Chapter 41, Problem 1P

Subpart (a):

To determine

The balance of payment of the country.

Explanation of Solution

The balance of payment is the account of the export earnings of the country and the import expenditures of the country over a defined period of time. The excess exports over imports of the country in the defined period are known as the surplus balance of payments. It is beneficial to the economy as it can help in increasing the future consumption of the country. The excess import payments over the export earnings is known as the deficit balance of payment and it is not beneficial as it will reduce the future consumption of the economy.

There are two accounts for balance of payment and they are: the current account and the capital account. The current account is the account of the short-term transactions such as export-import transactions of the goods and services of the country. The capital and financial account is the second part and it deals with the long-term transactions of the country such as the buying and selling of financial assets and properties.

The import and export data on the sale and purchase of goods are given in the table. According to the table data, the total exports of the goods by the country were worth $40 billion and the total import of goods is worth $30 billion. Thus, the balance on goods can be calculated by subtracting the import payments from the export earnings as follows:

$\begin{array}{c}\text{Balance on goods}={\text{Export earnings}}_{\text{Goods}}-{\text{Import payments}}_{\text{Goods}}\\ =40-30\\ =10\end{array}$

Thus, the balance on goods is $10 billion. Since the answer is a positive value, it denotes the surplus balance on goods.

Economics Concept Introduction

Concept introduction:

Balance of Payments: It is a record of all the transactions of income flow into the country and out of the country with the rest of the world, in a particular time period. Thus, it is the record of the transactions of the people of a country with the rest of the world.

Current account: It is the account of the export and import of the goods and services along with the grants, unilateral payments, and aids of a country in a year. It includes all short term transactions.

Capital account: The capital account does not deal with the imports and exports of a country. It deals with the transactions of the purchase and sales of the foreign assets and liabilities over time. Thus, it is the long term account.

Subpart (b):

To determine

The balance of payment of the country.

Explanation of Solution

The balance on goods was calculated to be $10 billion and it was a surplus balance on goods. Similarly, the table portrays the import and export data on the services also. The total exports of services by the country were worth $15 billion and the imports were worth $10 billion.  Thus, the balance on services can be calculated in the same way as the balance on goods by subtracting the total import payments from the total export earnings as follows:

$\begin{array}{c}\text{Balance on services}={\text{Export earnings}}_{\text{services}}-{\text{Import payments}}_{\text{services}}\\ =15-10\\ =5\end{array}$

The balance on services is $5 billion and since it is also positive, there is a surplus in the balance on services also.

The balance on goods and services can be calculated together by adding the balance on goods and balance on services together, which we have already calculated above as follows:

$\begin{array}{c}\text{Balance on goods and services}=\text{Balance on goods}+\text{Balance on services}\\ =10+5\\ =15\end{array}$

Thus, the balance on goods and services together is $15 billion.

Economics Concept Introduction

Concept introduction:

Balance of Payments: It is a record of all the transactions of income flow into the country and out of the country with the rest of the world, in a particular time period. Thus, it is the record of the transactions of the people of a country with the rest of the world.

Current account: It is the account of the export and import of the goods and services along with the grants, unilateral payments, and aids of a country in a year. It includes all short term transactions.

Capital account: The capital account does not deal with the imports and exports of a country. It deals with the transactions of the purchase and sales of the foreign assets and liabilities over time. Thus, it is the long term account.

Subpart (c):

To determine

The balance of payment of the country.

Explanation of Solution

The current account is the short-term transaction account which includes the export and import of goods and services as well as the net investment incomes and transfers. The balance on goods and services together is calculated to be $15 billion. In order to calculate the balance on the current account, we have to add the balance of goods and services together with the net investment income and the net transfers.

The net investment income of the country is given as -$5, which means that the outflow of the investment payment from the country was higher than the inflow of investment income to the country. Thus, there is a deficit and it is shown by -$5. Similarly, the net transfer is $10, which means that the inflow of transfers were higher than the outflow by $10 billion. We can add all these balances on goods and services along with the net transfers and net investment incomes in order to calculate the current account balance as follows:

$\begin{array}{c}\text{Current account balance}={\text{Balance}}_{\text{goods}}+{\text{Balance}}_{\text{services}}+\text{Net transfers}+\text{Net investment }\\ =10+5+10-5\\ =20\end{array}$

Thus, the current account balance is calculated to be $20 billion.

Economics Concept Introduction

Concept introduction:

Balance of Payments: It is a record of all the transactions of income flow into the country and out of the country with the rest of the world, in a particular time period. Thus, it is the record of the transactions of the people of a country with the rest of the world.

Current account: It is the account of the export and import of the goods and services along with the grants, unilateral payments, and aids of a country in a year. It includes all short term transactions.

Capital account: The capital account does not deal with the imports and exports of a country. It deals with the transactions of the purchase and sales of the foreign assets and liabilities over time. Thus, it is the long term account.

Subpart (d):

To determine

The balance of payment of the country.

Explanation of Solution

The balance on the capital and financial account can be calculated by adding the capital account balance and the balance on the foreign purchases together. The capital account balance is given as $0, which means there is no capital account balance in the country. The foreign purchases of alpha assets were $20 billion. This means that there was an inflow of $20 billion through the sale of domestic assets to the foreigners. The alpha purchases of foreign assets were $40 billion, which means that the outflow of capital in the form of domestic firms purchasing foreign assets was $40 billion. Thus, the balance on foreign purchases can be calculated by subtracting the outflow from the inflow as follows:

$\begin{array}{c}\text{Balance on foreign purchases}={\text{Foreign purchases}}_{\text{Alpha assets}}-{\text{Alpha purchases}}_{\text{Foreign assets}}\\ =20-40\\ =-20\end{array}$

Thus, the balance on foreign purchases is -$20 billion, which means that there is a higher outflow of capital through the purchase of foreign assets than the sale of domestic assets to the foreigners.

The capital and financial account balance can be calculated by adding the capital account balance with the financial balance as follows:

$\begin{array}{c}\text{Capital and financial account balance}=\text{Capital balance}+\text{Financial balanec}\\ =0+\left(-20\right)\\ =-20\end{array}$

Thus, the capital and financial account balance is -$20 billion. Since the value is negative, it indicates a deficit in the capital and financial account.

Economics Concept Introduction

Concept introduction:

Balance of Payments: It is a record of all the transactions of income flow into the country and out of the country with the rest of the world, in a particular time period. Thus, it is the record of the transactions of the people of a country with the rest of the world.

Current account: It is the account of the export and import of the goods and services along with the grants, unilateral payments, and aids of a country in a year. It includes all short term transactions.

Capital account: The capital account does not deal with the imports and exports of a country. It deals with the transactions of the purchase and sales of the foreign assets and liabilities over time. Thus, it is the long term account.