Policies To Correct Disequilibrium In The Balance of Payments (Copy)
11.1 Policies to Correct Disequilibrium in the Balance of Payments
11.1.1 Components of the Balance of Payments (BOP) Accounts
| Account | Description | Examples |
|---|---|---|
| Current Account | Records trade in goods, trade in services, primary income, secondary income. | Export/import of goods, tourism, investment income, remittances. |
| Financial Account | Records transactions in financial assets/liabilities between residents and non-residents. | FDI, portfolio investment, loans. |
| Capital Account | Records capital transfers and acquisition/disposal of non-produced, non-financial assets. | Debt forgiveness, purchase of patents. |
- Balance: Surplus if inflows > outflows; deficit if outflows > inflows.
11.1.2 Effect of Different Policies on the Balance of Payments
Fiscal Policy
- Expansionary: ↑ imports → BOP deficit may worsen.
- Contractionary: ↓ imports → may improve BOP.
Monetary Policy
- Tightening: ↑ interest rates → currency appreciation → exports ↓, imports ↑ (mixed effect).
- Loosening: ↓ interest rates → currency depreciation → exports ↑, imports ↓.
Supply-Side Policy
- Improves competitiveness → boosts exports, reduces imports over long term.
Protectionist Policy
- Tariffs/quotas → reduce imports → may improve BOP but risk retaliation.
Exchange Rate Policy
- Depreciation: Exports cheaper, imports more expensive → improves BOP (if Marshall–Lerner condition met).
- Appreciation: Opposite effect.
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11.1.3 Expenditure-Switching vs Expenditure-Reducing Policies
| Policy Type | Definition | Examples | Impact on BOP |
|---|---|---|---|
| Expenditure-Switching | Changes spending from imports to domestically produced goods. | Exchange rate depreciation, import tariffs, subsidies to exporters. | Increases exports, reduces imports. |
| Expenditure-Reducing | Reduces overall spending to cut import demand. | Fiscal contraction, monetary tightening. | Reduces imports but may slow economic growth. |