chapter  6
THE TRADITIONAL BALANCE OF PAYMENTS THEORY
Pages 14

In the next three chapters various alternative methods of analysing the balance of payments are presented. The different theories seek to explain different aspects of the balance of payments, so they are to a considerable extent complementary rather than competitive. The elasticities, or traditional, approach seeks to explain the balance of trade; the Keynesian theories (Chapter 6) the current balance; the monetary theory (Chapter 7) the overall balance (the meaning of the balance of payments and of these concepts is explained in sections 6.2 and 6.3). The theories are complementary in another sense. The traditional theory is a microeconomic theory of adjustment in the goods market; the Keynesian theory a macroeconoimic theory in the goods market and the monetary theory a theory of disequilibrium in the money market. Balance of payments analysis needs to comprise all these elements but it is often more convenient to have three separate tools of analysis rather than a general model incorporating all three. Of course, ‘after we have reached a provisional conclusion by isolating the complicating factors one by one we then have to go back on ourselves and allow, as well as we can, for the probable interaction of the factors among themselves. This is the nature of economic thinking.’ As this comment of Keynes, which was endorsed by Friedman, suggests, this is the standard approach in economic analysis to a potentially complex problem (Keynes (1936), p. 297, cited by Friedman in Gordon (1974), p. 150).