Balance of Payments & Purchasing Power Parity Imrul Kayes

Balance of Payment: It shows all Economic transactions between domestic country and rest of the world. The BOP classifies these transactions in two accounts:

Current Account: It includes transactions in goods, services and investment income. Capital Account: It mainly includes transactions in financial instruments. BOP plays an important role in formulating national and international Economic Policy. Example: A country may adopt policies specially designed to attract foreign investment. Another nation may attempt to keep its currency at an artificially depressed level to stimulate exports.

Purchasing Power Parity: PPT is an Economic theory that compares different countries through a market basket of goods approach. According to this concept two currencies are in equilibrium when a market basket of goods is priced the same in both countries. The Big MAC Index is used to measure the PPT between nations using the price of a Big MAC is $4.00 in the US as compared to 2.5 Pounds Sterling in Britain, the exchange change would be 1.60 (4/2.5). If the exchange rate of Dollars to Pound is greater Big MAC Index would state that the Pound was overvalued, any lower would be under-valued.