Cambridge IGCSE Economics: Current account of the balance of payments (0455)

This guide teaches section 6.4 (6.4.1 to 6.4.4) of the Cambridge IGCSE Economics 0455 syllabus for examination in 2026. There are no separate tiers, so all of it is for every candidate. Each country, firm and number used below is made up as an illustration. For condensed recall use the revision notes, and for exam-style work use the practice questions. Other links: the Cambridge IGCSE Economics hub, the printable checklist and the free diagnostics.

What this unit covers

Section	What you must be able to do
6.4.1	Name and explain trade in goods, trade in services, primary income and secondary income. Calculate deficits and surpluses on the current account and on each section.
6.4.2	Give reasons for current account deficits and surpluses.
6.4.3	Explain the effects of a deficit or surplus on GDP, employment, inflation and the foreign exchange rate.
6.4.4	Describe the range of policies for balance of payments stability and judge how effective they might be.

The balance of payments records a country’s transactions with the rest of the world over a period. The current account is the part that records trade, income and transfers. Its own balance is what this unit is about.

6.4.1 Structure of the current account

The current account has four sections. In each one, money flowing in is a credit and money flowing out is a debit.

Section	What it records	Inflow example	Outflow example
Trade in goods	Physical products bought and sold abroad	A farm sells grain to another country	A shop imports vehicles
Trade in services	Intangible products	A hotel serves foreign tourists; a bank advises a foreign firm	Residents pay a foreign shipping line
Primary income	Income earned from owning assets or supplying labour abroad	Profits sent home by a firm’s overseas branch; wages of residents working abroad	Interest paid on loans from abroad; profits sent abroad by foreign-owned firms
Secondary income	Transfers with nothing received in return	Money sent home by citizens living abroad; foreign aid received	Aid given abroad; gifts sent to relatives overseas

The balance on each section is inflows minus outflows. A positive balance is a surplus and a negative balance is a deficit. The current account balance is the sum of the four section balances. The balance on goods and services together is the sum of the first two.

Worked example 1: a deficit

Country A, one illustrative year, millions of units.

Section	Inflows	Outflows	Balance
Goods	520	610	520 - 610 = -90
Services	240	170	240 - 170 = +70
Primary income	85	130	85 - 130 = -45
Secondary income	40	55	40 - 55 = -15

Current account balance = -90 + 70 - 45 - 15 = -80, a deficit of 80 million units. The balance on goods and services is -90 + 70 = -20. Country A’s GDP is 1,600 million, so the deficit is 80 / 1,600 x 100 = 5.0% of GDP.

Notice that the services surplus partly offsets the goods deficit. The primary income deficit is the cost of the interest and profits paid to foreign owners.

Worked example 2: a surplus

Country B, one illustrative year, millions of units: goods inflows 900, outflows 720; services 150 and 210; primary income 60 and 40; secondary income 25 and 45.

Balances: goods +180, services -60, primary income +20, secondary income -20. Current account = 180 - 60 + 20 - 20 = +120, a surplus. With GDP of 3,000 million, the surplus is 120 / 3,000 x 100 = 4.0% of GDP.

A country can run a deficit in some sections and an overall surplus, or the reverse. Always calculate each section before you comment on the total.

6.4.2 Causes of deficits and surpluses

A deficit means that outflows exceed inflows. Reasons can lie in imports, in exports, or in income and transfers.

Causes of a deficit:

• Strong spending on imports. When incomes grow quickly or consumers prefer foreign brands, households buy more imports. If a country cannot produce what its people want, imports rise.
• Uncompetitive exports. High production costs, low productivity, poor quality or an expensive currency make exports dear compared with rivals. Exports fall and import substitutes lose out.
• Higher inflation than trading partners. Domestic goods become relatively dearer, so buyers at home and abroad switch away from them.
• Weak demand abroad. A slowdown in major trading partners reduces spending on the country’s exports.
• A fall in the price of a main export. A country that depends on one primary product sees its export earnings drop.
• Large payments of primary and secondary income. Heavy borrowing from abroad means big interest payments. A large foreign-owned sector sends profits out.

Causes of a surplus are largely the reverse: competitive, high-quality exports; low costs and productivity gains; an exchange rate that keeps prices attractive; strong overseas demand; high saving and weak demand for imports; a rise in the price of a main export; and large inflows of income from assets owned abroad.

Chain of reasoning: a commodity price fall

Suppose a country earns most of its export income from one mineral. The world price of the mineral falls. Export earnings fall, so the goods balance moves towards deficit. Fewer foreign currencies are earned, the demand for the home currency falls, and the exchange rate may fall. The fall is also felt in mining jobs and in government revenue. Explaining each link in order is how you gain analysis credit.

6.4.3 Consequences of a deficit or surplus

Total spending in an economy is consumption + investment + government spending + exports - imports. Net exports (exports minus imports) are part of aggregate demand, so the current account affects the economy.

Area	Persistent deficit	Persistent surplus
GDP	Net exports are negative and drag on demand, so growth may be lower	Net exports add to demand, so growth may be higher
Employment	Jobs may be lost in export industries and in firms competing with imports	Export industries hire more workers
Inflation	A falling currency raises import prices (cost-push). Weak demand can lower price pressure	Extra demand may pull up prices when spare capacity is short. A rising currency lowers import prices
Exchange rate	Fewer inflows of foreign currency mean falling demand for the home currency, so it tends to fall	More inflows increase demand for the home currency, so it tends to rise

Other points to weigh:

• A deficit has to be paid for. A country can borrow, sell assets to foreigners or use savings of foreign currency. Borrowing raises future interest payments, which worsens the primary income balance.
• A small deficit that funds investment in new machinery can raise future output and exports. A large deficit caused by spending on consumer goods is harder to defend.
• A surplus is not automatically good. It can mean that residents are consuming too little, and it means trading partners are in deficit and may respond with protection.
• Effects depend on size, how long they last and what else is happening in the economy.

Worked example 3: the exchange rate and the current account

In Country A the currency falls from 0.20 to 0.16 units of foreign currency per unit of A’s currency. That is a 20% depreciation.

Exports: a good sells at 600 units in A. Its foreign price falls from 600 x 0.20 = 120 to 600 x 0.16 = 96, a fall of 20%. Export PED is 1.5 (elastic), so quantity demanded rises by 1.5 x 20% = 30%, from 1,000 to 1,300. Export earnings in A’s currency rise from 600 x 1,000 = 600,000 to 600 x 1,300 = 780,000, a gain of 180,000.

Imports: a foreign good costs 30 foreign units. Its price in A’s currency rises from 30 / 0.20 = 150 to 30 / 0.16 = 187.5, a rise of 25%. Import PED is 0.6 (inelastic), so quantity falls by 0.6 x 25% = 15%, from 2,000 to 1,700. Import spending moves from 150 x 2,000 = 300,000 to 187.5 x 1,700 = 318,750, an increase of 18,750.

Net improvement = 180,000 - 18,750 = 161,250. Here the depreciation helps because the demand for exports is elastic. If demand for both exports and imports were inelastic, import spending could rise by more than export earnings and the balance could worsen.

6.4.4 Policies for balance of payments stability

The aim is stability, meaning avoiding large and lasting deficits or surpluses. Policies differ in how they work.

Policies that raise export competitiveness (supply-side). Spending on education and training, infrastructure and research raises productivity and quality and lowers costs. Effects are long-term and uncertain, but they last.

Policies that reduce demand for imports.

• Higher interest rates or higher taxes (contractionary policy). Lower incomes mean lower spending on imports. If incomes fall by 100 and households spend 30 of every extra unit on imports, imports fall by 30. The costs are lower growth and higher unemployment, and it also hits demand for domestic goods.
• Protection. Tariffs, quotas and embargoes make imports dearer or limit quantity. Subsidies to domestic producers lower their prices.

Exchange rate policy. Under a fixed or managed system a government can lower the rate, or in a floating system allow it to fall. Exports become cheaper abroad and imports dearer.

Export promotion. Subsidies or trade fairs for exporters, and trade agreements that open markets.

Worked example 4: how effective is a tariff?

Country A has goods imports of 610. A 10% tariff raises the price of imports by 10%. Assume the foreign price stays unchanged.

If import PED is 0.6, quantity falls by 6%, so imports fall to 610 x 0.94 = 573.4, saving 36.6. If PED is 1.5, quantity falls by 15%, giving 610 x 0.85 = 518.5, saving 91.5. The tariff works far better when demand is elastic. The government also gains tariff revenue.

Evaluating effectiveness. Points to consider:

• PED. Policies that change prices only work well when demand responds.
• Time. Supply-side measures take years. Exchange rate effects take time as contracts and habits change.
• Retaliation. Partners may respond to tariffs with their own, reducing exports.
• Side effects. Contractionary policy cuts jobs and growth. Dearer imports can raise firms’ costs and inflation.
• Type of cause. If the deficit comes from a commodity price fall, a tariff does not fix it.
• Trade rules and agreements may limit what a country can do.

A strong answer picks a policy that matches the cause, says how it works, then says when and why it may fail.

Common errors

• Writing a deficit as a positive number. Use a minus sign for a deficit.
• Treating the current account as only trade in goods. There are four sections.
• Mixing up primary income (earned from assets and work abroad) and secondary income (transfers).
• Saying a depreciation always improves the balance. It depends on elasticities.
• Listing policies without saying how they cure the cause or how they could fail.

Next, check yourself with the practice questions and take a free diagnostic.

Official syllabus

Cambridge IGCSE Economics 0455 syllabus for examination in 2026, version 2, published by Cambridge University Press & Assessment (Cambridge International Education), section 6.4.