APMacro: Balance of Payments

A record of foreign transactions, called the balance of payments, is essential for making sense of a nation’s position in the global economy. There are three accounts within the balance of payments: current, capital and official transactions or reserve accounts. Market transactions determine the first two; the third is an offsetting account the government controls.

Balance of Payments

The current account records a nation’s exports and imports of goods, services (such as travel to other countries, shipping and insurance), net investment income (U.S. earnings on investment abroad minus foreign earnings from capital invested in the U.S.) and net transfers (foreign aid, pensions paid to U.S. citizens living abroad and funds immigrants send to family abroad).

The capital account records the flows of money from the purchase and sale of real and financial assets domestically and abroad. A real asset might be a hotel building in Tokyo, while a financial asset might be shares of stock in a Swedish company. Foreign investors may buy similar assets in the U.S. When these real and financial assets are bought and sold, nations use or earn foreign exchange.

When classifying a transaction, consider whether a country uses (loses) or earns (gains) foreign currency. For the current and capital accounts, if the international transaction uses foreign currency to complete the transaction, it is a debit (negative). If it earns foreign currency, it is a credit (positive).

The official transactions account is a counterbalancing account: A country uses foreign assets or currency to offset a balance of payments deficit, and this is recorded as a credit (positive). Similarly, when there is a balance of payments surplus, the earned foreign currency is recorded as a debit (negative).



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