Chapter 3
The Balance of Payments
◼ Learning Objectives
1. Explore the fundamentals of balance of payments accounting, how nations measure their
own levels of international economic activity and cross-border payments
2. Examine the two fundamental accounts of balance of payments—the current account and
financial account
3. Describe how changes in the balance of payments impact key macroeconomic rates—
interest rates and exchange rates
4. Consider how international trade is altered by exchange rate changes
5. Explore the evolution of capital mobility and the conditions that sometimes lead to crisis
◼ Chapter Outline
I. Fundamentals of BOP Accounting
A. Defining International Economic Transactions
B. The BOP as a Flow Statement
Exchange of Real Assets
Exchange of Financial Assets
C. BOP Accounting
II. The Accounts of the Balance of Payments
D. The Current Account
Goods Trade
Services Trade
Income
Current Transfers
E. The Capital and Financial Accounts
F. Financial Account
Direct Investment
Portfolio Investment
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6. Balance. Why does the BOP always “balance”?
7. BOP Accounting. If the BOP were viewed as an accounting statement, would it be a
balance sheet of the country’s wealth, an income statement of the country’s earnings, or a
funds flow statement of money into and out of the country?
8. Current Account. What are the main component accounts of the current account? Give one
debit and one credit example for each component account for the United States.
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9. Real Versus Financial Assets. What is the difference between a real asset and a financial
asset?
10. Direct versus Portfolio Investments. What is the difference between a direct foreign
investment and a portfolio foreign investment? Give an example of each. Which type of
investment is a multinational industrial company more likely to make?
11. Net International Investment Position. What is a country’s net international investment
position and how does it differ from the balance of payments?
12. The Financial Account. What are the primary sub-components of the financial account?
Analytically, what would cause net deficits or surpluses in these individual components?
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r. A German automobile firm pays the salary of its executive working for a subsidiary in
Detroit. Germany would record a debit in the income payments/receipts in its current
t. A French tourist from the provinces pays for a hotel in Paris with his American Express
card. A French resident most likely has a French-issued credit card, issued by the
14. The Balance. What are the main summary statements of the balance of payments accounts
and what do they measure?
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18. BOP Transactions. Identify the correct BOP account for each of the following transactions.
19. BOP and Exchange Rates. What is the relationship between the balance of payments and a
fixed or floating exchange rate regime?
20. Fixed Exchange Rate System. Under a fixed exchange rate system, the government bears
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21. Floating Exchange Rate System. Under a floating exchange rate system, the government of
22. J-Curve Dynamics. What is the J-Curve adjustment path?
23. Evolution of Capital Mobility. Has capital mobility improved steadily over the past 50
years?
24. Restrictions on Capital Mobility. What factors seem to play a role in a government’s
choice to restrict capital mobility?
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25. Capital Controls. Which do most countries control, capital inflows or capital outflows?
Why?
26. Globalization and Capital Mobility. How does capital mobility typically differ between
industrialized countries and emerging market countries?