CBSE Class 12 Economics Balance Of Payment Worksheet

CBSE Class 12 Economics Worksheet - Balance Of Payment. CBSE issues sample papers every year for students for class 12 board exams. Students should solve the CBSE issued sample papers to understand the pattern of the question paper which will come in class 12 board exams this year. The sample papers have been provided with marking scheme. It’s always recommended to practice as many CBSE sample papers as possible before the board examinations. Sample papers should be always practiced in examination condition at home or school and the student should show the answers to teachers for checking or compare with the answers provided. Students can download the sample papers in pdf format free and score better marks in examinations. Refer to other links too for latest sample papers.

TOPIC – BALANCE OF PAYMENT

Important Questions for Class 12 Economics Balance of Payments

Question. Explain the components of capital A/c of BOP.
Answer: 
1. Borrowings from and to abroad: It includes borrowings from abroad or lending to abroad by private and government sector. Receipts of loan from abroad and repayment of loan by foreigners are recorded on credit side. But, lending to abroad and repayment of loan to foreigners are recorded on debit side.
2. Investment from and to abroad: There are two types of investment: –
a. Direct investment- In this investment, purchaser acquire direct control over the assets.
Eg., Purchase of office in abroad.
b. Portfolio investment- In this investment, purchaser gets the ownership but does not get direct control over the assets.
Eg., Purchase of equity share of a foreign company.
All the transactions of investment from abroad which cause inflows foreign exchange are recorded on credit side but transactions of investment to abroad which cause outflows of foreign exchange are recorded on debit side.
3. Change in foreign exchange reserve: Central bank may also use stock of foreign exchange reserve to finance BOP A/c. Any withdrawal from foreign exchange reserve will be recorded on credit side of BOP A/c and any deposits into foreign exchange reserve will be recorded on debit side of BOP A/c.

Question. Distinguish between Balance of Trade(BOT) and BOP.
Answer: Balance of trade: It is the difference between exports and imports of goods of a nation during a year.
Balance of payment: It is a systematical record of all the international transactions of a nation during a year.
BOP is a wider concept than BOT. Their difference is given as below.

Question. What are the causes for disequilibrium in BOP?
Answer: Disequilibrium (surplus or deficit) in BOP is caused by following reasons: –
1. Economic factors:
a. Development activities- Developing countries like India has to import machinery, technology, etc. on large scale. So, their payment to abroad cause deficit in BOP.
b. Inflation- If there is rapid increase domestic price level, then foreign product became relatively cheaper, it will increase imports and decrease exports which results deficit in BOP.
c. Cyclic fluctuation- If there is boom phase in a country and domestic producer are not able to meet domestic demand. So, it will increase imports which will increase deficit in BOP.
2. Political factors- Disequilibrium in BOP is also affected by political factors. Political instability and disturbance in an economy discourage inflow of capital and encourage outflow of capital. So, it also causes deficit in BOP.
3. Social factors: Surplus or deficit in BOP is also caused by change in social factors like taste, fashion, etc.

Question. What are the components of BOP A/c?
Answer: 1. Exports and imports of goods: It records all the transactions of inflow and outflow of foreign exchange as a result of exports and imports of visible items i.e. goods like machines, clothing, crude oil, etc.
2. Import and export of services: It records all the transactions of inflow and outflow of foreign exchange as a result of exports and imports of invisibles i.e. services like shipping, banking, tourism, etc.
3. Unilateral receipts and payment: It refer to all those unilateral transactions don’t create any claim of repayment against any receipts. It includes gifts, donations, remittances, etc. received from abroad or paid to abroad.
4. Capital receipts and payments: It includes all the transactions of inflow and outflow of foreign exchange resulting from change in assets and liabilities of the normal residents of a country. Eg., Borrowing and lending from abroad, sale and purchase of assets with the foreigners.

Question. Distinguish between current account and capital account of BOP.
Answer: BOP A/c is divided into 2 parts.
1. Current account: It refers to that part of BOP A/c which records all those transactions of inflow and outflow of foreign exchange caused by exports and imports of goods and services and unilateral transactions.
Thus, balance of current account is obtained by the sum of BOT, balance of service and balance of unilateral transfer.
2. Capital account: It refers to that part of BOP A/c which record all those transactions of inflow and outflow of foreign exchange resulting from change in assets and liabilities of normal residents of a country or its government.
It includes borrowings or lending to abroad, investment from and to abroad and change in foreign exchange reserve.

Question. What are accommodating and autonomous items of BOP.
Answer: items of BOP- It refers to those international economic transactions which take place in BOP due to some economic motives like profit maximisation.
So, these transactions are independent of the state of country’s BOP. They are called ‘items above the line’.
Thus, surplus or deficit in BOP is caused by autonomous transactions. If sum of autonomous receipts is more than sum of autonomous payments in BOP, it is called surplus in BOP. If sum of autonomous receipts are less than sum of autonomous payment, it is called deficit in BOP.
Accommodating items refers to those international transactions which take place due to other transactions in BOP. In other words, accommodating transactions take place to correct disequilibrium (surplus or deficit) in BOP. Eg., Government financing.
So, accommodating transactions are determined by the consequence of autonomous transactions of BOP. They are also called ‘items below the line’

Key Points for Class 12 Economics Chapter 6 Open Economy Macroeconomics

Balance of Payment:- It is a systematic record of all economic transactions between the residents of the reporting country and residents of Rest of the World during a given
period of time.
Balance of Trade:- It is a systematic record of transaction of visible items (Export and Import of goods only) between the residents of a reporting country and residents of Rest
of the World during a given period to time.
BOT=Value of exports-Value of imports 

Current Account:- The account records imports and exports of goods and service and unilateral transfer.

Capital Account:- It records all international transactions those involve a resident of domestic country changing his asset with a foreign resident or his liabilities to a foreign resident.

Autonomous Items:-
International economic transactions that take place due to some economic motive such as profit maximization. These items also known as above the line items in the BOP.

Accommodating Items:-
Transactions that occur because of other activity in the BOP such as government financing. These items also known as below line items.

VERY SHORT ANSWER QUESTIONS

Question. Define foreign exchange rate.
Answer: Foreign exchange rate is the rate at which currency of one country can be exchanged for currency of another country.

Question. What do you mean by Foreign Exchange Market?
Answer: The foreign exchange market is the market where international currencies are traded for one another.

Question. What is meant by Fixed Exchange Rate?
Answer: Fixed Rate of exchange is a rate that is fixed and determined by the government of a country and only the government can change it.

Question. What is equilibrium rate of exchange?
Answer: Equilibrium exchange rate occurs when supply of and demand for foreign exchange are equal to each other.

Question. Define flexible exchange rate.
Answer: Flexible rate of exchange is that rate which is determined by the demand and supply of different currencies in the foreign exchange market.

Question. Define Spot exchange rate.
Answer: The spot exchange rate refers to the rate at which foreign currencies are available on the spot.

Question. Define forward market.
Answer: Market for foreign exchange for future delivery is known as the forward market.

Question. What is meant by balance of payments?
Answer: Balance of payments refers to the statement of accounts recording all economic transactions of a given country with the rest of the world.

Question. What do you mean by balance of trade?
Answer: Balance of trade is the difference between the value of imports and exports of only physical goods.

Question. The balance of trade shows a deficit of Rs. 600 crores, the value of exports is Rs.1000 crores. What is value of Imports?
Answer: Balance of Trade = Exports of goods – import of goods
Import of good = Export of goods – (B.O.T)
= 1000- (-600)
= Rs. 1600.

Question. What is the balance of visible items in the balance of payments account called?
Answer: Balance of trade.

Question. List two items of the capital account of BOP account.
Answer: i) external assistance ii) commercial borrowing iii) foreign investment

Question. Which transactions bring balance in the BOP account?
Answer: Accommodating transactions bring balance in the BOP account.

Question. Define autonomous items in BOP.
Answer: Autonomous items in BOP refers to international economic transaction that take place due to some economic motive such as profit maximization.

Question. What is the other name of autonomous items in the BOP?
Answer: The other name of autonomous items in BOP is above the line item.

Question. When does a situation of deficit in BOP arises?
Answer: A situation of deficit in BOP arise when autonomous receipts are less than autonomous payments.

Short Answer Type Questions: 

Question. Why does the demand for foreign exchange rise, when it price falls?
Answer: With a fall in price of foreign exchange , the exchange value of domestic currency increases and that of foreign currency falls. This implies that foreign goods become cheaper and their domestic demand increases. The rising domestic demand for foreign goods implies higher demand for foreign exchange. So there is inverse relationship between price and demand for foreign exchange.

Question. When price of a foreign currency falls, the supply of that foreign currency also fall why?
Answer: When price of a foreign currency falls it makes exports, investment by foreign residents costlier as a result supply of foreign currency falls.

Question. Distinguish between autonomous and accommodating transaction of balance of payment account.
Answer: Autonomous transactions are done for some economic consideration such as profit, such transactions are independent of the state of B.O.P. Accommodating transactions are under taken to cover the deficit/surplus in balance of payments.

Question. Give two examples explain why there is a rise in demand for a foreign currency when its price falls.
Answer: When price of foreign currency falls, imports are cheaper. So, more demand for foreign exchange by importers.
Tourism abroad is promoted as it becomes cheaper. So demand for foreign currency rises.

Question. Distinguish between fixed and flexible foreign exchange rate.
Answer: When foreign exchange rate is fixed by Central Bank/government, it is called fixed exchange rate. When foreign exchange rate is determined by market forces/mechanism, it is flexible exchange rate.

Important Points for Chapter 6 Open Economy Macroeconomics Class 12 Economics

♦ Components of BOP (Balance of Payments) Account : The transactions entering into the balance of payments account can be grouped under three broad accounts :
(i) Current Account
(ii) Capital Account
(iii) Official International Reserve Account

♦ Current Account : Transactions related to trade in goods and services and transfer of payments constitute the current account. The components of current account do not cause a change in assets or liabilities status of the residents of a country or its government.
♦ Items of Current Accounts :
(i) Merchandise account,
(ii) Invisible items, and
(iii) Unilateral transfers.

♦ Capital Accounts : Capital account represents international capital transactions which include sale and purchase of assets such as bonds, equities, lands, loans, bank accounts, etc. The components of capital account cause a change in assets & liabilities status of the residents of a country or its government.
♦ Balancing Items of BOP :
(i) The official settlements account, and
(ii) Errors and omissions.

♦ Balance of Payment is always balanced : The equality of both sides of balance of payment is only accounting equality, not the real equality.

♦ Deficit of BOP Account : When total inflows of foreign exchange on account of autonomous transactions are less than the total outflows on account of such transactions then there is a deficit in BoP.

♦ Causes of Disequilibrium of Balance of Payments :
(i) Natural Causes :
(a) Natural Calamity occurs,
(b) Any total disease spreads
(ii) Economic Factors :
(a) Development activities,
(b) High rate of inflation,
(c) Trade cycle,
(d) Change in cost structure of trading partners,
(e) Development of import substitutes.

(iii) Political Factors :
(a) Political Stability,
(b) Political influence on foreign trade

(iv) Social Factors :
(a) Demonstration effect,
(b) Change in tastes and preferences,
(c) Cross border prejudices. 

♦ Foreign Exchange Rate : Foreign exchange rate refers to the rate at which one unit of currency of a country can be exchanged for the number of units of currency of another country. (IMG 102)

♦ Types of Foreign Exchange Regimes :
(i) Fixed Exchange Rate : When the Central Bank of a country fixes (or pegs) the value of exchange rate, it is called Fixed Exchange Rate system or Pegged Exchange Rate System. 
(ii) Flexible Exchange Rate System : The system of exchange rate in which value of a currency is allowed to adjust freely or to float as determined by the demand for and supply of foreign exchange is called Flexible Exchange Rate System.
♦ Managed floating system : It is a system in which the central bank allows the exchange rate to be determined by market forces but intervenes at times to influence the rate. When central bank finds the rate is too high, it starts selling foreign exchange from its reserve to bring it down. When it finds that the rate is too low, it starts buying to raise the rate.
♦ Determination of Flexible Exchange Rate Demand and Supply theory of exchange rate determination Equilibrium Rate of Exchange : Exchange rate is determined by the interaction of demand and supply in foreign exchange market. There is an inverse relationship between price of foreign exchange (i.e., rate of exchange) and demand for foreign exchange rate. On the contrary, there is direct relation between foreign exchange rate and supply of foreign exchange. (IMG 102)

♦ Reasons for the Demand of Foreign Exchange : The demand of foreign exchange has inverse relation with flexible exchange rate. If flexible exchange rates rises, the demand of foreign exchange falls and vice versa. The demand for Foreign Exchange is created due to the following purposes :
(i) To purchase goods and services from the rest of world.
(ii) To purchase financial assets (i.e., to invest in bonds and equity shares) in a foreign country.
(iii) To invest directly in shops, factories, buildings in foreign countries.
(iv) To send gifts and grants abroad.
(v) To speculate on the value of foreign currency.
(vi) To undertake foreign tours.
♦ The supply of foreign exchange has positive relation with foreign exchange rate. If foreign exchange rate rises, the supply of foreign exchange rate also rises and vice versa. Sources of Supply of Foreign Exchange :
(i) Direct purchase by foreigners in domestic market.
(ii) Direct investment by foreigners in domestic market.
(iii) Remittance by non-residents living abroad.
(iv) Flow of foreign exchange due to speculative purchases by N.R.I.
(v) Export of goods and services.
♦ Factors Influencing Exchange Rate :
(i) Change in trade,
(ii) Capital Movement,
(iii) Sale and purchase of securities,
(iv) Bank Rate,
(v) Speculation,
(vi) Political conditions.