21 Causes of Disequilibrium in Balance of Payment

The balance of payments is a record of all economic transactions between a country and the rest of the world over a certain period of time.

A balance of payments deficit or surplus occurs when a country’s total payments for goods, services, and capital outflows exceed or fall short of its total receipts from the rest of the world.

A disequilibrium in a country’s Balance of payments position may arise either for a short period or for a long period.

The balance of payments is more compressive in scope and covers the total debits and credits of all items visible- as well as invisible.

Types of disequilibrium differ from nation to nation, while the different kinds of disequilibrium and their causes in the same country will differ at different times.

Any disequilibrium in the balance of payments arises owing to a large number of causes of factors operating simultaneously.

Uncovering the Roots: Exploring the Causes of Disequilibrium in the Balance of Payments

Here are some of the causes of disequilibrium in the balance of payment:

1. Unfavorable Balance of Trade

Import exceeding exports- huge development and investment programs in the developing economies are the root causes of the disequilibrium in the BOP of these countries.

Their propensity to import goes on increasing for want of capital for rapid industrialization, while exports may not be boosted up to that extent as these are the primary producing countries.

Moreover, their export quantum of primary commodities may decline as newly created domestic Industries may require them.

Thus, there will be structural changes in the balance of payments and structural disequilibrium will result.

2. Cyclical Fluctuations, their Phases, and Amplitudes

Business or cyclical fluctuations induced by the operations of the trade cycle, their phases and amplitudes differ in different countries, which generally produce cyclical disequilibrium in a country’s BOP.

For example, if there occurs a business recession in foreign countries it may easily cause a fall in the exports and exchange earnings of the country concerned resulting in disequilibrium in the balance of payment.

3. Burden of Payment of Foreign Debt

One important reason for a surplus or deficit in the balance of payments may arise out of international borrowing and investment.

A country may tend to have an adverse balance when it borrows heavily from another country, while the lending country will tend to have a favorable balance and a deficit balance when the loan is Rapid.

4. Trade Imbalances

Trade imbalances arise when a country imports more goods and services than it exports.

This leads to a deficit in the current account of the balance of payments.

5. Speedy Economic Development

Due to rapid economic development, the resulting income and price effects will adversely affect the balance of payments position of a developing country.

With an increase in income, the marginal propensity to import is high in these countries, their demand for imported articles will consume also in these countries, people’s demand for domestic goods also rise, and hence less may be spread for export.

Moreover, a huge investment in heavy industries in developing nations may have an inflationary impact, as the output of these industries will not be forthcoming immediately, whereas money income will have been already expended. 

Thus, there will be an excess of the monetary demand for goods and services, in general, which will push up the price levels.

A rise in the comparative price level certainly encourages and discourages exports resulting in a deficit balance of payments.

6. Inadequate Promotion of Exports

A vast increase in the domestic production of foodstuff, raw materials, substitute goods, etc.

Advanced countries have decreased their need for import from the agrarian underdeveloped nations.

Thus, export demand has considerably changed, resulting in structural disequilibrium in these Nations.

Similarly, advanced nations also have suffered in their exports as a result of the loss of their colonial markets, the tendency of poor nations for self-reliance, and their ways and means of curtailing their imports.

But disequilibrium (deficit) Balance of payments seems to persist in underdeveloped or developing nations than in advanced rich Nations.

7. Capital Flight

Capital flight occurs when investors move their capital out of a country due to economic or political instability, currency devaluation, or a lack of confidence in the domestic economy.

This results in a deficit in the capital account of the balance of payments.

8. Inflationary Spiral at Home

An inflationary rise in prices within the country may also produce disequilibrium in the balance of payments.

The prices of export items may go up, causing a decline in the volume of exports from the country concerned.

The inflationary spiral within the country may also result in an increase in the volume of imports.

9. Fluctuations in Commodity Prices

A country’s balance of payments can be affected by fluctuations in commodity prices.

For example, if a country depends heavily on a single commodity such as oil, a drop in oil prices can lead to a decline in exports and a current account deficit.

10. Capital Movements

Capital movements can also cause disequilibrium in the balance of payments of a country.

A massive inflow of foreign capital into a country is followed by an unfavorable Balance of payments.

A large outflow of capital, on the other hand, is accompanied by the favorable Balance of payments.

11. Changes in Exchange Rates

Changes in exchange rates can affect the balance of payments by making imports more expensive and exports less expensive, leading to a deficit in the current account.

12. Natural Factor

Natural calamities, such as the failures of rains coming from floods may easily cause disequilibrium in the balance of payments by adversely affecting agricultural and industrial production in the country.

The exports decline while the imports maybe go up, causing a discrepancy and the country’s balance of payments.

13. Demonstration Effect

The demonstration effect is another important factor causing the deficit in the Balance of payments of the country, especially for an underdeveloped nation.

When people of underdeveloped Nations come into effect with the people of advanced countries due to economic and other social and political relations there will desire to have western-style goods and patterns of consumption.

So that their propensity to import rises whereas their export quantum may remain the same or may even decline with the increase in income thus causing an adverse BOP for the country.

14. Interest Rate Differentials

Differences in interest rates between countries can cause capital to flow to the country with the higher interest rate, leading to a surplus in the capital account of the balance of payments.

15. Government Policies

Government policies, such as trade barriers or restrictions on capital flows, can affect the balance of payments by reducing imports or capital inflows, leading to a surplus in the current or capital account.

16. High Population Growth

A huge population and its high rate of growth in poor countries also have adversely affected their BOP position.

It is easy to see that an increase in population increases the need for these countries for imports and decreases the capacity to export.

17. Political Factors

The political factors may also produce serious disequilibrium in the country’s BOP.

For example – The existence of political instability may result in disrupting the productive apparatus within the country, causing a decline in exports and an increase in imports.

Likewise, the payments of war reparations or indemnities may also cause serious disequilibrium in the country’s BOP.

The imposition of heavy war reparations on Germany after the first world war produced a serious disequilibrium in its away.

18. Terms of Trade

Since the intensity of reciprocal demand for products of different countries differs, in terms of trade a country may set differently with different nations.

Under multi-trade transactions which may lead to disequilibrium in a way.

19. Changes in International Economic Conditions

Changes in global economic conditions, such as a recession or a financial crisis, can affect a country’s balance of payments by reducing demand for exports and reducing foreign investment.

20. Natural Disasters

Natural disasters can disrupt trade and cause a decline in exports, leading to a deficit in the current account or balance of payments.

21. Miscellaneous Factors

Unfavorable exchange rates, increasing internal prices, increasing defense expenditure specialization, Higher cost of democracy, etc.

The changes in the tastes, habits, and fashions of the people.

The discovery of a new substitute for exports, the development of alternative sources of supply, etc., may also produce disequilibrium in the country’s Balance of payments.

Finally, all these Complex factors combine together to cause disequilibrium in a country’s Balance of payments.

Thus, at present, we find that most of the developed developing country nations have an adverse Balance of payments, whereas rich Nations have a favorable balance of payments.

Overall, the causes of disequilibrium in the balance of payment are complex and multifaceted. Countries need to monitor their balance of payments and implement appropriate policies to address any imbalances that may arise.