1. Services Account (II) Other Services Course on Balance of Payments and International Investment Position Manual (BPM6) IMF-PFTAC Nadi November 22-December 1, 2010 BP19

2. Overview of Part II  Construction  Insurance and pension services  Financial services  Charges for the use of intellectual property  Telecommunications, computer, and information services  Other business services  Personal, cultural, and recreational services  Government goods and services n.i.e. 1

3. Construction  Comprises work performed on construction projects by an enterprise or site office that is nonresident in the host country  Generally the work is of a short-term nature (note the one- year guideline for residence). No special treatment is adopted for the residence of short-term workers  The value of the construction service should equal the full value of the construction project  Transfer of ownership may be deemed to occur in stages as value is put in place – stage payments maybe in advance or arrears (=>trade advances or credits) 21

4. Recording of related goods and services pertaining to construction (viewpoint: construction abroad):  Acquisitions of goods and services by the enterprises undertaking the construction work from the economy of location (“host country”) = construction debits  Goods and services brought from the home economy for use in the construction project = credits (resident to resident)  Goods and services acquired from third countries for the project are included in general merchandise/ and in = construction debits Construction: Recording of related goods and services (2) 22

5. Construction: Delineation between construction and FDI (3)  Determine the residency of the enterprise engaged in the construction project:  If external operations of a construction enterprise are substantial enough that are managed through a site office, a branch may be identified as an institutional unit in the host economy separate set of accounts (incl. a balance sheet)? production of significant scale managed through a local site office other than the head office “for one year or more”? purchasing/renting business premises, recruiting local staff, operating a bank account? subject to income taxes (even if exempted)?, and other legal requirements criteria of “intention” is also relevant, when a project is ex ante planned which implies criteria of the branch will be met  If a branch is constituted in the economy of operation, goods and services supplied between the branch and the parent are recorded as imports in general merchandise with the counter-entry in direct investment liabilities; and supplies from third countries as debit entry in goods/services 23

6. Construction: example (4)  Example of the measurement of construction: Enterprise A, resident of A, provides construction services in B, with a total value of $10,000. Which consists of: Goods and services, and labor purchased in A: Goods $645 Services $120 Labor $435 Goods and services, and labor purchased in B: Imported from A $525 Imported from C $1,750 Sourced in B $2,290 Labor $2,110 Goods imported from C $500 Total cost of purchased inputs $8,375 Gross operating surplus accruing to A$1,625 Gross value of construction services$10,000 24

7. Construction: example (5)  Example of the measurement of construction: Enterprise A, resident of A, provides construction services in B, with a total value of $10,000. Entries in A’s BOP statement: CreditDebit Goods$500 (import from C) Services$5,435(net)$4,565 $10,000 Income$2,110 Net acquisition of assetsNet incurrence of liabilities Financial account(-$500)+(-$2,110)+(-$4,565) currency and deposits+$10,000 25

8. Construction: example (6)  Construction abroad comprises: Construction work for nonresidents by enterprises resident in the compiling economy (credits), and The goods and services acquired from the host economy (debit)  Construction in the compiling economy comprises: Construction work for residents of the compiling economy by nonresident enterprises (debit), and The goods and services acquired in the compiling economy from resident enterprises by the nonresident construction enterprises (credit) 25

9. Financial Services (1)  Included are services provided by financial intermediaries and auxiliaries (except those of insurance and pension funds)  usually provided by banks and other financial corporations  these services may be charged by explicit charges as margins on buying/selling transactions as deductibles from property income for asset-management costs indirectly, as FISIM 2

10. Financial Services (2)  Deposit taking and lending  Letters of credit  Credit card services  Commissions and charges relating to financial leasing, factoring, underwriting and clearing of payments  Financial advisory services  Custody of financial assets or bullion  Financial asset management  Monitoring services  Merger and acquisition services  Credit rating services  Stock exchange services  Trust services 3

11. Financial Services (3) i ) Explicit charges, thus no special calculation  loan application fees, commissions and brokerage fees, account charges, etc.  early/late repayment fees (but excludes increase in interest rates as a result of late payment)  financial market regulatory services  service charges on purchases of IMF resources charges payable for arranging the provision of financial resources are to be distinguished from amounts payable to the suppliers for the use of these financial resources (=primary income) 3

12. Financial Services (4) ii) Margins on buying and selling transactions Dealers, market-maker, foreign-exchange bureaus charge for their services by providing foreign exchange, bonds, notes, financial derivatives, etc. (BPM5 only included dealers in foreign exchange.) not distinguishable from underlying financial transactions estimated charge to  Seller—difference between reference price and dealer’s buying price  Buyer—difference between reference price and dealer’s selling price  Reference price—usually mid-point price  some dealers may have their own internal price the service can also be measured by applying the dealer’s average margin as a percentage to the value of transactions through dealers (Forex dealers often transact with one another  In this case, there is no service charge) 4

13. Financial Services (5) iii) Asset management costs deducted from property income receivable some institutional units have the function of holding financial assets on behalf of their owners  e.g. mutual funds, investment funds, holding companies, trusts, SPEs, SWFs for their administrative expenses to fund managers, banks, lawyers or their staff, they charge explicitly or take a part of the investment income received, or from the assets of the enterprise without recognizing these costs, the asset management enterprises would have a negative operating surplus (=bankrupt) 5

14. Financial Services (6) iii) Asset management costs deducted from property income receivable the counter-entry is to increase the net investment income receivable to the gross income, before deduction of the expenses 6

15. Financial Services (7) (iv) Financial Intermediation Services Indirectly Measured actual interest includes element of income as well as charge for service by convention, only arises from loans and deposits FISIM is calculated:  for loans from financial corporations – difference between interest actually payable and the amount payable if reference rate were used  for deposits – difference between the interest that would be earned if reference rate were used and interest actually earned “reference rate” represents pure cost of borrowing funds  e.g. rate prevailing for interbank lending and borrowing  should include no service component!  should reflect risk and maturity structure of deposits and loans  single rate for local currency transactions  different rates for other currencies 7

16. FISIM: Example (8)  Inter-bank interest rate 5% per annum.  Average value of loans during the year—1000  Actual interest receivable by the deposit-taking corporations—70  partitioned into:  50 pure interest receivable (derived as 1000 at 5%)  20 FISIM receivable (derived as 70 - 50)  Average value of deposits during the year—500  Actual interest payable by the deposit-taking corporations—10  partitioned into:  25 pure interest payable (derived as 500 at 5%)  15 FISIM receivable (derived as 25 – 10)  Total FISIM receivable by the deposit-taking corporations—35 (20+15)  Must be consistent with national accounts BPM5BPM6 creditdebitcreditdebit FISIM35 Income70105025 8

17. Charges for Use of Intellectual Property (1)  Covers transactions included under “royalties and license fees” in BPM5 Includes:  Charges for the use of (i) franchise and trademarks, like in BPM5; and (ii) outcomes of R&D But excludes:  outright purchases/sales of franchises and trademarks are recorded in the capital account 9

18. Charges for Use of Intellectual Property (2) Includes:  (iii) Licenses to reproduce, or distribute intellectual property embodied in  Produced originals and prototypes (copyrights on books, manuscripts)  Computer software  Audiovisual and related services (cinematographic works, and sound recordings)  Related rights (for live performances) But excludes: (i) Licenses to use software, and (ii) outright purchases/sales of software (included in computer services) Outright purchases/sales of results of R&D are recorded under R&D services (in BPM5 in the capital account) 10

19. Charges for Use of Intellectual Property (3) 11

20. Charges for Use of Intellectual Property (4)  Practical issues: Should follow accrual principle and charges should be spread over period of use  In practice: may only be able to record when payments are made May include aspects of property income—property income should be recorded separately  In practice: may not be feasible Charges may be called fees, commissions, royalties… 12

21. Telecommunications, computer, and information services  New grouping of various items previously classified separately  defined in terms of the nature of the service, not the method of delivery  Telecommunications Includes  Broadcast or transmission by telephone, radio/television, email, etc.  Internet services  Business network services, teleconferencing, support services (installation, etc) Excludes  value of the content being transmitted  installation services for networks and database services 19

22. Telecommunications, computer, and information services (2)  Computer Services Includes  Development and/or sale of customized software  Non-customized software, licenses to use non-customized software (periodic fee) if electronically delivered  Hardware and software consultancy services, incl installation, maintenance  Data hosting, processing, etc  Webpage hosting Excludes  Charges for licenses to reproduce or distribute software  Leasing of computers without an operator  Computer training courses not designed for a specific user  Non-customized packaged software = goods if on physical media 20

23. Telecommunications, computer, and information services (3)  Information Services Includes  News agency services (provision of news, photos, etc) to the media  Database services (design, storage, dissemination) through all media (print, magnetic, optical, web search, etc)  Direct nonbulk subscriptions to newspapers and periodicals by any medium  Library and archive services Excludes  bulk newspapers  downloaded software 20

24. Other Business Services (1)  Includes R&D Services Professional and management consultancy services Technical, trade-related, and other business services  R&D Services Includes: Outright purchases/sales of results of R&D (in BPM5 considered nonproduced and thus included in capital account) such as patents, copyrights, and sale of information about industrial processes Excludes: Charges for the use of the outcomes of R&D 13

25. Other Business Services (2)  Professional and management services Legal services, accounting, management consulting, managerial services, and public relations services; and Advertising, market research, and public opinion polling services Also: services for the general management of a branch, subsidiary, or associate provided by a parent enterprise or other affiliated enterprise  Technical, trade related, and other business services Includes agricultural, engineering, waste treatment and depollution, mining, operational leasing Trade-related services cover commissions on goods and service transactions payable to merchants, commodity brokers, dealers, auctioneers, and commission agents.  Does not include merchanting (now included under goods) 14

26. Other Business Services (3) Operational leasing Renting of produced assets (buildings, machinery, equipment, etc.) covers leasing (rental) and charters, without crew, of ships, aircraft, and transport equipment (railway cars, containers, and rigs, without crew) Operating leases of dwellings and other buildings are included in this item, if not included in travel 15

27. Other Business Services (4)  An operating lease is distinguished from :  a financial lease, where the risks and rewards of ownership of the asset are transferred to the lessee; with an operating lease, the lessor has the risks and benefits  a resource lease, where the asset provided is a natural resource, rather than a produced asset Rent—classified as primary income However! What happens if split between buildings and land not possible?  a lease included under contracts, leases, and licenses, where the lease itself—rather than the underlying asset—becomes an economic asset of the lessee. 16

28. Personal, Cultural, and Recreational Services (1)  Audiovisual and related services. services and associated fees related to the production of motion pictures (film or videotape), radio and television programs (live or on tape), and musical recordings rentals of films, videotapes, etc. fees received by actors, directors, producers, (if they are employees of the entity making payments =compensation of employees) charges for access to encrypted television channels (such as cable and satellite services)  Excludes: mass-produced recordings and manuscripts on CD-ROM, disk, paper are included in general merchandise charges or licenses to reproduce or distribute radio, television, film, music are included in charges for the use of intellectual property n.i.e. 17

29. Personal, Cultural, and Recreational Services (2)  Other cultural and recreational services other types of services such as those associated with museums, libraries, archives other cultural, sporting and recreational activities education services (such as the provision of correspondence courses) health services (services provided in host economies) gambling (consists of a service (incl. taxes) and a transfer element)  Excludes: Education and health services provided to nonresidents who are present in the territory of the service provider are included in travel Acquisition of other personal, cultural, and recreational services (museums, gambling) by persons while outside their territory of residence is included in travel 18

30. Government goods and services n.i.e. Residual category  goods and services supplied by and to enclaves, such as embassies, military bases, and international organizations e.g., office supplies, vehicles, repairs, rental of premises, electricity  goods and services acquired from the host economy by diplomats, consular staff, and military personnel located abroad and their dependents e.g., also when embassy staff sells his car at the end of his stay abroad (debit of local economy)  services supplied by and to governments and not included in other categories of services Technical assistance on public administration, and when not classified to a specific service, payments for police-type services (such as keeping order) issue of licenses to exercise some proper regulatory function (if not taxes) 19

31. Insurance and pension services (1)  Includes: Life insurance and annuities, nonlife insurance, reinsurance, freight insurance, pensions, standardized guarantees, auxiliary services  nonlife insurances  are designed primarily to spread risks across all policy- holders  typically, number of claimants much smaller than number of policyholders; no relationship for individual policy-holder between premiums paid (“price”) and claims received  pay claim only if an insured event occurs 20

32. Insurance and pension services (2)  life insurances  policyholder makes regular payments in return for an agreed sum, or an annuity, at a given date  form of saving  relationship between premiums and claims over time; insurance company must combine saving aspect of a single policy with actuarial calculations on insured population when determining relationship between premium and benefit (e.g. analysis of mortality, production of life-tables, etc)  redistribute income for a single policyholder across time periods 21

33. Insurance and pension services (3) reinsurance  allows insurance risk to be transferred from one insurance provider to another direct insurers become policy holders and may pass on the entire risk / a proportion of risk / a risk above a given threshold (e.g. due to a catastrophic loss)  undertaken by few companies and usually cross-border in nature! freight insurance  raises particular issues for the valuation of goods  provides coverage against theft, damage, and lost of freight  the FOB concept determines who pays the insurance, and whether it is included in the price of the good (included in FOB price up to the border of exporter; beyond exporters border, premiums are payable by importer) 22

34. Insurance and pension services (4) Pension funds  similar to insurance— providers act as intermediary for investing funds and redistribute some risks  provide benefits for retirement or invalidity of specific groups of employees Standardized loan guarantee schemes  common for student loans and export guarantees  issued in large numbers (usually for fairly small amounts)  may be issued by financial institutions or government  similar in nature to nonlife insurance  not possible to establish likelihood of default on a specific loan  but possible and standard practice to estimate how many loans out of a given batch would default 23

35. Measurement of output /insurance services For nonlife insurances (5)  Transactions between insurer and policyholder include: insurance company accepts premium from a client holds it until a claim is made, or insurance period expires in the meantime, it invests the premium the investment income is an extra source of funds to meet claims due income is implicit supplement to actual premium, attributed to client Insurance company sets level of actual premiums, so that  Premiums earned + investment income earned on them – expected claims = margin that insurance company can retain  represents what is available to enterprise to cover costs and provide operating surplus 24

36. Measurement of output /insurance services For nonlife insurances (6)  In order to “mimic” the premium setting policy of insurance companies, and to avoid extremely volatile, or even negative output of the insurance activity,…  …we have to identify five separate items: premiums earned premium supplements expected claims  claims payable adjusted for claims volatility insurance technical reserves  Accrual principle. gross premiums paid vs. premiums earned (receivable) claims paid vs. claims incurred (payable) 25

37. Measurement of output /insurance services For nonlife insurances (7)  gross premiums earned: proportion of actual premiums, relating to the accounting period in question rather than to the period covered by the insurance policy refers to those premiums payable that cover the risks incurred during the accounting period differ from premiums received, as they are usually paid in advance Example:  annual policy with a premium of 120 starts April 1, with the accounts being prepared for the calendar year  premium earned is 90  unearned premium is 30, which is actual premium received for period past the accounting period, i.e. prepayment for first 3 months of next year credit extended by the policyholder to insurance company, i.e. unearned premiums 26

38. Measurement of output /insurance services For nonlife insurances (8)  claims payable: claims for events that occurred during the accounting period, even if payment is made some time later Claims outstanding cover  claims that have not been reported  have been reported but not yet settled  have been reported and settled but not yet paid … and are recognized as due on an accrual basis, whether or not paid, settled or reported. claims payable include claims paid plus “reserves against claims outstanding” 27

39. Measurement of output /insurance services For nonlife insurances (9)  adjustments for claims volatility: to reflect a longer term view of claims behavior level of claims varies from year to year, with exceptional events causing high level of claims However, the concept of insurance service is the service of providing cover against risk; production occurs continuously, and not just when risk occurs!  volume / price of insurance services should not be affected by volatility of claims = difference between actual claims and a normally expected level of claims  adjusted claims may be calculated by modeling past claims (= expectations approach, ex-ante), or from accounting information (ex post)  without adjustment, output could turn negative for some types of nonlife insurance, limited volatility and no adjustments necessary 28

40. Measurement of output /insurance services For nonlife insurances (10)  reserves in insurance: Premiums are paid in advance  the part of the premium relating to the insurance period falling in the next financial year has not been earned by the end of the current year, and must be transferred to reserves at the end of the financial year since not all claims will be settled by the end of the financial year in which they arise  provisions must be made in the balance sheet for these outstanding claims or claims likely to be incurred but not yet notified (= accrual accounting, estimates for claims not yet reported are correctly included) sum involved is at the disposal of the insurance company to invest and earn income from it  the income earned from it allows to charge lower premiums 29

41. Measurement of output /insurance services For nonlife insurances (11)  premium supplements: as part of the business of insurance companies, these reserves are managed on the financial markets the income generated by these investments have a considerable influence on the level of premiums that these companies have to charge;  they can give a “discount”, i.e. lower the premiums consequently, the income earned is treated as being receivable by the policyholders who are then treated as paying it back to the insurance companies as premium supplements (=imputation) 30

42. Summary For nonlife insurances (12) Derived items for the BOP? (viewpoint: resident insurer)  Goods and services account: insurance services= gross premiums receivable + premium supplements - expected claims (actual claims payable plus adjustment for claim volatility)  Primary income account: investment income attributable to policyholder (premium supplements)  Secondary income account: net premiums receivable = gross premiums receivable + premium supplements – insurance services claims payable  Financial account: insurance reserves, (increase in liability to insurances holder) (currency and deposits, i.e. premiums received; claims paid)  IIP: the stock of claims outstanding 31

43. Example For nonlife insurances (13) Resident insurers with separate data on policyholders abroad:  Premiums earned from abroad_________100 (premiums received 105)  Claims payable abroad________________140 (claims paid 130)  Net increase in technical reserves relating to insurance with nonresidents due to prepayment_______5  Net increase in technical reserves relating to insurance with nonresidents due to claims incurred but not yet paid _______10  Income attributable to policyholders______5 (premium supplements)  Adjustment for volatility in claims payable:______- 40 32

44. Example For nonlife insurances (14) Derived items for the BOP? (viewpoint: resident insurer)  Goods and services account: insurance services= gross premiums receivable + premium supplements - expected claims (actual claims payable plus adjustment for claim volatility) expected long-term claims: claims payable – adjustment: 140 – 40 = 100 100 + 5 – 100 = 5  Primary income account: investment income attributable to policyholder (premium supplements) = 5  Secondary income account: net premiums receivable= gross premiums receivable + supplements – insurance service 100 + 5 – 5 = 100 claims payable = 140 33

45. Example For nonlife insurances (15) Derived items for the BOP? (viewpoint: resident insurer)  Financial account: insurance reserves, increase in liability to insurances holder 5 + 10 = 15 currency and deposits, decrease assets 105 – 130 = - 25 34

46. More examples in BPM6, Appendix 6, or SNA 2008  Calculation of insurances with less available information  Calculation of life insurance services 35