External Balance

What is External Balance?

If an economy is in external equilibrium, there is no difference between the import and the export of goods and services. External balance is one of four goals set by the magic square. The specifications of the magic square are intended to support the achievement of the economic policy goals of a state. The key indicator of external balance is the balance of payments.

This lesson deals with the external balance. You will find out what is important for the external balance and which target indicator is used to measure it. Finally, show you the connection between the external balance and the magic square. To deepen your knowledge, you can answer a few exercise questions after the text.

English: foreign trade balance

What is the importance of the external balance?

According to aviationopedia.com, the importance of the external balance is illustrated by these factors:

  • Advantages of international trade
  • Reduction of monopoly positions

An economy can benefit from international trade if comparative cost advantages can be used. If a country has the opportunity to produce a good with low fixed costs, it trades with a country where the cost of this good is high. In return, goods are made available for which the cost distribution is exactly the opposite.


Germany is known for good cars. Good wine comes from Portugal. If the two countries enter into international relations, the goods can be exchanged for one another.

Cross-border relationships can reduce monopoly positions. If international competitors are allowed on the market, sole suppliers of products lose their market power. The competition is intensifying. A pricing policy that is more in line with the market results in advantages for the demand side.

The balance of payments

The balance of payments consists of the following five sub-balances:

External balance: composition of the balance of payments

External Balance

Trade balance

In the balance of trade are exports of goods on the asset side of the economy recorded. The state’s imports of goods are shown on the liabilities side. If the assets side predominates at the end of the year – trade balance surplus – there is a payment claim from abroad. If the imports of goods are higher, a trade deficit is shown in the balance sheet. Your own country has to meet a payment obligation towards the foreign country.

Service balance

The balance of services shows all payments that have been received and spent as a result of cross-border services. The balance of services consists in particular of financial and insurance services, patent and license fees, transport services and consulting services.

The trade balance is determined from the difference between exports and imports in the trade balance and the services balance.

Transfer balance

In the transfer balance, the unpaid services that come in or go out of the state are recorded. There is no consideration for these services.

Financial account

The financial account shows the financial flows of an economy with other countries.

Foreign exchange balance

The foreign exchange balance refers to the foreign exchange and gold stocks that are transferred between the economy and abroad within a certain period.

What is part of the magic square?

The goals of the magic square should contribute to the safeguarding of an economy. This was agreed in the Stability Act of 1967 and still applies today.

The magic square is defined by these goals:

  • External balance
  • Stable price level
  • Constantly growing economic growth
  • High employment

Stable price level

The goods and services of an economy are brought together in a shopping cart with the help of a representative selection. A stable price level should help to ensure that the prices for this shopping basket remain constant for as long as possible.

Constantly growing economic growth

Constantly growing economic growth is associated with a continuous increase in economic value added. The main aim of the state is to avoid strong fluctuations in the economy. By avoiding these deviations, z. B. affect the labor market and other areas of the economy.

Steady economic growth is important because it expresses society’s prosperity.

High employment

A functioning economy is made possible by a high level of employment. One indicator for measuring employment is the unemployment rate. If this is below 3%, there is full employment in the economy.