Trade Balance, Current
Account and Capital Flows:
Balance of Payments Accounts
Current Account Transactions:
1. Merchandise Balance = Exports - Imports of Goods
2. Net Exports (Trade Balance, NX) = Merchandise
Balance plus Net Exports of Services (or Balance on
Goods and Services)
3. Current Account Balance (CA) = Trade Balance + Net
Factor Income from Abroad ( = NX + i NFA)
The economy's financial position
vis a vis the rest of the world
• If NFA is the net stock of foreign assets held by people in
the United States (US ownership of foreign assets, net of
foreign ownership of US assets), then (excepting
changes in asset valuation) changes in NFA are equal to
the current account:
• NFAt+1 = NFAt + CAt .
• In fact, the net foreign assets at the beginning of next
period (t+1) must be equal to those in period t plus total
national income (GNP) minus the part of national income
that is consumed (C and G) or invested (I):
• NFAt+1= NFAt + GDPt + it x NFAt - Ct - Gt - It = NFAt +
CAt
The relation between the current
account and the net foreign assets
of the country: Another Look
another way of seeing the relation between the current account and the
net foreign assets of the country is to see the link between the
current account of the BP (that records current transactions, i.e.
trade in goods and services and the interest payments on net
foreign assets) and the capital account of the BP (that records
capital transactions, i.e. the purchase and sale of foreign assets). In
particular, we will show that the sum of the current account (CA) and
capital account (KA) of the balance of payments is equal to the
change in the official foreign reserves of the country (d(FAX) or:
CA + KA = d(FAX)
Intuitively, the above expression makes sense. Suppose, for a moment,
that the change in official foreign reserves is zero (d(FAX)=0) so that
the overall balance of payments (the sum of the current and capital
account is zero):
CA+KA=0
FAX= Official foreign reserves
balance of payments identity
• To derive more formally the above balance of payments identity (1)
note that:
• NFA = Foreign Assets (FA) - Foreign Liabilities (FL) =
• = Domestic Assets Abroad - Foreign Assets in the Domestic Country =
• = Foreign Assets held by Domestic Residents - Foreign Debt owed by
Domestic Residents
• Let us first distinguish between assets and liabilities of the private
sector and the government sector:
• FA = FAP + FAX
• FL = FLP + FLG
• where FAP are the foreign assets of the private sector and FAX are the
foreign assets of the government sector (the official foreign reserves of
the country that are usually held by the central bank, a government
agency). Similarly, the total foreign debt of the country FL is the sum of
the foreign debt of the private sector (FLP) and the foreign debt of the
government (FLG).