Concepts Used in Balance of Payments

Before going into in detail discussion of balance of payments reader has to be familiar with the following concepts:

Economic Transactions: Economic transactions for the most part between residents and non-residents, consist of those involving goods, services, and income; those involving financial claims on, and liabilities to the rest of the world; and those (such as gifts), classified as transfers. A transaction itself is defined as an economic flow that reflects the creation, transformation, exchange, transfer, or extinction of economic value and involves changes in ownership of goods and / or financial assets, the provision of services, or the provision of labor and capital.

Double Entry System: Double entry system is the basic accounting concept applied in constructing a balance of payments statement. That is every transaction is recorded based on accounting principle. One of these entries is a credit and the other entry is debit. In principle, the sum of all credit entries is identical to the sum of all debit entries, and the net balance of all entries in the statement is zero. Exports decreases in foreign financial assets (or increases in foreign financial liabilities) are recorded as credits, while imports increases in foreign financial assets (or decreases in foreign financial liabilities) are recorded as debits. In other words, with regard to assets, whether real or financial, decreases in holdings are recorded as credits, while increases in holdings are recorded as debits. On the other hand, increases in liabilities are recorded as credits, while decreases in liabilities are recorded as debits.

Concept of Residence: Concept of residence is very important attribute of an institutional unit in the balance of payments because the identification of transactions between residents and non-residents underpins the system. The concept of residence is based on sectoral transactor’s center of economic interest. An institutional unit has a center of economic interest and is a resident unit of a country when from some location, dwelling, place of production, or other premises within the economic territory of country, the unit engages and intends to continue engaging, either indefinitely or over a finite period usually a year, in economic activities and transactions on a significant scale. The one-year period is suggested only as a guideline and not as an inflexible rule.

Time of Recording: The IMF Balance of Payments Statistics contains over 100,000 quarterly and annual time series data. When the data are available, the annual entries generally begin in 1967 and quarterly entries begin in 1970. The period for which data are available varies from country to country, but most countries’ data extend from the mid-1970s to the present. Data in international investment positions available for selected countries from 1981 onwards.

In balance of payments the principle of accrual accounting governs the time of recording of transactions. Therefore, transactions are recorded when economic value is created, transformed, exchanged, transferred, or extinguished. Claims and liabilities arise when there is a change in ownership. Put in simple words, balance of payments is usually prepared for a year but may be divided into quarters as well.