Suppose a country is facing a balance of payments crisis, and the government wants to implement a policy to reduce the deficit in its current account. One option it is considering is a devaluation of the currency, which would make exports cheaper and imports more expensive, potentially leading to an increase in exports and a decrease in imports.

However, there are potential costs and risks associated with this policy. For example, a devaluation could lead to higher inflation, as imported goods become more expensive. It could also lead to a "self-fulfilling" cycle of speculation, in which investors expect the currency to depreciate further and sell off the currency, leading to further depreciation.

On the other hand, a devaluation could also lead to an increase in competitiveness for domestic firms, which could increase production and employment.

Given these trade-offs, what factors should the government consider when deciding whether to pursue a devaluation policy?

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