Glossary term
Balance of Payments (BoP): Meaning and Definition
Reviewed and approved by Dr. Anamika ShrivastavaPublished Last updated
The balance of payments (BoP) is a systematic record of all economic transactions between the residents of a country and the rest of the world over a period, usually a year. It has a current account for goods, services, income and transfers, and a capital account for purchases and sales of assets.
In more detail
The balance of payments has two main accounts. The current account records trade in goods and services, income and transfers. The capital account records investment and borrowing flows. By accounting rules the two, together with changes in reserves, balance, so a current account deficit is funded by net capital inflows or by drawing down reserves.
Example
When an Indian software firm earns $1 million from a US client, it is a credit in India's current account. When a foreign company buys shares in an Indian bank, it is a credit in the capital account.
Key points
- A current account deficit is financed by capital inflows or reserves.
- A fall in official reserves shows an overall BoP deficit.
- Errors and omissions is the balancing item.
Common mistake
Equating the trade balance with the balance of payments. Trade is only one part of the current account.
Related terms
Exchange rateGross domestic product
Where it is explained
The balance of payments is explained in Class 12 Macroeconomics Chapter 6: Open Economy Macroeconomics.