Business

Translating economic terminology: The Balance of Payments

The Sterling Report

Pamela Lewis

Sunday, December 23, 2012    

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THE Balance of Payments (BOP) is a method countries use to measure the flow of money into and out of their economies over a specific period of time, usually quarterly and yearly. Like any company or individual, this is important information to know and has implications for the financial health of the entity/nation/individual. Let's take a look at what makes up the balance of payments, why it is important and how Jamaica measures up.

The BOP summarises the total international trade activities of the private and public sectors by monitoring the payments and liabilities to foreigners (debits) and receipts and obligations from foreigners (credits). If a country's debits are greater than its credits over the given period, then it can be said to be running a deficit, that is, money is tending to flow out of the economy. Conversely, if the country's credits are greater than its debits, then the country can be said to be running a surplus, where inflows exceed outflows. Unsurprisingly, surpluses are generally preferred to deficits and indicate that a country is saving more than it is spending. However, there are instances when deficits are acceptable. For example, if there is a lot of foreign direct investment in a country, there may be a lot of profit repatriation, which involves sizable outflows of money from the country. However, the country still benefits from the employment and the other spin-off activity that the foreign-owned businesses generate.

In the simplest of senses, the balance of payments is divided into two accounts. These are known as the current account and the capital account. The current account measures mainly the net flow of goods and services into the country. The current account balance, as this flow is commonly known, is the sum of total exports less total imports in tangible goods such as bauxite, motor vehicles or food, and the sum of total exports less total imports in services such as tourism, transport, insurance, education and so forth. The current account balance is an important indicator of economic health. Export-driven economies are desirable as the production fuels growth and further economic development.

Although the trade balance is typically its largest component, the current account also includes net international interest payments and net unilateral transfers such as remittances and foreign aid. A current account surplus is almost always a trait of growing economies.

As its name suggests, the capital account keeps track of capital flows into and out of the country. Basically, it measures the relative change in foreign ownership of domestic assets as opposed to domestic ownership of foreign assets. A capital account can be said to be in surplus where foreign ownership of domestic assets is greater than domestic ownership of foreign assets and in deficit in the opposite situation. The capital account takes into consideration investment in real estate, bonds, stocks, foreign direct investment, and governmentowned assets such as foreign reserves, gold and IMF Special Drawing Rights.

Jamaica had a current account deficit of US$637.4 million for the period January-June 2012 with imports of goods and services exceeding exports by this margin. As you can see, Jamaica is consuming more than it is exporting. However, it must be noted that the current account improved in 2012 over the corresponding period of 2011 but merchandise imports were still over three times the value of the exports of goods. Net private and official capital inflows were also insufficient to finance the deficit on the current account and consequently the Net International Reserve (NIR) of the Bank of Jamaica declined by US$425.7 million for the first half of 2012. Net International Reserves were recorded as US$1,540.42 million at the end of June 2012, representing 15.9 weeks of goods and services imports. The NIR has since declined to US$1,078.15 million as at the end of November 2012, representing 12.88 weeks of goods and services imports. The internationally accepted minimum NIR level is twelve (12) weeks of imports of goods and services.

Pamela Lewis is the Vice-President of Investment and Client Services at Sterling Asset Management. Sterling provides medium to long-term financial advice and instruments in US and other world market currencies to the corporate, individual and institutional investor. Feedback: If you wish to have Sterling address your investment questions in upcoming articles, e-mail us at: info@sterlingasset.net

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