Chapter 1: National Income

Accounting and The Balance of

Payments

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Objective
This chapter discusses the basic concepts of the
national income accounting and the balance of
payment

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Contents
National income accounting
The National Account Identity
The balance of payment
Accounting principles
BOP accounts

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1. National Income Accounting
Gross National Product (GNP)
GNP of a country is the value of all final goods and services
produced by its production factors and sold on the market
in a given period of time
GNP is calculated by adding up the value (market value) of
all expenditures on the final output, that consist of
consumption, investment, government consumption and
current account balance

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1. National Income Accounting
Gross National Product (GNP)
In the calculation of GNP, it should be noted that:
 Firstly, the value of production inputs are not counted when you
calculate GNP
 Secondly, the purchase of used goods is not counted in
calculating the GNP since it does not represent the final goods
and services produced in each period.

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1. National Income Accounting
National product and National Income
 In principle, the national product must be equal to the national
income since money used to purchase goods and services creates
income for the seller. (or every income must be spent in goods
and services)
 Example with services: when you take the haircut, that purchase of
service enters GNP and the payment is the income of the barber.
 Example with goods: when you purchase a motorcycle, the value of
the motorcycle enters GNP and the your payment creates incomes
for the production factors that produced the motorcycle, including
wages for workers, profits for the company’s owner and
shareholders, parts and other intermediate inputs used to produced
the motorcycle
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1. National Income Accounting
Depreciation and unilateral transfers
GNP must be adjusted for depreciation and unilateral transfers
so that the identity between national income and national
products is entirely hold in practice.
 Depreciation: depreciation of capital goods reduces the income of
capital owners and must be subtracted from GNP to calculate the
net national product (NNP) or national income.
 Income transfers: unilateral transfers from abroad is part of
national income, but not part of national products, and must be
added when calculating national income.

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1. National Income Accounting
Gross Domestic Product GDP
 GDP is the value of all final goods and services produced in a
territory of a country in a given period of time.
 GDP is equal to GNP minus the net receipt of factor incomes from
abroad.
 Net factor income is the income that a country’s residents earn from the
wealth they hold in foreign countries minus the payments they make to
foreign residents for the foreign wealth located at home.
 GDP = GNP – receipts from foreign countries for factors of
production + payments to foreign countries for factors of
production
 GDP is a major indicator of economic activity.The movement in GDP
and GNP largely go in lie with each other
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2. The Current Account, Savings and Investment
National income accounting for a closed economy (I)
In a closed economy, there are no exports and imports, and all
national income must be generated by domestic purchase for
consumption, investment and government purchase
 Consumption is the portion of GNP that the private sector
purchases to satisfy their current wants.
 Investment is the portion of GNP that is used to produce future
output. Investment consists of fixed investment and inventory
investment.
 Government consumption is the goods and services purchased by
the government for current use, including government spending
on health, education, public administration, road repairs, etc.
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2. The Current Account, Savings and Investment
National income accounting for a closed economy II
National Accounting Identity for a closed economy:

Y=C+I+G
here Y is the national income (GNP), C is the private
consumption; I is the investment; and G is the government
consumption/purchases

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2. The Current Account, Savings and Investment
National income accounting for an open economy I
In an open economy, there export and import activities.
 Part of demand for consumption and investment is met by
using goods and services produced abroad (imports),
 Part of domestic output is sold in foreign market (exports)
The spending on imported goods and services is not part of
a country’s GNP, and must be subtracted in calculation
GNP.
Domestic goods and services sold in foreign market
(exports) must be added up in calculating GNP.

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2. The Current Account, Savings and Investment
National income accounting for an open economy II
National income identity for an open economy:

Y = C + I + G + EX - IM
here Y is the national income (GNP), C is the private
consumption; I is the investment; and G is the government
consumption/purchases; EX is exports and IM is imports

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2. The Current Account, Savings and Investment
Current account balance
The current account balance is the difference between a
country’s exports of goods and services and that country’s
import of goods and services
CA = EX - IM
Surplus: if exports are greater than imports, a country has a
surplus in the current account
Deficit: a country is said to have a deficit in the current
account if its imports of goods and services exceeds its export
of goods and services

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2. The Current Account, Savings and Investment
Vietnam’s GDP and Uses (1000 billion VND)
Tổng cầu, 1000 tỷ VND giá ss 2010
6000

5000

4000

3000

2000

1000

0
2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020 2021

GDP Đầu tư TD nhà nước TD tư nhân

14
2. The Current Account, Savings and Investment
Vietnam’s GDP and Uses (%)
Composition of GDP Uses (%)
70.0

60.0

50.0

40.0

30.0

20.0

10.0

0.0
2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020 2021

-10.0

Đầu tư TD nhà nước TD tư nhân Chênh lệch XNK

15
2. The Current Account, Savings and Investment
Current account and indebtedness
A deficit in the current account often leads to the increase in
indebtedness. By contrast, a current account surplus reduces a
country’s debt
 When a country experiences a deficit in the current account, it
must finance the deficit by borrowing from foreign countries.
 When a country has a surplus in the current account, it is lending
to its trading partners
The country’s current account balance is equal to the change in
its net foreign wealth

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2. The Current Account, Savings and Investment
Current account and savings I

National savings is the portion of national income that is not

used for private and government consumption
In a closed economy, national savings is equal to national
income minus household consumption and government
consumption
S = Y – C - G

In a closed economy, national savings must be equal to

national investment
S = I (Y = C+ I + G)

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2. The Current Account, Savings and Investment
Current account and savings II
Different from a closed economy, an open economy can invest
by using its own savings (national savings) or by acquiring
foreign wealth (foreign savings)
 Y = C + I + G + EX – IM
 S = Y – C – G = I + EX – IM
S
= I + CA or I = S – CA
A deficit in the current account is often referred to as net
foreign investment inflows or foreign savings. By contrast, a
surplus in the current account is often referred to as net
investment abroad

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2. The Current Account, Savings and Investment
Private savings and government savings I
Domestic savings consist of private savings and government
savings
Private savings is a portion of household income that is not
used for household consumption. Household disposable
income (Yd) is the total national income (Y) minus tax payment
(T) to the government
Yd = Y-T
SP = Yd - C = Y – T - C ;

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2. The Current Account, Savings and Investment
Private savings and government savings II
Government savings is the difference between the government
revenue and its consumption
Sg =T-G
Total national savings consist of private savings and
government savings
S = S p + Sg

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2. The Current Account, Savings and Investment
Private savings and government savings II
Linkage between private savings, budget deficits, and current
account
Sp = I + CA + (G - T)
This identity shows that private savings can be used to finance
domestic investment and government deficit, and to purchase
foreign assets.
We can also write:
CA = (Sp – I) + (T - G)

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2. The Current Account, Savings and Investment
Currenct Account and budget deficits

US current account and public saving relative to GDP,

1960-2004
4%
2%
Percent of GDP

0%
-2%
-4%
-6%
-8%
1960 1965 1970 1975 1980 1985 1990 1995 2000
current account public saving

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2. The Current Account, Savings and Investment
Currenct Account and budget deficits
Ricardian Equivalence of taxes and government deficits:
when the government cut taxes and raises deficits,
consumer will raise savings in the anticipation of the
increase in future taxes.
 When the government raises taxes and reduces deficits, the
private sector will lower its own savings.
 The change in the budget deficit is offset by the change in
private savings.
In the late 1990s, the decrease in European countries’
budget deficits was largely offset by the increase in the
private savings.

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3. The Balance of Payment
Balance of payment and economic transactions

The balance of payment is a record of all economic and

financial transactions between resident organizations and
individuals of a country and its non-residents during a
given period of time.

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3. The Balance of Payment
International Transactions
International transactions can be classified into
different categories:
Exchange of goods and services for other goods and
services
Exchange of goods and services for financial assets
Exchange of financial assets for other financial assets
Unilateral transfers of goods and services and unilateral
transfers of financial assets

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3. The Balance of Payment
Domestic and Foreign Residents
 Individuals and organizations are considered as residents of a
country when they live/operate in that country for a given
period of time and have income generated in that country.
 Citizenship and residents are not necessarily the same.
 Diplomats, military personnel, tourists, and temporary
migrants: these persons remain the residents of the country
where they hold a citizenship
 Foreign branches and subsidiaries of TNCs are considered as the
residents of the nation where they are located
 International organization such as the IMF, WTO or the World
Bank are not the residents of the nation where they are located.
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3. The Balance of Payment
Credits and debits
Credit transactions: The receipt of payments from
foreign residents are recorded as credits, which are
entered with a positive sign in the balance of payments
The credit transactions include:
Exports of goods and services
Receipts of factor incomes (profits, dividends and
employee compensation)
Transfers from foreigners
Inflow of foreign capital
3. The Balance of Payment
Credits and debits
Debit transactions: The payment to foreigners (non-
residents) is recorded as debits
 Debits is entered with a negative sign in the balance of
payments
The debit transaction include
 Imports of goods and services
 Payment of factor incomes (profits, dividends and employee
compensation)
 Transfers made to foreigners
 Outflows of capital involve payments to foreigners
3. The Balance of Payment
Capital inflows and outflows
Capital inflows can take two forms: an increase in
foreign assets in a nation or a reduction in the nation’s
assets abroad.
Capital inflows take place when there is a purchasing
of domestic assets by foreigners (asset exports) or a
selling of foreign assets by domestic residents
Examples ?
3. The Balance of Payment
Capital inflows and outflows
Capital outflows can results from an increase in a
nation’s assets abroad or a reduction in the foreign
ownership of the national assets
Capital outflows occur when there is a selling of
domestic assets by foreigners or a purchasing of
foreign assets by domestic residents
 Examples?
3. The Balance of Payment
Double-Entry Bookkeeping
The double-entry bookkeeping: each international
transaction is recorded twice in the balance of
payments, once as a credit and once as a debit of equal
value.
International payments have two sides: receipts and
payments.
Crediting shows where the incomes come from. And
debiting shows how the incomes are used for.
3. Double-entry bookkeeping
Examples of double-entry bookkeeping
Example 1: A U.S company exports 1000 dollars of
goods. The payment will be made after 3 months
In the U.S.’s Balance of Payments

Credits (+) Debits (-)
Exports of goods and services $ 1000
Capital outflows (credits to -$ 1000
foreign importers)
3. The Balance of Payment
Example of Double entry bookkeeping
Example 2: A US resident buys a typewriter from an Italian
company and pays for it using check. The Italian company
deposits the receipt at a US bank. The price of the typewriter is
1000 USD
Credit Debit
Typewriter’s purchase, US current account (US -1000
imports of goods)
Sale of the US bank’s deposit (capital account, export +1000
of asset)

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3. The Balance of Payment
Example of Double entry bookkeeping
Example 3: A US resident buys a share of BP (British
company) with a price of 95 USD. He makes the payment
using his money account at a stock broker. The British
company deposits the receipt from selling the stock at a US
bank.
Credit Debit
Purchase of the BP share, US capital account (US -95
imports of assets)
Deposits by the BP at a US commercial bank +95

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3. The Balance of Payment
The BOP accounts
The content of the balance of payments: the balance of
payments consist of three accounts:
 the current account
 the capital accounts
 The financial account

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4. The Balance of Payment Accounts
The current account
The current account involve transactions in trade in goods and
services, the receipts and payments of factor incomes and
unilateral income transactions
Trade in goods: exports and imports of goods
Trade in services: exports and imports of services
Receipts and payments of factor incomes (primary incomes):
the receipt and payments of profits, dividends, and employee
compensations)
Unilateral transfers (secondary incomes): remittances and
official grants
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3. The Balance of Payment
The current account
The current account
 Trade balance (balance of trade in goods): trade balance is the
difference between exports and goods and imports of goods. A
country may have a surplus or deficit in the trade balance
 Current account balance: the CA balance is the difference
between the receipt from non-residents (exports of goods and
services, investment incomes and income from unilateral
transfers) and the payments made to foreign non-residents
(imports of goods and services, payment of profits, dividends and
rents to abroad, and unilateral transfers to foreigners)

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3. The Balance of Payment
Capital accounts
Capital account
 The capital account keeps track of the transactions on
special asset ans capital
 Special assets consist of non-financial and unproduced
assets, such as natural resources or marketing assets
 Other capital transfers consist of debt forgiveness,
investment grants, or assets that move with migrants.
 The capital account balance is the difference between the
inflows of capital and outflows of capital

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3. The Balance of Payment
Financial accounts
The financial account records all the transactions
involving financial assets.
Financial inflows (capital inflows): the sale of assets to
foreigners is recorded as credits in the financial account.
Financial outflows: (capital outflows): the purchase of
assets located abroad is recorded as debits in the
financial account.

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3. The Balance of Payment
Financial accounts
The financial account consist of two components:
 Reserve assets: the asset held by monetary authorities
for intervention in the foreign exchange market
(accommodating items).
 All other financial investments: transactions arising
from trade and investment activities (autonomous
items)

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3. The Balance of Payment
Financial accounts

All other financial Investments

Other financial investments involve the transaction on
other assets not included in the reserve assets or
capital account
 Foreign direct investment: inward or outward
 Portfolio investment: stocks and bonds
 Financial derivatives: futures, options, forward contracts
 Other investments: bank deposits and loans, currencies

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3. The Balance of Payment
The BOP Identity
The balance of payment identity
Due to the double-entry bookkeeping of each transaction,
the balance of payments accounts will balance by the
following equation:
current account +
financial account +
capital account = 0

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3. The Balance of Payment
The BOP Indentity
Errors and Omissions
 In practice, discrepancies are often observed between the BOP
accounts.
 These inconsistencies arise for several reasons: the under-
recording of economic transactions, time inconsistencies, under-
reporting and smuggling…
 The difference between the capital account, the financial account,
the current account is considered as statistical errors

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3. The Balance of Payment
The Official settlement balance
 The official settlement balance (the balance of payment) is the sum
of the current account balance, capital account balance and the
financial account balance excluding the changes in reserve assets.
 The overall balance may have surplus or deficits. The balance of
payment is said to have a surplus if the overall balance has a
positive sign and vice versa.
 The deficit in the balance of payment must be financed through
the central bank’s international reserves or central bank
borrowing
 The surplus in the balance of payment would results in the
accumulation of the central bank’s international reserve

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3. The Balance of Payment
The US Balance of Payments 2003 I

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3. The Balance of Payment
The US Balance of Payments 2003 II

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4. The Balance of Payment Account
Vietnam International Transactions 2019-2020 (Million dollars)
2019 2020 2019 2020
A. Current Account 12168 12529Other invetsments: Assets -7789 -8699
Exports of Goods F.O.B 264189 282655 of which cash and deposits -8081 -8710
Imports of goods F.O.B -242968 -251930Other invetsment: Liabilities 8092 2540
Balance of Trade in goods 21221 30725 Cash and deposits 2875 180
Borrowing and repayment of
Export of services 19920 6290 foreign debts 5217 2360
Imports of services -21421 -18325 Short-term debts 286 4
Balance of trade in services -1501 -12035 Debts 18385 26925
Primary incomes: Receipts 2237 1428 Amortization -18099 -26921
Primary income: payment -19032 -17045 Long-term 4931 2356
Net receipts of primary incomes -16795 -15617 Debts 13030 11480
Secondary income: receipts 11609 11427 Government 2350 2015
Secondary incomes: payments -2366 -1971 Private 10680 9465

Net receipts of secondary incomes 9243 9456 Amortization -8099 -9125

B. Capital Accounts 0 0 Government -1764 -1826
C. Financial accounts (Excl. the
transaction of reserves assets) 18971 8215 Private -6335 -7298
FDI abroad: Assets -450 -380 Net other investments 303 -6159
FDI in Vietnam: Liabilities 16120 15800D. Errors and Omissions -7885 -4111
Net FDI Inflows 15670 15420E. Overall balance 23254 16632

Portfolio Investment abroad: Assets 3 4F. Reserve assets -23254 -16632

Portfolio investment in Vietnam:
Liabilities 2995 -1050
Net portfolio inflows 2998 -1046
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