Foreign Currency Gaps | tutor2u Economics
Study notes

Foreign Currency Gaps

  • Levels: A Level, IB
  • Exam boards: AQA, Edexcel, OCR, IB, Eduqas, WJEC

Many developing countries face a big imbalance between inflows and outflows of foreign currencies. A foreign exchange gap happens when currency outflows persistently exceed currency inflows

This can occur when:

  • A country is running a persistent current account deficit on their balance of payments
  • There is an outflow of capital from investors in money and capital markets (this is known as capital flight)
  • There is a fall in the value of inflows of remittances from nationals living and working overseas

One measure of the extent of foreign-exchange cover for a country is the value of a nation’s foreign currency reserves measured in terms of the number of months of imports that this currency could finance (this is known as import cover).

A key consequence of a foreign currency gap can be that a nation does not have enough foreign currency to pay for essential imports such as medicines, foodstuffs and critical raw materials and replacement component parts for machinery. In this way, a foreign currency shortage can severely hamper short run economic growth.

Some countries resort to devaluing their exchange rates in a bid to improve the competitiveness of export industries but there is no guarantee that a weaker currency will help to resolve a foreign currency gap. Indeed, the threat of a currency devaluation might prompt a further outflow of currency from a country as investors get nervous.

Subscribe to email updates from tutor2u Economics

Join 1000s of fellow Economics teachers and students all getting the tutor2u Economics team's latest resources and support delivered fresh in their inbox every morning.

You can also follow @tutor2uEconomics on Twitter, subscribe to our YouTube channel, or join our popular Facebook Groups.

Job board

Economics Teacher

Bromley High School, Bromley, Kent

From the Blog

Teaching Vacancies


Advertise your vacancies with tutor2u

Much cheaper & more effective than TES or the Guardian. Reach the audience you really want to apply for your teaching vacancy by posting directly to our website and related social media audiences.

Find our more ›

Advertise your teaching jobs with tutor2u

A New Home for tutor2u Resources

We've just flicked the switch on moving all our digital resources to instant digital download - via our new subject stores.

For every subject you can now access each digital resource as soon as it is ordered. This will always be the latest edition of each resource too (and we'll update you automatically if there is an upgraded version to use).

Simply add the required resources to your cart, checkout using the usual options and your resources will be available to access immediately via your mytutor2u account.