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Balance of payments is an overall statement of a countrys economic

transactions with the rest of the world over some period- usually one
year. It includes all outflows and inflows (payments and receipts)
Countries have either balance of payment surplus or a balance of
payment deficit. Balance of payments is a way of listing receipts and
payments in international transactions of a country. Balance of
payments can be broken down into balance of trade (export & import of
goods); balance of current account (includes the balance of trade, the
balance of services and remittances; and capital account (investment and
borrowing)

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Convertibility refers to the freedom of the holder of a currency to freely

convert it into any other foreign currency. The larger the scope of
convertibility that is permitted by a country, the stronger and the more
resilient its economy is said to be. No country grants full convertibility
but restricts it for certain purposes and excluding certain other
purposes.
For example, the trade account convertibility is confined to exports and
imports and certain associated aspects like remittances (what Indians
living abroad send to their friends and relatives in India) etc.
Convertibility for investment and borrowing abroad comes under capital
account convertibility.

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Freedom to convert
Convert at market rate and
Removal of restrictions for conversion on current and capital account.
That is, liberalization of flows. It means convertibility for more purposes
(like FDI in retail); higher or no caps on existing convertibility regime
(49% FDI in insurance etc) and Indians being allowed greater freedom to
take their money abroad.

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It refers to freedom to convert domestic currency into foreign currency

and vice versa for the following purposes:
1. exports and imports
2. payments due as interest or loans etc .
3. moderate remittances for living expenses etc.

It covers investment and borrowings. For example, foreign investment

in India; how much Indian companies can borrow. Similarly, Indians to
open bank accounts in foreign countries; invest abroad; hold assets
abroad etc.

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Fiscal deficit should be minimal

Forex reserves should be adequate
NPAs of banks should be minimal
Inflation and interest rates should be moderate
Unless these conditions are met, great steps towards fuller
convertibility should be kept on hold.

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Forex reserves and infrastructure

India is currently facing the problem of plenty on the foreign exchange
reserves front. The country ranks sixth after Japan, China, Taiwan, South
Korea, and Hong Kong for highest foreign reserves. With the increase in
quasi-fiscal costs of holding large reserves, and the need to increase the
yield on current reserves, policymakers have advocated the use of the
excess reserves to augment the countrys physical infrastructural capacity,
Another idea floated is to start a sovereign wealth fund.
Monetary experts short down the idea of diversion of reserves for
infrastructure as it may adversely impact on our credibility. These are
reserves and not resources and need to be kept up for security reasons.
Infrastructure can always be financed by other means. SWF can set up if
there are opportunities.

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2011
Q. Consider the following actions which the Government can take:
1. Devaluing the domestic currency.
2. Reduction in the export subsidy.
3. Adopting suitable policies which attract greater FDI and more
FIIs.

funds from

Which of the above action/actions can help in reducing the current account
deficit?
(a) 1 and 2
(b) 2 and 3
(c) 3 only
(d) 1 and 3

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