Question

 

Does trade in goods between countries have to be balanced to be beneficial for both countries? Why or why not?

Answer 1

When export is greater than imports in trade of goods, a country exhibits trade surplus and trade deficit takes place when import is greater than export. There are differences in availability of resources and production capacity of two countries. Hence, according to the comparative advantage theory of trade, two countries produce and export those goods in which it has comparative advantages in terms of resource abundance and cost of production. Product valuation is not the same always. Hence, it may happen that the trade in goods are unequal between two countries. They can make up the trade surplus or deficit through trade of services or other financial assets. When trade is not balanced between two countries, there is mismatch between demand and supply of goods exchanged and hence, foreign exchange rate is affected. When export of goods is greater than imports, there is high demand for the currency of that country. As a result, current starts to appreciate and prices start to rise as well. When import is greater than export, there is less demand for home currency and home currency depreciates with the fall in product prices. Therefore, it is a continuous process of currency fluctuation. It may happen that although having balance in trade in goods, a country still experiences balance of payment deficit. Therefore, trade in goods does not have to be balanced to be beneficial for both countries.