Balance of payments (BoPs) is systematic statement that systematically summarizes, for a specified period of time, the monetary transactions of an economy with the rest of the world. Put in simple words, the balance of payments of a country is a systematic record of all transactions between the ‘residents’ of a country and the rest of the world.
Three main elements of actual process of measuring international economic activity are:
- Identifying what is/is not an international economic transaction,
- Understanding how the flow of goods, services, assets, money create debits and credits, and
- Understanding the bookkeeping procedures for BoP accounting.
Each transaction is recorded in accordance with the principles of double-entry book keeping. That is every transaction is recorded based on accounting principle. One of these entries is a credit and the other entry is debit. In principle, the sum of all credit entries is identical to the sum of all debit entries, and the net balance of all entries in the statement is zero. Exports decreases in foreign financial assets (or increases in foreign financial liabilities) are recorded as credits, while imports increases in foreign financial assets (or decreases in foreign financial liabilities) are recorded as debits. In other words, with regard to assets, whether real or financial, decreases in holdings are recorded as credits, while increases in holdings are recorded as debits. On the other hand, increases in liabilities are recorded as credits, while decreases in liabilities are recorded as debits. In practice, the figures rarely balance to the point where they cancel each other out. This is the result of errors or missions in the compilation of statements. A separate balancing item is used to offset the credit or debit.
However, there is no book-keeping requirement that the sums of the two sides of a selected number of balance of payments accounts should be the same, and it happens that the balances shown by certain combinations of accounts are of considerable interest to analysts and government officials. It is these balances that are often referred to as “surpluses” or “deficits” in the balance of payments.
The following some simple rules of thumb help to the reader to understand the application of accounting principles for balance of payments accounting.
- Any individual or corporate transaction that leads to increase in demand for foreign currency (exchange) is to be recorded as debit, because if is cash outflow, while a transaction which results in increase the supply of foreign currency (exchange) is to be recorded as a credit entry.
- All transactions, which result an immediate or prospective payment from the rest of the world (RoW) to the country should be recorded as credit entry. On the other hand, the transactions, which result in an actual or prospective payment from the country to the RoW should be recorded as debits.
|1.Exports of goods and services||1. Imports of goods and services|
|2.Income receivable from abroad||2. Income payable to abroad|
|3.Transfers from abroad||3. Transfers to abroad|
|4. Increases in external liabilities||4. Decreases in external liabilities|
|5.Decreases in external assets||5. Increases in external assets|
Thus balance of payments credits denote a reduction in foreign assets or an increase in foreign liabilities, while debits denote an increase in foreign assets or a reduction of foreign liabilities.
In balance of payments accounting the principle of accrual accounting governs the time of recording of transactions. Therefore, transactions are recorded when economic value is created, transformed, exchanged, transferred, or extinguished. Claims and liabilities arise when there is a change in ownership. Put in simple words, balance of payments is usually prepared for a year but may be divided into quarters as well.