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SL IB Economics

Revision Notes

Home / IB / Economics / SL / Revision Notes / 4. The Global Economy / 4.6 Balance of Payments / 4.6.1 Components of the Balance of Payments


4.6.1 Components of the Balance of Payments


An Introduction to the Balance of Payments

  • The Balance of Payments (BoP) for a country is a record of all the financial transactions that occur between it and the rest of the world

  • The BoP has two main sections:
    • The current account: all transactions related to goods/services along with payments related to the transfer of income
    • The financial and capital account: all transactions related to savings, investment and currency stabilisation

  • Money flowing into an account is recorded in the relevant account as a credit (+) and money flowing out as a debit (-)
    • If more money flows into an account than out of it, there is a surplus in the account
    • If more money flows out of an account than into it, there is a deficit in the account

The Current Account

  • The Current Account is often considered to be the most important account in the BoP
  • This account records the net income that an economy gains from international transactions

An Example of the UK Current Account Balance for 2017

Component 2017
Balance of trade in goods (exports - imports) £-32.9bn
Balance of trade in services (exports - imports) £27.9bn
Sub-total trade in goods/services £-5bn
Net income (interest, profits and dividends) £-2.1bn
Current transfers £-3.6bn
Total Current Account Balance £-10.7bn
Current Account as a % of GDP 3.7%

  • Goods are also referred to as visible exports/imports
  • Services are also referred to as invisible exports/imports
  • Net income consists of income transfers by citizens and corporations
    • Credits are received from UK citizens who are abroad and send remittances home
    • Debits are sent by foreigners working in the UK back to their countries
  • Current transfers are typically payments at government level between countries e.g. contributions to the World Bank

The Capital Account

  • The Capital Account records small capital flows between countries and is relatively inconsequential
  •  The capital account is made up of two sections:
  1. Capital transfers
    Smaller flows of money between countries
    E.g. Debt forgiveness payments by the government toward developing countries
    E.g. Capital transfers by migrants as they emigrate and immigrate

  2. Transactions in non-produced, non-financial assets
    Small payments are usually associated with royalties or copyright e.g. royalty payments by record labels to foreign artists

The Financial Account

  • The Financial Account records the flow of all transactions associated with changes of ownership of the country’s foreign financial assets and liabilities

  • It includes the following sub-sections
  1. Foreign Direct Investment (FDI)
    Flows of money to purchase a controlling interest (10% or more) in a foreign firm. Money flowing in is recorded as a credit (+) and money flowing out is a debit (-)
     
  2. Portfolio Investment
    Flows of money to purchase foreign company shares and debt securities (government and corporate bonds). Money flowing in is recorded as a credit (+) and money flowing out is a debit (-)
     
  3. Official Borrowing
    Government borrowing from other countries or institutions outside of their own economy e.g. loans from the International Monetary Fund (IMF) or foreign banks. When the money is received,  it is recorded as a credit (+) and when the money (or interest payments) are repaid, it is recorded as a debit (-)
     
  4. Reserve Assets
    These are assets controlled by the Central Bank and available for use in achieving the goals of monetary policy. They include gold, foreign currency positions at the International Monetary Fund (IMF) and foreign exchange held by the Central Bank (USD, Euros etc.)

Interdependence Between the Accounts

  • It is called the BoP as the current account should balance with the capital and financial account and be equal to zero
    • If the current account balance is positive, then the capital/financial account balance is negative (and vice versa)
    • In reality, it never balances perfectly and the difference is called 'net error and omissions'

  • If there is a current account deficit, there must be a surplus in the capital and financial account
    • The excess spending on imports (current account deficit) has to be financed from money flowing into the country from the sale of assets (financial account surplus)

  • If there is a current account surplus, there must be a deficit in the capital and financial account
    • The excess income from exports (current account surplus) is financing the purchase of assets (financial account deficit) in other countries

Balance of Payments Calculations

Worked Example

The following table provides selected data from the balance of payments for a country in the European Union for the 2018

Data € (million)
Net capital transfers  –278
Net current transfers –179
Net direct investment 351
Exports of services 419
Imports of goods  839
Net investment income 154
Import of services  445
Exports of goods 872

Calculate the current account balance of this country in 2018 [2]

Step 1: Recall the formula for calculating the current account balance
 Net trade in goods + net trade in services + net income + net current transfers
 

The items 'Net capital transfers' and 'Net investment income' are not included in current account calculations and should be ignored
 

Step 2: Substitute the appropriate values

Net trade in goods = (872-839) = 33

Net trade in services = (419-445) = -26

Net income transfers = 154

Net current transfers = -179
 

Step 3: Complete the calculation

33 - 26 + 154 -179 = -18

(1 mark for the correct working)
 

Step 4: Check the units and ensure your answer uses the correct units

€-18 m

 

(2 marks for the correct answer or 1 mark for any correct working)



  • 1. Introduction To Economics
    • 1.1 What Is Economics?
      • 1.1.1 Economics as a Social Science
        • 1.1.2 The Problem of Choice
          • 1.1.3 The Production Possibilities Curve Model (PPC)
            • 1.1.4 Modelling the Economy
            • 1.2 How Do Economists Approach The World?
              • 1.2.1 Economic Methodology
                • 1.2.2 Economic Thought
              • 2. Microeconomics
                • 2.1 Demand
                  • 2.1.1 Demand, Price & Quantity
                    • 2.1.2 Non-Price Determinants of Demand
                    • 2.2 Supply
                      • 2.2.1 Supply, Price & Quantity
                        • 2.2.2 Non-Price Determinants of Supply
                        • 2.3 Competitive Market Equilibrium
                          • 2.3.1 Market Equilibrium & Disequilibrium
                            • 2.3.2 Functions of the Price Mechanism
                              • 2.3.3 Consumer & Producer Surplus
                              • 2.4 Price Elasticity of Demand (PED)
                                • 2.4.1 Definition, Calculation & Determinants of PED
                                  • 2.4.2 The Significance of PED
                                  • 2.5 Income Elasticity of Demand (YED)
                                    • 2.5.1 Definition, Calculation & Illustration of YED
                                    • 2.6 Price Elasticity of Supply (PES)
                                      • 2.6.1 Definition, Calculation & Determinants of PES
                                      • 2.7 Role of Government In Microeconomics
                                        • 2.7.1 Reasons For Government Intervention In Markets
                                          • 2.7.2 Government Intervention: Indirect Taxes & Subsidies
                                            • 2.7.3 Government Intervention: Price Controls, Direct Provision & Regulation
                                            • 2.8 Market Failure: Externalities & Common Pool (Access) Resources
                                              • 2.8.1 Market Failure
                                                • 2.8.2 Negative Externalities
                                                  • 2.8.3 Positive Externalities
                                                    • 2.8.4 Common Pool (Access) Resources
                                                      • 2.8.5 Government Intervention to Address the Market Failure
                                                        • 2.8.6 Other Interventions to Address the Market Failure
                                                        • 2.9 Market Failure: Public Goods
                                                          • 2.9.1 Public Goods
                                                        • 3. Macroeconomics
                                                          • 3.1 Measuring Economic Activity
                                                            • 3.1.1 National Income & The Circular Flow of Income
                                                              • 3.1.2 National Income Terminology & Calculations
                                                                • 3.1.3 The Business Cycle
                                                                  • 3.1.4 Appropriateness of Using GDP/GNI to Measure Well-being
                                                                    • 3.1.5 Alternative Measures of Well-Being
                                                                    • 3.2 Variations in Economic Activity (AD & AS)
                                                                      • 3.2.1 Aggregate Demand (AD)
                                                                        • 3.2.2 Short-Run Aggregate Supply (SRAS)
                                                                          • 3.2.3 Alternative Views of Aggregate Supply (AS)
                                                                            • 3.2.4 Shifts of the Long-Run Aggregate Supply (LRAS)
                                                                              • 3.2.5 Macroeconomic Equilibrium
                                                                              • 3.3 Macroeconomic Objectives
                                                                                • 3.3.1 An Introduction to Macroeconomic Objectives
                                                                                  • 3.3.2 Economic Growth
                                                                                    • 3.3.3 Low Unemployment
                                                                                      • 3.3.4 Low & Stable Rate of Inflation
                                                                                        • 3.3.5 Potential Conflicts Between Macroeconomic Objectives
                                                                                        • 3.4 Inequality & Poverty
                                                                                          • 3.4.1 Measuring Inequality & Poverty
                                                                                            • 3.4.2 Causes of Inequality & Poverty
                                                                                              • 3.4.3 Using Taxation to Reduce Inequality & Poverty
                                                                                                • 3.4.4 Other Policies to Reduce Inequality & Poverty
                                                                                                • 3.5 Demand Management: Monetary Policy
                                                                                                  • 3.5.1 An Overview of Monetary Policy
                                                                                                  • 3.6 Demand Management: Fiscal Policy
                                                                                                    • 3.6.1 An Overview of Fiscal Policy
                                                                                                    • 3.7 Supply-Side Policies
                                                                                                      • 3.7.1 An Overview of Supply-Side Policies
                                                                                                        • 3.7.2 The Effectiveness of Supply-Side Policies
                                                                                                      • 4. The Global Economy
                                                                                                        • 4.1 Benefits of International Trade
                                                                                                          • 4.1.1 The Advantages of Free Trade
                                                                                                          • 4.2 Types of Trade Protection
                                                                                                            • 4.2.1 Tariffs
                                                                                                              • 4.2.2 Quotas
                                                                                                                • 4.2.3 Export Subsidies
                                                                                                                  • 4.2.4 Administrative Barriers
                                                                                                                  • 4.3 Arguments For & Against Trade Protection
                                                                                                                    • 4.3.1 Arguments For & Against Trade Protection
                                                                                                                    • 4.4 Economic Integration
                                                                                                                      • 4.4.1 Understanding Economic Integration
                                                                                                                        • 4.4.2 Types of Trading Blocs
                                                                                                                          • 4.4.3 The World Trade Organisation (WTO)
                                                                                                                          • 4.5 Exchange Rates
                                                                                                                            • 4.5.1 Types of Exchange Rate Systems
                                                                                                                              • 4.5.2 Causes & Consequences of Exchange Rate Fluctuations
                                                                                                                              • 4.6 Balance of Payments
                                                                                                                                • 4.6.1 Components of the Balance of Payments
                                                                                                                                • 4.7 Sustainable Development
                                                                                                                                  • 4.7.1 The Sustainable Development Goals
                                                                                                                                  • 4.8 Measuring Economic Development
                                                                                                                                    • 4.8.1 Single Indicators of Development
                                                                                                                                      • 4.8.2 Composite Indicators of Development
                                                                                                                                        • 4.8.3 Evaluating the Different Approaches
                                                                                                                                        • 4.9 Barriers to Economic Growth & Development
                                                                                                                                          • 4.9.1 Poverty Traps
                                                                                                                                            • 4.9.2 Economic, Political & Social Barriers
                                                                                                                                            • 4.10 Economic Growth & Development Strategies
                                                                                                                                              • 4.10.1 Trade Strategies, Diversification & Social Enterprise
                                                                                                                                                • 4.10.2 Market-Based & Interventionist Policies
                                                                                                                                                  • 4.10.3 Merit Goods & Inward Foreign Direct Investment
                                                                                                                                                    • 4.10.4 Foreign Aid & Development Assistance
                                                                                                                                                      • 4.10.5 Institutional Change
                                                                                                                                                        • 4.10.6 Evaluating Market Orientated Approaches Versus Government Intervention
                                                                                                                                                          • 4.10.7 Progress Towards Sustainable Development Goals

                                                                                                                                                        Author: Steve



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