CCEA A Level Economics
CCEA A Level Economics A2 2 Balance of Payments, Exchange Rates and the European Union Exam Questions
Free CCEA A Level Economics revision for A2 2 Balance of Payments, Exchange Rates and the European Union: what you need to know, common mistakes and exam-style questions with answers. Covers balance of payments, deficits, expenditure switching and reducing, exchange rate systems, marshall-lerner, the J-curve and the eurozone.
Practise A2 2 Balance of Payments, Exchange Rates and the European Union with past papers
Once you have learnt this topic, find the A2 2 Balance of Payments, Exchange Rates and the European Union questions in real CCEA A Level Economics past papers and mark them with the mark scheme. Doing lots of real questions is the quickest way to learn how examiners ask about each idea.
About CCEA A Level Economics A2 2 Balance of Payments, Exchange Rates and the European Union
This topic in Unit A2 2: Managing the Economy in a Global World covers the international accounts and currencies. You need the structure of the balance of payments, the causes and consequences of current account deficits and surpluses, and expenditure-switching and expenditure-reducing policies to correct imbalances. Exchange rates covers foreign exchange markets, fixed and floating systems, the Marshall-Lerner condition, the J-curve, the trade-weighted index and purchasing power parity. The European Union section covers the costs and benefits of membership, enlargement and the eurozone, and is especially relevant to Northern Ireland's trading links. CCEA questions often combine a J-curve diagram with evaluation of a depreciation.
What you need to know
- Balance of payments structure The current account records trade in goods and services, primary income (investment income and wages) and secondary income (transfers). The financial account records investment flows and changes in reserves; the capital account is small.
- Deficits and surpluses A current account deficit means more is spent on imports and outflows than is earned. Causes include low competitiveness, high domestic demand and a strong currency. A persistent deficit may need financing through borrowing or asset sales.
- Correcting imbalances Expenditure-switching policies (depreciation, protectionism) change the relative price of imports and exports. Expenditure-reducing policies (contractionary fiscal or monetary policy) cut overall spending, including on imports.
- Exchange rate systems Floating rates are set by demand and supply of the currency; fixed rates are maintained by central bank intervention. The trade-weighted index measures a currency against a basket of trading partners' currencies; purchasing power parity compares the price of a common basket of goods.
- Marshall-Lerner and the J-curve A depreciation improves the current account only if the sum of the price elasticities of demand for exports and imports is greater than one. In the short run demand is inelastic, so the balance first worsens before improving: the J-curve.
- European Union and the eurozone Membership brings a single market, free movement of goods, services, capital and labour, and a common external tariff. Eurozone members share the euro and ECB monetary policy, removing exchange rate risk but losing independent interest rate and exchange rate policy.
Common mistakes in A2 2 Balance of Payments, Exchange Rates and the European Union
- Treating a current account deficit as automatically harmful; it depends on its size, cause and how it is financed.
- Stating the Marshall-Lerner condition without saying it involves the sum of the price elasticities of demand for exports and imports.
- Drawing the J-curve without explaining the short-run inelasticity of demand.
- Confusing a depreciation under floating rates with a devaluation under fixed rates.
- Discussing eurozone membership without mentioning the loss of independent monetary policy.
Try three A2 2 Balance of Payments, Exchange Rates and the European Union exam-style questions
1. State the Marshall-Lerner condition. (2 marks)
Show the mark scheme answer
A depreciation will improve the current account balance; if the sum of the price elasticities of demand for exports and imports is greater than one.
2. Using a J-curve, explain why a depreciation may initially worsen the current account. (6 marks)
Show the mark scheme answer
After a depreciation imports cost more in domestic currency and exports earn less foreign currency; in the short run contracts are fixed and consumers slow to switch, so demand is price inelastic; import spending rises and the balance worsens; over time demand becomes more elastic, export volumes rise and import volumes fall; balance improves, forming a J shape.
3. Evaluate the costs and benefits of membership of the eurozone for a small open economy. (10 marks)
Show the mark scheme answer
No exchange rate risk or transaction costs, encouraging trade and FDI; price transparency; lower interest rates if credibility is borrowed; but loss of independent monetary policy and exchange rate adjustment; one interest rate may not suit all; asymmetric shocks; fiscal rules restrict policy; conclusion depending on how closely the economy's cycle matches the eurozone.
A2 2 Balance of Payments, Exchange Rates and the European Union FAQs
What does CCEA A Level Economics A2 2 Balance of Payments, Exchange Rates and the European Union cover?
The structure of the balance of payments, deficits and surpluses, expenditure-switching and reducing policies, exchange rate systems, the Marshall-Lerner condition, J-curve, trade-weighted index, PPP, EU membership and the eurozone.
Which unit is this topic examined in?
It is in Unit A2 2: Managing the Economy in a Global World, a 2 hour paper with short-answer questions, a case study and an extended response question chosen from two.
How do I evaluate a depreciation as a policy?
Consider the Marshall-Lerner condition, the J-curve time lag, inflation from dearer imports, the reaction of trading partners and whether non-price competitiveness problems remain.
