BALANCE OF PAYMENT

(DRAFT-I)

Submitted to:- Prof. P.C Panda

Submitted by:-

Debasish Dey(107)

Laxmi Deep (108)

Isha Mohanty(109)

Debabrata Dash(115)

Chinmaya Dash(117)

Subheswari Das(118)

Ravi Gupta(126)

BALANCE OF PAYMENT

The balance of payments of a country is a systematic record of all economic transaction between residents of that country and the rest of the world during a given period of time.

To spot whether it is becoming more difficult for debtor countries to repay foreign creditors, one needs a set of accounts that shows the accumulation of debts, the repayment of interest and principal, and the country’s ability to earn foreign exchange for future repayment.

Balance of Payments is a systematic and summary record of a country’s economic and financial transactions with the rest of the world over a period of time.(a) Transactions in good and services and income between an economy and the rest of the world,(b)Changes of ownership and other changes in that country’s monetary gold,

SDRs, and claims on and liabilities to the rest of the world, and(c) Unrequited transfers and counterpart entries that are needed to balance, in the accounting sense, any entries for the foregoing transactions and changes which are not mutually offsetting.

Nature of Balance of Payments AccountingThe transactions that fall under Balance of Payments are recorded in the standard double-entry book-keeping form,under which each international transaction undertaken by the country results in a credit entry and a debit entry of equal size,as the international transactions are recorded in the double-entry book-keeping form, the balance of payments must always balance, i.e., the total amount of debits must equal the total amount of credits. Sometimes, the balancing item, error and omissions, must be added to balance the balance of payments.Components of Balance of PaymentsBalance of Payments is generally grouped under the following heads

i) Current Accountii) Capital Accountiii) Unilateral Payments Accountiv) Official Settlement Account.

Current Account

“The Current Account includes all transactions which give rise to or use up national income.”The Current Account consists of two major items, namely:i) Merchandise exports and imports, andii) Invisible exports and imports.Merchandise exports, i.e., the sale of goods abroad, are credit entries because all transactions giving rise to monetary claims on foreigners represent credits. On the other hand, merchandise imports, i.e., purchase of goods from abroad, are debit entries because all transactions giving rise to foreign money claims onthe home country represent debits.Merchandise imports and exports form the most important international transaction of most of the countries.Invisible exports, i.e., sales of services, are credit entries and invisible imports,

i.e. purchases of services, are debit entries.Important invisible exports include the sale abroad of such services as transport, insurance, etc., foreign tourist expenditure abroad and income paid on loans and investments (by foreigners) in the home country form the important invisible entries on the debit side.

Capital AccountThe Capital Account consists of short- terms and long-term capital transactions A capital outflow represents a debit and a capital inflow represents a credit. For instance, if an American firm invests Rs.100 million in India, this transaction will be represented as a debit in the US balance of payments and a credit in the balance of payments of India.The payment of interest on loans and dividend payments are recorded in the Current Account, since they are really payments for the services of capital. As has already been mentioned above, the interest paid on loans given by foreigners of dividend on foreign investments in the

home country are debits for the home country, while, on the other hand, the interestreceived on loans given abroad and dividends on investments abroad are credits.Unilateral Transfers AccountUnilateral transfers is another terms for gifts. These unilateral transfers include private remittances, government grants, disaster relief, etc.Unilateral payments received from abroad are credits and those made abroad are debits.Official Settlements AccountsOfficial reserves represent the holdings by the government or official agencies of the means of payment that are generally accepted for the settlement of international claims.Balance of Payments ItemsCredits Debits.Current Account Current Account1. Merchandise Exports 1.Merchandise Imports(Sale of Goods) (Purchaseof Goods)2. Invisible Exports 2.Invisible Imports(Sale of Services) (Purchase of Services)

(a) Transport Services (a) Transport Servicessold purchased from abroad(b) Insurance services (b) Insurance Servicessold abroad purchased from abroad(c) Foreign tourist (c) Tourist Expenditureexpenditure in country abroad(d) Other services sold (d) Other services purchasedabroad from abroad(e) Incomes received on (e)Income paid on loans andloans and Investment investments abroad.in home country.Capital Account Capital Account3. Foreign long-term 3. Long-term investments abroad.investments in the home(a) Direct investments in (a) Direct investments country.abroad the home(b) Foreign investments (b)Investments insecurities in domestic foreign securities.(c) Other investments (c) Other investments abroadof foreigners abroad.4. Foreign short-term 4.Short-terminvestments in home country. abroad Unilateral Transfers Unilateral TransfersAccount Account5. Private remittances 5. Private remittances abroadreceived from abroad

6. Pension Payments 6. Pension payments abroad.received from abroad.7. Government grants 7. Government grants abroadReceived from abroadOfficial Settlements Official SettlementsAccounts Account8. Official sales of 8. Official purchases offoreign currencies foreign currenciesor other reserve or other services abroadassets abroadTotal Credits Total Debits

Balance of Payments DisequilibirumThe balance of payments of a country is said to be in equilibrium when the demand for foreign exchange is exactly equivalent to the supply of it. The balance of payments is in disequilibrium when there is either a surplus or a deficit in the balance of payments. When there is a deficit in the balance of payments, the demand for foreign exchange exceeds the demand for it.A number of factors may cause disequilibrium in the balance of

payments. These various causes may be broadly categorized into:(i) Economic factors ;(ii) Political factors; and(iii) Sociological factors.

Economic FactorsA number of economic factors may cause disequilibrium in the balance of payments. These are:

Development DisequilibriumLarge-scale development expenditures usually increase thepurchasing power, aggregate demand and prices, resulting insubstantially large imports. The development disequilibrium is common in developing countries, because the above factors, and large-scale capital goods imports needed for carrying out the various development programmes, give rise to a deficit in the balance of payments.

Capital DisequilibriumCyclical fluctuations in general business activity are one of the prominent reasons for the balance of payments disequilibrium.

As Lawrance W. Towle points out, depression always bringsabout a drastic shrinkage in world trade, while prosperity stimulates it. A country enjoying a boom all by itselt ordinarily experiences more rapid growth in its imports than its exports, while the opposite is true of other countries. But production in the other countries will be activated as a result of the increased exports to the boom country.

Secular DisequilibriumSometimes, the balance of payments diequilibrium persists for a long time because of certain secular trends in the economy.For instance, in a developed country, the disposable income isgenerally very high and, therefore, the aggregate demand, too, is very high. At the same time, production costs are very high because of the higher wages. This naturally results in higher prices. These two factors – high aggregate demand and higher domestic prices may result in the imports being much higher than the exports. This could be one of the reasons for the persistent balance of payments deficits of the USA.

Structural Disequilibrium

Structual changes in the economy may also cause balance ofpayments disequilibrium. Such structural changes include the development of alternative sources of supply, the development of better substitutes, the exhaustion of productive resources, the changes in transport routes and costs, etc.

Political FactorsCertain political factors may also produce a balance of payments disequilibrium. For instance, a country plagued with political instability may experience large capital outflows, inadequacy of domestic investment and production, etc. These factors may, sometimes, cause disequilibrium in the balance of payments. Further, factors like war, changes in world trade routes, etc., may also produce balance of payments difficulties.

Social FactorsCertain social factors influence the balance of payments. Forinstance, changes in tastes, preferences, fashions, etc. may affect imports and exports and thereby affect the balance of payments.

Foreign exchange reserves in India(in million us$)

End of Foreign currency

Gold SDRs Reserve tranche in IMF

Total

ASSETS IN US MILLION % Rs in cr.

In US million$

1 3 5 8 10 11 12=(5+3+8=10)

2Jul 114,718

4,057 2 1,301 5,51,882

1,20,077

9jul 115,405,

4,057 2 1,314 5,527,68

1,20,778

16jul 115,737

4,057 2 1,310 5,59,071

1,21,106

23jul 114,215

4,057 2 1,301 5,52,580

1,19,575

30jul 112,967

4,057 2 1,293 5,49,402

1,18,319

6aug 113,918

4,123 2 1,293 5,54,083

1,19,336

13aug 113,900

4,123 1 1,298 5,52,066

1,19,322

STATEMENT 2: INDIA'S OVERALL BALANCE OF PAYMENTS

(Rs crore)

Item

April-June 2007 P April-June 2006 PR

Credit Debit Net Credit Debit Net

1 2 3 4 5 6 7

A.CURRENT ACCOUNT            

I. MERCHANDISE 144,155 233,139 -88,984 134,930 211,985 -77,055

II.INVISIBLES (a+b+c) 129,609 59,992 69,617 112,054 55,764 56,290

a) Services 82,721 44,991 37,730 77,328 41,109 36,219

i) Travel 8,610 7,756 854 7,766 6,766 1,000

ii) Transportation 9,105 11,100 -1,995 7,885 9,312 -1,427

iii) Insurance 1,719 759 960 1,087 582 505

iv) G.n.i.e. 396 462 -66 259 368 -109

v) Miscellaneous 62,891 24,914 37,977 60,331 24,081 36,250

of which            

Software Services 34,806 2,297 32,509 32,007 1,992 30,015

Business Services 18,469 14,886 3,583 20,757 14,432 6,325

Financial Services 3,641 3,538 103 2,828 1,441 1,387

Communication Services 2,115 825 1,290 2,019 491 1,528

b) Transfers 36,121 1,785 34,336 27,246 1,364 25,882

i) Official 631 684 -53 314 409 -95

ii) Private 35,490 1,101 34,389 26,932 955 25,977

c) Income 10,767 13,216 -2,449 7,480 13,291 -5,811

i) Investment Income 10,206 12,210 -2,004 7,184 12,400 -5,216

ii) Compensation of Employees 561 1,006 -445 296 891 -595

Total Current Account (I+II) 273,764 293,131 -19,367 246,984 267,749 -20,765

             

B. CAPITAL ACCOUNT            

1. Foreign Investment (a+b) 169,531 136,879 32,652 152,041 147,898 4,143

a) Foreign Direct Investment (i+ii) 26,530 24,630 1,900 11,886 5,447 6,439

i. In India 24,345 87 24,258 11,586 36 11,550

Equity 20,737 87 20,650 8,376 36 8,340

Reinvested Earnings 2,919 0 2,919 3,174 0 3,174

Other Capital 689 0 689 36 0 36

ii. Abroad 2,185 24,543 -22,358 300 5,411 -5,111

Equity 2,185 22,807 -20,622 300 3,533 -3,233

Reinvested Earnings 0 1,117 -1,117 0 837 -837

Other Capital 0 619 -619 0 1,041 -1,041

b) Portfolio Investment 143,001 112,249 30,752 140,155 142,451 -2,296

In India 142,758 112,224 30,534 140,055 142,446 -2,391

Abroad 243 25 218 100 5 95

2.Loans (a+b+c) 65,480 31,034 34,446 48,831 28,710 20,121

a) External Assistance 3,109 2,046 1,063 2,619 2,396 223

i) By India 21 54 -33 18 41 -23

ii) To India 3,088 1,992 1,096 2,601 2,355 246

b) Commercial Borrowings (MT&LT) 34,282 5,220 29,062 22,995 4,993 18,002

i) By India 1,464 1,196 268 414 1,014 -600

ii) To India 32,818 4,024 28,794 22,581 3,979 18,602

c) Short Term to India 28,089 23,768 4,321 23,217 21,321 1,896

3. Banking Capital (a+b) 30,113 38,856 -8,743 44,729 22,040 22,689

a) Commercial Banks 30,113 38,831 -8,718 44,402 22,040 22,362

i) Assets 9,001 10,313 -1,312 23,904 8,535 15,369

ii) Liabilities 21,112 28,518 -7,406 20,498 13,505 6,993

of which: Non-Resident Deposits 19,755 21,599 -1,844 18,980 13,382 5,598

b) Others 0 25 -25 327 0 327

4. Rupee Debt Service 0 177 -177 0 305 -305

5. Other Capital 13,764 9,014 4,750 8,121 6,734 1,387

Total Capital Account (1to5) 278,888 215,960 62,928 253,722 205,687 48,035

C. Errors & Omissions 2,622 0 2,622 1,736 0 1,736

D. Overall Balance 555,274 509,091 46,183 502,442 473,436 29,006

(Total Capital Account, Current Account            

and Errors & Omissions (A+B+C))            

E. Monetary Movements (i+ii) 0 46,183 -46,183 0 29,006 -29,006

i) I.M.F. 0 0 0 0 0 0

ii) Foreign Exchange Reserves 0 46,183 -46,183 0 29,006 -29,006

( Increase - / Decrease +)            

P: Preliminary PR: Partially Revised

RBI has released the latest Balance of Payments for the 4th quarter (i.e. Jan-Mar) 2006-07 and alongside has released preliminary findings for the entire financial year 2006-07.

Here is a quick summary:

Current Account:

Exports of goods increased by 21 % during 2006-07 compared to 23 % in 2005-06. Exports grew mainly on account of tea, spices, engineering and petro goods. Imports growth at 22 per cent in 2006-07 (32 per cent in 2005-06). Imports grew mainly on account of non-oil imports and not oil-imports as it has generally been the case. Non-oil imports increased by 25% in 2006-07 (21.8%  in 2005-06). The major non-oil import items were capital goods, metalliferrous ores, metal scrap and gold and silver. Crude oil imports during 2006-07 recorded some moderation in growth at 30.4 % (47.3 % in 2005-06).  The slowdown in oil imports was largely because of a moderation in crude oil prices. The average price of the Indian basket of international crude (a mix of Dubai and Brent varieties) stood at $ 62.4 per barrel during 2006-07 as compared with US $ 55.4 per barrel during 2005-06. This implies that the prices increased by 13% in 2006-07 much lower than 42%

increase seen in 2005-06. In volume terms, the oil import demand rose to 13% in 2006-07 from 8 % in 2005-06, tracking the growth in industrial sector. The service exports increased by 37% in 06-07 compared to 68% in 05-06. Software exports increased by 29% on 06-07 compared to 35% in 05-06.

 Capital account:

FDI has a larger share in foreign investments than FII, a trend last seen in 2002-03. Outward FDI and FII have also grown sharply at 273% and 85%, showing Indians appetite for investing abroad is increasing. External Commercial Borrowings have grown at a shocking rate of 491% this year and are now at about USD 16 billion. That is why RBI revised the rates corporate can pay for ECB.  The total capital flows have increased by 92% and despite the increasing current account deficit, we have a huge BoP surplus at USD 36.6 billion, an increase of 143%.

THE CURRENT DEFICIT

The current account for Q1 2008-09 was noted at a deficit of $10.7 bn. This is the highest quarterly current account deficit (CAD) since the quarterly figures have been available (Q1 1990). The 1991 crisis was a result of the inability to finance the CAD. So, is the current CAD a cause of concern?

Current account shows the external trade position of an

economy. It comprises two sub-accounts — export/import of goods and export/import of invisibles. Invisibles include services, remittances and investment income. The goods imports have always been more than exports, resulting in trade deficit.

Recently, goods imports have surged mainly due to high oil prices. The widening trade deficit so far has been negated by a surge in revenue from services inflows (software). If the service inflows are less than trade deficit we get CAD, which in turn is financed by capital inflows (FDI, FII, etc) from abroad (vice-versa for current account surplus).

In Q1 2008-09, the trade deficit was $31.6 bn and the net service inflows was positive $20.9 bn, implying a CAD of 10.7 bn. Capital inflows were $12.9 bn leading to an overall surplus of $2.2 bn.

The concern is not having a deficit, but financing it. In India, a widening CAD has so far been financed by buoyant capital flows. But things are expected to change looking at the current global crisis. First, pressure on oil prices is likely to continue as emerging economies expand further.

Second, software exports are likely to decline tracking collapses of several foreign financial firms. The Indian software industry derives majority of its revenues from foreign financial sector and latter is clearly contracting.

Third, with a global slowdown the capital inflows are also expected to decline Fourth, the goods exports are also

expected to decline, as demand in other economies contracts.

In all, CAD levels are expected to decline but the deficit is likely to continue. The silver lining is the ample forex reserves held by the RBI. Those would help India finance its oil bills and manage the global slowdown.

A combined effect of rapid economic growth, import liberalisation and rising oil prices in 2007-08 has been a balance of trade deficit expanding to $80 bn. This year it may expand further to $100 bn. Although services and invisibles have been helping in moderating the current account deficit, it is beginning to look worrisome as services export growth is also tapering off.

Current account deficit helps India absorb foreign savings. As long as current account deficit is bridged through capital inflows such as foreign direct investments (FDI), it should be fine as it leads to addition of capital stock.

However, we have to be cautious while bridging this deficit with short-term capital flows or borrowing huge amounts in international ,as they can bring instability or push us into a debt trap.

PROPOSED SOLUTION:-

In the medium and long run we need to strengthen and expand the base of Indian exports so that we have a more

sustainable balance of payments situation. India should consolidate her presence in traditional export industries such as textiles, clothing, leather goods, gems and jewellery,Agricultural and horticultural products.

With our labour cost advantage eroding over time, the competitiveness will have to be sustained by internalising the full value chainWhile consolidating Indian advances in generic pharmaceuticals, small cars, two wheelers, and metals, we need to develop new industries leveraging our large and expanding market to containing imports and for new avenues for exports.

A domestic mobile handset production base has been built but what about a large personal computer manufacturing base especially in view of our skills base and software capabilities? A Nano type innovation could help in developing a major industry.

We should also seek to develop new scale-intensive, export-oriented industries such as aerospace, ship building and multiply power and telecom equipment producers. The time has come for giving a new thrust to industrialisation to generate exports and substitute imports for a more sustainable BoP while generating output and jobs for millions

Our view is:

Current Account deficit has widened by only 5% in 06-07 compared to 70% in 05-06 and is at about 1% of GDP. As the Rupee has been appreciating (it is now in the 41 Rs= 1$ compared to 43.5-44 range till March 31, 2007) the trade balance should worsen (as imports get cheaper and exports expensive). It is already happening as per the latest press release, imports have been rising and exports slowing.

So it would all depend on how much RBI intervenes in Forex markets. If it doesn’t given the high capital flows, the currency would appreciate. But then India has a current account deficit and the currency should depreciate!! If RBI lets the exchange rate to markets it would be interesting to see the rupee level ahead.

Another problem is with high investments needed in infrastructure we would need extra foreign capital, as currently investments are more than available savings (as per latest CSO estimates, Savings is 35% of GDP and Investments 37% of GDP) . That means more investments and which means more current account deficit. So, it is a bit of a mixed story and let’s see how things move ahead.

EFFEECTS OF RECENT ECONOMIC CRISIS ON BALANCE OF PAYMENT

India’s balance of payment fell by close t o$10 billion during the week ended 10th October 20, 2008,a record fall mainly due to heavy dollar sales by the central bank to stem the fall in the value of the local currency.

According to data released by the Reserve Bank Of India, the total foreign exchange reserve, including gold and SDR, dipped to $ 274 billion during the week ended October 10 from $291.9 at the end of September. This is the third straight week that the Forex stockpile has fallen with the slide in the past two weeks being specially severe.

The past fortnight also marked the period when foreign portfolio investors sold stocks in droves, forcing the central bank to sell dollars to pour up the rupee.

India- the fourth largest holder of foreign exchange reserves in Asia after China ,Japan and Taiwan-has seen reserves sliding since the start of the fiscal. Starting from end march the Forex stockpile has shrunk by close to $35 billion, forcing policymakers to recently unveil measures to boost inflows like a higher investment limit for FIIs in corporate debt and also allowing banks to offer higher rates on deposits for non-resident Indians.

The scenario now is in stark contrast to the same period a year ago, when reserves rose by $57 billion. India is not alone on this count. Other emerging Asian economies, too, have been scarred.

STATEMENT 2 : INDIA'S OVERALL BALANCE OF PAYMENTS

(Rs.crore)

  April-June 2008 P April-June 2007 PR

Item Credit Debit Net Credit Debit Net

1 2 3 4 5 6 7

A.CURRENT ACCOUNT            

I. MERCHANDISE 182,049 313,573 -131,524 147,421 232,781 -85,360

II.INVISIBLES (a+b+c) 157,169 70,316 86,853 119,993 60,615 59,378

a) Services 91,515 47,938 43,577 77,620 41,627 35,993

i) Travel 10,431 8,994 1,437 8,610 7,756 854

ii) Transportation 10,143 13,813 -3,670 7,855 10,276 -2,421

iii) Insurance 1,408 933 475 1,522 759 763

iv) G.n.i.e. 542 462 80 396 462 -66

v) Miscellaneous 68,991 23,736 45,255 59,237 22,374 36,863

of which            

Software Services 44,389 3,570 40,819 36,435 3,282 33,153

Business Services 16,962 13,430 3,532 16,411 13,170 3,241

Financial Services 3,103 2,612 491 2,598 2,528 70

Communication Services 2,474 941 1,533 2,115 825 1,290

b) Transfers 50,770 2,774 47,966 32,786 1,785 31,001

i) Official 629 504 125 631 684 -53

ii) Private 50,141 2,270 47,841 32,155 1,101 31,054

c) Income 14,884 19,604 -4,720 9,587 17,203 -7,616

i) Investment Income 14,238 18,229 -3,991 9,298 16,387 -7,089

ii) Compensation of Employees 646 1,375 -729 289 816 -527

Total Current Account (I+II) 339,218 383,889 -44,671 267,414 293,396 -25,982

B. CAPITAL ACCOUNT            

1. Foreign Investment (a+b) 221,448 196,833 24,615 174,986 133,275 41,711

a) Foreign Direct Investment (i+ii) 51,642 9,498 42,144 31,985 21,026 10,959

i. In India 50,646 92 50,554 28,864 87 28,777

Equity 42,656 92 42,564 21,310 87 21,223

Reinvested Earnings 7,169 - 7,169 7,096 - 7,096

Other Capital 821 - 821 458 - 458

ii. Abroad 996 9,406 -8,410 3,121 20,939 -17,818

Equity 996 6,398 -5,402 3,121 18,065 -14,944

Reinvested Earnings - 1,129 -1,129 - 1,117 -1,117

Other Capital - 1,879 -1,879 - 1,757 -1,757

b) Portfolio Investment 169,806 187,335 -17,529 143,001 112,249 30,752

In India 169,727 187,131 -17,404 142,758 112,224 30,534

Abroad 79 204 -125 243 25 218

2.Loans (a+b+c) 56,832 39,823 17,009 68,339 31,084 37,255

a) External Assistance 3,787 2,324 1,463 3,019 2,025 994

i) By India 25 33 -8 25 29 -4

ii) To India 3,762 2,291 1,471 2,994 1,996 998

b) Commercial Borrowings (MT&LT) 11,589 5,095 6,494 34,113 5,291 28,822

i) By India 1,687 804 883 1,464 1,196 268

ii) To India 9,902 4,291 5,611 32,649 4,095 28,554

c) Short Term to India 41,456 32,404 9,052 31,207 23,768 7,439

i) Suppliers' Short Term to India Credit >180days & Buyers Credit 38,557 32,404 6,153 28,382 23,768 4,614

ii) Suppliers' Credit up to 180 days 2,899 - 2,899 2,825 - 2,825

3. Banking Capital (a+b) 79,250 67,857 11,393 35,260 39,049 -3,789

a) Commercial Banks 79,250 67,395 11,855 35,260 39,024 -3,764

i) Assets 35,545 31,692 3,853 10,486 11,797 -1,311

ii) Liabilities 43,705 35,703 8,002 24,774 27,227 -2,453

of which: Non-Resident Deposits 37,744 34,358 3,386 21,619 23,462 -1,843

b) Others - 462 -462 - 25 -25

4. Rupee Debt Service - 125 -125 - 177 -177

5. Other Capital 10,768 8,610 2,158 4,070 7,546 -3,476

Total Capital Account (1to5) 368,298 313,248 55,050 282,655 211,131 71,524

C. Errors & Omissions - 1,069 -1,069 641 - 641

D. Overall Balance 707,516 698,206 9,310 550,710 504,527 46,183

(Total Capital Account, Current Account            

and Errors & Omissions (A+B+C))            

E. Monetary Movements (i+ii) - 9,310 -9,310 - 46,183 -46,183

i) I.M.F. - - - - - -

ii) Foreign Exchange Reserves - 9,310 -9,310 - 46,183 -46,183

( Increase - / Decrease +)            

P: Preliminary. PR: Partially Revised.

Source:-

A) Primary datas from Prof. P.C Panda

B) Web & Media

www.rbi.org

www.investopedia.com

www.wikipedia.org

www.boj.or.jp/en/

www.indiastat.com/india/ShowData.asp?secid=53&ptid=8&level=2 - 83k

www.rocw.raifoundation.org/management/mba/internationaltrade/lecture-notes/lecture-14.pdf -www.informationbible.com/BalanceOfPayment.html

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