The Balance of Payments refers to the sum of all
transactions that are made between a nation and the rest of the world. These
transactions can be recorded as entries in the current account or the capital
account.
The current account includes items that can be
classified under exports and imports and the funds that are spent by citizens of the
nation in other countries and by foreign citizens in that
nation.
Capital account includes foreign direct investment
made by foreign entities into a nation and direct investment made by entities of that
nation into other nations.
When the current and capital
accounts are added together, the result is usually not equal to zero. The difference,
which may be positive or negative has to be balanced. If there is a net outflow of funds
it is displayed as a decrease in the foreign reserves and is usually compensated by
borrowing funds from abroad. A net inflow of funds increases the foreign exchange
reserves and the nation is in a position to lend money to other
nations.
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