Topic 1: Current account Topic 1: Current account determination determination

Balance of payments Balance of payments accountingaccounting

FRBNY article, June 2004FRBNY article, June 2004 BEA international statistics BEA international statistics

(www.bea.gov)(www.bea.gov) FRB Bulletin, May 2003FRB Bulletin, May 2003 Any intermediate macroeconomics Any intermediate macroeconomics

textbooktextbook

Net external liabilitiesNet external liabilities

Current account deficits cumulate to Current account deficits cumulate to net external liabilitiesnet external liabilities

See See www.bea.gov/bea/newsrel/intinvnewsrelease.htmwww.bea.gov/bea/newsrel/intinvnewsrelease.htm

Focus on gross and net positions Focus on gross and net positions

Net International Investment Position of the United States at Year end, 1989 – 2007

See:See:

http://www.bea.gov/international/xls/intinv07_t2.xlshttp://www.bea.gov/international/xls/intinv07_t2.xls

U.S. NIIP 2007U.S. NIIP 2007

NIIP at year end: about -$2.5 trillion NIIP at year end: about -$2.5 trillion (with FDI at current cost)(with FDI at current cost)

US-owned assets abroad $17.6 trillionUS-owned assets abroad $17.6 trillion Foreign securities $6.6 trillionForeign securities $6.6 trillion US FDI abroad $3.93 trillion US FDI abroad $3.93 trillion Bank claims $3.8 trillionBank claims $3.8 trillion

Foreign-owned assets in US: $20.1 Foreign-owned assets in US: $20.1 trilliontrillion

Revaluation effectsRevaluation effects

Price changes: Greater share of FDI and Price changes: Greater share of FDI and portfolio equities in US assets than in US portfolio equities in US assets than in US liabilities liabilities

Exchange rate changes: US liabilities Exchange rate changes: US liabilities largely denominated/priced in dollars, largely denominated/priced in dollars, while US assets mostly denominated in while US assets mostly denominated in foreign currencyforeign currency Net liabilities decline when dollar Net liabilities decline when dollar

depreciatesdepreciates

Exchange rate changesExchange rate changes

About two-thirds of US assets About two-thirds of US assets denominated in foreign currencydenominated in foreign currency

10 percent depreciation in dollar 10 percent depreciation in dollar $1200 billion $1200 billion dollar value of gross US dollar value of gross US assetsassets

Equivalent to roughly 7 percent of GDPEquivalent to roughly 7 percent of GDP Lowers net payments on NIIP by Lowers net payments on NIIP by

0.28 percent of GDP (.04 0.28 percent of GDP (.04 7%) 7%)

Factors driving global Factors driving global imbalancesimbalances

Two main viewsTwo main views ““Trade-flows” versus “Capital-flows” Trade-flows” versus “Capital-flows”

viewview Does the trade flows drive capital Does the trade flows drive capital

flows or vice-versa?flows or vice-versa?

Trade-flows viewTrade-flows view

Elasticities approach to tradeElasticities approach to trade See: See: Hooper, Johnson, and Marquez Hooper, Johnson, and Marquez

(1998), Chinn (2005)(1998), Chinn (2005) Idea: Relate trade flows to relative Idea: Relate trade flows to relative

prices and importer incomeprices and importer income Income: GDP or domestic demandIncome: GDP or domestic demand Relative prices: real trade-weighted Relative prices: real trade-weighted

(effective) exchange rate(effective) exchange rate

Trade equationsTrade equations All variables in logsAll variables in logs

XXtt = = Y*Y*tt + + 11RRt-1t-1 + + 22RRt-2t-2

MMtt = = YYtt + + 11RRt-1t-1 + + 22RRt-2t-2

where: where: X = real exportsX = real exports M = real (non-oil) importsM = real (non-oil) imports Y = Domestic income; Y*= Foreign incomeY = Domestic income; Y*= Foreign income R = Real effective exchange rateR = Real effective exchange rate

Source: Chinn 2005Source: Chinn 2005

Empirical results for the USEmpirical results for the US

Good statistical fitGood statistical fit > > > 0 > 0

Houthakker-Magee asymmetryHouthakker-Magee asymmetry Implication: with constant prices and Implication: with constant prices and

equal U.S. and foreign income growth, equal U.S. and foreign income growth, U.S. trade deficit widensU.S. trade deficit widens

’’s and s and ’s small’s small In part reflecting incomplete pass-In part reflecting incomplete pass-

throughthrough

U.S. trade deficitU.S. trade deficit

U.S. economy has been outperformed U.S. economy has been outperformed major trading partners 1997-2006major trading partners 1997-2006

Real dollar appreciated sharply from Real dollar appreciated sharply from 1996 to 2001; depreciated since 20021996 to 2001; depreciated since 2002

Gap between imports and exports now Gap between imports and exports now so large that a marked acceleration in so large that a marked acceleration in exports is needed to close trade deficitexports is needed to close trade deficit

U.S. trade deficitU.S. trade deficit

Partial equilibrium: trade deficit Partial equilibrium: trade deficit drives financial flowsdrives financial flows

General equilibrium: if General equilibrium: if ex-anteex-ante trade trade and financial flows differ, then the and financial flows differ, then the real exchange rate adjusts to equate real exchange rate adjusts to equate the the ex-post ex-post flowsflows