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Chapter 13 Balance of Payments

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1 Chapter 13 Balance of Payments
BALANCE OF PAYMENTS ACCOUNTING For most countries the method of balance of payments accounting is generally the same and follows similar accounting principles. We will be focusing specifically on the principles used by South Africa for balance of payments accounting and if you like you can compare this the United States’ balance of payments in your prescribed text, Salvatore

2 BOP The balance of payments is comprised of two main accounts: the current account and the financial account. The current account records all imports and exports of goods and services and the financial account records all South Africa’s financial transactions with the rest of the world.

3 All international transactions can either be classified as debit or credit entry.
Debit – involves payments to foreigners  Credit – involves receipts of payments from foreigners  CURRENT ACCOUNT  Exports (+) Imports (-) FINANCIAL ACCOUNT

4 BOP If money comes into the country it is considered an export whether it is recorded in the current or financial account. Example, South Africa sells goods to consumers in Germany, its an export, because the German consumers have to pay South Africa for the good. Likewise, if an American company invests in South Africa, money is entering the country so it is also considered an export.

5 If any money leaves the country, it is considered an import
If any money leaves the country, it is considered an import. If a South African company purchases inputs from the UK, it is an import because money will leave the country. Similarly if South Africa grants a loan to a UK company, it is also an import as money leaves the country. We will use the South African balance of payments to explain the components.

6 Current Account Merchandise exports, includes the trade in all physical, tangible goods, both of raw materials as well as intermediate and final goods. Net gold exports are shown separately in the South African balance of payments. This is because gold is purchased by central banks as part of the foreign exchange reserves of a country and because South Africa is one of the world’s major gold producers.

7 CA The current account also records trade in services under service receipts. These include but are not limited to services such as transportation, travel, construction services, financial and insurance services, business and professional, recreational services and government services. Income receipts refer to income earned by South African residents in the rest of the world. This is divided into two categories namely: compensation of employees and investment income.

8 Merchandise imports, payments for services and income payments, are calculated on the same basis as merchandise exports, service receipts and income receipts respectively. The difference is that the flows are out of the country instead of into the country. Current transfers refer to when South Africans receive money, goods or services without having to provide anything in return. For example, gifts or donations from abroad

9 Bop All these items yield the balance in the current account, which can either be in a deficit or a surplus. A surplus means that the total exports of goods and services exceed the imports and vice versa for a deficit. By only using net gold exports, merchandise imports and merchandise exports we can calculate the trade balance.

10 Capital A/c Capital transfer account This is a separate item just reflecting transfers payments of a capital nature Financial account The financial account records all financial asset and liabilities transactions. It has three main components: direct investment, portfolio investment and other investment. Direct investment includes transactions related to the acquisition of share capital in foreign countries by establishing new businesses, or through mergers and takeovers.

11 Bop Portfolio investment refers to the purchase of assets such as shares or bonds between foreigners and South Africans in South Africa and abroad. Other investment includes all financial transactions that do not fall under the previous three categories. It includes trade credits, loans, currency and deposits and other assets and liabilities. For example, a South African importer my finance her transaction through the use of credit obtained abroad.

12 Adding net direct investment, net portfolio investment and net other investment, yields the financial account balance. Unrecorded transactions By assumption, using the double entry system, summing the debit and credit entries should equal the change in gross gold and other foreign reserves. In practice this does not happen and represent all the transactions that have taken place in the informal sector. Adding the current account, capital transfer account and financial account balances and

13 unrecorded transactions yield the change in the country’s net gold and other foreign reserves owing to balance of payments transactions. To calculate the change in gross gold and other foreign reserves, we need to factor in two more amounts, the change in liabilities related to reserves and SDR allocations and valuation adjustments.

14 The significance of the last two items on the balance of payments is that before the South African Reserve Bank (SARB) uses its own reserves, it will try and obtain assistance from the International Monetary Fund (IMF) or other central banks or governments. When the IMF was established, it was required that all central banks keep minimum reserves with the IMF. Special Drawing Rights or SDRs represent these reserves kept with the IMF. Should any country be experiencing

15 problems with their balance of payments, they may apply to exchange these SDRs with the IMF for convertible currency.

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