payments Other Flows
• Errors and Omissions
• Errors and omissions is a balancing item so that
• the total credits and debits of the three accounts must equal in
accordance with the principles of double entry book-keeping.
• so that the balance of payments of a country always balances in
the accounting sense.
• BOP must Balance
• i.e, BoP Equation= Current A/C + Capital A/C +Official
Settlement A/C+ Errors and Omission=0
Types of BoP Disequilibrium
Cyclical Disequilibrium- Business Cycle/Trade cycles
Secular Disequilibrium- Dynamic or Intensive economy
changes- long term disequilibrium
Structural Disequilibrium- Structural changes occurring
in few sectors of the economy
Temporary Disequilibrium-Short term disequilibrium
Fundamental Disequilibrium- long-term or Chronic
disequilibrium in the BoP
Causes of BoP Disequilibrium
• Economic Factors:
oInflation and Deflation
oDynamic Changes in the economy
oChanges in the foreign Exchange rates
oBusiness cycle /Cyclic fluctuations
oChanges in Foreign exchange reserve
oExport Demand
oImport Services
Causes of BoP Disequilibrium…..Contd….
• Social Factors:
 Demonstration Effect- "keep up with the Joneses“
 Change in Demographic indicators
 Change in individuals taste and preferences
• Political Factors:
o Political Instability
o Change in Diplomatic Policy
o Cross Boundary/territorial conflicts
Measures to correct BoP Disequilibrium
• Exports Promotions-More exports,
• Import Substitution- reduce imports, appropriate tariffs or
duties
• Tackling Inflation-
• Foreign Exchange stability-
• Expenditure-Reducing Policies:
• Encouragement to Foreign Investment
 Statement II: Standard Presentation of India's Balance of Payments
Item Jan-Mar 2019 P 2018-19 P
Credit Debit Net Credit Debit Net
A. CURRENT ACCOUNT
I. MERCHANDISE 6,157 8,639 -2,482 23,582 36,191 -12,609
II. INVISIBLES (a+b+c) 5,483 3,328 2,154 21,450 12,844 8,606
a) Services 3,850 2,347 1,503 14,563 8,825 5,738
b) Transfers 1,267 128 1,139 5,360 468 4,892
c) Income 366 854 -488 1,528 3,551 -2,023
Total Current Account (I+II) 11,640 11,968 -328 45,032 49,034 -4,002
B. CAPITAL ACCOUNT
1. Foreign Investment (a+b) 6,612 5,494 1,117 22,499 20,377 2,122
a) Foreign Direct Investment (i+ii) 1,174 721 452 4,531 2,391 2,140
b) Portfolio Investment 5,438 4,773 665 17,968 17,986 -19
2.Loans (a+b+c) 2,203 1,480 723 6,591 5,457 1,134
a) External Assistance 180 92 88 604 363 241
b) Commercial Borrowings(MT&LT) 1,268 737 531 2,969 2,228 741
c) Short Term To India 755 651 103 3,018 2,867 152
3. Banking Capital (a+b) 1,523 2,091 -568 6,467 5,970 496
a) Commercial Banks 1,452 2,091 -639 6,396 5,922 473
b) Others 71 0 71 71 48 23
4. Rupee Debt Service 0 0 0 0 2 -2
5. Other Capital 867 783 84 2,372 2,288 84
Total Capital Account (1 to 5) 11,205 9,849 1,356 37,929 34,095 3,834
C. Errors & Omissions 0 30 -30 41 75 -34
D. Overall Balance (A+B+C) 22,845 21,847 998 83,002 83,204 -202
E. Monetary Movements (i+ii) 0 998 -998 1,200 998 202
i) I.M.F. 0 0 0 0 0 0
ii) Foreign Exchange Reserves 0 998 -998 1,200 998 202
( Increase - / Decrease +)
P: Preliminary. PR: Partially Revised.
 India and World Economy
• Comparison between World and Indian Macro economic
Indicators.
• Indicators
• https://www.cia.gov/library/publications/the-world-
factbook/geos/in.html
• https://data.worldbank.org/country/india
• BoP India
• https://m.rbi.org.in/scripts/SDDS_ViewDetails.aspx?SDDSID=24
8&ID=5
BoP must Balance

• i.e, BoP Equation= Current A/C + Capital A/C +Official

Settlement A/C+ Errors and Omission= 0 (Zero)
Balance of Payment
Items Reciepts Payments
1Merchandise 16,000 25,000
2Invisibles
a. Travel 9000 6000
b. Transportation 800 1000
c. Insurance 100 100
d. Investment income 600 2000
e. Transfer Payments 4000 100
3Capital and financial account
a. Private 4000 2000
b. Banking 300 200
c Government 12,000 7000
4Official Settlement accounts - 3400
Total (1+2+3+4) 46,800 46,800
Calculate and Narrate……………..
• 1. Trade Balance Import and Exports
• 2. Current Account Balance
• 3. Capital Account Balance
• 4. Is it Deficit or Surplus ?
• 5. How it is Balanced?
Increase in foreign
reserves i.e, gold and
foreign currencies
 Major Items of India's Balance of Payments (RBI)
(US$ Billion)
April-June 2018 P April-June 2017 PR
Credit Debit Net Credit Debit Net
A. Current Account 155.7 171.5 -15.8 139.9 154.9 -15
1. Goods 83.4 129.1 -45.7 73.1 115.1 -41.9
2. Services 48.2 29.5 18.7 45.9 27.6 18.3
3. Primary Income 5.3 11.1 -5.8 4.7 10.6 -5.8
4. Secondary Income 18.8 1.7 17.1 16.1 1.6 14.5
B. Capital Account and Financial
142.4 125.9 16.6 155.7 140.2 15.5
Account
Of which:
Change in Reserves (Increase (-
11.3 0 11.3 0 11.4 -11.4
)/Decrease (+))
C. Errors & Omissions (-) (A+B) 0.8 -0.8 0.6 -0.6
P: Preliminary; PR: Partially Revised
Note: Total of subcomponents may not tally with the aggregate due to rounding off.

Bop Deficit
 Key Features of India’s BoP in Q1 of 2018-19
• India’s current account deficit (CAD) stood at US$ 15.8 billion (2.4 per
cent of GDP) in Q1 of 2018-19
• Trade deficit at US$ 45.7 billion
• Net services receipts increased by 2.1 per cent i.e, rise in net earnings
from software and financial services.
• Private transfer receipts, mainly representing remittances by Indians
employed overseas, amounted to US$ 18.8 billion, increasing by 16.9 per
cent from their level a year ago.
• In the financial account, net foreign direct investment at US$ 9.7
billion in Q1 of 2018-19
• Portfolio investment recorded net outflow of US$ 8.1 billion in Q1 of
2018-19 on account of net sales in both the debt and equity markets.
• Net receipts on account of non-resident deposits amounted to US$
3.5 billion in Q1 of 2018-19.
• In Q1 of 2018-19, there was a depletion of US$ 11.3 billion of the
foreign exchange reserves (on BoP basis)