{
  "title": "Current Account Deficits",
  "sourceUrl": "https://www.imf.org/en/publications/fandd/issues/series/back-to-basics/current-account-deficits",
  "canonical": "https://www.imf.org/en/publications/fandd/issues/series/back-to-basics/current-account-deficits",
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  "summary": "There can be consequences when the amount a country spends abroad is wildly different from what it receives from the outside world",
  "sections": [
    {
      "heading": "Overview",
      "content": "- The current account balance equals the trade balance plus net factor income (such as interest and dividends from foreign investments or workers’ remittances) and transfers from abroad (such as foreign aid).\n- For most countries, the difference between the trade balance and the current account is small; thus, trade deficits often drive current account deficits.\n- A current account deficit implies that a country is spending abroad more than it receives from the outside world and is building up liabilities to the rest of the world financed by financial account inflows.\n- Advanced economies, such as the United States, run current account deficits, whereas developing and emerging market economies often run surpluses or near surpluses. Very poor countries typically run large current account deficits, in proportion to their GDP, that are financed by official grants and loans."
    },
    {
      "heading": "Measuring the current account and interpretation",
      "content": "- The current account can be expressed as the difference between national (both public and private) savings and investment.\n- A current account deficit may reflect:\n  - A low level of national savings relative to investment.\n  - A high rate of investment relative to savings.\n  - Or both.\n- For capital-poor developing economies, deficits may be natural if domestic savings are low relative to investment opportunities; deficits can potentially spur faster output growth and economic development, although recent research does not indicate that developing economies with current account deficits grow faster.\n- Private capital often flows from developing to advanced economies, contrary to some expectations.\n- Protectionist policies are unlikely to improve the current account balance because there is no obvious connection between protectionism and savings or investment."
    },
    {
      "heading": "Intertemporal trade and consumption smoothing",
      "content": "- The current account can be viewed as intertemporal trade: importing today (running a deficit) in return for exporting in the future (running a surplus then).\n- Current account deficits and surpluses play a consumption-smoothing role:\n  - A country hit by a temporary shock (for example, a natural disaster) can run a current account deficit to spread out the economic pain over time.\n  - Conversely, countries subject to large shocks should, on average, run current account surpluses as precautionary saving."
    },
    {
      "heading": "When persistent is too persistent",
      "content": "- Persistent deficits build foreign liabilities that eventually need to be repaid; solvency requires the country be able and willing to generate sufficient future current account surpluses to repay what it has borrowed.\n- Whether borrowing is appropriate depends on:\n  - The extent of foreign liabilities (external debt).\n  - Whether borrowing finances investment with a higher marginal product than the interest rate (or rate of return) on foreign liabilities.\n- A country may be intertemporally solvent but still face an unsustainable position if it cannot secure necessary financing.\n- Examples of abrupt reversals after private financing withdrew: Mexico in 1995, Thailand in 1997, and several economies during the recent global crisis.\n- Reversals force abrupt curtailment of private consumption, investment, and government expenditure and may require running large surpluses quickly to repay past borrowing.\n\nKey factors empirically associated with reversals:\n- An overvalued real exchange rate.\n- Inadequate foreign exchange reserves.\n- Excessively fast domestic credit growth.\n- Unfavorable terms-of-trade shocks.\n- Low growth in partner countries.\n- Higher interest rates in industrial countries.\n- Balance sheet vulnerabilities, such as large foreign-currency liabilities or maturity mismatches.\n- Composition of capital inflows: relative stability of foreign direct investment versus volatility of short-term flows in equities and bonds.\n- Weak financial sectors that borrow abroad and make risky domestic loans.\n\nPolicy and institutional features that reduce vulnerability:\n- A more flexible policy framework (for example, a flexible exchange rate regime).\n- A higher degree of openness.\n- Export diversification.\n- Coherent fiscal and monetary policies.\n- Financial sector development to allow better shock absorption."
    },
    {
      "heading": "Judging whether deficits are good or bad",
      "content": "- Whether a deficit is desirable depends on its underlying causes; economic theory identifies what to examine when assessing a deficit.\n- Possible interpretations of a deficit:\n  - Indicative of competitiveness problems if it reflects excess imports over exports.\n  - Indicative of a highly productive, growing economy if it reflects excess investment over savings.\n  - Reflective of low savings (potentially from reckless fiscal policy or excessive consumption).\n  - Reflective of sensible intertemporal trade (for example, temporary shocks or shifting demographics).\n- Without diagnosing the underlying causes, it is not meaningful to label a deficit as categorically good or bad; deficits reflect underlying economic trends that may be desirable or undesirable at a particular point in time.\n\n---\n\n\nSource: https://www.imf.org/en/publications/fandd/issues/series/back-to-basics/current-account-deficits"
    }
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    "Authors: Atish Ghosh, UMA RAMAKRISHNAN",
    "Published: May 10, 2017",
    "The current account balance equals the trade balance plus net factor income (such as interest and dividends from foreign investments or workers’ remittances) and transfers from abroad (such as foreign aid).",
    "For most countries, the difference between the trade balance and the current account is small; thus, trade deficits often drive current account deficits.",
    "A current account deficit implies that a country is spending abroad more than it receives from the outside world and is building up liabilities to the rest of the world financed by financial account inflows.",
    "Advanced economies, such as the United States, run current account deficits, whereas developing and emerging market economies often run surpluses or near surpluses. Very poor countries typically run large current account deficits, in proportion to their GDP, that are financed by official grants and loans.",
    "The current account can be expressed as the difference between national (both public and private) savings and investment.",
    "A current account deficit may reflect:",
    "For capital-poor developing economies, deficits may be natural if domestic savings are low relative to investment opportunities; deficits can potentially spur faster output growth and economic development, although recent research does not indicate that developing economies with current account deficits grow faster.",
    "Private capital often flows from developing to advanced economies, contrary to some expectations.",
    "Protectionist policies are unlikely to improve the current account balance because there is no obvious connection between protectionism and savings or investment.",
    "The current account can be viewed as intertemporal trade: importing today (running a deficit) in return for exporting in the future (running a surplus then).",
    "Current account deficits and surpluses play a consumption-smoothing role:",
    "Persistent deficits build foreign liabilities that eventually need to be repaid; solvency requires the country be able and willing to generate sufficient future current account surpluses to repay what it has borrowed.",
    "Whether borrowing is appropriate depends on:",
    "A country may be intertemporally solvent but still face an unsustainable position if it cannot secure necessary financing.",
    "Examples of abrupt reversals after private financing withdrew: Mexico in 1995, Thailand in 1997, and several economies during the recent global crisis.",
    "Reversals force abrupt curtailment of private consumption, investment, and government expenditure and may require running large surpluses quickly to repay past borrowing.",
    "An overvalued real exchange rate.",
    "Inadequate foreign exchange reserves.",
    "Excessively fast domestic credit growth.",
    "Unfavorable terms-of-trade shocks.",
    "Low growth in partner countries.",
    "Higher interest rates in industrial countries.",
    "Balance sheet vulnerabilities, such as large foreign-currency liabilities or maturity mismatches.",
    "Composition of capital inflows: relative stability of foreign direct investment versus volatility of short-term flows in equities and bonds.",
    "Weak financial sectors that borrow abroad and make risky domestic loans.",
    "A more flexible policy framework (for example, a flexible exchange rate regime).",
    "A higher degree of openness.",
    "Export diversification.",
    "Coherent fiscal and monetary policies.",
    "Financial sector development to allow better shock absorption.",
    "Whether a deficit is desirable depends on its underlying causes; economic theory identifies what to examine when assessing a deficit.",
    "Possible interpretations of a deficit:",
    "Without diagnosing the underlying causes, it is not meaningful to label a deficit as categorically good or bad; deficits reflect underlying economic trends that may be desirable or undesirable at a particular point in time."
  ],
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