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Chapter 29: Problem 9

(Related to Solved Problem 29.1 on page 1034 ) An editorial in the Wall Street Journal in 2017 made the following observation: "When the U.S. has a current- account deficit it has to have a capital-account surplus of the same amount." Briefly explain whether you agree with this observation.

Short Answer

Expert verified
Yes, the statement is accurate. When a country has a current-account deficit, it generally indicates that the country is spending more than it is earning. To balance this, it would need to have a capital-account surplus, thereby attracting foreign capital to fund the deficit. So the two accounts should theoretically balance to zero.

Step by step solution

01

Understand the Current Account

The current account of a country's balance of payments includes transactions in goods, services, income, and current transfers between residents and non-residents. When a country has a current-account deficit, it means that the country is importing more goods, services, and capital than it is exporting.
02

Understand the Capital Account

The capital account, on the other hand, includes all transactions that involve financial assets and liabilities, and that take place between residents and non-residents. When the account has a surplus, it means the country is gaining more capital from non-residents for a total value higher than it is sending capital abroad.
03

Relate the Two Accounts

When a country has a current-account deficit, it is essentially spending more resources than it is gaining. To fund this deficit, it will need to have an inflow of foreign capital, i.e., a capital-account surplus. This relationship is referred to as the balance of payments: the sum of the current and capital accounts should theoretically be zero.\[Current Account + Capital Account = 0\] Hence, if a country has a current-account deficit, it should generally have a capital-account surplus of the same amount to balance it out.

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Most popular questions from this chapter

In 2016, domestic investment in Japan was 23.4 percent of GDP, and Japanese national saving was 27.2 percent of GDP. What percentage of GDP was Japanese net foreign investment?

An article in the Wall Street Journal stated, "The trade outlook in the U.S. has improved slightly overall this year. One big factor behind the smaller gap: Stronger growth in Asia and Europe." a. How would stronger growth in Asia and Europe lead to a smaller trade gap? b. The article noted that there was a decline in imports early in the year and that "economic growth [in the United States] remained sluggish overall in the first three months of the year." Is there a connection between a decline in imports and sluggish economic growth? Briefly explain.

What happens to national saving when the government runs a budget surplus? What is the twin deficits idea? Did it hold for the United States in the 1990 s? Briefly explain.

Writing in the New York Times, Simon Johnson, an economist at MIT, made the argument that people outside the United States may at some point decide to "save less (in which case they may hold onto their existing United States government debt but not want to buy so much of new issues)." What does saving by people outside the United States have to do with sales of U.S. government debt? Does the level of domestic investment occurring in foreign countries matter for your answer? Briefly explain.

The late economist Herbert Stein described the accounts that comprise a country's balance of payments: A country is more likely to have a deficit in its current account the higher its price level, the higher its gross [domestic] product, the higher its interest rates, the lower its barriers to imports, and the more attractive its investment opportunities - all compared with conditions in other countries-and the higher its exchange rate. The effects of a change in one of these factors on the current account balance cannot be predicted without considering the effect on the other causal factors. a. Briefly describe the transactions included in a country's current account. b. Briefly explain why, compared to other countries, a country is more likely to have a deficit in its current account, holding other factors constant, if it has each of the following. i. A higher price level ii. An increase in interest rates iii. Lower barriers to imports iv. More attractive investment opportunities
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