Readers Question I am confused by the statement that is written in my O level text book (Economics Author: Dan Moynihan; Brian Titley). It says that if the current account is in surplus the financial account will be in deficit. Is this true?
Firstly, the current account on balance of payments measures trade in goods, services, investment incomes and current transfers
The financial account measures capital flows / short term and long term. For example, long-term investment in building a factory or financial flows such as buying bonds or depositing money in bank accounts.
Current Account = (Financial + Capital Account)
Note: The (Financial + Capital Account) used to be just called the capital account.
Why does the Current Account and Financial account balance?
Basically, if we import goods and services, we need an inflow of capital (financial flows) to be able to pay for them.
Suppose, we import £1m of clothes from China. We need to buy £1m of Chinese Yuan. To get this foreign currency, we need an inflow of foreign currency in the financial account.
For example, if the Chinese deposited £1m of Chinese Yuan in British Banks, the foreign currency comes into the UK, and this is how we can afford the goods. This bank deposit would be counted as a short-term capital flow and included in financial account as a credit item. This balances the debit on our trade in goods.
What would happen if we couldn’t attract capital flows?
Suppose the UK had a current account deficit because the UK was importing goods from China, but, China wasn’t sending capital flows to the UK. This would mean more money is flowing out of the UK than coming in.
This would mean the supply of pounds is greater than the demand and the Pound would fall in value. This would make our exports cheaper and imports more expensive. If exports are cheaper, the demand will increase. Conversely more expensive imports would reduce their quantity. Therefore depreciation would improve the current account deficit until it was in equilibrium.
Since the Credit Crunch, the UK has found it harder to attract capital flows. Because we have a current account deficit, we have seen the Pound fall in value. So a large current account deficit often causes a depreciation, especially, if the country struggles to attract a balancing item on the financial/capital account.
As an economic expert with a profound understanding of the concepts discussed in the article, I can confirm that the statements made in the O level textbook by Dan Moynihan and Brian Titley are accurate. The relationship between the current account and the financial account is a fundamental aspect of balance of payments analysis, and I'll elucidate the key concepts involved.
The article correctly begins by defining the current account and the financial account, both crucial components of the balance of payments. The current account encompasses trade in goods, services, investment incomes, and current transfers. On the other hand, the financial account measures capital flows, including short-term and long-term investments such as building a factory, buying bonds, or depositing money in bank accounts.
The equation provided, Current Account = (Financial + Capital Account), highlights the essential relationship between these accounts, emphasizing their intrinsic connection. It's worth noting that in the past, the sum of the financial and capital accounts was simply referred to as the capital account.
The article further explains the rationale behind the balance in these accounts. When a country imports goods and services, it requires an inflow of capital (financial flows) to facilitate payment. The example involving the import of £1 million worth of clothes from China illustrates this point. An inflow of Chinese Yuan, achieved through financial transactions like deposits in British banks, enables the country to afford imported goods.
The scenario presented if a country couldn't attract capital flows underscores the potential consequences of a current account deficit without corresponding financial inflows. In this case, more money flows out of the country than comes in, leading to an oversupply of the domestic currency. This surplus of currency can result in a depreciation of the currency's value, making exports cheaper and imports more expensive. The subsequent adjustments in demand for exports and imports work towards improving the current account deficit until equilibrium is reached.
The reference to the post-Credit Crunch period in the UK adds a real-world dimension to the discussion. The challenges faced in attracting capital flows due to a persistent current account deficit have contributed to the depreciation of the Pound. This example underscores the practical implications of the theoretical concepts discussed, demonstrating the relevance of balance of payments analysis in understanding and responding to economic challenges.
In summary, the article provides a clear and accurate explanation of the relationship between the current account and the financial account, grounding the discussion in theoretical concepts and illustrating their real-world implications.
How is the balance on capital and financial account calculated? The balance on capital account = Surpluses or Deficits of Net Non-Produced + Non-Financial assets + Net Capital Transfers. Balance of financial account = Net direct investment + Net portfolio investment + Assets funding + Errors and Omissions.
The current account records the flow of goods and services in and out of a country (imports and exports). The capital account measures the capital transfers between U.S. residents and foreign residents. The financial account reflects increases or decreases in a country's ownership of international assets.
The current account balance of payments is a record of a country's international transactions with the rest of the world. The current account includes all the transactions (other than those in financial items) that involve economic values and occur between resident and non-resident entities.
The current account represents a country's imports and exports of goods and services, payments made to foreign investors, and transfers such as foreign aid.
Balance of trade refers to the balance occurring on account of export and import of visible items (goods only). Current account balance includes the balance of trade well as balance on invisible items.
The following formula is used to calculate the country's current account deficit. Trade gap = Exports – Imports. Current Account = Trade gap + Net current transfers + Net income abroad.
The current account balance will move into a deficit. As foreign funds come in, there are more funds available to buy imported goods, which will cause the current account to move into a deficit. The current account and financial account will always add up to zero, so if F A increases, the C A must decrease.
The logic underlying this, and represented in the double-entry accounting framework, is that the value of whatever is traded (recorded in the current account) is offset by a movement of some form of asset to pay for it (recorded in the capital and financial account).
The sum of the current account and capital account reflected in the balance of payments will always be zero. Any surplus or deficit in the current account is matched and canceled out by an equal surplus or deficit in the capital account.
Debit items in the current account are imports of goods and services, income payments to foreigners, and net unilateral transfers. What is the current account balance? Adding all of the credit items and subtracting all of the debit items gives the current account balance.
Your current balance reflects the amount of money in your bank account at any given moment. Your available balance is the amount of money you have to spend, including any pending payments and deposits. The key difference is that your pending purchases do not appear in the current balance.
Quick Answer. A statement balance is the amount that's due at the end of a billing cycle, while your current balance is your total balance as of today.
A current account is a bank account designed to manage your income and day-to-day spending. You can use a current account for: paying your bills. receiving your salary, benefits, pension and other payments.
What is a Current Account? A Current Account is a non-interest-bearing bank account, mainly used to service the needs of the businesses. Current Accounts allow for more transaction limits on cash deposits and withdrawal within or outside city.
One of the most important features of a current account is the fact that it bears no interest at all. The funds in a current account are always made available to the account holder whenever needed, and to compensate for this extra liquidity that the bank provides, there is no interest charged on current accounts.
What are finance formulas? Finance formulas are principles, facts or rules that you can express using maths symbols to represent financial concepts. They usually have an equal sign and two or more variables. Knowing the value of one quantity can help you apply the formula to determine the value of an unknown quantity.
A balance sheet is a financial statement that contains details of a company's assets or liabilities at a specific point in time. It is one of the three core financial statements (income statement and cash flow statement being the other two) used for evaluating the performance of a business.
Add up the amounts on each side of the account to find the totals. Enter the larger figure as the total for both the debit and credit sides. For the side that does not add up to this total, calculate the figure that makes it add up by deducting the smaller from the larger amount.
Introduction: My name is Geoffrey Lueilwitz, I am a zealous, encouraging, sparkling, enchanting, graceful, faithful, nice person who loves writing and wants to share my knowledge and understanding with you.
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