Essential definitions

Balance of payments

A record of transactions between residents of an economy and non-residents over a stated period.

Resident

A person or organisation whose centre of economic interest is in the economy; residency is not simply nationality.

Account

A category used to group related transactions in the record.

Put cross-border transactions into a record

The balance of payments records transactions between residents of an economy and non-residents over a period, usually a quarter or year. Residency concerns a person's or organisation's centre of economic interest, not simply nationality. The record helps explain foreign receipts, external payments and how the economy finances a gap.

Imagine that local firms export design services, import machines and borrow from overseas investors. Those transactions have different purposes. Grouping them lets us distinguish purchases and earnings from changes in financial claims. The record measures flows during the period, not the accumulated stock of everything residents own abroad.

Three accounts answer different questions

The current account records goods, services, primary income and secondary income. Primary income includes wages and returns on investment; secondary income consists of current transfers without a product or asset supplied in return. These categories describe ongoing production, income and redistribution across borders.

The capital account records capital transfers and transactions in non-produced, non-financial assets, such as natural-resource rights. The financial account records transactions in assets and liabilities: direct investment, shares, bonds, loans and official reserves. An asset is a claim held by its owner; a liability is an obligation owed to someone else.

Separate the purchase from its finance

An imported machine is a goods import in the current account, even though it is called capital equipment. A foreign loan paying for it creates a liability in the financial account. The machine and loan answer different questions; calling both capital would hide that distinction.

We first classify current transactions and calculate their net balance. Then we connect that balance to capital and financial flows, stating the accounting sign convention. HL lessons assess persistent imbalances and adjustment policies. A deficit is a starting point for investigation, not by itself proof of failure or of a sustainable financing plan.

Apply and evaluate

• The record helps identify financing patterns; accounting balance alone does not establish that those patterns are sustainable.