Question : If a country experiences a decrease in its foreign exchange reserves, it indicates:
Option 1: A surplus in the current account
Option 2: A deficit in the current account
Option 3: A surplus in the capital account
Option 4: A deficit in the capital account
Correct Answer: A deficit in the current account
Solution : The correct answer is (b) A deficit in the current account.
If a country experiences a decrease in its foreign exchange reserves, it typically indicates a deficit in the current account.
Foreign exchange reserves are financial assets held by a country's central bank and are used to support the stability of the country's currency and external payments. When a country's foreign exchange reserves decrease, it suggests that its currency is being used to pay for more imports or foreign obligations than it is receiving from exports or foreign receipts.
A deficit in the current account means that the country is importing more goods and services, paying out more income to foreign entities, and transferring more funds abroad than it is receiving from exports, income from abroad, and transfers from other countries.
