How to Calculate and Countries With It, Balance of Trade (BOT): Definition, Calculation, and Examples, What Is a Surplus? Why is balance of payments deficit a problem? This content has been prepared by Nomura solely for information purposes, and is not an offer to buy or sell or provide (as the case may be) or a solicitation of an offer to buy or sell or enter into any agreement with respect to any security, product, service (including but not limited to investment advisory services) or investment. Indeed, the standard economics calculation for gross domestic product (GDP) initially suggests that any current account deficit reduces GDP, making the U.S. poorer. How do current account surpluses affect net assets? Common sense suggests that if a country fritters away its borrowed foreign funds on spending that yields no long-term productive gains, then its ability to repayits basic solvencymight come into question. Capital flows can rapidly reverse as foreign lenders abruptly start withdrawing their money. On the surface, this appears to be a net loss for the U.S. Americans buy foreign goods with American dollars, which are then transferred to foreign account holders. Lets start with my point: the current account balance is neither good nor bad. When countries run large deficits, businesses, trade unions, and parliamentarians are often quick to point accusing fingers at trading partners and make charges about unfair practices. "We think the current account surplus will sustain at least for this fiscal year. Greater demand for domestic goods helps domestic employment. Likewise, an overall BOP surplus can be absorbed by adding to the central banks reserve holdings. A current account surplus is a positive current account balance, indicating that a nation is a net lender to the rest of the world. Turkeys persistent deficits were a sign of the countrys reliance on foreign borrowing to fuel its domestic consumption boom under the Erdoan regime, which came unstuck as the West called time on quantitative easing and started raising interest rates. (D) A country experiencing a current account surplus will see its currency depreciate. Therefore, there is always a risk, that investors will remove their investments causing a big fall in the value of your currency (devaluation). Still, some people persist in seeing only the bad in deficits. Please send your letters to fanddletters@imf.org, Receive emails when we post new Read more. But even if the country is intertemporally solventmeaning that current liabilities will be covered by future revenuesits current account deficit may become unsustainable if it is unable to secure the necessary financing. This means they are gaining foreign currency they can use to buy foreign assets such as government bonds and invest in foreign factories. Whenever the dollar value of tangible consumer goods purchased by the United States from foreign nations, such as cars from Sweden or electronics from Japan, exceeds the dollar value of tangible consumer goods sold to foreign nations, the current account shows a deficit. But we can also think of intertemporal tradeimporting goods today (running a current account deficit) and, in return, exporting goods in the future (running a current account surplus then). A surplus indicates a country has a very high domestic saving level, which is more than it can invest domestically. A balance of payments surplus means the country exports more than it imports. Trade deficits are the difference between how much a country imports and how much it exports. (Okay, Ill clarify. Measuring the current account There are several points at issueincluding what a current account deficit or surplus really means and the many ways that a current account balance is measured. Tension between the United States and China about which country is primarily responsible for the trade imbalance between the two has thrown the spotlight on the broader consequences for the international financial system when some countries run large and persistent current account deficits and others accumulate big surpluses. Take the US and Australia, whose current accounts as a percentage of GDP since 1980 are in the chart below. Net Exports and International Finance Another way to see this is on the flip side of the cur-rent account, which is called the capital account. A countrys current account balance, whether positive or negative, will be equal but opposite to its capital account balance. I would argue that these are accounting identities, but nevertheless, people will still claim that running a current account surplus is good for growth. We use cookies. But is this necessarily bad? Ironically, while large current account surpluses have insulated Northeast Asia from the EM turmoil, they are mostly bad types and not a positive sign in terms of long-run growth potential. Its a different perspective. Atish Ghosh is an Assistant Director in the IMFs Research Department and Uma Ramakrishnan is a Deputy Division Chief in the IMFs Strategy, Policy, and Review Department. Something similar is evident in the foreign exchange reserves. Letters may be edited. Answer: A country can run an overall BOP deficit or surplus by engaging in the official reserve transactions. It has been in surplus for nine . Sajjid Chinoy, Chief India Economist at JPMorgan, Samiran Chakraborty, Chief Economist India at Citi and Ananth Narayan, professor of Finance at SP Jain Institute of Management and Research (SPJIMR) discussed in detail. India posted a current account surplus in the April, May and June quarter. The last time India's current account turned positive was in the March quarter of 2006-07. A common complaint about economics is that the answer to any question is, It all depends. It is true that economic theory tells us that whether a deficit is good or bad depends on the factors giving rise to that deficit, but economic theory also tells us what to look for in assessing the desirability of a deficit. Current account surpluses refer to positive current account balances, meaning that a country has more exports than imports of goods and services. What are the effects of balance of payment deficit? The Europeans did not have any goods or commodities which China desired, so they traded silver to make up for their trade deficit. A current account surplus means that the current account has a positive balance of payments. The current account measures a country's imports and exports of goods and services over a defined period of time, in addition to earnings from cross-border investments and transfer payments. This could boost domestic savings and allow more projects to be funded domestically WITHOUT the need for foreign borrowing. A current account surplus means an economy is exporting a greater value of goods and services than it is importing. (See also, Balance of Payments.) Current account surplus shocks emanating from the People's Republic of China, Japan, and Germany have strong positive effects on regional growth. (A) A countrys current account deficit has to be financed by both purchases and sales of assets. The worlds biggest surplus countries in recent years have been China, Germany and Japan. Its one reason why the business press focuses on the current account as one of the key measures of a countrys macroeconomic performance. The current account balance seems to be an abstruse economic concept. Is a current account surplus good or bad? September 2018, Economics | 2 min read With a surplus in its BoP, a country can also lend funds outside its borders. The government can control how much it borrows from overseas, but it cannot control how much private companies borrow from overseas (this affects the size of capital inflows and then the net primary income balance as a result). Why is a current account surplus equivalent to foreign investment? Therefore, whether a country should run a current account deficit (borrow more) depends on the extent of its foreign liabilities (its external debt) and on whether the borrowing will finance investment with a higher marginal product than the interest rate (or rate of return) the country has to pay on its foreign liabilities. Read about the reasons for surplus and its economic impact. These economies are struggling with domestic structural headwinds, ranging from rapidly ageing populations, high sensitivity to rate hikes, to low productivity growth. A current account surplus is, generally speaking, a good thing for a country, though it can put upward pressure on its currency. The top U.S. import commodities from China are fruits and vegetables (fresh/processed), snack food, spices, and tea the combined which accounts for nearly one-half of the total U.S. agricultural imports from China. A current account surplus increases a nations net assets by the amount of the surplus. The advanced economies, such as the United States (see chart), run current account deficits, whereas developing countries and emerging market economies often run surpluses or near surpluses. Weak domestic consumption. Admired for its stability but derided for persistent trade surpluses, the good and bad in Germany's economic model are strongly linked. Why China Buys U.S. Debt With Treasury Bonds, How US Interest Rates Move the World Economy, National Debt: Definition, Impact, Key Drivers, Current U.S. Debt, Republican and Democratic Approaches to Regulating the Economy. Therefore, the country invests additional funds abroad. Normalizing the data, by dividing the budget balance by GDP, enables easy comparisons across countries and indicates whether a national government saves or borrows money. This year will be a current account surplus, I think it will be closer to 2 percent of the GDP, said Narayan. Because the trade balance generally has the largest impact on the current account balance, nations with large and consistent current account surpluses tend to be exporters of manufactured products or energy. nomuranow.com, Global Head Office Nomura Holdings, Inc. 1-13-1 Nihonbashi, Chuo-ku, Tokyo 103-8645, Japan Tel 81 (0)3-5255-1000, Copyright 2023 Nomura Holdings, Inc. All rights reserved. What is a Current Account Surplus. Current vs. Capital Accounts: What's the Difference? What is the meaning of surplus balance of trade? Without knowing which of these is at play, it makes little sense to talk of a deficit being good or bad. Deficits reflect underlying economic trends, which may be desirable or undesirable for a country at a particular point in time. For instance, if a country is struck by a shockperhaps a natural disasterthat temporarily depresses its ability to access productive capacity, rather than take the full brunt of the shock immediately, the country can spread out the pain over time by running a current account deficit. 2023 Asian Development Bank Institute. If the trade balance is improving, Australia is selling more exports which is increasing GDP and the governments revenue. | A surplus on the current account component of the Balance of payments indicates that the country is exporting more goods and services than importing. a country with a current account surplus will have surplus foreign exchange it can use to invest in other countries. 11 What did China have that Europe wanted? What was the main reason for the conflict between Great Britain and China? Current account surpluses refer to positive current account balances, meaning that a country has more exports than imports of goods and services. Weak domestic consumption. A deficit in the balance of payments leads to a higher demand for foreign currency to the detriment of national currency which would depreciate in this situation. They wanted to trade directly with Africa and Asia, but this meant that they had to find a new sea route. This is for the first time in seventeen years that India has posted a current account surplus. A current account surplus is a positive current account balance, indicatingthat a nation is a net lender to the rest of the world. They are also open economies, highly dependent on exports and, therefore, very exposed to the rising risk of an export slump, because of worsening trade protectionism, slowing growth in China and the global electronics cycle turning down. A current account surplus is partly due to high exports, but the other side of the equation is imports and domestic demand. Does it matter how long a country runs a current account deficit? If the trade balance is improving, Australians may be purchasing fewer imports. The current account balance is primarily the difference between a country's total exports and imports of goods and services, usually measured as a share of GDP. 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