Current Account and Capital Account of Balance of Payment
The balance of payment comprises of two accounts:
- Current Account
- Capital Account
Current Account deals with exports and imports of goods, exports and imports of services, income receipts and unilateral transfers.
On the other hand, capital account records transactions relating to purchase and sale of foreign assets and foreign liabilities of a country with the rest of the world.
Items which are of a flow nature are included in the Balance of Current Account. Items which express changes in stocks(assets and liabilities) are included in the Balance of Capital Account.
Current account deals with goods and services as against capital account which deals with changes in assets and liabilities of a country with the rest of the world.
Current Account of BoP:
Current Account records the flow of goods and services between the countries during a given period of time. It consists of :
- Visible Items
- Invisible Items
- Income Receipts
- Unilateral Transfers
It records the imports and exports of visible items which in most of the cases are goods. These items can be touched, seen and measured.
The import and export of visible items is often known as ‘Balance of Trade’.
Balance of Trade= Export of Goods-Import of Goods
It means those items which are intangible i.e it can’t be seen or felt. Eg Shipping, Banking, Insurance etc are part of invisible items.
Income Receipts include Rent, Interest, Dividend, Wages etc received from or paid to the rest of the world.
It means one-sided transfers. It can be in the forms of remittances, donations, gifts etc. Eg A person living in Germany sends money to his family in India.
Foreign Aid received from other countries are also a part on unilateral transfers.
Capital Transfers of BoP:
It is the account which records change in assets and liabilities of normal resident with the rest of the world. It accounts for change in non financial assets, like borrowings from UN or from the other countries etc. It includes:
- Borrowings and lendings from and to the rest of the world.
- Investments to and from rest of the world.
- Change in foreign exchange reserves
Borrowings and Lendings:
It includes commercial borrowings and external assistance. It means it includes external borrowings from international institutions from World Bank etc.Borrowings and Lendings goes on the Debit side of the account.
It includes Investments to and from the rest of the world.It includes Foreign Direct Investment and Portfolion Investments. Investments by rest of the world includes in Indian companies, shares, real estate are recorded on the credit side. Investments by Indian companies in rest of the world is recorded on the debit side.
Change in Foreign Exchange Reserve:
It refers to the holding of Foreign Exchange with the Central Bank. The change in Foreign Reserves due to current demand or supply is recorded accordingly.When there is decrese in Foreign Reserve it is recorded on Credit side and when there is increase in Foreign Exchange it is recorded on Debit side.