The Role Of Current Account Deficits On Its Sustainability

1772 WordsMar 23, 20168 Pages
The world economy has witnessed some of the biggest crises throughout the course of its history, of which failure to predict in the earlier days and the severe consequences due to that have urged many economists in number of think tanks, financial institutions, and governments to develop effective “early-warning” models focusing on numerous predictors (Edwards, 2001) including current account deficits. Noticeably, the role of the deficits behind major financial collapses has been in the centre of great controversy. On one hand, some scholars have argued that current account deficits should be seen as a threat towards the stability of the world economy and thus should be properly dealt with while on the other hand, the view that significant…show more content…
From this point of view, a deficit is thusly the point where the value of imports exceeds that of exports, in other words, the country is importing more than exporting. Another definition of the current account balance indicates that it is the “difference between the national (both public and private) savings and investment” (Ghosh and Ramakrishnan, 2006). Hence, it can be inferred that a deficit takes place when there is a higher level of investment compared to the level of savings in the state. In particular, this type of behaviour is apparent in countries which enjoy increasing GDP growth rate, leading to the boom in consumption power. The third viewpoint concerns with intertemporal trade, or to put it simply, “the exchange of goods today for goods tomorrow” (Corden, 2007). In this case, a country would be buying goods today (running a deficit) and selling goods in the future (running a surplus) through financial claims such as bonds, equities and so on. Current account deficit – Is it persistent? There have been implicit as well as explicit arguments about the persistence of the current account deficits, some of which have agreed that it is just a temporary phenomenon and cannot be sustained whilst others evidently illustrated that it could be sustainably maintained at a level which is consistent with that of solvency (Milesi-Ferretti and Razin, 1996 cited in Edwards, 2001). For the latter, US is exemplary model of how
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