How can we solve the balance of payments problem? Check Answer at BYJU’S (2024)

FAQs

How can we solve the balance of payments problem? Check Answer at BYJU’S? ›

The problem of balance of payment arises when there is rise in the balance of payment deficit. This problem can be managed when exports start rising and imports start reducing. Policies must be created which will help in stimulating exports.

To correct a balance of payments deficit , a country can devalue its currency, increase exports, reduce imports, or implement fiscal austerity. Devaluing the currency can make a country's exports cheaper and imports more expensive, thereby improving the balance of payments.

Types of Balance of Payments Problem

These causes are current inflation, manifested by excessive spending; price and cost disparity reflecting an inflated level of home prices and costs; and structural changes resulting in a deterioration in the real international economic position of a country.

Q 1. What is the balance of payment account of a country record? Answer: The balance of payment account records all the economic/monetary transactions between the residents (all the units) of a country and the rest of the world in an accounting year.

Import controls: To correct the deficit balance of payment the imports must be reduced. Implementation of the import control measures will result in curbing imports in the country and will therefore correct the deficit balance of payment.

By restricting imports through the quota system, the deficit is reduced and the balance of payments position is improved. ❖ A country, like India, which is on the path of development generally, experiences a deficit balance of payments situation.

Within the balance of payments, there are three main accounts: Current Account Balance: This balance is the most important since it is the most used to know the state of a country's economy. This includes imports and exports of goods and services and income and transfers.

Outflows from a country are recorded as debits in the BOP. For example, say Japan exports 100 cars to the U.S. Japan books the export of the 100 cars as a debit in the BOP, while the U.S. books the imports as a credit in the BOP.

The formula for calculating the balance of payments is current account + capital account + financial account + balancing item = 0.

What are the 3 balance of payments? ›

The balance of payments (BOP) is the method by which countries measure all of the international monetary transactions within a certain period. The BOP consists of three main accounts: the current account, the capital account, and the financial account.

The conventional view is that current account factors are the primary cause – these include the exchange rate, the government's fiscal deficit, business competitiveness, and private behaviour such as the willingness of consumers to go into debt to finance extra consumption.

Balance of payments are organised into three types of accounts —current, capital and financial — all of which are explained below. In the BoP, the three accounts show the value of international transactions made during a period of time (such as during a month, a quarter or a year).

This problem can be managed when exports start rising and imports start reducing. Policies must be created which will help in stimulating exports. Conditions should be created where people are more interested in purchasing domestic goods rather than importing goods.

Causes of BoP Deficit

High outflow of foreign exchange to meet import demands like technology, machines, and equipment can lead to BoP deficit. Sustained rise in a country's prices can often make foreign products cheaper, leading to a high volume of imports. Unstable tax structures, change in government, etc.

The disequilibrium can be corrected using policies like currency devaluation, trade policy measures, exchange control and demand management. These policies aim at promoting exports, reducing imports and controlling foreign capital flows. However, these policies also have their costs and limitations.

These imbalances are typically a reflection of a nation's economic interactions with the rest of the world, arising predominantly due to trade imbalances, erratic financial flows, and fluctuations in exchange rates.

Balancing Mechanism in BOP

There are three main ways to deal with differences in Balance of Payments (BoP), usually used together. These methods are: changing exchange rates, adjusting a country's internal prices and demand, and following rules-based adjustment systems.