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The Theory and Implementations of The Balance of Payments (BOP)

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The Theory and Implementations of The Balance of Payments (BOP)

To develop country’s economic strength under the tendency of

globalization, governments always seek to achieve two macroeconomic

objectives, i.e. stable growth of internal economy and balanced

development of external economic activities. The former can be

realized by effectively adjusting Economic Growth, Unemployment and

Inflation. However, how to realize the latter? An external

macroeconomic variable is needed. In practice, the Balance of Payments

fulfills this responsibility.

(A). Balance of Payments (BOP used in following text), in principle,

is a record of the country’s transactions with the rest of the world.

It shows the country’s payment s to or deposits in other countries

(debits) and its receipts or deposits from other countries (credits)[1].

The BOP account[2] also shows the balance between these debits and

credits under various headings, which are categorized into the Current

Account, the Capital Account and the Financial Account, which compose

the main elements of balance of payments.

The Current Account largely measures flow of real resources including

exports and imports of goods and services, income receivable and

payable abroad, and current transfers from and to abroad. It is

normally divided into three subdivisions (Figure 1).

Trade in goods account (often as the trade balance)

The total value of exports of goods, subtracting the total value of

imports of goods.

Trade in services account

Imports and exports of services, such as banking and insurance,

transport services, law, accountancy, management consultancy and

tourism.

Investment incomes

Interest, profit and dividends flowing into and out of the country.

Transfers of money

Two sectors: government transfers and transfers made by other sectors.

Government transfers include contributions to international

organisations (e.g. UK to EU budget) and foreign aid. The ‘other

sectors’ section many highlights the transfer of assets by individuals

to foreign bank accounts.

The Capital Account measures external transactions in capital

transfers, and in acquisition or disposal of non-produced,

non-financial assets, which include land and subsoil assets, patents

and copyrights etc. Capital transfers are transfers of ownership of a

fixed asset or the forgiveness of a liability.

The Financial Account records transactions in financial assets and

liabilities between residents and non-residents. It shows how an

economy's external transactions are financed. Transactions in the

financial account are classified into direct investment, portfolio

investment, other investment, and reserve assets[3] (Figure 2).

Direct investment

Money flows across national boundaries for the purpose of investing

and it is thus either a credit or a debit item.

Portfolio investment

Changes in the holding of paper assets, such as company shares and

bonds.

Other investment

It comprises loans, currency, deposits, and short and long-term trade

credits, financial derivatives and other accounts receivable and

payable.

Reserve assets

This refers to the reserves of gold, special drawing rights (SDRs) and
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