The balance of payments (BoP) is the part of the national accounts where are reported all the payments by residents and their receipts from non-residents resulting from the international transactions that take place during a given period.
Most entries in the balance of payments refer to transactions in which economic values are provided or received in exchange for other commensurate values, for instance goods or services exchanged against payment. Other entries such as unilateral donations or grants, remittances or forgiveness of debt, however, are given away rather than exchanged, and are offset by entries referred to as transfers.
The standardized data structure of the balance of payments (see BoP standard components) provides a means to compare and analyze key elements of the economy over time, and between different countries.
The balance of payments shares with commercial accounting some key bookkeeping principles.
It captures the transaction flows that may increase or decrease the country's wealth, and not the stock of wealth itself, in the same manner as a company's operating (or profit and loss) statement tracks receipt and expense flows, as opposed to the balance sheet that reports the stocks of the company's wealth.
It is a double-entry bookkeeping system: every entry to an account requires a corresponding and opposite entry to a different account. One of these entries is designated a credit with a positive arithmetic sign; the other is designated a debit with a negative sign. For instance, an export paid cash is entered as a credit to the exports account, and as a debit to the financial account. For real or financial assets, a positive figure (credit) represents a decrease in holdings, and a negative figure (debit) represents an increase. In contrast, for liabilities, a positive figure shows an increase, and a negative figure shows a decrease. Transfers are shown as credits when the entries to which the transfers provide the offsets are debits and as debits when those entries are credits.
The balance of payments is by definition always balanced. The words balance of payments deficit or surplus usually refer to its current account section. Indeed, when a country runs a current account surplus, this export surplus is compensated by a proportionate "import" of I-owe-yous (debt notes) from its foreign partners, and vice-versa, thus achieving a balanced status. In principle, the sum of all credits is identical to the sum of all debits, giving a zero net balance of all entries. In reality, however, the accounts frequently do not balance (possibly for reason of valuation discrepancies), and a separate entry (net errors and omissions), equal to the net credit or net debit amount with the sign reversed, is made to balance the accounts.
In recording an economy's transactions with the rest of the world, balance of payments accounts are divided into two groups:
the current account, which records transactions in goods, services, primary income ¹, and secondary income ².
the capital and financial account, which records
(a) capital transfers³ receivable and payable between residents and nonresidents, acquisition or disposal of nonproduced, nonfinancial assets ⁴; and
(b) transactions in financial assets and liabilities, classified according to the functional categories, sectors, instruments, and maturities used for net international financing transactions.
Balance of Payments - Overview
Goods and services
Primary income ¹
Compensation of employees
Distributed income of corporations
Secondary income ²
Current taxes on income, wealth, etc.
Net nonlife insurance premiums
Nonlife insurance claims
Current international cooperation
Miscellaneous current transfers
Adjustment for change in pension entitlements
Current account balance
Acquisitions / disposals of nonproduced nonfinancial assets ³
Capital transfers ⁴
Capital account balance
Net lending (+) / net borrowing (-) (from current and capital accounts)
Financial account (by functional category)
Net acquisition of financial assets
Net incurrence of liabilities
Total changes in assets / liabilities
Total changes in assets/liabilities
Net lending (+) / net borrowing (-) (from financial account)
Net errors and omissions
Primary income : amounts payable and receivable in return for providing temporary use to another entity of labor, financial resources, or nonproduced nonfinancial assets.
Secondary income : redistribution of income, that is, when resources for current purposes are provided by one party without anything of economic value being supplied as adirect return to that party. Examples include personal transfers and current international assistance.
Nonproduced, nonfinancial assets consist of: (a) natural resources; (b) contracts, leases, and licenses; and (c) marketing assets (and goodwill).
Capital transfers are transfers in which the ownership of an asset (other than cash or inventories) changes from one party to another; or which obliges one or both parties to acquire or dispose of an asset (other than cash or inventories); or where a liability is forgiven by the creditor.
The linkages between the total economy and balance of payments flows can be explored by the use of key algebraic equations:
GDP = C + G + I + X - M
GNDY = C + G + I + CAB
S = GNDY - C - G
S = I + CAB
GDP = gross domestic product
C = private consumption expenditure
G = government consumption expenditure
I = gross domestic investment
X = exports of goods and services
M = imports of goods and services
X - M = trade balance in the balance of payments
GNDY = gross national disposable income
S = gross domestic savings
CAB = current account balance in the balance of payments
CAB = X - M + NY + NCT
CAB = S - I
CAB = (Sp + Sg) - (Ip + Ig)
CAB = GNDY - (C + G + I)
NY = net income from abroad
NCT = net current transfers
Sp = gross domestic private savings
Sg = gross domestic government savings
Ip = gross domestic private investment
Ig = gross domestic government investment
NFI = S - I + NKT - NPNNA
NFI = CAB + NKT - NPNNA
CAB = NKA + RT
S - I = NKA + RT
S - I = CAB = TB + SIB + TRANB = NKA + RT
NFI = net foreign investment or net lending/net borrowing relative to the rest of the world
NKT = net capital transfers
NPNNA = net purchases of nonproduced, nonfinancial assets
NKT = NPNNA = balance on the capital account of the balance of payments
NKA = net capital and financial account (i.e., all capital and financial transactions excluding reserve assets)
RT = reserve asset transactions
TB = trade balance
SIB = service and income balance
TRANB = current transfer balance
By applying regular algebraic operations to the equations above, one can explore the likely causes of payments imbalances, how do imbalances impact national wealth, external debt status, income payments, changes in countries' stocks of external assets and liabilities, and viability of financial flows, as well as to evaluate possible adjustments more economy friendly, and more people amicable.