Monetary policy attracts capital to fix BOP deficit

Steps:

• Identify BOP deficit as excess outflows over inflows in current and capital accounts.
• Consider policies that boost inflows or cut outflows.
• Evaluate interest rates: higher rates draw foreign investment.
• Confirm this improves capital account, balancing overall BOP.

Why A is correct:

• Increasing interest rates raises returns on domestic assets, attracting capital inflows that directly offset current account deficits via the BOP accounting identity (current account + capital account = 0).

Why the others are wrong:

• B: Increasing export subsidies boosts exports but expands fiscal spending, potentially raising imports and worsening the deficit.
• C: Reducing export subsidies cuts competitiveness, lowering exports and deepening the current account deficit.
• D: Reducing direct taxation increases disposable income, stimulating consumption and imports, which aggravates the current account deficit.

Final answer: A