Balance of Payments — A-Level Economics Revision

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What is Balance of Payments?

The balance of payments is a record of all financial transactions between one country and the rest of the world over a period of time. It is split into three main accounts: the current account (trade in goods and services, investment income, and transfers), the capital account (transfers of non-financial assets), and the financial account (investment flows). In theory, the balance of payments should always balance to zero.

Board notes: Covered by all A-Level boards (AQA, Edexcel, OCR). All boards expect students to understand the structure of the balance of payments and the causes and consequences of current account imbalances. Edexcel and AQA often focus on the policy options for correcting a deficit and the potential conflicts with other macroeconomic objectives. OCR places emphasis on the sustainability of a current account deficit.

Worked example

Common mistakes

• 1Confusing the balance of trade with the current account. The balance of trade (visible balance) only includes trade in goods. The current account is much broader, also including trade in services (invisible balance), as well as primary and secondary income (investment income and transfers).
• 2Thinking that a current account deficit is financed by the government. A current account deficit means a country is spending more on imports than it earns from exports. This deficit must be financed by a surplus on the financial account, meaning the country is attracting net inflows of foreign investment or borrowing from abroad.
• 3Assuming a current account surplus is always a good thing. While it shows a country is a net lender to the rest of the world, a persistent surplus could indicate weak domestic demand and an over-reliance on exports for growth, making the economy vulnerable to global downturns.

Balance of Payments exam questions

Exam-style questions for Balance of Payments with mark-scheme style solutions and timing practice. Aligned to AQA, Edexcel and OCR specifications.

Frequently asked questions

• What are the main causes of a current account deficit?

  A current account deficit can be caused by a high propensity to import due to strong domestic growth, a lack of international competitiveness leading to weak export performance, or a high exchange rate which makes imports cheaper and exports more expensive.

• How can a government reduce a current account deficit?

  Policies to reduce a deficit include expenditure-switching policies (e.g., protectionism or devaluing the currency to make imports more expensive and exports cheaper) and expenditure-reducing policies (e.g., contractionary fiscal or monetary policy to lower domestic demand for imports).