Balance of Payments (BOP)

What is the definition of Balance of Payments (BOP)?

Definition

Balance of Payments (BOP), also known as balance of international payments, is a record of all the financial transactions and international trade made by traders of a country. These transactions consist of the import and export of goods, services, and capital, including transfer payments such as foreign aid and remittances. The BOP of a country reveals whether or not the country saves enough to pay for its imports, and whether or not the country is able to produce enough economic output to pay for its growth. The BOP is made up of three components, they are:

• Current account; measures international trade, net income on investments, and direct payments.

• Financial Account; defines the change in international assets ownership.

• Capital Account; is made up of any other financial transactions that do not affect the economic output of a country in any way.

Balance of Payment Explained

A country’s international account is made up of the current account and capital account. The current account includes all transactions made in goods, services, investment income, and current transfers. It measures a country’s trade balance plus its net income and direct payments. A current account deficit happens when a country’s residents spend more importing than they save. While the capital account, also known as the financial account, measures the changes in domestic ownership of foreign assets. A deficit can be created in the capital account if the foreign ownership increases above domestic ownership. This implies that a country is selling off its assets faster than it is acquiring foreign assets.

A balance of payment can be categorized into two, which are the;

• Balance of payments deficit

• Balance of payment surplus

The balance of payment deficit is when a country imports more goods, services, and capital than it exports. Therefore, it must borrow money from other countries to pay for its imports. This may promote short-term economic growth, but in the long-run, the country will have to go into debt to pay for consumption. Whereas, the balance of payment surplus is when a country exports more than it exports. Such a country is able to provide the necessary capital to pay for its domestic production. It boosts short-term economic growth, and in the long-run becomes overly dependent on export-based growth.