Automatic adjustment in Balance of Payments

For College Students

1. International Economics B.COM SEM-V UNIT-II

2. AUTOMATIC ADJUSTMENT IN THE BALANCE OF PAYMENTS

3. Introduction Normally the balance of transactions is always balanced but there is an imbalance due to unexpected changes in the country. Here are the views of different economists that such an imbalance is automatically eliminated. Thus, classical and Keynesian economists believe that if the economy is not under external pressure or control, the balance of payments is automatically balanced and this automatic adjustment is based on two things: (1) price and (2) income. Thus automatic adjustment, according to the classical view, is “ brought about through price changes, while according to Keynes and other writers, it is brought about through income changes.

4. Automatic Adjustment through Price Changes David Ricardo ,David Hume and other classical writers held the view that automatic adjustment in the balance of payments of a country was brought through price changes. According to them, under the international gold standard mechanism, disequilibrium in the balance payments was automatically corrected through free movements of gold.

5. Automatic Adjustment through Price Changes India England Import > Export Import < Export BOP is in deficit BOP is in Surplus Export of gold Import of gold Decrease supply of money Increase supply of money Decrease Price level Increase Price level Decrease price of exports Increase price of exports Increase Exports Increase imports BOP will be in Balance BOP will be in Balance

6. Automatic Adjustment through Income Changes According to Keynes and other Writers, automatic adjustment in the balance of payments of a country is brought about not through price changes but through income changes. The incomes of the different sectors of the economy of a country are inter dependent on each other. Thus for example, incomes in the industrial sector are dependent on the agricultural sector; likewise income from foreign trade affects agricultural and industrial incomes.

7. Automatic Adjustment through Income Changes India England Import > Export Import < Export BOP is in deficit BOP is in Surplus Decrease exports Increase exports Decrease income of other sectors Increase income of other sectors Decrease Purchasing power Increase Purchasing power Decrease imports Increase imports BOP will be in Balance BOP will be in Balance

8. THANK YOU PREPARED BY DR.JAGDISH MAHESHWARI ASSISTANT PROFESSOR, TOLANI INSTITUTE OF COMMERCE,ADIPUR