MACROECONOMY

UK Balance Of Payments

The Balance of Payments is a record of a country’s transactions with the rest of the world. It shows the receipts from trade. It consists of the current and financial account

Current account

This is a record of all payments for trade in goods and services plus income flow it is divided into 4 parts

• Balance of trade in goods (visibles)
• Balance of trade in services (invisibles) e.g. tourism, insurance
• Net income flows (wages and investment income)
• Net current transfers (e.g. govt aid)

2. Financial account

This is a record of all transactions for financial investment. It includes

• Net investment from abroad (e.g. A UK firm buying a factory in Japan would be a debit item)

• Net financial flows - These are mainly short term monetary flows such as “hot money flows” to take advantage of exchange rate changes

• Reserves

(note the Financial Account used to be called the Capital Account)

3. Capital Account

This refers to the transfer of funds associated with buying fixed assets such as land

• Balancing Item

In practice when the statistics are compiled there are likely to be errors therefore the balancing item allows for these statistical discrepancies

Balance of Payments Equilibrium

• In a floating exchange rate the supply of currency will always equal the demand for currency, and the balance of payments is 0.
• Therefore if there is a deficit on the current account there will be a surplus on the financial account.
• If there was an increase in interest rates this would cause hot money flows to enter into the UK, therefore there would be a surplus on the financial account

The appreciation in the exchange rate would make exports less competitive and imports more competitive therefore with less X and more M there would be a deficit on the current account