Components of the current account of the balance of payments: trade in goods

International Trade and Globalisation – Current Account of the Balance of Payments

Learning Objective

Identify and explain the components of the current account of the balance of payments, with particular focus on trade in goods.

1. The Current Account – Overview

The current account records all transactions that involve the export or import of goods and services, as well as income flows and transfers between residents and non‑residents. It reflects a country’s net earnings from abroad.

2. Components of the Current Account

• Trade in goods (exports and imports of physical products)
• Trade in services (tourism, banking, insurance, etc.)
• Primary income (investment income such as dividends and interest)
• Secondary income (unilateral transfers such as remittances and foreign aid)

3. Trade in Goods – Definition

Trade in goods refers to the physical movement of merchandise across a country’s borders. It includes:

• Exports of goods – goods produced domestically and sold to foreign buyers.
• Imports of goods – goods produced abroad and purchased by domestic residents.

4. Why Trade in Goods Matters

1. Source of foreign exchange – Export earnings provide the foreign currency needed to pay for imports and service external debt.
2. Indicator of economic health – A surplus (exports > imports) suggests competitive industries, while a deficit may signal reliance on foreign production.
3. Policy relevance – Governments may use tariffs, quotas, or subsidies to influence the balance of trade.

5. Calculating the Trade in Goods Balance

The net balance on goods is calculated as:

\$\text{Trade in Goods Balance} = \text{Exports of Goods} - \text{Imports of Goods}\$

6. Example – Numerical Illustration

7. Trade in Goods within the Full Current Account Formula

The overall current account can be expressed as:

\$\text{Current Account} = (Xg + Xs + Ir + Tr) - (Mg + Ms + Ip + Tp)\$

where:

• \$X_g\$ = Exports of goods
• \$M_g\$ = Imports of goods
• \$X_s\$ = Exports of services
• \$M_s\$ = Imports of services
• \$I_r\$ = Primary income received
• \$I_p\$ = Primary income paid
• \$T_r\$ = Secondary income received
• \$T_p\$ = Secondary income paid

8. Factors Influencing Trade in Goods

• Exchange rates – A weaker domestic currency makes exports cheaper and imports more expensive, potentially improving the goods balance.
• Domestic productivity – Higher productivity lowers production costs, enhancing export competitiveness.
• Trade policies – Tariffs raise the price of imports; subsidies lower export prices.
• Global demand – Economic conditions in trading partners affect export volumes.
• Transport and logistics – Efficient shipping reduces costs and can boost trade volumes.

9. Implications of a Surplus or Deficit in Trade in Goods

Surplus (exports > imports):

• Increases foreign exchange reserves.
• May lead to currency appreciation.
• Can be a sign of competitive domestic industries.

Deficit (imports > exports):

• Requires financing through capital inflows or borrowing.
• Can cause depreciation of the domestic currency.
• May indicate dependence on foreign production.

10. Revision Checklist

1. Define the current account and list its four components.
2. Explain what is meant by “trade in goods”.
3. Write the formula for the trade‑in‑goods balance and for the full current account.
4. Identify at least three factors that affect a country’s trade in goods.
5. Describe the economic consequences of a goods‑trade surplus and a goods‑trade deficit.