Describe balance of payments identity and explain its implication under the fixed & flexible exchange rate regimes.
The balance of payments identity holds that the combined balance on the current & capital accounts have to be equivalent in size, though opposite in sign, to the change in the official reserves: BCA + BKA = -BRA. Under pure flexible exchange rate regime, central banks do not engage in official reserve transactions. Thus, the overall balance have to balance, that means BCA = -BKA. Though, under the fixed exchange rate regime a country can have net BOP surplus or deficit as the central bank will accommodate it via official reserve transactions.