Is a Current Account Deficit Harmful?

Recently, the U.S. current account has reached unprecedented levels, reaching almost 6% of GDP. Despite the record figures argued for many deficits in the U.S. Government that there is nothing to worry about, confident that the U.S. will continue to receive capital inflows to finance the deficit.

In Britain, the Balance of Payments on the current account deficit has continued has been in the past 19 years. However, in comparison to the U.S., it is a relatively small% of GDP(2.5%)

This paper examines whether economists should make a current account deficit.

* Current account measures

i) balance of trade in goods

ii) Balance of trade in services

iii) Net investment income

iv) Net Current Transfer

• If a country has a deficit on current account in surplus, it must haves on the Financial Regulation / CapitalAccount

· The capital account (old name of the capital) consists of

i) Net Long-term investments

ii) Other financial flows (usually short), eg hot money flows

A current account deficit must therefore be financed either

1. Direct foreign investment in mining industry

2.Attracting short flows of money into the banking sector

Reasons why a deficit is bad for the economy

1. If the current account had by borrowing or running down reserves that are not sustainable over the long term financing. This can be a devaluation of the currency, as demand for sterling will participate be less than the supply of sterling.

A rapid devaluation can lead to problems such as inflation and declining confidence in the United Kingdom. A depreciation also reduces the standard of living make imported goods more expensive.

2. Low competitiveness

One could argue that thepersistent current account deficit suggests fundamental weaknesses in the British and U.S. economy,

i) the declining competitiveness

iii) the lack of production capacity.

iv) Declining comparative advantage in many manufactured goods

These factors could adversely affect the creation of jobs in the UK and run at lower growth.

3. Foreigners are entitled to an increase in Domestic assets

To finance the deficit in the United Kingdom has been mainly on attracting foreign investment claimedThis means an increase in foreign nationals are entitled to UK assets. This could leave Britain vulnerable if an economic crisis caused foreign companies to withdraw their investments. But this is unlikely, despite a recession in Japan, companies have not withdrawn their investments.

4. Capital flows can Dry Up

The United States has managed to finance the deficit by attracting capital flows from Asian countries, notably Japan and China. What is surprising is that the U.S. was able to sell largeAmounts of debt, while interest rates. Usually higher interest rates would have to be to win this loan. But at the moment happens to the Japanese and Chinese dress. Both countries are ready to buy dollar assets, because they do not want their currency to appreciate, thus reducing their competitiveness. - How long this continues, however, is uncertain.

5. Could lead to lower economic growth

If the deficit is due to high consumer demand - a recession or mitigation should help reduce the problem. Consumers may not have the expenses in excess of their income forever. Finally, they must control their spending and save again in order to improve their own finances. - To reduce the U.S. current account deficit could require both higher interest rates and a significant reduction in consumer spending, this could even push the U.S. economy into recession.

Reasons to be concerned about the deficit is not

1. Britain has sustained> Current account deficits of the much larger share in the past, and this has not provoked a serious crisis of confidence in international financial markets. Britain has one of the open capital markets in the world. So far the country has proved a popular meeting place for foreign investment - financing a trade deficit in goods and services leading to a severe drop in value of the pound sterling.

2. The U.S. has also saved a reputation of a "safe place". Thusthey were able to attract large flows of capital. But as mentioned above can not be continued for a long time. The U.S. is currently by the fact that oil is still quoted in dollars helped. (Although this can not continue forever)

3rd account deficit is financed in part by long-term capital.

Long-term investments can bring benefits to the economy.

i) increased production capacity

ii) Better working conditionsJapanese companies

iii) More jobs