If a country operates a freely floating exchange rate system, and
suffers a balance of payments deficit can be eliminated through?
Answer Details
If a country operates a freely floating exchange rate system and suffers a balance of payments deficit, it can be eliminated through a fall in the external value of its currency.
A balance of payments deficit occurs when a country's imports exceed its exports, leading to a decrease in its foreign exchange reserves. In a freely floating exchange rate system, the value of a country's currency is determined by the forces of supply and demand in the foreign exchange market.
If a country is facing a balance of payments deficit, the demand for its currency in the foreign exchange market is low, which leads to a fall in the external value of its currency. A fall in the external value of a currency makes the country's exports relatively cheaper for foreign buyers, which can increase demand for its exports and reduce the trade deficit.
Furthermore, a fall in the external value of a country's currency can also make its imports more expensive, which can reduce the volume of imports and further help to correct the balance of payments deficit.
Therefore, a fall in the external value of a country's currency can help to eliminate a balance of payments deficit in a freely floating exchange rate system.