A country has a large current account deficit that has lasted several years. Compare three policies.
Allow the currency to fall
- Exporters: Goods become cheaper abroad, so sales rise.
- Consumers: Imports become dearer.
- Inflation: Dearer imported fuel and food push prices up.
A depreciation acts quickly on prices, but its success depends on PED and it can raise inflation.
Raise interest rates and taxes
- Current account: Lower spending cuts imports.
- Workers: Slower growth may raise unemployment.
- Inflation: Lower demand eases inflation.
Reducing demand cuts imports but at the cost of growth and jobs.
Invest in productivity and quality
- Exporters: Become more competitive on cost and quality.
- Economy: Growth is more sustainable.
- Timing: Takes years to work.
Supply-side policy tackles the cause of an uncompetitive export sector, but slowly.