BP : balance of payments :

When we are in an open 
economy, countries trade 
between each other, they 
imports (M) and exports (X).


An other curve can be added 
: the Balance of payments 
(BP).

BP curve shows at which
point the BP is at 
equilibrium depending on 
the level of income (Y) and
interest rates



BP = transactions between 
the home country and 
foreign countries
  
BP = current account + 
capital account 

Current account = trade
balance (BT) + net interest
and profit receipts

Capital account = difference
between nominal interest 
rate (i = interest rate of
home country) and 
world interest rate (i*) : 
difference leads to capital
inflow / outflows


capital outflow leads to a 
BP deficit

capital inflow leads to a
BP surplus

Any point above the BP
curve will mean a balance
of payments surplus. 
Any points below the BP 
curve will mean a balance 
of payments deficit.

We say that the BP = 0 
because in every types of 
fiscal or monetary policy 
through fixed or flexible 
exchange rates, where 
nominal interest rates
will be higher or lower
than world interest rates
(i> i* or i<i*) 

in fixed exchange rate :
the central banks will 
interviennes to make sure
i=i* (respect the UIP 
principles) so BP = 0

And in flexible exchange 
rates, increase or decrease
of e(nominal exchange rate)
will turn into a 
depreciation or appreciation
of home currency, leading to
increase or decrease of 
trade balance (BT) which 
will shift IS curve to get
i=i*