Balance of payments

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Balance of payments (BoP) accounts are an accounting record of all monetary transactions between a
country and the rest of the world.[1] These transactions include payments for the
country's exports and imports of goods, services, financial capital, and financial transfers. The BOP accounts
summarize international transactions for a specific period, usually a year, and are prepared in a single
currency, typically the domestic currency for the country concerned. Sources of funds for a nation, such as
exports or the receipts ofloans and investments, are recorded as positive or surplus items. Uses of funds, such
as for imports or to invest in foreign countries, are recorded as negative or deficit items.
When all components of the BOP accounts are included they must sum to zero with no overall surplus or
deficit. For example, if a country is importing more than it exports, its trade balance will be in deficit, but the
shortfall will have to be counterbalanced in other ways such as by funds earned from its foreign investments,
by running down central bank reserves or by receiving loans from other countries.
While the overall BOP accounts will always balance when all types of payments are included, imbalances are
possible on individual elements of the BOP, such as the current account, the capital account excluding the
central bank's reserve account, or the sum of the two. Imbalances in the latter sum can result in surplus
countries accumulating wealth, while deficit nations become increasingly indebted. The term "balance of
payments" often refers to this sum: a country's balance of payments is said to be in surplus (equivalently, the
balance of payments is positive) by a specific amount if sources of funds (such as export goods sold and bonds
sold) exceed uses of funds (such as paying for imported goods and paying for foreign bonds purchased) by
that amount. There is said to be a balance of payments deficit (the balance of payments is said to be negative)
if the former are less than the latter.
Under a fixed exchange rate system, the central bank accommodates those flows by buying up any net inflow
of funds into the country or by providing foreign currency funds to theforeign exchange market to match any
international outflow of funds, thus preventing the funds flows from affecting the exchange rate between the
country's currency and other currencies. Then the net change per year in the central bank's foreign exchange
reserves is sometimes called the balance of payments surplus or deficit. Alternatives to a fixed exchange rate
system include a managed float where some changes of exchange rates are allowed, or at the other extreme a
purely floating exchange rate (also known as a purelyflexible exchange rate). With a pure float the central bank
does not intervene at all to protect or devalue its currency, allowing the rate to be set by the market, and
the central bank's foreign exchange reserves do not change.
Historically there have been different approaches to the question of how or even whether to eliminate current
account or trade imbalances. With record trade imbalances held up as one of the contributing factors to

the financial crisis of 20072010, plans to address global imbalances have been high on the agenda of policy
makers since 2009.

STRUCTURE OF BALANCE OF PAYMENTS:The Balance of Payment (BOP) of a country is a systematic account of all economic
transactions between a country and the rest of the world, undertaken during a specific period of
time. BOP is the difference between all receipts from foreign countries and all payments to
foreign countries. If the receipts exceed payments, then a country is said to have favourable
BOP, and vice versa.
According to Charles Kindle Berger "The BOP of a country is a systematic recording of all
economic transactions between residents of that country and the rest of the world during a given
period of time".
The Balance of payments record is maintained in a standard double - entry book - keeping
method. International transactions enter into record as credit or debit. The payments received
from foreign countries enter as credit and payments made to other countries as debit. The
following table shows the elements of BOP.
BALANCE OF PAYMENTS ACCOUNT
Receipts (Credits)

Payments (Debits)

1. Export of goods.

Imports of goods.
Trade Account Balance

2.
3.

Export of services.
Interest, profit and dividends
received.
4. Unilateral receipts.

Import of services.
Interest, profit and dividends paid.
Unilateral payments.

Current Account Balance (1 to 4)

5. Foreign investments.
6. Short term borrowings.
7. Medium and long term borrowing.

Investments abroad.
Short term lending.
Medium and long term lending.

Capital Account Balance (5 to 7)

8. Errors and omissions.
9. Change in reserves. (+)
Total Reciepts
Total payments.

Errors and omissions.

Change in reserve (-)
=

Total Payments

1.

Trade Balance :-

Trade balance is the difference between export and import of goods, usually referred as
visible or tangible items. If the exports are more than imports, there will be trade surplus and if
imports are more than exports, there will be trade deficit. Developing countries have most of the
time suffered a deficit in their balance of payments. The trade balance forms a part of current
account. In 2008-09, trade deficit of India was 118.6 US $ billion.
2.

Current Account Balance :-

It is the difference between the receipts and payments on account of current account
which includes trade balance. The current account includes export of services, interest, profits,
dividends and unilateral receipts from abroad and the import of services, profits, interest,
dividends and unilateral payments abroad. There can be either surplus or deficit in current
account. When debits are more than credits or when payments are more than receipts deficit
takes place. Current account surplus will take place when credits are more and debits are less.
Current account balance is very significant. It shows a country's earning and payments
in foreign exchange. A surplus balance strengthens the country's international financial position.
It could be used for development of the country. A deficit is a problem for any country but it
creates a serious situation for developing countries. In 2009-10 Indias current account deficit
was 38.4 US $ billion.
3.

Capital Account Balance :-

It is the difference between receipts and payments on account of capital account. The
transactions under this title involves inflows and outflows relating to investments, short term
borrowingsI lending, and medium term to long term borrowings / lending. There can be surplus
or deficit in capital account. When credits are more than debits surplus will take place and when
debits are more than credits deficit will take place. In 2009-10. Indias capital account surplus
was 51.8 US $ billion.
4.

Errors and Omissions :-

The double entry book - keeping principle states that for every credit, there is a
corresponding debit and therefore, there should be a balance in BOP as well. In reality BOP
may not balance, due to errors and omissions. Errors may be due to statistical discrepancies
(differences) and omissions may be due to certain transactions may not get recorded. For Eg.,
remittance by an Indian working abroad to India may not get recorded etc. If the current and
capital account shows a surplus of 20,000 $, then the BOP should show an increase of 20,000
$. But, if the statement shows an increase of 22,000 $, then there is an error or omission of
2,000 $ on credit side.
5.

Foreign Exchange Reserves :-

The balance of foreign exchange reserve is the combined effect of current and capital
account balances. The reserves will increase when:a) The surplus capital account is much more than the deficit in current account.
b) The surplus in current account is much more than deficit in capital account.
c) Both the current account and capital account shows a surplus.
In 2009-10 Indias foreign exchange reserves increased by 13.4 US $ billion.

EQUILIBRIUM AND DISEQUILIBRIUM IN BOP :Balance of payments is the difference between the receipts from and payments to
foreigners by residents of a country. In accounting sense balance of payments, must always
balance. Debits must be equal to credits. So, there will be equilibrium in balance of payments.
Symbolically, B = R - P
Where : - B = Balance of Payments
R = Receipts from Foreigners
P = Payments made to Foreigners
When B = Zero, there is said to be equilibrium in balance of payments.
When B is positive there is favourable balance of payments; When &. B is negative
there is unfavourable or adverse balance of payments.' When there is a surplus or a deficit in
balance of payments there is said : to be disequilibrium in balance of payments. Thus
disequilibrium refers to imbalance in balance of payments.

TYPES OF DISEQUILIBRIUM IN BOP

The following are the main types of disequilibrium in the balance of payments:1.

Structural Diseguilibrium :Structural disequilibrium is caused by structural changes in the economy affecting
demand and supply relations in commodity and factor markets. Some of the structural
disequilibrium are as follows :a. A shift in demand due to changes in tastes, fashions, income etc. would
decrease or increase the demand for imported goods thereby causing a
disequilibrium in BOP.
b. If foreign demand for a country's products declines due to new and cheaper substitutes
abroad, then the country's exports will decline causing a deficit.
c. Changes in the rate of international capital movements may also cause structural
disequilibrium.
d. If supply is affected due to crop failure, shortage of raw-materials, strikes, political
instability
etc., then there would be deficit in BOP.

e. A war or natural calamities also result in structural changes which may affect not only goods
but also factors of production causing disequilibrium in BOP.
f. Institutional changes that take place within and outside the country may result in BOP
disequilibrium. For Eg. if a trading block imposes additional import duties on products imported
in member countries of the block, then the exports of exporting country would be restricted or
reduced. This may worsen the BOP position of exporting country.
2.

Cyclical Disequilibrium :Economic activities are subject to business cycles, which normally have four phases
Boom or Prosperity, Recession, Depression and Recovery. During boom period, imports may
increase considerably due to increase in demand for imported goods. During recession and
depression, imports may be reduced due to fall in demand on account of reduced income.
During recession exports may increase due to fall in prices. During boom period, a country may
face deficit in BOP on account of increased imports.
Cyclical disequilibrium in BOP may occur because
a. Trade cycles follow different paths and patterns in different countries.
b. Income elasticities of demand for imports in different countries are not identical.

3.

c. Price elasticities of demand for imports differ in different countries.

Short - Run Disequilibrium :This disequilibrium occurs for a short period of one or two years. Such BOP
disequilibrium is temporary in nature. Short - run disequilibrium arises due to unexpected
contingencies like failure of rains or favourable monsoons, strikes, industrial peace or unrest
etc. Imports may increase exports or exports may increase imports in a year due to these
reasons and causes a temporary disequilibrium exists.
International borrowing or lending for a short - period would cause short - run
disequilibrium in balance of payments of a country. Short term disequilibrium can be corrected
through short - term borrowings. If short - run disequilibrium occurs repeatedly it may pave way
for long - run disequilibrium.

4.

Long - Run I Secular Disequilibrium :Long run or fundamental disequilibrium refers to a persistent deficit or a surplus in the
balance of payments of a country. It is also known as secular disequilibrium. The causes of long
- term disequilibrium are
a. Continuous increase in demand for imports due to increasing population.
b. Constant price changes - mostly inflation which affects exports on continuous basis.
c. Decline in demand for exports due to technological improvements in importing countries, and
as
such the importing countries depend less on imports.
The long run disequilibrium can be corrected by making constant efforts to increase
exports and to reduce imports.

5.

Monetary Diseguilibrium

Monetary disequilibrium takes place on account of inflation or deflation. Due to inflation,

prices of products in domestic market rises, which makes exports expensive. Such a situation
may affect BOP equilibrium. Inflation also results in increase in money income with people,
which in turn may increase demand for imported goods. As a result imports may turn BOP
position in disequilibrium.
6.

Exchange Rate Fluctuations :A high degree of fluctuation in exchange rate may affect the BOP position. For Eg. if
Indian Rupee gets appreciated against dollar, then Indian exporters will receive lower amounts
of foreign exchange, whereas, there will be more outflow of foreign exchange on account of
higher imports. Such a situation will adversely affect BOP position. But, if domestic currency
depreciates against foreign currency, then the BOP position may have positive impact.

Meaning of Disequilibrium in Balance of Payment

Though the credit and debit are written balanced in the balance of payment account, it may not remain
balanced always. Very often, debit exceeds credit or the credit exceeds debit causing an imbalance in
the balance of payment account. Such an imbalance is called the disequilibrium. Disequilibrium may
take place either in the form of deficit or in the form of surplus.
Disequilibrium of Deficit arises when our receipts from the foreigners fall below our payment to
foreigners. It arises when the effective demand for foreign exchange of the country exceeds its supply at
a given rate of exchange. This is called an 'unfavourable balance'.
Disequilibrium of Surplus arises when the receipts of the country exceed its payments. Such a situation
arises when the effective demand for foreign exchange is less than its supply. Such a surplus
disequilibrium is termed as 'favourable balance'.

CAUSES OF DISEQUILIBRIUM IN BOP

Any disequilibrium in the balance of payment is the result of imbalance between
receipts and payments for imports and exports. Normally, the term disequilibrium is interpreted
from a negative angle and therefore, it implies deficit in BOP.
The disequilibrium in BOP is caused due to various factors. Some of them are
I.Import - Related Causes

1.

The rise in imports has been the most important factor responsible for large BOP
deficits. The causes of rapid expansion of imports are :Population Growth

2.

Population Growth may increase the demand for imported goods such as food items and
non food items, to meet their growing needs. Thus, increase in imports may lead to BOP
disequilibrium.
Development Programme

3.

Increase in development programmes by developing countries may require import of

capital goods, raw materials and technology. As development is a continuous process, imports
of these items continue for a long time landing the developing countries in BOP deficit.
Imports Of Essential Items

4.

Countries which do not have enough supply of essential items like Crude oil or Capital
equipments are required to import them. Again due to natural calamities government may resort
to heavy imports, which adversely affect the BOP position.
Reduction Of Import Duties

5.

When import duties are reduced, imports becomes cheaper as such imports increases.
This increases the deficit in BOP position.
Inflation

6.

Inflation in domestic markets may increase the demand for imported goods, provided the
imported goods are available at lower prices than in domestic markets.
Demonstration Effect
An increase in income coupled with awareness of higher living standard of foreigners,
induce people at home to imitate the foreigners. Thus, when people become victims of
demonstration effect, their propensity to import increases.
II.Export Related Causes :Even though export earnings have increased but they have not been sufficient enough to
meet the rising imports. Exports may reduce without a corresponding decline in imports.
Following are the causes for decrease in exports
1. Increase In Population :Goods which were earlier exported may be consumed by rising population. This reduces
the export earnings of the country leading to BOP disequilibrium.
2. Inflation :When there is inflation in domestic market, prices of export goods increases. This
reduces the demand of export goods which in turn results in trade deficit.
3. Appreciation Of Currency :Appreciation of domestic currency against foreign currencies results in lower foreign
exchange to exporters. This demotivates the exporters.
4. Discovery Of Substitutes :With technological development new substitutes have come up. Like plastic for rubber,
synthetic fibre for cotton etc. This may reduce the demand for raw material requirement.
5. Technological Development :Technological Development in importing countries may reduce their imports. This can be
possible when they start manufacturing goods which they were exporting earlier. This will have
an adverse effect on exporting countries.

6.

Protectionist Trade Policy :Protectionist trade policy of importing country would encourage domestic producers by
giving them incentives, whereas, the imports would be discouraged by imposing high duties.
This will affect exports.
III.Other Causes :1.

Flight of Capital
Due to speculative reasons, countries may lose foreign exchange or gold stocks.
Investors may also withdraw their investments, which in turn puts pressure on foreign exchange
reserves.
2. Globalisation
Globalisation and the rules of WTO have brought a liberal and open environment in
global trade. It has positive as well as negative effects on imports, exports and investments.
Poor countries are unable to cope up with this new environment. Ultimately they become loser
and their BOP is adversely affected.
3. Cyclical Transmission
International trade is also affected by Business cycles. Recession or depression in one
or more developed countries may affect the rest of the world. The negative effects of trade cycle
(low income, low demand, etc.) are transmitted from one country to another. For eg. The current
financial crisis in U.S.A. is affecting the rest of the world.
4. Structural Adjustments
Many countries in recent years are undergoing structural changes. Their economies are
being liberalised. As a result, investment, income and other variables are changing resulting in
changes in exports and imports.
5. Political factors
The existence of political instability may result in disrupting the productive apparatus of
the country causing a decline in exports and increase in imports. Likewise, payment of war
expenses may also serious affect disequilibrium in the countrys BOP. Thus political factors may
also produce serious disequilibrium in the countrys BOPs.

METHODS TO CORRECT BALANCE OF PAYMENTS :

There are several methods to correct BOP disequilibrium. The methods can be classified in to two
groups:
1. Monetary methods : Monetary methods of correction effect the BOP by changing the value or flow
of currencies both domestic and foreign. Following are the monetary methods:
(a) Deflation : Deflation means a reduction in the quantity of money so as to bring about a fall in the
prices and the money income of the people .Falling prices encourage exports and discourage imports
.Hence deflationary policy restores equilibrium in BOP.
Deflation is not considered as a suitable method of correcting adverse BOP because it reduces income
and causes unemployment in the country
(b) Devaluation: It means decreasing the value of domestic currency in respect of a foreign currency.
Devaluation is done by the government of the country which has unfavourable BOP. It is done
deliberately to get its advantages . The government officially declares devaluation indicating the
extent of decrease in the value of currency. specific currency will be determined with which it is
devalued. Devaluation is irreversible. The country can not change the value of currency frequently.
With a decrease in the value of its currency the country has to pay more in exchange for a foreign
currency. In this case the export becomes cheaper at the same time import becomes expensive. With
this export increases and import decreases. However the success of devaluation depends on the
following:
(i) The elasticity of demand for the countrys export should be high.
(ii) The elasticity of demand for countrys import should be fairly elastic
Devaluation as a method of correcting adverse BOP suffers from the following defects:
(i) It reduces the public confidence in countrys currency as it is an indicator of countrys weakness.
(ii) It increases the burden of public debt
(iii) It encourages inflationary tendencies in the home country.
(c) Exchange Depreciation : Depreciation refers to decline in the rate of exchange of one currency in
terms of other currency. It is similar to devaluation but not done by the government. It is done in the
exchange market with the help of demand and supply of the currency. It takes place in a flexible
exchange rate system.It is automatic and can correct the adverse BOP of the country.But method of
exchange depreciation suffers from following defects:
(i) It is not suitable for a country which has adopted a fixed exchange rate system
(ii) It makes international trade riskyand thus reduces the volume of trade.
(iii) The terms of trade go against the country whose currency depreciates
(iv) Depreciation may generate inflationary pressure by making the commodity more expensive.
(d) exchange control : It is the most widely used method for correcting adverse BOP. It refers to the
control by the central bank over the use of foreign exchange. In this method all the exporters are
directed by the Central bank to surrender the foreign exchange earnings and it is rationed out among
the licensed importers, It means only license holders can import goods.

Exchange control, does not remove the process of adverse BOP, It simply does not allow the situation
to worsen. Hence it is not considered a proper method to correct adverse BOP.
(e) Capital movement: In flow of capital from the individuals and government of other countries as
well as borrowings from international financial institutions like World bank,IMF etc. can be used to
correct the deficit in BOP.
(f) Pegging operation: Pegging down the value. The central bank depending on the need may
artificially increase or decrease the value of currency temporarily. Pegging operation can be done any
no. of times. It is reversible. It offers the flexibility to the government to manage the currency of value
for its advantage.

2. Non monetary measures : Non monetary measures deal with the real sector for correcting
disequilibrium in BOP. Following are the important non monetary measures:
(a) Export promotion : To control adverse BOP the country may adopt export promotion measures
which are as follows:
(i) Cash assistance and subsidies can be given to exporters to increase export
(ii) Export duties may be reduced to encourage exports.
(iii) Goods meant for exports can be exempted from all types of taxes
(iv) Export oriented industries can be encouraged by providing better infrastructure, better raw
material, making favourable loan facilities etc.
(b) Import substitutes : The economy can develop technology of import substitution. Industries
producing import substitutes can be encouraged by capital goods ,better technology etc. Policy of
import substitution can help the country to become self reliant.
(c) Import licensing : The government can have strong control over the exports by having strict rules
and regulations for providing licenses to importers
(d) Import quotas : Fixing import quotas may be a better device for correcting the adverse BOP as
they have the immediate effect of restricting imports .Import quotas are important non tariff barriers.
They are positive restrictions on incoming of goods.
(e) Tariff : It is a tax duty imposed on imports .The objective is to make imports expensive .It
reduces the demand for imports and the deficit in BOP gets corrected.
(f) Monetary policy: The central bank can reduce the volume of credit by raising the bank rate, by
selling securities in open market and by increasing cash reserve ratio. This will make borrowing from
commercial banks costlier .It will lead to fall in investment and hence fall in income and employment
and output. Any such decrease in income decreases the demand for imports and disequilibrium in BOP
can be corrected.
(g) Fiscal policy: A restricted fiscal policy can also be used to wipe out BOP deficit by reducing the
total expenditure in the economy and increase in direct taxes will reduce the disposable income and
hence there will be reduction in demand for imports. The decrease in government expenditure will also
have the same effect on decreasing the demand for imported goods.

Every country has to use the combination of monetary and non monetary methods to correct BOP
disequilibrium and also prevent retaliation from any developed country.
BALANCE OF PAYMENT MUST ALWAYS BALANCE :
In accounting sense BOP of a country is always in equilibrium. It is because of the reason BOP is
prepared in terms of credits and debits based on the system of double entry book keeping. Under this
system each transaction gives rise to two equal entries. One credit entry and one debit entry. Thus
total debits and total credits must be equal. Similarly an international transaction generates two equal
entries and sum of all international receipts are equal to sum of international payments. Surplus on
current account can lead to the grant of loans to other countries by the government or it can lead to
increase in the countrys foreign exchange reserve. Contrary to it a deficit on current account can be
met by borrowing from abroad or by running down countrys foreign exchange reserves. Thus the two
sides are necessarily balanced.

the best way to proper the balance of fee ?

method to correct stability of fee disequilibrium lies in incomes more overseas trade via
additional exports or lowering imports. Quantitative changes in exports and imports
require coverage modifications. Such policy measures are in the type of monetary,
fiscal and non-financial measures.
picture credit SteveFiji.

monetary Measures for Correcting the BoP

The monetary methods for correcting disequilibrium within the balance of payment are
as follows :-

1. Deflation
Deflation method falling costs. Deflation has been used as a measure to correct deficit
disequilibrium. a country faces deficit when its imports exceeds exports.
Deflation is introduced via financial measures like financial institution price coverage,
open market operations, etc or through fiscal measures like larger taxation, reduction in
public expenditure, and so forth. Deflation would make our objects more cost effective
in international market resulting a upward thrust in our exports. on the similar time the
calls for for imports fall due to greater taxation and reduced earnings. this is able to
constructed a favourable environment within the steadiness of fee position. then again
Deflation can be a success when the exchange charge remains fixed.

2. trade Depreciation
exchange depreciation approach decline within the charge of change of home forex with
regards to foreign currency. This tool implies that a country has adopted a versatile
exchange fee coverage.
feel the rate of change between Indian rupee and US buck is $1 = Rs. 40. If India
experiences an antagonistic steadiness of payments in regards to usaA, the Indian
demand for US greenback will upward push. the cost of dollar with regards to rupee will
rise. therefore, greenback will get pleasure from in external price and rupee will
depreciate in external worth. the new price of trade is also say $1 = Rs. 50. this means
25% change depreciation of the Indian currency.
alternate depreciation will stimulate exports and scale back imports as a result of
exports will turn into more cost-effective and imports costlier. therefore, a beneficial
steadiness of funds would emerge to pay off the deficit.
barriers of exchange Depreciation :1. trade depreciation can be successful provided that there is no retaliatory alternate
depreciation through different nations.
2. it is not suitable to a rustic needing a hard and fast change fee device.
3. alternate depreciation raises the prices of imports and reduces the prices of
exports. So the terms of alternate will develop into detrimental for the united
states of america adopting it.
4. It increases uncertainty & dangers desirous about international exchange.
5. it may result in hyper-inflation inflicting further deficit in steadiness of payments.

three. Devaluation
Devaluation refers to deliberate try made by using monetary authorities to bring down
the worth of home foreign money towards foreign exchange. while depreciation is a
spontaneous fall due to interactions of market forces, devaluation is professional act
enforced with the aid of the financial authority. in most cases the international
monetary fund advocates the coverage of devaluation as a corrective measure of
disequilibrium for the countries going through adversarial steadiness of fee position.
When Indias balance of fee worsened in 1991, IMF steered devaluation. for that
reason, the worth of Indian forex has been reduced with the aid of 18 to twenty%
relating to quite a lot of currencies. The 1991 devaluation introduced the specified
impact. The very next yr the import declined whereas exports picked up.

When devaluation is effected, the worth of house forex goes down in opposition to
foreign currency, let us believe the trade fee continues to be $1 = Rs. 10 before
devaluation. let us suppose, devaluation takes situation which reduces the worth of
residence currency and now the exchange price turns into $1 = Rs. 20. After this sort of
exchange our items turns into cheap in overseas market. it is because, after
devaluation, dollar is exchanged for extra Indian currencies which push up the demand
for exports. at the same time, imports grow to be dearer as Indians need to pay more
currencies to obtain one buck. hence demand for imports is lowered.
typically devaluation is resorted to where theres severe adverse steadiness of cost
drawback.
boundaries of Devaluation :1. Devaluation is successful simplest when different us of a does now not retaliate the
identical. If
each the countries go for the same, the impact is nil.
2. Devaluation is successful most effective when the demand for exports and imports
is elastic.
In case it is inelastic, it is going to flip the placement worse.
3. Devaluation, although helps correcting disequilibrium, is thought to be to be a
weak point for the usa.
4. Devaluation may bring inflation within the following prerequisites :1. Devaluation brings the imports down, When imports are diminished, the home
supply of such items need to be elevated to the identical extent. If no longer,
shortage of such goods unleash inflationary developments.
2. A rising usa like India is capital thirsty. due to non availability of capital items
in India, we have no option but to proceed imports at greater prices. this will
force the industries depending upon capital goods to push up their costs.
3. When demand for our export rises, increasingly goods produced in a country
would go for exports and thus developing scarcity of such items at the home
stage. This ends up in rising prices and inflation.
4. Devaluation is probably not effective if the deficit arises due to cyclical or
structural changes.

four. alternate control

its an extreme step taken by the monetary authority to experience full keep watch over
over the exchange dealings. below this type of measure, the imperative financial

institution directs all exporters to give up their overseas alternate to the primary
authority. as a consequence it results in focus of exchange reserves in the palms of
vital authority. at the related time, the availability of foreign alternate is specific just for
essential items. it could possibly most effective lend a hand controlling scenario from
turning worse. in short its only a temporary measure and no longer permanent
treatment.

Non-financial Measures for Correcting the BoP

A deficit united states of america along with financial measures may undertake the
following non-monetary measures too so as to both prohibit imports or promote
exports.

1. Tariffs
Tariffs are obligations (taxes) imposed on imports. When tariffs are imposed, the prices
of imports would raise to the extent of tariff. The elevated prices will reduced the
demand for imported goods and at the same time result in domestic producers to
provide more of import substitutes. Non-very important imports will also be significantly
lowered by using imposing an extraordinarily excessive fee of tariff.
Drawbacks of Tariffs :1. Tariffs deliver equilibrium through reducing the volume of exchange.
2. Tariffs impede the expansion of world exchange and prosperity.
3. Tariffs dont need to essentially cut back imports. hence the effects of tariff on the
steadiness of cost position are uncertain.
4. Tariffs are trying to find to establish equilibrium without disposing of the
foundation causes of disequilibrium.
5. a new or the next tariff may worsen the disequilibrium within the stability of
payments of a rustic already having a surplus.
6. Tariffs to be successful require an efficient & sincere administration which sadly is
tough to have in most of the international locations. Corruption among the many
administrative group of workers will render tariffs ineffective.

2. Quotas
underneath the quota machine, the federal government may fix and permit the utmost
amount or price of a commodity to be imported all over a given length. with the aid of

limiting imports during the quota machine, the deficit is diminished and the stability of
payments place is greater.
sorts of Quotas :1. the tariff or custom quota,
2. the unilateral quota,
3. the bilateral quota,
4. the mixing quota, and
5. import licensing.
deserves of Quotas :1. Quotas are more effective than tariffs as theyre certain.
2. theyre simple to enforce.
3. they are simpler even when demand is inelastic, as no imports are that you can
imagine above the quotas.
4. more versatile than tariffs as theyre topic to administrative resolution. Tariffs on
the other hand are topic to legislative sanction.
Demerits of Quotas :1. they arent lengthy-run answer as they dont tackle the real cause for
disequilibrium.
2. below the WTO quotas are discouraged.
3. Implements of quotas is open invitation to corruption.

three. Export promoting

the federal government can undertake export advertising measures to proper
disequilibrium in the stability of payments. This includes substitutes, tax concessions to
exporters, advertising facilities, credit score and incentives to exporters, and so forth.
the federal government might also assist to advertise export through exhibition, change
festivals; conducting advertising research & through offering the required
administrative and diplomatic assist to faucet the possible markets.

4. Import Substitution
a rustic may motel to import substitution to scale back the quantity of imports and
make it self-reliant. Fiscal and financial measures could also be adopted to inspire
industries producing import substitutes. Industries which produce import substitutes

require special consideration in the type of quite a lot of concessions, which include tax
concession, technical assistance, subsidies, providing scarce inputs, etc.
Non-monetary strategies are simpler than financial methods and are generally
acceptable in correcting an antagonistic steadiness of payments.
Drawbacks of Import Substitution :1. Such industries could lose the spirit of competitiveness.
2. home industries playing more than a few incentives will increase vested pursuits
and ask for such concessions all the time.
3. Deliberate merchandising of import replace industries go against the theory of
comparative benefit.

MEASURES TO CORRECT BOP DISEQUILIBRIUM

All measures used for correcting BOP disequilibrium are broadly classified in to two. They are automatic
measures and deliberate measures, deliberate measures are further classified in to monitory measures, trade
measures and other measures. These are briefly explained as follows..

(A). Automatic measures: under Gold standard, the automatic working of the economy was correcting the
BOP disequilibrium in the long run. When there was deficit, the gold was flowing out of the country. This was
contracting the internal circulation of currency. Domestic prices were falling, exports were increasing and
slowly the money flows out was flowing in.
Automatic working is possible even under paper standard, the disequilibrium will be automatically restored
if the market forces of demand and supply are allowed to have free play. A BOP deficit will increase the
demand for foreign exchange. This increases the foreign exchange rate and decreases the external value of
the domestic currency . As a result, export of the country become cheaper and imports costlier. This will
restore equilibrium.

(B). Deliberate measures:automatic measures are less effective because these are long run in
nature, so the deliberate measures are important.

(1).Monetary measures:

deflation: this is used in the case of BOP deficit. A deflationary policy aims at reduction of prices and money
income of people. Deflationary policy refers to the contraction of money supply.

Devaluation:devaluation refers to the official decrease in the external value of a currency. This measure is
adopted when country suffers from severe fundamental disequilibrium. A reduction external value of

currency reduce imports, increases exports and restore value of currency.

Exchange control: it refers to the regulation of exchange rates and imposition of restriction on the
conversion of the local currency against foreign currency.
(2). Trade measures:

export promotion measures

obtaining foreign loans

provide incentives for foreign investments

import control measures

(3). other measures:

tourism development