In the recent years one question had been asked very frequently, Does the currentaccount imbalances matter? And if yes, then what impacts do the imbalances have on the economy? Or how does a comparisonbetween a global size of IFM where financial flows are so huge that theydominate the current account of an individual economy? I wanted to look for answersto questions like these. Well, in short Balanceof Payments imbalances have both Merits and Demerits. But analyzing these is noteasy as each country is different and application or effects of these merits/demeritschanges from country to country and from time to time. In other words, However, deficits are neither bad nor are surpluses good. A deficit mayindeed promote development. But the conditions necessary for this arerestrictive and often not fulfilled as still, tradedeficits imply that we are living beyond our means and accumulating toomuch debt. The lesson from the recent past (The financialcrises) is thus that renewed excessive imbalances must ultimately be reduced oravoided.
As market Demand and supply plays animportant role here, economic policy responses required to change for eachindividual case demanding its own correct strategy, each problem has its ownroot causes.The same factorslike inflation, economic policies and productivity, government budgetsurpluses/deficits, and growth and overall foreign exchange based transactionsalso impact the exchange rate of a country that overall contributes to imbalances in the Balance of payments,however, this data on gross international positions are prone to many stabilityrisks. Organization of the researchThepresent research paper is divided into five chapters. The first chapterdescribes the problem, purpose, andstructure of this paper.
In the second chapter,the Balance of payment is introduced. The subchapters 2.1 summarizes the Balanceof Payment in general context. The subchapters 2.2 to 2.
4 describes the differentsections of Balance of Payment including Capital account, Financial account, and Current Account. And of Chapter 3 is the aim of this sectionis to demonstrate the importance and different types of balances of Currentaccount are explained in brief. In pointin subchapters 3.1 and 3.2, the Surplus and Deficit balance are highlightedupon in detail. The point 3.3 and 3.
4 provides a detailed analysis of cause and effect of the different balances andits importance for the economy in a long and short run. Finally, Chapter 4summarizes and presents the results of this research project.Introduction toBalance of PaymentsThe Balance of Payments is a Financial Statementthat methodically summarizes, all the economic transactions of an economy, fora specific period, The given transactions are mostly between governments of thedifferent countries my and betweenresidents and non-residents1.
The transactions include acountry’s individuals, companies and government bodies between other economies thatinclude individuals, companies, and governmentbodies. These transactions consist of imports and exports ofgoods, services, and capital, as well astransfer payments such as foreign aid and remittances between these parties mentioned above. StandardComponents of the Balance of PaymentsThe balance of Payments consistsof a current, capital and financial accounts. Besides covering goodsand services, Current Account also covers income and current transfers and negativetrade balance (or trade deficit) is shown in Current Account, which in case thecombined net effect of trade balance, income, andcurrent transfers is also negative, the same results as the Current Account Deficit. The deficit needs to be financed by externalborrowings and/or investments which are constituents of Financial Accounts2. The capital account records all of the external investment transactionsbetween a country and the rest of the world. It records capital transfers, Capital transfers are transactions that involve thetransfer of ownership of fixed assets; transfer of funds linked to, orconditional upon and the acquisition anddisposal of nonfinancial and financial assets transactionsthat result from both portfolio and direct investment3. The CapitalAccount Balance (CA)The capital accountcovers all transactions that involve thereceipt or payment of capital transfers andthe acquisition or disposal of non-produced, non-financial assets.
Thecapital account consists of two categories: capital transfers and acquisition.Acquisition or disposal of non-produced, nonfinancial assets consist of transactionsrelated to tangible assets that play avery important part for production of goods and services but are not actuallyproduced (e.g., land and subsoil assets) and transactions related with non-produced,intangible assets pay a very vital rolein production of goods or practice of certain services (e.g., patents,copyrights, trademarks, franchises, etc. and leases or other transferable contracts).However, in the case of resident/non-resident transactions in the land (including subsoil assets), all acquisitionor disposal is deemed to occur between resident and non-resident acquires afinancial claim on a notional resident unit.
The only exception concerns landpurchased or sold by a foreign person is whenthe purchase or sale involves a shift of the land from one economic territoryto another. In such instances, a transaction in the land between residents and non-residents is recorded underacquisition or disposal of non-produced, nonfinancial assets. The FinancialAccount Balance (FA)The financial account records transactions in financial assets andliabilities between residents and non-residents. It shows how an economy’s externaltransactions are financed. Transactions recorded in the financial account areclassified by function (i.e. the purpose of the investment) into directinvestment, portfolio investment, financial derivatives, other investment andreserve assets. The financial account measures, changes in domesticownership of foreign assets and foreign ownership of domesticassets.
If foreign ownership increases more than domestic ownership does, itcreates a deficit in the financial account. This means the country is sellingoff its assets, like gold, commodities and corporate stocks, faster than it isacquiring foreign assets. Current AccountBalance (CA)The current account consistsof all economic transactions (other than those in financial assets and liabilities),that occurs between resident and non-resident entities or between the government of different economy. It alsoincludes offsets to current economic values provided or acquired withoutsomething of economic value in exchange. Thereare four major components to the current account, i.e.
goods; services; income such as investment income (compensation ofemployees those involving transactions of realresources) and current transfers like remittances, grants etc.(those that are offsetto transactions provided or acquired without a quid pro quo).1Balanceof payments manual: by IMF- Fifth Edition Page-62Balanceof payments manual: by IMF- Fifth Edition Page-37