What are the Merits of Balance Theory of Payments?


The balance of payments theory is superior to other theories on the following grounds:

(i) According to the balance of payments theory, the rate of exchange is determined by the demand and supply of foreign exchange in the market.

Thus, the theory is compatible with the general theory of value and regards the problem of the determination of rate of exchange as an integral part of general equilibrium theory.


(ii) The theory recognises the fact that imports and exports of goods alone do not determine the rate of exchange. There are a number of important forces other than the merchandise items which Influence the supply of and demand for foreign exchange and, thereby, the rate of exchange.

(iii) The important implication of the theory is that any disequilibrium in the balance of payments of a country can be corrected by making appropriate adjustments in the rate of exchange, i.e., through devaluation of home currency when there is deficit balance and revaluation of home currency when there is surplus balance.

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