Here is a question and answer from the recession and balance of payments topics within the A-level Economics syllabus.
This question is an explain question - the type of question students need to practice to improve their knowledge and grades.
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Explain the likely effect of a recession in the eurozone upon the current account of the UK balance of payments.
The question asks you to explain how a recession in a monetary union (the eurozone) can affect the UK’s current account on the balance of payments (remember, the UK is not part of the eurozone because they do not adopt the Euro).
Model Answer Guidance
(Gain access to full model answers here)
A recession is a period that is defined as a decrease in national income or real GDP for two economic quarters.
The balance of payments is a record of all transactions between one country and the rest of the world within one year.
The current account is a sub-account of the balance of payments and it takes into account the trade balance (X-M), investment income (income on assets held abroad) and net transfers (money sent from one party to another e.g. remittances).
The eurozone is the monetary union of the European Union and adopts the euro as the single currency that comes from the European Central Bank (ECB)
We know that overall income in the Eurozone is falling due to recession - this means unemployment levels are higher and spending levels are lower - this should lead to less spending on UK exports
Therefore, the current account is likely going to worsen as the UK is going to receive less export revenues
Alternatively, if the Eurozone starts buying less of the UK’s goods and services - income levels in the UK are likely to fall. Because of the marginal propensity to import, it is likely that imports in the UK will also fall. This has the potential to improve the current account somewhat
Diagram: You could draw AD/AS to show contraction in spending ( decrease in AD)