Theoretical Aspects

Balance of Payments

"The balance of payments of a country is a systematic record of all economic transactions between the residents of the reporting country and residents of foreign countries during a given period of time".

Balance of Payments

The balance of payment record is maintained in a standard double-entry book-keeping method. International transactions enter in to the record as credit or debit. The payments received from foreign countries enter as credit and payments made to other countries as debit.

Balance of Payments

Balance of Payment is a record pertaining to a

period of time;

Usually it is an Annual statement. All the transactions entering the balance of payments can be grouped under three broad accounts.

Structure of Balance of Payment (BOP)

The Current Account

The Capital Account The Financial Account

The Current Account (CA)

Current Account transactions are usually transactions in goods and services. A positive value for the current account is called a current account surplus. A negative value is called a current account deficit.

The Current Account

The current account mainly consists of 4 types of transactions:

1. Exports and imports of goods

Exports of goods are credits (+) to the current account Imports of goods are debits (-) to the current account

The Current Account

1. Exports and imports of goods

The difference between exports and imports of goods is called ' Trade Balance' or 'Balance of Merchandise Trade'. Since the 1947's, Pakistan has a merchandise trade deficit except for one year. For the period of Jul-Oct FY13 Trade Deficit is Rs 6.440 bn.

The Current account (CA)

2. Exports and Imports of services Exports of services are credits to the current account (+) Imports of services are debits to the current account (-). Pakistan has a net debit ($-2,347mill) in services balance

The Current account

2. Exports and Imports of services This category consists of items such as
Tuition

paid to universities by international students, Money spent on travel by tourists, Banking, Insurance, Freight, Medical services, Consulting Services etc.

The Current account

3. Income A/c (Interest payments on international investments)

The Income component of balance of payments is restricted to income earned from the provision of two factors of production viz, labor and capital. Accordingly income earned from the labor is called compensation of employees(less than one year stay abroad) while income earned from capital is called investment income.

The Current account

3. Income A/c (Interest payments on international investments)

Interest, dividends and other income received on Pakistani assets held abroad are credits (+) Interest, dividends and payments made on foreign assets held in the Pakistani are debits (-). Pakistan has a net debit ($-2,655 mill) in the investment income account; more payments are made to foreigners than foreigners make to Pakistani investors.

The Current account

4. Current transfers

Current transfers mainly cover receipt on account of workers remittances, withdrawal from residents foreign currency accounts.

The Current account

4. Current transfers

Remittances by Pakistani working abroad, pensions paid by foreign countries to their citizens living in the Pakistan count as credits (+). Remittances by foreigners working in the Pakistan, pensions paid by the Pakistan to its citizens living abroad, count as debits (-). Pakistani has the only surplus in current transfers i.e. US$10.8 bill. (July-April 2011-12)

2. The Financial Account (FA)

Financial account records all transactions associated with changes of ownership in foreign financial assets and liabilities.

2. The Financial Account (FA)

Also includes government-owned assets such as Foreign reserves, Gold, Special drawing rights (SDRs) held with the international monetary fund, Private assets held abroad, and direct foreign investment. Assets owned by foreigners, private and official, are also recorded in the financial account.

2. The Financial Account (FA)

The financial account consists primarily of 4 types of transactions:

1.

Foreign Direct Investment

Direct investment implies a long-term relationship between the direct investor and the direct investment enterprise. It gives a significant degree of influence by the direct investor on the management of the direct investment enterprise. For direct investment, direct investor owns 10 percent or more of the ordinary shares or voting power

2. The Financial Account (FA)

1. Foreign Direct Investment

Purchases of Pakistani capital assets (factories, machines, companies) by foreigners are credits (+) Purchases of foreign capital assets (factories, machines, companies) by Pakistani residents are debits (-) Sales of Pakistani capital assets by foreigners count as debits to the financial account (-) Sales of foreign capital assets by Pakistani residents count as credits to the financial account (+)

2. The Financial Account (FA)

2. Portfolio Investment
Portfolio investment implies holding by nonresident of less than 10% share in Equity securities, Investment in debt securities (in the form of bonds and notes) And investment in money market instruments of local company.

2. The Financial Account (FA)

2. Portfolio Investment

Purchases of Pakistani securities (stocks, bonds, CDs, money-market accounts) by foreigners are credits (+) Purchases of foreign securities (stocks, bonds, CDs, money-market accounts) by Pakistani residents are debits (-) Sales of Pakistani securities by foreigners count as debits to the financial account (-) Sales of foreign securities by Pakistani residents count as credits to the financial account (+)

2. The Financial Account (FA)

3. Other Investments

Other investment covers short- and long-term trade credits; loans (including use of Fund credit, loans from the Fund, and loans associated with financial leases); currency and deposits (transferable and othersuch as savings and term deposits, shares in credit unions, etc.); And other accounts receivable and payable. Transactions covered under direct investment are excluded.

2. The Financial Account (FA)

3. Other Investments

Increases in loans & trade credits to Pakistani residents by foreigners count as credits (+) Increases in loans & trade credits to foreigners by Pakistani residents counts as debits (-) Repayments of loans & trade credits to Pakistani residents by foreigners count as credits(+) Repayments of loans & trade credits to foreigners by Pakistani residents counts as debits (-)

2. The Financial Account (FA)

4. Reserve Assets
Reserve assets consist of those external assets that are Readily available to and controlled by monetary authorities for direct financing of payments imbalance. In BOP, they cover monetary gold, SDRs, reserve position in the fund, foreign currency reserves and foreign currency cash holdings.

2. The Financial Account (FA)

4. Reserve Assets

Increases in Foreign Currency/Gold reserves held by central bank count as credits (+) Decreases Foreign Currency/Gold reserves held by central bank count as debits (-) Foreign exchange reserves (forex) are used to meet the deficit in the balance of payments

3. The Capital Account (KA)

The major components of the capital account are 1. Acquisition or disposal of non-financial assets (for example, a physical asset such as land, patents, copyrights, licenses, trademarks and franchises.) And non-produced assets, which are needed for production but have not been produced, like a mine

3. The Capital Account (KA)

2. One-sided Financial Transactions, i.e. It includes transactions in which one country gifts financial assets to another country with no expectation of receiving anything in kind. In today's world, this implies one major type of transaction - debt forgiveness and relief. Forgiveness of Pakistani debt by foreigners count as credits (+) Forgiveness of foreign debt by Pakistan entities count as debits (-)

Balance of Payments Equilibrium

Balance of Payments Equilibrium Is defined as a condition where the sum of debits and credits from the Current Account and the Financial and Capital Account equal zero;
Current A/c + Financial A/c+ Capital A/c = 0

Static Equilibrium

In static equilibrium, exports equal imports including exports and imports of services as well as goods.
National money incomes should be in equilibrium with reference to money incomes abroad. The foreign exchange rate must also be in equilibrium.

Dynamic Equilibrium

The condition for dynamic equilibrium in the is that exports and imports differ by the amount of autonomous capital movements

Types of BOP Disequilibrium

(a) Structural Disequilibrium
(b) Secular disequilibrium, and (c) Cyclical disequilibrium,

Structural Disequilibrium
It takes place due to structural changes in the economy affecting demand and supply relations in commodity and factor market.
Structural disequilibrium in balance of payments persists for relatively longer periods; as it is not easy to remove structural imbalance in the economy.

Important Causes Of Structural Disequilibrium

If the foreign demand for a country's products decline due to the discovery of cheaper substitutes abroad, then the country's export will decline causing a deficit.
If the supply position of a country is affected due factors like crop failure, shortage of rawmaterials, strikes, political instability, etc. then there would be the deficit in the balance of payments

Important Causes Of Structural Disequilibrium

A shift in demand due to the changes in tastes, fashions, income, etc. would increase or decrease the demand for imported goods causing a disequilibrium in the balance of payments.
Changes in the rate of international capital movements may also cause structural disequilibrium.

Important Causes Of Structural Disequilibrium

A war also results in structural changes which may affect not only goods but also factor of production causing disequilibrium in balance of payments.

Cyclical Disequilibrium

When disequilibrium is caused due to the changes in trade cycles, that is why it is termed as cyclical disequilibrium. It is possible that different phases of trade cycles like depression, prosperity, boom, recession, etc, may disturb terms of trade and cause disequilibrium in balance of payments.

Important Causes Of Cyclical Disequilibrium

For instance, during boom period, imports may increase considerably due to increase in demand for imported goods. During recession and depression, imports may be reduced due to fall in demand on account of reduced income. During recession exports may increase due to fall in price.

Important Causes Of Cyclical Disequilibrium

During boom period, a country may face deficit in its BOP position on account increase in imports. However, during recession its export may increase, and as such BOP position may show surplus.

Secular or Fundamental Disequilibrium

Secular or fundamental disequilibrium refers to a persistent and long-term deficit or a surplus in the balance of payments of a country It occurs when there is a continuous increase in the stock of gold and foreign exchange reserves. There is a persistent surplus & vice-versa.

Important Causes Of Secular or Fundamental Disequilibrium

In the initial stages of development, domestic investment exceeds domestic savings and imports exceed exports. Disequilibrium arises owing to lack of sufficient funds to finance the import surplus that mainly arises because of import of Capital goods.
Then comes a stage when domestic savings tend to exceed domestic investment and exports outrun imports.

Pakistans BOPs position in FY 2011-12.

Global turmoil
World Output decelerated to 3.9 % in 2011 The growth of world trade dropped to 5.8 % in 2011 . European Sovereign Debt Crisis, the turmoil in the Arab Countries and the natural disasters that hit Thailand and Japan which caused disruptions in the supply chain.

current account deterioration Increased imports Less exports Power shortages Flood Problems

Current Account deficit:

The current account deficit stood at ($3,394) million during July-April 2011-12 . Mainly caused by trade and services account deficit. Current transfers (workers remittances) helped to avoid further deficit.

Current Account deficit

The trade deficit expanded due to the 14.5% growth in imports And the 0.1 percent increase in exports; Thus widening the trade deficit by 49.2%. The major factor behind the widening of the trade deficit was the sharp rise in the import bill due to the higher prices of crude oil.

Current Account deficit

The services account deficit recorded an expansion of $ 1,122 million. This deterioration in the services account was primarily due to the 16.6 percent fall in services exports. Pakistan witnessed a strong growth of 25.8% in 2011 and become the 5th largest remittances recipient developing country in 2011

Financial Account

The financial account posted a surplus of $ 1,200 million. Foreign direct investment declined by 48.3% majorly in the telecommunication, financial business and power sector during the period due to energy crises and circular debt . However, the Oil & Gas Exploration remained the major attraction during current fiscal year as its share in overall FDI stood at 69.8 percent.

Exchange Rate

Pakistans currency has depreciated vis-vis the US dollar. $1 is 97.69 Rs The Pakistan currency is appreciated by 0.51 percent in real terms i.e. in REER.

Exchange Rate
The REER (Real effective Exchange Rate)is defined as the weighted average of nominal exchange rates adjusted for relative price differential between the domestic and foreign countries.

Foreign exchange reserves:

Pakistans overall liquid foreign exchange reserves rose to $13.808 billion (SBP reported on 3-01-13). From it reserves held by the State Bank stood at $9.009 billion and $4.799 billion are held by Banks.

Foreign exchange reserves:

Pakistan has to pay the tenth installment of the loan for an amount of $500 mill, to the IMF on Feb 26, 2013. Pakistan has so far repaid $2.1 billion to the IMF in nine installments against the outstanding loan of $7.8 billion And then again the next in May 2013.

FACTORS INFLUENCING PAKISTANS BOP

1. Concentration of Exports/
Narrow Export Base

The major share of Pakistans export is still concentrated in a only three items (cotton manufactures, leather and rice). Due to unfavorable natural conditions, decline in Agricultural products badly effects textile manufacturing

Export Items. Cotton.

% In Total Exports. 50.1%

Leather. Rice. Sub Total

Other items Total.

2.2% 8.7% 61%

39% 100%

FACTORS INFLUENCING PAKISTANS BOP

2. Concentration of Imports

Pakistans imports are mainly concentrated in 8 commodities. Most significant among all are

Machinery, Petroleum & petroleum products, Edible oil, Chemicals and Fertilizers Transport equipment.

Besides the efforts of the Govt. for diversification the imports are still fairly concentrated in a few markets i.e. (Saudi Arabia, Kuwait, Japan, U.S.A., Germany and U.K.)

FACTORS INFLUENCING PAKISTANS BOP

3. Increase in Import Payments for fertilizers etc.

due to rise in Price level.

4. Rise in oil Prices

5. Import of Capital Goods

6. Consumption oriented Society

7. Import of industrial Raw material

FACTORS INFLUENCING PAKISTANS BOP

8. Propaganda about exploitation of Child Labour

9. Higher Payments for freight and insurance

10. Dependence on Agri-based Exports 11. Deterioration on Terms of trade 12. Unstable domestic environment 13. Global Economic Slow down

Measures to Correct Disequilibrium in Pakistans BOP

1. 2. 3. 4.

5.

Exports Imports Invisible Receipts and Payments Foreign direct investments Others

Measures to Correct Disequilibrium in Pakistans BOP

1.

Exports
Proportion of Value added exports should be increased. Promotion of Exports of non-traditional item (food processing, dairy farming, vegetables and fruit canning, and dry fruits). Export exhibitions and fairs. Quality and cost of the export goods should be improved. Provision of compensatory and concessionary finance.

Measures to Correct Disequilibrium in Pakistans BOP

2. Imports The import and export tariffs need revision Permitting duty-free Imports of items used in export goods Imports of luxurious items should be restricted

Measures to Correct Disequilibrium in Pakistans BOP

2. Invisible Receipts and Payments Foreign exchange can be earned through tourism and cultural sector. Payments in Area of Travel/Transport and insurance should be controlled.

Measures to Correct Disequilibrium in Pakistans BOP

Foreign direct investments

Perception of Pakistan in international business circles need to be improved Facilities like availability of capital, infrastructure, cheap labor and peaceful atmosphere etc may be provided to attract foreign investors. China and India are good examples as they have attracted large foreign direct investments by providing them extraordinary production facilities.

Others
Greater investments in the area of research and development (R&D). Increase labor productivity through education, on-the-job training Facilities for the establishment of small and medium scale industries Industrialization and engineering Exploring new vistas in fields of genetic engineering, IT, anti-terrorism technology, computer gaming (like in South Korea),surgical instruments,fashion designing, gem stone, jewelry and including sports goods.

Measures/Steps Taken By The Government Regarding Exports And Imports

1.
2. 3. 4. 5. 6. 7.

8.
9.

Diversification of Product &Market Value Addition in Exports Cluster development Brand Development Setting Export Processing Zone Appointment of trade commissioner Improvement in Financial and physical infrastructure Investment in gem and Jewelry Skill development Program

Measures/Steps Taken By The Government Regarding Exports And Imports

10.
11. 12. 13. 14. 14. 15.

16.

WTO obligations Establishment of Trade developing Authority Warehouse city Support to footwear sector Establishing contacts with neglected regions Allowing export of organic brown sugar. Export of Horticulture exports (could fetch up to $7 billion) Banning import of CNG cylinders and conversion kits.

Measures/Steps Taken By The Government Regarding Exports And Imports

17.

18.

Trade Agreements with countries (Free Trade Agreements (FTAs) and Preferential Trade Agreements (PTAs) with different countries.) Trade Development Authority of Pakistan (TDAP) is undertaking various export promotional activities through trade exhibitions and delegations in the new markets viz China, Hong Kong, Russia, Malaysia, Africa region, America and Eastern Europe etc.