International Trade and Balance of Payments: Trade Theories, BoP Accounts, Exchange Rates, IMF and WTO for SSC CGL Economics

International trade and finance connect India with the world economy, and SSC CGL Finance and Economics regularly asks about the trade theories, the parts of the balance of payments, the exchange rate and the global organisations. This guide on international trade and balance of payments for SSC explains the theories, the BoP accounts, the exchange rate terms and the role of the IMF, World Bank and WTO, with practice questions and FAQs.

Theories of International Trade

Balance of Trade and Balance of Payments

Accounts in the Balance of Payments

• The total BoP always balances in accounting terms; a deficit in the current account is financed by a surplus in the capital and financial account or by using the foreign exchange reserves.
• A Current Account Deficit (CAD) arises when imports of goods and services exceed exports, taking transfers into account.
• India usually has a trade deficit in goods (mainly because of crude oil and gold imports) and a surplus in services (IT exports) and remittances.
• FDI is long-term investment with control; FPI is short-term portfolio investment in shares and bonds, and is more volatile.

Exchange Rate

• When the rupee depreciates, exports become cheaper and imports become costlier.
• India devalued the rupee in 1949, 1966 and 1991.
• In 1993 India moved to a market-determined exchange rate; the rupee became convertible on the current account in 1994.
• Foreign exchange reserves are held by the RBI; they include foreign currency assets, gold, SDRs and the reserve tranche position in the IMF.

International Organisations

Trade Policy Instruments

• Tariff: a tax on imports.
• Quota: a limit on the quantity of imports.
• Subsidy: government help to exporters.
• Dumping: selling goods abroad at a price lower than the cost or the home price; countered by anti-dumping duty.
• Non-tariff barriers include licensing, quality standards and sanitary rules.

Solved Examples

Example 1. Exports of goods are 300 billion and imports of goods are 450 billion. Find the balance of trade.
300 − 450 = −150 billion, a deficit.

Example 2. Who proposed the theory of comparative advantage?
David Ricardo.

Example 3. Where is the headquarters of the WTO?
Geneva.

Quick Tips

• Learn the economists and their theories.
• Remember the three accounts of the BoP.
• Remember the difference between devaluation and depreciation.
• Learn the headquarters and year of the IMF, World Bank and WTO.

Quick Revision Points

• Comparative advantage: David Ricardo; absolute advantage: Adam Smith.
• BoP has the current, capital and financial accounts.
• Devaluation is an official act under a fixed system; depreciation is market-driven.
• WTO was formed in 1995 in Geneva.
• IMF and World Bank were created at Bretton Woods in 1944–45.

Practice Questions With Answers

1. Who propounded the theory of comparative advantage?
   Answer: David Ricardo
2. Who gave the theory of absolute advantage?
   Answer: Adam Smith
3. Where is the headquarters of the WTO?
   Answer: Geneva
4. What does the current account of the BoP include?
   Answer: Trade in goods and services, income and transfers
5. What is the term for a fall in the value of a currency in the floating system?
   Answer: Depreciation
6. What is the difference between exports and imports of goods called?
   Answer: Balance of trade
7. Which organisation gives loans to countries with BoP problems?
   Answer: IMF
8. In which year was the WTO established?
   Answer: 1995
9. Which system of exchange rate does India follow?
   Answer: Managed floating
10. What is selling goods abroad below cost called?
    Answer: Dumping

How to Practise This Chapter

Practise 10 questions every day and write the steps on paper. Then attempt timed sets from our practice papers and the previous year papers page. See all topics on the Finance and Economics notes page, read the previous topic Market Structures and the next topic Money Supply and Credit Creation.

Frequently Asked Questions

What is the theory of comparative advantage?

A country should specialise in the goods it can produce at a lower opportunity cost, and trade for the rest.

What is the balance of payments?

A record of all economic transactions of a country with the rest of the world during a year.

What is the difference between the balance of trade and the balance of payments?

The balance of trade covers only goods, while the balance of payments covers goods, services, income, transfers and capital flows.

What is a current account deficit?

When the country’s payments on the current account exceed its receipts.

What is FDI?

Foreign direct investment, a long-term investment in a business with control.

What is the difference between devaluation and depreciation?

Devaluation is an official fall in a currency’s value in a fixed system, depreciation is a market-driven fall.

What is the role of the IMF?

To promote monetary cooperation and to give short-term loans to countries with balance of payments problems.

What is the role of the WTO?

To make rules of global trade and settle trade disputes.

What is a tariff?

A tax on imported goods.

What is dumping?

Selling goods in a foreign market at a very low price.

Is this topic asked in SSC CGL?

Yes, in the Finance and Economics paper.

When did India devalue the rupee?

In 1949, 1966 and 1991.