Using a person's budget to understand the balance of payments

To get a better understanding of the balance of payments accounts, let’s think of a single person’s sources of funds and uses of funds. We can summarize Harry’s budget for this month as shown in the table below:

Uh oh! Harry ran a little short this month!

Suppose there was one more thing that Harry hasn’t included yet: he also loaned Lucius $\$70$. That means he also has a financial asset in the form of an I.O.U. from Lucius, but also $\$70$ less money available to him. That means Harry has a total shortfall of cash of $\$248 + \$70=\$318$. As usual, his friend Hermione bails him out of trouble by loaning him $\$318$.

Harry’s loan to Lucius and his loan from Hermione are different from the transactions in his budget because the $\$318$ loan and the $\$70$ loan both created liabilities for someone. So, let’s keep track of the transactions that created a liability in a separate balance sheet:

Harry’s budget is his current account that summarizes all transactions that have not created liabilities. The transactions that created liabilities are his capital and financial account because those I.O.U. ’s eventually will need to be repaid.

We can summarize these in the table below:

We can relate a country’s balance of payments account to the scenario we described above. The table below shows entries for the nation of Panem that are comparable to each of the entries on Harry’s Balance sheet: