Policies to correct current account imbalances
| English | Chinese | Pinyin |
|---|---|---|
| competitiveness | 竞争力 | jìng zhēng lì |
| expenditure-switching | 支出转换 | zhī chū zhuǎn huàn |
| depreciation | 贬值 | biǎn zhí |
| expenditure-reducing | 支出减少 | zhī chū jiǎn shǎo |
| supply-side | 供给侧 | gōng jǐ cè |
Fixing a trade deficit
- A country running a big, persistent current-account deficit can't borrow forever. What can it do?
- Three broad approaches: switch spending toward home goods, reduce spending overall, or improve competitiveness 竞争力.
Current account flow
Track exports, imports and income flows into the current account.
Which is an expenditure-switching policy to reduce a current account deficit?
Depreciation switches spending toward home goods; the others reduce total expenditure.
Expenditure-switching 支出转换
- Expenditure-switching policies push spending from imports toward domestic goods:
- devaluation/depreciation 贬值 (makes imports dearer, exports cheaper) and tariffs/quotas.
A currency exchange: the exchange rate is the price of one currency in terms of another
Expenditure-reducing policies cut a deficit by:
Lower total demand pulls down imports — but at the cost of slower growth.
Expenditure-reducing 支出减少
- Expenditure-reducing policies cut total demand, so imports fall:
- contractionary fiscal (higher tax, less spending) and contractionary monetary (higher interest rates).
- The cost: slower growth and higher unemployment.
Supply-side policies aim to improve competitiveness as a long-run fix for a deficit.
Raising productivity makes exports succeed without relying on a weaker currency.
Classify each policy.
Switching shifts spending; reducing cuts demand; supply-side raises competitiveness.
Supply-side 供给侧 (the long-run fix)
- The durable solution: supply-side policies that raise productivity and competitiveness, so exports succeed without a weaker currency.
- Education, infrastructure and investment make home goods more attractive at home and abroad.
The Marshall–Lerner condition. A depreciation only improves the current account if demand is elastic enough (PED of exports + PED of imports > 1); otherwise it can make the deficit worse at first (the J-curve).
A depreciation improves the current account only if the Marshall–______ condition holds.
Marshall–Lerner: PED exports + PED imports > 1.
You've got it
- expenditure-switching: devaluation/depreciation, tariffs — shift spending to home goods
- expenditure-reducing: contractionary fiscal/monetary — cut total demand (and imports)
- supply-side policies are the long-run fix (raise competitiveness); mind the Marshall–Lerner condition