Whose current accounts are out of line?

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Should the US current account imbalance still cause global concern? The question is never far from the headlines in any major business newspaper or television channel.
“Mysteries Of The Gaping Current-Account Gap” is how Business Week screamed it a few years ago. And last year an article in the OECD Observer noted that while some dismissed the deficit as a harmless mirage, most experts agreed that the deficit was unsustainable. There has been little change in the situation since then. The fact that the imbalance is happening at all is in some ways still surprising.From a global point of view, the most striking anomaly is that in recent years capital has been flowing the “wrong way”. According to textbook theories, capital should flow out of rich countries, where it is abundant and labour is scarce, into poor countries where the opposite is true and where the rate of return to capital should be greater. The counterpart of this flow should be current account deficits in the developing world and surpluses in the industrialised nations. But today we see the opposite happening.One explanation is that the rate of return to capital in many emerging countries has actually been lower than in the most advanced countries. This is because weak policies and structural problems have cancelled out the advantage they should have had in attracting savings. Another reason is the productivity surge in the US, which as a mature developed economy should in theory have been slowing down by now, but instead continues to draw in global savings. In fact, in this respect the US is more a “still developing” country than the world’s most advanced one.Current account positions are determined by many factors in the short term. These range from structural differences across economies, such as demographics and the level of development, to policy-driven factors such as changes in the fiscal stance. Two economists, Joseph Gruber and Steven Kamin, found that for 61 developed and developing countries they examined from 1983 to 2003, a surplus is normally higher (or a deficit lower) if: per capita income is higher (as described above); the fiscal surplus is higher; there are more middle-aged families, as young people and the elderly tend to dissave; the economy is more open to international trade; and if institutional settings such as property rights and the rule of law are unfavourable, because they become less attractive for foreign investors.The model predicts a small surplus for the euro area–the current account is in fact broadly balanced and so pretty close–and deficits in Australia and New Zealand, which is the case. The trouble is, using the work by Messrs Gruber and Kamin, one would also expect a surplus in the US, because its higher incomes are large enough to offset its higher growth rate and its fiscal deficit. But no variation of their model was able to explain the ballooning US deficit. On the other hand, the large surpluses in emerging Asia could in part be put down to an investment slump after the 1997 financial crisis. There are differences between the actual and predicted current account positions for most of the countries examined, which reflects the extent to which current accounts appear to be out of line with fundamentals. According to the model, the euro area surplus was around 0.5% of GDP smaller than expected over that period, whereas deficits are larger than expected in the US, Japan and Australia.By this measure, the euro area contributes little to global current account imbalances, and for many, it is the US deficit which is the tricky one to resolve. That does not mean direct intervention can help. Rather, as the OECD Observer article noted a year ago, the market has a lead role to play, as long as the government limits the budget deficit and removes anti-saving biases from policies, while allowing enough fluidity in the economy for resources to shift towards the production of tradable goods and services. RJCReferences©OECD Observer No. 261, May 2007

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