BALANCE OF TRADE and BALANCE OF
PAYMENT
Here, we would like to make a
sharp distinction between balance of international trade and balance of
international payments as they are often confused by the readers. By
balance of international trade we mean, statement that takes into account the
total value of exports and imports of visible commodities of a country during a
year. By visible commodities is meant the commodities which when exported or
imported are recorded to the trade accounts at the ports. Balance of imported
are recorded to the trade accounts at the ports. Balance of payments, on the
other hand, is a statistical statement of income and expenditure both of the
visible and invisible items of trade on international account during a calendar
year. Invisible items are those items which are not shown in the trade
accounts at the time of their imports. Under this heading comes all the
receipts and payment made for the international services such as banking,
shipping, educational, insurance, travel, etc. when the total value of visible
exports is in excess to total value to visible imports during a year, the
country is said to have favourable or positive balance of trade. Conversely,
when the total value of goo imported exceeds the total value of goods exported,
the country is said to have unfavourable balance of trade. The mercantilists
believed that a favourable balance of trade indicates that country is heading
towards prosperity while unfavourable balance of trade is a sign of approaching
national disaster. When exports are greater than imports, they say gold is
brought into country and national wealth in increased. When imports exceed
exports, gold is taken out of the country and this leads to reduction in
national wealth. The importance of service transactions and other invisible
item was under estimated by them.
The modern economists, however, differ
with this view. They are of the opinion that a country’s prosperity or
adversity in not judged by its favourable or unfavourable balance of trade but
by its favourable or unfavourable balance of payment in England, for instance
with the exception of 1958 had an adverse balance of trade since 1890 but its
national wealth during these long years was increasing at a very last rate. It
was because of this fact that its debt balance visible trade was offset by its
credit balance on invisible trade. We conclude therefore, that favourable
balance of trade is not an index of the economic prosperity or poverty of the
country. It is the balance of payment which serves as a better guide to its
economic position. If a country has persistently unfavourable balance of
payments, it can be safely taken as a sing of apporoaching national disaster. Temporarily,
a country may have favourable or unfavourable balance payments but on the long
run, it must balance its payment, otherwise, it will be inviting troubles.
PRESENTATION OF
INTERNATIONAL BALANCE OF PAYMENTS
The total
balance of international payments is customarily divided into section;
(1) The balance of international payments on current account.
(2) The balance of international payments on capital account.
The movement of gold coins and bullion is sometimes shown separately in the
next section.
(1) THE
BALANCE OF INTERNATIONAL PAYMENTS ON CURRENT ACCOUNT:
The balance of
payment, as we know, is built lip inn terms of credit and debit entries. On the
side of credit account, the amount which a country has to receive from the
other country is shown, while on the debt side of the account, the payment
which has to be made to other countries is entered. In the balance of payment
of current account only those item are entered which do not create a new item
or cancel a previously existing capital claim.
THE MAIN CREDIT ITEM IN THE BALANCE ON CURRENT ACCOUNT ARE AS FOLLOW:
(1) Value of merchandise exports
(2) Payments received from foreigners for rendering banking
and shipping services.
(3) Travel expenditure of the foreign tourists in the
country.
(4) Expenditure of foreign students.
(5) Remittances of money by the nationals of the country
living in other country.
(6) Income on investment (interest and dividend, etc.) from
abroad.
(7) Charity contributions made to the institutions by the
foreigners.
(8) Miscellaneous government transactions such as sale as of
diplomatic representative, repatriation, military and payments, etc.
THE MAIN DEBIT ITEMS IN THE BALANCE OF PAYMENTS ON THE CURRENT ACCOUNT
ARE:
1. Value on merchandise imports.
2. Payments made to the foreigners for rendering banking and
insurance and shipping services for the country.
3. Travel expenditure of country’s tourists in other
countries.
4. Payments made to country’s students studying abroad.
5. Remittance by immigrants to their home country.
6. Interest and dividend payment by the foreigners to their
home countries.
7. Donations sent to other countries.
8. Miscellaneous government transaction such as salaries of
diplomatic representatives, repatriation; military aid payments, ect, To other
countries.
(2) THE BALANCE OF PAYMENT OF INTERNATIONAL PAYMENTS ON CAPITAL ACCOUNT:
The balance
of international payments on capital account is split up into two
parts,
(i) The balance of
payment on long term capital account
(ii) The balance of
payment on short term capital account in the balance of international payment
on long term capital account, we include the net private and government long
term loans and net long term foreign investment. The short term capital account
is composed of (1) private or government short term loans and (2) net
investment in short term debts.
The movement of capital from one country to
another country takes place due to three reasons; firstly, when country has to
make investment abroad, Secondly when it has to advance loans to another
country, Thirdly when the capital has to shifted due to safety reasons, The movement
of capital from one country to another has a serious repercussion on the
international payment on current account when the capital is shifted to another
country, a payment is to be made. Therefore, it is a debit entry and when we
borrow from abroad, we receive payment, therefore it is credit entry. If we have
a favourable balance on current account, it may be offset by a debit account
balance on capital account.
GOLD MOVEMENTS:
Gold is
sometimes an important balancing item. If the deficit on international account
exists, it is covered by shipping gold from one country to another. U.S.A
received large quantity of gold from other countries in the 1930’s.
EQUILIBRIUM OF BALANCE
OF PAYMENTS
The balance of international payment is a
statement that takes into account the debits and credits of a country on
international account during a calendar year. When a country has
unfavorable or adverse balance of payment, it is regarded as herald of disaster
because the country by have deficit in her balance of payment either decreases
her balances abroad or increases her foreign debit. When it has favourable credit
balance, it is considered that country is heading towards prosperity because by
having surpluses, it either increases her foreign credits or reduces her
foreign debits.
There
is no doubt that a study of country’s balance of payment reveals much information
about its economic position and development of the country. But when we are to
see that a country is heading towards financial bankruptcy or higher standard
of living, we are to examine the balance of payment of many years of that
country. A persistent deficit in the balance of payments on current account
certainly leads to economic and financial bankruptcy. A continued favourable
balance on current account is also disadvantageous because it creates
difficulties for other counties. The credit country may utilize her surplus in
advancing short or long term loans to the debtor country. But if it gives no
opportunity to the debtor country to repay the loan by exporting more, then how
can the loans he realized? The hard earned surplus of the credit country will
then one day be turned into gifts and this may create political difficulties
for the creditor country. We have seen, thus that a country should neither have
unfavourable nor favourable balance of payment on current account in
perpetuity. It must obtain equilibrium in her balance of payments over a reasonable
period of time. From this it may not be
concluded that a country should balance her account every year with every
country with which it has trade relations. A country may have favourable balance of payment with one
country and unfavourable with another but in the long run it must balance her
account. The total liabilities and total assets of all nations related to one
currency block must balance over a reasonable period of time.
CAUSES OF DISEQUILIBRIUM
IN THE BALANCE OF PAYMENT:
Balance of
international payment is a summary account of total debits and credits of a
country during a year. It includes both visible and invisible trading terms,
i.e. merchandise imported and exported, interest on dividend receive and paid,
payments and receipts of transport services, commission, insurance, brokerage,
etc. received and paid money lent abroad or borrowed, movement of gold, etc.
disequilibrium in the balance of payment can arise due to persistently one sided
movement of one or more than one trading terms. If for instance, the total value
of goods imported over a given period and this surplus is not offset by the
debit balance on invisible item, the country will have favourable balance of
payments. Disequilibrium in the balance arises when exports of a country fall
short of imports because of decrease in production at home, due to stiffer
competition abroad or of an appreciation in the currency or fall of purchasing
power of the buyers in the foreign market when the imports remain unaffected or
increase, then the country will have disequilibrium in her balance of payments.
Disequilibrium in her balance of payments can also arise over a given period
due to excessive imports not equalized by exports of invisible item and if it
is not offset by credit balance on visible items, the country will face
disequilibrium in her balance of payments.
CORRECTION OF
DISEQUILIBRIUM IN THE BALANCE OF PAYMENTS
We have state
earlier that country must obtain equilibrium in her balance of payments with
other country in the long run. When the balance of payments is favourable, it
can looked at with satisfaction from her point of view because the surplus will
be invested abroad in securities. But if a country has deficit balance in
perpetuity, it must be certified by taking necessary steps. The days of the
gold standard are gone when the balance was corrected automatically under gold
standard an active or passive balance accompanied by an inflow or outflow of
gold was normally supposed to result in an expansion or contraction of the
domestic money supply, and this expansion or contraction was expected to bring
about a rise or fall in the level of domestic costs and prices tending in the
latter, to discourage imports and stimulate exports. Gold flow, changes in the
quantity of money, and changes in relative price levels, thus appeared as the
principal factor in the mechanism of adjustment. But, now-a-days when every
country is on inconvertible standard, steps are to be taken to correct the
adverse balance of payments. The main methods adopted to cover a deficit in
balance of payment of a country are as follows:
(i) Rectifying the balance of trade: one
of the major items which can adversely affect the balance of payment of a
country is the excess of imports over exports. Inn case of a deficit of the
balance of payments, a country must try to stimulate exports or discourage
imports or do both. The exporters can encouraged by bringing down the level of
costs in the country or by granting bounties or by giving concessions to
industrialists and exporters. Imports can be restricted either by adopting
quota system or by imposing duties or by reducing people’s disposable income or
by higher taxation or by a reduced government expenditure or by total
prohibitions etc.
(ii) Deflation: Deflation is another
important weapon which is used to correct the unfavourable balance of payment.
The currency authority may try to lower the price by reducing the quantity of
money in circulation. If the country succeeds in bringing down the prices , it
then becomes a good market to sell in. Exports are encouraged, and imports fall
and thus the deficit gap is greatly reduced. This method when adopted is full
of dangers. If by contracting supply of money, the prices are lowered, the
rigid costs may not be brought down. Labour may oppose the reduction in the
wages. This can lead to depression and unemployment in the country which may
prove very dangerous. By 30%
(iii) Devaluation: devaluation is a remedy
which is applied only in times of extreme crisis to correct the adverse balance
of payments. Devaluation means the lowering of the exchange rate. This method
like devaluation is adopted to cheapen exports and make imports dearer,
devaluation, thus, raises exports and lowering imports. England devalued the
value of pound from 4.03 dollars to 2.80 dollars, i.e. By 30% in September,
1949 to correct disequilibrium in her balance of payments. Pakistan first
devalued its currency in 1955. The advantage with this method is that there is
no need to reduce the money wages and the object is achieved. The disadvantage
is that it shakes the people’s confidence in home currency.
(iv) Exchange control: Exchange control is a very effective and
useful method for correcting adverse balance of payment. Under this system, the
government enforces a complete monopoly of buying and selling of foreign
exchange in the foreign exchange market. The exporters are required to
surrender their foreign exchange at fixed rates to the central bank. The
central bank then rations out this foreign exchange among the licensed importers
of essential commodities only. When imports are restricted to the available
foreign exchange, the problem of adverse balance of payments is then greatly
solved.
(v) International monetary fund: Deficit
in the balance of payment can also be covered by obtaining assistance from
international monetary fund. The IMF, which began its operation in march, 1941,
helps member countries in maintaining equilibrium in the balance of payment.
The international monetary fund has proved very helpful in promoting exchange
stability and facilitating the settlement of international transactions.
