Balance of Payments: Current Account - Online Tutor, Practice Problems & Exam Prep

The current account of the balance of payments tracks short-term transactions with other countries, focusing on net exports, net investment income, and net transfers. Net exports represent the difference between exports and imports of goods and services, indicating a trade deficit when imports exceed exports. Net investment income includes interest and dividends earned by U.S. citizens from foreign assets minus those earned by foreigners from U.S. assets. Net transfers involve funds sent abroad, often for aid or family support, typically resulting in a negative balance for the U.S.

Balance of Payments: Current Account

All right. Now, let's go into a little more detail about the balance of payments current account. Okay? So let's start here with the current account. Remember, the balance of payments, we're talking about transactions with other countries. Right? We're following these transactions and the current account records those short-term transactions, right? Things that are happening currently, current account short term stuff. Okay? So we talked about this a little bit. Remember, so I have a snippet here from the US balance of payments from 2014, that we saw the full one in our introduction video. And here we have, remember our net exports. So we talk about our export of goods, import of goods, export of services, import of services. So this is our net exports right here. So we've got 3 main things we follow. We follow these net exports, we follow the investment income and then net transfers. Okay? So those are the 3 main topics here. Let's go 1 by 1 here. So let's start with the balance on goods which is this first section here of net exports. So we're talking about export of goods and import of goods, okay? So this is the difference, the balance on goods, if you notice up above, we have the difference between the two. 1633 - 2374 gives us the balance on goods and remember, because it's negative, that means we're importing more stuff than we're exporting like you can see there, imports being a bigger number. So the balance of trade, we sometimes call the balance on goods the balance of trade, okay? And it's just another name, they mean the same thing but this is generally the focus when you see like the media talking about our balance, our trade balance and we're trading with other countries, we're importing a lot of stuff, right? The US has had this what's called a trade deficit for a long time and it's because we've been importing more goods than we've been exporting. So when we think about our balance of trade, we're focused mostly on goods, okay? We're thinking about the goods that we're trading more than the services that we're trading with other countries, okay? So trade surplus, well, that's when the exports are greater than the imports. The trade deficit is when the exports are less than the imports, okay? U.S. Trade deficit, okay? That, has had a trade deficit for a while at this point. Okay? So the US has had this trade deficit and it happens, pretty much every year for a while and that's from the trade of goods between other countries. Because if you look up above, when we look at the balance import of services. So we actually don't have this deficit when it comes to services, but in total, when you look at these two numbers together, there is a deficit. But in total, when you look at these two numbers together, there is a deficit in total as well, okay? But when we focus on that trade deficit, we're thinking about those goods that are coming in and out of the country. Like, when we import stuff from China, that's one of our biggest imports is importing goods from China and exporting goods in return, right? So, generally, that's the biggest thing there and when we think of these 2 together, we get to our net exports calculation. So, I mentioned net exports in our other video as well, right? Net exports and we've seen it like this. We've seen exports minus imports as a way to think about our net exports but now, we have another way to calculate it. We can get our balance on goods plus our balance on services, right? Because the balance on goods is exports minus imports of goods and then our balance on services is exports minus imports on services, okay? So we're basically just breaking it up into exports minus imports of goods, the net export of goods, and the net exports of services. And then we've got our total net exports there. Okay? So that's about it. The big thing to remember here is these trade surplus trade deficit. I think it's pretty logical. A trade deficit is where we're importing more stuff. We're bringing in more than we're selling to other countries, right? So we have this deficit. We're not bringing in money from exporting stuff. Okay? So the next category, so that was the that's the first category from above, right? This is where we were talking about net exports. Now, let's talk about our net investment income. Okay? So investment income, this basically comes down to interest and dividends. Okay? Interest and dividends that are earned and remember, with the balance, they can either be earned by US citizens or they can be earned by foreigners. So there's going to be this net amount based on the amount US citizens earn and the amount foreigners earn. So remember, there's going to be these interest and dividends earned by US citizens who own foreign assets. So that's like I go to the Japanese market and I buy a Japanese bond, right? And I own this bond and I'm getting paid interest from buying this Japanese bond or you buy shares in some Japanese company and when they pay dividends to you, well, you're a US citizen earning these dividends from another from a foreign asset. You see? So, so that's like you buy Japanese bond and earn interest. Right? So the interest that you earn is in this net investment income. Now, the opposite is when a foreigner owns a US asset. So now, it's like a Japanese person buys Apple stock or something like that. I'm not even sure if Apple pays dividends. Apple stock and gets dividends, right? So now, they own an American company and they're getting income from the American company being a foreigner, right? So this net investment income deals with the income Americans get from foreign investments and the income foreigners get from American investments. Okay? And as you can see above, when we look at our net investment income, we've got a positive number. That means that Americans are earning more than the foreigners from this net investment. Okay? And finally, our third one is our transfers, net transfers here. Okay? So net transfers, this is basically just transferring funds. This is generally related to like charity or financial aid that's happening. So funds sent domestically to foreigners and vice versa. Mostly, this is the US sending aid to foreigners. There's not as much foreign aid coming into the US. The US does a lot of helping other countries in giving money out. But it also includes other things. The main one here is that foreign aid. But then we have also have, you know, funds sent to family members, so, you know, when someone earns money in the US and say like an immigrant from Mexico comes to the US to get a job and then they send money back home to Mexico, right? Something like that, that would be a net transfer. And then, the last one here is pension payments received while living abroad. So that could be someone who retired who had a pension in the US, worked in the US and then went to live in Spain. Right? They got their retirement in Spain and they're receiving that money in Spain. That's a net transfer there. Okay? So, like I said, the US tends to have a negative balance because we're transferring out more funds, generally through this foreign aid and funds that are being sent to family members, more than money coming in, right? So negative means money going out. So what I want you to notice here is that this is the biggest category, okay? Number 1, the net exports is the biggest category of this. And you can see because the number is much larger, right? We've got larger numbers here when it comes to our net exports than when it comes to the other 2. Okay? So that's about it for the current account. It's just these three main categories to think about, the net exports, the investment income, and the transfers. Alright, let's go ahead and move on to the next.

Here’s what students ask on this topic:

What is the current account in the balance of payments?

The current account in the balance of payments tracks short-term transactions between a country and the rest of the world. It includes three main components: net exports, net investment income, and net transfers. Net exports represent the difference between exports and imports of goods and services. Net investment income includes interest and dividends earned by residents from foreign assets minus those earned by foreigners from domestic assets. Net transfers involve funds sent abroad, such as foreign aid or remittances, typically resulting in a negative balance for the U.S. due to more funds being sent out than received.

How is the trade balance calculated in the current account?

The trade balance, also known as the balance on goods, is calculated as the difference between the value of a country's exports and imports of goods. The formula is:

$\mathrm{Trade\; Balance}=\mathrm{Exports}-\mathrm{Imports}$

If the result is positive, the country has a trade surplus, meaning it exports more than it imports. If the result is negative, the country has a trade deficit, meaning it imports more than it exports. The U.S. has had a trade deficit for many years, primarily due to importing more goods than it exports.

What is net investment income in the current account?

Net investment income in the current account refers to the difference between the income residents earn from foreign investments and the income foreigners earn from domestic investments. This includes interest and dividends. For example, if a U.S. citizen owns a foreign bond and earns interest, that income is part of net investment income. Conversely, if a foreigner owns U.S. stocks and earns dividends, that income is subtracted from the net investment income. A positive net investment income indicates that residents earn more from foreign investments than foreigners earn from domestic investments.

What are net transfers in the current account?

Net transfers in the current account involve the transfer of funds between countries without any goods or services being exchanged. This category includes foreign aid, remittances, and pension payments. For instance, when the U.S. government provides financial aid to another country, or when an immigrant in the U.S. sends money back to their family abroad, these are considered net transfers. Typically, the U.S. has a negative balance in net transfers because it sends out more funds than it receives, primarily through foreign aid and remittances.

Why does the U.S. have a trade deficit?

The U.S. has a trade deficit because it imports more goods than it exports. This means that the value of goods the U.S. buys from other countries exceeds the value of goods it sells to them. Several factors contribute to this deficit, including consumer preferences for foreign goods, competitive pricing of foreign products, and the strength of the U.S. dollar, which makes imports cheaper. While the U.S. often has a surplus in services, the deficit in goods trade is large enough to result in an overall trade deficit.