IGNOU : M.COM : IBO 1 : UNIT 3 : Q - 3. How disequilibrium occurs in the balance of payment ? Describe the methods of correcting the disequilibrium.

Ans.  BALANCE OF PAYMENT DISEQUILIBRIUM

A nation's balance of payment is said to be in equilibrium when it is neither drawing upon its international reserves to make excess payments nor accumulating such reserves as a result of its receipts. In other words, when a country is not able to pay for its imports of goods and services from its export earnings, on accumulating reserves year after year, a disequilibrium in balance of payments sets in. Policy initiatives are needed to restore equilibrium. A disequilibrium in balance of payment may be short term or long term in nature. Short term disequilibrium, arises largely on account of cyclical factors. A crop failure leading to a sudden fall in export earnings may create a shortfall and consequently a disequilibrium. Long term or structural disequilibrium arises on account of long term strdctural changes in the economy. Fall in demand of export products due to technological changes may bring about a decline in export proceeds. Decline in demand and prices for natural rubbcr on account of development of synthetics may be cited as an example. Such a situation call be remedied only by diversification of economy.

METHODS OF CORRECTING DISEQUILIBRIUM

When such a situation of disequilibrium arises, the following measures are usually adopted.

i) Use of past reserves

ii) Borrowings from IMF

iii) Monetary and fiscal policy measures

iv) Exchange rate adjustments.

 Let us learn them in detail.

Use of Past reserves : A country may make use of past reserves ca finance the BOP deficit provided such reserves are available. Such reserves consist of gold, foreign currencies and fund related assets is reserve position with the IMF and holdings of special drawing rights. In recent years, increase in quotas and additional allocations of SDRs and expanded private capital flows have contributed to an overall increase in national reserves of several countries.

Borrowing from IMF : Countries with disequilibrium in R.O.P. can make use of IMF facilities. These are:

1. Stand by loans

2. Extended Fund Facilities (EFF)

3. Structure Adjustment Facilities (SAF)

 4. Enlarged Structural Adjustment Facilities (ESAF)

5. Compensatory and Contingency Financing Facilities (CCFF)

6. Systematic  transformation Facilities (STF).

Monetary and fiscal policy measures : Monetary and fiscal policies are also important tools for influencing B.0.P. conditions. A change in money supply brought about either through fiscal or monetary policies can bring about the required change in the level of total demand, which includes demand for imported goods and services.

Exchange rate adjustments : Adjustments in exchange rate is an effective tool. A downward adjustment in exchange rate will make exports cheaper and imports dearer. In other words, as a result of such a policy, exports will be encouraged and imports will be discouraged and equilibrium will be restored.

 All these methods, however, suffer from certain limitations. Hence, managing a state of disequilibrium in B.O.P. continues to be a major problem which every country faces. The major problem is that a policy initiative taken for the sake of achieving equilibrium in B.O.P. comes into conflict with other, rather more endearing objectives, such as, economic growth, employment and price stability. Reconciling such conflicts continues to worry policy makers.