What is Equilibrium and Disequilibrium in Balance of Payments?

Equilibrium in the balance of payments refers to a situation where a country’s total payments for imports of goods and services, and capital outflows, are equal to its total receipts from exports of goods and services and capital inflows. In other words, there is a balance between the country’s outflows and inflows of foreign currency.

Disequilibrium in the balance of payments, on the other hand, refers to a situation where a country’s payments for imports of goods and services, and capital outflows, are greater than its receipts from exports of goods and services and capital inflows.

equilibrium and disequilibrium in balance of payments
equilibrium and disequilibrium in balance of payments

This results in a deficit in the balance of payments, which means the country is spending more foreign currency than it is earning. Alternatively, a surplus in the balance of payments occurs when a country’s receipts from exports of goods and services, and capital inflows, are greater than its payments for imports of goods and services and capital outflows.

This means the country is earning more foreign currency than it is spending.

A balance of payments surplus or deficit can have significant economic consequences for a country.

For example, a persistent current account deficit can lead to a decline in foreign exchange reserves, currency depreciation, and inflation, while a persistent current account surplus can lead to an accumulation of foreign exchange reserves and appreciation of the currency.

Similarly, a capital account deficit can lead to a decrease in foreign investment and a reliance on borrowing, while a capital account surplus can lead to an increase in foreign investment and a decrease in borrowing.

Understanding Equilibrium and Disequilibrium in Balance of Payments: How International Transactions Affect a Country’s Economy

In short, a balance of payments may be thought of as a balance scale with every addition on one side necessity and the addition of others to keep it in equilibrium.

Thus, there can be no disequilibrium in the balance of payments as a whole.

However, while a nation’s International accounts must always balance their accounts need to be in equilibrium.

Say- if a country’s Balance of payments was a Debit balance in Merchandise and service accounts (on the current account side), it’s a credit balance in other accounts (on the capital account side) that must be sufficiently large so that the total debits equal total credits.

That is to say, when a country has a Debit balance on the current account, It is either importing capital in the long or short term or it is exporting Gold, or it is receiving donations from foreigners and thereby its credit in the current account is extended to the extent of debt in the current account.

In a functional Sense, Thus, There may be disequilibrium in the balance of payments of a country.

Operationally, a country at a time may be receiving more payments from abroad than it has to make.

Thus, when total receipts exceed total payments, there is a surplus balance of payments, which is regarded as “ A Favourable Balance,” Sometimes a country has to make more payments abroad than what it receives.

Then, there is a deficit in its balance of payments, it is regarded as an “Unfavorable balance”.

Hence, the unusual analytical approach to the balance of payments is to consider it as the difference between receipts from payments to foreigners by the residents of a country.

Symbolically thus, the balance of payments may be defined as:

B = R – P

Where:

  • B stands for the balance of payments
  • R stands for a receipt from foreigners, and
  • P stands for payments made to foreigners

Clearly, thus, when B is zero, the balance of payments can be regarded as an Equilibrium Balance of Payments.

That is to say, a country’s balance of payments may be said to be in equilibrium when its receipts are equal to its payment on account of its transactions with other countries of the world.

Such a country with an equilibrium Balance of payments is often called a country with an “External Balance”.

However, a country’s BOP is said to be ‘Favourable’ or ‘Surplus’ When the total receipts from the rest of the world exceed the total payments to the rest of the world.

Symbolically, When the B is positive, it is called a Favourable balance of payments.

On the other hand, if the country’s receipts from foreigners fall short of its payments to foreigners, its balance of payments is said to be “Unfavourable” or “Adverse BOP”.

A country whose balance of payments is and the surplus is often referred to as a “Surplus” country.

Similarly, when the balance of payments, is in “Deficit” or “Adverse”, it is called a “Deficit” country.

Prof Triffin has defined disequilibrium in the balance of payments as “maladjustment in a country’s economy so Grave and persistent that the Restoration of maintenance of satisfactory levels of domestic activity, employment and income should prove incompatible with equilibrium in the balance of payments, If not accompanied by extraordinary measures of external defences, such as a change in the exchange rates, increased tariff or exchange control protection etc.

Briefly, thus, the phenomenon of disequilibrium (deficit or surplus) in the balance of payments is viewed from the balance of transactions on the current account as such.

A disequilibrium, surplus or deficit in this sense shows the strengthening or weakening of a country’s external capital position which is measured by the balance of its External Assets to liabilities.

In summary, equilibrium in the balance of payments occurs when a country’s total payments and total receipts are equal, while disequilibrium occurs when there is a deficit or surplus in the balance of payments.

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