Outline the major cost and benefit associated with a large

trade on current account deficit

A nation’s balance of payment is the sum of all transactions which take place between its
residents and the residents of all foreign nations. The balance of payment statement
shows all the payments a nation receives from foreign countries and all the payment it
make to them. Trade in currently produced goods and services are called the current
account. A country goods balance of trade or simply its trade balance is the difference its
exports and imports of goods. If exports exceed imports the result is a trade surplus or
favorable balance of trade. The balance of trade (or net exports, sometimes symbolized as
NX) is the difference between the monetary value of exports and imports of output in an
economy over a certain period. It is the relationship between a nation's imports and
exports. A favourable balance of trade is known as a trade surplus and consists of
exporting more than is imported; an unfavourable balance of trade is known as a trade
deficit or, informally, a trade gap. The balance of trade is sometimes divided into a goods
and a services balance.if exports exceed imports the result is atrede surplus or favorable
balance of trade. The balance of payments (BOP) is the place where countries record their
monetary transactions with the rest of the world. Transactions are either marked as a
credit or a debit. Within the BOP there are three separate categories under which different
transactions are categorized: the current account, the capital account and the financial
account. In the current account, goods, services, income and current transfers are
recorded. In the capital account, physical assets such as a building or a factory are
recorded. And in the financial account, assets pertaining to international monetary flows
of, for example, business or portfolio investments are noted.

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The International Balance of Payments (BOP) is an accounting of the international
transactions of a country that has its own currency over a certain time period, typically a
calendar quarter or year. It shows the sum of all economic transactions between
individuals, businesses, and government agencies in the country and those in the rest of
the world. Every international transaction involving different currencies results in a
credit and a debit in the BOP. Credits are transactions that increase the amount of money
to domestic residents from foreigners, and debits are transactions that increase the money

paid to foreigners. The current account deals with international trade in goods and
services and with earnings on investments. The capital account consists of capital
transfers and the acquisition and disposal of non-produced, non-financial assets. A
subdivision of the capital account, the financial account records transfers of financial
capital and non-financial capital. The official reserves account, which is part of the
financial account, is the foreign currency held by central banks, and is used to pay
balance-of-payment deficits. Each account is further divided into sub-accounts.

The Current Account

When a trade deficit or surplus is reported, this is usually the account that is being
referred to. It is an indication of the desirability of a country's products and services
by the rest of the world, and therefore, its competitiveness in the world marketplace.
The current account is composed of 4 sub-accounts:

1. Merchandise trade consists of all raw materials and manufactured goods

bought, sold, or given away. Until mid-1993, this was the figure that was used
when the balance of trade was reported in the media. Since then, the merchandise
trade account has been combined with a second sub-account, services, to
determine the total for the balance of trade.
2. Services include tourism, transportation, engineering, and business
services, such as law, management consulting, and accounting. Fees from patents
and copyrights on new technology, software, books, and movies also are recorded
in the service category. Most outsourcing of labor is a debit to the services
account.

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 3. Income receipts include income derived from ownership of assets, such
as dividends on holdings of stock and interest on securities.
4. Unilateral transfers represent one-way transfers of assets, such as worker
remittances from abroad and direct foreign aid. In the case of aid or gifts, a debit
is assigned to the capital account of the donor nation.

Balance of Payments Deficit and Surplus

The current account should balance with the capital account, because every transaction is
recorded as both a credit and a debit (double-entry accounting), and since credits must
equal debits and the balance of payments is equal to credits minus debits, the sum of the
balance of payments statements should be zero. For practical reasons, however, it
deviates slightly from zero.

BOP = Current Account + Capital Account = Credits - Debits ≈

0

For example, when the United States buys more goods and services than it sells—a
current account deficit—it must finance the difference by borrowing, or by selling more
capital assets than it buys—a capital account surplus. A country with a persistent current
account deficit is, therefore, effectively exchanging capital assets for goods and services.
Large trade deficits mean that the country is borrowing from abroad or selling assets to
foreigners. In the balance of payments, this appears as an inflow of foreign capital. In
reality, the accounts do not exactly offset each other, because of statistical discrepancies,
accounting conventions, and exchange rate movements that change the recorded value of

transactions.

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