## 2018 External Sector Report (excerpt) ## Source details **Canonical URL:** [2018 External Sector Report (excerpt)](https://www.imf.org/-/media/files/publications/esr/2018/text.pdf) ## Other formats - [Markdown version](/-/media/files/publications/esr/2018/text.pdf.md) - [Structured JSON version](/-/media/files/publications/esr/2018/text.pdf.json) --- ### Key findings and global configuration - Global current account surpluses and deficits remained broadly unchanged in 2017 at about 3¼ percent of world GDP. - About 40-50 percent of global current account balances in 2017 were estimated to be excessive (that is, not explained by countries’ fundamentals and desirable polices). - Higher-than-desirable balances concentrated in: euro area (driven by Germany and the Netherlands), other advanced economies (Korea, Singapore, Sweden), and China. - Lower-than-desirable balances concentrated in: United States, United Kingdom, some euro area debtor countries, and vulnerable EMDEs (Argentina, Turkey). - Global current account gaps remained around 1½ percent of global GDP in 2017. - Large and sustained excess external imbalances pose short- and medium-term risks: - Near-term: US fiscal easing could lead to tighter monetary conditions, a stronger US dollar, and a larger US current account deficit; risks of aggravated trade tensions and faster tightening of global financing conditions harming EMDEs with weak external positions. - Medium-term: sustained deficits could widen debtor positions, constrain global growth, and trigger sharp currency and asset price adjustments. ### 2017 developments: balances, exchange rates, flows - Current accounts and balances: - Global balances (absolute sum of surpluses and deficits) about 3¼ percent of world GDP in 2017. - China’s current account balance: continued gradual decline. - Japan’s surplus rose, supported by a depreciating yen. - United States: main global borrower, with a larger current account deficit (US actual CA -2.4; cycl. adj. CA -2.3; staff CA gap -1.5 percent of GDP). - Argentina, India, Turkey: growing current account deficits. - Exchange rates and volatility: - Notable 2017 movements: British pound real depreciation (Brexit-related); yen real depreciation; renminbi depreciation early 2017; sharp Turkish lira depreciation. - US dollar real depreciation about 6½ percent between end-2016 and end-2017 (year-end change relevant for IIP valuation). - Capital flows and reserves: - China: reversal from outflows and reserve sales in 2015–16 to renewed inflows and some reserve accumulation in late 2017. - Saudi Arabia: reserve losses despite a current account surplus due to capital outflows. - Hong Kong SAR, Singapore, Switzerland: accelerated reserve accumulation supported by large current account surpluses. - External stock positions: - Global stock positions stabilized in 2017 mainly due to valuation effects. - US IIP improved in 2017 because of valuation changes linked to US dollar weakening from end-2016 to end-2017. ### Methodology refinements and assessment concepts - EBA model refinements (2018): - Extended estimation period to 2016, better captured demographics, institutions, potential CA measurement biases, and incorporated macro policies (foreign exchange intervention, credit excesses). - Credit excesses measured using a one-sided HP detrending (lambda=1600 for annual data) aligned with BIS guidance. - FX intervention (FXI) broadened to include off-balance-sheet instruments (forwards, swaps) reported in the International Reserves and Foreign Currency Liquidity Template. - Financial center dummy removed; measurement-bias adjustments (retained earnings, inflation bias) applied outside the regression when warranted. - Assessment concepts: - Current account gap: difference between actual CA (stripped of cyclical/temporary factors) and IMF staff-assessed norm consistent with fundamentals and desirable policies. - REER gap: positive implies overvalued REER; negative implies undervalued REER. - Assessments present ranges to reflect estimation uncertainty and rely on staff judgment alongside model outputs. ### Findings on excess external imbalances (staff assessments) - Global pattern: - Global current account gaps about 1½ percent of global GDP in 2017 (about 40–50 percent of global surpluses/deficits unexplained by fundamentals and desirable policies). - Persistence: sustained higher-than-desirable surpluses in northern Europe (Germany, Netherlands, Sweden) and Asia (China, Korea, Malaysia, Singapore); some narrowing in China, Korea, Malaysia, Sweden. - Categorized staff findings (selected examples with exact 2017 figures): - Substantially stronger (>4 p.p. of GDP gap): Germany, Netherlands, Singapore, Thailand. - Stronger (2–4 p.p. of GDP): Malaysia. - Moderately stronger (1–2 p.p. of GDP): China, Korea, Sweden. - Weaker (negative gap of 2–4 p.p. of GDP): Argentina, Belgium, Saudi Arabia, Turkey, United Kingdom. - Moderately weaker (1–2 p.p. of GDP): Canada, France, Russia, South Africa, Spain, United States. - Euro area: - Cyclically adjusted CA in 2017: 3.4 percent of GDP (Actual CA: 3.5; EBA CA Norm: 1.5; EBA CA Gap: 1.9; Staff CA Gap: 1.3 with range 0.6–2 percent). - Marked asymmetries across members: Germany and Netherlands sizable positive gaps; some debtor members with negative gaps. - REER and CA mapping: - Generally close mapping between staff-assessed CA gaps and REER gaps, with discrepancies where rapid REER moves are temporary or lags exist (examples: China, Turkey, Italy). ### Structural factors and residuals (Box 3 summary) - Structural channels: productivity, price-competitiveness, and uncertainty channels mediate product- and labor-market reforms’ effects on the current account. - Empirical complementary analysis (OECD and WEF indicators, subset of countries) finds: - Reducing burdens in “licenses and permits system” can lower CA via investment-induced higher domestic demand and wage pressure. - Easing employment protection laws can improve the CA through competitiveness gains. - Simplifying procedures to start a business tends to lower the CA, while better labor-employer cooperation improves the CA. - Country patterns: - Product market rigidities help explain positive residuals in Germany, Japan, Korea. - Labor market distortions help explain negative residuals in Italy, South Africa. ### FX intervention, reserves, and credit cycle findings - FX intervention (FXI): - Refined FXI measure implies stronger estimated effects: a 1 percent of GDP FXI leads to a 0.19 percent of GDP increase in the current account for a country at the 75th percentile of capital openness (compared with 0.11 previously). - REER-Level model: a 1 percent of GDP increase in FXI would weaken the REER by about 3½ percent. - Credit cycle (private credit gap): - New detrended credit gap suggests: a 10 percent of GDP increase in credit relative to trend associated with a 1 percent of GDP deterioration in the current account. - Refinement reduces the fiscal coefficient on CA (from 0.47 to 0.33) since credit captures more financial-cycle effects. ### Medium-term projections and risks - Baseline projections: - CA surpluses and deficits projected to further widen and concentrate in advanced economies. - United States projected to become a larger contributor to global CA deficits because of projected fiscal easing. - China’s contribution to global CA surpluses expected to fall by nearly half over the medium term. - Creditor surpluses in northern Europe and advanced Asia expected to persist and possibly widen. - Risks: - Short-term: faster-than-expected US monetary tightening and US dollar appreciation could widen US deficit and tighten global financing conditions, hurting EMDEs. - Medium-term: disorderly adjustment of debtor positions could constrain global growth; persistent competitiveness asymmetries within the euro area could threaten the currency union. - EMDE vulnerabilities: countries with weak external positions (Argentina, Turkey) facing depreciation pressure likely see demand contraction and deficit reduction but with painful adjustment. ### Policy guidance: sequencing, calibration, structural reforms - Overarching guidance: - Avoid protectionism; pursue trade liberalization and strengthen multilateral trading system (especially trade in services). - Allow currencies to float freely; intervention limited to disorderly market conditions where reserves adequate. - Policies must be carefully sequenced and calibrated given limited policy space and normalizing cyclical conditions. - For economies with weaker-than-warranted external positions and full employment: - Prioritize strengthening public and private balance sheets. - Gradual monetary normalization in line with inflation objectives. - Fiscal consolidation over the medium term, protecting vulnerable households. - For economies with stronger-than-warranted external positions and fiscal space: - Adopt a less-restrictive/expansionary fiscal stance to promote external rebalancing and boost domestic demand and investment (examples: Germany, Netherlands, Korea, Thailand). - Euro area: - Maintain accommodative monetary conditions to support area-wide inflation returning to target. - Pursue further banking, fiscal, and capital markets integration to boost investment and reduce excess external imbalance. - Structural reform priorities: - Surplus countries: encourage investment and reduce excessive savings via reduced entry barriers, stronger social safety nets, pension reforms, and corporate-tax/profit-shifting measures where relevant. - Deficit countries: reduce labor cost frictions, improve competitiveness, broaden skills, and reform wage bargaining. - Strengthen euro area integration on banking, fiscal, labor, and regulatory fronts. - Country-specific notable prescriptions (selected exact figures preserved): - United States: near-term CA gap staff-assessed -1.5 percent of GDP in 2017; recommended fiscal consolidation to achieve a general government primary surplus of about 1¼ percent of GDP (federal primary surplus of about 1½ percent of GDP) over time. - Germany: Actual CA 8.0; Cycl. Adj. CA 8.3; EBA CA Norm 2.8; EBA CA Gap 5.5; Staff CA Gap 5.0 — staff recommends more growth-oriented fiscal policy to stimulate domestic demand and reforms to reduce excess saving. - China: staff notes narrowing of underlying CA surplus and recommends gradual tightening of fiscal and credit policies accompanied by reforms to reduce precautionary saving and overcapacity. - Turkey and Argentina: need ambitious and credible medium-term fiscal consolidation programs to reduce excess external imbalances, stem capital outflows, and reduce reliance on restrictive monetary policies. - Thailand: Actual CA 10.6; Cycl. Adj. CA 10.1; EBA CA Norm 0.5; EBA CA Gap 9.6; Staff CA Gap 6.0 — recommended concerted policy effort to support domestic demand and gradual realignment of REER. - Saudi Arabia: CA surplus 2.7 percent of GDP in 2017; staff CA gap reported -2.0 percent; recommended continued fiscal consolidation and structural reforms to diversify non-oil tradables. - Singapore: Actual CA 18.8; Cycl. Adj. CA 18.9; Staff CA Gap 5.5 — recommended higher public investment and structural reforms to moderate CA imbalances. - Netherlands: Actual CA 10.2; Cycl. Adj. CA 10.3; EBA CA Norm 3.5; EBA CA Gap 6.8; Staff CA Gap 6.8 — recommended expansionary fiscal policy and household balance-sheet repair to reduce excess surpluses. - Canada: Actual CA -2.9; Cycl. Adj. CA -2.4; EBA CA Norm 2.2; EBA CA Gap -4.6; Staff CA Gap -1.9 — recommended policies to boost non-energy exports and credible medium-term fiscal consolidation. ### Recent volatility episode (April 23–June 6, 2018) — Box 4 highlights - Affected EMDEs experienced considerable market volatility; Argentine peso and Turkish lira among hardest hit despite FX intervention. - Between late April and late May 2018: - Argentina raised policy rates by 1275 basis points. - Turkey raised policy rates by 300 basis points. - Both experienced declines in foreign exchange reserves. - Policy guidance for such episodes: - Raise policy rates where appropriate; consider FX intervention to address disorderly conditions; implement credible fiscal consolidation to reduce overreliance on monetary tightening; improve IIP composition to limit currency and maturity mismatches. *Italic: Source: 2018 External Sector Report. The report and associated external assessments are based on data and IMF staff projections as of June 22, 2018.* ### 2018. The views expressed in this publication are those of the IMF staff and do ### 2018 External Sector Report ### Key Points - Overall global current account surpluses and deficits remained broadly unchanged, at about 3¼ percent of world GDP in 2017. - About 40-50 percent of last year’s global current account balances were deemed excessive (that is, not explained by countries’ fundamentals and desirable polices). - Higher-than-desirable balances prevailed in the euro area (driven by Germany and the Netherlands), other advanced economies (Korea, Singapore, Sweden), and China. - Lower-than-desirable balances remained concentrated in the United States, the United Kingdom, some euro area debtor countries, and a few vulnerable emerging market economies (Argentina, Turkey). - Large and sustained excess external imbalances in key economies pose risks to global stability, including: - Near-term: fiscal easing in the United States leading to tighter monetary conditions, a stronger US dollar, and a larger US current account deficit; risks of aggravating trade tensions and faster tightening of global financing conditions that could be disruptive for EMDEs with weak external positions. - Medium-term: sustained deficits widening debtor positions in key economies could constrain global growth and trigger sharp currency and asset price adjustments. - Asymmetries in competitiveness among euro area members and persistent unbalanced domestic demand in China present risks to the currency block and global economy. - Protectionist policies should be avoided; they are likely to have significant deleterious effects on domestic and global growth while having limited impact on external imbalances. - Reviving liberalization efforts and strengthening the multilateral trading system—particularly to promote trade in services—are recommended. ### Overview and Scope - The 2018 ESR presents a multilaterally consistent assessment of the largest economies’ external sector positions and policies, integrating bilateral and multilateral surveillance to assess exchange rates, current accounts, reserves, capital flows, and external balance sheets. - This edition includes a Technical Supplement describing the latest Refinements to the External Balance Assessment Methodology. - The report and associated external assessments are based on data and IMF staff projections as of June 22, 2018. - The report complements the Individual Economy Assessments and the World Economic Outlook, with an emphasis on spillovers and monitoring members’ external positions. ### 2017 Developments: Current Accounts and Balances - Global current account balances were broadly unchanged in 2017, with minor shifts cementing the reconfiguration emerging since 2013. - Overall global balances (absolute sum of surpluses and deficits) remained at about 3¼ percent of world GDP in 2017. - On the surplus side: - China’s current account balance continued its gradual decline. - Japan’s surplus rose, supported by a depreciating yen. - Euro area debtor countries’ current account balances increased. - Surpluses in oil-exporting countries resurged on the back of recovering oil prices. - On the deficit side: - The United States remained the main global borrower, with a larger current account deficit. - Growing current account deficits in some emerging market economies: Argentina, India, Turkey. - Smaller deficits in the United Kingdom (supported by sterling depreciation) and in some commodity-exporting economies (Australia, Brazil, Canada, Mexico, South Africa) due to strengthening commodity prices. - Trade tensions intensified during 2017, with generally minor concrete actions but significant fears of escalation. ### Exchange Rates and Volatility in 2017 - Most exchange rates displayed relatively moderate movements over 2017 despite intra-year volatility. - Notable exchange rate movements in 2017: - Real depreciation of the British pound due to Brexit-related uncertainty. - Real depreciation of the yen reflecting interest rate differentials vis-à-vis the United States. - Renminbi depreciation early in the year owing to capital outflow pressure. - Large real appreciations for Brazil, Russia, and South Africa among EMDEs, partially unwinding previous cumulative depreciations. - Sharp depreciation of the Turkish lira due to a vulnerable external position and political uncertainty. - Year-average movements were generally small despite intra-year volatility. ### Reconfiguration of Global Balances and Drivers - Since 2013, global surpluses and deficits have become increasingly concentrated in advanced economies (AEs). - Key drivers of the reconfiguration: - Sharp drop and subsequent partial recovery in oil prices. - Gradual tightening of global financing conditions reflecting prospects for U.S. monetary policy normalization. - Asymmetries in demand recovery and associated policy responses across systemic economies: - Higher or persistent surpluses in key AEs (Germany, Japan, Netherlands) underpinned by weaker domestic demand and fiscal consolidation. - Higher or persistent deficits in other AEs (United Kingdom, United States) reflecting stronger domestic demand and some fiscal easing. - Narrowing of China’s underlying current account surplus supported by marked relaxation of fiscal and credit policies, masking structural problems and building domestic vulnerabilities. - These demand asymmetries have contributed to differences in monetary policy, longer-term nominal bond yields, and currencies. ### Assessment Concepts (from Box 1) - Current account balances can be beneficial; nonzero balances can reflect efficient global capital allocation and shock absorption. - Current account balances are deemed excessive if they depart from levels consistent with fundamentals and desirable policies. - Definitions: - Current account gap (excess imbalance): difference between actual current account (stripped of cyclical and temporary factors) and the IMF staff-assessed norm consistent with fundamentals and desirable medium-term policies. - Positive (negative) gap: actual current account higher (lower) than the level implied by fundamentals and policies. - REER gap: positive implies overvalued REER; negative implies undervalued REER. - Overall external position assessment also considers the financial account balance, international investment position, reserve adequacy, and competitiveness measures (for example, unit-labor-cost REER). - Assessments aim to be multilaterally consistent. ### Policy Guidance and Recommendations - With limited policy space and normalizing cyclical conditions, policies must be carefully sequenced and calibrated to achieve domestic and external objectives: - In countries with weaker-than-warranted external positions and full employment: prioritize strengthening public and private sector balance sheets; proceed with gradual monetary normalization. - In economies with stronger-than-warranted external positions and fiscal space: adopt a less-restrictive fiscal stance to promote external rebalancing. - In the euro area: maintain accommodative monetary conditions to support area-wide inflation returning to target; pursue further banking, fiscal, and capital markets integration to boost investment and reduce the area’s excess external imbalance. - As cyclical policies are unwound and policy space rebuilt, structural policies should play a more prominent role: - In surplus countries: reforms that encourage investment and discourage excessive saving (for example, reduced entry barriers and stronger social safety nets). - In deficit countries: reforms that reduce labor costs and improve competitiveness. - Avoid protectionism; instead, pursue trade liberalization and strengthen the multilateral trading system, particularly to promote trade in services where barriers remain high. *Source: 2018 External Sector Report. The report and associated external assessments are based on data and IMF staff projections as of June 22, 2018.* ### 1. Cyclically-adjusted Fiscal Balance (percent of GDP) ### 1. Cyclically-adjusted Fiscal Balance (percent of GDP) ### Real exchange rate movements and domestic demand - Since 2013, real currency appreciations have been associated with a pickup in domestic demand (relative to output), contributing to widening of the US current account deficit and narrowing of surpluses in China and Korea. - Real currency depreciations were associated with weaker domestic demand (relative to output) in some EMDEs (Brazil, Mexico, Russia, Turkey) and AEs (Australia, Canada), leading to higher current account balances, despite weaker terms of trade in some cases. - Figure indicators (as presented): REER percent change (+=appreciation) range and Domestic demand growth relative to output (percentage points) plotted across countries including USA, CHN, KOR, BRA, MEX, IND, IDN and others. ### Capital flows to EMDEs and reserve dynamics - Net non-reserve flows to EMDEs were dominated by developments in China, which experienced a gradual reversal from sizable outflows and reserve sales in 2015-16 to renewed inflows and some reserve accumulation in late 2017, following improving domestic and external conditions as well as tight enforcement of capital flow management measures. - In most other systemic EMDEs, capital inflows and reserve accumulation remained subdued relative to earlier years, reflecting primarily slowly tightening global financial conditions; although some frontier market economies gained substantial reserves. - Despite posting a current account surplus, Saudi Arabia experienced reserve losses as capital outflows continued. - In some advanced economies and financial centers (Hong Kong SAR, Singapore, Switzerland), the pace of reserve accumulation accelerated during 2017, supported by large current account surpluses. - Figure indicators (as presented): 1. Non-reserve Capital Flows and 2. Change in Reserves, 2008–2017, with groupings including Saudi Arabia, Russia, Latin America, Emerging Asia exc. China & India, Emerging Europe, India, China, Total. ### Global external stock positions and valuation effects - Global stock positions stabilized in 2017, mainly owing to valuation effects. - At the global level, the growth of stock positions paused in 2017 despite continued current account deficits in debtor countries (notably excluding euro area debtor countries) and surpluses in creditor countries. - A slight narrowing of overall debtor positions in 2017 was driven mostly by the United States, whose international investment position improved because of valuation changes linked to a weakening of the US dollar from the end of 2016 to the end of 2017. - Note: Although the U.S. dollar’s year-average value was the same in 2017 as in 2016, the currency depreciated by about 6½ percent in real terms between the end of 2016 and the end of 2017; year-end changes matter for IIP valuation changes. - Smaller creditor positions in a few countries (most notably China) also reflected mainly valuation changes. - Offsetting movements: expansion of debtor positions in some AEs (Canada, United Kingdom) and expansion of creditor positions in others (Germany, Hong Kong SAR, the Netherlands, Singapore, Switzerland) driven by sizable current account surpluses and favorable valuation effects. - Figure indicators (as presented): Net International Investment Position (percent of world GDP), Current Account Balance and NIIP, 2017 (percent of GDP), and External Stock and Flow Positions, 2002-17. ### Assessments methodology: EBA model refinements and staff judgment - External assessments compare actual external balances with those consistent with medium-term fundamentals and desired policies, combining numerical inputs from statistical cross-country models with country-specific judgment from Article IV consultations. - Greater weight continues to be given to the current account model because real exchange rates tend to be more volatile and difficult to explain econometrically. - This year’s refinements to the EBA models: - Extended the estimation period. - Better captured the role of fundamentals: demographics, institutions, and potential current account measurement biases. - Incorporated macroeconomic policies: foreign exchange intervention, credit excesses. - Accounted for structural features affecting current account dynamics. - The refinements led to important improvements but models remain numerical benchmarks; assessments are presented in ranges to reflect estimation uncertainties and country-specific features. ### Implications of EBA refinements (Box 2 summary) - EBA estimated norms distribution was broadly unchanged, with model-implied surpluses in most AEs and deficits in most EMDEs. - Nontrivial changes occurred in some cases due to: 1. Refinements in modeling of financial centers (Netherlands, Switzerland). 2. New demographic specification disentangling compositional from longevity effects (Germany, Italy, Spain, Sweden). 3. Changes in institutional risk and credit excess proxies (Canada, Russia, Germany, Sweden). - The median norm moved by -0.4 percent of GDP; for key systemic economies the median moved by -0.3 percent of GDP. - Changes in EBA numerical estimates did not always translate into equivalent changes in staff-assessed norms; in some cases refinements reduced the need for staff adjustments, while in others staff implemented outside-the-model adjustments (examples: Switzerland, South Africa, Netherlands, Thailand, Japan). ### Staff-assessed current account norms and cross-country patterns - Staff-assessed current account norms for 2017 vary considerably across countries, with relatively small changes over time in most cases. - EBA model-based current account norms were generally positive in AEs (reflecting higher income per capita, lower growth prospects, higher longevity and share of prime-aged savers, and need for tighter fiscal policies). - Current account norms are negative for most EMDEs (reflecting higher growth potential, lower income per capita, younger populations). - Norms varied within groups depending on institutional strength, reserve currency status, and presence of non-renewable exports. - Country-specific judgment adjusted norms in cases with external financing risk (Brazil, India, Spain, Turkey), demographic features not fully captured by the model (Germany, Indonesia, South Africa), measurement biases (Canada, South Africa, Switzerland, United Kingdom), temporary factors (Russia, Thailand), and delays in investment plans financed by EU funds (Poland). ### Findings on excess external imbalances (staff assessments) - Overall configuration of excess external imbalances remained broadly unchanged, though some underlying shifts occurred. - Stronger positions: - “Substantially stronger” (current account gaps of more than 4 percentage points of GDP): Germany, the Netherlands, Singapore, Thailand. - “Stronger” (2 to 4 percentage points of GDP): Malaysia. - “Moderately stronger” (1 to 2 percentage points of GDP): China, Korea, Sweden. - The euro area as a whole assessed to be “moderately stronger” (shift from broadly-in-line the prior year), reflecting wider positive current account gaps in some countries (Germany, Netherlands) and narrower negative gaps in others (France, Italy, Spain). - Weaker positions: - “Weaker” (negative current account gaps in the range of 2 to 4 percent of GDP): Argentina, Belgium, Saudi Arabia, Turkey, United Kingdom. - “Moderately weaker” (1 to 2 percent of GDP): Canada, France, Russia, South Africa, Spain, United States. - Euro area members display a wide spectrum of imbalances ranging from negative current account gaps (Belgium, France, Spain) to sizable positive gaps (Germany, Netherlands), indicating marked asymmetries in competitiveness within the common currency area. - Changes since 2016: - Narrower imbalances in some economies offset wider imbalances in others. - Narrowing positive gaps in Korea and Sweden and higher staff-assessed norms in Japan were offset by widening positive gaps in the Netherlands and somewhat lower staff-assessed norms in China, Germany, Netherlands. - Narrowing of negative gaps in Australia, France, Italy, Saudi Arabia, Spain was offset by widening negative gaps mainly in the United States. ### Mapping REER and current account assessments - REER and current account assessments generally mapped closely; countries with higher (lower) current account balances than warranted by fundamentals and desirable policies were deemed to have undervalued (overvalued) exchange rates. - Discrepancies arose where rapid exchange rate movements were deemed temporary or not yet fully reflected in current accounts due to lags (examples: China, Turkey, Italy). - China’s REER remained broadly in line amid a positive current account gap, which has narrowed and is projected to narrow further over time as the renminbi’s real appreciation continues to permeate the current account. - Turkey experienced a sharp lira real depreciation in 2017 not yet reflected in a lower current account deficit. - Italy’s current account balance rose to a level consistent with fundamentals and desirable policies even as financial cycle weakness masks lingering competitiveness and structural concerns. - Figure indicators (as presented): Staff-assessed Current Account and REER Gaps, 2017; Staff-assessed Current Account and REER Gaps scatter showing high-CA/Undervalued REER and Low-CA/Overvalued REER quadrants. ### Drivers of excess external imbalances and policy implications - Staff-assessed gaps are decomposed into “identified policy gaps” and “other gaps” (residual). - Identified policy gaps capture differences between actual and desired policies in the medium term for fiscal, public health spending, foreign exchange intervention, capital flow management, and credit policies (as captured within the EBA model). - Other gaps reflect distortions to saving and investment decisions not explicitly modeled in the EBA model (structural policies, measurement issues, etc.). - While positive (negative) identified policy gaps are associated with positive (negative) current account gaps, in many prominent cases identified policy gaps fall significantly short of explaining excess external imbalances. - In such cases, assessments rely on country-specific insights and complementary analysis to ascertain the role of other distortions, especially structural policies. - Complementary tools were developed in the 2018 refinements to shed light on the potential role of product and labor market policies, though country-specific insights remain necessary to properly tailor structural policy advice. *Source: 2018 EXTERNAL SECTOR REPORT (text - 1. Cyclically-adjusted Fiscal Balance (percent of GDP))* ### Box 3. Understanding Excess Imbalances: The Role of Structural Factors ### Box 3. Understanding Excess Imbalances: The Role of Structural Factors ### Conceptual framework - Reforms in product market and labor market policies affect productive capacity and the current account in the short to medium term through three channels: - Productivity channel: Changes in structural policies increase investment opportunities, resource availability and productivity. These reforms improve the current account if output increases more than domestic demand, and productivity gains are mainly in the tradable sector. - Price-competitiveness channel: More wage flexibility may increase the current account through competitiveness gains. More goods market flexibility reduces the price-setting power of firms, but it could have an inflationary general equilibrium effect—stemming from the entry of new firms and increased labor demand—that hurts competitiveness and reduces the current account. - Uncertainty channel: Reforms that reduce uncertainty should increase firm investment, but their effect on precautionary saving and, thus, the current account is ambiguous (Gosh and Ostry, 1997). ### Empirical approach - Structural indicators could not be included directly in the EBA models due to limited time and country coverage. - Staff used available structural indicators from the Organisation for Economic Co-operation and Development (OECD) and World Economic Forum (WEF) for a subset of countries/years to examine relationships with the unexplained residual from the EBA current account Model. - Focus: assess extent to which unexplained gaps are affected by product market and labor market regulatory deviations from best practice and identify policies that reduce both domestic structural gaps and excess current account imbalances. ### Findings and application - Results based on OECD data and consistent with theoretical and empirical literature show: - Reducing burdens in the “licenses and permits system” (a product market regulation) can reduce a country’s current account balance as investment by new firms rises and their additional demand for labor puts upward pressure on wages and reduces competitiveness. - Easing employment protection laws (certain labor market rigidities) can improve the current account through competitiveness gains as firms can better adjust labor inputs and costs, including via changes in bargaining power. - WEF de facto measures corroborate that the current account balance falls with a reduction in procedures to start a business, yet improves with better cooperation in labor-employer relations. - Country-specific explanatory patterns: - Product market rigidities help explain positive residuals in key economies: Germany, Japan, Korea. - Labor market distortions can explain negative residuals in others: Italy, South Africa. - These complementary tools give multilaterally consistent results to guide policy recommendations, which will continue to rely on country-specific insights and be refined as data availability improves. ### Empirical results and policy-gap contributions (high-level) - In many countries with higher-than-desirable current account balances (Germany, Korea, Netherlands, Sweden, Thailand): - A fiscal stance that is tighter than desirable contributed to higher balances. - Other macro policies played roles elsewhere (e.g., insufficient health spending in Korea; foreign exchange purchases in Thailand). - Product market regulations that inhibit entry (hurdles to starting a business) appear to have held back investment in Germany, Korea, Malaysia. - In countries with lower-than-desirable current account balances (France, Spain, United Kingdom, United States; and EMDEs Argentina, Russia, South Africa, Turkey): - Looser-than-desirable fiscal policy contributed significantly to lower-than-warranted balances. - Easy credit contributed to negative current account gaps in Canada, France, Turkey. - Labor market regulations that increase labor costs through strict employment protection appear to have contributed to weak competitiveness in some cases. - In some cases without excess external imbalances, offsetting policies mask structural issues: - Japan: easier-than-desired fiscal policy likely helped contain the surplus but masks product market distortions that hold back investment. - Brazil, Italy: lower-than-desirable credit amid weak investment pushed up current account balances, masking competitiveness problems. ### Foreign exchange intervention (FXI) and reserve developments - Foreign exchange intervention remained muted during 2017, with exceptions: - Thailand purchased a significant amount of reserves (and forward contracts) despite more-than-adequate reserves and a higher-than-desirable current account balance. - Reserve accumulation was sizeable in India despite adequate reserves, consistent with preserving broadly in-line current account balances. - China recorded a minor net positive accumulation of reserves in 2017 after two years of marked decumulation and unwinding of short forward positions. - Argentina and South Africa purchases in 2017 reflected needs to build buffers and contain appreciation of overvalued currencies. - Turkey’s fall in FX reserves was offset by increased gold holdings. - Notes on FXI estimates: - FXI estimates are based on BOP reserve flows plus changes in off-balance-sheet FX positions as reported in BOP statistics and the International Reserves and Foreign Currency Liquidity Template. - Excludes estimated interests on reserves, which are based on a 1 percent yield and consistent with the median reported yields by EBA countries. - FXI estimates for Malaysia may reflect valuation changes. ### A global view of excess imbalances - Overall current account excess imbalances remained unchanged and concentrated in a few large economies in 2017. - Global current account gaps remained relatively unchanged at about 1½ percent of global GDP in 2017, indicating that about 40-50 percent of global surpluses and deficits cannot be traced to fundamentals and desirable policies. - Distributional highlights: - Lower-than-desirable current account balances concentrated in AEs: United Kingdom, United States and some vulnerable EMDEs (Argentina, Turkey). - Higher-than-desirable current account balances concentrated in the euro area, other AEs (Korea, Singapore, Sweden) and China. - Japan’s small positive current account gap (within broadly-in-line) contributed to global gaps. - Excess external imbalances of euro area member countries continue to explain a significant share of excess global imbalances. - Persistence: - Persistence of excess external imbalances—especially surpluses—continues post-global financial crisis. - Sustained higher-than-desirable balances in northern Europe (Germany, Netherlands, Sweden) and Asia (China, Korea, Malaysia, Singapore), though some narrowing occurred in China, Korea, Malaysia, Sweden. - Negative gaps have reconfigured: narrowing in some EMDEs (Brazil, India, Indonesia, Mexico), debtor euro area countries (France, Italy, Spain), and key oil exporters (Saudi Arabia) were offset by higher negative gaps in key AEs (mainly United States). - The pattern suggests weak price adjustment mechanisms, notably for surplus countries, and generally inappropriate or insufficient policy actions. ### Developments since 2017, outlook, and policy implications - Currency movements until recently generally moved in directions consistent with reducing excess external imbalances, reflecting changes in growth prospects and policy responses; since April 2018, US dollar strengthening could aggravate future excess global imbalances. - Systemic currencies: - REER movements through May 2018 (relative to 2017 average) appeared supportive of reducing some systemic external gaps, with US dollar weakness mirroring eur and renminbi strength. - Since April, weaker-than-anticipated euro area and Japan growth and stronger prospects for US monetary tightening led to sharp US dollar appreciation. - Political uncertainties (e.g., Italy) have recently weakened the euro. - Other currencies: - Several EMDEs saw sizable currency movements amid tighter external financing, trade tensions, and domestic political uncertainties. - Depreciation pressure greatest in economies with larger excess external imbalances, including Argentina and Turkey; these shifts should gradually support narrowing of weak external positions. - Moderate real appreciations in some Asian economies (Korea, Malaysia, Thailand) were consistent with needs to narrow excess surpluses. - Medium-term projections under baseline policies: - Current account surpluses and deficits are projected to further widen and concentrate in AEs. - The United States would become a larger contributor to global current account deficits because of projected fiscal easing. - China’s contribution to global current account surpluses is expected to fall by nearly half over the medium term. - Surpluses in northern Europe and advanced Asia are expected to persist and possibly widen, partly reflecting relatively tight fiscal policy in these economies and further fiscal loosening in key trading partners (namely the US). - Strengthening oil prices likely to play a more muted role than in the past due to reduced US sensitivity of the current account to energy price movements. - Uncertainties remain about the implications of tighter global financial conditions for EMDEs; countries with vulnerable external positions (e.g., Argentina, Turkey) that have experienced substantial currency weakening would likely observe demand contraction and consequent deficit reduction. ### Box 4 (Recent financial market volatility in key EMDEs): summary - Recent episode and timing: - EMDEs experienced considerable financial market volatility since April 2018; the recent volatility episode refers to April 23-June 6, 2018 (some countries faced pressure earlier). - For comparability with the 2013 taper tantrum, a 45-day window starting May 22, 2013 is used. - Observations: - Argentine peso and Turkish lira among hardest hit despite foreign exchange intervention. - Other asset classes (CDS spreads, equities) and mutual funds/ETFs saw outflows (notably Indonesia, Malaysia, Poland). - Commodity prices, especially oil, rose during the sell-off, partly shielding commodity exporters (Russia) and hurting others (Turkey). - Role of fundamentals: - EMDEs with weaker fundamentals and policy frameworks were most affected—particularly those with weaker external positions, high external financing needs, low reserve adequacy, large nonresident participation in local bond markets, and unhedged foreign currency exposure. - Composition of external liabilities mattered: higher share of portfolio debt liabilities associated with greater pressure. - Fundamentals were a more important driver of asset price movements during this episode than during the 2013 taper tantrum, when EMDEs were hit more indiscriminately. - Policy responses and guidance: - Near-term responses focused on raising policy rates (Argentina and Turkey notably) and some foreign exchange intervention. - Between late April and late May, Argentina and Turkey raised policy rates by 1275 basis points and 300 basis points, respectively, and foreign exchange reserves declined in both cases. - Countries with excess current account deficits need credible policy packages involving growth-friendly fiscal consolidation to reduce excess reliance on monetary policy. - Improving the composition of the international investment position is essential to limit currency and maturity mismatches. - Exchange rate flexibility helps buffer shocks; where reserves are adequate, foreign exchange intervention could be considered to deal with disorderly market conditions. *Prepared by Carolina Osorio-Buitron; prepared material for Box 3 and Box 4 draws on IMF staff calculations and referenced empirical/theoretical literature as presented in the source document.* ### 1. Recent Episode ### 1. Recent Episode ### Taper Tantrum and Currency Moves - Scatter-plot evidence (chart): currency change vis-à-vis USD (percent, +ve = depreciation) versus Staff Assessed 2017 CA Gap (percent of GDP) shows a fitted line y = -1.67x + 6.79 with R² = 0.35. - Chart annotations indicate FX undervalued and FX depreciation regions; sources: Haver and IMF Staff estimates. - Note: For Argentina, 2017 CA gap is used in both the charts. ### Box 5. Tax Reform and the US Current Account - Overview: The Tax Cuts and Jobs Act (TCJA), passed in December 2017, operates along three channels affecting the US current account: international business provisions (compositional effects), domestic business provisions (efficiency effects), and overall stimulus/compositional implications. - International business provisions (compositional effects): - Global intangible low-taxed income (GILTI): imposes a minimum 10.5 percent corporate tax rate on the aggregate income of offshore subsidiaries of US corporations. - Base erosion and anti-abuse tax (BEAT): minimum tax on certain multinationals with annual gross receipts higher than US$500 million, equivalent to the larger of: (1) a fixed percentage of “modified” taxable income that treats as income deductions claimed for cross-border payments to affiliates that are not related to goods trade, or (2) the regular net tax liability under the normal corporate income tax base (with exceptions). - Foreign derived intangible income (FDII): reduces from 21 to 13.125 percent the corporate tax rate for income arising from sales to non-US parties in excess of an amount equivalent to 10 percent of tangible assets. - Expected impacts: - TCJA provides disincentives to producing and booking income outside the US, helping improve the US trade balance. - Unlikely to materially affect the US current account balance because reduced profit booking abroad will likely translate into lower investment income recorded in the income balance of comparable magnitude. - Retaliatory actions by key low-tax jurisdictions could mitigate compositional impacts. - Domestic business provisions (efficiency effects): - Lower statutory and pass-through business tax rates: federal statutory rate lowered from 35 to 21 percent; deduction for pass-through entities effectively lowering the top marginal rate from 39.6 percent to 29.6 percent. - Accelerated investment expensing: shifted to full expensing for various new and used tangible property (recovery period <20 years) applying through end-2022 with extent gradually falling during 2023-27. - Effects: permanent cuts may have small long-term positive effects on the current account via increased domestic production capacity and exports; accelerated expensing is temporary and leads to short-term stimulus and current account deterioration but no long-term effects on output and the current account. - Overall implications (stimulus and compositional effects): - Combined business and personal provisions involve a near-term tax cut of 1¼ percent of GDP. - With the US economy operating near potential, fiscal stimulus projected to have limited impact on output but will lead to measurable near-term deterioration of the current account, absent retaliatory actions. - Over the medium term, TCJA impact expected to be mostly compositional—an improvement in the trade balance broadly offsetting a weakening in the income balance. - Prepared by Ali Alichi (WHD). ### Box 6. The Energy Revolution and the US Current Account Balance - Evolution of external balances: - Global balances peaked in 2006-07, corrected after the global financial crisis, and remained generally unchanged since 2013. - US current account deficit has fluctuated around 2½ percent of GDP in recent years, well below the precrisis 6 percent deficit. - US shale gas revolution: - Since the early 2000s, U.S. shale gas production has seen a 20-fold increase—making the United States the largest natural gas producer in the world and a net exporter of natural gas. - Cheap abundant natural gas displaced coal from power generation and reduced energy imports; technological improvements spread to oil upstream sector and increased U.S. shale oil production, contributing to excess supply and the collapse of oil prices in 2014. - US current account implications: - US energy deficit narrowed from an average of 2.5 percent of GDP in 2005-07 to a balance of nearly 0.3 percent in 2015-17. - About two-thirds of this improvement (1.4 percent of GDP) can be attributed to increased shale oil production and exports of refined products; fall in oil prices played only a minor role. - Given current production structure, a $20 increase in oil price, all else equal, would lead to at most a 0.1 percent of GDP increase in the US current account deficit (impact could be smaller or positive if price changes stimulate higher natural gas and shale oil production). - In a much-changed landscape of energy independence, the US trade balance has become largely insulated from energy price changes; going forward higher world energy prices may improve the US trade balance. - Global implications: - Projected absolute real annual world oil price increase for 2018 is similar in magnitude to that observed between 2004 and 2005 ($16-$17). - Assuming unchanged net import oil volumes, projected oil price increase would generate substantial wealth redistribution from net oil importers to oil exporters; however, impact on global imbalances likely more modest than earlier episodes due to lower global oil intensity and the US energy revolution. - Redistribution from the United States and other oil-exporting advanced economies towards major oil exporters (Russia, Saudi Arabia) could be much smaller. - Further research on global implications is emphasized. - Prepared by Akito Matsumoto and Andrea Pescatori, with research assistance from Kyun Suk Chang and Lama Kiyasseh. ### Medium-term Projections for Net International Investment Positions (NIIPs) - Absent valuation changes, NIIPs projected to continue expanding as sustained current account surpluses remain in largest creditor economies and deficits in debtor economies. - Creditors: - Projected expansions of NIIPs for Germany, Japan, Korea, the Netherlands, and other northern European countries. - China’s NIIP expected to continue growing in relation to global GDP but gradually fall in relation to its own GDP as sustained current account surpluses are more than offset by high GDP growth. - NIIPs of many oil exporters projected to expand moderately. - Debtors: - Widening external creditor positions in creditor economies mirrored by increased external indebtedness of the United Kingdom and the United States, where negative NIIPs are expected to reach 30 and 50 percent of GDP, respectively, over the next five years. - Debtor positions of some large EMDEs (Brazil, Indonesia, Mexico, Poland) likely to remain stable over the medium term. - Projection assumptions: projections assume constant global discrepancy (prorated among surplus economies). ### Risks from Persistent Excess External Imbalances - Short-term risks: - Tighter global financing conditions and protectionism: fiscal impulse from US tax reform, with closed output gap, could lead to faster monetary tightening and US dollar appreciation, widening US current account deficit and surpluses elsewhere, possibly intensifying US trade measures. - New trade barriers and retaliatory actions could derail global growth and exacerbate excess global imbalances. - Adverse balance sheet effects in many EMDEs from rapid US dollar appreciation and tightening financing could lead to disruptive adjustment, especially where external balances and balance sheets are weak. - Medium-term risks: - Disorderly adjustment: continued reliance on demand from debtor countries could constrain global growth as debtor positions grow and become a drag on spending. - Weakening stock positions could trigger sharp currency and asset price movements as debt limits approached and spending falls abruptly. - High and rising public debt levels exacerbate these risks. - Sustained competitiveness asymmetries within the euro area could lead to protracted subpar demand growth or resurgence of unsustainable deficits, posing serious risks to the currency union and global economy. - Unbalanced domestic demand in China, if not properly tackled, could culminate in abrupt growth slowdown and resurgence of large external surpluses, potentially met with protectionist responses. ### Policy Guidance: Sequencing, Calibration, and Structural Reform - General guidance: - With global economy at or above potential, macroeconomic policies must be properly sequenced and calibrated to achieve domestic and external objectives; surplus and deficit countries should normalize policies and rebuild policy space consistent with addressing excess external imbalances. - Allowing currencies to float freely remains essential to facilitate external adjustment; countries with adequate foreign reserve buffers should limit intervention to disorderly market conditions. - Avoid protectionist policies; instead reduce trade barriers and ensure a level playing field while maintaining reasonable certainty about rules of international trade. - Specific policy prescriptions: - Economies with weaker-than-warranted external positions: - Need fiscal consolidation over the medium term; strengthen fiscal positions. - In key advanced economies (Canada, United Kingdom, United States): rebuild fiscal space while protecting vulnerable populations. - Monetary normalization should proceed gradually in line with inflation objectives. - In euro area debtor economies (France, Italy, Spain): growth-friendly fiscal consolidation to support internal devaluation and strengthen external stock positions. - In some cases (Canada, Turkey): keep domestic credit in check to facilitate external rebalancing. - In some EMDEs with weak external positions (Argentina, Turkey): more ambitious and credible medium-term fiscal consolidation programs necessary to reduce excess external imbalances, stem capital outflows, and reduce reliance on restrictive monetary policies. - Economies with stronger-than-warranted external positions and fiscal space but without independent monetary policy (Germany, Netherlands): - More expansionary fiscal stance and policies to foster domestic credit growth to facilitate external rebalancing, including via real exchange rate adjustment. - Economies with stronger-than-warranted external positions and fiscal space (Korea, Thailand): - Looser fiscal policy would help close negative output gaps. - China: - Gradual tightening of fiscal and credit policies to reduce domestic vulnerabilities should be accompanied by reforms to reduce precautionary saving and overcapacity in certain sectors. - Economies with broadly-in-line external positions: - Carefully calibrate policies to avoid emergence of excess external imbalances. - Japan: fiscal consolidation over the medium term should be accompanied by structural reforms to boost investment and prevent further rise in current account surplus while monetary policy remains accommodative. - High-debt EMDEs (Brazil, India): fiscal consolidation should be met with reforms to boost investment and improve composition of external financing. - Structural reforms role: - Structural reforms should play a greater role in addressing excess external imbalances by tackling product- and labor-market distortions. - Economies with stronger-than-warranted external positions should focus on reducing excess saving through safety net and pension reforms (China, Germany, Malaysia, Korea, Netherlands, Thailand) and policies to facilitate household balance sheet repair (Netherlands). Reduce entry barriers, boost investment in services, reduce obstacles to residential investment (Sweden), and boost public investment (Germany, Thailand). - Economies with weaker-than-warranted external positions should reduce market frictions that increase labor costs: enhance schooling and training (France, United States), broaden skill base and labor force via immigration policies (United Kingdom, United States), reform wage bargaining to moderate wage growth and better align wages with productivity (France, Italy), and reduce labor market segmentation (Spain). - Strengthen euro area integration on banking, fiscal, labor and regulatory fronts to boost investment across the currency area and reduce external imbalance. - In some broadly-in-line countries, address underlying structural distortions masked by other policy gaps (e.g., Japan: boost wages and reduce entry barriers; Italy: improve wage bargaining and strengthen bank balance sheets). - Final recommendation: - A multilateral approach is needed to sustain growth and rebuild policy space while ensuring external rebalancing does not come at the expense of growing domestic imbalances. *Source: https://www.imf.org/-/media/files/publications/esr/2018/text.pdf* ### Box 7. Corporate Sector Saving in Current Account Surplus Economies ### Box 7. Corporate Sector Saving in Current Account Surplus Economies ### Sources of nonfinancial corporate sector gross saving - Nonfinancial corporate sector gross saving decomposed into: corporate profits (gross operating surplus), property income (including income from rent, interest, dividends and net retained earnings from foreign direct investment) minus dividend, interest, and tax payments. Other items such as transfer payments and net social security adjustments are quantitatively small. - For the five major advanced-economy (AE) surplus countries (Germany, Netherlands, Japan, Korea and Denmark), rising nonfinancial corporate gross saving has been driven by: - higher profits from both domestic production (aided by lower labor income shares); - expanding foreign operations (FDI net retained earnings and other property income); - lower interest payments. - These higher profits have not been matched by higher dividend or income tax payments; after the global financial crisis dividend payments stopped growing with profits, even falling in some cases (for example, Germany). ### Uses of nonfinancial corporate gross saving - Corporate saving in excess of investment (corporate net lending) can be used to: - buy back shares, - pay down debt, - acquire financial assets (including accumulating cash). - Empirical finding: simple regressions using flow of funds and sectoral financial accounts data for surplus countries show that the accumulation of cash has been the most salient use of corporate net lending, with a particularly strong correlation between net lending and cash holding in Germany and the Netherlands. - Top Surplus Countries: Use of Net Lending (Dependent Variable: NFC Net Lending/GDP) - Column labels and notes: Column 1 is pooled, column 2 within-country regression. Cash, equity and loan/debt assets are in percent of total financial assets. Debt repayment and share buyback are net negative transactions in debt and equity liability, in percent of total financial assets. - (1)(2) - Cash 0.139** 0.383** - Equity assets -0.014 0.133** - Loan/Debt assets 0.262*** 0.146 - Debt repayment 0.222** 0.136 - Share buyback 0.330* 0.373 - Number of Observations 6363 - R-squared 0.586 0.553 - Significance legend: * significant at 10%; ** significant at 5%; *** significant at 1% ### Quantitative patterns and illustrations - Box Figure 7.1 (described): Chart shows GDP-weighted average of 5 surplus countries: Germany, Netherlands, Japan, Korea and Denmark. FDI RE is Net Retained Earnings on FDI. Other PI (Property Income) consists of investment income on financial assets and net rent receivable. - Box Figure 7.2 (described): Correlation between Cash Ratio and Corporate Net Lending in Germany and Netherlands; Cash ratio shown as percent of total financial assets and Net Lending as percent of GDP over 1995–2015. ### Policy implications and drivers - Understanding the underlying motives for rising net lending and liquidity demand is important for formulating policy advice. - The build-up of high nonfinancial corporate net saving and current account surpluses has likely been influenced by policy-related factors, including: 1. declining corporate income tax rates and increased profit shifting activity of multinationals (see Zucman 2018); 2. shifts in corporate governance structures that favor retained earnings and share buybacks over dividend payouts or long-term investment (see for example, Philippon and Gutierrez 2016); 3. unequal wealth distribution concentrated among households with low propensity to consume (see IMF 2013). - Further research is required to better understand the role policies could play in this area. ### Related empirical evidence on trade costs and current accounts (summary points referenced in the Box) - For the sample period 1986–2009, a 10-percentage point unilateral reduction in aggregate effective export costs for an average country is associated with a current account balance improvement equivalent to ½ percent of GDP. The estimated effects are smaller for the period 2001-14. - Effective import costs have generally statistically insignificant effects on current accounts in this analysis. - Text Table 1. Trade Costs and the Current Account (uses refined EBA model) - 1986-2009 | 2001-2014 - Effective Exporting Cost -0.049*** (0.000) | -0.020* (0.079) - Effective Importing Cost 0.001 (0.945) | -0.012 (0.333) - R 0.65 | 0.79 - N 761 | 434 - Note: P values are in parentheses. *** p<0.01; ** p<0.05; * p<0.1. ### Policy takeaways - Where corporate-sector saving is contributing to excessive current account surpluses, policy responses should consider: - addressing tax and profit-shifting incentives that encourage retained earnings offshore or within corporate sector balance sheets; - reviewing corporate governance and incentive structures that favor share buybacks and retained earnings over dividend distribution and productive long-term investment; - considering distributional policies that raise consumption propensity among households or otherwise rebalance saving and investment incentives. - Additional points on trade policy: lowering trade costs remains essential to reap the benefits of trade (boost trade, improve allocation, spur innovation and productivity). Trade costs are not identified as a major driver of current account imbalances in aggregate, but reducing trade costs—especially in services—can promote growth and structural adjustment; complementary policies are necessary to ease adjustment for those dislocated by trade-induced change. *Prepared by Mai Chi Dao and Deepali Gautam.* ### Box 8. The Methodological Approach to Examining Trade Costs and Imbalances ### Box 8. The Methodological Approach to Examining Trade Costs and Imbalances ### Challenge - Measuring trade costs and comparative advantage is empirically challenging. - Trade costs include all costs associated with the cross-border movement of goods and services, ranging from relatively easy-to-measure expenses for tariffs and goods shipment to the difficult-to-measure nontariff barriers, especially in the case of services (Cerdeiro and Nam 2018). - Comparative advantage depends on the differentials between domestic and foreign goods and services prices that would have prevailed had trade been impossible. ### Approach - The proposed methodology uses the well-established gravity model established by Eaton and Kortum (2002) to estimate from bilateral trade flows normalized to remove domestic demand effect: - (i) a country’s export capability; - (ii) the toughness of import competition; and - (iii) bilateral trade costs, which include both natural barriers (distance, common border or language, colonial relationship) and man-made policy barriers. - The approach estimates all three factors simultaneously to reconcile with bilateral trade shares observed in the data. - The estimated export capability is used to proxy productivity and to construct comparative advantage (Hanson, Lind and Muendler, 2016). - Specifically, the measurement of comparative advantage involves computing absolute advantage in each sector using the estimated export-specific factors, and normalizing that with country-specific averages across sectors to remove the effects of aggregate growth. - To infer trade costs, it assumes that for a country without barriers export capability and import competitiveness in a sector would be equivalent, since both are driven by productivity and marginal costs. - If the estimated export capability (relative to a numeraire country) is lower than the estimated relative import competitiveness, it is reconciled by the existence of a positive (relative) import barrier. - Under the approach any difference between the export capability and import competitiveness is attributed to the nondiscriminatory import barriers. - The estimated nondiscriminatory import barriers are then combined with bilateral trade costs to arrive at the final estimates of the importing costs and exporting costs with a trading partner. - These estimates are inferred from two alternative data sets on bilateral trade. - Johnson and Noguera (2017) provides a balanced panel of bilateral trade in the 1970–2009 period for 37 countries and the 2016 World Input-Output Database covers the 2001–14 period for a similar set of countries. - The analysis focuses on agriculture, manufacturing and services. ### Arriving at the effective trade cost - Two sets of trade costs are computed for each country and sector—those faced when exporting and those faced when importing—aggregating across trading partners using their respective lagged export and import shares as weights. - Country-specific trade costs are weighted by comparative to arrive at the effective trade cost measure, which is meant to reflect the height of barriers on the basis of a country’s underlying trade potential. - The measure effectively assigns weights based on trade that would have prevailed had there not been trade costs to avoid the underestimation inherent in the standard practice. ### Augmenting EBA model - Measures of effective costs to export and to import are then added to the most recent version of the current account model in the EBA as additional explanatory variables, after taking their differences relative to their respective world averages. *Source: Box 8 text (2018 External Sector Report).* ### References ### References ### Key themes reflected in the cited literature - Comparative advantage, service trade, and global imbalances - Barattieri, Alessandro, 2014, “Comparative Advantage, Service Trade, and Global Imbalances,” Journal of International Economics, vol. 92, pp. 1-13. - Hanson, Gordon, Nelson Lind and Marc-Andreas Muendler, 2016, “The Dynamics of Comparative Advantage,” (unpublished). - Eaton, Jonathan, and Samuel Kortum, 2002, “Technology, Geography and Trade,” Econometrica, Vol. 70, pp. 1741-79. - Johnson, Robert and Guillermo Noguera, 2017, “A Portrait of Trade in Value-Added over Four Decades”, Review of Economics and Statistics, Vol. 99, pp. 896-911. - Current account imbalances, saving, and investment dynamics - Cheung, C., D. Furceri, and E. Rusticelli, 2013, “Structural and Cyclical Factors behind Current Account Balances,” Review of International Economics, Vol. 21(5): pp. 923—944. - Ghosh, A.R., and Jonathan D. Ostry, 1997, “Macroeconomic Uncertainty, Precautionary Saving, and the Current Account,” Journal of Monetary Economics” Vol.40, pp. 121-39. - Kerdrain, C., I. Koske, and I. Wanner, 2010, “The Impact of Structural Policies on Saving, Investment and Current Accounts.” OECD Economics Department Working Papers, No. 815, OECD Publishing. - Jaumotte, F., and P. Sodsriwiboon, 2010, “Current Account Imbalances in the Southern Euro Area”, IMF Working Paper 10/139, International Monetary Fund, Washington. - Gutiérrez, German, and Thomas Philippon, 2016, “Investment-less Growth: An Empirical Investigation”, NBER Working Paper 22897. - Trade policy, tariffs, and trade costs - Krugman, Paul, 1982, “The macroeconomics of protection with a floating exchange rate,“ in Carnegie-Rochester Conference Series on Public Policy, Vol. 16, pp. 141-82. North-Holland. - Ostry, Jonathan D., and Andrew K. Rose, 1992, “An Empirical Evaluation of the Macroeconomic Effects of Tarrifs,” Journal of international Money and Finance Vol. 11, No. 1, pp. 63-79. - Obstfeld, Maurice, 2016, “Tariffs Do More Harm Than Good at Home,” https://blogs.imf.org/2016/09/08/tariffs-do-more-harm-than-good-at-home/. - Reyes-Heroles, Ricardo, 2016, “The Role of Trade Costs in the Surge of Trade Imbalances,” Princeton University (unpublished). - Cacciatore, M., R. Duval, G. Fiori, and F. Ghironi, (2016a), “Market Reforms in the Time of Imbalance,” Journal of Economic Dynamics and Control, Vol. 72, pp. 69–93. - Cacciatore, M., R. Duval, G. Fiori, and F. Ghironi, (2016b), “Short-Term Gain for Long-Term Pain: Market Deregulation and Monetary Policy in Small Open Economies,” Journal of International Money and Finance. - Sen, Partha, and Stephen J. Turnovsky, 1989, “Tariffs, Capital Accumulation, and the Current Account in a Small Open Economy,” International Economic Review, Vol. 30, pp. 811-83. - Taxation, cross-border wealth, and profit allocation - Zucman, Gabriel 2014, “Taxing across Borders: Tracking Personal Wealth and Corporate Profits”, Journal of Economic Perspectives, Volume 28. - International Monetary Fund, 2013, “Taxing Our Way Out of—or Into?—Trouble”, Fiscal Monitors, World Economic and Financial Surveys, October, Chapter 2. - Cerdeiro, Diego and Rachel Nam, 2018, “A Multidimensional Approach to Trade Policy Indicators,” IMF Working Paper 18/32 (Washington: International Monetary Fund). - Additional contributions on external sector and financial stability - International Monetary Fund, 2017, “External Sector Report”, Washington D.C. - Joy, Mark, Noemie Lisack, Simon Lloyd, Dennis Reinhardt, Rana Sajedi and Simon Whitaker, 2018, “Mind the (Current Account) Gap,” Financial Stability Paper No. 43, Bank of England. ### Individual items cited (selected exact citations preserved) - Barattieri, Alessandr o, 2014, “Comparative Advantage, Service Trade, and Global Imbalances,” Journal of International Economics, vol. 92, pp. 1-13. - Cacciatore, M., R. Duval, G. Fiori, and F. Ghironi, (2016a), “Market Reforms in the Time of Imbalance,” Journal of Economic Dynamics and Control, Vol. 72, pp. 69–93. - Cacciatore, M., R. Duval, G. Fiori, and F. Ghironi, (2016b), “Short-Term Gain for Long-Term Pain: Market Deregulation and Monetary Policy in Small Open Economies,” Journal of International Money and Finance. - Carney, Mark, 2017, “A Fine Balance,” speech at the Mansion House. - Cerdeiro, Diego and Rachel Nam, 2018, “A Multidimensional Approach to Trade Policy Indicators,” IMF Working Paper 18/32 (Washington: International Monetary Fund). - Cheung, C., D. Furceri, and E. Rusticelli, 2013, “Structural and Cyclical Factors behind Current Account Balances,” Review of International Economics, Vol. 21(5): pp. 923—944. - Eaton, Jonathan, and Samuel Kortum, 2002, “Technology, Geography and Trade,” Econometrica, Vol. 70, pp. 1741-79. - Ghosh, A.R., and Jonathan D. Ostry, 1997, “Macroeconomic Uncertainty, Precautionary Saving, and the Current Account,” Journal of Monetary Economics” Vol.40, pp. 121-39. - Gutiérrez, German, and Thomas Philippon, 2016, “Investment-less Growth: An Empirical Investigation”, NBER Working Paper 22897. - Hanson, Gordon, Nelson Lind and Marc-Andreas Muendler, 2016, “The Dynamics of Comparative Advantage,” (unpublished). - International Monetary Fund, 2017, “External Sector Report”, Washington D.C. - International Monetary Fund, 2013, “Taxing Our Way Out of—or Into?—Trouble”, Fiscal Monitors, World Economic and Financial Surveys, October, Chapter 2. - International Monetary Fund, World Bank and World Trade Organization (IMF/WB/WTO), 2017, Making Trade an Engine of Growth for All, Washington D.C. - Jaumotte, F., and P. Sodsriwiboon, 2010, “Current Account Imbalances in the Southern Euro Area”, IMF Working Paper 10/139, International Monetary Fund, Washington. - Johnson, Robert and Guillermo Noguera, 2017, “A Portrait of Trade in Value-Added over Four Decades”, Review of Economics and Statistics, Vol. 99, pp. 896-911. - Joy, Mark, Noemie Lisack, Simon Lloyd, Dennis Reinhardt, Rana Sajedi and Simon Whitaker, 2018, “Mind the (Current Account) Gap,” Financial Stability Paper No. 43, Bank of England. - Kerdrain, C., I. Koske, and I. Wanner, 2010, “The Impact of Structural Policies on Saving, Investment and Current Accounts.” OECD Economics Department Working Papers, No. 815, OECD Publishing. - Krugman, Paul, 1982, “The macroeconomics of protection with a floating exchange rate,“ in Carnegie-Rochester Conference Series on Public Policy, Vol. 16, pp. 141-82. North-Holland. - Obstfeld, Maurice, 2016, “Tariffs Do More Harm Than Good at Home,” https://blogs.imf.org/2016/09/08/tariffs-do-more-harm-than-good-at-home/. - Obstfeld, Maurice and Kenneth Rogoff, 2007, “The Unsustainable US CA Position Revisited”, in: Clarida, R., ed. G7 Current Account Imbalances: Sustainability and Adjustment”, The University of Chicago Press. - Ostry, Jonathan D., and Andrew K. Rose, 1992, “An Empirical Evaluation of the Macroeconomic Effects of Tarrifs,” Journal of international Money and Finance Vol. 11, No. 1, pp. 63-79. - Reyes-Heroles, Ricardo, 2016, “The Role of Trade Costs in the Surge of Trade Imbalances,” Princeton University (unpublished). - Sen, Partha, and Stephen J. Turnovsky, 1989, “Tariffs, Capital Accumulation, and the Current Account in a Small Open Economy,” International Economic Review, Vol. 30, pp. 811-83. - Zucman, Gabriel 2014, “Taxing across Borders: Tracking Personal Wealth and Corporate Profits”, Journal of Economic Perspectives, Volume 28. ### Contributors to the Individual Economy Assessments (exact listing preserved) - Prepared by the respective country teams with input from the External Sector Coordinating Group comprising: - Luis Cubeddu (Chair), David Robinson (AFR), Paul Cashin, Mariana Colacelli, Sonali Jain Chandra, Kenneth Kang (APD), Alfredo Cuevas, Julie Kozack (EUR), Catherine Pattillo, Abdelhak Senhadji (FAD), Tim Callen (MCD), Gaston Gelos, Ratna Sahay (MCM), Jonathan D. Ostry (RES), Tam Bayoumi, Varapat Chensavasdijai, Martin Kaufman (SPR), Venkateswarlu Josyula, Carlos Sánchez-Muñoz (STA), and Nigel Chalk, Antonio Spilimbergo (WHD). - Coordinated by: Gustavo Adler, Mai Dao, Swarnali Hannan, and Pau Rabanal (all RES), Varapat Chensavasdijai, Russell Green, Shakill Hassan, Yevgeniya Korniyenko, Huidan Lin, Yinqiu Lu, Pablo Morra, Silvia Sgherri, and Misa Takebe (all SPR). - Excellent assistance was provided by Kyun Suk Chang, Deepali Gautam, Jane Haizel, Jair Rodriguez, Zijiao Wang (all RES) and Rachelle Blasco and Reem Disu (all SPR). ### Individual Economy Assessments — table of contents entries with pages (exact) - INDIVIDUAL ECONOMY ASSESSMENTS _______________________________________________ 41 - A.The External Sector Assessments ______________________________________________________ 41 - B.Selection of Economies Included in the Report _______________________________________ 41 - C.Domestic and Foreign Policies and Imbalance Calculations: An Example _____________ 42 - D.Individual Economy Assessments—by Economy ______________________________________ 44 - Argentina _________________________________________________________________________________44 - Australia __________________________________________________________________________________ 46 - Belgium __________________________________________________________________________________ 48 - Brazil _____________________________________________________________________________________ 50 - Canada ___________________________________________________________________________________ 52 - China _____________________________________________________________________________________ 54 - Euro Area ________________________________________________________________________________ 56 - France ____________________________________________________________________________________ 58 - Germany _________________________________________________________________________________ 60 - Hong Kong SAR __________________________________________________________________________ 62 - India ______________________________________________________________________________________ 64 - Indonesia_________________________________________________________________________________ 66 - Italy __________________________________________________________________________________68 - Japan _____________________________________________________________________________________ 70 - Korea _____________________________________________________________________________________ 72 - Malaysia __________________________________________________________________________________ 74 - Mexico ___________________________________________________________________________________ 76 - The Netherlands _________________________________________________________________________ 78 - Poland ___________________________________________________________________________________ 80 - Russia ____________________________________________________________________________________ 82 - Saudi Arabia _____________________________________________________________________________ 84 - Singapore ________________________________________________________________________________ 86 - South Africa ______________________________________________________________________________ 88 - Spain _____________________________________________________________________________________ 90 - Sweden __________________________________________________________________________________ 92 - Switzerland _______________________________________________________________________________ 94 - Thailand __________________________________________________________________________________ 96 - Turkey ____________________________________________________________________________________ 98 - United Kingdom ________________________________________________________________________100 - United States _____________________________________________________________________________102 *References and table of contents entries as provided in the source text.* ### 1. Summary of EBA and Staff-Assessed CA Gaps, 2017 ___________________________________43 ### 1. Summary of EBA and Staff-Assessed CA Gaps, 2017 ### A. The External Sector Assessments: methods and scope - The External Balance Assessment (EBA) developed by the IMF’s Research Department is used to estimate desired current account balances and real exchange rates; refinements to the EBA models were applied in this round to better capture demographics, institutions, potential current account measurement biases, foreign exchange intervention, credit excesses, and other structural features. - Overall assessments combine model estimates and staff judgment; estimates are presented in ranges to reflect uncertainty. - External sector assessments are based on data and IMF staff projections as of June 22, 2018. - The external assessments cover: the current account, the real effective exchange rate (REER), capital and financial account flows and measures, FX intervention and reserves, and the foreign asset or liability position. ### B. Selection of economies included - 30 systemic economies were analyzed in detail, chosen by equal weighting of each economy’s global ranking in purchasing power GDP (WEO) and nominal gross trade. (List of economies appears in the source.) ### C. Domestic vs. foreign policy distortions: illustrative two-country example - Country A: large current account (CA) deficit, large fiscal deficit, high public debt → domestic policy distortion requiring adjustment. - Country B: matching CA surplus but no policy distortions → no domestic policy gap; adjustment by Country A would eliminate Country B’s imbalance. - Implication: distinguishing domestic vs. foreign fiscal policy gaps is critical. Eliminating a fiscal gap in a systemic deficit country helps reduce surplus imbalances in other systemic economies. ### D. Table 1: structure and metrics (in percent of GDP) - Table 1 reports, by country, the following metrics for 2017: Actual CA [A], Cycl. Adj. CA [B], EBA Norm [C], EBA Gap [D=B-C], Staff Adjustments [F=D-E] (breakdown between norm and other factors approximate), Staff CA Gap [E], Staff CA Gap Range, Staff REER Gap, Staff REER Gap Range. - Assessments and numeric ranges reflect staff judgment and the output of EBA models; figures may not add up due to rounding. ### E. Selected country findings, projections, and policy recommendations (excerpts) - Argentina - NIIP at end-2017: 3.5 percent of GDP. - Total external liabilities: US$312 billion; portfolio and other investments: US$231 billion (about 75 percent); general government and central bank share: US$163 billion. - IMF staff medium-term NIIP projection: -15 percent of GDP. - CA in 2017: Actual CA -4.8; Cycl. Adj. CA -5.0; EBA CA Norm -1.7; EBA CA Gap -3.3; Staff Adj. 0.0; Staff CA Gap -3.3 (staff-assessed CA gap range: -4.3 to -2.3 percent of GDP). - Staff assesses average REER gap in 2017 to be between 17.5 and 32.5 percent above the level implied by medium-term fundamentals and desirable policies. - FX intervention (March 3–May 15, 2018): selling around USD 10.2 billion in the spot market; accumulated USD 2.3 billion in the forward market (as of June 4). - Reserves as of June 8: USD 49.6 billion. Reserve coverage at end-May 2018: around 76 percent of the ARA metric. - Policy recommendations: stronger fiscal consolidation for 2018-20, strengthen inflation-targeting framework, accelerate reduction of official imbalances, supply-side reforms to increase productivity, competitiveness, and FDI to reduce REER overvaluation over time. - Australia - NIIP at end-2017: -55 percent of GDP; NIIP improved in 2017 by 3 percent of GDP relative to 2016. - NIIP-to-GDP ratio expected to remain around -55 percent over the medium term. - CA in 2017: Actual CA -2.5; Cycl. Adj. CA -2.4; EBA CA Norm -0.6; EBA CA Gap -1.9; Staff Adj. -0.9; Staff CA Gap -1.0 (staff-assessed CA gap range: -0.5 to -1.5 percent of GDP). - REER: 2017 appreciation of 2.7 percent relative to 2016 average; as of December 2017 REER some 15 percent above its thirty-year average; estimates through May 2018 show REER depreciated by 4 percent relative to the 2017 average. - Staff assesses the REER to be 0 to 17 percent above the level implied by fundamentals and desirable policies. - Policy recommendations: if growth weakens or commodity prices fall, further monetary accommodation warranted; planned gradual medium-term fiscal consolidation should help narrow the CA deficit. - Belgium - NIIP as of 2017Q3: 50 percent of GDP (up from 49 percent a year earlier). - Gross foreign assets: 488 percent of GDP; banking sector gross foreign assets: 88 percent of GDP; external public debt: 65 percent of GDP. - CA in 2017: Actual CA -0.2; Cycl. Adj. CA -0.3; EBA CA Norm 2.2; EBA CA Gap -2.5; Staff Adj. 0.0; Staff CA Gap -2.5 (staff CA gap range: -3½ to -1½ percent of GDP using +/-1 percent standard range). - Staff REER overvaluation assessment: in the range of 3½ to 8½ percent (using elasticity of 0.42). - Policy recommendations: steady fiscal consolidation, reductions in labor taxes, continued wage moderation, and productivity-enhancing structural reforms to address labor market fragmentation. - Brazil - NIIP at end-2017: -34 percent of GDP. External debt around 33 percent of GDP and 265 percent of exports. - Short-term gross external financing needs: moderate at 7-8 percent of GDP annually. - CA in 2017: Actual CA -0.5; Cycl. Adj. CA -1.8; EBA CA Norm -2.4; EBA CA Gap 0.7; Staff Adj. 0.5; Staff CA Gap 0.2. - Staff assesses REER gap between -7 and 3 percent; estimates through May 2018 show REER has depreciated by 11.4 percent relative to the 2017 average. - Reserves at end-2017: $374 billion, equivalent to 18.2 percent of GDP and around 160 percent of the IMF’s composite reserve adequacy metric. - Policy recommendations: raise national savings to sustain investment expansion; fiscal consolidation (including federal spending cap and social security reform) to boost net public savings; structural reforms to improve competitiveness. *Source: Fund staff estimates.* ### 10.3 percent of GDP in 2016 to 18.7 percent of ### Individual Economy Assessments — Canada, China, Euro Area ### Canada — Overall assessment and external position - Net international investment position (NIIP) rose from 10.3 percent of GDP in 2016 to 18.7 percent of GDP in 2017, reflecting significant valuation gains on external assets. - Gross external debt remained broadly stable at 115 percent of GDP, of which about a third is short-term. - The NIIP is projected to decline in the medium term, in line with sustained, albeit narrowing, current account (CA) deficits. - Canada’s foreign assets have a higher foreign currency component than its liabilities, providing a hedge against currency depreciation. - Assessment: The NIIP level and trajectory are sustainable. The external position in 2017 remained moderately weaker than implied by medium-term fundamentals and desirable policies. Recent developments do not suggest a change in the assessment for 2017. - Medium-term outlook: The external position is expected to strengthen as non-energy exports gradually benefit from improved price competitiveness and investment in services and manufacturing capacity. ### Canada — Policy recommendations and vulnerabilities - Policies to boost non-energy exports: - Improving labor productivity; - Investing in R&D and physical capital; - Promoting FDI; - Developing services exports; - Diversifying export markets. - Planned increase in public infrastructure investment should boost competitiveness and improve the external position over time. - A credible medium-term consolidation plan for fiscal policy will be necessary to support external rebalancing. - Maintaining tight macroprudential policies to ensure financial stability should support private sector saving. ### Canada — Current account (CA) assessment 2017 - CA deficit narrowed to 2.9 percent of GDP in 2017 (from 3.2 percent of GDP in 2016), driven by an improvement in the energy trade balance. - The CA deficit has been largely financed by portfolio inflows, which have more than offset significant direct investment outflows. - Public and private savings-investment balances each increased by around 0.1 percent of GDP in 2017. - EBA and staff estimates: - Actual CA: -2.9 - Cycl. Adj. CA: -2.4 - EBA CA Norm: 2.2 - EBA CA Gap: -4.6 - Staff Adj.: -2.7 - Staff CA Gap: -1.9 - EBA estimates a CA norm of 2.2 percent of GDP and a cyclically adjusted CA gap of -4.6 percent of GDP for 2017. Staff adjustments (demographics, immigration targets, oil price discounts) yield a CA norm of about 1.8 percent of GDP, with the CA gap between -3.4 and -0.4 percent of GDP. ### Canada — Real exchange rate (REER) - Background: REER appreciated by around 1.5 percent on an annual average basis between 2016 and 2017. Estimates through May 2018 show the REER has been unchanged relative to the 2017 average. - Assessment: - EBA REER index model points to an overvaluation of 2.2 percent in 2017. - EBA REER level model points to an undervaluation of around 6 percent. - Staff view: REER level model could overstate undervaluation. Consistent with the assessed CA gap, staff estimates the REER is overvalued by about 1 to 13 percent relative to medium-term fundamentals and desirable policies. ### Canada — Capital and financial accounts; FX intervention and reserves - Capital and financial flows 2017: - Net portfolio inflows: 4.9 percent of GDP. - Composition: corporate debt securities purchases accounted for 59 percent of portfolio net inflows; foreign acquisition of Canadian equities and government debt securities stood at 10 and 31 percent, respectively. - Foreign direct investment: net outflow of 3.3 percent of GDP in 2017 (2.4 percent of GDP in 2016). - Assessment: Open capital account; vulnerabilities limited by credible floating exchange rate and commitment to fiscal consolidation over the medium term. - FX intervention and reserves: - Canada has a free-floating exchange rate regime and has not intervened in the foreign exchange market since September 1998 (except participating in internationally concerted interventions). - Canada has limited reserves but the central bank has standing swap arrangements with the US Federal Reserve and four other major central banks (not drawn upon). - Assessment: Policies appropriate; strong commitment to floating regime plus swap arrangements reduces need for reserve holding. *Italic: Source — text (excerpt) from IMF ESR 2018 individual economy assessments (Canada, China, Euro Area).* ### 3.4 percent), having increased ### Euro Area (concluded) ### Current account (CA) assessment 2017 - Background: - The euro area recorded a cyclically adjusted CA of 3.4 percent of GDP in 2017, having increased steadily since 2011, when it was close to zero. - Most euro area countries are now running current account surpluses (apart from Cyprus, France, Greece, Latvia and Slovakia). - Import compression after the crisis and external competitiveness gains from price and wage adjustments strengthened current accounts of net external debtors like Spain and Portugal. - Large creditor countries, such as Germany and the Netherlands, continued to accumulate sizable surpluses, reflecting strong corporate and household saving and weak investment. - Assessment: - EBA model estimates: - EBA CA Norm: 1.5 percent of GDP - Cycl. Adj. CA: 3.4 - EBA CA Gap: 1.9 - Actual CA: 3.5 - Staff analysis: - Staff Adj.: 0.6 - Staff CA Gap: 1.3 - Staff assesses the CA gap to be 1.3 percent, with a range of 0.6 to 2 percent of GDP for 2017. - Staff’s higher CA norm considers large net external liabilities in some countries (e.g. Spain) and uncertainty over demographic outlook and the impact of recent large-scale immigration on national savings (e.g. Germany). - Conclusion: The underlying CA is moderately stronger than the level implied by medium-term fundamentals and desirable policies. ### Real exchange rate (REER) - Background: - The CPI-based real effective exchange rate appreciated by about 1.6 percent from 2016 to 2017. - Nominal appreciation was about 2.1 percent; weaker inflation in the euro area relative to trading partners led to a smaller real appreciation. - Estimates through May 2018 show the REER appreciated by 2.2 percent relative to the 2017 average. - Assessment: - EBA index REER model indicates an overvaluation of about 2.2 percent in 2017. - Level REER model suggests an undervaluation of about 2.9 percent. - Staff assesses the euro area 2017 average REER gap of -8 to 0 percent, consistent with assessed exchange rates of member countries. - Heterogeneity across member states: - REER gaps range from an undervaluation of 10-20 percent in Germany to overvaluations of 0–10 percent in several small to mid-sized member states. - Policy implication: Net debtor countries need to improve external competitiveness; net creditor countries need to boost domestic demand. ### Capital and financial accounts: flows and policy measures - Background: - Mirroring the 2017 CA surplus, the euro area experienced net capital outflows, largely driven by portfolio debt and FDI outflows. - These outflows were somewhat tempered by inflows into portfolio equity and loans and other bank-related instruments. - The geography of gross capital inflows shifted with the global financial and sovereign debt crises, with inflows from core euro area economies into the rest of the euro area diminishing. - Assessment: - Capital outflows in portfolio debt and inflows into portfolio equity likely arose in large part from the ECB’s monetary accommodation through its asset purchase program, which lowered yields on debt and spurred interest in equity. ### FX intervention and reserves level - Background: - The euro has the status of a global reserve currency. - Assessment: - Reserves held by euro area economies are typically low relative to standard metrics, but the currency is free floating. --- ### France ### Overall assessment and external position - Background: - NIIP deteriorated during the global financial crisis and has remained below -13 percent of GDP since 2013, reaching a low of -20 percent of GDP in 2017. - Gross asset position stood at 289 percent of GDP in 2017; banks’ non-FDI related assets account for about a third, other non-bank financial institutions close to another third. - Gross liabilities stood at 309 percent of GDP in 2017; external debt estimated at 194 percent of GDP (of this, the public-sector accounts for 55 percent of GDP, and banks for 87 percent of GDP). - Target2 balances were -€9.4 billion (-0.4 percent of GDP) at end-2017. - Assessment: - NIIP is negative but its size and projected stable trajectory do not raise sustainability concerns. - Vulnerabilities due to external public debt and banks’ financing on the liability side, given significant bank debt maturing in 2018 (€60 billion, or 2.6 percent of GDP) and sizable financial derivatives (about 30 percent of GDP). - Overall conclusion: The external position in 2017 was moderately weaker than that implied by medium-term fundamentals and desirable policy settings. - Potential policy responses: - Steady fiscal consolidation and steadfast implementation of planned structural reforms (e.g., apprenticeship and vocational training reforms, as well as other product and service market reforms) to improve competitiveness, reduce external imbalances, and support long-run growth. ### Current account CA assessment 2017 - Background: - CA fell from around balance in 2000-05 to a deficit of 0.6 percent of GDP in 2017. - Persistent trade deficit (around 1 percent of GDP on average since 2012) outweighed a positive (but declining) income balance. - CA balance improved by 0.2 percent of GDP over the last year due to strong service export growth. - Assessment: - Actual CA: -0.6 - Cycl. Adj. CA: -0.6 - EBA CA Norm: 0.9 - EBA CA Gap: -1.6 - Staff Adj.: 0.0 - Staff CA Gap: -1.6 - Staff assesses the CA gap in 2017 was between -2 to -1 percent of GDP. - Projection: CA gap projected to narrow further over the medium run as recent and planned structural and fiscal reforms help reduce trade and fiscal deficits. ### Real exchange rate - Background: - ULC-based REER appreciated by around 3-11 percent since the late 1990s; France lost about a third of its export market share in the 2000s. - Both ULC-based REER and CPI-based REER appreciated by around 0.3-0.9 percent during 2017, and an additional 1.3-2.9 percent through May 2018 (relative to 2017 average). - Assessment: - CPI-based index and level REER EBA models: REER gap ranges between -2.2 to 4.1 percent (do not point to overvaluation). - EBA CA gap model points to an REER overvaluation of around 4-8 percent (given an elasticity of 0.25 percent). - Staff assessment: REER overvaluation in the range of 0 to 8 percent. ### Capital and financial accounts; FX intervention and reserves - Background: - CA deficit financed mostly by debt inflows (portfolio and other investment); outward direct investment generally higher than inward investment. - Financial derivative flows have grown sizably on both asset and liability sides since 2008. - Capital account is open. - Assessment: - France remains exposed to financial market risks owing to large refinancing needs of the sovereign and banking sector. - The euro is a global reserve currency; reserves held by the euro area are typically low relative to standard metrics, but the currency is free floating. --- ### Germany ### Overall assessment and external position - Background: - Germany’s NIIP reached 60 percent of GDP at end-2017; about twice the 2012 level. - NIIP of financial corporations other than MFIs is 57 percent of GDP; general government NIIP is -25 percent of GDP. - NIIP is expected to reach near 85 percent of German GDP and 4 percent of world GDP by 2022, as projected CA surplus remains sizable through the medium term but partly offset by valuation changes. - Germany’s Target2 claims on the Eurosystem surpassed €956 billion in May 2018 (28 percent of GDP), after declining between 2012 and 2014. - Assessment: - With ECB quantitative easing, Germany’s exposure to the Eurosystem has continued to widen. - Overall conclusion: Germany’s external position in 2017 remained substantially stronger than implied by medium-term fundamentals and desirable policy settings. - Projected partial adjustment: modest narrowing in the medium run supported by a gradual realignment of price competitiveness and continued strong domestic demand. - Policy implications: - Additional policy actions needed for further external rebalancing. - Potential policy responses: a more growth-oriented fiscal policy using fiscal space to stimulate potential growth, structural reforms to foster entrepreneurship, and pension reforms prolonging working lives to reduce savings, stimulate investment, and reduce external imbalances. *Source: https://www.imf.org/-/media/files/publications/esr/2018/text.pdf* ### 8.9 percent of GDP in 2015. In 2017 it was 8 percent of GDP. Ne ### text - 8.9 percent of GDP in 2015. In 2017 it was 8 percent of GDP. Ne ### Germany — Current Account and External Position - Actual CA: 8.0 - Cycl. Adj. CA: 8.3 - EBA CA Norm: 2.8 - EBA CA Gap: 5.5 - Staff Adj.: 0.5 - Staff CA Gap: 5.0 - Assessment: - The cyclically adjusted CA balance reached 8.3 percent of GDP in 2017, slightly below the 2016 level and 3¾ -6¼ percentage points stronger than the value implied by fundamentals and desirable policies. - Staff assesses the CA norm at 2- 4½ percent of GDP, with a midpoint ½ percent of GDP above the CA norm implied by the new EBA model of 2¾ percent. - Upward adjustment reflects uncertainty over the demographic outlook and the impact of the recent large-scale immigration on national savings. - Background on real exchange rate (REER): - Yearly average CPI-based and ULC-based REER appreciated 1½ and ½ percent in 2017, respectively. - Estimates through May 2018 show the REER has appreciated by 1.3 percent relative to the 2017 average. - REER Assessment: - Staff’s assessment for 2017 is of a REER undervaluation of 10–20 percent. - The refined EBA REER Level model yields an undervaluation of 19 percent. - The undervaluation implied by the CA gap assessment using standard trade elasticities is 15–30 percent. - Capital and financial accounts (2017): - Net portfolio flows constituted almost ¾ of the capital and financial accounts balance. - Direct investment was the second largest item (1/6 of total). - Over ⅔ of net outflows were toward European countries and 10 percent toward the Americas (mostly the US). - 80 percent of net inflows in 2017 originated from the EU. - Net investment by emerging countries represented about 40 percent of total. - Net direct foreign investment inflows and outflows recovered to historical highs after a drop in 2016, coming/going mostly from/to euro area countries. - FX intervention and reserves: - Background: The euro has the status of global reserve currency. - Assessment: Reserves held by euro area countries are typically low relative to standard metrics. The currency is freely floating. - Technical notes: - Demographic factors have a lower contribution to the EBA CA norm than previously estimated (¾ percentage points of GDP, instead of the previously estimated 3 percentage points of GDP). - For Germany, nearly all of the EBA-estimated gap for 2017 reflects the regression’s residual rather than gaps in the policy variables included in the EBA model. - Staff assesses the credit-to-GDP to be currently lower than its long-term equilibrium; gradually closing such gap will help support investment over the medium term. - The EBA REER Index model implies that the REER is close to equilibrium, but it has an unusually poor fit for Germany. ### Hong Kong SAR — External Position and Policy - NIIP and stocks (end-2017): - NIIP reached around 409 percent of GDP as of end-2017, up from 275 percent in 2012. - Gross assets: about 1,605 percent of GDP. - Gross liabilities: about 1,196 percent of GDP. - Change in NIIP in the past 5 years was over 200 percent of 2017 GDP compared with cumulated financial account balances of only 20 percent of 2017 GDP. - Assessment: - Vulnerabilities are low given the size of NIIP and its favorable composition, with large and stable stock of reserve assets as a share of total assets, and direct investment accounting for a large and rising share of total assets and liabilities (37.6 and 52.6, respectively in 2016). - Overall assessment (2017): - The external position in 2017 was broadly consistent with medium-term fundamentals and desirable policy settings. Developments through March 2018 do not suggest a change in this assessment. - The CA surplus has declined relative to its pre-2010 level due to structural factors, including opening of the mainland capital account and changes in offshore merchandise trade activities. - As a result of Hong Kong SAR’s Linked Exchange Rate System (LERS), short-term movements in the REER largely reflect US dollar developments. - Hong Kong SAR’s flexible goods, factor, and asset markets continue to support the LERS. - Potential policy responses: - Maintain policies that support wage and price flexibility, particularly as the tightening cycle of US monetary policy continues. - Continue robust and proactive financial supervision and regulation, prudent fiscal management, flexible markets, and the Linked Exchange Rate System. - Current account (2017): - Actual CA: 4.3 - Cycl. Adj. CA: 3.3 - EBA CA Norm: -- - EBA CA Gap: -- - Staff Adj.: -- - Staff CA Gap: 0.0 - Background: CA surplus increased marginally to 4.3 percent of GDP in 2017 from 4.0 percent in 2016; projected to be 3.1 percent of GDP in 2018. - Sectoral drivers: Decline of private saving from 34.4 percent of GDP in 2006 to 24.6 percent of GDP in 2017 accounted for most of the drop in the CA surplus. - Assessment: The cyclically adjusted CA at 3.3 percent is roughly in the mid-point of the CA norm range of 1.8 to 4.8 percent of GDP; CA gap range is hence -1½ to 1½ percent of GDP. Measurement adjustments necessary given large valuation effects in the NIIP. - REER: - Background: REER was essentially unchanged in 2017 (0.3 percent below the average REER in 2016). - The HKD has depreciated by 4.0 percent in real effective terms through May 2018 compared with the 2017 average. - The weak side of the convertibility undertaking was triggered in April and May prompting the HKMA to sell USD in the market. - Assessment: REER is broadly consistent with medium-term fundamentals; REER gap assessed by staff to be between -5 to +5. - Capital and financial accounts: - Background: Open capital account; non-reserve financial flows moved from sizable net outflows in 2016 back to inflows in 2017. - Financial account is very volatile in portfolio and direct investment. - Financial movements likely associated with mainland financial volatility and shifting expectations of a US policy rate hike. - Assessment: Large financial resources and proactive supervision limit risks; greater financial exposure to mainland China could pose banking sector risks if mainland growth slows sharply. - FX intervention and reserves: - Background: Currency board arrangement; stock of reserves end-2017 equivalent to around 120 percent of GDP, unchanged from end-2016 and in line with end-2012; reserves grown 2.1 percent by March 2018. - In April and May of 2018, HKD hit the lower range of the convertibility undertaking of 7.85 a few times, prompting HKMA USD sales. - Assessment: Reserves are adequate for precautionary purposes and should continue to evolve with the currency board system; Hong Kong SAR holds significant fiscal reserves. - Technical notes: - Hong Kong SAR not in EBA sample; applying EBA estimated coefficients yields a CA norm of about 13.8 percent of GDP and implied CA gap of -10.6 largely due to regression residuals and measurement issues. - Adjustments: 4–6 percentage points to EBA’s NIIP contribution; 4–4½ percentage points decline in gold trade balance due to Precious Metals Depository; 1–1½ percentage points decline in CA due to onshoring by mainland China. Adjusting for these, staff estimates CA gap close to zero. - As of 2017Q4, banking system claims on mainland nonbank entities amounted to HK$5.5 trillion, or about 207 percent of GDP, up by 15 percentage points from a year earlier. ### India — External Position and Policy - NIIP: - Improved from -18.1 percent of GDP at end of FY2014/15 to -17.3 percent of GDP as of end-2017. - Gross foreign assets and liabilities were 24 and 42 percent of GDP, respectively, at end-2017. - Assessment: - With CA deficits of about 2½ percent of GDP projected for the medium term, the NIIP-to-GDP ratio is expected to slightly deteriorate. - External debt about 20 percent of GDP; 48 percent denominated in US dollars and 37 percent denominated in Indian rupees. - Long-term external debt accounts for about 81 percent of total; ratio of short-term external debt to FX reserves is low. - Overall: External sector position in 2017/18 is broadly consistent with fundamentals and desirable policy settings. - Potential policy responses: - Increase non-debt creating capital flows through FDI to improve CA financing mix. - Gradual liberalization of portfolio flows while monitoring reversal risks. - Exchange rate flexibility should remain main shock absorber; intervention limited to disorderly market conditions. - Continue structural reforms to revamp business climate, ease domestic supply bottlenecks, facilitate trade and investment liberalization to improve competitiveness and attract FDI. - Current account (FY2017/18): - Actual CA: -1.9 - Cycl. Adj. CA: -2.1 - EBA CA Norm: -3.0 - EBA CA Gap: 0.9 - Staff Adj.: 0.5 - Staff CA Gap: 0.4 - Background: CA deficit estimated to have increased to about 1.9 percent of GDP in FY2017/18 from 0.7 percent in previous year. Imports surged by 19 percent in FY2017/18; export growth picked up to 10 percent in FY2017/18 from 5 percent in FY2016/17. - Assessment: EBA cyclically adjusted CA deficit stood at 2.1 percent of GDP. EBA CA regression norm -3.0 percent (standard deviation 0.5 percent) implying EBA gap of 0.9 percent. Staff considers CA deficit of about 2.5 percent of GDP more appropriate; based on staff-assessed CA norm, CA gap range is -0.6 to +1.4 percent of GDP. - Positive policy contributions to CA gap from negative credit gap, larger-than-desirable intervention in FX market, and a relatively closed capital account are offset by a negative unexplained residual capturing underlying competitiveness problems. - REER: - Background: Average REER in 2017 appreciated by about 4.1 percent over its 2016 average. As of May 2018, REER depreciated 3.6 percent relative to its 2017 average. - Assessment: EBA Index REER and Level REER regression approaches estimate gaps of 10.9 and 8.8 percent for 2017 average REER, respectively, but have large estimation errors for India. Based on the CA gap, REER assessed to be in line with fundamentals with range of -7 to +5 percent for FY2017/18. - Capital and financial accounts: - Net sum of FDI, portfolio, and financial derivatives flows estimated at 1.9 percent of GDP in FY2017/18, slowing from 2.3 percent in FY2016/17. - Net FDI flows moderated to 1.2 percent of GDP in FY2017/18 from 1.6 percent in FY2016/17. - Portfolio inflows into government and corporate securities were strong in 2017; some portfolio outflows in 2018. - Assessment: Portfolio debt flows volatile; exchange rate sensitive to these flows and global risk aversion changes; need to attract more stable financing and implement structural reforms to improve business climate and attract FDI. - FX intervention and reserves: - Spot foreign exchange intervention was US$28 billion (1.1 percent of GDP) and net forwards increased by US$28.5 billion in 2017. - International reserves reached $424.5 billion at end-March2018, increasing by about $55 billion since March 2017. - Reserves slightly declined to about $412 billion as of end-May 2018. - Reserve coverage: about 16.3 percent of GDP and about 7.5 months of prospective goods and services imports. - Assessment: Reserve levels are adequate for precautionary purposes relative to various criteria. International reserves represent about 190 percent of short-term debt and more than 160 percent of the IMF’s composite metric. - Technical notes: - Reserves stand at about 210 percent of the metric adjusted for capital controls per IMF proposals; staff analysis indicates India’s capital account is not as closed as suggested by traditional measures. ### Indonesia — Overview (introductory material) - NIIP and external debt (end-2017): - NIIP: -33½ percent of GDP at end-2017 (compared with -35¾ percent at end-2016 and -40½ percent at end-2012). - Gross external assets: 33¼ percent of GDP (close to 40 percent were reserve assets). - Gross external liabilities: 66¾ percent of GDP. - Gross external debt: 34¾ percent of GDP at end-2017; 19¾ percent denominated in rupiah; 84½ percent maturing after one year. - One-third of government’s external debt (18 percent of GDP at end-2017) denominated in rupiah. - Assessment: - Level and composition of NIIP and gross external debt indicate Indonesia’s external position is sustainable and subject to limited roll-over risk. - Nonresident holdings of rupiah-denominated government bonds at 38 percent of the total stock (or 6 percent of GDP) at end-April 2018, combined with shallow domestic financial markets, make Indonesia susceptible to global financial volatility, higher US interest rates, and a stronger US dollar. - Staff projections for the current account suggest the NIIP position as a percent of GDP will continue to strengthen over the medium term. - Overall external position of Indonesia in 2017 assessed to be broadly consistent with medium-term fundamentals and desirable policies. - Potential policy responses: - Continue exchange rate flexibility and market-determined bond yields to underpin external stability. - Strengthen fiscal position by accelerating tax reforms while keeping fiscal deficit below the legal limit and allowing for more infrastructure and social spending. - Structural policies to bolster global value chain participation and external competitiveness: ease FDI and non-tariff trade restrictions; strengthen labor markets by streamlining job protection, improving job placement services, vocational training, and overall education. - Current account (introductory sentence): - Background: Indonesia’s current account deficit reached 1.7 percent of GDP in 2017, an improvement from the peak of [text truncated in source]. *Italic: Extracted from the provided IMF content unit.* ### 3.2 percent in 2013, as the economy has adjusted to the low commodity prices. Exports and imports started to pick up in ### INDIVIDUAL ECONOMY ASSESSMENTS ### Indonesia (concluded) - Current account and trade - Exports and imports started to pick up in Q4: 2016, as commodity prices bottomed out. - Over the medium term, a moderate increase in the current account deficit is expected from a rise in capital goods and raw material imports tied to infrastructure investment and a pickup in domestic demand. - A gradual increase in manufacturing exports, stronger demand from trading partners, and more favorable commodity prices should help limit the current account deficit. - Assessment (CA) - Staff estimates a CA gap of 0.1 percent for 2017. - Cyclically adjusted CA: -1.6 percent of GDP. - Norm: -1.7 percent of GDP. - Staff assesses that a norm of -3.2 percent to -0.2 percent of GDP is appropriate. - This suggests a CA gap in the range of -1.4 percent to 1.6 percent of GDP for 2017. - Domestic policy gaps (including in social spending and reserve accumulation) and partner-country policy gaps are largely offset by unexplained residuals, which could reflect structural distortions in the labor market and barriers to FDI and trade. - Key CA and REER figures (2017) - Actual CA: -1.7 - Cycl. Adj. CA: -1.6 - EBA CA Norm: -0.8 - EBA CA Gap: -0.8 - Staff Adj.: -0.9 - Staff CA Gap: 0.1 - Real exchange rate (REER) - REER remained broadly stable between 2013 and 2016. - In 2017, the average REER appreciated by 1.2 percent relative to the average of 2016 due to a relatively higher inflation rate than its trading partners; the average NEER depreciated by 0.7 percent. - Estimates through May 2018 show that the REER has depreciated by 4.3 percent relative to the 2017 average. - EBA REER index and level models point to an REER gap of about 2.1 percent to -5.5 percent for 2017. - Staff’s REER gap assessment: -9.4 percent to 7.2 percent (based on the CA assessment and estimated elasticities). - Capital and financial accounts (flows and policy measures) - 2017 net capital and financial account inflows: 2.9 percent of GDP. - Net FDI inflows: 2.0 percent of GDP. - Net portfolio inflows: 2.0 percent of GDP. - Net other investment inflows: -1.1 percent of GDP. - Q1 2018 net capital and financial account inflows declined to 0.7 percent of GDP, with net portfolio inflows of -0.5 percent of GDP. - Assessment: Net and gross financial flows relatively steady since the global financial crisis; contained current account deficit and strengthened policy frameworks (including exchange rate flexibility since mid-2013) helped reduce capital flow volatility. - Continued strong policies to strengthen the fiscal position, keep inflation in check, and ease supply bottlenecks would help sustain capital inflows in the medium term. - FX intervention and reserves - At end-2017, reserves were US$130.2 billion (equal to 13 percent of GDP, about 138 percent of IMF’s reserve adequacy metric, and about 8 months of prospective imports of goods and services), compared with US$116.4 billion at end-2016. - Contingencies and swap lines amounting to about US$81½ billion are in place. - February–April 2018 international reserves fell by US$7 billion to US$124.9 billion mainly due to FX intervention in response to depreciation pressures on the rupiah. - Assessment: Current level of reserves (US$124.9 billion at end-April) should be sufficient to absorb most shocks, with predetermined drains manageable. FX intervention should aim primarily at preventing disorderly market conditions while allowing the exchange rate to adjust to external shocks. - Technical notes - Demographic adjustment: an adjustor of -0.9 percentage point applied to the model-estimated CA norm (-0.8 percent of GDP) due to outlier adult mortality rates. - A range of +/-1.5 percent is added to reflect EBA-regression normal uncertainty (standard error of the EBA norm is 1.5 percent). ### Italy (concluded) - Overall external position - NIIP reached -7 percent of GDP at end-2017, broadly returning to end-2000 level (-6 percent of GDP). - Gross assets: 157 percent of GDP; gross liabilities: 164 percent of GDP (both 58 percentage points higher than in 2000). - TARGET2 liabilities rose from about 15 to 26 percent of GDP between end-2015 and end-2017. - Debt securities represent about ¾ of gross external liabilities, half of which is owed by the public sector. - Modest CA surpluses forecast should continue to improve the NIIP gradually. - Assessment: Further strengthening of balance sheets would reduce vulnerabilities related to high public debt and potential negative feedback loops between debt stock and debt servicing costs. - Overall assessment (2017) - The external position in 2017 was broadly in line with fundamentals and desirable policy settings. - Improving competitiveness would help strengthen growth, reduce high unemployment and public debt, and safeguard the external balance sheet. - Potential policy responses - Strong implementation of structural reforms (including improving wage bargaining to better align wages with productivity at the firm level). - Efforts to strengthen bank balance sheets. - Progress in fiscal consolidation to reduce external vulnerabilities and maintain investor confidence. - Current account (2017) - Italy’s CA averaged -1¼ percent of GDP in the decade following euro adoption; moved into balance starting in 2013; by 2017 registered a surplus of 2.9 percent of GDP (up from 2.7 percent of GDP in 2016). - About two-thirds of improvement since 2013 driven by growing trade surplus; the rest due to a higher income balance following residents’ net purchases of foreign assets and reduced external liabilities’ payments. - Declining investment accounted for ⅔ of the improvement in the CA since 2010; higher public saving contributed most of the rest. - CA assessment (2017) - Cyclically adjusted CA estimated at 2.1 percent of GDP in 2017, 0.3 p.p. below the EBA estimated CA norm of 2½ percent of GDP. - Staff assesses a CA gap in the range of -1.3 and +0.7 percent of GDP. - Structural rigidities hamper ability to improve competitiveness (reflected in negative residuals from the EBA CA model). - Key CA and REER figures (2017) - Actual CA: 2.8 - Cycl. Adj. CA: 2.1 - EBA CA Norm: 2.5 - EBA CA Gap: -0.3 - Staff Adj.: 0.0 - Staff CA Gap: -0.3 - Real exchange rate (REER) - From 2016 to 2017, CPI-based REER appreciated by 0.8 percent; ULC-based REER unchanged. - Longer perspective: stagnant productivity and rising labor costs led to a gradual REER appreciation since euro adoption (about 10 percent using ULC-based indices). - As of May 2018, the REER appreciated by 0.6 percent relative to the 2017 average. - EBA level and index REER models suggest a modest overvaluation of 5.4 percent and 7.2 percent, respectively. - Staff assesses a REER gap of 0–10 percent. - Capital and financial accounts - Financial account posted net outflows of about 3 percent of GDP in 2017, largely reflecting residents’ net purchases of foreign assets. - Assessment: Vulnerable to market volatility due to large refinancing needs of sovereign and banking sectors and high stock of NPLs. - FX intervention and reserves - The euro is a global reserve currency; reserves held by the euro area are typically low relative to standard metrics, but the currency is free floating. - Technical notes - CA norm for 2017 (2.5 percent) is lower than in 2016 (4.4 percent) due to methodological refinements to the EBA framework (demographics and credit cycles). - For Italy, the refined model indicates a demographic contribution of 1.7 (instead of 3.4 percent) and a policy contribution of 0.3 percent (instead of -0.5 percent). - The elasticity of the REER to the CA gap is estimated to be 0.26. ### Japan (concluded) - NIIP and external position - NIIP remained at about 60 percent of GDP over 2013-2017. - Assets: 184 percent of GDP; liabilities: 124 percent of GDP in 2017. - NIIP projected to rise to about 77 percent in the medium term with CA surpluses, before gradually stabilizing due to population aging. - NIIP generated net annual investment income of 3.6 percent of GDP in 2017. - Overall assessment and policy responses - 2017 external position broadly consistent with medium-term fundamentals and desirable policies. - Continued accommodative Bank of Japan stance should be accompanied by bold structural reforms and a credible and specific medium-term fiscal consolidation plan. - Potential policy responses include structural measures to boost wages, increase labor supply, reduce labor market duality, enhance risk capital provision, reduce barriers to entry, and accelerate agricultural and professional services deregulation; fiscal consolidation should proceed gradually anchored by a credible medium-term fiscal framework. - Current account (2017) - CA reached 4 percent of GDP in 2017, driven mainly by improved trade balance underpinned by lower energy prices. - CA surplus increased by 0.1 percent of GDP relative to 2016 due to an improvement in the income balance. - Income balance accounted for most of the current account surplus (90 percent in 2017). - CA assessment (2017) - EBA estimated cyclically adjusted CA: 3.6 percent of GDP, adjusted upward by 0.1 percent to reflect temporary factors (elevated energy imports with nuclear power plant shutdown). - EBA estimated 2017 cyclically adjusted CA norm at 3.2 percent of GDP, with a standard error of 1.3 percent of GDP. - Staff estimates a CA norm range between 1.9 and 4.5 percent of GDP. - Underlying CA gap midpoint in 2017 assessed to be 0.5 percent of GDP (CA gap range between -0.8 and 1.8). - Large unexplained portion of the EBA CA gap suggests important bottlenecks to investment remain. - Key CA and REER figures (2017) - Actual CA: 4.0 - Cycl. Adj. CA: 3.6 - EBA CA Norm: 3.2 - EBA CA Gap: 0.4 - Staff Adj.: -0.1 - Staff CA Gap: 0.5 - Real exchange rate (REER) - After depreciating during 2013-15, average REER appreciated substantially during 2016. - In 2017, the average REER weakened by about 4.9 percent relative to 2016. - Estimates through May 2018 show the REER has depreciated by 2.3 percent relative to the 2017 average while it has appreciated by 0.7 percent relative to end-2017. - EBA REER Index and Level models estimate the 2017 average REER to be 17-18 percent lower than the level consistent with fundamentals and desirable policies, mainly from a large unexplained residual. - Using staff-assessed CA gap range and a staff-estimated semi-elasticity of 0.14 yields an indicative REER gap range of -13 to 6 percent with a midpoint of -4 percent. - Taking low semi-elasticity into consideration, the REER is assessed as broadly in line with medium-term fundamentals and desirable policies. - Capital and financial accounts - Portfolio outflows continued during most of 2017—though at a slower pace than in 2016—as institutional investors diversified overseas and FDI outflows continued. - Net short yen positions prevailed since Q2 2017, but after end-March net positions are balanced. - Assessment: Vulnerabilities limited; no large spillovers from Yield Curve Control to other economies so far. - FX intervention and reserves - Reserves are about 25 percent of GDP, on legacy accumulation. - No FX intervention in recent years; interventions are isolated (last in 2011) to reduce short-term volatility and disorderly exchange rate movements. - Technical notes - Staff adjusted the EBA estimate of Japan’s cyclically adjusted CA to account for reliance on energy imports after the 2011 earthquake and to reflect authorities’ plans to restore nuclear energy. ### Korea (excerpted) - NIIP and external position - NIIP has been positive since 2014; at end-2017 it stood at 16 percent of GDP. - Gross liabilities totaled 79 percent of GDP, of which 27 percent of GDP was gross external debt. - Assessment: Positive NIIP strengthens external sustainability and should increase further as the current account remains in surplus. - Currency mismatch risks are lower than before the global financial crisis. - Overall assessment and policy responses - External position in 2017 assessed to be moderately stronger than warranted by medium-term fundamentals and desirable policy settings, reflecting excessive saving and relatively weak private investment. - Potential policy responses: Significantly more expansionary fiscal policy to boost domestic demand in the short and longer run, given substantial fiscal space; structural policies to rebalance toward services and boost domestic demand (strengthen social safety net, address investment bottlenecks). - Exchange rate should remain market determined, with intervention limited to addressing disorderly market conditions. - Current account (2017) - CA surplus in 2017: 5.1 percent of GDP. - The surplus declined by 1.9 percentage points in 2017 and stands below its five-year average. - Drivers of the decline: surge in imports of capital goods more than compensating for a rise in exports; narrowing of the service balance (decline in shipping services and tourist arrivals from China); smaller income balance; rising commodity prices. - Investment-to-GDP ratio rose, more than offsetting a marginal increase in the savings ratio. - Projection: CA surplus projected to remain large on the back of strong export performance and absent fiscal easing and well-targeted structural measures. - CA assessment (2017) - EBA model estimates cyclically adjusted CA surplus at 4.5 percent of GDP. - CA norm estimated in the range 2.0 to 4.0 percent of GDP. - CA gap midpoint: 1.6 percent of GDP; range: 0.6 to 2.6 percent of GDP. - Identified policy gaps: significantly tighter than desired fiscal policy and relatively low social spending contribute to the CA gap by increasing precautionary savings. - Key CA and REER figures (2017) - Actual CA: 5.1 - Cycl. Adj. CA: 4.5 - EBA CA Norm: 3.0 - EBA CA Gap: 1.6 - Staff Adj.: 0.0 - Staff CA Gap: 1.6 - Real exchange rate (REER) - REER appreciated by 3.0 percent in 2017, continuing a gradual appreciating trend since 2013. - As of May 2018, the REER appreciated 2.0 percent relative to the 2017 average. - REER estimated to have been below the level consistent with fundamentals and desired policies by 7.2 to 1.7 percent (derived using a semi-elasticity of 0.36). - REER regression models suggest gaps of -2.1 (EBA Level REER model) and +4.4 (EBA Index REER model). - Capital and financial accounts - Net capital outflows have been relatively stable over the medium term despite significant shifts in composition. - In 2017, they decreased to 5.7 percent of GDP from [text truncated in source]. *Source: Excerpts from the IMF chapter text.* ### 7.2 percent of GDP in 2016. ### text - 7.2 percent of GDP in 2016. ### Korea — Capital Flows, FX Intervention, and Reserves - Non-resident portfolio inflows surged to $17.7 billion as foreigners sharply expanded purchases of debt securities. - Foreign ownership in the domestic stock market rose to 33 percent in end-2017. - Assessment: - Present configuration of net and gross capital flows appears sustainable over the medium term. - Korea has demonstrated the capacity to absorb short term capital-flow volatility in magnitudes occurred over the last few years. - FX intervention and reserves level — Background: - Korea has a floating exchange rate. - FX intervention appears to have been two-sided since early 2015, based on staff estimates. - Staff estimates that total net intervention in 2017 was limited to around US$10 billion (0.7 percent of GDP); US$5 billion was in forward markets. - In 2018, net intervention as of end-April is estimated to have been around US$2 billion. - Reserves increased steadily from 2009 through mid-2014, but remained broadly stable through 2016. - In 2017, reserves increased by $18 billion including valuation effects. - At end-2017, total reserves stood at $389 billion (25.4 percent of GDP). - FX intervention and reserves level — Assessment: - Intervention appears to have been limited to address disorderly market conditions since 2015. - Foreign exchange reserves were around 107 percent of the IMF’s composite reserve adequacy metric in end-2017, which provides a sufficient buffer against a wide range of possible external shocks. *Italic: Source: text - 7.2 percent of GDP in 2016.* ### Malaysia — Overall Assessment and External Position - Background: - Malaysia’s net international investment position (NIIP), as a percent of GDP, averaged around 1.7 percent of GDP since 2010. - In 2017 it turned into a net liability position of 2 percent of GDP (2016: net assets of about 5¼ percent of GDP). - Gross external assets were 132 percent of GDP as of end-2017. 1/ - Total external debt was about 69.4 percent of GDP in 2017; about one-third denominated in local currency and more than one-half of medium-term maturity. - Interbank and intercompany loans account for the bulk of private external debt in foreign currency; federal government’s external debt is mostly in local currency. 2/ - Assessment: - NIIP is expected to rise gradually over the medium term, reflecting projected moderate current account (CA) surpluses. - Balance sheet strength of banks and domestic institutional investors, maturity and currency composition of external debt, presence of longer-term foreign portfolio investors, exchange rate flexibility, and adequate reserves would provide resilience to Malaysia’s potential external vulnerabilities. - Overall Assessment: - The external position in 2017 was stronger than the level consistent with fundamentals and medium-term desirable policies. - Potential policy responses: - Medium-term fiscal consolidation should continue. - Spending should accommodate further improvements in social protection and public healthcare. - Address structural bottlenecks (labor market frictions: skills mismatch; low female participation; weak education quality) and improve physical infrastructure to support higher private investment and productivity. ### Malaysia — Current Account and REER - Current account — Background: - Malaysia’s CA surplus declined by about 7 percentage points of GDP between 2010 and 2017. - In 2017, CA surplus was 3 percent (2016: 2.4 percent). - Goods balance is in surplus; services and income accounts are in deficits. - Current account — Assessment and key figures: - Actual CA: 3.0 - Cycl. Adj. CA: 3.7 - EBA CA Norm: 0.6 - EBA CA Gap: 3.1 - Staff Adj.: 0.0 - Staff CA Gap: 3.1 - Assessment: The refined EBA CA model estimates 2017 CA norm at 0.5 percent of GDP after cyclical and multilateral consistency adjustments. The 2017 cyclically adjusted CA is estimated at about 3.7 percent of GDP, leading to an estimated 2017 CA gap of 3.2 percent of GDP (±about 1 percent of GDP). Unidentified residuals explain the entire CA gap. Low public healthcare spending explains part of the excess surplus. CA balance expected to remain in surplus, albeit lower, over the medium term. - Real exchange rate — Background: - Annual average REER depreciated by 1.7 percent in 2017. - REER was nearly 15 percent lower from its 2013 peak. - Since late 2017, REER has appreciated; in March 2018 it was up by 5.5 percent from its 2017 average. - Real exchange rate — Assessment: - EBA REER models estimate Malaysia’s REER to be about 33–36 percent below what is warranted by fundamentals and desirable policies. - Staff assesses the REER gap in 2017 was close to -6¾ percent (± about 2 percent). 4/ ### Malaysia — Capital Flows, FX Intervention, and Reserves - Capital and financial accounts — Background: - Since the Global Financial Crisis, Malaysia experienced significant capital flow volatilities, largely driven by portfolio flows in and out of the local-currency debt market. - In 2017, the annual financial account balance was in a small surplus for the first time since 2011. Net capital inflows continued in the first four months of 2018. - Since late 2016, the Financial Markets Committee implemented measures to develop the onshore FX market. 6/ - Assessment: - Exchange rate flexibility and macroeconomic policy adjustments should remain central in response to capital flow volatility. - A more holistic approach toward onshore market development, including phasing out of current capital flow management measures, would have potential benefits. - FX intervention and reserves level — Background: - Gross foreign reserves stood at US$102.4 billion in 2017; as of mid-May 2018, gross reserves were at US$109.4 billion. - FX intervention and reserves level — Assessment: - Under IMF’s composite reserve adequacy metric (regime classified as “floating”), gross official reserves are within adequacy range (118 percent of the metric as of end-2017). - In case of disorderly market conditions reserves could be deployed. - In face of a capital inflow surge, a combination of further reserve accumulation and some exchange rate appreciation would be appropriate. *Italic: Source: text - 7.2 percent of GDP in 2016.* ### Mexico — NIIP, CA, REER, Capital Flows, and Reserves - Background: - NIIP was -45.7 percent of GDP in 2017 (gross foreign assets and liabilities were 54.8 percent and 100.6 percent of GDP, respectively). - Portfolio liabilities stood at 43.5 percent of GDP in 2017, of which around one fifth were holdings of local-currency government bonds. - A predominant share of FX liabilities was denominated in US dollars (80 percent in the case of outstanding federal government securities). - 95 percent of debt securities liabilities were long term, mainly FX-denominated (41 percent) and local currency-denominated government bonds (28 percent), with average maturities of 21 and 8 years, respectively. - NIIP-to-GDP ratio projected to decline marginally to about -44 percent by 2023. - Assessment: - While NIIP is sustainable, large gross foreign portfolio liabilities could be a vulnerability in case of global financial volatility. - Overall Assessment: - In 2017, Mexico’s external sector position was broadly consistent with medium-term fundamentals and desirable policies. - Potential policy responses: - Further structural reforms to improve competitiveness and strengthen exports. - Authorities committed to reducing public sector borrowing requirement from 4.6 percent of GDP in 2014 to 2.5 percent in 2018, and met this target with a margin in 2017. - Central bank sets monetary policy to ensure inflation remains close to the 3-percent target. - Staff recommends continued reliance on the floating exchange rate as main shock absorber, and using FX intervention solely to prevent disorderly market conditions. The IMF Flexible Credit Line provides an added buffer. - Current account — Background and figures: - Actual CA: -1.7 - Cycl. Adj. CA: -1.4 - EBA CA Norm: -2.5 - EBA CA Gap: 1.1 - Staff Adj.: 0.6 - Staff CA Gap: 0.5 - In 2017, CA deficit narrowed to 1.7 percent of GDP (1.4 percent cyclically adjusted), from 2.1 percent in 2016. - Real exchange rate — Background and Assessment: - Average REER in 2017 was 2.2 percent stronger than the 2016 average. - REER appreciated by 15.5 percent relative to its January 2017 low. - As of May 2018, REER had depreciated by 2.4 percent relative to the 2017 average. - EBA level REER regression estimates an undervaluation of 11.9 percent in 2017; index approach yields 23.2 percent. - External sustainability approach suggests 1.5 percent undervaluation; staff-assessed CA gap implies a REER undervaluation of 3.8 percent (applying an estimated elasticity of 0.13). - Considering estimates, staff assesses Mexico’s REER gap to be in the range of 4 to -12 percent; the peso is broadly in line with fundamentals. - Capital and financial accounts — Assessment: - Long average maturity of sovereign debt and high share of local currency financing reduce exposure to depreciation risks. - Banking sector is well capitalized and liquid; non-financial corporate debt levels are low and FX risks well covered. - Strong presence of foreign investors leaves Mexico exposed to capital flow reversals and risk premium increases. - FX intervention and reserves level — Background and figures: - At end-2017, FX reserves had declined to US$175.5 billion (15.3 percent of GDP) from US$178.0 at end-2016. - In February 2017, the Foreign Exchange Commission announced a new FX hedging program enabling the Bank of Mexico to offer up to US$20 billion of non-deliverable forwards settled in pesos with maturity up to 12 months. - Total NDF sales in 2017 amounted to US$5.5 billion. - FX intervention and reserves level — Assessment: - At 123 percent of the ARA metric and 271 percent of short-term debt (at remaining maturity), the current level of foreign reserves remains adequate. - Staff recommends maintaining reserves at an adequate level over the medium term. - The Flexible Credit Line arrangement complements international reserves, providing protection against global tail risks. *Italic: Source: text - 7.2 percent of GDP in 2016.* ### Netherlands — NIIP, CA, and Policy Responses - Background: - NIIP increased to 74 percent of GDP at end-2017 (with gross assets and liabilities totaling 1251 and 1177 percent of GDP, respectively). - Net FDI stock reached 956 billion euro (130 percent of GDP) at end-2017. - TARGET2 assets on the euro system increased to reach 120 billion euro. - Over the medium term, NIIP expected to grow to about 100 percent of GDP, in line with projected sizable CA surpluses. - Assessment: - The Netherlands’ safe haven status and sizable foreign assets limit risks from large foreign liabilities. - Overall Assessment: - The external position in 2017 was substantially stronger than the level consistent with medium-term fundamentals and desirable policy settings. - Potential policy responses: - Expansionary fiscal policy planned by the new government, progress in repairing household balance sheets, and strengthening the banking system could support domestic demand and reduce excess external imbalances. - Higher wage growth consistent with tighter labor market conditions would help rebalancing within the monetary union. - Structural reforms to raise productivity of small domestic firms, encourage domestic productive investment, and pension reforms to reduce precautionary savings would reduce the CA surplus. - Current account — Figures and Assessment: - Actual CA: 10.2 - Cycl. Adj. CA: 10.3 - EBA CA Norm: 3.5 - EBA CA Gap: 6.8 - Staff Adj.: 0.0 - Staff CA Gap: 6.8 - CA surplus increased to 10.2 percent of GDP in 2017 (10.3 percent cyclically adjusted). - EBA CA model estimates a CA norm of 3.5 percent of GDP and a CA gap of 6.8 percent of GDP in 2017. - Staff assesses the norm in a range of 1.5-5.5 percent of GDP, implying a corresponding CA gap of 4.8-8.8 percent of GDP. - Real exchange rate: - REER has been on an appreciation path since April 2015. - The annual average CPI-based and ULC-based REER appreciated 1 percent and [text truncated in source]. *Italic: Source: text - 7.2 percent of GDP in 2016.* ### 1.7 percent, respectively, in 2017. The REER ### The Netherlands (concluded) — Poland: External Sector Assessments ### Real Effective Exchange Rate (REER) — Netherlands - REER appreciated by an additional 0.9 percent through May 2018, relative to the 2017 average. - EBA REER models indicate a range of overvaluation of 10.6 percent (index model) to slight undervaluation of 0.7 percent (level model) in 2017, largely attributable to unexplained residuals. - Staff-assessed CA gap implies a REER undervaluation of 9.2 percent (elasticity of 0.74). - Taking into account all estimates and the uncertainty surrounding the EBA REER results, staff assesses that the REER remained undervalued by around 10 percent within a range of 7–13 percent. ### Capital and Financial Accounts — Netherlands - Background: - Net FDI and portfolio outflows dominate the financial account. - FDI outflows are driven by the investment of corporate profits abroad. - On average, gross FDI outflows largely match corporate profits. - Assessment: - The strong external position limits vulnerabilities from capital flows. - The financial account is likely to remain in deficit as long as the corporate sector continues to invest substantially abroad. ### FX Intervention and Reserves Level — Netherlands - Background: - The euro is a global reserve currency. - Assessment: - Reserves held by the euro area are typically low relative to standard metrics, but the currency is free floating. ### Technical Background Notes — Netherlands - In comparison with last year, the EBA-estimated CA gap in 2017 (unexplained residual plus the contribution of identified policy gaps) widened by 3.2 percent of GDP, reflecting increasing unidentified residuals. - The larger gap reflects a higher cyclically adjusted CA surplus (from 8.9 to 10.3 percent of GDP) and a much lower CA norm (from 5.3 to 3.5 percent of GDP) due to the exclusion of the financial center dummy. - The larger external balance sheet, presence of large international corporations, and issues related to the measurement of the current account add uncertainty to this assessment. - According to the DNB, half of the positions in assets and liabilities are attributable to subsidiaries of foreign multinationals. --- ### Poland — Overall Assessment - Foreign asset and liability position and trajectory — Background: - NIIP stood at negative 65 percent of GDP in 2017. - Gross liabilities increased to 118 percent of GDP. - Gross assets remained at the level of 2016 (52 percent of GDP). - FDI (equity and debt) accounted for 45 percent of gross external liabilities in 2017, and is diversified across sectors and source countries. - Gross external debt was 72 percent of GDP at end-2017. - A quarter of gross external debt is liabilities to direct investors. - The share of short-term debt (at remaining maturity) is 28 percent of total gross debt. - Currency mismatch stems from different shares of euro-, USD- and zloty-denominated instruments in gross assets and liabilities. - Assessment: - While sizable external debt, including short-term debt, presents a vulnerability, rollover risk is mitigated by the large share of debt FDI, which tends to be stable. - Sizable reserves also help to mitigate liquidity risk that may arise from rolling over the large amount of short-term debt. - Overall Assessment: - The external position in 2017 was broadly in line with medium-term fundamentals and desirable policies. - The cyclically adjusted CA balance in 2017 is expected to decline going forward on accelerated absorption and utilization of EU funds. - Reserves are sufficient to guard against external shocks and disorderly market conditions. - Developments since end-2017 do not change the overall assessment. ### Poland — Potential Policy Responses - Policies should manage the cyclical upswing to preserve external balance. - Timely monetary policy responses are required to prevent nascent overheating pressures from becoming more widespread and migrating to consumer prices. - A gradual structural fiscal consolidation is needed from a cyclical perspective and to lower the structural deficit in order to create space to absorb future costs of adverse demographics and the eventual decline in EU funds. ### Current Account (CA) Assessment — Poland 2017 - Background: - Sizable CA deficits during 2004-14 have been replaced more recently by close-to-balance/small surplus positions, notwithstanding a significant primary income deficit. - The improvement in the CA followed a large depreciation during 2014-16 and lower public investment due to the transition to the 2014-20 EU funds cycle, with favorable terms of trade contributing as well. - Poland’s CA turned positive in 2017 at 0.3 percent of GDP, as the increase in the services surplus more than offset the decline in the goods surplus. - From a saving-investment perspective, the increase in the CA in 2017 was supported by low public investment due to delayed EU funds absorption. - Assessment: - For 2017, the cyclically adjusted current account stood at a surplus of 0.8 percent of GDP, and the EBA CA norm was a deficit of -1.7 percent of GDP. - The resulting EBA gap of 2.4 percent of GDP reflects the sum of domestic and external policy gaps of 0.4 percentage points, and an estimation residual of 2.1 percentage points. - Delayed absorption and utilization of EU funds account for about 1.4 percentage points of the EBA gap. - Staff assesses that the CA was broadly in line with fundamentals and medium-term policies in 2017, with a CA gap range centered on 1 (± 1) percent of GDP. - Key CA figures (2017): - Actual CA: 0.3 - Cycl. Adj. CA: 0.8 - EBA CA Norm: -1.7 - EBA CA Gap: 2.4 - Staff Adj.: 1.4 - Staff CA Gap: 1.0 ### Real Exchange Rate — Poland - Background: - The annual-average REER depreciated by a cumulative 7¾ percent during 2014-16, largely on nominal depreciation vis-à-vis the US dollar and the Swiss franc, as the zloty tends to move in line with the euro. - The depreciation is consistent with NBP policy rate cuts in response to deflationary pressures and domestic policy uncertainties in the run-up to and following the 2015 election. - The REER appreciated by 3.2 percent on average in 2017 (6.7 percent from end-2016 to end-2017), mainly on account of nominal appreciation. - Between end-2017 and end-May 2018, the zloty weakened by about *Source: IMF staff assessment as presented in the provided text.* ### 6.9 percent against the US dolla ### 6.9 percent against the US dolla ### Poland — Assessment and External Position - EBA REER and CA models suggest an undervaluation of between 0 and 5 percent for 2017. - REER gap implied by the EBA CA model: -5 percent. - REER index model suggests a gap of -2.5 percent. - Staff assessment for Poland’s 2017 REER: close to the level consistent with fundamentals and desirable policy settings, with a gap in range of -5 to 0 percent. ### Poland — Capital and Financial Accounts - Capital account dominated by EU funds inflows for financing investment projects; temporary slowdown in EU funds absorption in 2016-17 due to transition to the 2014-20 EU funds cycle. - Recent years: net financial inflows decreased and were volatile. - Foreign holdings of government debt securities: around 41.7 percent — indicating potential vulnerabilities. - Ratio of foreign holdings declined in 2017 as domestic banks increased holdings in response to the introduction of the bank asset tax, which exempts government bonds. - Diversified foreign investor base is a mitigating factor. ### Poland — FX Intervention and Reserves - Gross international reserves: US$113 billion at end-2017. - Net reserves (excluding NBP’s repo operations) increased from US$96.1 billion at end-2016 to about US$104.9 billion at end-2017. - Net reserves in 2017: about 95 percent of the IMF’s composite reserve adequacy (ARA) metric. - Gross reserves in 2017: about 110 percent of the ARA metric. - Zloty has floated freely. - Estimates through May 2018: REER appreciated by 6.4 percent relative to the 2017 average. ### Poland — Technical Notes (selected) - Cyclically adjusted CA balance assessed to be -0.7 percent of GDP (instead of model-implied 0.8 percent). - Contribution of identified policy gaps: 0.4 percentage points (domestic fiscal policy gap of -0.4 percentage points offset by fiscal gaps in trading partners, resulting in positive 0.2 percentage points contribution of fiscal policies). Credit gap and health spending together contribute 0.3 percentage points. Capital controls and reserves contribute -0.1 percent of GDP. - EBA estimation standard error for the 2017 CA norm: 0.6 percent of GDP. - EBA REER level model for Poland suggests an undervaluation of 16.9 percent, but model residuals of 14.6 percent indicate potential inadequacy. --- ### Russia — Overall Assessment and External Position - NIIP at end-2017: 18 percent of GDP (marginally higher than in 2016, up from 10 percent in 2013). - Gross assets: 88 percent of GDP; liabilities: 70 percent of GDP (split evenly between equity and debt). - Total external debt at end-2017: 34 percent of GDP (a 6 percentage point reduction from the year before). - No obvious maturity mismatches between gross asset and liability position. - Historical note: NIIP has not kept pace with CA surpluses due to unfavorable valuation changes and treatment of “disguised” capital outflows. - Assessment: projected CA surpluses suggest Russia will continue to maintain a positive IIP, lowering risks to external stability; official external assets have been increasing rapidly since introduction of new fiscal rule; private sector deleveraging reduces risks. ### Russia — Policy Recommendations - Greater diversification and prudence recommended. - Fiscal policy should operate within parameters of the new fiscal rule to reduce impact of oil price volatility on the non-oil sector. - Government expenditure should be rebalanced to capital spending while leaving space for higher health spending. - Emphasis on structural reforms to invigorate private sector to increase net savings and allow somewhat higher private and public-sector investment over medium term. ### Russia — Current Account Assessment 2017 - CA balance: surged to 5 percent of GDP in 2015, fell to 1.9 percent of GDP in 2016, recovered to 2.3 percent of GDP in 2017. - Energy prices marginally raised CA to 2.3 percent in 2017 despite further deterioration of 0.2 percent of GDP in the non-energy CAB. - EBA CA model norm for 2017: 3.8 percent of GDP. - Cyclically adjusted CA surplus: 3.2 percent of GDP. - EBA CA Gap: -0.5 (percent of GDP). - Staff adjustment: 0.7. - Staff CA Gap: -1.3. - Staff assesses 2017 CA gap at -1¼ percent, with confidence interval between -2½ and 0 percent. - Fiscal gap accounts for most of the CA gap; medium-term recommendation: tighten fiscal policy while raising infrastructure and health spending to rebuild buffers and save more of oil wealth. - Note: 2017 CA norm is 2½ percentage points of GDP lower than under previous methodology. ### Russia — Real Exchange Rate and Reserves - REER depreciated by over 35 percent between mid-2014 and February 2016 following shocks and ruble float; REER appreciated by 16 percent in 2017. - By May 2018, REER has depreciated by 5.8 percent relative to the 2017 average (partly due to new US sanctions in April). - Both EBA Level and Index REER models indicate a small undervaluation of around 5 percent. - Staff assesses 2017 REER was between 0 and 10 percent above its equilibrium level (applying estimated elasticity of 0.26). - International reserves: US$457 billion at end-March 2018, up from U$378 billion at end-2016. - International reserves at end-2017: equivalent to 264 percent of the IMF’s reserve adequacy metric (considerably above adequacy range of 100-150 percent). - Commodity buffer appropriate: $58 million, translating reserves-to-buffer-augmented metric to 195 percent. - Recommendation: limit large FX interventions to episodes of market distress. ### Russia — Technical Notes (selected) - Russia’s foreign assets mostly in foreign currency: over 93 percent as of end-2017. - Liabilities predominantly in rubles: 64 percent; about three-quarters of external debt denominated in foreign currency. - 19 percent increase in dollar GDP in 2017 explains most reduction in assets- and liabilities-to-GDP ratios. - “Disguised” capital outflows treatment may cause actual NIIP to be higher than reported. --- ### Saudi Arabia — Overall Assessment and External Position - NIIP at end-2017: 81 percent of GDP. - External assets declined by 10 percent of GDP during 2017 and 17 percent of GDP since 2015 peak, largely due to decline in central bank FX reserves. - External liabilities rose by 1.1 percent of GDP in 2017 mainly because of new government borrowing. - Projections: NIIP-to-GDP ratio will increase to around 92.6 percent of GDP in 2023 as CA remains in surplus. - Assessment: external balance sheet remains very strong; accumulated assets represent savings of exhaustible resource revenues and protection against oil price volatility. ### Saudi Arabia — Policy Recommendations - Continued fiscal consolidation necessary short- and medium-term to strengthen CA and increase saving for future generations. - Planned fiscal adjustment based on further energy price reforms, non-oil revenue measures, and expenditure restraint. - Fiscal adjustment should be supported by reforms to strengthen fiscal framework. - Structural reforms to diversify economy and boost non-oil tradables over medium-term. ### Saudi Arabia — Current Account Assessment 2017 - CA moved to surplus of 2.7 percent of GDP in 2017 from deficit of 3.9 percent of GDP in 2016. - Imports of goods fell by 7 percent in 2017 as economy contracted while exports increased by 20 percent largely due to higher oil prices. - Import volumes fell by 9 percent while export volumes decreased by 1.5 percent. - Terms of trade improved by 22.5 percent in 2017 and projected to improve by a further 28.8 percent in 2018. - Trade balance rose to over 15 percent of GDP. - CA surplus expected to increase to 9.3 percent of GDP in 2018 then narrow over medium-term as oil price declines. - Estimated CA gap in 2017 varies by methodology: -2.4 percent of GDP (EBA-lite macro-balance), -1.9 percent (external sustainability), -1.6 percent (alternative oil-exporters specification). - Staff assesses CA gap range in 2017: -1 to -3 percent of GDP. - Staff CA Gap reported: -2.0. - Non-exported oil primary fiscal deficit expected to narrow substantially over medium-term and reduce external gap. - Oil price assumed: $70.7 in 2018, declining to $59.2 in 2023 ($53.2 in 2017). ### Saudi Arabia — Real Exchange Rate and Reserves - Riyal pegged to US dollar at rate of 3.75 since 1986. - REER in 2017: on average 15 percent above its 10-year average, gap declined to 10 percent by year-end. - Estimates through May 2018: REER depreciated by 2.0 percent relative to the 2017 average. - Staff estimates average REER gap in 2017 in range of 10-20 percent, at lower end by end-2017. - FX reserves: fell to $489 billion at end-2017 (71 percent of GDP, 28 months of imports, and 470 percent of IMF’s reserve metric), down from $727 billion in 2014. - Assessment: reserves more than adequate for precautionary purposes measured by IMF metrics; continued fiscal adjustment needed. ### Saudi Arabia — Technical Notes (selected) - NIIP may be underestimated given large errors and omissions in BoP over many years. - At current oil production, $1 change in oil price results in 0.4 percent of GDP first-round change in CA balance. --- ### Singapore — Overall Assessment and External Position - NIIP increased to 248 percent of GDP in 2017 (highest since 2009; below pre-GFC peak of 265 percent in 2006). - CA surplus main driver since GFC; valuation effects contributed significantly to NIIP increase in 2017. - NIIP projected to rise over medium term. - Gross non-FDI liabilities: 472 percent of GDP in 2017 — predominantly cross-border deposit taking by foreign bank branches. - Mitigating factors: large short-term external assets held by banks and authorities’ close monitoring of bank liquidity risk profiles. - Official reserves and other official liquid assets large: official reserves held by MAS reached US$ 280 billion (86 percent of GDP) in 2017. - Assessment: external position in 2017 substantially stronger than consistent with fundamentals and desirable policies. ### Singapore — Policy Recommendations - Higher public investment in physical infrastructure, human capital, and public health-care related expenditures would help moderate CA imbalances by lowering net public saving. - Structural reforms to improve labor productivity to support trend appreciation of currency. - Gradual normalization of monetary policy by MAS will help rebalancing by allowing gradual appreciation of NEER over time. ### Singapore — Current Account and REER - Actual CA: 18.8 (percent of GDP). - Cyclically adjusted CA: 18.9. - Staff CA Gap: 5.5. - CA surplus of 19 percent of GDP in 2017 (similar to 2016) driven by strong goods balance partly offset by deficits in services and income accounts. - REER depreciated by 1 percent year over year in 2017 due to low inflation; NEER appreciated by 0.2 percent year over year. - Estimates through May 2018: REER depreciated by 1.4 percent relative to the 2017 average. - Staff assesses REER to be 4-16 percent weaker than warranted by fundamentals and desirable policies (assessment subject to wide uncertainty). ### Singapore — Capital Flows and Reserves Assessment - Open capital account; financial account deficit tends to rise during periods of lower global uncertainty. - In 2017, deficit on capital and financial account narrowed substantially to 10 percent of GDP (from 15-20 percent in 2014-16). - Assessment: financial account likely to remain in deficit as long as trade surplus remains large. - Official reserves: US$ 280 billion (86 percent of GDP) in 2017 — current level of official external assets appears adequate. --- ### South Africa — Overall Assessment and External Position - NIIP: 12 percent of GDP as of end-2017 (after peaking at 16 percent in 2015). - Gross external debt rose to 49.6 percent of GDP at end-2017 from 26 percent of GDP at end-2008. - Short-term external debt (residual maturity) at end-2017: 14.2 percent of GDP. - Assessment: large gross external liabilities pose risks; mitigating factors include comfortable external asset position and sizable rand-denominated share of external debt (about half). - Overall external position in 2017: moderately weaker than implied by fundamentals and desirable policy settings. ### South Africa — Policy Recommendations - Improve competitiveness and increase employment and savings by: - Fostering entry into key product markets (power generation, transportation, telecommunications). - Upgrades in infrastructure and education/skills within fiscal envelope. - Greater financial inclusion. - Preserve government debt sustainability and accelerate labor and product market reforms to attract durable inflows such as FDI. - Seize opportunities to accumulate reserves (e.g., large FDI inflows) to strengthen ability to deal with FX liquidity shocks. ### South Africa — Current Account and REER - Actual CA: -2.5 (percent of GDP). - Cycl. Adj. CA: -2.5. - EBA CA Norm: 0.7. - EBA CA Gap: -3.2. - Staff Adj.: -1.9. - Staff CA Gap: -1.3. - CA deficit narrowed to 2.5 percent of GDP in 2017 from 2.8 percent in 2016. - CA deficit projected to widen to around 3 percent of GDP in 2018. - REER: CPI-REER appreciated by 12.4 percent on average in 2017 relative to 2016. - As of May 2018, REER appreciated an additional 5.6 percent relative to 2017 average. - Assessment: CA approaches point to overvaluation of 2–9 percent; REER approaches point to undervaluation of between 7.4 percent (level) and 13.4 percent (index). Staff assesses REER overvaluation of 0–10 percent for 2017, broadly consistent with CA gap. ### South Africa — Capital Flows and Reserves - Net FDI flows: -1.7 percent of GDP in 2017 (fourth consecutive year with net FDI outflows). - Portfolio investment: 4.7 percent of GDP in 2017 — main source of financing for CA deficit. - Gross external financing needs in 2017: 14 percent of GDP. - Floating exchange rate regime; FX intervention rare. - International reserves at end-2017: equivalent to 14.5 percent of GDP (down from 16 percent the year before). - Reserves cover 5½ months of projected imports. - Reserves below IMF composite adequacy metric: 64 percent of metric without capital flow management measures, 70 percent after considering them. - Assessment: reserve accumulation desirable as conditions allow, maintaining primacy of inflation objective. ### South Africa — Technical Notes (selected) - Staff-assessed CA gap uses EBA CA regression, External Sustainability approaches, and staff judgment. - Demographic adjustor: -1.1 percent of GDP to model-estimated CA norm owing to outlier adult mortality/demographics. - Adjustment of 0.8 percent of GDP to cyclically adjusted CA for transfers and income account/statistical treatments. --- ### Spain — Overall Assessment and External Position - NIIP at end-2017: -81 percent of GDP (improved by 14 percentage points since 2013). - Gross liabilities: 242 percent of GDP in 2017, with more than 2/3 in form of external debt. - TARGET2 liabilities reached 32 percent of GDP by end-2017. - Assessment: large negative NIIP implies external vulnerabilities including large gross financing needs; mitigating factors include favorable sovereign debt maturity structure (averaging 7 years) and ECB measures lowering cost of debt. - Overall external position in 2017: moderately weaker than consistent with medium-term fundamentals and desirable policy settings. - Staff assesses Spain’s CA norm to be relatively high due to NIIP sustainability risks. ### Spain — Policy Recommendations - Continue structural reforms (labor market, product market) and reduce structural fiscal deficit to lower remaining imbalances. - Continued monetary accommodation at euro area level to lift inflation closer to ECB medium-term objective to support external demand. ### Spain — Current Account and REER - Actual CA: 1.9 (percent of GDP). - Cycl. Adj. CA: 1.5. - EBA CA Norm: 1.4. - EBA CA Gap: 0.1. - Staff Adj.: 1.6. - Staff CA Gap: -1.5. - CA surplus in 2017: 1.9 percent of GDP. - Staff places more weight on external sustainability: CA norm about 3 percent of GDP (range 2-4 percent), implying CA gap of -2.5 to -0.5 percent of GDP. - REER (CPI- and ULC-based) appreciated by 2 percent in 2017 from 2016 levels. - As of May 2018, CPI-based REER and ULC-based REER appreciated an additional 0.6 to 2.0 percent relative to 2017 averages. - Two EBA REER models estimate overvaluation in range 5.1 to 5.8 percent for 2017; CA model implies close-to-zero overvaluation. - Staff assesses 2017 REER gap in range of 3 to 10 percent, considering NIIP risks. ### Spain — Capital Flows and Reserves - Financing conditions favorable with sovereign yields near historical lows. - Private sector continued deleveraging against rest of world. - TARGET2 liabilities increased during 2015-17 at annual average pace of 5 percent of GDP. - ECB’s actions and domestic reforms/fiscal consolidation improved investor sentiment, but large external financing needs leave Spain vulnerable to shifts in market sentiment. - Euro: global reserve currency with free floating; reserves held by euro area typically low relative to standard metrics. ### Spain — Technical Notes (selected) - EBA model suggests CA norm of 1.4 percent of GDP with standard deviation of 1.3 percent of GDP. - Staff-guided CA norm of 2-4 percent of GDP necessary to strengthen NIIP by about 5 percent of GDP annually over next 5-10 years. - Semi-elasticity of CA to REER estimated at 0.28. _Italic: Source: IMF — text.pdf (excerpted country assessments and technical notes)._ ### 9.6 percent of GDP in 2017, up 4. ### 9.6 percent of GDP in 2017, up 4. ### Sweden — Foreign asset and liability position and trajectory - Net IIP was 9.6 percent of GDP in 2017, up 4.6 percentage points in the year. - Average annual increase in the net IIP over the last decade: about 0.7 percent of GDP. - Average CA surplus over the last decade: 5.3 percent of GDP. - Errors and omissions averaged -2.9 percent of GDP in the past decade. - Gross liabilities: 278 percent of GDP in 2017; about one third being external debt (91 percent of GDP). ### Sweden — Overall assessment - Sweden’s external position in 2017 was moderately stronger than the level consistent with medium-term fundamentals and desirable policies. - Subsequent developments do not point to a change in the external position. ### Sweden — Potential policy responses - Under current and prospective policies, a decline in the current account surplus can be expected in the medium-term. - Accommodative monetary policy is supporting domestic demand growth; some appreciation of the krona is expected when inflation returns to target. - A mildly expansionary fiscal policy stance—consistent with converging to the lower medium-term surplus target—will support demand. - Implement reforms to sustain higher level of residential investment. - Continue efforts to facilitate migrant integration into the labor market to raise potential output and reduce household uncertainties around the sustainability of Sweden’s social model. ### Sweden — Current account (CA) Assessment 2017 - Background: - CA balance estimated to have fallen to 3.2 percent of GDP in 2017, from 4.2 percent in 2016. - Decade average CA: 5.3 percent of GDP. - Decline partly related to an unusually large decline in net services of 1.1 percent of GDP (three-fifths from financial services and other unspecified services). - Assessment: - Cyclically adjusted current account: 3.6 percent of GDP in 2017. - Cyclically adjusted EBA norm: 1.8 percent of GDP. - Staff assesses Sweden’s CA gap at 1.6 percent of GDP in 2017, within a range of +/- 1.5 percent of GDP. - Key figures: - Actual CA: 3.3 - Cycl. Adj. CA: 3.6 - EBA CA Norm: 1.8 - EBA CA Gap: 1.8 - Staff Adj.: 0.2 - Staff CA Gap: 1.6 ### Sweden — Real exchange rate - Background: - Swedish krona mostly unchanged in real effective terms in 2017 relative to 2016 average. - As of May 2018, the REER has weakened by 5.8 percent relative to the 2017 average. - Assessment: - EBA analysis suggests a gap of -10 percent using the REER index and level approaches for 2017. - ULC based REER index is only 3 percent below its 25-year average, within +/- 12.5 percent historical fluctuation range. - Applying a 0.25 semi-elasticity of CA to REER to the CA gap of 1.6 percent +/- 1.5 percent of GDP gives a valuation range for the krona of 0 to -12 percent. - Staff assesses the krona to be undervalued by 0 to 10 percent. - This REER gap is expected to be temporary, with the krona likely to appreciate in the medium term as monetary policy normalizes. ### Sweden — Capital and financial accounts: flows and policy measures - Background: - Sweden’s large banks remain vulnerable to liquidity risks stemming from global wholesale markets despite improved structural liquidity measures. - Assessment: - Further decline in banks’ short-term funding in favor of longer maturities is desirable. - Macroprudential policies to help contain vulnerabilities: planned increases in capital buffers of domestic banks, raising funding stability standards, and mortgage amortization regulations on the household side. ### Sweden — FX intervention and reserves level - Background: - Exchange rate is freely floating; Riksbank statements regarding potential intervention have not been implemented. - Foreign currency reserves: USD 54 billion in December 2017. - Reserves equivalent to 20 percent of the short-term external debt of monetary and financial institutions and about 11 percent of GDP. - Assessment: - Given high dependence of Swedish banks on wholesale funding in foreign currency and occasional funding disruptions, it would not be appropriate to reduce Sweden’s existing reserves. - A further tightening of FX liquidity requirements on banks should be evaluated. --- ### Switzerland — Foreign asset and liability position and trajectory - Background: - NIIP of 127 percent of GDP and gross foreign asset and liability positions of 714 and 587 percent of GDP, respectively, at end-2017. - NIIP-to-GDP ratio about unchanged from peak in 2011 at 133 percent; subsequently declined despite CA surpluses averaging about 10 percent of GDP—reflecting mainly persistent negative valuation effects, but recovered by around 35 percentage points from 2015 to 2017 partly on account of valuation gains. - Valuation changes reflect fluctuations in exchange rates and prices of securities and precious metals interacting with mismatches between assets and liabilities. - Assessment: - Large gross liability position and volatility of financial flows present some risk, mitigated by large gross asset position and that most external liabilities are denominated in Swiss francs. - Given large gross positions and compositional mismatch, modest changes in exchange rates and asset prices can materially affect NIIP. ### Switzerland — Overall assessment - Switzerland’s external position was broadly consistent with medium-term fundamentals and desirable policies in 2017, subject to especially-high uncertainty. - REER overvaluation following the exit from the floor in 2015 had been unwound by 2017. ### Switzerland — Potential policy responses - Macroeconomic policies should aim for balanced contributions to GDP growth from domestic and external demand. - Move to—and maintain—a structurally-neutral fiscal stance. - Monetary policy should accommodate modest secular trend real appreciation via timely policy interest rate adjustments to keep inflation within target. - Foreign currency intervention should be reserved for large exchange market pressures that would otherwise cause temporary volatility in inflation and output. - Reform corporate income tax to encourage investment by SMEs, reducing net saving. ### Switzerland — Current account (CA) Assessment 2017 - Background: - CA surpluses averaging about 10 percent of GDP since 2006. - CA surplus increased to 9.8 percent of GDP in 2017 from 9.4 percent in 2016. - Assessment: - Cyclically adjusted CA surplus: 9.6 percent of GDP. - EBA CA norm: 6.2 percent of GDP. - Total gap including unexplained residual: 3.4 percentage points of GDP in 2017, policy gap contributed -0.5 percentage points (mainly due to excessive private sector credit). - After accounting for Switzerland-specific factors, staff estimates remaining CA gap of about 0.8 percent of GDP (range of ±2 percentage points). - Key figures: - Actual CA: 9.8 - Cycl. Adj. CA: 9.6 - EBA CA Norm: 6.2 - EBA CA Gap: 3.4 - Staff Adj.: 2.6 - Staff CA Gap: 0.8 ### Switzerland — Real exchange rate - Background: - CPI-based REER appreciated by 25 percent during 2007–17, including two episodes of rapid appreciation. - Average REER for 2017 weakened by 2.2 percent relative to 2016 average; as of May 2018, it had weakened a further 5.4 percent (compared with the 2017 average). - Assessment: - EBA REER index and level models suggest the average REER in 2017 was 15-22 percent overvalued. - Based on the CA gap, staff assesses the REER gap to have been in the range of -5.3 to +2.3 percent in 2017. ### Switzerland — Capital and financial accounts: flows and policy measures - Background: - Large inflows in the form of currency and deposits, cumulative net inflows since 2007 amounted to about 75 percent of GDP. - Since January 15, 2015, banks’ placements at the SNB (above a threshold) subject to a negative interest rate of 0.75 percent. These inflows stopped during 2017. - No restrictions on financial flows. - Assessment: - Financial flows are large and volatile, reflecting Switzerland’s status as a financial center and safe haven. ### Switzerland — FX intervention and reserves level - Background: - Foreign exchange reserves: USD 811 billion (120 percent of GDP) at end-2017, up USD 132 billion since end-2016. - About 75 percent accumulated during 2009–15. - Purchases ceased in mid-2017. - Assessment: - Reserves are large relative to GDP but more moderate compared with short-term foreign liabilities. - High level of reserves reflects monetary policy operations aimed at avoiding persistent undershooting of inflation (which averaged -0.3 percent during 2012–17). - Interest rate on banks’ deposits at the SNB is -0.75 percent. --- ### Thailand — Foreign asset and liability position and trajectory - Background: - NIIP improved from -48 percent of GDP in 2000 to -2 percent of GDP in 2009; declined to -24 percent of GDP in 2014; further declined to around -7 percent of GDP in 2017. - Gross assets: 100 percent of GDP in 2017 (44 percent being reserve assets). - Gross liabilities: 107 percent of GDP in 2017 (dominated by non-debt liabilities). - External debt: 32.7 percent of GDP in 2017 (one-fifth being public debt). - Short term debt: 14 percent of GDP. - Assessment: - Limited risks to external debt sustainability; external debt projected to remain relatively low over the medium term and net foreign liabilities as a share of GDP expected to stabilize. ### Thailand — Overall assessment - The external position in 2017 was substantially stronger than warranted by medium-term fundamentals and desirable policy settings. - Despite a modest decline, the current account remained large. - REER appreciation trend continued in 2017. ### Thailand — Potential policy responses - External rebalancing requires concerted policy effort to support domestic demand and a gradual, sustained appreciation of the REER over the medium term. - Mutually reinforcing monetary and fiscal stimulus, coupled with structural reforms, should support domestic demand and help lower the current account gap. - Boost public infrastructure within available fiscal space to crowd-in private investment. - Continue addressing structural rigidities: reform social safety nets (notably fragmented pension schemes compounded by widespread informality) and reduce barriers to investment, especially in the services sector. - Exchange rate should move flexibly as key shock absorber; intervene only to avoid disorderly market conditions. - Reserves exceed all adequacy metrics; no need to build up reserves for precautionary purposes. ### Thailand — Current account (CA) Assessment 2017 - Background: - CA has been volatile over the last decade: deficit of 4 percent of GDP in 2005 to surplus of 7¼ percent of GDP in 2009; deficit of 1¼ percent of GDP by 2013; record surplus of 11.7 percent of GDP in 2016. - Five-year average CA: 4.4 percent of GDP. - CA surplus modestly declined to 10.6 percent of GDP in 2017, reflecting an increase of imports of 1½ percent of GDP. - Assessment: - EBA CA model estimated a ToT cyclical adjustment of 0.5 percent of GDP, cyclically adjusted 2017 CA of 10.1 percent of GDP, and a CA norm of 0.5 percent of GDP. - CA gap of 9.6 percent of GDP consists of an identified policy gap of 1.8 percent of GDP (0.4 percent of GDP from domestic policy gaps) and an unexplained residual of 7.8 percent of GDP. - Staff assesses the CA surplus to be 4 percent to 8 percent of GDP larger than the level consistent with medium-term fundamentals and desirable policies. - CA gap expected to narrow over the medium term as policy stimulus is deployed, political uncertainty dissipates, and reforms are taken. - Key figures: - Actual CA: 10.6 - Cycl. Adj. CA: 10.1 - EBA CA Norm: 0.5 - EBA CA Gap: 9.6 - Staff Adj.: 3.6 - Staff CA Gap: 6.0 ### Thailand — Real exchange rate - Background: - Baht has been on a broadly stable REER appreciation trend since the mid-2000s. - REER resumed gradual real appreciation trend in 2016 and continued in 2017. *Source: https://www.imf.org/-/media/files/publications/esr/2018/text.pdf* ### 3.4 percent relative to 2016 4/, while, as of May 2018, the REE ### text - 3.4 percent relative to 2016 4/, while, as of May 2018, the REE ### Thailand — Assessment - Using an elasticity of 0.6, staff assesses the 2017 REER to be 7 percent to 14 percent below levels consistent with medium-term fundamentals and desirable policies. - The gap is expected to narrow over the medium term as policy stimulus and structural reforms are deployed, supporting domestic demand and a growth-driven real exchange rate appreciation process. 5/ - The EBA index REER gap in 2017 is estimated at 6.4 percent; the EBA level REER gap is estimated at -2.1 percent. - The REER appreciated more than 6 percent since 2005. - As of May 2018, the REER appreciated by an additional 2.5 percent compared with the average of 2017. ### Thailand — Capital and financial accounts: flows and policy measures Background findings: - The capital and financial account balance has been negative since 2013. - In 2017, the net negative balance amounted to 4 percent of GDP. - Outward FDI hit a record high of 4.6 percent of GDP owing to Thai firms’ overseas investment. - Outward portfolio investment reached 2.6 percent of GDP (two-thirds is equity securities), higher than portfolio inflows of 2.1 percent of GDP (mostly concentrated in long-term securities issued by the government and corporate sectors). - Net other investment outflows were about 1 percent of GDP. - Authorities continued with financial account liberalization, encouraging outward investment by residents. Assessment: - Up to 2013, Thailand enjoyed overall portfolio inflows benefiting from its strong fundamentals. From 2013, headwinds included the Fed’s interest rate lift-off, China’s slowdown, and political uncertainty. - Capital outflows are manageable considering the resilient external sector and greater flexibility of the baht, partially offsetting the current account surplus. ### Thailand — FX intervention and reserves level Background findings: - Exchange rate regime classified as (de jure and de facto) floating. - International reserves were 44½ percent of GDP in 2017. - Reserves stood at over three times short-term debt, 234 percent of the IMF’s reserve metric unadjusted for capital controls, and 278 percent of the metric adjusted for capital controls. - Staff considers the unadjusted adequacy metric to be more appropriate. Assessment and statistics: - Interventions appear mostly one-sided, suggested by sizable and continuous monthly increases in the stock of reserves and FX forward position during 2017 (actual intervention data not published). - International reserves (including net forward position) increased by US$41.7 billion (9 percent of GDP) during 2017, and further increased by US$12.1 billion (2½ percent of GDP) in 2018Q1. - Reserves are higher than the range of the IMF’s adequacy metrics and there is no need to build up reserves for precautionary purposes. - Policy stance: The exchange rate should move flexibly, acting as a shock absorber, with intervention limited to avoiding disorderly market conditions. *Source: https://www.imf.org/-/media/files/publications/esr/2018/text.pdf* --- ### Turkey — Overall assessment of external position and trajectory Background findings: - NIIP deteriorated from -42 percent of GDP in 2016 to -53 percent of GDP at end-2017. - Total foreign liabilities amount to 80 percent of GDP, dominated by debt at 53 percent of GDP. - Short-term debt and non-resident holding of domestic portfolio debt amount to around 25 percent of GDP. - 40 percent of long-term debt is on adjustable interest rate terms. - 37 percent of private domestic debt is denominated in FX. - Non-debt external liabilities are 27 percent of GDP, with FDI equity capital liabilities comprising 20 percent of GDP. Assessment and projection: - Large negative NIIP and liability composition expose Turkey to liquidity shocks, sudden shifts in investor sentiment, and increases in global interest rates. - Turkey’s NIIP is projected to deteriorate further by about 5 percentage points of GDP by 2023 due to sustained CA deficits. - FX-denominated domestic debt poses balance sheet risk for corporates, potentially worsening bank asset quality. Overall Assessment 2017: - External position weaker than level consistent with medium-term fundamentals and desirable policies. - Sharp REER depreciation since 2016 expected to support CA adjustment over the medium term. - Large financing needs and a high share of short-term and portfolio inflows increase vulnerability to capital flow reversals. Potential policy responses: - Tighter macroeconomic policies to reduce the large current account deficit, rebuild reserves, raise the NIIP, and shift liability composition away from short-term debt. - Specifically: tighter fiscal, quasi-fiscal, and monetary policies to rein in domestic demand and imports. - Macroprudential policies to slow credit growth, improve quality of external financing, and lower FX exposure risks. - Monetary policy should aim at re-anchoring inflation expectations and building credibility of the inflation target. - The CBRT should increase reserve coverage, while limiting FX sales to periods of excessive lira volatility. - Reforms to strengthen competitiveness and encourage private saving to sustain external rebalancing. ### Turkey — Current account (CA) Assessment 2017 Background findings: - CA deficit narrowed from 8.9 to 3.8 percent of GDP between 2011 and 2016, driven by decline in oil prices. - Widened to 5.6 percent in 2017 due to expansionary policies and greater gold imports, offsetting export growth and tourism recovery. - Stimulus-backed domestic demand recovery led to a positive output gap in 2017. Assessment (model and staff adjustments): - EBA model suggests cyclically adjusted CA balance in 2017 was 4.0 percent of GDP lower than implied by fundamentals and desirable policies. - After adjusting for temporary surge in gold imports (0.7 percent of GDP) and downward EBA CA norm adjustment for NIIP-related considerations, staff assesses CA gap to be in the -1.2 to -3.2 percent of GDP range. - Key figures: - Actual CA: -5.6 - Cycl. Adj. CA: -4.8 - EBA CA Norm: -0.9 - EBA CA Gap: -4.0 - Staff Adj.: -1.8 - Staff CA Gap: -2.2 ### Turkey — Real exchange rate Background findings: - REER depreciating trend since 2013. - In 2017, average REER depreciated by 10 percent from the year before, standing 25 percent below its peak. - By May 2018, the lira had fallen an additional 13 percent in real terms relative to the 2017 average. Assessment: - EBA REER Index and level approaches suggest REER undervalued in 2017 in the range of 5-6 percent. - EBA CA approach points to a REER overvaluation of around 14.5 percent. - ES approach suggests REER broadly in line with fundamentals. - Staff assesses 2017 REER to have moved to the broadly in line range (+/-10 percent), supporting CA narrowing. - Supported by rising export shares and declining unit labor cost measures of the REER. ### Turkey — Capital and financial accounts: flows and policy measures Background findings: - Quality of financing weakened in 2017 with a decline in net FDI (below 1 percent of GDP) and higher portfolio inflows into government and bank debt securities. - Rollover rates on non-financial corporate external loans declined earlier in the year but have recovered. - Turkey has not used capital controls on inflows or outflows. Assessment: - Financing quality deteriorated in 2017 as credit growth resumed and reliance on volatile capital flows increased. - Gross external financing needs are over 25 percent of GDP, leaving Turkey vulnerable to adverse shifts in global investor sentiment. ### Turkey — FX intervention and reserves level Background findings: - De facto and de jure exchange rate is floating. - CBRT stopped selling FX to commercial banks in 2016 but continues direct FX sales to energy-importing SOEs. - Measures to support FX liquidity include 1-week FX deposit auctions, changes to the Reserve Option Mechanism (ROM), and accepting below-market rate lira payments for US dollar–denominated export rediscount credit repayments. - Gross reserves around $108 billion USD at end-2017 (82 percent of the ARA metric). - Net international reserves declined to $31 billion USD. Assessment: - Given low reserve coverage of external financing requirements (less than half) and low net international reserves, further reserve accumulation is needed. *Source: https://www.imf.org/-/media/files/publications/esr/2018/text.pdf* --- ### United Kingdom — Overall Assessment Background findings: - NIIP declined from -4.4 percent of GDP in 2016 to -12.8 percent of GDP in 2017. - Over the past five years, NIIP strengthened by 16 percentage points, reflecting negative CA contribution (-24pp) more than offset by valuation and growth effects (35 percentage points and 5 percentage points). - Staff projects NIIP to weaken over the medium term; valuation effects create significant uncertainty. - Gross assets and liabilities amount to over 500 percent of GDP. Assessment: - NIIP sustainability is not a concern; external assets have a higher foreign-currency component than liabilities, so NIIP improves with sterling depreciation. - Fluctuations in gross positions are potential vulnerabilities. - The external position in 2017 was weaker than implied by fundamentals and desirable policy settings. - CA deficit remained high in 2017 but set to narrow over the medium term aided by past sterling depreciation and ongoing fiscal consolidation. - Assessment uncertainty high due to measurement issues and uncertainty about future trade arrangement with the EU. Potential policy responses: - Continue fiscal consolidation plan within a medium-term framework to support external rebalancing. - Further structural reforms to broaden skill base and invest in public infrastructure to boost productivity. - Maintain financial stability through macroprudential policies to support private-sector saving. ### United Kingdom — Current account (CA) Assessment 2017 Background findings: - CA improved to -4.1 percent of GDP in 2017 (from -5.8 percent in 2016). - Wider CA deficits since the global financial crisis reflect weaker income balance, partly due to lower earnings on UK FDI abroad. - Trade balance ~ -2 percent of GDP through 2016, increased to -1.4 percent in 2017. - CA improvement in 2017 driven by improvement in net income flows (0.9 percent of GDP) aided by positive valuation effect from sterling depreciation. - General government deficit 2.2 percent of GDP in 2017; private sector savings low. Assessment (model results and staff view): - EBA CA model estimates a CA gap of -5 percent of GDP for 2017 (cyclically adjusted CA of -4 percent vs CA norm of 1 percent). - Staff assesses the 2017 cyclically adjusted CA balance to be 1 to 5 percent of GDP weaker than the CA norm, with a mid-point of 3 percent of GDP. - Actual CA and model figures: - Actual CA: -4.1 - Cycl. Adj. CA: -4.0 - EBA CA Norm: 1.0 - EBA CA Gap: -5.0 - Staff Adj.: -2.0 - Staff CA Gap: -3.0 ### United Kingdom — Real exchange rate Background findings: - Sterling depreciated by 10 percent in 2016 in real effective terms relative to 2015 and by an additional five percent from 2016 to 2017. - As of May 2018 the REER had appreciated by 1.9 percent relative to its 2017 average. Assessment: - EBA REER level and index approaches suggest gaps of -9.3 and -10.0 percent, respectively, for 2017. - Greater uncertainty about REER assessment due to uncertainty about UK’s new trading relationship with the EU. - Staff assesses the REER to be between 0 and 15 percent above the level consistent with fundamentals and desirable policy settings. - Weaker sterling and strong trading partner growth expected to support CA deficit narrowing in near term. ### United Kingdom — Capital and financial accounts; FX intervention and reserves Findings and assessment: - Given the UK’s role as an international financial center, portfolio and other investment are key components of the financial account. - Large fluctuations in capital flows are inherent and a potential vulnerability, mitigated by sound financial regulation and a strong financial sector. - Risk that FDI and portfolio inflows may decelerate due to concerns about future trade relations with the EU. - Pound has the status of a global reserve currency; reserves held by the UK typically low relative to standard metrics and the currency is free floating. *Source: https://www.imf.org/-/media/files/publications/esr/2018/text.pdf* --- ### United States — Overall Assessment Background findings: - NIIP increased from -44.7 percent of GDP in 2016 to -40.5 percent of GDP in 2017 (still below average of -37.3 percent for 2012-16), mostly due to valuation changes linked to depreciation of the US dollar by end-2017. - Under staff baseline, NIIP projected to decline by about 8 percent of GDP over next five years due to increasing CA deficits. - Financial stability risk: unexpected decline in foreign demand for US fixed income securities; risk has risen with deterioration in US medium-term fiscal outlook but remains moderate given US dollar reserve status. - Most US foreign assets denominated in foreign currency; around 65 percent are FDI and portfolio equity claims. Overall Assessment: - US external position moderately weaker than implied by fundamentals and desirable policies in 2017. - Strengthening economy and fiscal stimulus expected to increase CA deficit in coming years. - Actual and prospective changes in trade, taxation, and immigration policies add substantial uncertainty. Potential policy responses: - Fiscal consolidation to achieve a general government primary surplus of about 1¼ percent of GDP (a federal government primary surplus of about 1½ percent of GDP) to put debt-GDP ratio on downward path and address CA gap. - Structural policies within a tighter budgetary envelope: upgrade transportation infrastructure investment, enhance schooling and training, support the working poor, and policies to increase labor force growth (including skill-based immigration reform). - Resolve trade and investment disagreements without imposing tariff and non-tariff barriers. ### United States — Current account (CA) Assessment 2017 Background findings: - US CA deficit unchanged between 2016 and 2017 at 2.4 percent of GDP (compared with 2.1 percent in 2013). - Deterioration led by non-oil balance reaching deficit of 2.0 percent of GDP in 2017 vs 0.6 percent in 2013. - Two opposing forces in 2017: depreciating dollar and stronger private investment growth. - CA deficit expected to increase over medium-term due to stronger US economy and planned fiscal expansion, including the 2017 tax cuts. Assessment (model result cited): - EBA model estimates a cyclically adjusted CA of -2.3 percent of GDP for 2017. *Source: https://www.imf.org/-/media/files/publications/esr/2018/text.pdf* ### 0.7 percent of GDP. The cyclically adjusted CA gap is -1.5 perc ### 0.7 percent of GDP. The cyclically adjusted CA gap is -1.5 perc ### Current account assessment - The cyclically adjusted CA gap is -1.5 percent of GDP for 2017, reflecting policy gaps (-0.6 percent of GDP) and an unidentified residual (about -1.0 percent of GDP). - The External Sustainability Approach estimates a CA gap of -2.2 percent of GDP. - On balance, staff assesses the 2017 cyclically adjusted CA to be 1.0 to 2.0 percent of GDP lower than the level implied by medium-term fundamentals and desirable policies. - Key reported CA figures: - Actual CA: -2.4 - Cycl. Adj. CA: -2.3 - EBA CA Norm: -0.7 - EBA CA Gap: -1.6 - Staff Adj.: -0.1 - Staff CA Gap: -1.5 ### Real exchange rate — Background and assessment - Background: - The real effective exchange rate (REER) appreciated by about 18 percent between 2012 and 2016. - The REER depreciated by about 0.6 percent in 2017. - As of May 2018, the REER had depreciated by a further 2.0 percent relative to the 2017 average. - Assessment: - Indirect estimates of the REER (based on the EBA current account assessment) imply that the exchange rate was overvalued by 12 percent in 2017 (applying an estimated elasticity of 0.12). - EBA REER index model suggests an overvaluation of 8.1 percent. - EBA REER level model suggests an overvaluation of 14.4 percent. - External Sustainability Approach estimates a REER overvaluation of 12.5 percent. - Considering all estimates and their uncertainties, staff assesses the 2017 average REER to be moderately overvalued, in the 8-16 percent range, compared with the level implied by medium-term fundamentals and desirable policies. - The recent currency depreciation has reduced this gap. ### Capital and financial accounts: flows and policy measures - Background: - Net financial inflows were about 1.8 percent of GDP in 2017, compared with 2.0 percent of GDP in 2016. - Net portfolio investments increased by 0.2 percent of GDP year over year in 2017. - Other investments increased by 0.8 percent of GDP year over year in 2017. - These increases were partially offset by weaker net direct investments. - Assessment: - The United States has an open capital account. - Vulnerabilities are limited by the dollar’s status as a reserve currency with foreign demand for US Treasury securities supported by the stronger outlook for the US economy compared with key trading partners, the status of the dollar as a reserve currency, and, possibly, by safe-haven flows. ### FX intervention and reserves level - Assessment: - The dollar has the status of a global reserve currency. - Reserves held by the United States are typically low relative to standard metrics. - The currency is free floating. ### Administrative and document context - Document identifiers and acknowledgments appear in the source, including references to the 2018 EXTERNAL SECTOR REPORT—REFINEMENTS TO THE EXTERNAL BALANCE ASSESSMENT METHODOLOGY—TECHNICAL SUPPLEMENT and a RES team listing. *Source: text - 0.7 percent of GDP. The cyclically adjusted CA gap is -1.5 perc (https://www.imf.org/-/media/files/publications/esr/2018/text.pdf)* ### EXECUTIVE SUMMARY ### EXECUTIVE SUMMARY ### Introduction and purpose - The External Balance Assessment (EBA) methodology was refined in 2018 to provide stronger, conceptually grounded modeling of the main drivers of current account balances, incorporating advances in the literature and feedback from country authorities. - Refinements focused on fundamentals—demographics, the measurement of external positions, and institutional quality—and on macroeconomic policies—foreign exchange intervention and credit excesses. - Complementary tools were developed outside the core model to evaluate the role structural policies could play in explaining excess current account imbalances. - The REER models incorporated the same refinements where applicable and were estimated with updated data for consistency and comparability. - The refinements aim to improve the conceptual footing and statistical fit of the EBA while preserving the role of informed country-specific judgment. ### Data update and extension - Estimation sample extended by three additional years, to 2016, and historical data were revised. - Migration of external statistics data to BPM6 and new demographic estimates and projections (2017 Revision of World Population Prospect) were incorporated. - Special care was taken to ensure consistency in sources and coverage of policy variables, especially public health spending and private credit. - A more consistent measure of private credit across countries was adopted based on BIS data (available for all but 10 of the 49 EBA countries), correcting for breaks and covering banks and nonbank financial institutions. ### Key methodological refinements (four areas) - Data update and extension: re-estimation through 2016 with revised historical data. - Modeling of fundamentals: demographic specification refinements; measurement-of-external-positions adjustments taken outside the model when sizable; broader institutional indicators. - Macroeconomic policies: broadened FXI definition to include off-balance-sheet operations; credit gap concept aligned with BIS detrending methodology. - Structural policies: complementary outside-model tools developed to assess product- and labor-market distortions using third-party indicators for a subset of country-years. ### Strengthening the modeling of key fundamentals A. Demographics - Motivation: the 2015 demographic specification produced sharp and sometimes implausible changes in demographic contributions to norms and conflated different demographic forces. - Refinement objectives: disentangle static (age-compositional) effects from dynamic (longevity) effects, guided by overlapping generations models and recent literature. - New demographic specification (comparison): - Static effects (2015 EBA): Old age dependency (OAD) ratio (ages 65+/30–64); Population growth. - Static effects (Refined 2018 EBA): OAD (ages 65+/30–64); Population growth; Current share of prime savers (ages 45–64) as a proportion of the total working-age population (ages 30–64). - Dynamic effects (2015 EBA): Interaction of relative aging speed (20-year ahead change in OAD) with current OAD; Interaction of relative current OAD with aging speed. - Dynamic effects (Refined 2018 EBA): Life expectancy of a current prime-aged saver; Interaction of life expectancy with future old-age dependency. - Rationale for variables: - Prime savers (ages 45–64) typically have highest saving rates; including their share captures cross-country differences beyond OAD. - Life expectancy of current prime-aged savers captures longevity-driven precautionary savings; interaction with future OAD captures expected reliance on future workers. - Results and implications: - The refined demographic specification shows statistically significant coefficients with expected signs for static and dynamic measures (only OAD remains statistically insignificant but with correct sign). - Life expectancy term and its interaction capture non-linearities in the life expectancy–current account relationship. - The combined demographic variables explain about 15 percent of the cross-country variation in current accounts over the past five years. - The R2 from regressing the mean residual of the EBA model without demographics on the mean residual predicted by demographic variables rises from 0.05 under the previous model to 0.13 under the new model. - Implication: more stable and intuitive demographic contributions—relatively younger countries with larger shares of prime-age savers and countries with longer retirement life spans have larger demographic contributions to norms. B. Measurement of external positions - Motivation: growing global integration and multinational activity blur resident/non-resident boundaries and attribution of income, causing mismeasurement of external positions relative to the economic saving–investment imbalance concept. - Two prominent definitional differences: - Retained earnings on equity investments: retained earnings on portfolio equity are not recorded as income in the current account (they appear as IIP valuation changes); for foreign direct investment retained earnings are recorded as income under BPM6. Retained earnings can be considered income economically, but statistical treatment differs. - Inflation component in interest income: income is recorded nominally; nominal interest reflects real interest plus inflation (iD = r + π). Inflation-induced nominal interest is recorded as income but the erosion of real debt value via anticipated inflation is recorded as valuation changes, causing an “inflation bias.” - Earlier approach limitations: a financial center dummy used to capture persistent measurement biases was too restrictive (assumed constant sign and magnitude and limited to a few economies). - New approach: - Remove the financial center dummy from the EBA regression. - Use outside-the-model adjustors for measurement biases (retained earnings and inflation distortions) when empirical estimates consistently point to sizable biases and when granular estimates point in the same direction. - Methodologies for estimating biases (Technical Supplement Box 1): - Retained earnings: three approaches—flow approach, stock approach, hybrid approach—using portfolio income flows, portfolio positions, dividend yields, and PE ratios to estimate unrecorded retained earnings. - Inflation bias: estimate π-income_j = Σ_i π_i × NFA^D_{ij}, using currency composition of international debt positions and expected inflation (realized inflation or five-year-ahead consensus forecast, averaged). - Adjustments applied only where IIP valuation issues are large and persistent and estimates concur. - Results and implications: - IMF staff estimates for 2012–16 suggest adjustments would be applicable to a few economies—current account balances may be overstated in Ireland, Singapore, Switzerland; understated in Canada, Hong Kong SAR, South Africa, United Kingdom. - Estimates of retained-earnings bias range from an underestimation of the economic concept income of 6 percent of GDP to an overestimation of 1 percent of GDP across economies. - Inflation bias estimates range from about 6 percent of GDP (standard statistics overestimate the economic concept of the income balance) to about –1 percent of GDP (underestimation). - Precise size of adjustments determined case by case, recognizing the NFA coefficient in the EBA model partially captures measurement biases. C. Institutional and political risk - Motivation: institutional quality influences the ability to finance current account deficits; previous EBA used a subset of ICRG indicators but questions arose about its breadth and appropriateness. - Refinement objectives: reassess third-party indicator choice and broaden the set of sub-indicators to better capture institutional and political risks affecting saving and investment. - Assessment of indicators: - ICRG and WGI (Worldwide Governance Indicators) are highly correlated and produce similar cross-country rankings; WGI reliable only from 2002 onward. - Combining ICRG and WGI produced robust and significant results, but IMF staff opted to retain ICRG for time-series coverage and use WGI for robustness. - Broader institutional proxy: - Expand ICRG sub-indices to include previously excluded indicators considered conceptually important: government stability, law and order, bureaucratic quality, military in politics, etc. - After updating the sample to 2016, some previously excluded sub-indices (e.g., government stability, military in politics) became individually statistically significant. - Results and implications: - The refined institutional proxy did not affect overall model fit (root mean squared errors) but altered some current account norms. - Norms are lower in emerging market and developing economies where government stability and law and order are relatively strong. ### Improving the modeling of policies A. Foreign Exchange Intervention (FXI) - Background and motivation: - FXI affects nominal and real exchange rates and the current account when capital is imperfectly mobile. - Previous measures used reserve stock changes or net reserve flows interacted with Quinn’s index of capital controls. - Increasing use of derivatives for FX intervention suggests the need to broaden FXI definition. - FXI refinements: - Broaden FXI to include off-balance-sheet operations (derivatives contracts): aggregate short and long positions in forwards and futures in foreign currencies vis-à-vis the domestic currency (including forward leg of currency swaps), and foreign-currency-denominated instruments settled by other means, as reported in the International Reserves and Foreign Currency Liquidity Template. - Use on-balance-sheet component proxied by balance of payments reserves flows (flows preferred; changes in stocks used when flow data unavailable). - Simplify instrumentation to three instruments to avoid overfitting and improve stability: - A measure of global accumulation of reserves (the “keeping-up-with-the-Joneses” effect), excluding own reserve accumulation. - A measure of reserve adequacy linked to M2: (M2-reserves)/GDP relative to the average emerging market group. - An emerging market and developing economy dummy to capture export-led reserve accumulation tendencies. - Where FXI data are not public, IMF staff estimates are used. - Results and implications: - The estimated effect of FXI under the refined model is larger than in previous EBA estimations and aligns more closely with theoretical predictions and other empirical studies. - The regression coefficient implies that a 1 percent of GDP FXI leads to a 0.19 percent of GDP increase in the current account for a country in the 75th percentile of the EBA Quinn index distribution (compared to 0.11 under the earlier specification). B. Financial cycle (credit excesses) - Refinement: - Adopt a detrending methodology for credit consistent with the Bank for International Settlements (BIS) approach to better capture credit excesses and account for financial deepening and low-frequency credit movements. - Rationale: - The new specification allows more straightforward interpretation of credit excesses and the role of the financial cycle in current account dynamics. ### The role of structural policies - Challenge: data limitations prevent direct inclusion of structural policy indicators into the EBA model. - Approach: develop complementary tools outside the model using publicly available third-party structural indicators for a subset of country-years to assess whether residuals (unexplained current account gap) are associated with product- and labor-market distortions. - Purpose: provide general guidance to country desks on the potential role of structural policies in a systematic and multilaterally consistent fashion; country-specific insights remain essential. ### Model performance, REER models, and country assessment use - Model performance: - Most model coefficients, especially those associated with refinements, are statistically significant and have the expected sign. - Distribution of estimated current account norms is now more closely aligned across countries with similar income and demographic characteristics. - REER models: - REER index and level models were updated incorporating applicable refinements from the current account model. - General features of REER models left broadly unchanged; fit generally unchanged and coefficients broadly in line with current account models. - Use in external sector assessments: - EBA model estimates provide key quantitative inputs, but external sector assessments will continue to rely on informed and analytically based country-specific judgment. - Given lower volatility of the current account relative to REER, assessments often prefer the EBA current account model when models conflict. - Judgment is necessary and the framework permits it, provided it is well grounded and transparently explained. ### Overall conclusions and next steps - The 2018 EBA methodological refinements represent a significant step forward in delivering a more reliable assessment tool. - Lessons will continue to be drawn from model implementation, discussions with country authorities, and academic research. - A comprehensive Working Paper will complement this Technical Supplement to provide further details. *Source: EXECUTIVE SUMMARY, text - EXECUTIVE SUMMARY (2018 EXTERNAL SECTOR REPORT—TECHNICAL SUPPLEMENT).* ### 0.38 for a country at the 90 ### 0.38 for a country at the 90 ### FX Intervention (FXI): policy definition and medium-term benchmark - For consistency with the broader definition of FXI flows, off-balance-sheet positions should be taken into account when assessing the adequacy of FX stocks and thus the desirability of FXI operations from a precautionary point of view. - Over the medium term, countries would be expected to hold a level of reserves (plus the comparable off-balance-sheet FX position) that is deemed adequate from a precautionary viewpoint, thus requiring no additional accumulation (beyond small amounts to sustain such adequate level of FX liquidity). That is, the desirable FXI over the medium-term should be zero (P* = 0). - In exceptional circumstances, if countries are not expected to reach adequate reserves over the medium-term, a non-zero desirable level could be set, provided it is accompanied by a clear justification. - Deviations from the medium-term desirable level (that is, P - P*) would not necessarily be interpreted as a distortion; FXI policy gaps may be appropriate as an adequate response to current conditions (for example, to cope with large capital inflows under the conditions set forth in the IMF’s Institutional View on Managing Capital Flows) or to temporarily build up reserves to reach an adequate level over the medium-term. - Empirical implication cited: the new REER-Level model implies that a 1 percent of GDP increase in FXI would weaken the REER by about 3½ percent. ### Private credit: motivation for inclusion and measurement refinements - Background and motivation: - Prior models used the private sector credit-to-GDP ratio (relative to its historical average) to capture financial excesses because credit booms are associated with current account deterioration and REER appreciation. - Shortcomings of the previous demeaned credit series included variation in coverage across countries, lack of systematic treatment of breaks, failure to isolate the financial cycle, and misidentifying long-run financial deepening as excess. - Data and methodological refinements: - Data upgrades: BIS is the main data source for most EBA countries to construct a comprehensive and consistent measure of credit to the private sector. For 10 EBA countries without BIS data, the WDI private credit series is used; for some countries BIS series are spliced backward with WDI. - Resident-only credit: cross-border banking flows to the domestic non-bank sector (from BIS Locational Banking Statistics) are subtracted from the BIS aggregate credit measure to capture only the “resident” component. - New proxy for financial excesses: apply a one-sided Hodrick-Prescott (HP) filter to the credit-to-GDP ratio with a large penalty parameter to capture long financial cycles and avoid revisions from real-time data. The IMF staff uses lambda=1600 for annual data (consistent with BIS guidance and Ravn and Uhlig (2002) conversion). - IMF staff credit gaps are generally consistent with BIS estimates; small differences reflect data and methodological choices (BIS includes cross-border banking flows and applies HP to quarterly data). - Key quantitative result: - A 10 percent of GDP increase in credit relative to its trend is associated with a 1 percent of GDP deterioration in the current account. - Implications for modeling: - The refined credit-gap specification yields a highly significant and symmetric effect across the financial cycle. - Given improved modeling of financial excesses, the fiscal balance coefficient on the current account weakens (the coefficient fell from 0.47 to 0.33), as some fiscal effects are now captured by the credit gap variable. - Robustness checks replacing the credit gap with current and lagged credit-to-GDP changes produced similar fit, but conceptual clarity on desired credit growth is lacking. - Defining desired credit-gap levels: - Under the new specification, the desired credit gap is set to zero (deviations deemed unwarranted) as the starting point. - Adjustments to the desired level can be considered when the gap estimate misrepresents financial imbalances: - In financial deepening, the gap may overstate imbalances by understating the long-term trend. - In prolonged credit busts where recovery is protracted, adjustments (for example, setting desired detrended credit such that half of the gap is closed in the medium term) can be considered. Empirical experience: large negative credit gaps (in excess of 30 percent of GDP at trough) close only by half in 5 years and do not fully close after 10 years; where negative gaps exceed 20 percent of GDP, setting the desired level so half the gap closes in the medium term could be considered. ### Technical example and empirical diagnostics (Technical Supplement Box 2) - Comparing demeaned versus detrended credit gap measures in a sample country: - The demeaned approach (historical average) can misclassify long-term financial deepening and boom-bust cycles, suggesting large spurious gaps. - The new detrended HP-filtered measure removes low-frequency movements and identifies the financial cycle, producing small gaps during deepening, positive gaps during booms, and negative gaps following busts. - Correlations: - Correlation between current account and demeaned credit over the series: –0.26 (weak). - Correlation between current account and new detrended credit measure: –0.85 (strong). - Across EBA sample: correlation falls from –0.01 (demeaned) to –0.30 (detrended), indicating better capture of credit excess effects by the new measure. ### EBA current account model: consolidated results and performance - Model fit and estimation results: - The refined specification improves goodness of fit: R-squared rises from 0.49 to 0.55. - Root mean squared error declined from 3.3 percent to 3.1 percent. - Regression coefficients largely align with economic priors and are statistically significant in most cases. - Notable coefficient changes: - Fiscal coefficient fell from 0.47 to 0.33. - FXI coefficient increased (consistent with literature showing interventions have meaningful medium-term effects). - Higher coefficient on NFA variables following exclusion of the financial center dummy. - Global uncertainty variables (VIX) are no longer significant after sample extension. - Distributional and country-level implications: - Overall distribution of current account norms does not vary significantly versus previous specification; richer and demographically advanced economies continue to post higher norms. - Some countries experienced large revisions due to: - Exclusion of the financial center dummy (affecting Netherlands, Switzerland). - Demographic specification refinements (downward revisions for Germany, Italy, Spain; upward for China, Denmark, Finland, Sweden). - Credit modeling changes (higher norms for Denmark, Sweden, Netherlands). - Broader institutional indicators (political stability) raising norms for some countries (China, Thailand). - Numerical input changes do not always translate into staff-assessed norms because of outside-the-model adjustments for measurement biases or special demographic features. ### Structural policies as complementary tools - Motivation and conceptual channels: product and labor market policies affect current account via three channels: - Productivity channel: reforms raising investment opportunities and productivity can improve current account if consumption rises less than income and gains concentrate in tradables. - Price-competitiveness channel: labor and product market flexibility affect wages and firms' pricing power, with ambiguous net effect depending on equilibrium responses. - Uncertainty channel: reforms alter precautionary savings of households and firms; effects can be ambiguous. - Empirical approach: - OECD and WEF structural indicators used for a subset of country-years to relate EBA unexplained residuals to deviations in product and labor market regulations from benchmarks. - Normative assessment estimates a country’s distance to structural benchmarks relative to the world average distance. - Findings: - Reducing burdens in licenses and permits systems (LPS) for product market regulation tends to lower the current account (new firm investment raises labor demand and wages, reducing competitiveness). - Easing certain employment protection laws (EPLs) can improve the current account by lowering labor costs and boosting competitiveness. - WEF indicators yield comparable results: fewer procedures to start a business (SBP) lowers the current account; better cooperation in labor-employer relations improves the current account. - Operational implications: - These empirical findings are used as complementary guidance by country teams to interpret unexplained residuals and inform structural policy discussions, but IMF staff assessments should be tailored using country-specific analysis. ### REER models: refinements and results - General approach: REER-Index and REER-Level models were refined to incorporate demographics, institutions, FXI, and credit excesses where applicable; general frameworks remained unchanged. - REER-Level model: - Refinements produced similar fit to previous version. - New FXI measure yields a much larger coefficient: a 1 percent of GDP increase in FXI would weaken the REER by about 3½ percent. - Detrended credit measure has the right sign (positive credit gap appreciates the exchange rate) but is no longer statistically significant. - Only static demographic effects (population growth and old-age dependency ratio and population growth) were retained. - REER-Index model: - Fit broadly unchanged; new FXI and credit gap measures are significant with theoretical signs. - Estimated effect: a 10 percent increase in credit above its long-term trend appreciates the exchange rate by about 1 percent. ### Conclusion: methodological progress and ongoing refinement - The refinements improve the conceptual grounding and empirical fit of EBA models (current account and REER), representing a step forward in assessment tools. - The process is iterative: IMF staff will continue to seek feedback, follow literature developments, and refine the models as superior methodologies emerge. *Italic: Source — 2018 EXTERNAL SECTOR REPORT—TECHNICAL SUPPLEMENT (text - 0.38 for a country at the 90).* ### Annex I. Data Sources ### Annex I. Data Sources ### Variable Sources - 1.Net Foreign Assets — External Wealth of Nations Dataset: Lane and Milesi-Ferretti (2001) (EWN) - 2.Output Per Worker — World Economic Outlook - 3.Capital Openness — Quinn Database - 4.Oil and Natural Gas Trade Balance, Resource Temporariness — WEO; World Bank, World Integrated Trade Solution (WITS); BP Statistical Review - 5.GDP growth, Forecast in 5 Years — WEO - 6.Public Health Spending/GDP — Organisation for Economic Co-operation and Development (OECD); World Bank, World Development Indicators (WDI); United Nations Economic Commission for Latin America and the Caribbean (CEPAL); IMF, Financial Affairs Department (FAD); Asian Development Bank (ADB) - 7.Chicago Board Options Exchange Volatility Index (VIX) — Haver Analytics - 8.Own Currency’s Share in World Reserves — IMF, Currency Composition of Official Foreign Exchange Reserves (COFER) - 9.Output Gap — WEO - 10.Commodity Terms of Trade and Trade Openness — WEO - 11.Detrended Private Credit/GDP — Bank for International Settlements (BIS) (credit statistics); WDI - 12.Cyclically adjusted Fiscal Balance — WEO - 13.(∆Reserves)/GDP* K controls — WEO; EWN; Data Template on International Reserves and Foreign Currency Liquidity - 14.ICGR-12 — International Country Risk Guide (ICRG) - 15.Prime Savers Share — UN World Population Prospects - 16.Life Expectancy at Prime Age — UN World Population Prospects - 17.Life Expectancy at Prime Age — UN World Population Prospects - 18.Population Growth — UN World Population Prospects - 19.Old-age Dependency Ratio — UN World Population Prospects ### References - Adler, G., N. Lisack, and R. Mano. 2015. "Unveiling the Effects of Foreign Exchange Intervention; A Panel Approach." IMF Working Paper 15/130, International Monetary Fund, Washington, DC. - Aghion, P., Y. Algan, and P. Cahuc. 2011. “Civil Society and the State: The Interplay between Cooperation and Minimum Wage Regulation.” Journal of the European Economic Association 9 (1): 3–42. - Aguiar, M., and G. Gopinath. 2007. “Emerging Market Business Cycles: The Cycle Is the Trend.” Journal of Political Economy 115 (1): 69–102. - Alfaro, L., S. Kalemli-Ozcan, and V. Volosovych. 2008. “Why Doesn’t Capital Flow from Rich to Poor Countries? An Empirical Investigation.” Review of Economics and Statistics 90 (2): 347–68. - Algan Y., and P. Cahuc. 2009. “Civic Virtue and Labor Market Institutions.” American Economic Journal: Macroeconomics 1 (1): 111–45. - Amaglobeli, D., H. Chai, E. Dabla-Norris, K. Dybczak, M. Soto, and A. Tieman. Forthcoming. “The Future of Saving: The Role of Pension System Design in an Aging World.” IMF Staff Discussion Note, International Monetary Fund, Washington, DC. - Attanasio, O. P., S. Kitao, and G. L. Violante. 2006. “Quantifying the Effects of the Demographic Transition in Developing Economies.” BE Journal, Advances in Macroeconomics 6 (1), Article 2. - Auerbach, A. J., and L. J. Kotlikoff. 1987. Dynamic Fiscal Policy. Cambridge, United Kingdom: Cambridge University Press. - Backus, D., T. Cooley, and E. Henriksen. 2014. “Demography and Low-Frequency Capital Flows.” Journal of International Economics 92:S94–S102. - Bank for International Settlements (BIS). 2013. “How Much Does the Private Sector Really Borrow—A New Database for Total Credit to the Private Non-financial sector.” BIS Quarterly Review (March). - Bárány, Zsófia, N. Coeurdacier, and S. Guibaud. 2016. “Fertility, Longevity, and Capital Flows.” Unpublished. - Bayoumi, T., J. Gagnon, and C. Saborowski. 2015. "Official Financial Flows, Capital Mobility, and Global Imbalances." Journal of International Money and Finance 52 (C): 146–74. - Benetrix, Agustin, and Phillip Lane. 2015. “Financial Cycles and Business Cycles.” Trinity Economics Papers tep0815, Trinity College Dublin, Department of Economics. - Blanchard, O., G. Adler, and I. de Carvalho Filho. 2015. “Can Foreign Exchange Intervention Stem Exchange Rate Pressures from Global Capital Flow Shocks?” IMF Working Paper 15/159, International Monetary Fund, Washington, DC. - Blanchard, O., F. Jaumotte, and P. Loungani. 2014. “Labor Market Policies and IMF Advice in Advanced Economies during the Great Recession.” IZA Journal of Labor Policy 3:2. - Borio, Claudio, M. Lombardi, and F. Zampolli. 2016. “Fiscal Sustainability and the Financial Cycle.” BIS Working Paper 552, Bank for International Settlements, Basel. - Brooks, R. 2003. “Population Aging and Global Capital Flows in a Parallel Universe.” IMF Staff Papers 50:200–21. - Cacciatore, M., R. Duval, G. Fiori, and F. Ghironi. 2016a. “Market Reforms in the Time of Imbalance.” Journal of Economic Dynamics and Control 72:69–93. - Cacciatore, M., R. Duval, G. Fiori, and F. Ghironi. 2016b. “Short-Term Gain for Long-Term Pain: Market Deregulation and Monetary Policy in Small Open Economies.” Journal of International Money and Finance. - Carvalho, C., A. Ferrero, and F. Nechio. 2016. “Demographics and Real Interest Rates: Inspecting the Mechanism.” European Economic Review 88:208–26. - Cheung, C., D. Furceri, and E. Rusticelli. 2013. “Structural and Cyclical Factors behind Current-Account Balances.” Review of International Economics 21 (5): 923–44. - Cheung, Y. W., and X. Qian. 2009. “Hoarding of International Reserves: Mrs. Machlup's Wardrobe and the Joneses.” Review of International Economics 17 (4): 777–801. - Cheung, Y. W., and R. Sengupta. 2011. “Accumulation of Reserves and Keeping Up with the Joneses: The Case of LATAM Economies.” International Review of Economics & Finance 20 (1): 19–31. - Chinn, M. D., and H. Ito. 2007. “Current Account Balances, Financial Development and Institutions: Assaying the World ‘Saving Glut.’” Journal of International Money and Finance 26: 546–69. - Culiuc, A., and A. Kyobe. 2017. “Structural Reforms and External Rebalancing.” IMF Working Paper 17/182, International Monetary Fund, Washington, DC. - Dao, M., and C. Jones. Forthcoming. “Demographics and the Current Account” IMF Working Paper, International Monetary Fund, Washington, DC. - De Nardi, M., E. French, and J. Jones. 2010. “Why Do the Elderly Save? The Role of Medical Expenses.” Journal of Political Economy 118: 39–75. - De Nardi, M., E. French, J. B. Jones, and J. McCauley. 2016. “Medical Spending of the US Elderly.” Fiscal Studies 37:717–47. - Dell’Ariccia, G., I. Deniz, L. Laeven, H. Tong, B. Bakker, and J. Vandenbussche. 2012. “Policies for Macrofinancial Stability: How to Deal with Credit Booms.” IMF Staff Discussion Note 12/06, International Monetary Fund, Washington, DC. - Domeij, D., and M. Floden. 2006. “Population Aging and International Capital Flows.” International Economic Review 47 (3): 1013–32. - Drehmann, M., C. Borio, and K. Tsatsaronis. 2011. “Anchoring Countercyclical Capital Buffers: The Role of Credit Aggregates.” International Journal of Central Banking 7 (4):189–240. - Eggertsson, G. B., N. R. Mehrotra, and J. A. Robbins. 2017. “A Quantitative Model of Secular Stagnation.” Brown University, Providence, RI. - Eugeni, Sara. 2015. “An OLG Model of Global Imbalances.” Journal of International Economics 95 (1): 83–97. - European Central Bank (ECB). 2017. Financial Stability Review, Frankfurt am Main, May. - European Commission (EC). 2017. “Empirical Current Account Benchmarks: Modelling the Impact of Demographic Variables.” EPC LIME Working Group Note, Brussels. - Fletcher, Kevin. Forthcoming. “How Much Does Inflation Distort Current Account Balances?” IMF Working Paper, Washington, DC. - Fournier, J.-M., and I. Koske. 2010. “A Simple Model of the Relationship between Productivity, Saving and the Current Account.” OECD Economics Department Working Paper 816, Organisation for Economic Co-operation and Development, Paris. - Freedman, Charles. 1979. "A Note on Net Interest Payments to Foreigners under Inflationary Conditions." Canadian Journal of Economics 12 (2): 291–99. - Gagnon, J. 2012. “Global Imbalances and Foreign Asset Expansion by Developing-Economy Central Banks.” Working Paper 12–5, Peterson Institute for International Economics, Washington, DC. - Gagnon, J. 2013. "The Elephant Hiding in the Room: Currency Intervention and Trade Imbalances." Working Paper 13-2, Peterson Institute for International Economics, Washington, DC. - Gagnon, J., E. B. Johannsen, and D. Lopez-Salido. 2016. “Understanding the New Normal: The Role of Demographics.” Finance and Economics Discussion Series 2016-080, Board of Governors of the Federal Reserve System, Washington, DC. - Ghosh, A. R., and J. D. Ostry. 1997. “Macroeconomic Uncertainty, Precautionary Saving, and the Current Account.” Journal of Monetary Economics 40:121–39. - Gruber, J. W., and S. B. Kamin. 2007. “Explaining the Global Pattern of Current Account Imbalances.” Journal of International Money and Finance 26:500-22. - Higgins, Matthew. 1998. “Demography, National Savings, and International Capital Flows.” International Economic Review 39 (2): 343–69. - Hill, Robert J., and T. Peter Hill. 2003. “Expectations, Capital Gains, and Income.” Economic Inquiry 41 (4): 607–19. - International Monetary Fund (IMF). 2011 “Assessing Reserve Adequacy.” Washington, DC. - International Monetary Fund (IMF). 2014. “Pilot External Sector Report.” Washington, DC. - International Monetary Fund (IMF). 2013a. ”External Balance Assessment (EBA) Methodology: Technical Background.” IMF Working Paper 13/272. - International Monetary Fund (IMF). 2013b. “Policy Paper—Assessing Reserve Adequacy—Further Considerations.” Washington, DC. - International Monetary Fund (IMF). 2017a. “The Role of the Fund in Governance Issues—Review of the Guidance Note—Preliminary Considerations—Background Notes.” IMF Policy Paper, Washington, DC. - International Monetary Fund (IMF). 2017b. “Use of Third-Party Indicators in Fund Reports.” IMF Policy Paper, Washington, DC. - International Monetary Fund (IMF). 2017c. External Sector Report. Washington, DC. - Jaumotte, F., and P. Sodsriwiboon. 2010. “Current Account Imbalances in the Southern Euro Area.” IMF Working Paper 10/139, International Monetary Fund, Washington, DC. - Jones, C. 2018. “Aging, Secular Stagnation and the Business Cycle.” Unpublished. - Jump, Gregory V. 1980. “Interest Rates, Inflation Expectations, and Spurious Elements in Measured Real Income and Saving.” American Economic Review 70 (5): 990–1004. - Kennedy, M., and T. Sløk. 2005. “Structural Policy Reforms and External Imbalances.” OECD Economics Department Working Paper 415, Organisation for Economic Co-operation and Development, Paris. - Kerdrain, C., I. Koske, and I. Wanner. 2010. “The Impact of Structural Policies on Saving, Investment and Current Accounts.” OECD Economics Department Working Paper 815, Organisation for Economic Co-operation and Development, Paris. - Landerretche, O., P. Gourinchas, and R. Valdés. 2001. “Lending Booms: Latin American and the World.” NBER Working Paper 8249, National Bureau of Economic Research, Cambridge, MA. - Lane, P. 2015. “A Financial Perspective on the UK Current Account Deficit.” National Institute Economic Review 234 (1): 67–72. - Lane, P. 2017. “The Treatment of Global Firms in National Accounts.” Economic Letter Series 2017 (1). - Lane, P., and G. M. Milesi-Ferretti. 2001. “Long-term Capital Movements.” NBER Macroeconomics Annual 16:73–116. - Lane, P. 2012. “External Adjustment and the Global Crisis.” Journal of International Economics 88 (2): 252–65. - Legg, A., N. Prasad, and T. Robinson. 2007. “Global Imbalances and the Global Saving Glut—A Panel Data Assessment.” Research Discussion Paper 2007-11, Economic Research Department, Reserve Bank of Australia. - Lisack, N., R. Sajedi, and G. Thwaites. 2017. “Demographic Trends and the Real Interest Rate.” Working Paper 701, Bank of England, London. - Mancini, T., and N. Stoffels. 2012. “Adjusting the Current Account to Better Capture Wealth Accumulation.” Unpublished, Swiss National Bank. - Mendoza, E., and M. E. Terrones. 2012. “An Anatomy of Credit Booms and their Demise.” Journal Economía Chilena (The Chilean Economy) 15 (2): 4–32. - Mian, O., and P. Saure. 2018. “Cross-Country Inflation Differentials as a Source of Switzerland's Current Account Surplus.” Unpublished, Swiss National Bank. - Nedeljkovic, M., and C. Saborowski. 2017. “The Relative Effectiveness of Spot and Derivatives Based Intervention: The Case of Brazil.” IMF Working Paper 17/11, International Monetary Fund, Washington, DC. - Obstfeld, M. 1986. “Capital Mobility in the World Economy: Theory and Measurement,” Carnegie-Rochester Conference Series on Public Policy 24 (1): 55–103. - Obstfeld, M., and K. Rogoff. 2006. “The Unsustainable US Current Account Position Revisited.” In G7 Current Account Imbalances: Sustainability and Adjustment,” edited by R. Clarida. Chicago: University of Chicago Press. - Obstfeld, M. 1996. Foundations of International Macroeconomics. Cambridge, MA: MIT Press. - Ravn, M., and H. Uhlig. 2002. “On Adjusting the Hodrick-Prescott Filter for the Frequency of Observations.” Review of Economics and Statistics 84 (2): 371–75. - Rose, A., S. Supaat, and J. Braude. 2009. "Fertility and the Real Exchange Rate." Canadian Journal of Economics 42 (2): 496–518. - Vanoli, A. 1999. “Interest and Inflation Accounting.” Review of Income and Wealth 45 (3): 279–302. ### The Acting Chair’s Summing Up (2018 External Sector Report, Executive Board Meeting 18/66, July 16, 2018) - Executive Directors broadly agreed with the findings of the External Sector Report and its policy recommendations. - Noted that global current account surpluses and deficits have remained broadly unchanged in recent years. - Observed an increased concentration of excess imbalances in advanced economies, on both the surplus and deficit sides, amid a widening of creditor and debtor positions. - Expressed concern at the projected continuation of this trend under baseline policies. - Cautioned that, absent effective automatic adjustment mechanisms and conducive policies, large and sustained external excess imbalances could pose risks to global stability and growth. - Warned that lack of progress in rebalancing could increase the likelihood of rising trade tensions, with negative implications for global trade, growth, and financial markets. - Noted that expansionary fiscal policy in key deficit economies operating above potential could lead to a faster-than-expected tightening of global financing conditions, and prove disruptive for emerging market and developing economies, especially the more vulnerable ones. - Emphasized that a further widening of debtor positions in key economies could result in a sharp adjustment over the medium term. - Agreed that, with limited policy space and normalizing cyclical conditions, policies will need to be carefully calibrated to achieve domestic objectives while contributing to external rebalancing. - Recommended that in countries with weaker-than-warranted external positions, actions to strengthen public and private sector balance sheets should take priority, while monetary normalization proceeds gradually. - Recommended that in economies with stronger-than-warranted external positions and fiscal space, a more expansionary and growth-friendly fiscal policy would help support demand and productivity, thereby promoting globally-balanced growth. - Highlighted the role of flexible exchange rates in facilitating external adjustment. - Concurred that where price adjustment is constrained by currency regimes, the focus should be on reforms to facilitate greater internal relative price adjustment, as well as improved risk-sharing mechanisms. - Agreed that well-tailored, growth-enhancing structural policies will need to play a more prominent role in tackling global imbalances. - Suggested excess surplus countries should prioritize reforms that promote domestic investment and competition. - Suggested excess deficit countries should prioritize reforms that strengthen external competitiveness and labor productivity. - Welcomed the analysis on the link between trade policies and external imbalances and broadly shared the assessment that trade barriers undermine domestic and global growth, likely without a meaningful impact on current account balances. - Called on all countries to work together to resist protectionism, revive liberalization efforts, and strengthen the open multilateral trading system—particularly to promote trade in services. - Welcomed staff’s efforts to refine the External Balance Assessment (EBA) methodology and better reflect the role of fundamentals and policies in explaining current account dynamics, while noting remaining limitations and inherent uncertainties. - Stressed the need to avoid mechanistic use of model-based estimates and to exercise caution when interpreting model residuals, which remain large in some cases. - Highlighted the importance of using country-specific judgment and results from all EBA models and new complementary tools to arrive at final assessments, and that such judgment needs to be analytically grounded, transparently presented, and evenhanded. - Appreciated the presentation of external assessments in ranges and suggested that a similar approach be consistently taken for all countries. - Encouraged further efforts to improve the methodology on an ongoing basis and offered many suggestions for future refinements. - Stressed the unique role of the Fund in providing multilaterally consistent assessments of external positions and contributing to the debate on global imbalances. - Noted that the quality and timeliness of data provision by its members is important. - Welcomed efforts to broaden the reach of the External Sector Report and called for greater efforts to better integrate external sector assessments and policy advice into other flagship reports and bilateral surveillance. *Text — Annex I. Data Sources* --- _Source: https://www.imf.org/-/media/files/publications/esr/2018/text.pdf_