Current Account Sustainability - Selected East Asian and Latin American Experiences


Current Account Sustainability: Selected Asian and Latin American
Experiences by Gian Maria Milesi-Ferretti and Assaf Razin

A number of East Asian and Latin American countries have received a
large portion of total international capital flows to developing countries
in two periods in the late 1970s-early 1980s and in the early 1990s. These
inflows have financed persistent current account imbalances, as well as the
accumulation of foreign exchange reserves. The recent Mexican crisis has
shown, however, that abrupt reversals in international capital flows can
cause severe problems for economies with large external imbalances and has
spurred renewed interest in the question of current account sustainability.

In its theoretical part, this paper first discusses the related
concepts of external solvency, current account sustainability and
excessive current account deficits. It then presents a simple model of
foreign borrowing when capital flows take the form of debt or foreign direct
investment, analyzing asymmetric information, enforcement problems, and
expropriation risk. In its empirical part the paper integrates current
account and capital account factors and discusses the experience of three
Latin American countries--Chile, Colombia Mexico--and three East Asian
countries--Korea, Malaysia and Thailand. The discussion attempts to
determine why some countries suffered external crises (an exchange rate
collapse followed by a renegotiation of external debt or an international
bailout) while others did not.

Given the track record of the East Asian countries over the last 25
years, a natural question to ask is whether macroeconomic and structural
features make them less likely to experience a reversal in international
capital flows or less vulnerable to such a reversal. In the sample in this
paper, East Asian countries are characterized by a higher degree of openness
and by higher levels of savings and investment than Latin American ones. The
analysis presents arguments as to why these macroeconomic structural
features can help an economy to sustain protracted current account