The United States is currently running a large current account deficit. If Congress and the White House decide to enact policies to reduce or eliminate the deficit, what actions should they take? Describe the set of policy options available to them.

The policies they can use are devaluation of the currency, deflationary policies and supply side policies.

Explanation:

A current account deficit means that the value of imports is more than the value of exports. Policies to reduce a current account deficit involve:

1. Devaluation of exchange rate: This means reducing the value of the dollar against other currencies. Devaluation of the dollar will lead to a rise in the price of imported goods and hence, the quantity demanded of imports will fall and exports will be cheaper thereby leading to increase in exports.

2. Deflationary policies: They are policies that are aimed at reducing inflation and growth of aggregate demand. A tightening of fiscal or monetary policy will reduce aggregate demand. This can be done by increasing income tax or increasing interest rates.

Higher interest rates will lead to an increase in mortgage repayments and the cost of debt thereby leaving people with fewer money to spend which will reduce import consumption and improve the current account.

3. Supply side policies: They can enhance the economy's competitiveness and make exports more attractive. For example, privatisation and deregulation will increase efficiency of the economy due to the profit motive in private sectors. Increase in efficiency would lead to decrease in production costs and increase in exports.

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