Balance of payments

     Balance of payments can be defined as the systematic record or summary statement of accounts of all the major economic or trading transactions between a reporting country and the rest of the world, during a specific period, usually one year. Balance of payments is a summary of receipts (income) and payments (expenditure) of a country in the international accounts.

Balance of payments has three components;
(a) Current account: This consists of the visible trade account (balance of trade) and the invisible trade account. The balance of trade shows the relationship between the receipts (for imports) and payments (for exports) for tangible goods, during one year. The invisible trade account deals with receipts and payments for services such as banking, transportation, etc.

(b) Capital account: This account deals with capital inflows and outflows. It consists of items such as direct investments, long-term loans, and loan repayments. Residual or balancing segment of the balance of payments account. It shows how short-term deficits in the combined current and capital accounts are financed and how short-term.

(c) Monetary movement account: This is the surpluses are used up.


      A balance of payments disequilibrium exists if the total receipts of a reporting country on the combined current and capital accounts is not equal to total payments made to all other countries, during a given period, usually one year. Such a disequilibrium could be a deficit or a surplus.

     A balance of payments deficit occurs if the total receipts from all other countries are less than the total payments to the other countries within the accounting period. This situation implies that the reporting country is weak in its international trade transaction.


     Short-term balance of payments disequilibrium does not cause serious problems. A short-term balance of payments deficit can be financed or paid for by;
(i) Short-term borrowing from abroad e.g. the IMF or other countries.

(ii) Importing goods on credit.

(iii) Using up foreign exchange reserves.

(iv) Selling foreign investments.

(v) Recalling foreign loans.

(vi) Exporting gold.

(vii) Limiting debit items and promoting credit items.

     Long-term measures for correcting the balance of payments deficit.
A chronic (long-term or fundamental) balance of payments deficit is what causes serious concern to countries. Long-term measures are used to correct a persistent balance of payments deficit. These include:

(i) Export promotion (export drive): A deliberate policy should be undertaken to increase the production and exportation of both invisible and visible items. Export promotion could be encouraged through export subsidies, granting tax concessions to export-based industries and the development of tourism, etc.

(ii) Fiscal policy: Government could use tariffs (import duties) as a corrective measure. An increase in tariffs would increase import prices, thereby lowering the demand for imports. A decrease in payments to other countries would improve the balance which can be used, export prices would fall, leading to increased demand for them by other countries. Receipts would
increase and help to improve the balance of payments.

(iii) Quantitative control of imports: Several administrative measures can be put in place to reduce the volume of imports. These include the use of import quotas, embargoes, import
other licensing etc. and reduced payments to countries would help to remedy the balance of payments.

(iv) Increased domestic production: Vigorous attempts should be made to produce more of the goods and services at home which would otherwise be conserved and this would help to improve the balance of payments.

(v) Foreign exchange control: The government imported. Foreign exchange could directly control foreign exchange usage. Stringent regulations regarding the buying and selling of foreign currencies would help to reduce the volume of imports.

(vi) The use of restrictive monetary policy: The availability and use of credit should be reduced to create a situation of a liquidity squeeze.

(vii) Devaluation of domestic currency: Devaluation is a deliberate and legally prescribed reduction of the value of a country’s currency about other countries’ currencies and gold. It has the effect of making imports to be relatively more expensive than exports.

The increase in exports relative to the demand for imports would make receipts increase while payments to other countries would decrease.

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