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A deficit in a country's current account is financed, in the Balance of Payments sense, mainly by:

A current account deficit is financed by net inflows on the capital and financial account, such as investment and borrowing from abroad, or by drawing down foreign exchange reserves. The overall BoP must balance, so the shortfall in the current account needs matching external financing.

  1. AA net inflow on the capital and financial account or a drawdown of foreign exchange reservesCorrect
  2. BA net outflow on the capital and financial account
  3. CAn increase in the country's foreign exchange reserves
  4. DA rise in the country's export earnings from services only

Explanation

Since the BoP must balance overall, a current account deficit requires net foreign financing through capital and financial inflows such as FDI, portfolio flows and loans, or else a reduction in reserves. A capital outflow or reserve accumulation would widen, not fill, the gap.

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