What is the major difference between BOT and BOP?

This article will focus on the basic concept of Balance Of Payment (BOP) and Balance Of Trade (BOT).

WHAT IS BOT?

It is the difference between the money value of exports and imports of material goods(includes visible items and merchandise). Clearly, the 2 transactions which determine BOT are exports and imports of goods which determine BOT. Exports and imports of invisible services such as shipping, insurance, banking etc are not included.

BOT may be in surplus or deficit or in equilibrium. If the exports of the visible items are more than the value of imports of visible items, then the BOT is said to be positive or favourable and is in surplus. If the exports are less than imports, the BOT is unfavourable and is in deficit. In case, exports are equal to imports, then the BOT is said to be in equilibrium.

WHAT IS BOP?

It is the difference between a nation’s total payments to foreign countries and its total receipts from them. In other words, it is a systematic record of a country’s receipts and payments in international economic transactions in a specific period of time.

Since, BOP takes into account exchange of both visible and invisible items, therefore, it represents a wider and a better picture of country’s international transactions than the BOT. Each transaction is entered on the credit and debit side of a balance sheet.

Main items on credit side:

• Exports of goods( visible exports)
• Exports of services( invisible items)
• Unilateral transfers
• Capital receipts

Main items on the debit side:

• Imports of goods
• Imports of services
• Unilateral transfers
• Capital payments

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MEANING OF GOVERNMENT BUDGET:

The government budget is an annual financial statement showing item wise estimates of expected revenue and anticipated expenditure during a fiscal year. Just as your household budget is all about what you earn and spend, in the same way the government budget is a statement of its income and expenditure. In the beginning of every year the government presents before the Lok Sabha an estimate of its receipts and expenditure for the coming financial year. It plans its expenditure according to its objectives and then tries to raise the resources to meet the proposed expenditure.

THE MAIN OBJECTIVES OF A GOVERNMENT BUDGET:

• Economic growth: to promote rapid and balanced economic growth so as to improve living standard of the people.
• Reduction of poverty and unemployment: to eradicate mass poverty and unemployment by creating employment opportunities and providing maximum social benefits to the poor.
• Reduction of inequalities: inequalities of income and wealth are reduced through levying taxes and granting subsidies. Government levies high rate of tax on rich people and lower rate in the lower income group and also provides the latter with subsidies and amenities. Economic progress in itself is not a sufficient goal but the goal must be equitable progress.
• Reallocation of resources: the reallocation of resources is necessary in order to achieve social and economic objectives. The government allocate resources into areas where private initiative is absent such as public sanitation, education, health etc.
• Price stability: to maintain price stability and correct business cycles involving depression characterized by falling output, prices and increasing unemployment.
• Management of public enterprises: to manage public enterprises which are of nature of national monopolies like railways, electricity etc.

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The opportunity cost of an activity is equal to the value of the next alternative foregone. Alternatively, it is the cost in terms of the alternative foregone. In simple terms, one has to forego something for getting something and what is given up for getting something is called the opportunity cost of that thing.

This can be explained more clearly through the help of an example.

A clerk gets Rs 800 per month for giving private tuition after office hours but for that he foregoes Rs 500 which he would have got for working overtime after office hours. In this case, Rs 500 is the opportunity cost of giving tuition. Alternatively, remuneration lost is termed as opportunity cost and that is why it has been termed as the cost of foregone alternative.

IMPORTANCE:

The concept of opportunity cost is very important in the context of use of factors of production (or resources). Since the supply of factors is scarce and can be put to alternative uses, therefore, a factor can be utilized in one use sacrificing its use for other purposes. Further, it helps economists to know how limited resources get allocated in different branches of production. For example an economy can produce more wheat by sacrificing production of some other commodity say sugarcane.

The concept is also significant for an industry which must pay wages which are at least equal to what are being paid in other industries. Otherwise, the laborers will leave the industry and avail of the next possible use. Thus, it causes equality of payment of factor income to equally efficient factors.

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What are the major differences between Explicit and implicit costs?

WHAT ARE EXPLICIT COSTS?

Explicit costs are those payments which the firms make to outsiders for their services and goods. It is the actual money expenditure incurred on purchasing and hiring of inputs. These costs are recorded in the firm’s account books. For producing a commodity, a firm incurs expenses on hiring factor input (like services of land, labour, capital etc.) and on buying non factor inputs (like raw material, power etc).

For example, a firm gets land on lease and pays rent. It hires labour and pays them wages. It borrows money and pays interest. Similarly, it spends money on transportation, raw material, insurance premium, fuels, advertising and on making up depreciation of machinery. All these money expenses are known as explicit costs of production.

NOTE: these costs include payments made to others and not to the owner himself for self owned, self owned, self supplied resources.

WHAT ARE IMPLICIT COSTS?

Implicit costs are costs of self owned or self employed resources. These are estimated values of inputs supplied by the owner of the production unit himself.

For example, an entrepreneur may utilize his own building or his own capital or may act as a manager of his firm himself. For these productive services, he does not pay rent or interest or salary to himself although the payments accrue to him. These are in a way implicit rewards or imputed costs of various factors owned and supplied by the owner himself.

In economics, the sum of explicit costs and implicit costs (or imputed costs) constitute the total cost of production of a commodity. 

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In the first part we talked about the basic definition of fiscal deficit and its implications. The second part will be emphasized on the measures explaining how the fiscal deficit should be met.

HOW IS THE FISCAL DEFICIT MET?

When drastic cut in public expenditure and revenue expenditure fails to solve the fiscal deficit problem, it is met by these following measures:

• Borrowing from domestic sources: Fiscal deficit can be met by borrowing from domestic sources for example public and commercial banks. It also includes tapping money deposits in provident fund and small saving schemes. Borrowing from the public is better than deficit financing (printing of extra notes/currency) because it does not lead to increase in money supply which considered the main reason of rising prices.
• Borrowing from external sources: Borrowing from external sources such as WORLD BANK, IMF, and other foreign banks is also a good option for the government.
• Deficit financing: The government can borrow from the central bank(RESERVE BANK OF INDIA in case for India). Government issues treasury bills which the central bank buys in return for cash from the government. This cash is created by the central bank by printing new currency notes against the government securities. Its implication is that money supply increases in the economy creating inflationary trends and other ills that could result from this method. Therefore, if at all it is unavoidable, it should be kept in safe limits.

OTHER MEASURES TO DEAL WITH FISCAL DEFICIT ARE:

• A drastic reduction in expenditure on major subsidies, bonus, leave encashment etc.
• Austerity steps to curtail non- plan expenditure.
• Tax base should be broadened and reduction in taxes should be curtailed.
• Tax evasion should be effectively checked.
• Restructuring and sale of shares in public sector units.

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Fiscal deficit is defined as excess of total expenditure over total receipts excluding borrowings during a fiscal year. It is the extent to which expenditure overshoots the sum of revenue receipts and capital receipts excluding borrowings.

FISCAL DEFICIT=TOTAL BUDGET EXPENDITURE-TOTAL BUDGET RECEIPTS EXCLUDING BORROWINGS

Total receipts means revenue receipts and non debt capital receipts( i.e. capital receipts reduced by borrowings). Non debt capital receipts indicate recoveries of loans and disinvestment proceeds.

The equation in a more simple way is given by:

FISCAL DEFICIT= TOTAL EXPENDITURE – REVENUE RECEIPTS – CAPITAL RECEIPTS EXCLUDING BORROWINGS

But a little reflection will show us that fiscal deficit is equal to borrowings.

IMPORTANCE OF FISCAL DEFICIT: It shows the borrowing requirements of the government during the budget year.

IMPLICATIONS:

Death trap: Fiscal deficit i.e. borrowing creates problem of not only payment of interest but also the repayment of loans. As the government borrowing increases, its liability in future to repay the loan amount along with interest there on also increases. Payment of interest increases revenue expenditure leading to higher revenue deficit. Ultimately, the government may be compelled to borrow to finance even the interest payment leading to emergence of a vicious cycle and debt trap.

Wasteful expenditure: High fiscal deficit generally leads to wasteful and unnecessary expenditure by the government.

Inflationary pressure: A large fiscal deficit means a large amount of borrowing which creates large burden of interest and loan repayment. This may lead to inflationary pressure in the economy.

Partial use: The entire amount of fiscal deficit i.e. borrowing is not available for meeting the expenditure because part of it is used in interest payment. Only primary deficit ( fiscal deficit-interest payment) is available for financing expenditure.

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The budget deficit is the difference between total expenditure on the one hand and current revenue and net internal and external capital receipts of the government on the other.

Revenue deficit refers to the excess of total revenue expenditure of the government over its total revenue receipts. Revenue deficit signifies that government’s own earning is insufficient to meet normal functioning of government departments and provision of services. Simply put, when the government spends more than what is collects by way of revenue.

Note: the deficit only includes such transactions which affect the current income and expenditure of the government.

The deficit is to be met from capital receipts i.e. through borrowing and the sale of its assets.

REMEDIAL MEASURES:

The remedial measures for reducing revenue deficit are:

• Government should raise rate of taxes especially on rich people and any new taxes where possible.
• Government should try to reduce its expenditure and avoid unnecessary expenditure.

IMPLICATIONS:

It gives information on what the government is borrowing for, i.e. for financing its current expenditure or for capital formation. Main implications are:

• Revenue deficit indicates dissavings on government account because the government has to make up for the uncovered gap by drawing upon capital receipts either through borrowing or through sale of its assets.
• Since the borrowed funds from the capital account are used to meet generally consumption expenditure of the government, it leads to inflationary situation in the economy with all its ills. Thus, revenue deficit may result either in increasing government liabilities or in the reduction of government assets.

Note: revenue deficit implies a repayment burden in future without the benefit arising from investment.

• Large borrowings to meet revenue deficit will increase debt burden due to repayment liability and interest payments. Thus may lead to larger and larger revenue deficit in future.

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These are provided through borrowings and loans. These funds are available on certain terms and conditions for a specific period after which these are to be returned. these are risky source of funds as these involve the payment of interest at a certain rate and repayment of principal amount as per the contract, which is to be paid even if there are losses in the business.

Some of the examples for borrowed funds are:
trade credit: it is a spontaneous source of fund that is available in normal course without much formalities. It is available in the form of goods supplied on credit by the suppliers or services provided on credit by the providers of services. It does not involve any explicit cost in the form of payment of interest but generally a higher price is charged for goods and services when these are provided on credit. It is generally available for a short period of up to 90 days.

Factoring: it involves sale of receivables arising from credit sale of goods or services to factors that is a person. As a result, enterprises get the funds immediately and need not wait till the due date for the receipt of payment. Moreover, they are free from the tasks of collection of payment as the factor becomes responsible for the entire credit control and debt collection from the buyer.

Lease financing: it is taking a fixed asset on rent. Lease is a contract by which the owner of the asset permits the other party to use the asset for a periodic payment. At the end of the lease period, the asset is returned to the lessor. This method is more suitable to get assets such as computers and electronic equipment which become obsolete quickly because of fast technological developments.

Public deposits: these are the deposits that are raised by the organsation directly from the public. Rates of interest offered on these deposits are higher than those for bank deposits. This is the reason why the public are interested in these deposits.

Debentures: they are issued by companies to raise long term funds at a particular rate of interest for a specified period of time, after which these are to be redeemed.

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Consumers demonstrate different acceptance behavior for different products depending on variety of factors, for example, psychological factors, sociological factors, economic factors, personality traits and personal factors such as age and gender.

All customers do not exhibit similar adoption process when a new product is introduced in the market. Some are very eager to try out a new product or service and share their experience with each other while others wait till they get a positive response from others. This may be due to many reasons such as nature of consumers with regard to risk taking attitude, optimism, enthusiasm etc.

NATURE OF ADOPTERS:

Some of the categories based on the nature of the adopters are:

• The innovators or the first users are the risk takers and are enterprising in nature. They are not concerned about the result of the use of the product. They are pioneers in accepting the change.
• The early adopters are more forward looking people in the society. They adopt a new idea much before the others.
• The early majority consists of people who may not be the opinion builders but are reasonably quicker in adopting the innovations. They comprise a large segment of the target market.
• The late majority consists of followers in adopting the product. They adopt the innovation only after it has been tried by others. They are considered to be older, traditional people who are not risk takers.
• The laggards are slow in decision making and are also self conscious and conservative in nature. They are suspicious of change and do not adopt the product till they are convinced of satisfaction and optimum utilization of the product. They are usually old and situated at the lower strata of the socio economic order. The ones who are not convinced do not adopt the product in their entire lifetime. They do not accept the change at all. They are called non-adapters.

This information is valuable for a marketer who is interested in knowing the customer and his preferences. Marketer need to analyze and understand the market, competition, customer’s psychology thoroughly.

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Owner’s funds are provided by the owners of the business and are known as capital in the case of sole proprietor, partnership, limited liability partnership etc. it is called share capital in the case of incorporated bodies like a company or cooperative society. Owner’s funds also include the profits earned by the business that are reinvested in the business also called as retained earnings, ploughing back of profits or self financing. The main features of these funds are that these are available for a longer duration and need not to be returned during the lifetime of the business. On the basis of these funds, the share of the owners in the management and ownership of the assets decided.

In case of incorporated bodies, the capital is divided into small units called shares. Each share has its own face value. The person holding the share is known as shareholder. Liability of the shareholder is limited to the face value of the share. Shares can be of 2 types:

Equity share capital: it is an important source of finance and is a prerequisite for a company. It provides the base on which the funds are raised from the other sources. Equity share holders participate in the management of the company through their voting rights.They have a claim on all the profits and assets of the company that are left after settling all the claims. Sp they bear the risk of the ownership and also get the reward.

Preference share capital: it represents the funds raised through the issue of preference shares. As compared to the equity shareholders, the preference shareholders have a preferential claim over that held by equity shareholders for dividend and repayment of capital.

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