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Types of Disequilibrium in Country Balance of Payment

The balance of payments is used to track a country’s financial transactions with the rest of the world. It helps policymakers and economists understand trade flows, investment levels, and the economic health of a nation. A current account is very important as it reflects a ‘window’ on the health of an economy in a country. Continuously running deficits in a country’s current account might indicate a distressed system of economics, while an imbalance in the form of a surplus could be regarded as an indicator of a healthy economy. Excess of imports over the exports causes disequilibrium in balance of payments.

It can occur when autonomous receipts and payments are not equal, leading to a surplus or deficit. Cyclical fluctuations and exchange rate changes can also cause disequilibrium. Countries employ various measures to correct an unfavorable balance of payments deficit. The Balance of Payments (BoP) is a comprehensive statement that summarizes all the economic transactions between a country and the rest of the world during a specific period, typically a year. These transactions include goods, services, and even capital movements such as investments. The BoP’s primary components are the current account, comprising trade in goods and services, and the capital and financial account, encompassing investments and financial transfers.

Commerce Mates is a free resource site that presents a collection of accounting, banking, business management, economics, finance, human resource, investment, marketing, and others. Balance of Payment of the country is determined by a multiplicity of forces and the equilibrium in it is the resultant of numerous inter-related elements. Other measures are promotion of tourism to attract foreigners and providing incentives to enhance inward remittances.

Components of Balance of Payments

When the money supply is contracted, it would leave less money in the system and finally would reduce the purchasing power. Includes trade balance (exports and imports of goods and services), income and current transfers, plus financial account and capital account. The current account tracks trade in goods and services, along with income and transfers. The capital account, on the other hand, monitors international ownership of assets, including foreign investments, loans, and bank deposits. The data is used by the governments involved in fiscal and monetary policies within this context.

Understanding Balance of Payment (BOP) – Types and Importance

  • Technological disequilibrium in balance of payments is caused by various technological changes involve inventions or innovations of new goods or new technique of production.
  • It denotes the value of imports and exports of a country and tells whether it has surplus or deficit of funds.
  • The balance or equilibrium in Balance of Payments means that the demand for foreign exchange is equal to the supply.
  • Balance of Payments (BOP) is a statistical statement that systematically summarizes all economic transactions between the residents of a given country and the rest of the world during a specific period.
  • The BoP deficit means that there is an increased level of aggregate demand that have led to the increased imports.

The balance of payments creates an avenue whereby a country can evaluate its pattern of trade, manage foreign debt, and types of disequilibrium in balance of payment set future policy directions that will lead toward a sustainable development process. The financial account shows changes in foreign ownership of assets, such as the net position of a nation’s foreign assets. The balance of payments (BOP) includes a value of non-commodity items that give rise to the International Monetary receipt and payments. Also, the balance of payments or BOP is more useful in economic calculation. The record of all economic transactions between the residents of a nation and the rest of the world in a particular period.

Meaning of Balance of Trade

  • If the UK imports more goods and services than we export – then we have a deficit on the current account.
  • The differences between balance of payment in economics and balance of trade have been stated below.
  • These measures aim to stabilize the BoP by adjusting exports and imports, managing aggregate expenditure, and influencing currency values.
  • Whenever there is a deficit, demand for foreign exchange exceeds its supply and this result in an increase in the exchange rate and a fall in the external value of the domestic currency.
  • It is comprised of debt forgiveness, acquisitions and disposals of non-financial assets, and a flow of funds from one country to another in investments.
  • One of the best ways to fund the CAD is through non-debt creating and long-term inflows such as FDI.

In a floating exchange rate, the two components of the Balance of Payments should balance each other out. Then in a floating exchange rate, the financial account should have a surplus of £52bn. This is because financial outflows must be matched by financial inflows. Disequilibrium occurs due to factors such as excessive imports, foreign debt, inflation, and political instability. When inflows and outflows do not naturally balance, this creates an imbalance in the economy. Excessive external borrowing is another main factor responsible for causing a surplus or deficit in country’s balance of payments.

Short run Disequilibrium

An economy that presents a positive BoP means stability, which attracts investors from other countries. Comparatively, a bad BoP does not encourage investment since it gives an impression of economic trouble. Note, how if one country has a large surplus on the current account (Germany). The differences between balance of payment in economics and balance of trade have been stated below. Countries can correct a BoP deficit by devaluing their currency, introducing tariffs or quotas, promoting exports, or adjusting monetary and fiscal policies.

These development programs are time taking process and therefore requires continuous import for a long time which causes disequilibrium. Disequilibrium caused on a temporary basis for a short period, say one year is called short run disequilibrium. Such disequilibrium does not pose a serious threat as it can be overcome within a short run. Such an disequilibrium may be caused due to international borrowing and lending. When a country goes for borrowing or lending it leads to short run disequilibrium.

Adjustment of BoP

Such disequilibrium is justified as they do not pose a serious threat. When there is a continuous increase in the stock of gold and foreign exchange reserves. The Automatic measures were useful and relevant when there was Gold Standard. A country with political instability may experience large capital outflow and inadequacy of domestic investment and production. A balance of payments disequilibrium can be causes of global imbalances e.g.

Meaning of Balance of Payments

For instance, there may be recession in the importing countries, which in turn would reduce demand for imports. Therefore, the demand for exports will decline and the exporting country may face a trade deficit, which in turn may affect BoP positions. When disequilibrium is caused due to the changes in trade cycles, it is termed as cyclical disequilibrium. It is possible that different phases of trade cycles like depression, prosperity, boom, recession, etc, may disturb terms of trade and cause disequilibrium in balance of payments.

In this situation, an exporter in India would realize Rs. 5500 for an export worth 100 Dollars. ‘This may be done by improving or enhancing import duties, restricting imports through import quotas, licensing and even prohibiting altogether the import of certain inessential items. Provides detailed information about the overall financial condition of a country. Balance of payment is a very important topic to be studied for the UGC-NET Commerce Examination as we expect few questions from this topic each year.

When a country imports more goods than what it is exporting, it would lead to more outflow of funds thereby leading to disequilibrium in BOP. Balance of payment is an account of all economic and financial transactions of a country with the rest of the world. It contains all international transactions of individuals, government and companies of a country made during a defined time period (i.e. quarterly or yearly).

Essentially, it covers all monetary exchange, which reflects the trading of both goods and services, as well as investments, as well as transfers. The system is such that all inflows of foreign currency, from either export or foreign direct investment, will balance out to outflows in the form of imports or foreign assistance. Although BoPs are typically imbalanced, theoretically they should always balance when all factors are taken into account. The balance or equilibrium in Balance of Payments means that the demand for foreign exchange is equal to the supply. On the contrary, disequilibrium is a situation where the balance of payments does not equal zero, meaning that there is a surplus or deficit. While specific accounts (like the current account) can show a deficit or surplus, the overall balance of payments always balances.

Governments and central banks use the balance of payments to shape policies that foster economic stability and growth. Therefore, tracking and accurately recording all transactions are of utmost importance for maintaining economic stability. By reading this article, the learners will be able to know about the India’s foreign trade and balance of payment better. BoP represents an integrated accounting account of all financial transactions conducted by a country in the balance towards the rest of the world in a year and other periods.

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