Is the U.S. Current Account Deficit Sustainable? Will It Be Sustained?

It is estimated that in 2001 the U.S. current account deficit will reach $450 billion, or 4.4 percent of GDP, up from 3.6 percent in 1999.¹ Current account balance was last achieved in 1991 (1981 if Gulf War-related special receipts are excluded for 1991). One has to go back to the two decades before 1914, a period of mass immigration and extensive infrastructure construction, to find deficits even approximately as large, relative to GDP, as those of recent years.² The United States is reckoned, by global standards, to be a country relatively rich in capital. Why, then, is it importing more capital than ever before? Are deficits on this scale sustainable? Are they likely to be sustained?

The Size and Significance of the Current Account Deficit

It is useful to put the U.S. deficit into its global context; foreign trade, after all, is with other countries. In 1999 (the latest year for which worldwide data are available) the U.S. deficit, at $331 billion, dwarfed all others. Brazil was the runner-up with $25 billion; Poland and Argentina each had deficits of $12 billion. Japan had the largest surplus at $107 billion (2.5 percent of its GDP), followed by Russia and the Republic of Korea-both still reeling from financial crises-with roughly $25 billion each (13.7 percent and 6.0 percent of GDP, respectively) and China with $16 billion (1.6 percent). Among these countries, Poland, Brazil, and Argentina had larger deficits than the United States relative to GDP, at 8.0 percent, 4.7 percent, and 4.3 percent, respectively. But some of the largest current account imbalances relative to GDP were recorded by smaller countries, including outsize surpluses in Singapore (25 percent), Kuwait (17 percent), and Norway (4 percent), and deficits in Côte d'Ivoire (3 percent) and Israel (2 percent).

But globally the numbers do not add up. In principle, the world should be in current account balance every period; in fact, the records show a deficit of $130 billion for 1999, suggesting substantial underrecording of receipts.³ But where? Given its size in the world economy, it would be surprising if the United States were not receiving a substantial amount, net, of these unrecorded receipts. Thus the recorded deficit is undoubtedly exaggerated, perhaps by tens of billions of dollars. Even this correction, however, would still leave a U.S. deficit that is large by twentieth-century standards, and a dominating feature of the world economy in recent years, lending support to the claim that Americans are the world's consumers of last resort.

It is often suggested that the large current account deficit poses a serious financing problem for the United States. Each year, the lament goes, the United States must attract net inflows of capital sufficient to "cover" the huge current shortfall. But this proposition gets the logic backward: the U.S. deficit is "financed" by net capital inflows only in an ex post accounting sense. In economic terms it is more nearly correct to say that net capital inflows cause the current account deficit.

The currencies of most major U.S. trading partners-the Canadian dollar, the yen, the pound sterling, the deutsche mark (or the euro since 1999)-have been floating against the U.S. dollar since the early 1970s. Foreign trade in goods and services is determined by many factors, among them exchange rates. Exchange rates in turn are determined by, among other things, the net purchases of financial and other assets denominated in each currency. Net purchases of dollar-denominated assets (which need not be domiciled in the United States) will, ceteris paribus, push up the value of the dollar relative to the currency being exchanged for dollars to purchase those assets.

The United States has no controls of any consequence on the inflow or outflow of capital-on purchases of foreign assets by Americans, or of American assets by non-Americans. The basic story of the past two decades is that, on balance, foreigners have wanted to buy...