Balance of Payment
This article deals with ‘Balance of Payment.’ This is part of our series on ‘Economics’ which is important pillar of GS-3 syllabus . For more articles , you can click here .
- Balance of Payment is the summary / account sheet made by central bank of the country that shows the cash flow between residents of a country with the rest of the world for a specified time period typically a year.
- When a payment is received from a foreign country, it is a credit transaction while a payment to a foreign country is a debit transaction.
- Format is decided by the IMF and all data is presented in $s for the comparison sake .
- If Balance of Payment of all countries are added answer will be zero ( credit of one nation becomes debit of other) .
Components of Balance of Payment
Balance of Payment is made up of two parts: Current Account and Capital Account.
|Current Account||Current Account is the record of trade in goods and services, transfer of income (in the form of profit, interest and dividend) and transfer payments.|
|Capital Account||Capital Account records all international transactions of assets. An asset is any one of the forms in which wealth can be held, for example : money, stocks, bonds, Government debt, etc.|
Part 1 : Current Account
Visible Part and Balance of Trade (BoT)
- Movements of goods (export and import) is also known as ‘visible trade’, because the movement of goods between countries can be seen by eyes and can be verified physically by custom authorities of a country .
- Balance of Trade is the difference between export & import of goods (from Current part, considering visible part i.e. goods only) .
- India is always trade deficit because Indian imports are always more than exports.
- For 2018-19, Indian Balance of Trade was deficit to the tune of $ 180 billion.
|Export (+)||$330 bn|
|Balance of Trade||(-) $180 bn|
Imports & Exports of Goods
Both Imports and Exports of India have increased (showing growth)
- India’s exports have increased
- Imports have increased (but increased more than exports)
- Hence, Balance of Trade has increased (More deficit)
|Major Exports||1. Petroleum Products (14% of all exports) |
2. Pearl, Precious & Semi-Precious Stones
3. Drug and Biologicals
4. Gold and other precious metal Jewellery
5. Iron and steel
|Major Imports||1. Petroleum: Crude (22% of all imports) |
2. Gold (6% of all imports)
3. Pearl, Precious, Semi-Precious Stones
4. Petroleum Products
5. Coal and Coke
- Merchandise Exports from India Scheme (MEIS)
- Under this scheme, tax credit is given to the exporters of goods, which they can use for paying Union’s Customs Duty.
- Remission of Duties and Taxes on Exported Products (RoDTEP)
- This scheme will replace MEIS as MEIS was declared against WTO obligations and also due to the shortcoming that MEIS tax credits can be used to settle Customs Duty only.
- Under RoDTEP, tax credit earned by the merchant can be used to settle (1) Customs Duty , (2) excise duty and VAT on export of fuel , (3) electricity duty on export of electricity and APMC Mandi fees on export of agricultural raw material.
Steps to improve Export Competitiveness of India
Some suggestions from Economic Surveys of recent years is as follows
|Change in mindset||– Don’t produce what you can produce => Produce what world wants from you.|
|Logistics||– Improve logistics to improve exports .|
|Fix Inverted Duty Structure||– Fix the anomalies in Inverted Duty Structure because Indian companies suffer due to this .|
|Sign FTAs||– India should sign FTAs with as many nations as possible .|
|Currency Rate||– India should make sure that ₹ is not overvalued . |
– Most of times, it has been observed that REER is greater than 100 and as a result of over valuation of ₹, Indian exports become expensive compared to our competitors like Vietnam and Bangladesh
|Promote Make in India||– Make strong industrial base . Export oriented manufacturing should be encouraged (like China)|
|Combine Assemble in India with MII||– ‘Assemble in India for the world’ should be integrated into the ‘Make in India’. By doing so, India can raise its export market share to about 3.5 per cent by 2025 and 6 per cent by 2030.|
|Use GI Tags||– Export products like Darjeeling Tea, Basmati rice etc.|
|Other suggestions||– Agri – export policy not stable(to combat price rise govt ban export of onion, pulses etc. at any time ) . |
– SEZ potential not utilised
Invisible Part & Balance of Invisibles
- Balance of Invisibles is the difference between export & import of invisibles i.e. Services, Income and Transfers.
- Balance of Invisibles is positive for India .
- After Subprime Crisis, Service exports were decreasing but they have recovered now .
- India’s Net Services are positive .
|Export (services)||$208 bn|
|Import (services)||$126 bn|
|Balance||(+) $ 82 bn|
- Note – Trade In Goods and Services (combined) is negative because Trade Deficit is much larger than Surplus in Services.
- Major exports and imports of India in services are
|Exported Services||1. Software , IT and BPO services (40% of all service exports) |
2. Business Services (like consultancy, product design and clinical trials)
3. Travel tourism
|Imported Services||1. Business Services (like digital advertisements) |
2. Foreign Travel
3. Cargo Transport Services
Service Export from India Scheme (SEIS)
- To increase export of Services from India government introduced this scheme.
- Under this, for export of Services worth every $ 100, Commerce Ministry transfers $ 5 in Scrip Wallet of that firm. That balance can be used for paying tax liabilities.
- Income consists of profit earned by FDIs, interest on loans & dividend earned by investors .
- It has to be noted that , whenever foreign investor invests in any country , he will get back dividend (in case of equity) or interest (in case of debt) or profit (in case company like Amazon doing FDI in India). These incomes are counted in Current Account.
- In 2018-19, India was witnessed deficit of $ 28 billion in income.
3 . Transfer
- It include
- Remittances (send to India by Indians living abroad and by foreigners living in India to their native countries (e.g. Nepal)
- According to World Banks Remittance Report, India receives largest amount of remittance (of about $80bn) followed by (2) China (67) , (3) Mexico, (4) Philippines and (5) Egypt.
- In 2018-19, there was surplus of $70 billion in this account.
Current Account of India (Final Stats)
- Current Account is in balance when receipts on current account are equal to the payments on the current account. A surplus current account means that the nation is a lender to other countries and a deficit current account means that the nation is a borrower from other countries.
- India generally has DEFICIT CURRENT ACCOUNT . In 2018-19, India’s Current Account Deficit was that of $57 billion or 2.1% of GDP.
- Note : From 2001-04, India had Current Account Surplus because, Indian exports to western economies were booming especially in wake of BPO revolution in India.
Trend in Previous Years
- 2015-16 : 0.6% of GDP
- 2016-17 : 1.8% of GDP
- 2017-18 : 2.5% of GDP
- 2018-19 : 2.1% of GDP
=> Deteriorating but still manageable
Current Account Deficit is not considered good
- If CAD increases, Currency weakens.
- For country like India , which has high imports, it increases the cost of imports impacting economy negatively.
Side Topic : Major Importers and Exporters of India
|Importers of Indian Products||1. USA (16% of India exports are send to USA) |
2. United Arab Emirates
4. Hong Kong
|Exporters to India||1. China (14% of all Indian imports are from China) |
3. United Arab Emirates
4. Saudi Arab
It has to be noted that
- India has large Trade Deficit with China , Saudi Arabia, Iraq, Germany, South Korea , Switzerland and Indonesia .
- India has Trade Surplus with USA and UAE consistently since 2014–15. On the other hand, India has trade deficit continuously since 2014–15.
- India had trade surplus with Hong Kong and Singapore till 2017–18, before it changed to trade deficit in 2018–19.
Related Topic : Import of Oil
- India is the 2nd largest gold
importer of world( 1st = China) .India imports gold from following destinations
- South Africa
- Due to cultural factors, Indians have high obsession of gold . As most of the gold in India is imported, this leads to high current account deficit and weakening of ₹ against $.
- Along with that , high usage of gold results in following vicious cycle
Steps taken by Government to reduce gold imports
- To control
imports of gold, Government has taken various measures
- Inflation Indexed Bonds : During period of high inflation , people invest in Gold because other investments give real negative interest rate. Interest Rates of Inflation Index Bonds are pegged with Inflation .
- Custom Duty on Gold was hiked .
- 80:20 Rule : 20% of imported Gold must be exported after adding value to it.
- Various Schemes like Gold Monetisation Scheme, Sovereign Gold Bond Scheme and Indian Gold Coin have been started by the government.
Other Issue : There is issue of Quality Control on Gold bought by common people. For this Indian Government Mint + BARC + CSIR + National Physical Lab collaborated to launch its own reference standard called Bharatiya Nirdeshak Dravya (2017) . It is a gold bar with 99.99% purity .
Detail of Gold Schemes
1 . Gold Monetisation Scheme (GMS)
- GMS will offer option to resident Indians to deposit their precious metal and earn an interest on it (upto 2.5%) .
- But that Gold will be melted to Gold Coins and Bars for valuation .
- All residents can invest in this scheme but are subjected to KYC Norms & have to disclose source of the Gold .
- Deposit limit: Minimum deposit at any one time is 30 grams with 995 fineness. There is no maximum limit for the deposit.
- Tenure and interest rate:
- Short Term of Bank Deposit (STBD) of 1-3 years : 2.25% interest
- Medium (5-7 years) : 2.5% interest
- Long (12-15 years) : 2.5 % interest
- Upon maturity you can redeem deposit in the form of gold or cash equivalent.
2. Sovereign Gold Bond Scheme
- This scheme seeks to shift part of physical gold in form of bars and coins for investment into Demat (Dematerialised) gold bonds in order to reduce the demand for physical gold.
- These gold bonds are interest giving (upto 2.75% interest) . On the redemption date you get the principal equivalent of the latest price of gold in grams. So, if gold price increased then you get more profit.
- Minimum investment: 2 grams of physical gold; Maximum investment: 500 grams with lock-in period of 5 years .
- Tenure of Gold bonds: 8 years is the maximum tenure. But there is exit option from 5th year .
- These Bonds are tradable and exchangeable .
3. Indian Gold Coin
- It is the India’s first ever Indian gold coin and bullion to be officially issued by Union Government.
- Denominations: The coins will be available in denominations of 5 and 10 grams and a 20 gram bullion.
- These coins and bullion can be easily liquidated.
Related Topic : SEZ (Special Economic Zones)
|1965||Export Processing Zone(EPZ) opened in Kandla —> India first in Asia to do so|
|2000||First SEZ announced with view to attract larger foreign investment .|
|2005||SEZ Act was passed by Parliament .|
|2018||Baba Kalyani Report on SEZs .|
|2020||Currently, more than 400 SEZs have been approved by the government and more than 230 have been operational.|
- Duty free enclaves i.e. treated as foreign territories for purpose of trade as far as duties & tariffs are concerned.
- No requirement of license for imports .
- Units must become net foreign exchange earner within 3 years .
- They are subjected to
full custom duty (
excise duty)& import policy when they sell their produce to domestic market.
- FDI = 100% FDI allowed through automatic route.
- Examples : DLF Cybercity (Haryana), Kandla (Gujarat) and Vishakhapatnam (Andhra Pradesh)
Main Objectives of SEZ
- Generation of additional economic activity.
- Promotion of exports of goods & services .
- Promotion of investment from domestic and foreign sources
- Creation of employment opportunities.
- Development of Infrastructure facilities.
Failed SEZ policy & reasons
|Lack of clarity in policy||– Number of changes done at frequent intervals .|
– Hence, there is lack of stability in policy .
|Virtually no Income tax benefits now||The income tax benefits were neutralized by the introduction of the 20% minimum alternate tax (MAT) and the 20% dividend distribution tax (DDT) in 2011-12. |
|Wrong location||– India choose wrong locations for SEZ. In China, most of the SEZs are located on coastal areas. Eg : Shenzhen . |
– On the other hand, in India, many SEZs are located in the interior parts such as Haryana . Even in some costal states such as Tamil Nadu, SEZs are not located on coasts.
|Free Trade Agreements||SEZs have access to duty-free imports of manufacturing inputs because technically they are considered to be outside of the country’s domestic tariff area. But, with India signing free-trade agreements with countries where duties on many products are eliminated or reduced substantially, the advantage accruing to SEZs was negated. |
|Absence of complementary infrastructure|| Absence of complementary infrastructure like port connectivity via roads or railway lines . |
|WTO – Counterveiling duty||Tax incentives provided inside SEZ are considered against WTO principles by other nations and they impose Countervailing duty on products coming from Indian SEZs . |
|Custom duty on sending product for domestic market||Today, it is better for you to manufacture in Thailand and get duty-free access to India than to manufacture in an Indian SEZ and face import duty barrier. This is a huge deterrent to Make in India. May be we should be signing an FTA with all the SEZs first. |
|Land Acquisitions||– 500 Acre for Multisector and 50 Acre for Single Sector is difficult to acquire . |
– Land Acquisition is one of the major hurdles.
|Labour Laws||– Labour laws inside SEZs are equally harsh as mainland . |
– They can’t fire workers easily and Industrial Dispute Act (IDA) applies if company is employing more than 100 workers .
Why SEZs in China are doing better than Indian SEZs?
The SEZ model in India was inspired by China’s SEZs which were critical instruments of its export-led growth. Reasons for better functioning of SEZs in China are
- Location: Located close to ports from where it can export easily .
- Size: China’s zones are not many in number but they are huge in size. Hainan, a province in china is one complete SEZ, which covers an area of 33,000 sq. km. India has SEZs which are barely 500 -1000 ha in size.
- Laws: China’s has amazingly business friendly laws. Corporates need to give only one month’s notice to an employee before firing him. Contrast that to India, where you need to follow a lengthy procedure to fire an employee if your company has more than 100 employees.
- In China the thrust of SEZs has been to attract foreign investments and modern technology, in India the emphasis has been on exports.
Way forward to improve them
- SEZs should be allowed to sell within the country without payment of customs duty on the product.
- Abolition of MAT and DDT (Dividend Distribution Tax).
- Providing relaxed labour laws there .
- Fiscal incentives need to be carefully designed so that it doesn’t violate WTO rules
Baba Kalyani Report on SEZ (2018)
- Instead of giving them blanket general tax holiday, SEZ units should be given tax benefits linked to how many jobs have been created , how much FDI investment attracted , how much goods/ services exported etc. .
- SEZs should be converted to Employment and Economic Enclaves (3E) .
- Encourage Domestic Electronics Companies in 3Es so that we can end Chinese monopoly in Indian electronics market.
- Synergise SEZs with CEZs, DMIC, NIMZ , Mega Food Parks etc. .
- Improve connectivity to SEZs .
Related Topic : Foreign Trade Policy, 2015
- Made under Foreign Trade Development & Regulation Act,1992 .
- Powers are vested in Director General of Foreign Policy (DGFP) under Commerce Ministry.
- This policy is applicable from 2015-2020 .
|Year||Export (US billions.)||World Share in Export|
What will be done
- Provide Tax Credits for Exporters by starting two new schemes i.e. MEIS (Merchandise Exports from India Scheme) & SEIS (Service) .
- Make Towns of Export Excellence and give them funds for developing infrastructure export (like warehouses, transportation , Packaging etc) .
- Start e-Governance Initiatives for Single Window Clearance to Exporters .
- Recognised region-wise opportunities for Indian Exports where Indian exporters will be encouraged to export. Eg : Tea to CIS, Project Loans to South America etc .
- Signing more Free Trade Agreements (FTAs).
- By promoting Make in India (& Assemble in India).
But exports decreased after 2013
- 2016 : 210 Billion $
- 2020 : Corona epidemic has hit the world economy and exports have fallen exponentially.
Part 2 : Capital Account
Investment – FDI & FPI
What constitutes Foreign Direct Investment (FDI) ?
- There was no clarity on this .Hence, Government constituted Arvind Mayaram Panel to clear the air .
- According to Arvind Mayaram Panel, more than 10% equity investment made by a foreign entity into an Indian company, with the objective to get involved in the management of that Indian company is known as FDI.
- E. g. : Walmart of USA having 77% stakes in Flipkart .
What constitutes Foreign Portfolio Investors (FPI) ?
- It is a foreign entity registered with SEBI and can have upto 10% in equity of an Indian Company.
- FPIs are not involved in the management of a company. Their primary motive is to earn profit by buying and selling of shares.
- Note : Till 2019, summation of all the FPIs in a company couldn’t exceed 24%. But in 2019 Budget, 24% cap was removed.
Sector-wise Foreign Investment (FDI + FPI) Limit
Note – List is not exhaustive and it keeps on changing frequently. For latest limits , please cross-check government sources as well
|100% FDI allowed||1. Single Brand Retail |
2. E-commerce (marketplace model)
3. Defence Industry
4. Railway Infrastructure (Construction, operation and maintenance)
5. Industrial Parks
6. Telecom services
7. Pharma Companies
8. Contract manufacturing
9. Asset Reconstruction Company (ARC)
10. Floriculture, Horticulture, and Cultivation of Vegetables
11. Animal Husbandry, Pisciculture, Aquaculture, Apiculture
12. Plantation : Only in plantations of Tea, Coffee , Rubber , Cardamom , Palm oil and Olive oil tree plantations
13. Airports (both Greenfield and Brownfield projects)
14. Air Transport Services
15. Maintenance and Repair in air transport
16. Mining and Exploration of metal and non-metal ores
17. Coal and lignite
18. Exploration activities of oil and natural gas fields
19. DTH and Cable Networks
20. Non-news channels
|74%||1. Private Banks |
2. Private Security Agencies
|51%||1. Multi Brand Retail Trading|
|49%||1. Insurance Company |
2. Pension Sector Companies
3. Power Exchanges
4. FM and News channels
|26%||1. Digital Media |
2. Newspapers and periodicals
|20%||1. Public Sector Banks|
|Prohibited||1. E-commerce ( inventory based model ) |
2. Atomic energy
3. Railway operations (except Metro)
4. Tobacco Products like cigars , cigarillos and cigarettes
5. Real Estate Business and Farm Houses
6. Chit Funds and Nidhi Companies
7. Betting , Gambling, Casino & Lottery.
Foreign Investment Promotion Board (FIPB)
- Foreign Investment is
permitted either through:
- Automatic Route: i.e. Foreign entity doesn’t require Indian Government’s approval.
- Government Route: i.e. Approval of Government is required prior to investment
- Earlier, this approval was given by FIPB.
- But, Budget 2017 removed this Board in order to promote Ease of Doing Business in India by removing Red-Tapism in bureaucratic decision making and reducing the time for mergers and acquisitions.
- Now , Government approval is given by the Commerce Ministry after consultation with subject ministry.
FDI in India
- Sector Wise
- Computer Hardware & Software
- State Wise
- A state-wise analysis of FDI inflows to different Indian states shows a clear regional disparity in FDI inflows . Delhi, Haryana, Maharashtra, Karnataka, Tamil Nadu, Gujarat and Andhra Pradesh have together attracted more than 70 % of total FDI inflows to India during the last 15 years.
- However, states with vast natural resources like Jharkhand, Bihar, Madhya Pradesh, Chhattisgarh and Odisha have not been able to attract foreign funds directly for investment in different sectors.
Gist – What government has done to attract FDI ?
- Abolished FIPB .
- Number of sectors have been opened for FDI , including defence, construction, broadcasting, civil aviation etc.
- Investor Facilitation Cell has been created under Invest India Program to guide , assist & handhold investors .
- For some countries like Japan, special program like Japan Plus has been started.
- Insolvency and Bankruptcy Code passed.
FDI & FPI Trends in India (2018-19)
|FDI||FDI was positive (+ 30 billion) i.e. FDI came in India .|
|FPI|| FPI was negative (-0.6 billion) i.e. FPI went out of India . |
(Overall, since FPI is very volatile, so it increases or decreases rapidly)
In loans, we are +ive
- Private External Commercial Borrowing is more than Sovereign foreign debt .
- In 2018-19, Indian net foreign loans were (+) $ 16 billion .
Such loans are beneficial during good times as borrower could enjoy the benefits like lower interest rates, longer maturity, and capital gains . But sharp depreciation in local currency would mean corresponding increase in debt service liability, as more domestic currency would be required to buy the same amount of foreign exchange.
Composition of Indian Debt
|Tenure Wise||Long Term (79.6%) more than Short Term (20.4%)|
|Sector Wise||Private Sector (80%) more than Public Sector (20%)|
|Currency Wise||Dollar (49.5%) > ₹ denominated (37.2%) > SDR (5.6%) > Yen (4.3%) > Euro (3.1%)|
International Debt Statistics
- It is issued by World Bank .
- India has been classified as less vulnerable nation in that .
Capital has two components
- FCNR Deposits of NRIs (+ive)
- General (+ive)
- India’s Banking Capital account was (+) $ 7 billion in 2018-19.
- Foreign Currency Non-Resident Deposits
- NRIs can deposit their $ (or other foreign currency) in Indian Banks via FCNR Accounts.
- Interest to be paid on FCNR deposits is tied up with LIBOR (London Interbank Offered Rate) .
- India’s Capital Account is Surplus.
- For 2018-19, the Surplus was $54 billion.
Balance of Payment condition of India
The outcome of the total transactions of an economy with the outside world in one year is known as the balance of payment (BoP) of the economy. Basically, it is the net outcome of the current and capital accounts of an economy.
BoP can be positive or negative. However, negative BoP doesn’t mean that it is unfavourable for economy until the economy has the means to fill the gap with help of it’s forex reserves.
|Positive BoP||If BoP is positive at the end of the year, the money is automatically transferred to the foreign exchange reserves of the economy.|
|Negative BoP|| – If BoP is negative at the end of the year, the foreign exchange is drawn from the country’s forex reserves of the economy. |
– If the forex reserves are not capable of fulfilling the negativity created by the BoP, it is known as a BoP crisis . India faced such situation in 1991 when India was forced to take forex help from the IMF.
India’s BoP position (for 2018-19)
- For 2018-19, India Balance of Payment was negative i.e. -3 billion .
- But India has forex reserves of more than $ 460 billion. Hence, India faced no problem in bridging the gap.