Breaking Down the Balance of Payments
Current Account
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Capital Account
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Financial Account
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The current account deals with a country's short-term transactions or the difference between its savings and investments. These are also referred to as actual transactions (as they have a real impact on income), output and employment levels through the movement of goods and services in the economy.
The current account consists of visible trade (export and import of goods), invisible trade (export and import of services), unilateral transfers, and investment income (income from factors such as land or foreign shares). The credit and debit of foreign exchange from these transactions are also recorded in the balance of the current account. The resulting balance of the current account is approximated as the sum total of the balance of trade. Transactions are recorded in the current account in the following ways:
If imports decline and exports increase to stronger economies during a recession, the country's current account deficit drops. But if exports stagnate as imports grow when the economy grows, the current account deficit grows. |
The capital account is a record of the inflows and outflows of capital that directly affect a nation’s foreign assets and liabilities. It is concerned with all international trade transactions between citizens of one country and those in other countries.
The components of the capital account include foreign investment and loans, banking and other forms of capital, as well as monetary movements or changes in the foreign exchange reserve. The capital account flow reflects factors such as commercial borrowings, banking, investments, loans, and capital. A surplus in the capital account means there is an inflow of money into the country, while a deficit indicates money moving out of the country. In this case, the country may be increasing its foreign holdings. In other words, the capital account is concerned with payments of debts and claims, regardless of the time period. The balance of the capital account also includes all items reflecting changes in stocks. The term capital account is also used in accounting. It is a general ledger account used to record the contributed capital of corporate owners as well as their retained earnings. These balances are reported in a balance sheet's shareholder's equity section. |
A country's financial account is broken further down into two sub-accounts: the domestic ownership of foreign assets and the foreign ownership of domestic assets.
If the domestic ownership of foreign assets portion of the financial account increases, it increases the overall financial account. If the foreign ownership of domestic assets increases, it decreases the overall financial account, so the overall financial account increases when the foreign ownership of domestic assets decreases. Together, a country's domestic ownership of foreign assets and foreign ownership of domestic assets measure the international ownership of assets with which the country is associated. The financial account deals with money related to foreign reserves and private investments in businesses, real estate, bonds, and stocks. Also detailed in the financial account are government-owned assets such as special drawing rights at the International Monetary Fund (IMF), or private sector assets held in other countries, local assets held by foreigners—government and private—and foreign direct investment (FDI). |