Stabilisation Policies (Cambridge International IGCSE Economics)
Policies that stabilise the current account balance
- The government have several policies (fiscal, monetary and supply-side policy) available to them in order to address a Current Account deficit or to stabilise the current account balance
They could do nothing
- Leaving it to market forces in the foreign exchange market to self-correct the deficit
| Advantage | Disadvantage |
|---|---|
| - Floating exchange rates act as a self-correcting mechanism - Over time a higher level of imports will end up depreciating the currency, causing imports to decrease (they are now more expensive) and exports to increase (they are now cheaper) - This improves the deficit | - There may be other external factors that prevent the currency from depreciating - It may take a long time for self-correction to happen and many domestic industries may go out of business in the interim - The longer it takes to self-correct, the more firms will delay investment in the economy |
Expenditure-switching policies
-
These policies aim to switch consumer expenditure from purchasing abroad to purchasing domestically
-
These include
- Protectionist policies which raise the price of imports, so consumers switch to buying domestic goods
- Currency depreciation, which makes the price of imports more expensive and so consumers switch to buying domestic products
| Advantage | Disadvantage |
|---|---|
| - These are often successful in changing the buying habits of consumers, switching consumption from imports to consumption of domestically produced goods and services - This helps improve a deficit | - Any protectionist policy often leads to retaliation by trading partners. - This may consist of reverse tariffs or quotas which will decrease the level of exports - This may offset any improvement to the deficit caused by the policy |
Expenditure-reducing policies
-
Measures designed to reduce total (aggregate) demand in an economy, such as contractionary fiscal or monetary policy
-
These include
- Raising taxes which cause consumers to have lower disposable income and so they spend less on imports
- Raising interest rates which reduces the level of borrowing resulting in a fall in the level of imports
| Advantage | Disadvantage |
|---|---|
| - Contractionary fiscal policy invariably reduces discretionary income, which leads to a fall in the demand for imported goods and improves a deficit | - Contractionary fiscal policy also dampens domestic demand, which can cause output to fall - When output falls, GDP growth slows and unemployment may increase |
Supply-side policies
-
These aim to improve the quantity and quality of the factors of production, thereby raising potential output
- Investment in education which raises productivity making exports cheaper and more attractive
- Investment in infrastructure which lowers costs for firms making exports cheaper and more attractive
| Advantage | Disadvantage |
|---|---|
| - Improves the quality of products and lowers the costs of production. - Both of these factors help the level of exports to increase, thus reducing the deficit | - These policies tend to be long-term policies so the benefits may not be seen for some time - They usually involve government spending in the form of subsidies and this always carries an opportunity cost |
Exam Hint The terms 'expenditure switching' and 'expenditure reducing' are not in your syllabus. They have been included as they clearly explain the intention of any fiscal, monetary or supply-side policy used to address imbalances in the current account. The policies aim to switch expenditure away from imports or to reduce expenditure on imports - both of which will help to lower any current account deficit.
Was this revision note helpful?
Build on this topic