Discuss the effectiveness of a change in the exchange rate in order to correct a trade deficit.


Define trade deficit: A trade deficit occurs when the value of a countries imports exceeds the value of a countries exports. 

Explain the effect of a change in the exchange rate: A fall in the Uk's exchange rate would result in an increase in the price competitiveness of UK exports overseas. Another result of this would be a fall in the price competitivness of imports. 

This means that there will be an increase in the quantity of exports sold, and a fall in the quantity of imports purchased by the UK, due to the change in price competitiveness. 

This will potentially correct the trade deficit, because as the value of imports falls, and the value of exports increase, the net surplus in the UK will become positive. 


However, an increase in the UK's exchange rate would have the opposite effect, with price competitiveness of imports increase, and price competitiveness of exports decreasing. This means that quantity of exports sold will fall, and quantity of imports bought will increase, resulting in a further trade deficit. 

Also, if either imports or exports are price inelastic, a change in price may result in less than responsive change in demand, which could lead to a worsening trade deficit. 


To conclude, an increase in the Uk's exchange rate could be effective in correcting a trade deficit, however factors such as the elsticity of the goods imported and exported, as well inflation in other counties, must be considered to calculate just how effective this method is. 

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