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Date May 2019 Marks available 2 Reference code 19M.2.HL.TZ0.2
Level Higher level Paper Paper 2 Time zone Time zone 0
Command term Define Question number 2 Adapted from N/A

Question

Current account deficit poses a challenge to Pakistan’s economy

  1. The president of Pakistan has expressed his concern at the significant increase in Pakistan’s current account deficit. The current account deficit grew to US$12.12 billion in the fiscal year of 2016/17 compared to US$4.86 billion in 2015/16. The deficit was caused by rising imports and falling exports. The increasing current account deficit may result in Pakistan having to request a new International Monetary Fund (IMF) loan to fund the deficit. To avoid this, the president is proposing that the importing of luxury, non-essential items needs to be reduced.

  2. The governor of Pakistan’s central bank agreed with the president’s concern. He said that the “rapidly growing current account deficit is the biggest challenge facing the country’s economy”. He agreed that the problem is made worse because many non-essential imports are being purchased, which requires borrowing from abroad. However, he stressed that while rising non-essential imports are a problem, “32 % of imports are capital goods” and are necessary for the continued growth of small to medium enterprises (SMEs), agriculture, housing and construction.

  3. Central bank advisors have also recommended depreciating the rupee (Pakistan’s currency) to reduce the trade deficit. The value of the rupee is currently controlled through a managed exchange rate system. It has been suggested that the rupee is overvalued by as much as 20 %. However, the central bank governor claims that a “depreciation has a number of negative effects”.

  4. In 2016, Pakistan’s economic growth reached 5.3 %, its highest point for 10 years. The government has estimated that it will be 6 % in 2017. According to the central bank governor, loans to SMEs are currently only 7 to 8 % of all loans to businesses in Pakistan. He believes that if loans to SMEs were increased to 15 to 17 % of all loans to businesses in Pakistan, there would be even higher economic growth.

  5. Along with the current account deficit, fiscal policy decisions have also led to a significant budget deficit. The budget deficit increased in 2016, resulting in greater public debt. The central bank recommends the government’s debt to be limited to 60 % of gross domestic product (GDP).

[Source: adapted from Current account deficit may lead to IMF loan: FPCCI chairperson, https://www.thenews.com.pk/
print/226102-Current-account-deficit-may-lead-to-IMF-loan-FPCCI-chairperson and Current account deficit poses biggest
challenge to economy: SBP, https://www.thenews.com.pk/print/225481-Current-account-deficit-poses-biggest-challenge-toeconomy-
SBP. Copyright © The News International, Karachi, Pakistan.]

List two functions of the central bank (paragraph [2]).

[2]
a.i.

Define the term fiscal policy indicated in bold in the text (paragraph [5]).

[2]
a.ii.

Using an exchange rate diagram, explain how the central bank might depreciate the value of the rupee (paragraph [3]).

[4]
b.

Explain the difference between a current account deficit and a budget deficit (paragraph [5]).

[4]
c.

Using information from the text/data and your knowledge of economics, discuss the effects of the increasing current account deficit on Pakistan’s economy.

[8]
d.

Markscheme

a.i.

a.ii.

Candidates who incorrectly label diagrams can be awarded a maximum of [3].

Candidates whose explanation does not correspond to the diagram (eg the candidate explains increase of supply, but the diagram shows decrease of demand) can be awarded a maximum of [2].

For an exchange rate diagram, the vertical axis may be labelled exchange rate, price of rupee in terms of another currency, another currency per rupee, another currency/rupee. The horizontal axis should be labelled quantity (of rupees). A title is not necessary.

b.

c.

Examiners should be aware that candidates may take a different approach which, if appropriate, should be rewarded.

Do not award beyond level 2 if the answer does not contain reference to the information provided.

Command term
“Discuss” requires candidates to offer a considered and balanced review that includes a range of arguments, factors, or hypotheses. Opinions or conclusions should be presented clearly and supported by appropriate evidence.

Responses may include:

Positive effects:

Negative effects:

Any reasonable discussion.

To reach level 3, students must be aware of the particular situation in Pakistan, not just present an evaluation of a current account deficit in general.

 

d.

Examiners report

Most candidates defined the term accurately.

a.i.

Generally accurately defined.

a.ii.

There some excellent answers to this question with good, clear and accurately labelled diagrams coupled with a concise explanation. Most candidates explained the depreciation in terms of increased supply of rupees. A minority explained it in terms of decreased demand for rupees. Both were acceptable.

Weaknesses: incorrect labelling; failure to explain how the central bank might increase the supply of rupees (decrease demand); and a confusion between internal and external money supply.

b.

In many cases a current account deficit was only partially explained. Candidates often defined the current account in terms of the balance of trade only. Also, the current account was explained in volume terms rather than value.

Budget deficit was generally well understood and defined accurately

c.

This question posed problems with many candidates focusing on how to reduce a current account deficit rather than on its consequences. Those that did attempt to discuss the effects did so superficially. Other candidates attempted to interpret the question in terms of exchange rates. While there was some relevance, such an approach was too narrowly based. The few candidates that did attempt to examine the effects often produced unbalanced answers with very few identifying any positive effects for Pakistan.

d.

Syllabus sections

Last exams 2021 » Section 2: Macroeconomics » 2.4 Fiscal policy » The role of fiscal policy » Fiscal policy and short-term demand management
First exams 2022 » Unit 3: Macroeconomics » 3.6 Demand management—fiscal policy » 3.6.1 Fiscal policy
Last exams 2021 » Section 2: Macroeconomics » 2.4 Fiscal policy » The role of fiscal policy
Last exams 2021 » Section 2: Macroeconomics » 2.4 Fiscal policy
First exams 2022 » Unit 3: Macroeconomics » 3.6 Demand management—fiscal policy
Last exams 2021 » Section 2: Macroeconomics
First exams 2022 » Unit 3: Macroeconomics
First exams 2022
Last exams 2021

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