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
U.S. balance of payments and Vietnam’s
balance of payments

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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).
 Net national product (NNP) is GNP less depreciation.
 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.
 National Income is Net National Product plus net unilateral
income transfers
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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 [Link] 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
In a closed economy, there are no exports, imports and capital
flows, 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
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
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
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
U.S. GDP and Uses (billion USD)

14
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

15
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

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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
U.S. Current account Deficits

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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 (Barter trade)
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
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 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
purchasing of foreign assets by domestic
residents (asset imports) or a selling of
domestic assets by foreign 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 transactions have two sides:
receipts and payments.
Crediting shows where the incomes (receipts)
come from, and debiting shows how the
incomes are used for.
3. The Balance of Payment
Example of Double entry bookkeeping
Example 1: 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 2: 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
Example of Double entry bookkeeping
Example 3: A US bank forgive $1 million in debt owed to it by
a foreign government.

Credit Debit
Debt forgiveness by a US bank (payment of capital $1 million
transfers, capital account)
Reduction in US bank’s claim on foreign government $1 million
(US asset sale)

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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 receipts from non-residents (exports of goods and
services, investment incomes and income from unilateral
transfers) and the payments made to 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 and special capital transfers.
 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
receipts of capital transfers (Credits) and the payments of
capital transfers (debits)

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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.
The financial account balance is the difference
between a country’s purchase of assets and its
sales of assets (debits minus credits).
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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 + capital account = financial account
The BOP identity arises automatically from the double-
entry bookkeeping principle, which says that a country’s
total receipts from foreigners (total credits) must be
equal to its total payments to foreigners (total debits)
+

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3. The Balance of Payment
The BOP Identity
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 less the non-
reserve portion of financial account balance.
 The balance of payments is total credits minus total debits, excluding the
central bank’s transactions.
 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 borrowings.
 The surplus in the balance of payment would results in the
accumulation of the central bank’s international reserve, while a
deficit causes a decrease in the central bank’s international reserves.
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3. The Balance of Payment
The US Balance of Payments 2019

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3. The Balance of Payment
The US Balance of Payments 2019

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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 -251930 Other 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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