In schewser text where it explains the monetary policy impact on exchange rates and BOP, it says that a expansionary monetary policy leads to a current account deficit (because higher income ansd higher inflation leads to more imports) as well as a capital account deficit (because lower rates lead to capital going out of the country). I understand the logic behind the capital and current account deficit in case of a expansionary monetary policy. What i do not understand is that how would the BOP balance if both current and capital account are moving in the same direction? Should they not always move in oppoisite directions?
The BOP equation has three seperate items: Current Account + Capital Account + Official Settlement Account = 0 I assume that if the Current Account and Capital account are both deficits than the official settlement account will be at a surplus in order to get your BOP back to 0. The schweser book doesn’t necessarily state this in their explanation or give detail around the affect on the official settlement account but that is how I saw it. That is how I understand it, someone please corrrect me if I am wrong.