Foreign Trade

Composition of Exports

• Agricultural Products

• Textile Fabrics

• Leather Products

• Gems & Jewellery

• Machinery & Transport Equipments

• Minerals

Composition of Imports

• Oil / Petroleum products

• Capital goods

• Pearls & Precious stones

• Iron

Problems of India's Export• Poor quality image - “Made in India”

• Infrastructural bottlenecks

• High cost

• Technology

• Political instability

• Unreliability– Going back on contract– Inability to provide prompt after sale service– Delivery on time

Definition - Balance of Payment

A Balance of Payment account is a statement of double entry system of record of all economic transactions (involving foreign payments) between residents of a country and the rest of the world carried out in specific period of time.

Purpose Of BOP

• Provides data for economic analysis• Reveals changes in the composition &

magnitude of foreign trade• Provides indications of future repercussions

of country’s past trade performances• Reveals the weak and strong points of a

country’s foreign trade relations

TERMINOLOGIES• Favorable Balance Of Payments – Value of

total receipts more than total payments • Adverse Balance Of Payments – Value of

total receipts less than total payments

• Balanced Balance Of Payments – Value of total receipts equals total payments

• Unrequited receipts – Receipts for which nothing has to be paid in return.

• Unrequited payments – Payments for which nothing is received in return.

Balance of TradeDefinition: Difference between value of exports and

imports of visible items only

BOT BOP

• Records only merchandise transactions

• Does not record transactions of capital nature

• A part of current account of BOP

•Records transactions relating to both goods and services

• Records transaction of capital nature

• Includes BOT , Balance of services , Balance Of Unrequited Transfers and Balance Of Capital Transactions.

BALANCE OF PAYMENT ACCOUNTS

CURRENT ACCOUNT

• All transactions relating to goods, services and unrequited transfers constitute current account

• Flow of items pertaining to specific period of time

• Visible items include goods• Invisible items include services

Structure of current account

Transactions Credit Debit Net Balance

• Merchandise Export Import -

2. Foreign Travel Earning Payment -

3. Transportation Earning Payment -

4. Insurance (Premium)

Receipt Payment -

5. Investment Income Dividend Receipt Dividend Payment -

6.Government (purchase of goods & services)

Receipt Payment -

CURRENT A/C Balance

- - Surplus (+)Deficit (-)

CAPITAL ACCOUNT• All transactions indicating changes in stock

magnitudes concerning capital receipts and payments constitute capital account

• Relates to - Borrowing - Capital repayment - Sale of assets - Change in stock of gold - Change in reserve of foreign currency

Short term capital movement includes:Purchase of short term securitiesSpeculative purchase of foreign currencyCash balances held by foreignersNet balance of current account

Long term capital movement includes: Investments in shares, bonds, physical assets

etc.Amortization of capital

DIFFERENCE BETWEEN CURRENT ACCOUNT AND CAPITAL ACCOUNT

CURRENT ACCOUNT CAPITAL ACCOUNT

• Indicates flow aspect of country’s national transactions

• Relates to goods , services and unrequited transfers

• Indicates changes in stock magnitudes

• Relates to all transactions constituting debts and transfer of ownership

STRUCTURE OF BALANCE OF PAYMENTS ACCOUNTCREDITS DEBITS

Current A/c:

•Exports of goods(Visible items)•Exports of services (Invisibles)•Unrequited receipts(gifts , remittances, indemnities, etc. form foreigners)

Capital A/c:•Capital receipts (Borrowings from abroad , capital repayments by , or sale of assets to foreigners, increase in stock of gold and reserves of foreign currency etc.)

Current A/c:

•Imports of goods(Visible items)•Imports of services(Invisibles)•Unrequited payments( gifts, remittance, indemnities etc. to foreigners)

Capital A/c:•Capital payments (lending to , capital repayments to , or purchase of assets from foreigners, reduction in stock of gold and reserves of foreign currency etc.)

Total Receipts Total Payments

An Example

Let us consider the following hypothetical situation:

• Export of goods Rs. 550 Crore• Import of goods Rs. 650 Crore• Export of services Rs. 150 Crore• Import of services Rs. 70 Crore• Unrequited receipts Rs. 100 Crore• Unrequited payments Rs. 80 Crore• Capital receipts Rs. 200 Crore• Capital payments Rs. 200 Crore.

Balance Of Payment Account

Credits

• Current A/c:1)Export of goods 5502)Export of services 1503)Unrequited receipts 100

• Capital A/c:1)Capital receipts 200

Total receipts 1000

Debits

• Current A/c:1)Import of goods 6502)Import of services 703)Unrequited payments 80

• Capital A/c:1)Capital payments 200

Total payments 1000

EQUILIBRIUM IN BOP ACCOUNTS

Total receipts equals total payments arising out of transfer of

– Goods and services– Other transactions

These transactions are classified as:-– Autonomous transactions– Induced transactions or Accommodating

capital flows

• In the current account autonomous transactions are the export and import of goods and services

• When export is not equal to import, short run capital movements such as international borrowing and lending take place, which are called induced or accommodating transactions

• In the capital account the export and import of long term capital are autonomous transactions

• The short term capital movements viz. gold movements and accommodating capital movements on account of autonomous transactions are induced transactions.

Example of Autonomous and Accommodating transactions

Credits • Current A/c Autonomous transactions

1.Export of goods 5502.Export of services 1503.Unrequited receipts

Gifts 75Indemnity 25

• Capital A/cAccommodating transactions

1.Borrowings 200Receipts 1000

Debits

• Current A/cAutonomous transactions

1. Import of goods 8002. Import of services 503.Unrequited payments

Gifts 20Remittance 60

• Capital A/cAccommodating transactions

1. Lending 70 Payments 1000

Disequilibrium

• Total receipts and total payments inequality shows disequilibrium of balance of payments account

• Total receipt and payment arising from autonomous transactions determine the deficit or surplus in the balance of payments

• If payments>receipts, BOP shows Deficit• If payments<receipts, BOP shows Surplus

CAUSES OF DISEQUILIBRIUM

• Increase in imports

• Slow progress in exports

• Burden of interest payments

• International developments

• Deficit in capital account

Corrective Measures• Devaluation• Export promotion• Import restrictions• Import substitution• Government intervention• Supply of credit• Special treatment to NRIs• Announcement of trade policies• Foreign aid• Improvements in production efficiency

BOP Adjustments

• INDIRECT MEASURES Income measures

Fiscal Policy

Monetary Policy

Price measures

• DIRECT MEASURE Exchange control

Variations in India’s deficit position

• 1991-1995:- Equal growth of exports & imports• 1995-1999:- Growth of imports & stagnation of

exports(widening of trade deficits)• 1999-2000:- Exports recovered while imports

surged(continued rise in trade deficits)• 2000-2001:- Rise in exports & stagnation of

imports(normal level of trade deficit)• 2001 Onwards – Exports rising, but still deficit

India’s current BOP position

• Remained comfortable during 2007-08

• Increase in net inflows by FIIs

• Increase in FDI inflows

• Increase in net surplus

Capital Account ConvertibilityIn India, Foreign exchange transactions in foreign currencies are broadly classified into two accounts :-

Current Account Transactions Capital Account Transactions

Components Transactions which gives rise or spends national income.Merchandise /Invisible export & Imports .

Short Term Capital transactionsLong Term Capital transactions

Examples Import of refrigerator

Export Of SoftwareExport of steel

Sending money to a child studying in United States .

Capital Inflows :Indian company taking loan from US bank .Foreign investment in India (FDI)Capital Outflows:Indian Companies buying assets abroad. Ex- Tata for Corus Steel

ConvertibilityConvertibility Aspect of Current Account

India has “Current Account convertibility” which means that we are free to buy foreign exchange for importing goods, in other words rupee is fully convertible on current account .

Convertibility Aspect of Capital Account

Today the rupee is not fully convertible on capital account as there exists restriction on the money that comes in India or that goes out to buy assets abroad .

CAC is desirable due to following reasons :- Reduction in Cost of Capital.

Diversify Portfolios Internationally.

Induces Competition against Indian Finance

Reduce size of black economy

Dangers of CAC

Huge Inflow and Enormous Outflow.

Misallocation of Capital inflows.

Export of domestic savings.

Creation of an unequal playing field.