Balance of Trade vs Balance of Payments

What is Balance of Trade (BOT)

In today’s world, all countries import some goods and services from other countries, and they also export certain other goods and services which are surplus in their country. 

The difference between the value of goods and services exported out of a country and the value of goods and services imported into the country.

If a country has a balance of trade deficit, it imports more than it exports, and if it has a balance of tradesurplus, it exports more than it imports.

The balance is said to be favorable when the value of the exports exceeded that of  the imports (i.e.exports exceed imports),  and unfavorable when the value of the imports exceeded that of the exports (i.e. imports exceed exports).

What are the Factors That Affect Balance of Trade

Factors that can affect the balance of trade include:

·         The cost of production (land, labour, capital, taxes, incentives, etc.) in the exporting economy vis-à-vis those in the importing economy;

·         The cost and availability of raw materials, intermediate goods and other inputs;

·         Exchange rate movements;

·         Multilateral, bilateral and unilateral taxes or restrictions on trade;

·         Non-tariff barriers such as environmental, health or safety standards;

·         The availability of adequate foreign exchange with which to pay for imports; and

·         Prices of goods manufactured at home (influenced by the responsiveness of supply)

Difficulties in Measuring Balance of Trade

Sometimes it is difficult to measure accurately the ‘Balance of Trade’ because of problems with recording and collecting data.  One interesting example is the problem faced when official data for all the world's countries are added up.   It is reported that in such a case, exports exceed imports by almost 1%.   The question which baffles is as to why this difference?  Normally,  both these  should match.   However, it appears that the world is running a positive balance of trade with itself.   This cannot be true, because all transactions involve an equal credit or debit in the account of each nation. The discrepancy is widely believed to be explained by transactions intended to launder money or evade taxes, smuggling and other visibility problems.   However, especially for developed countries, accuracy is likely.

What is Balance of Payment

Balance of Payment is a system of recording all the economic transactions of a country, with the rest of the world over a period, say one year.

Typically, the transanctions included in BoP are country's exports and imports of goods, services, financial capital, and financial transfers.   Thus, in nut shell we can say, 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.

To understand the same better, we can conclude : -

·         The balance of payments (BOP) is an accounting of a country's international transactions for a particular time period.

• Any transaction that causes money to flow into a country is a credit to its BOP account, and any transaction that causes money to flow out is a debit.
• The BOP includes the current account, which mainly measures the flows of goods and services; the capital account, which consists of capital transfers and the acquisition and disposal of non-produced, non-financial assets; and the financial account, which records investment flows.

The BOT is typically the biggest bulk of a country's balance of payments as it makes up total imports and exports.

BOP is said to be favorable balance of payments, when more payments are coming in than going out, and will be unfavourable when less payments are coming in than what is going out.

The Balance of Payments Divided:

The BOP is divided into three main categories: (a)  the current account,(b)  the capital account and  (c)  financial account.  Within these three categories are sub-divisions, each of which accounts for a different type of international monetary transaction.

BALANCE OF TRADE VS BALANCE OF PAYMENT  OR BOT VS BOP

(What is the difference between Balance of Payment and Balance of Trade)

Basis of Difference		Balance of Trade (BOT)		Balance of  Payment (BOP)
1. Definition		Balance of Trade is defined as 'difference between export and import of goods and services'		Balance of Payment is defined as the 'flow of cash between domestic country and all other foreign countries'. It includes not only import and export of goods and services but also includes financial capital transfer.
2. How Is It Calculated?		BOT = Net Earning on Exports  - Net payment made for imports		BOP = BOT + (Net Earning  on foreign investment i.e. payments made to foreign investors) + Cash Transfer + Capital Account +or - Balancing Item or BOP = Current Account + Capital Account  + or - Balancing item ( Errors and omissions)
3. When is it considered as  Favourable  or Unfavourable?		If export is more than import, at that time, BOT will be favourable. If import is more than export, at that time, BOT will be unfavourable.		Balance of Payment will be favourable, if the country has surplus in current account for paying your all past loans in her capital account. Balance of payment will be unfavourable, if  country has current account deficit and it took more loan from foreigners. After this, it has to pay high interest on extra loan and this will make  BOP unfavourable.
4. Solution of being  Unfavourable		To Buy goods and services from domestic country.		To stop taking of loan from foreign countries.
5. Factors		Following are main factors which affect BOT a) cost of production b) availability of raw materials c) Exchange rate d) Prices of goods manufactured at home		Following are main factors which affect BOP a) Conditions of foreign lenders. b) Economic policy of Govt. c) all the factors of BOT

Why oil prices keep falling — and throwing the world into turmoil

The year has opened with turbulence on world financial markets, reflecting the interaction between deepening slump, heightened geo-political tensions and growing political instability in virtually every country.

While consumers and the government are cheering the over 50% fall in global oil prices resulting in cheaper petrol and diesel, oil-producing nations are in a quandary. BankersAdda helps you understand the dynamics of this free fall.

The mounting problems in the global financial system are expressed most directly on Wall Street, its apex. US equity markets are on course to have their worst start to the year since 2008. That year culminated in the global financial crisis set off by the collapse of Lehman Brothers in September.

Yesterday, the Dow was down by 130 points—a decline of 0.8 percent—following a 331-point decline on Monday.

The most immediate factor behind the fall on Wall Street was a further decline in the price of oil, with West Texas intermediate falling below $50 per barrel and Brent, the global benchmark, approaching that level. Since June, the price of oil has declined by more than 50 percent.

What has been the trend in oil prices?

Since 2010, global oil prices have stayed above $100 a barrel level. Among the reasons attributed to this trend was the higher consumption patterns by importing nations like China and India. Also, the geopolitical tensions in nations like Iraq and Libya too kept the prices high. As oil producing nations could not keep up with the demand, prices soared and hence the spike was attributed to this gap. Till June 2014, the global oil prices were hovering at $115 a barrel in contrast to the present levels of $52-53 a barrel.

What has been the impact of the sudden fall in global oil prices?

While the trend has cheered most oil guzzling and importing nations like India, China and Japan, the unexpected fall has also caused havoc for oil producing nations, including the top Gulf producers and also other countries like Russia and Venezuela.

Why a sudden fall in oil prices?

By 2014, the world oil supply was on track and in line with the demand. However, over the past few years, countries like the United States and Canada in order to reduce their over dependence on imported oil started exploring other alternatives such as shale gas. Shale usage in US and Canada coupled with the weakening of economies in Asia and Europe led to a sudden fall in oil demand. So while producers, including the major oil producing Gulf nations, resorted to higher production, a weaker demand led to the fall in oil prices. From September onwards, crude oil prices have been plummeting and have fallen to more than 50%.

Did OPEC play any role in combatting the fall in oil prices?

As oil prices continued to slip onwards of September 2014, experts and analysts hoped that OPEC – group of major oil supplying countries including Saudi Arabia and Iran – at its crucial meeting in November 2014 would intervene and arrest the falling trend. However, much to everyone's surprise OPEC did nothing and rather decided against cutting back production. This came as a big trigger and oil prices went into free-fall.

What are the ramifications of this unexpected fall on the global economy?

The free fall in global oil prices has an impact on every country in the world. While for the economies of large consuming nations like China, India, Japan and the US, the fall in oil prices is an excellent news. However, suppliers of oil, including large economies like that of Russia and Venezuela, are facing a potential threat. Most of oil producing nations will face serious unrest if oil prices stay low and the fall continues.

How falling oil prices could affect Russia, Iran, and the US?

The plunge in oil prices is having significant economic consequences around the world. A few examples:

Russia: Russia's situation is getting the most attention these days. The country's is hugely dependent on oil and gas production — with oil revenues making up 45 percent of the government budget — and the sharp fall on prices has been ruinous.

RUSSIA'S ECONOMY IS EXPECTED TO SHRINK 4.5% NEXT YEAR IF OIL STAYS AT $60 PER BARREL

On December 15, the country suddenly hiked interest rates from 10.5 percent to 17 percent in an attempt to stop people from selling off rubles. But those rate hikes are likely to slow the country's economy down even further.

Iran: Iran's economy had recently started to rebound after years of recession. The International Monetary Fund had been projecting that the country was on track to grow 2.3 percent next year. But that was all before oil prices started to plunge — a potentially precarious situation for the country.

One big problem for Iran is that it also needs oil prices well north of $100 per barrel to balance its budget, especially since Western sanctions have made it much harder to export crude. If oil prices keep falling, the Iranian government may need to make up revenues elsewhere — say, by paring back domestic fuel subsidies (always an unpopular move, at least in the short term).

Saudi Arabia: There's no question that Saudi Arabia, the world's second-largest crude producer (after Russia), will suffer financially from cheap oil. If oil stays at around $60 per barrel next year, the government will run a deficit equal to 14 percent of GDP.

The United States: In the US, meanwhile, a fall in crude prices would have more varied impacts. For many people, it will offer a nice economic boost: cheaper oil means lower gasoline prices — which have fallen to $2.47 per gallon, the lowest since 2009.

How does the fall in oil prices affect India?

India imports nearly two-thirds of crude oil requirements. The sharp fall in global crude oil prices will cut down the country's import bill and enable oil marketing companies to reduce retail prices of petrol and diesel. Lower oil prices have also aided government's efforts to keep inflation low and stable besides curtailing fuel subsidies. A lower subsidy bill will help contain the country's fiscal deficit — a measure of the amount the government borrows to fund its expenses — at the budgeted level of 4.1% of GDP in 2014-15. Being the world's fourth-largest oil consumer, India imports around 190 million tonnes of crude oil a year - costing $145 billion a year, or more than a third of its total import bill. With every dollar decrease in oil prices, the government's oil import bill comes down by Rs. 4,000 crore.

Dalal Street takes a hit - The BSE Sensex and Nifty slumped more than 3% on Tuesday, posting their biggest daily loss since the rupee crisis in 2013 as a continued slide in oil prices hit emerging markets, sending blue-chips such as State Bank of India sharply lower.

Foreign Exchange Market - 

Here is a case in the context –

India has a huge demand of petrol and diesel in their economy, to buy fuels from Saudi Arabia India needs a currency that Arab accepts (same as you cannot buy milk by paying wheat anymore). Arab needs dollars to invest and purchase goods from different countries (dollar is the most accepted and sought of currency). So Indian oil companies will have to go to foreign exchange market to buy dollars with rupees.

How the rates are decided-

Now the Indian oil companies go to Forex market to buy dollars for paying fuel bills but the dollar rich institutes citing the opportunity will not release their funds this easily, as they don’t need Rs anymore (due to the unsupportive govt, Inflation and scams in India), The case is same as you fetch a drastically low prices for the junk lying inactive at your home, So this will lead in to extended round of negotiations and the past rate of 55Rs (say) against a dollar will go up to 60Rs a dollar or even more. This will in turn be a reason for rise of transport of goods in India and the final goods that used to come for 10Rs in past will jump to 12 or more hence the prise rise will strike in India leading to inflation.

Decoded: Shale gas

It is a natural gas found in shale formations – a type of rock in the earth's crust. It is being considered as the new source of natural gas as other sources are fast depleting. US is at the forefront of exploring and producing shale gas. It accounted for 39% of its natural gas production in 2012. India is expected to have around 6 trillion cubic metres (tcm) of recoverable shale gas (compared to 1.3 tcm of conventional natural gas). However, production costs in India will be significantly high due to the advanced technological requirements and relatively unknown terrain.