Current Account Deficit Drives Currency Depreciation and Cost-Push Inflation

Steps:

• Increased international competition boosts imports or cuts exports, worsening the current account balance into a larger deficit.
• A current account deficit increases supply of domestic currency in forex markets, causing depreciation.
• Currency depreciation raises the price of imported goods and inputs.
• Higher import costs push up production expenses, leading to cost-push inflation.

Why D is correct:

• Per balance of payments theory, a current account deficit depreciates the exchange rate, increasing import prices and thus cost-push inflation via the pass-through effect.

Why the others are wrong:

• A: Appreciation contradicts deficit-induced depreciation; decrease ignores rising import costs.
• B: Depreciation correct but identical to D—likely a duplicate; increase aligns but not uniquely D.
• C: Depreciation correct, but decrease wrong as inflation rises from cost pressures.

Final answer: D