Cambridge International AS and A Level Economics: Current account and policies to correct imbalances (9708)

This guide covers sections 6.3 (Current account of the balance of payments) and 6.5 (Policies to correct imbalances in the current account), outcomes 6.3.1 to 6.3.4 and 6.5.1 to 6.5.2, of the Cambridge International AS & A Level Economics 9708 syllabus for examination in 2026, 2027 and 2028. Topic 6 is AS Level content. A Level candidates study it too, and the syllabus treats it as assumed knowledge for A Level Papers 3 and 4. Every country, firm and figure below is invented for illustration. None is a real statistic. Money is in billions of currency units (bn cu) unless stated.

Use the Cambridge A Level Economics hub for the whole course and the printable checklist to track progress. Next, use the revision notes and the practice questions. The international economic issues practice set and the macroeconomic intervention practice set give wider practice. To find weak spots first, take a free 10-minute diagnostic.

What this guide covers

Outcome	What you must be able to do
6.3.1	Name the components of the current account; define balance, deficit and surplus
6.3.2	Calculate the balance of trade in goods, in services, in goods and services, and the current account balance (CAB)
6.3.3	Explain causes of imbalances
6.3.4	Explain consequences of imbalances for the domestic and external economy
6.5.1	Explain stability of the current account as a government policy objective
6.5.2	Explain the effect of fiscal, monetary, supply-side and protectionist policies on the current account

6.3.1: components and the meaning of balance

The current account records a country’s trade and income flows with the rest of the world over a period, usually a year. It has four components:

Component	What it records	Inflow (credit)	Outflow (debit)
Trade in goods	Visible exports and imports	Selling machinery abroad	Buying foreign cars
Trade in services	Invisible exports and imports	A foreign tourist pays for a hotel	A local firm pays a foreign insurer
Primary income	Income from employment and from investment abroad	Profit sent home by a firm’s overseas branch	Interest paid to foreign bondholders
Secondary income	Transfers with no good, service or asset given in return	Money sent home by workers abroad	Aid given to another country

Money entering the country is a credit. Money leaving is a debit. The balance of any section is credits minus debits. A positive balance is a surplus. A negative balance is a deficit. An imbalance means a surplus or a deficit, as opposed to a balance of zero. The current account balance is the sum of the four section balances. Write deficits with a minus sign.

6.3.2: the calculations

Four results are required:

• balance of trade in goods = exports of goods − imports of goods
• balance of trade in services = exports of services − imports of services
• balance of trade in goods and services = the two balances added together
• CAB = balance in goods and services + primary income balance + secondary income balance

Worked example 1: a full current account

Country P, one illustrative year, bn cu:

Component	Credits	Debits	Balance
Goods	136	150	136 − 150 = −14
Services	58	39	58 − 39 = +19
Primary income	22	31	22 − 31 = −9
Secondary income	8	17	8 − 17 = −9

Goods and services: −14 + 19 = +5. CAB = +5 − 9 − 9 = −13 bn cu, a deficit. Country P’s GDP is 520 bn cu, so the deficit is 13 ÷ 520 × 100 = 2.5% of GDP.

Notice the pattern. Country P earns a surplus in goods and services together, yet the account as a whole is in deficit. Interest and profit paid abroad and net transfers abroad turn it negative. Never judge the account from one line. Also, the size of a deficit means more when set against GDP, because 13 bn cu is a heavy burden for a small economy and a light one for a large economy.

6.3.3: causes of imbalances

An imbalance arises when credits and debits differ. Sort causes by the line they affect.

Causes of a deficit

• Faster domestic growth than trading partners. Rising incomes raise import spending. If the income elasticity of demand (YED) for imports is high, imports grow faster than income.
• Weak price competitiveness. If unit costs or inflation exceed those of rivals, exports become dearer abroad and imports look cheaper at home.
• Weak non-price competitiveness. Poor quality, design or reliability cause buyers to choose foreign goods even when prices are similar.
• Recession among trading partners. Foreign incomes fall, so demand for exports falls.
• A fall in the world price of a main export. Export earnings drop, especially for a country that sells few products.
• Overvalued exchange rate. A strong currency makes exports dear in foreign currency and imports cheap.
• Primary and secondary income outflows. Heavy past borrowing creates interest payments abroad. Foreign-owned firms send profits home. Large aid or remittance outflows add to the debit side.

Causes of a surplus are largely the reverse: strong price and non-price competitiveness, slower domestic growth than partners, high saving that holds back import demand, a rise in the price of a main export, and large income inflows from assets held abroad.

Worked example 2: growth differences

Country P (example 1) has imports of goods of 150 bn cu and exports of goods of 136 bn cu. Domestic income rises 3% and the YED of imports is 1.8. Foreign income rises 2% and the YED of Country P’s exports is 0.9.

• Imports rise by 1.8 × 3 = 5.4%, to 150 × 1.054 = 158.1.
• Exports rise by 0.9 × 2 = 1.8%, to 136 × 1.018 = 138.4.
• New goods balance = 138.4 − 158.1 = −19.7, against −14 before.

The goods balance worsens by about 5.7 bn cu even though both economies grew. Imports respond more strongly because the YED of imports is larger, and because the import base is larger.

6.3.4: consequences of imbalances

Net exports are a component of aggregate demand (AD). A deficit reduces AD relative to a balanced position. A surplus adds to it.

Area	Persistent deficit	Persistent surplus
Domestic output and jobs	Lower net exports can slow growth and cost jobs in export and import-competing firms	Higher net exports support output and employment, and may add to inflationary pressure near full capacity
Exchange rate	Weaker demand for the currency relative to supply may push it down, raising import prices	Stronger demand for the currency may push it up, making exports dearer
Finance	The deficit must be paid for by net inflows elsewhere in the balance of payments: borrowing, selling assets to foreigners, or using foreign exchange reserves	Funds available to lend abroad or build reserves
External economy	Partners with surpluses gain demand for their exports; foreign ownership of the country’s assets rises	Partners face the matching deficits and may respond with protection

Two points of judgement apply. First, size and duration: a small deficit that funds imports of machinery may raise future capacity and exports, whereas a large one that funds consumption leaves only debts and foreign ownership. Second, the cause: a deficit from fast growth in a strong economy is less worrying than one from falling competitiveness.

6.5.1: why governments seek stability

The objective is stability of the current account, meaning avoiding large and persistent imbalances in either direction. It is not a target of zero. Governments seek it because:

• a large deficit needs ongoing finance, and lenders may withdraw or demand higher returns
• a falling currency raises import prices and costs
• a large surplus may reflect weak domestic demand and can provoke retaliation
• it helps other objectives, since stable external trade supports growth and jobs

The objective can conflict with others. A policy that cuts imports by cutting demand may hurt growth and employment.

6.5.2: policies and their effect

Fiscal policy

Contractionary fiscal policy (lower government spending or higher taxes) reduces AD and national income. Lower income reduces imports. The fall in imports equals the marginal propensity to import (mpm) times the fall in income.

Worked example 3

Country P cuts government spending by 12 bn cu. Its marginal propensities are: save 0.10, tax 0.30, import 0.20.

• Sum of withdrawals = 0.10 + 0.30 + 0.20 = 0.60
• Multiplier = 1 ÷ 0.60 = 1.67
• Fall in income = 12 × 1.67 = 20 bn cu
• Fall in imports = 0.20 × 20 = 4 bn cu

If the mpm were only 0.05, the multiplier would be 1 ÷ 0.45 = 2.22, income would fall by 26.7 and imports by just 1.3. The current account gains little, and the economy loses much more output. Fiscal policy is a weak tool where the mpm is low.

Monetary policy

A rise in the central bank interest rate makes borrowing dearer and saving more rewarding. Consumption and investment fall, so income and imports fall. Higher rates may also attract inflows of foreign money, raising the exchange rate. A stronger currency makes exports dearer, which can offset the gain. Lower inflation from weaker demand helps competitiveness over time.

Supply-side policy

Education, training, infrastructure and research raise productivity and quality, shifting long-run aggregate supply (LRAS) to the right. Unit labour cost is wage cost per unit of output.

Worked example 4

Wages rise 3% and productivity rises 8%. Unit labour cost changes by 1.03 ÷ 1.08 = 0.954, a fall of 4.6%. If firms pass this on and export demand has a price elasticity of 1.4, export quantity rises by about 1.4 × 4.6 = 6.5%. Imports also become less attractive compared with home goods. The effect takes years and is uncertain, but it lasts and does not reduce output.

Protectionist policy

Tariffs, quotas and subsidies restrict imports or help home producers. The policy aims to reduce import spending.

Worked example 5

A good costs 40 cu per unit from abroad and 500 units are bought, so the payment to foreign suppliers is 20,000 cu. A 20% tariff lifts the buyer’s price to 48 cu.

• PED of demand = −0.8: quantity falls 16% to 420. Payment to foreign suppliers = 420 × 40 = 16,800, a fall of 3,200. The government collects 420 × 8 = 3,360.
• PED = −1.5: quantity falls 30% to 350. Payment to foreign suppliers = 14,000, a fall of 6,000.

A tariff reduces the outflow far more when demand is elastic. Consumers’ total outlay in the first case actually rises, from 20,000 to 420 × 48 = 20,160 cu.

Evaluating policies

Choose a policy to match the cause. Then weigh:

• Cause. Supply-side policy suits a competitiveness problem. Demand-reducing policy suits an import boom caused by excess demand. Neither fixes a fall in a commodity price.
• Time. Fiscal and monetary effects work within a year or two. Supply-side effects take longer.
• Size of elasticities and mpm.
• Side effects. Contractionary policies reduce growth and employment. Protection raises prices for consumers and costs for firms using imported inputs.
• Retaliation. Partners may respond with tariffs, cutting exports.
• Rules. Trade agreements may limit protection.

State a judgement and the condition on which it rests.

Common errors

• Writing a deficit as a positive number.
• Calling the balance on goods and services the current account balance.
• Leaving out primary and secondary income.
• Counting tariff revenue as a payment to foreign suppliers.
• Describing a deficit as a debt. A deficit is a flow in one period. Debt is a stock.
• Saying fiscal contraction improves the account without explaining the link through income and the mpm.
• Giving a list of policies with no judgement about cause, time or side effects.

Official syllabus

Cambridge International AS & A Level Economics 9708 syllabus for examination in 2026, 2027 and 2028, sections 6.3 and 6.5 (Cambridge University Press & Assessment).