Balance of Payments Accounts

1. The Current Account

The current account fundamentally is a measurement of the balance of trade, which primarily consists of net exports. But it is not just net exports. Alongside net exports, it includes net transfers (or net direct payments) and net investment income. For the purposes of the AP macro test, you don't need to know what net transfers nor net investment income means.

Here's a sample question you might get: Calculate the current account of unicorn land given this table:



It's easy. Just add up net exports ($300 + $100 - $150 - $130)M, net payment transfers (-$240 - $60)M, and net investment income ($50 + $20 - $90)M to get a total current account of -$200M.

If current accounts are negative, you have a current account deficit, and vice versa for the term "surplus." Or it can be called a trade deficit since current accounts are essentially measuring net exports. But more accurately, trade deficits are specifically when imports are greater than exports. (& vice versa for surplus)

Of course, the real world isn't so clear cut, and actual current account tables resemble hundred-row charts that look more like this:



But Collegeboard doesn't need to know that.

The balance of payments account has 2 components: the current account and the financial (capital) account. We've already talked about the current account. Now let's look at the capital account.

2. The Financial Account

At its core, the capital account measures ownership of foreign assets. Capital account = net capital outflow = capital outflow - capital inflow. If capital outflow > capital outflow, we have a "capital account surplus", and vice versa. Yes, we actually need to know these terms.

Wow, you might think, the word surplus sounds much nicer than the word deficit. Why doesn't every country have a financial account surplus AND a current account surplus?

Turns out, you can't. It is impossible. If one is a deficit, the other must be negative, by the same amount. If our Unicorn land has a $200M current account deficit, it must have a $200M financial account surplus. This is known as the balance of payments (BOP) formula.

TL;DR:

• Current account mainly consists of exports - imports

• Financial account measures ownership of foreign assets

• BOP formula: CA = -FA