Explain how currency depreciation might affect a country’s current account balance.

Using real-world examples, discuss the possible implications of a persistent current account deficit.

Answers may include:

• Definition: depreciation, current account balance.
• Explanation: that a depreciation will make imports more expensive and exports cheaper but relative elasticities of demand will determine changes to volumes and thus influence the current account, Marshall-Lerner.
• Diagram: exchange rate, J-curve or AD/AS diagram.

Answers may include:

• Definition: current account deficit.
• Explanation: that exchange rates may depreciate, interest rates may rise to attract financial capital to help pay for the deficit. Foreign ownership of domestic assets may increase, debt may increase, credit ratings may be adversely affected, economic growth may be lowered, government policy responses may include use of
  fiscal and monetary policy.
• Diagram: AD/AS or exchange rate diagram depending on the implications chosen.
• Synthesis (discuss): the magnitude of the deficit, the proportion of national income it represents, whether borrowing is necessary to finance it, the composition of the deficit (capital or consumer goods), the impact on the currency, etc.
• Examples: real-world examples of countries which have experienced persistent current account deficits.

N.B. It should be noted that definitions, theory, and examples that have already been given in part (a), and then referred to in part (b), should be rewarded.