The balance of payments (BOP) records all financial transactions made between consumers, businesses and the government in one country with other nations.
The current account measures the difference between money and credit going in and out of an economy (through exports, imports and income paid on assets both home and abroad)
2. • Examination length: 2 hours
• One essay question with two parts from a choice of
three topic areas. Worth 50 marks.
• One data response question out of a choice of two
questions. Worth 50 marks.
The Balance of PaymentsWhy is World Trade Growing Slowly at the Moment?WTO Report (2015) Annual Growth of World TradeThe A2 Macro Exam (Unit 4) June 2016
3. • Understand the different components of the Balance of
Payments
• Understand the factors influencing the size of deficits and
surpluses on different components of the Balance of
Payments
• Understand the significance of deficits and surpluses on
the current account
• Evaluate measures to correct trade imbalances
The Balance of PaymentsWhy is World Trade Growing Slowly at the Moment?WTO Report (2015) Annual Growth of World TradeA2 Syllabus for the Balance of Payments
4. The Balance of Payments
• The balance of payments (BOP) records all financial
transactions made between consumers, businesses and
the government in one country with other nations
• Inflows of foreign currency are counted as a positive
entry (e.g. exports sold overseas)
• Outflows of foreign currency are counted as a negative
entry (e.g. imported goods and services)
• The current account of the balance of payments is the
main measure of external trade performance
• The financial account measures inflows and outflows of
financial capital across national boundaries
Why is World Trade Growing Slowly at the Moment?WTO Report (2015) Annual Growth of World TradeKey Intro for Balance of Payments (BoP)
5. • Current Account
• (1) Balance of trade in goods
• (2) Balance of trade in services
• (3) Net primary income (interest, profits, dividends and migrant remittances)
• (4) Net secondary income (contributions to EU, military aid, overseas aid)
• Capital account
• Sale/transfer of patents, copyrights, franchises, leases and other transferable
contracts, and goodwill
• Transfers of ownership of fixed assets
• Financial Account – includes transactions that result in a change of ownership of financial
assets and liabilities between UK residents and non-residents
• Net balance of foreign direct investment flows (FDI)
• Net balance of portfolio flows (e.g. inflows and outflows of debt and equity)
• Balance of banking flows (e.g. hot money flowing in/out of banking system(
• Balancing item (estimated errors & omissions)
• Changes to the value of reserves of gold and foreign currency
• Overall balance of payments = zero
The Balance of PaymentsWhy is World Trade Growing Slowly at the Moment?WTO Report (2015) Annual Growth of World TradeThe Balance of Payments Account
7. Current account surplus countries
(Measured as a % of GDP, Source IMF)
Country 2013 2014 2015
Singapore 17.9 19.1 20.8
Taiwan Province of China 10.8 12.4 12.4
Netherlands 10.8 10.2 9.6
Kuwait 41.2 31.0 9.3
Germany 6.4 7.4 8.5
Switzerland 11.1 7.3 7.2
Korea 6.2 6.3 7.1
Denmark 7.2 6.3 7.0
Norway 10.0 9.4 7.0
Sweden 6.7 6.2 6.7
Slovenia 5.6 7.0 6.7
Thailand -0.9 3.3 6.2
Qatar 30.9 26.1 5.0
Ireland 3.1 3.6 3.2
China 1.6 2.1 3.1
Azerbaijan 16.4 14.1 3.0
Japan 0.8 0.5 3.0
8. Causes of current account surplusesStructural
Surplus of savings over
investment
Significant long run
competitive advantage
Long run rise in global
prices of main exports
Structural increase in
net investment income
Trend rise in factor
productivity
Cyclical
Depreciation of the
exchange rate
Strong consumer demand
in export markets
Cyclical improvement in
terms of trade
Fall in costs of essential
imports
Rise in net inflows of
remittances / profits
9. Causes of current account surplusesStructural
Surplus of savings over
investment
Significant long run
competitive advantage
Long run rise in global
prices of main exports
Structural increase in
net investment income
Trend rise in factor
productivity
Cyclical
Depreciation of the
exchange rate
Strong consumer demand
in export markets
Cyclical improvement in
terms of trade
Fall in costs of essential
imports
Rise in net inflows of
remittances / profits
10. R&D Spending and Scientists per
Million People – By Country (2013)
11. Economic Policies to Reduce a Trade DeficitWhy is World Trade Growing Slowly at the Moment?WTO Report (2015) Annual Growth of World TradeSignificance of Current Account Surpluses
Contributor to GDP i.e. net external demand is positive
Might cause demand-pull inflationary pressure
Accumulation of foreign exchange reserves
Pressure on the currency to appreciate
Allows a country to be a net exporter of capital
Huge surpluses could trigger protectionist responses
12. Economic Policies to Reduce a Trade DeficitWhy is World Trade Growing Slowly at the Moment?WTO Report (2015) Annual Growth of World TradeSignificance of Current Account Surpluses
1,066.3
1,528.2
1,946
2,399.2
2,847.3
3,181.1
3,311.6
3,821.3 3,843
0
500
1000
1500
2000
2500
3000
3500
4000
4500
2006 2007 2008 2009 2010 2011 2012 2013 2014
ForeignexchangereservesinbillionU.S.dollars
China’s persistent current account
surpluses built around their export-
led economy has been a key factor
allowing the country to build up huge
reserves of gold and foreign
currency – this is shown in the chart
13. Economic Policies to Reduce a Trade DeficitWhy is World Trade Growing Slowly at the Moment?WTO Report (2015) Annual Growth of World TradeSignificance of Current Account Surpluses
Yuan appreciating
against the US dollar
Yuan devaluation in
summer of 2015
14. Current account deficit countries
(Measured as a % of GDP, Source IMF)
Country 2013 2014 2015
Libya 13.6 -30.1 -62.2
Liberia -28.2 -28.7 -41.6
Mozambique -40.0 -34.7 -41.0
Djibouti -23.3 -25.6 -31.4
Zimbabwe -25.4 -22.0 -22.9
Lebanon -26.7 -24.9 -21.0
Niger -15.3 -15.2 -19.1
Kyrgyz Republic -15.0 -16.8 -17.7
Algeria 0.4 -4.5 -17.7
Montenegro -14.6 -15.4 -17.0
Oman 6.6 2.0 -16.9
15. Causes of current account deficitsStructural
Under-investment
Relatively low
productivity
Persistently high
relative inflation
Inadequate R&D,
innovation
Emergence of lower
cost competition
Cyclical
Over-valued exchange
rate
Boom in domestic
demand
Recession in key
export markets
Slump in global prices
of exports
Increased demand for
imported technology
16. Causes of current account deficitsStructural
Under-investment
Relatively low
productivity
Persistently high
relative inflation
Inadequate R&D,
innovation
Emergence of lower
cost competition
Cyclical
Over-valued exchange
rate
Boom in domestic
demand
Recession in key
export markets
Slump in global prices
of exports
Increased demand for
imported technology
17. Economic Policies to Reduce a Trade DeficitWhy is World Trade Growing Slowly at the Moment?WTO Report (2015) Annual Growth of World TradeSignificance of Current Account Deficits
Net outflow of AD from circular flow – this is a drag on real GDP growth
Loss of jobs in export sectors & industries affected by rising imports –
negative multiplier effects e.g. consider steel, coal etc.
Fall in foreign exchange reserves - can be problematic for smaller
developing nations who struggle to attract financial capital
Can lead to exchange rate weakness - reducing real living standards
and increasing investor risk – higher yields on government debt
Can a deficit be financed by hot money and portfolio investments?
18. Economic Policies to Reduce a Trade DeficitWhy is World Trade Growing Slowly at the Moment?WTO Report (2015) Annual Growth of World TradeMeasures to Correct a Current AC Deficit
Deflationary
monetary
policy
Deflationary
fiscal policy
Internal
devaluation
Expenditure
reduction
Depreciation
of the
currency
Import
barriers
Supply-side
improvements
Expenditure
switching
19. Economic Policies to Reduce a Trade DeficitWhy is World Trade Growing Slowly at the Moment?WTO Report (2015) Annual Growth of World TradeMeasures to Correct a Current AC Deficit
Deflationary
monetary
policy
Deflationary
fiscal policy
Internal
devaluation
Expenditure
reduction
Depreciation
of the
currency
Import
barriers
Supply-side
improvements
Expenditure
switching
20. Economic Policies to Reduce a Trade DeficitWhy is World Trade Growing Slowly at the Moment?WTO Report (2015) Annual Growth of World TradeMeasures to Correct a Current AC Deficit
Cyclical causes of a deficit tend to be partly self-correcting
Floating exchange rate can help to reduce deficits but this
depends on Ped and Pes of export industries and Ped for imports
Protectionist measures are limited by existing WTO and EU
commitments / policies – bring in game theory aspects here
Supply-side is crucial to restoring competitiveness in the long run
Measures to correct deficit may harm other objectives in short run
21. Annual UK Trade Balance in Goods and Services
Source: Office for National Statistics
-50000
-40000
-30000
-20000
-10000
0
10000
1985 1987 1989 1991 1993 1995 1997 1999 2001 2003 2005 2007 2009 2011 2013 2015
Trade in Goods & Services: Total balance: £million
22. UK Trade and Current Account Balance (% of GDP)
-7.0
-6.0
-5.0
-4.0
-3.0
-2.0
-1.0
0.0
2009Q1
2009Q2
2009Q3
2009Q4
2010Q1
2010Q2
2010Q3
2010Q4
2011Q1
2011Q2
2011Q3
2011Q4
2012Q1
2012Q2
2012Q3
2012Q4
2013Q1
2013Q2
2013Q3
2013Q4
2014Q1
2014Q2
2014Q3
2014Q4
2015Q1
2015Q2
2015Q3
2015Q4
Trade balance (%, GDP) Current account balance
(% GDP)
In 2015, the UK’s
current account
deficit was £96.2
billion, up from a
deficit of £92.5 billion
in 2014.
The deficit in 2015
equated to 5.2% of
GDP at current
market prices.
This was the largest
annual deficit as a
percentage of GDP at
current market prices
since annual records
began in 1948
23. Economic Policies to Reduce a Trade DeficitWhy is World Trade Growing Slowly at the Moment?WTO Report (2015) Annual Growth of World TradeA2 – Key Focus Points
Global trade imbalances are getting bigger – a threat to globalisation
Focus on the individual context of each country (developed/developing)
Distinguish between cyclical and structural causes
This helps to inform the appropriate policy response
Key question for deficit countries - is it sustainable in the long run?
Volatile profit streams of TNCs having a major effect on the UK current account
In this section on the balance of payments, first make sure you know the main parts of the current account balance. Then build an understanding of the meaning of Balance of Payments deficits and surpluses on the current account. For this unit, emphasis will be on the current account. Most AS questions make special reference to a country’s balance in trade in goods and services. Understand the causes & costs of an imbalance in the current account and be able to analyse and discuss the impact on the current account of factors including: a change in the exchange rate, changes in the state of the world economy, non-price factors. Much of this topic is closely linked to your study of the economics of exchanges rates.