Answer to Question 1:

Which of the following transactions are current account transactions and which are capital account transactions in the domestic balance of payments: a) a sale of lumber to Japan; b) a purchase of domestic treasury bills from a foreign resident; c) rental of a hotel room to a tourist from abroad; d) a purchase of a super-computer from a foreign country.

Choose the correct option below.

1. all are current account transactions.

2. a) and c) are current account transactions and b) and d) are capital account transactions.

3. a), c) and d) are current account transactions and b) is a capital account transaction.

4. a), c), and d) are current account transactions and b) is not a balance of payments transaction.

The correct choice is option 3. The sale of lumber to Japan is the export of a portion of the current domestic output flow to a resident of a foreign country. The same is true of the rental of the hotel room. The fact that the foreign resident is visiting the country is irrelevant. The purchase of a treasury bill or any asset from a foreign resident is clearly a capital account transaction. Even though the ownership of the super-computer is an asset, the purchase of it is a current account transaction---a portion of the foreign output flow is being imported into the domestic economy. Any funds borrowed from foreign residents to purchase the computer would enter as a capital account transaction.

There are two possibilities for error in the question. First, there is the possibility of a confusion between a capital asset and a capital good. The possession of a capital good can change without a change in the country-of-residence of its ultimate owner. For example a domestic firm may purchase capital equipment from abroad without there being any change in the degree to which that firm is foreign-owned. The capital account of the balance of payments is affected only if the degree of foreign ownership of domestically employed capital, or domestic ownership of foreign employed capital, is affected. This is why d) is not a capital account transaction.

The second possibility for error arises from a confusion between the country of origin of the good or asset and the country of residence of the person transacting with the domestic resident. What matters is the countries of residence of the transactors not the country in which the good or security was created. This is why b) is a balance of payments transaction. It also does not matter where the foreign resident happens to be located at the time the deal is made. The issue is strictly whether foreign currency has to be exchanged for domestic currency, or vice versa, as a result of the transaction.

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