Chapter

II. Residents of an Economy

Author(s):
International Monetary Fund
Published Date:
April 1996
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66. The BPM broadly defines the balance of payments as recording (a) transactions—which take place between an economy and the rest of the world—in goods, services, and income and (b) changes of ownership in that economy’s monetary gold, special drawing rights (SDRs), and claims on/liabilities to the rest of the world. It is therefore essential to know how an economy is defined for BOP purposes. In chapter 2 of the BPM, the economic territory of a country is defined as a geographic territory administered by a government within which persons, goods, and capital circulate freely. For maritime countries, geographic territory includes any islands subject to the same fiscal and monetary authorities as the mainland. This concept is elaborated in chapter 4 of the BPM, which states that the economic territory of a country includes:

air space, territorial waters, and continental shelf over which a country enjoys exclusive rights or over which a country has jurisdiction in respect of the right to fish or exploit fuels or minerals below the sea bed;

territorial enclaves, which are clearly demarcated areas of land that are owned or rented by a foreign government for diplomatic, military, scientific, or other purposes with the formal political agreement of the government of the country in which the territorial enclaves are physically located;

any free zones, bonded warehouses, or factories operated by offshore enterprises under customs control. (These are part of the economic territories of the countries in which they are physically located.)

67. A special type of economic territory is that of international organizations. International organizations are mostly political, administrative, economic, social, or financial institutions in which the members are governments or other international organizations. The economic territory of an international organization consists of the territorial enclaves that the organization has jurisdiction over and uses for organizational purposes formally agreed upon with the countries in which the enclaves are physically located. For example, the economic territory of the International Monetary Fund (IMF) includes the headquarters building at 700 19th Street in Washington, DC. This building is not part of the economic territory of the United States. (International organizations are further discussed in paragraphs 137–140.)

68. It is also important to consider the economic units that operate within an economic territory. An economic unit that has a center of economic interest in the economic territory of a specific country is a resident of that country. This chapter focuses on the nature of such units and how a unit’s center of economic interest is determined in practice.

69. Because of the scope of the balance of payments, the determination of resident units has important implications for recording and classifying transactions within an economy. For example, a worker employed by a corporation in the economy of Nostaw is paid a wage of 1,000 units during the reporting period. The worker spends 500 units on consumption of goods and services within Nostaw and saves 500 units, out of which he remits 300 units to relatives living in Coonawarra and deposits 200 units in a commercial bank in Nostaw.

70. If the worker is classified as a resident of Nostaw, the following BOP entries should be made for Nostaw:

CreditDebit
Personal remittance (in cash)300
Commercial bank’s external assets300

71. Presumably, the worker remitted his funds abroad through a bank draft payable in foreign exchange. The only entries are the worker’s transfer of funds abroad (debit) and the reduction, by an equivalent amount, in a commercial bank’s external assets (credit).

72. Conversely, if the worker is classified as a nonresident, the following BOP entries should be made for Nostaw:

CreditDebit
Wages1,000
Expenditure on travel services500
Commercial bank’s external liabilities200
Commercial bank’s external assets300

73. The 1,000–unit debit represents the import of nonresident labor by Nostaw. The 500–unit credit represents the amount expended by the worker on travel services in Nostaw. As a nonresident, the worker is classified as being in travel status (see paragraph 84). The increase in the worker’s balance with a commercial bank in Nostaw is considered an increase of 200 units in external liabilities because the worker is a nonresident. The last entry represents the sale of the bank draft to the worker.

74. Under either assumption, the BOP statement is in balance and the requirements of the double entry system used to construct the statement are satisfied.

75. The types of transactions and the gross amounts recorded under the assumption that the worker is a resident of Nostaw differ greatly from those that are recorded if he is assumed to be a nonresident. Under the first assumption, only two entries are required in the balance of payments—a transfer (debit) and a change in the commercial bank’s external assets (a credit denoting a reduction). Under the second assumption, the same transactions require four BOP entries—use of labor (debit), provision of travel services (credit), an increase in the commercial bank’s external liabilities (credit), and a reduction in the commercial bank’s external assets (credit).

76. To ensure that BOP statistics are compiled on a uniform basis, economies must be delimited according to standard definitions. The BPM contains guidelines that enable IMF member countries to report BOP data that are closely comparable to those reported by other member countries. One of the most important guidelines is that which defines the residents of an economy.

77. It is also important for the BOP concept and coverage of residents to harmonize with those of other macroeconomic statistical statements. To this end, the definition of residence presented in the BPM is identical to that contained in the 1993 SNA.

Definition of Residents

78. The residents of an economy comprise the following types of economic units:

households and individuals who make up a household;

enterprises (which are corporations and quasi-corporations, such as branch offices of nonresident direct investors);

nonprofit institutions;

the government of the economy.

To be a resident of an economy, an economic unit must have a center of economic interest in that economy. A unit has a center of economic interest within a country when there exists some location (dwelling, place of production, or other premises within the economic territory of the country) on, in, or from which the unit engages and intends to continue engaging (either indefinitely or over a finite but lengthy period of time) in economic activities and transactions on a significant scale. Subsequent paragraphs present a detailed discussion of how to apply the concept of economic interest for each type of economic unit.

Households and Individuals

79. The BPM states that a household has center of economic interest when members of that household maintain, within a country, a dwelling or succession of dwellings that the members treat and use as their principal residence. All individuals who belong to the same household must be residents of the same economy. As applied to individuals, the concept of residence is designed to encompass all persons who may be expected to consume goods and services, participate in production, or engage in other economic activities in the territory of an economy on a continuing (that is, not temporary) basis. A member of a resident household who leaves the economic territory and returns to that same household after a limited period of time continues to be a resident even if that individual makes frequent journeys outside the economic territory. These are the persons who have centers of economic interest in a particular economy. For individuals, the concept of residence is economic rather than legal. An individual considered, in accordance with the BOP definition, to be a resident of a particular economy may not necessarily be a citizen of that country. The meaning of the term resident in the context of exchange control regulations or laws may also differ from the BOP definition.

80. In most instances, an individual’s association with a country is determined by fairly simple criteria: where he lives, where he works, his citizenship, the language he speaks. All are factors indicating the extent of such an association. For some individuals, though, the determination may not be straightforward. A Dutch citizen may have lived all her life in Indonesia; an army officer stationed abroad may not have seen his own country in many years; or an ambassador’s children born abroad may never have been in the country of their citizenship. Of course, the number of such persons may be so small that determination of their associations with particular countries has a negligible effect on the balance of payments. However, the treatment of entire groups—such as diplomatic personnel abroad, an army overseas, or very wealthy individuals—may have significant effects.

81. The difficulty of making determinations in borderline cases is aggravated by the fact that the most satisfactory solution for one user of the statistics may not suit the requirements of another user. One statistician may consider persons living in Belgium but crossing the frontier daily to work in a French factory as residents of Belgium who sell their labor to France; another may consider them French residents who are buying travel services from Belgium. As many of these differences are minor, the benefits of using a particular definition for a particular analysis are generally outweighed by the advantages of using a commonly accepted definition that permits comparisons of results. Therefore, the definition of residence must be one that is widely acceptable, one that may be consistently applied for most purposes, and one that is consistent with the national accounts. (As BOP and national accounting systems are closely related, serious difficulties would arise if each system referred to a different set of persons and households.)

82. It is evident that citizens of a country who live there permanently have their centers of interest in that country. Diplomatic representatives, members of the armed forces, and patients undergoing medical care abroad do not change their centers of interest and therefore remain residents of their home economies. On the other hand, a businessman employed in another country may find it necessary to establish a home there. For BOP purposes, he has shifted his center of interest and, hence, his residence—even though he may retain his previous citizenship, may send his children to schools in his country of origin, and may be more interested in that country’s politics than in those of the new country. Important factors in this determination are (1) the businessman is permanently living in the new country and (2) the product he creates can most realistically be considered part of the domestic product of that country. The most relevant consideration for ascertaining the resident status of an individual is whether he or she is expected to be involved in the productive and consumptive process of an economy with some degree of permanence.

83. The BPM criterion (which conforms with that of the 1993 SNA) for permanence is a period of one year. Thus, if an individual stays in an economy for a year or longer, or intends to stay in an economy for a year or longer, he or she is considered a resident of that economy. If not, he or she is considered a nonresident. Exceptions to this rule are discussed subsequently. The one-year length of stay is an objective, if arbitrary, benchmark for determining a person’s resident status. Nevertheless, the consistent application of such a convention in the determination of residence significantly enhances the analytical usefulness of BOP and other macroeconomic statistics.

84. Visitors (that is, persons remaining in an economy for less than one year for business; recreation or holiday; religious observances; family affairs; and participation in international sports events, conferences, meetings, study tours, or student programs) are classified as nonresidents from the standpoint of the host economy and, consequently, as residents of their home economies. All such individuals are classified as being in travel status and as having their centers of interest outside the economies to which they have traveled.

85. An exception to the one-year rule is made in determining the resident status of students because application of the one-year rule could lead to problems with interpretation and availability of data. Students are generally expected to return to their home economies upon completion of their studies. Consequently, their centers of interest may not be closely related to the length of stay abroad. Therefore, however long they study abroad, students should be treated as residents of their countries of origin if they maintain economic attachments to their countries. The factors to be considered in determining whether such an attachment is maintained include whether a student is dependent on a household, a nonprofit institution, or the government of the country of origin for the funds that finance his or her studies; whether he or she is funded by the host country under foreign aid or similar programs; and whether he or she plans to return to the country of origin on completion of his or her studies. Medical patients abroad are treated, in the balance of payments, in the same manner as students. That is, they are considered—regardless of the length of stay in the economies in which they are receiving treatment—to be residents of their economies of origin.

86. Crew members of vessels or aircraft are not considered residents of economies in which they are stopping or lying over but not living. Similarly, commercial travelers who stay in an economy for less than one year are not considered residents of that economy, and employees of nonresident enterprises who go to an economy for less than one year for the purpose of installing machinery or equipment purchased from their employers are regarded, from the standpoint of the economy where the machinery is installed, as nonresidents.

87. Foreign officials, diplomats, consular representatives, members of foreign armed forces, and other foreign government personnel (except for technical assistance personnel) stationed in an economy are—under all circumstances—to be associated with their home economies. These persons and their dependents are therefore treated, from the viewpoints of the economies in which these persons are stationed, as nonresidents. This treatment is an exception to the general rule that a one-year sojourn constitutes resident status. Diplomats and military and similar personnel do not, for BOP purposes, change their centers of interest when they are stationed abroad. For instance, a U.S. army major stationed in Germany continues to be a resident of the United States even though he may have been stationed outside that country for more than one year. However, the residence of technical assistance personnel should be based on the one-year rule. Technical assistance personnel on long-term assignments should be treated as residents of the economies in which they work. A transfer of funds to cover the cost of salaries and allowances should be imputed to the host government from the government (or international organization) that employs the experts.

88. Employees of international organizations are regarded as residents of the economies in which the employees live if they have lived, or expect to live, there for one year or more. In most cases, that economy is the one in which the international unit that they work for is located or the economy in which the employees are engaged in technical assistance or other activities on behalf of the international organization. For example, a Swedish national who is permanently employed at United Nations headquarters in New York is considered to be a resident of the United States. However, if she is engaged in a technical assistance project of several years’ duration in Indonesia, she would (for BOP purposes) be designated an Indonesian resident. Employees of international bodies and foreign governments who undertake technical assistance work of less than one year’s duration are classified, not as residents of the economies receiving the technical assistance, but as residents of the economies in which the employees normally live. If the United Nations employee undertook technical assistance work for a period of less than one year in Malawi, she would retain her status as a resident of the United States.

89. Seasonal workers who enter economies for the sole, explicit purpose of harvesting a crop or working in hotels during the tourist season are treated as residents of their home economies rather than residents of the economies where they are employed for the season. For example, Italian residents working in Switzerland during prime tourist periods are classified as residents of Italy rather than residents of Switzerland. Border workers—persons who cross the border between two economies on a regular, frequent basis because they work in one economy but have homes in the other—are residents of the economy in which they have their homes and not of the economy in which they are employed. Workers living in Belgium but crossing daily into and out of France would be regarded as residents of Belgium rather than residents of France.

90. Refugees are considered residents if they stay, or are expected to stay, for one year or more in their host countries. Persons taking refuge in another country for only a short period remain residents of their home economies.

91. The basis for determining the residence of individuals may sometimes seem artificial, but specific guidelines are necessary to achieve consistency. The division between residents and nonresidents is based on a convention supported by the international community of BOP and national accounts statisticians.

Enterprises

Overview

92. The BPM states that an enterprise has a center of economic interest and is a resident unit of a country (or economic territory) when the enterprise is engaged in (1) a significant amount of production of goods and/or services there or (2) transactions in land located there. A significant amount of production means that the enterprise maintains at least one production establishment in the country and plans to operate that establishment indefinitely or over a long period of time (that is, one year or more). However, other considerations—such as whether there is a complete and separate set of local accounts, whether taxes are paid to the host government, or whether funds for the local operation are locally managed—must be considered in determining the residence of an enterprise. In practice, these conditions are generally satisfied for enterprises engaged in longer-term activity.

93. The term enterprise includes (1) corporations, which are entities engaged in production for profit and recognized as legal entities separate from the owners, and (2) quasi-corporations, which are unincorporated entities owned by resident or nonresident institutional units and managed as separate entities.

94. Determining whether an enterprise is a resident or nonresident is synonymous with deciding whether enterprise production should be assigned to a specific economy or to the rest of the world. Classifying a particular entity as a resident of an economy is tantamount to ascribing the entity’s production to the domestic product of that economy. Conversely, to assign nonresident status to a particular entity is to attribute its production to the domestic product of the rest of the world. Thus, the crucial factor in determining that a particular enterprise is a resident entity is whether or not the enterprise is engaged in significant productive activity within the domestic territory of an economy. Before determining that any entity significantly involved in producing goods and services within that territory is a resident of that economy, it is, of course, necessary to define the territory of an economy. (Refer to paragraphs 66–67 for a discussion of economic territory.) Enterprises may still be classified as residents even if, for example, the enterprises process—in an area designated by the government as a “free zone”—imported raw materials for re-export or mine the ocean bed off the shores of a country’s physical territory.

95. There are two reasons that resident status is assigned to an enterprise only when the enterprise engages in significant production activity within the territory of an economy: (1) to ensure that the balance of payments and the national accounts remain analytically useful and, simultaneously, (2) to avoid practical problems associated with treating as residents those enterprises having limited activities in a particular economy (for example, short-term construction or installation activity). The treatment of enterprises engaged in these types of activities is subsequently described in more detail.

96. Resident enterprises are defined as including all actual or notional entities engaged in transactions in land. In accordance with conventions presented in the 1993 SNA and in the BPM, land can be owned only by a resident entity. Consequently, whenever a nonresident acquires land, the transaction is accounted for through the creation of a notional resident unit. For BOP purposes, the legal owner acquires a financial investment (equity) in a resident unit which, in turn, acquires ownership of the land. From the standpoint of BOP recording, such a transaction would be construed as an increase in external financial investment in the economy in which the land is situated. For that economy, entries in the financial account would be:

External liabilitiescredit
Reserve assets (or other appropriate financial account item)debit

97. The previously stated definition of resident enterprises has some special implications for certain types of enterprises. These enterprises comprise single enterprises operating in more than one economy, enterprises operating mobile equipment, enterprises leasing equipment, enterprises registered—as a result of legislation—in more than one country, commercial agencies, installation services, and construction enterprises.

Single Enterprises Operating in More Than One Economy

98. The general rules for determining the residence of an enterprise may necessitate the partitioning of a single legal entity (such as a parent company operating in one economy and an unincorporated branch operating in another economy) or a single economic or technical entity (such as a railway system or a pipeline spanning the territory of two or more economies) into two or more separate enterprises. For example, an automobile manufacturing company incorporated in the United States and engaged in assembly operations in Canada may be organized as a single legal entity. In BOP accounting, this legal entity must be divided.

The parts of the company that are engaged in operations in particular economies are assigned resident status in those economies. Thus, the parent company would be treated as a resident of the United States, and branch activity would be attributed to a resident producer unit in Canada. All flows between the executive office of the parent company and the unincorporated branch would constitute BOP transactions.

99. Each section of an oil pipeline running through several economies should be regarded as a separate unit of economic production. A section that is located in the territory of a particular economy should be treated as domestic fixed capital in that economy, and a notional resident production unit should be created in the national accounts and in the balance of payments. Ownership of the fixed assets in each country should be attributed to the resident production unit. The local part of the pipeline is viewed as rendering a transportation service (shipping oil) to nonresidents and as earning, for the pipeline’s actual owners, income equal to the value of this service and of any service the pipeline may provide to residents. (The income earned is net of production costs, including depreciation and taxes.) A railroad enterprise operating in two or more economies is treated similarly. The enterprise should be divided into parts; each part should be regarded as a resident of the economic territory within which enterprise operations are carried out. The head office of the enterprise should be viewed as having a financial investment in the local enterprise(s).

100. In the BPM, it is suggested that costs and earnings of production units operating in economies other than those of the entities that direct unit operations be calculated at market prices. However, some or most or all of the economic values transferred between the units of an international complex of this type may be omitted from unit records or entered only at nominal values. Values reported to compilers may have to be replaced by compiler estimates of values. Additionally, BOP entries for each of the relevant economies should reflect the allocation-to each member of the international complex-of an appropriate share of any common operating costs, including head office expenses and charges for mobile equipment operating in more than one economic territory.

101. Recommendations presented in preceding paragraphs may be clarified by an example that relates the recommendations to specific BOP entries. A railway enterprise with headquarters in Nostaw operates in three adjacent economies: Nostaw, Daniherland, and Dromesia. According to the rules for determining the resident status of enterprises, the single unit is, for BOP purposes, divided into resident production units in Nostaw, Daniherland, and Dromesia. Data are assembled on the revenue collected by the resident production unit of the railway in each economy and on the associated costs. The revenue collected in each economy is for domestic transportation (that is, for transportation within the borders of the economy) and the transportation is purchased by residents only. Compensation of employees represents local labor costs only. The head office is able to calculate common operating costs and apportion them between the branch in Daniherland and the branch in Dromesia. Common operating costs consist of fuel costs, repair costs, depreciation on the rolling stock, and the cost of management services provided by the head office. Information exists on the investment in capital formation (such as construction of new railway stations and acquisition of office machinery) in each of the territories. All cash received and payments made in Daniherland and Dromesia are deposited to or made from accounts that are held by the head office with Nostaw banks. The data are:

Head Office

in Nostaw
Branch in

Daniherland
Branch in

Dromesia
Value of local production160010001300
Export of services*250
185010001300
Minus cost of production
Local materials550300450
Local wages800300450
Import of services*100150
Operating surplus500300250

In addition, the head office provided funds of 210 units to Daniherland and 300 units to Dromesia for capital formation.

102. The BOP entries show that the single enterprise has been separated into a parent organization and subsidiary units and that each unit has been assigned resident status in the economy in which the unit is operating. The income generated (operating surplus) by subsidiary units is attributed to the head office and is recorded as investment income debits in the balance of payments of the countries where the branches are located. The balance of payments of Nostaw shows receipt, by the head office, of entrepreneurial income and the expansion of external investment through additional capital outlays in branches located abroad is also shown. Common operating costs are recorded as miscellaneous services performed by residents of Nostaw for residents of Daniherland and Dromesia.

Balance of Payments of Nostaw
CreditDebit
Investment income550
Miscellaneous services250
Direct investment-abroad510
Reserve assets (or other appropriate financial account item)290
Balance of Payments of Daniherland
CreditDebit
Investment income300
Miscellaneous services100
Direct investment-in reporting economy210
Reserve (or similar) assets190
Balance of Payments of Dromesia
CreditDebit
Investment income250
Miscellaneous services150
Direct investment-in reporting economy300
Reserve assets (or other appropriate financial account item)100

Operation of Mobile Equipment

103. The attribution—in terms of the residency—of services provided by mobile equipment (such as aircraft, ships, highway and railway rolling stock, fishing vessels, and gas and oil drilling rigs) is based on the resident status of the enterprise operating the equipment in the production process. (The enterprise owning the equipment may or may not be the operator.) The residence of an enterprise operating mobile equipment outside any national territory (that is, in international waters or air space) is attributed to the economy in which the mobile equipment is, in some sense, based. In determining the residence of such an enterprise, consideration should be given to such attributes as the location of the company directing enterprise operations; whether the equipment is subject to the laws, regulations, and protection of a particular national economy; or whether the equipment is linked more closely to one economy than to another. For example, as a corporation engaged in international transportation, British Airways would be classified as a resident of the United Kingdom because the airline’s operations are governed mainly by the laws of that country, and British Airways is more closely associated with the economy of the United Kingdom than with other economies. The aircraft owned by the company and operated in international commerce would be attributed to British Airways and would therefore constitute a portion of the real assets of the United Kingdom.

104. How should the residence of equipment that frequently moves among various economic territories be determined? For example, the rolling stock of the railroad enterprise operating in Nostaw, Daniherland, and Dromesia is regularly used in all three economies. Should the rolling stock be attributed to the head office in Nostaw? Or, for the periods that the rolling stock moves through Daniherland and Dromesia, should the stock be attributed to enterprises to which residence in Daniherland and Dromesia is ascribed? It is recommended that compilers consider such equipment to be operated by an enterprise in the economy in which the activity relating to that equipment occurs only if the equipment is accounted for separately by the operator and is separately recognized by local tax and licensing authorities. Otherwise, the activity should be attributed to the country of residence of the actual operator. It is unlikely that the actual operator of equipment moving frequently between or among economies will maintain separate accounts for each of the economies in which the equipment operates. Therefore, the economy of the actual operator is, generally, also the economy to which the production resulting from the use of the mobile equipment is attributed. In the example of the railroad operating in three economies, the operator of the mobile equipment would, for BOP purposes, most likely be the enterprise in Nostaw.

105. The treatment of mobile equipment operating outside the economy of the operator for a long period of time is subject to similar considerations. That is, compilers should consider the equipment to be operated by an enterprise in the host economy if the equipment is accounted for separately by the operator and separately recognized by local tax and licensing authorities. Otherwise, the activity should be attributed to the country of residence of the actual operator.

106. For example, an aircraft is operated by a resident of Cromania primarily within the borders of Essendonia. For BOP purposes, operation of the aircraft is attributed to Essendonia if aircraft operations are separately accounted for and recognized by Essendonian authorities as part of that country’s capital stock. A notional enterprise in Essendonia must be created in respect of the ownership of the aircraft used in the production output of that economy. The actual operator, who is a resident of Cromania, is construed to have a financial investment in the notional enterprise operating in Essendonia. Income earned from this investment by the Cromanian owners should be recorded (net of depreciation) as investment income, and the depreciation should be recorded as a withdrawal of investment. (The treatment of mobile equipment is further discussed in paragraphs 552–554 of chapter 9 of the Textbook. See also paragraphs 442–451 and 495–502 of the Balance of Payments Compilation Guide.)

Leasing of Equipment

107. The rules described in the preceding paragraphs should be used whether the enterprise operating the equipment is using leased or owned equipment. However, the leasing of mobile, or any other, equipment raises an additional issue. To which economy should ownership, in a BOP sense, of that equipment be attributed? Attribution of ownership is important because transactions are recorded in the balance of payments when things that have economic value change ownership.

108. There are, in a broad sense, two types of leases: financial leases and operational leases. Financial leases are those in which substantially all of the risks and benefits of ownership of an asset are transferred from the lessor (legal owner) to the lessee. Financial leases are characterized by arrangements that provide for the recovery of all, or substantially all, of the cost of goods and for carrying (finance) charges. Leases that are not classed as financial leases are considered operational leases.

Financial Leases

109. With regard to financial leases, it is recommended in the BPM that a change of ownership of the good being leased be imputed at the inception of the lease. In the balance of payments of the economy of the lessee, the entry for imports would be matched by an entry in the financial account for an increase in financial liabilities. The equipment would, of course, be valued at market value. The lease payments contain two elements: (1) interest on the outstanding liability and (2) repayments (amortization) of the liability. Upon termination of the lease, it may be necessary to reverse the entries recorded at inception. In the balance of payments of the lessee, the entries would then consist of an export of goods (credit) and a reduction in liabilities (debit). An example of a financial leasing arrangement follows.

110. At the commencement of a lease, the market value of equipment being leased is estimated to be 1,000 units. Lease payments are due over nine years at an annual rate of 100 units. Ten percent of the 100 units is estimated to be the interest element inherent in the lease payments.4 The lease contract calls for the return of the goods to the lessor at the termination of the lease. In the first year, the BOP entries are:

Lessee’s Balance of Payments—Year 1
CreditDebit
Goods1,000
Investment income10
Loans1,00090
Reserve assets (or other appropriate financial account item)100

In subsequent years (prior to the final year), the entries would be:

Lessee’s Balance of Payments—Year 2–8
CreditDebit
Investment income10
Loans90
Reserve assets (or other appropriate financial account item)100

111. At the end of the lease, the market value of the asset is estimated to be 300 units, and the outstanding loan would thus have to be revalued from 190 units (the difference between the original 1,000 units and total repayments of 810 units) to 300 units.5 In the balance of payments, the full market value of the equipment (300 units) must be shown as an export.

The reduction in loans accompanying the return of the equipment would also be 300 units. Hence, BOP entries for the final period would be:

Lessee’s Balance of Payments—Final Year
CreditDebit
Goods300
Loans300

Operational Leases

112. Operational leases are treated straightforwardly in the balance of payments. The lessor (legal owner) is deemed to be providing a service to the lessee (operator) in the form of the temporary provision of an asset; the value of that service is equal to the lease payments. For example, an enterprise located in Pokolbin hires an aircraft belonging to an enterprise in Longa for operations carried out primarily in Pokolbin. The transaction is classified as a fee for a charter service; the producer of the charter service is Longa, and the production of that service is attributed to Longa. In Pokolbin’s BOP statement, the following entries would be made:

Charter feesdebit
Reserve assets (or other appropriate financial account item)credit

Registration of an Enterprise in More Than One Economy

113. Issues regarding the determination of residence may also arise when an enterprise operating aircraft, ships, or fishing fleets entirely in international commerce is jointly organized and owned by a number of governments and, under special legislation, registered in more than one country. For example, the Scandinavian Airlines System (SAS) is jointly owned and operated by Norway, Sweden, and Denmark. Three-sevenths of the capital of SAS is held by Sweden, and Denmark and Norway each hold two-sevenths. SAS personnel are divided among the three countries in approximately the same proportions. There are two methods of treating such an enterprise. One is to treat the enterprise as a resident of all the participating countries. Enterprise transactions are then attributed to the economies of owners in proportion to shares owned in the financial capital of the enterprise. Three-sevenths of company transactions are attributed to Sweden, and two-sevenths each are attributed to Denmark and Norway. If a resident of Sweden travels by SAS, three-sevenths of his fare represents a domestic transaction, and four-sevenths represents an international transaction. A second method is to treat the corporation as a resident of the economy in which headquarters are located and the premises of the corporation in other countries as branches (direct investment enterprises) that are residents of the countries in which they are located. On balance, the first method is preferred, but both treatments are consistent with the general principles of the BPM and the 1993 SNA. The choice between treatments may be made, with reference to consistent treatment by partner countries, on the basis of statistical convenience. (Paragraphs 449–450 of the Balance of Payments Compilation Guide provide additional information on these treatments.)

Commercial Agencies

114. How should the resident status of commercial agencies be determined? Agencies transacting business on behalf of nonresident principals should be treated as resident producers in the economies in which the agencies are located. Services rendered by an agent to the enterprise that the agent represents should be attributed to the economy in which the agent is a resident. Transactions conducted by an agent on behalf of a nonresident principal should, without exception, be attributed to the economy of the principal. For example, an exporter (a1) in Domestica engages an agent (b1) in Central Paradiso to sell a product to other enterprises (b2) in Central Paradiso. The transaction in commodities is between the exporter (a1) and the other enterprises (b2); the transaction in services is between the exporter (a1) and the agent (b1).

Installation Services

115. Sometimes the employees of an enterprise go abroad to install machinery or equipment that the enterprise has sold to residents of another country. The residency of such enterprises determines whether the installation services are entered in the domestic production accounts of the economy that has sold the equipment or whether the services are entered in the accounts of the economy that has purchased the equipment. As previously stated, the crucial consideration for deciding the resident status of an enterprise is whether the enterprise is engaged in a significant amount of production of goods and services within the domestic territory of an economy. Key tests include whether a complete and separate set of accounts is maintained in respect of local activities and whether the operations are carried on over a long period of time.

116. For example, an enterprise located in the economy of Cromania sells equipment to the economy of Essendonia and sends employees to install the equipment in Essendonia. The work is completed in a period of less than a year, and the fee for installation amounts to 1,000 units. In performing the installation, the enterprise engages local labor for which it pays 100 units. Employees who are residents of Cromania spend 500 units on consumption of goods and services in Essendonia. Because the task is completed in less than a year, the installation services are viewed as being provided by Cromania. These entries would be made:

Essendonia’s Balance of Payments
CreditDebit
Value of installation services1,000
Goods and services acquired by nonresident workers (travel)500
Compensation of employees100
Reserve assets (or other appropriate financial account item)400

117. However, it could be assumed that installation took more than a year to complete. The cost amounted to 6,000 units—of which 3,000 units were paid to local labor. Cromanian employees sent to work in Essendonia were paid 2,000 units in the currency of Essendonia. There were no other costs associated with the provision, by the Cromanian firm, of installation services to the Essendonian firm purchasing the services. Furthermore, it could be assumed that the Cromanian enterprise maintained a separate set of accounts in respect of its operations in Essendonia. Under these assumptions, production would be allocated to a resident production unit in Essendonia, and entries recorded in Essendonia’s balance of payments would differ from those recorded under the assumptions listed in paragraph 116.

118. The creation of a resident production unit in Essendonia requires the recording of a financial investment relationship between the firm in Cromania (the parent) and the resident unit that has been created. The firm in Cromania receives entrepreneurial income as a result of its investment in Essendonia. The profit of the firm is 1,000 units, which are recorded as investment income. The Cromanian employees sent to Essendonia are regarded as residents of Essendonia by virtue of the length of stay. These employees spend 900 units in Essendonia and save 1,100 units, which they deposit with a commercial bank in Essendonia. These transactions are domestic to Essendonia and are therefore not recorded in the balance of payments. Upon completion of their work, the Cromanian nationals return to their home economy and thus change their country of residence. The change requires that they be treated, for BOP purposes, as migrants. They repatriate their savings to Cromania in the form of foreign exchange. The BOP entry showing the decrease (credit) in Essendonia’s reserve assets, which is assumed to be the result of the repatriation of savings, is offset by a counterpart entry in migrants’ transfers. The BOP entries would be:

Essendonia’s Balance of Payments
CreditDebit
Investment income1,000
Migrants’ transfers1,100
Reserve assets (or other appropriate financial account item)1,000
1,100

119. An entry for migrants’ transfers is always made, regardless of whether there is an actual transfer of funds, when an individual shifts his residence. For example, the individual workers in the example in paragraph 118 may choose not to repatriate their funds from Essendonia. Their deposits with commercial banks in Essendonia would then be recorded as an increase in Essendonia’s external liabilities at the time of the workers’ migration rather than as a decrease in Essendonia’s reserve assets. In either case, a contra entry is made in migrants’ transfers. The contra entry constitutes the offset to the transfer of net worth occasioned by the migration of the individual.

Construction Enterprises

120. Determination of residence for enterprises engaged in construction activity is often problematical for BOP compilers. However, the rules governing determination of residence for other enterprises also apply to construction enterprises. The initial determination to be made is the economy to which production should be attributed. Once this decision is made, the relevant BOP entries can be determined. Two examples may help to explain the treatment of enterprises engaged in construction activity. (For additional information on the treatment of construction activity, see paragraphs 340–342 of chapter 5 and paragraphs 545–549 of chapter 9 in the Textbook and paragraphs 452–455 of the Balance of Payments Compilation Guide.)

121. An enterprise located in Clintonstan is awarded a construction contract worth 10,000 units for a project located in the economy of Algornia. The contract is implemented over a six-month period, and the following expenditures are incurred by the enterprise:

Materials purchased in Algornia5,000
Wages paid to residents of Clintonstan2,000
Wages paid to residents of Algornia1,000
Taxes paid to government of Algornia1,000

122. Because the project is completed in less than one year, production should be attributed to a resident of Clintonstan. Accordingly the following entries would be required:

Algornia’s Balance of Payments
CreditDebit
Other business services5,000
Construction services10,000
Compensation of employees1,000
Transfers (taxes)1,000
Reserve assets (or other appropriate financial account item)3,000

123. An enterprise from Nostaw is awarded a construction contract worth 50,000 units for a project located in Coonawarra. The contract is implemented over a two-year period. Because of the long-term nature of the project, the enterprise sets up a site office in Coonawarra and maintains a complete set of accounts for its operations in that economy. To implement construction, the enterprise in Nostaw sends machinery worth 20,000 units to Coonawarra. At the end of the first year, the work in progress is valued at 22,000 units. This amount is paid by the Coonawarran client and used to cover expenditures incurred in Coonawarra. The balance is remitted to Nostaw. At the end of the second year, the remaining 28,000 units are paid by the client. The balance after payment for expenditures in the second year is remitted to Nostaw. Expenditures incurred for the project are:

Year 1Year 2
Value of construction work22,00028,000
Materials purchased in Coonawarra4,0008,000
Wages paid to residents of Coonawarra6,0003,000
Wages paid to residents of Nostaw*3,0002,000
Depreciation on machinery2,0001,000
Taxes paid to government of Coonawarra1,0004,000
Net profit6,00010,000

124. In the example in paragraph 123, criteria for attributing production to a resident of Coonawarra are satisfied. The following entries would be made:

Coonawarra’s Balance of Payments—Year 1
CreditDebit
Goods (machinery)20,000
Compensation of employees3,000
Investment income6,000
Direct investment—provision of machinery20,000
Direct investment—depreciation2,000
Reserve assets (or other appropriate financial account item)11,000
Coonawarra’s Balance of Payments—Year 2
CreditDebit
Goods (machinery)17,000
Compensation of employees2,000
Investment income10,000
Direct investment—return of machinery17,000
Direct investment—depreciation1,000
Reserve assets (or other appropriate financial account item)13,000

Nonprofit Institutions

125. Like enterprises, nonprofit bodies are resident entities of the economic territories in which the nonprofit bodies are located or conduct their affairs. Nonprofit bodies are generally engaged in furnishing educational, health, cultural, recreational, and other social and community services free of charge or at sales prices that do not fully cover the costs of production. Examples of nonprofit bodies are such entities as private hospitals, churches, cultural societies, foundations, universities, colleges, and the Red Cross.

126. In practice, the residence of the vast majority of nonprofit institutions may be determined without ambiguity. However, when such an institution is engaged in charity or relief work on an international scale, it is necessary to specify the residence of any branches the institution may maintain in individual countries. In this case, it is appropriate to use the guideline of length of time to determine the residence of such branches. If a nonprofit institution maintains a branch, or similar unit, for a year or more in a particular country, that branch should be considered a host country resident that is financed largely or entirely by transfers from abroad.

Government

127. This chapter concludes with an examination of the economic entities classified under general government. What is the scope of the resident general government sector? According to the BPM, the general government agencies of an economy include all central, state, and local government departments, establishments, and bodies located in the economic territory and all general government embassies, consulates, entities, and military establishments located elsewhere.

128. General government agencies comprise public authorities not classified as enterprises or as private nonprofit bodies serving households. Governmental agencies engaged in enterprise activity (for example, a government telecommunications department, postal authorities, or a government port authority) are not considered part of the general government sector. Classified in the general government sector are:

bodies with such governmental functions as administration, defense, regulation of the public order, promotion of economic growth and welfare, technological development, and the provision of education, health, cultural, recreational, and other social and community services rendered to the public free of charge or at sales prices that do not fully cover the costs of production;

other nonprofit organizations that are wholly, or mainly, financed and controlled by the government;

agencies for social security arrangements that are imposed, controlled, or financed by the government;

public saving and lending authorities that are financially integrated with a government.

129. A useful criterion for distinguishing between agencies to be classified in the general government sector and in the enterprise sector is whether the agency’s product is characteristically sold in the market. If so, there is a strong case for including the agency in the enterprise sector.

130. Embassies and similar institutions are treated as residents of the economies they represent—rather than as residents of the economic territories in which they are physically situated—because of the affinity between such embassies and institutions and the governments of countries they represent. For example, the French embassy in the United States is linked much more closely to the French government than to the U.S. government. Therefore, entities such as embassies, consulates, military establishments, and other bodies of general government located abroad are considered extraterritorial and not parts of the economies in which the entities are physically situated.

131. As these embassies and similar institutions are considered resident entities of the countries represented, embassy transactions with residents of the economies in which the embassies are located (as well as embassy transactions with other economies) constitute a portion of the BOP transactions of the embassies’ countries with the rest of the world. For instance, the construction of embassies, structures, and other works in extraterritorial enclaves by resident producers of the economy in which the enclaves are located would form part of the production and exports of the host economy. Wages and salaries paid to locally recruited staff of foreign diplomatic, military, and other establishments are also credits in the balance of payments of the host economy and debits in the balance of payments of the country represented by the embassy or other establishment.

132. A hypothetical case may be used as an illustration. For the Nigerian embassy in France, the Nigerian government arranges for a French construction firm to construct a building worth 20 million units. The building completed during the reporting period, and payment is made in U.S. dollars. As the Nigerian embassy is treated as a resident of Nigeria, the construction of the embassy gives rise to BOP transactions for both France and Nigeria. Accordingly, in the French balance of payments, the value of the construction work is shown as a credit (that is, an export of the production of the construction industry in France). The increase in French holdings of U.S. dollars is shown as a debit. Thus, France’s balance of payments shows the following entries:

French Balance of Payments
CreditDebit
Value of construction work20
U.S. dollar holdings20

133. Conversely, in the Nigerian balance of payments, the acquisition of the embassy building is shown as a debit reflecting the increase—which has been brought about not through domestic production but through an import—in the stock of fixed capital assets owned by Nigeria. The financial counterpart to the increase in real assets (debit) is shown as a decrease in holdings of U.S. dollars (credit).

Nigerian Balance of Payments
CreditDebit
Acquisition of embassy building20
U.S. dollar holdings20

Similar BOP entries would be made if Nigeria purchased an existing building. For Nigeria, the transaction would still represent capital formation and, for France, negative capital formation.

134. While the acquisition of an embassy building is recorded straightforwardly in the balance of payments, there is a variation in principle for recording the purchase of land by a foreign government when an embassy building is to be erected on the land or the land is purchased for some other general government use. Under the conventions of the BPM and the 1993 SNA, land is always deemed to be owned by a resident of the country in which the land is located. However, when land is purchased by a foreign embassy or a similar institution, the land is considered to shift from one economic territory to another. The land is then located in the economic territory of the country of the embassy and is no longer part of the economic territory of the host country. In these relatively rare instances, a transaction in land is recorded as taking place between residents and nonresidents. This transaction is shown, in the capital account of the balance of payments, as the exchange of a non-produced, nonfinancial asset. The sale of embassy and similar land is treated in a like manner. In the previous example, when the Nigerian government bought a parcel of land (worth approximately US$5 million) for the construction of an embassy, that government was deemed to have purchased a non-produced, nonfinancial asset from France. Entries for the transaction would be shown as:

Nigerian Balance of Payments
CreditDebit
Non-produced, nonfinancial assets5
U.S. dollar holdings5

In the French balance of payments, the same entries would be made with reversed sign.

135. While the previously stated recommendations always apply in principle, the purchase of an existing building will, in practice, be recorded at its total cost (including cost of land). The entire transaction should be classed as the acquisition of a produced asset and recorded in the current account.

136. It may also be useful to consider the Nigerian embassy’s other transactions in France. When the embassy recruits residents of France as typists, chauffeurs, etc., the salaries and wages paid to such staff constitute part of the balance of payments of both countries. The salaries and wages received are shown as a credit item (export of labor) in the French balance of payments and as a debit item (import of labor) in the Nigerian balance of payments.

137. In some ways, international organizations receive the same BOP treatment as embassies. International bodies that cannot be classed as enterprises are treated as nonresidents in the balance of payments. Institutions in this category comprise most political, administrative, economic, social, or financial institutions in which the members are governments. Examples of such international bodies are the United Nations and its specialized agencies (such as the Food and Agriculture Organization), the International Labor Organization, the World Bank, the International Monetary Fund, and the regional economic commissions. Many regional organizations (for example, the African Development Bank, the Central American Clearing House, the institutions of the European Community, and certain intergovernmental commodity organizations) must be treated in the same way.

138. To be classified as nonresidents, international bodies must be intergovernmental organizations and must not be engaged primarily in enterprise activity. For example, although the International Tin Council is intergovernmental in membership, the council nevertheless functions as an enterprise. Among other things, the council is concerned with price stabilization for tin through the operations of a buffer stock. (For rules governing the resident status of enterprises, refer to paragraphs 92–97.)

139. From the standpoints of the economies in which international and regional bodies are located, such bodies should be given the same statistical treatment as foreign embassies and other agencies of foreign governments. (However, employees of these bodies are residents of national economies and not “residents” of international organizations.) Transactions of international organizations with the economies in which the organizations are physically situated constitute BOP transactions. However, unlike embassies (which are parts of the economies of the countries represented), international and regional bodies are not part of any national economy. Therefore, any worldwide balance of payments system is incomplete without estimates of the transactions of international organizations.

140. Another category is that of regional central banks—international financial institutions that act as common central banks for groups of member countries. The official national offices of a regional central bank are resident units in the economy in which the offices are located. The financial assets and liabilities of a regional central bank should be allocated among the national offices in proportion to the claims that member governments have on the bank’s collective assets.6

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