Which one of the following is NOT a part of the current account of a country's balance of payments?
Portfolio Investment
Understanding the Balance of Payments and Current Account
The Balance of Payments (BoP) of a country is a systematic record of all economic transactions between the residents of a country and the rest of the world during a specific period, usually a year. It includes transactions by individuals, firms, and government bodies.
The BoP is typically divided into three main accounts:
- The Current Account
- The Capital Account
- The Financial Account
Sometimes, the Capital Account and Financial Account are grouped together or presented slightly differently depending on the reporting standard (like IMF). However, the distinction between the Current Account and the other accounts related to capital and financial flows is fundamental.
Components of the Current Account
The Current Account primarily records the flow of goods, services, income, and current transfers between a country and the rest of the world. It reflects a country's net income from abroad and its unilateral transfers.
The main components of the Current Account are:
- Trade in Goods (Merchandise Trade): Records exports and imports of physical goods. A surplus means exports are greater than imports, and a deficit means imports are greater than exports.
- Trade in Services (Invisible Trade): Records exports and imports of services, such as tourism, transportation, banking, insurance, and consulting.
- Primary Income (Investment Income/Compensation of Employees): Records income earned by residents from their ownership of foreign assets (e.g., dividends, interest, profits) and income earned by non-residents from their ownership of domestic assets. Also includes compensation of employees.
- Secondary Income (Current Transfers): Records unilateral transfers between countries, such as remittances, gifts, grants, and foreign aid, where no corresponding value is received in return.
Analyzing the Given Options
Let's examine each option to see if it is a part of the current account of a country's balance of payments:
| Option | Explanation | Is it part of Current Account? |
|---|---|---|
| Export of Goods | Export of physical goods sold to other countries. | Yes, part of Trade in Goods. |
| Import of Goods | Import of physical goods bought from other countries. | Yes, part of Trade in Goods. |
| Investment income | Income earned from investments abroad (e.g., dividends, interest). | Yes, part of Primary Income. |
| Portfolio Investment | Investment in foreign financial assets like stocks and bonds without gaining control of the foreign entity. | No, part of the Financial Account. |
Portfolio Investment and the Financial Account
Portfolio Investment involves buying foreign financial assets such as stocks and bonds with the primary goal of earning investment income (dividends, interest) or capital gains, but without the intent of gaining significant control or influence over the foreign company or entity. This type of investment represents a financial transaction creating a financial claim.
Transactions involving the purchase or sale of assets (like stocks, bonds, real estate, direct investments) are recorded in the Capital Account or, more significantly, the Financial Account of the Balance of Payments.
The Financial Account records transactions related to financial assets and liabilities. Its main components include:
- Direct Investment (Foreign Direct Investment - FDI)
- Portfolio Investment
- Other Investment (e.g., loans, currency deposits)
- Reserve Assets (central bank transactions in foreign currency assets)
Since Portfolio Investment is the buying and selling of financial assets, it constitutes a part of the Financial Account, not the Current Account.
Conclusion
Based on the components of the Current Account and the nature of the given options, 'Portfolio Investment' is the transaction that is NOT a part of the current account of a country's balance of payments. The other options - Export of Goods, Import of Goods, and Investment Income - are all standard components of the Current Account.
Balance of Payments Revision Table
| Account | Key Components | What it records |
|---|---|---|
| Current Account | Trade in Goods, Trade in Services, Primary Income, Secondary Income | Flows of goods, services, income, and transfers |
| Capital Account | Capital transfers, Acquisition/disposal of non-produced, non-financial assets | Flows related to capital transfers and intangible assets |
| Financial Account | Direct Investment, Portfolio Investment, Other Investment, Reserve Assets | Transactions involving financial assets and liabilities |
Additional Information on Balance of Payments Components
Understanding the distinction between the Current Account and the Financial Account is crucial for analyzing a country's external economic position. A country might run a deficit in its Current Account (meaning it imports more goods/services, pays out more income, etc., than it earns), which must be financed by a surplus in its Capital and Financial Accounts (meaning it receives more foreign investment, loans, etc., than it makes abroad).
Portfolio investment differs from Direct Investment (FDI) primarily in the level of control. FDI involves acquiring a lasting interest and significant influence (typically >10% ownership of voting stock) in a foreign enterprise, whereas portfolio investment is more passive ownership of stocks or bonds.
The fundamental identity of the Balance of Payments states that the sum of the Current Account balance, the Capital Account balance, and the Financial Account balance should theoretically be zero, reflecting that every international transaction has two sides (a debit and a credit entry).
$\text{Current Account} + \text{Capital Account} + \text{Financial Account} + \text{Net Errors and Omissions} = 0$
Net Errors and Omissions is an entry included to balance the accounts due to imperfections in data collection.
Important Questions from Balance of payments (BOP)
Indicate the correct code of the following statements being correct or incorrect. The statements relate to the type of transactions recorded in the current/capital accounts of the Balance of Payments.
Statement (I): The capital account consists of long-term capital transactions only.
Statement (II): The current account includes all transactions which give rise to or use up national income.
The items on the capital account of Balance of Payments are:
Improvement in the balance of payments deficit may be effected through:
A. Import controls
B. Export promotion
C. Foreign exchange control
D. Devaluation
Choose the correct answer from the options given below:
Match the items of List I with the items of List II and choose the correct answer from the code given below.
List I
List II
(a)
Balance of trade
(i)
Imports and exports of goods and services
and unilateral transfer of goods and services(b)
Current account
(ii)
Transactions leading to changes in the
financial assets and liabilities of a country(c)
Balance of payments
(iii)
All economic transactions between a country's
residents and residents of other countries(d)
Capital account
(iv)
Value of exports and imports of country
Which of the following should not be included in the balance of payments account?
