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Class 12 - Economics
Balance of Payments Test - 05
1. Which is not a cause for disequilibrium in Balance of Payments?
a) Political instability
b) Change in taste and fashion
c) Large imports
d) Low domestic prices
2. Current account records transactions relating to:
a) current transfers
b) non-factor and factor income
c) export and import of goods
d) All of these
3. If you are given the following data,
i. Total exports of merchandise ₹ 1,000 crore
ii. Total imports of merchandise ₹ 1,200 crore
iii. Total exports of invisibles ₹ 100 crore
iv. Total imports of invisibles ₹ 100 crore
Then, balance of trade would be
a) Surplus of ₹ 100 crore
b) Surplus of ₹ 200 crore
c) Deficit of ₹ 100 crore
d) Deficit of ₹ 200 crore
4. A component of current account of the BOP account is
a) Investment by the govt.
b) Unilateral transfers Investment to and from abroad
c) Change in Borrowing and lending by the govt.
d) Investment to and from abroad
5. Why are imports entered as negative items in the balance of payments account?
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6. What is the difference between the value of exports of goods and import of goods called?
7. Name any two invisible items of the current account of the balance of payments.
8. What is Balance of Payments? What does it comprise?
9. Why is the open economy autonomous expenditure multiplier smaller than the closed economy one?
10. Distinguish between a Current account deficit and a Trade deficit.
11. Giving reasons state whether the following statements are true or false:
i. Excess of foreign exchange receipts over foreign exchange payments on account of accommodating transactions equals
deficit in the balance of payments.
ii. Export and import of machines are recorded in capital account of the balance of payments account.
12. Are the following entered (i) on the credit side or the debit side and (ii) in the current account or capital account in the
Balance of payment account? You must give reason for your answer.
(a) Investment from abroad and, (b) Transfer of funds to relatives abroad.
13. Give the meaning of favourable balance of payments.
14. i. Explain, what can be the likely impact of the depreciation of the home currency on imports to the country.
ii. Distinguish between Current Account Deficit (CAD) and Current Account Surplus (CAS).
15. Discuss the components of capital account.
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Class 12 - Economics
Balance of Payments Test - 05
Solution
1. (d) Low domestic prices
Explanation: Low domestic prices promote exports of the country. Hence, it is not the cause of disequilibrium in a BOP.
2. (d) All of these
Explanation: All of these
3. (d) Deficit of ₹ 200 crore
Explanation: Deficit of ₹ 200 crore
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4. (b) Unilateral transfers Investment to and from abroad
Explanation: Unilateral transfers include gifts, donations, personal remittances and other ‘one-way’ transactions. These
refer to those receipts and payments, which take place without any service in return. Receipt of unilateral transfers from
rest of the world is shown on the credit side and unilateral transfers to rest of the world on the debit side.
As current Account records all the actual transactions of goods and services which affect the income, output and
employment of a country. So, it shows the net income generated in the foreign sector.
5. Because imports cause an outflow of foreign exchange from the country.
6. The difference between the value of imports and exports of only physical goods or visible items is called Balance of
trade.
7. i. Payment of interest
ii. Expenditure by tourists
8. Balance of payments refers to systematic records of all economic transactions between the residence of a country and the
residence of foreign countries during a given period of time, particularly one year.
Balance of payments broadly comprises the following:
i. Current Account- Current Account is that account which records imports and exports of goods and services and
unilateral transfer.
ii. Capital Account- Capital Account is that account that records all such transactions between residents of a country
and rest of the world which results in a change in the asset or liability status of the residents of a country and
government. For example Borrowing
9. In case of a closed economy, equilibrium level of income is given by
Y = C + cY + 1 + G
Or, Y - cY = C + 1 + G
Or, Y (1 - c) = C + 1 + G
C +I +G
Or, Y= 1−c
Let, (C + 1 + G) = A1
A1
Or, Y = 1−c
ΔY
=
1
1−c
... (i)
ΔA1
In the case of an open economy, equilibrium level of income is given by
Y = C + cY + I + G + X - M - mY
Or, Y - cY + mY = C + 1 + G + X - M
Or, Y(1 - c + m) = C + 1 + G + X - M
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C +I +G+X−M
Or, Y = 1−c+m
Let autonomous expenditure (A2) = C + 1 + G + X - M
A2
Or, Y = 1−c+m
ΔY 1
= . . . (2)
ΔA2 1−c+m
Comparing equations (1) and (2) and the denominators of the two multipliers, we can conclude that multiplier in an open
economy is smaller than that in a closed economy, as the denominator in an open economy is greater than denominator in
a closed economy.
10. Current Account Deficit (CAD) refers to an excess of payments for the value of import of visible items, invisible items
and unilateral transfers over the receipts from the value of export of visible items, invisible items and unilateral transfers.
Trade deficit refers to the excess of the payments for the value of import of visible items over the value of receipts of
export of visible items. Trade deficit = Export of visible goods - import of visible goods.
11. (i) It is true that excess of foreign exchange receipts over foreign exchange payments on account of accommodating
transactions equals deficit in the balance of payments this is because accommodating transactions remove both surplus
and deficit of Balance of Payments account. As outflow causes deficit, which has to fulfilled with inflows.
(ii) False. we know that exports and imports are recorded in the current account, therefore export and import of machines
will also be recorded in current account of Balance of Payments account.
12. (a) Investment from abroad
i. It will be entered in the capital account because it has caused a change in the assets of the government.
ii. It will be entered on the credit side as they bring in foreign exchange.
(b) Transfer of funds to relatives abroad
i. It will be entered in the current account because it is a unilateral transfer.
ii. It will be entered in the debit side as this is a current transfer to rest of the world.
13. When there is an excess of receipts over payments made by a country, it is called favourable balance of payment. This
situation is favourable because there is more money coming into the country than what is going out of the country.
Favourable balance is when R>P. or R - P > O.
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14. i. Depreciation of home currency results in a fall in the value of the domestic currency (say ₹) in terms of foreign
currency (say $). Consequently, foreign goods may become dearer in terms of the domestic currency, leading to
losses for importers. Hence, imports of the economy may tend to fall.
ii. Current Account Deficit (CAD) refers to an excess of payments for the value of imports of visible items, invisible
items, and unilateral transfers over the receipts from the value of export of visible items, invisible items and
unilateral transfers. Current account deficit means that the value of imports for goods and services is greater than the
value of exports. Whereas; Current Account Surplus (CAS) refers to an excess of receipts from the value of exports
of visible items, invisible items and unilateral transfers overpayments for the value of import of visible items,
invisible items and unilateral transfers. Current account surplus means an economy is exporting a greater value of
goods and services than it is importing.
15. Capital account is that account which records all such transactions between residents of a country and rest of the world
which cause a change in the asset or lability status of residents of a country as its government. Components of capital
account:
a. Foreign investment: It has two sub components:
i. Foreign Direct Investment (FDI) refers to ownership of enterprises by the non residents in the domestic economy
like walmart stores in India.
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ii. Portfolio investment refers to FII(Foreign Institutional investment) which is invested by the non residents in
shares and bonds of the domestic companies.
b. Borrowings: It has two sub components:
i. External commercial borrowings: It refers to borrowing by a country (including govt, and private sector) from the
international money market. This involves market rate of interest compared to that prevailing in the open market.
ii. External assistance - External assistance are borrowings which are available at concessional rate of interest.
c. NRI deposits is another important component of the capital account, particularly in emerging economies like India
where interest rates are high.
d. Banking Capital is another important compontent of the capital account. It refers to the foriegn asset holding of
commercial banks.
e. Capital account BoP also includes the flow of capital on account of short term debt.
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