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Introduction

1. It may still experience balance of payments problems (as in deficits or surpluses) as there could be, for instance, a gradual long term change. For instance, commodity prices have fallen to a great extent in the past 50 years. This will affect commodites-based economies and perhaps limit their export revenues en route to a current account deficit, since agricultural-based economies are usually also developing countries whom continuously have to import goods for infrastructural improvements. 2. Persistent current account deficit: Some problems which may arise from a persistent current account deficit is that there would be an depreciation of the currency since imports>exports and thus, it implies that there is excess supply of the currency. In the case of a current account surplus, it would lead to an appreciation of the currency since exports>imports and thus, it implies that there is excess demand for the currency. ...read more.

Middle

and lead to higher marginal propensity to save rather than a higher marginal propensity to consume, which limits domestic consumption. 2. Persistent current account surplus: Some problems which may arise from a current account surplus is that it will eventually lead to the appreciation of the currency since exports>imports and thus there is excess demand of the currency on the foreign exchange market. This will lead to reduced export competitiveness, which limits growth and perhaps also employment in export-oriented industries. This will be especially devastating for countries which rely upon secondary and tertiary exportation, as these goods and services have higher PEDs, which makes it susceptible to currency appreciation. Another problem which may arise from a current account surplus is the loss of savings, as a CAS is offset by a FAD. A FAD implies that there is greater outflow of funds rather than inflow of money, implying capital flight. ...read more.

Conclusion

6a) Policies which countries can use to increase exports to reduce a current account deficit include policies such as depreciating its exchange rate. A government can achieve this by lowering interest rates, which will lower demand for its currency on the foreign exchange market and thus, the exchange rate will depreciate. Furthermore, another possible policy is subsidize domestic firms; the provision of an export-subsidy, which is direct monetary aid to every unit of exports produced. 6b) Disadvantages of lowering interest rates is that there will be lower financial investment from abroad, which could hurt an economy, especially in the case of a developing country, which constantly needs savings in order to expand its economy. Furthermore, by lowering interest rates, banks will lose potential profits as the rate of return has decreased. Also, in the case of an export subsidy, it also implies that there is misallocation of global resources. ...read more.

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