5.2 Signposting

Question 1

Consequences of a Current Account Deficit

Answer 1

1. Reduction in AD because of reduced value of (X-M) in the AD equation. This leads to reduced growth
2. Unemployment increases
3. Demand pull inflation will decrease as there is less AD
4. Countries with a persistent current account deficit have to finance the deficit by running a financial surplus by borrowing form international investors. This racks up debt, which can reduce confidence of investors who stop buying debt and move their investments to a safer country leading an exchange rate weakening which causes even more panic this can lead to a currency crisis and widespread economic crisis
5. Current account deficits will put downward pressure on the exchange rate as supply increases for the currency outsttrop demand. This decreased exchange rate makes imports dearer and exports cheaper. However this can be dangerous for a net importer like the UK as it can cause cost-push inflation and stagflation

Question 2

Current Account Deficit Evaluation

Answer 2

1. The cause of the deficit
2. The size of the deficit