Phase IFoundation
Background
Overview
Understanding external sector dynamics is crucial for analyzing a country's economic stability, its ability to engage in international trade, and the policy measures required to prevent or mitigate financial crises. India has faced BoP crises in the past (e.g., 1991).
The external sector of an economy comprises all transactions between residents and non-residents, including trade in goods and services, capital flows, and remittances. Vulnerabilities arise when a country's foreign exchange reserves are insufficient to cover its external liabilities or finance its imports, potentially leading to a Balance of Payments (BoP) crisis.