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United States current account deficits: A stochastic optimal control analysis

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  • Stein, Jerome L.

Abstract

The "Pessimists" and the "Optimists" disagree whether the US external deficits and the associated buildup of US net foreign liabilities are problems that require urgent attention. A warning signal should be that the debt ratio deviates significantly from the optimal ratio. The optimal debt ratio or debt burden should take into account the vulnerability of consumption to shocks from the productivity of capital, the interest rate and exchange rate. The optimal debt ratio is derived from inter-temporal optimization using Dynamic Programming, because the shocks are unpredictable, and it is essential to have a feedback control mechanism. The optimal ratio depends upon the risk adjusted net return and risk aversion both at home and abroad. On the basis of alternative estimates, we conclude that the Pessimists' fears are justified on the basis of trends. The trend of the actual debt ratio is higher than that of the optimal ratio. The Optimists are correct that the current debt ratio is not a menace, because the current level of the debt ratio is not above the corresponding level of the optimum ratio.
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  • Stein, Jerome L., 2007. "United States current account deficits: A stochastic optimal control analysis," Journal of Banking & Finance, Elsevier, vol. 31(5), pages 1321-1350, May.
    • Handle: RePEc:eee:jbfina:v:31:y:2007:i:5:p:1321-1350
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    1. Stein, Jerome L., 2006. "Stochastic Optimal Control, International Finance, and Debt Crises," OUP Catalogue, Oxford University Press, number 9780199280575, Decembrie.
    2. Eckhard Platen, 2005. "On The Role Of The Growth Optimal Portfolio In Finance," Australian Economic Papers, Wiley Blackwell, vol. 44(4), pages 365-388, December.
    3. repec:fip:fedgsq:y:2005:i:mar10 is not listed on IDEAS
    4. Fleming, Wendell H. & Stein, Jerome L., 2004. "Stochastic optimal control, international finance and debt," Journal of Banking & Finance, Elsevier, vol. 28(5), pages 979-996, May.
    5. Michael Mussa, 2002. "Argentina and the Fund: From Triumph to Tragedy," Peterson Institute Press: Policy Analyses in International Economics, Peterson Institute for International Economics, number pa67, February.
    6. Jerome L. Stein, 2005. "Optimal Debt And Endogenous Growth In Models Of International Finance," Australian Economic Papers, Wiley Blackwell, vol. 44(4), pages 389-413, December.
    7. Richard N. Cooper, 2005. "Living with Global Imbalances: A Contrarian View," Policy Briefs PB05-03, Peterson Institute for International Economics.
    8. Wendell H. Fleming, 2005. "Optimal Investment Models With Minimum Consumption Criteria," Australian Economic Papers, Wiley Blackwell, vol. 44(4), pages 307-321, December.
    9. Catherine L. Mann, 1999. "Is the U.S. Trade Deficit Sustainable?," Peterson Institute Press: All Books, Peterson Institute for International Economics, number 47, October.
    10. C. Fred Bergsten & John Williamson (ed.), 2004. "Dollar Adjustment: How Far? Against What?," Peterson Institute Press: All Books, Peterson Institute for International Economics, number sr17, October.
    11. Ben S. Bernanke, 2005. "The global saving glut and the U.S. current account deficit," Speech 77, Board of Governors of the Federal Reserve System (U.S.).
    12. Edwin M. Truman, 2005. "Postponing Global Adjustment: An Analysis of the Pending Adjustment of Global Imbalances," Working Paper Series WP05-6, Peterson Institute for International Economics.
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    Cited by:

    1. Yener, Haluk & Soybilgen, Barış & Stengos, Thanasis, 2020. "A general model for financial crises: An application to eurozone crisis," International Review of Economics & Finance, Elsevier, vol. 70(C), pages 202-229.
    2. Abutaleb, Ahmed S. & Hamad, Marwa G., 2012. "Optimal foreign debt for Egypt: A stochastic control approach," Economic Modelling, Elsevier, vol. 29(3), pages 544-556.
    3. Stein, Jerome L., 2010. "A tale of two debt crises: a stochastic optimal control analysis," Economics - The Open-Access, Open-Assessment E-Journal (2007-2020), Kiel Institute for the World Economy (IfW Kiel), vol. 4, pages 1-24.
    4. Haluk Yener & Thanasis Stengos & M. Ege Yazgan, 2017. "Analysis of the seeds of the debt crisis in Europe," The European Journal of Finance, Taylor & Francis Journals, vol. 23(15), pages 1589-1610, December.
    5. Haluk Yener & Thanasis Stengos & M. Ege Yazgan, 2015. "Survival Maximizing Leverage of an Economy: The Case of Greece," Working Papers 1503, University of Guelph, Department of Economics and Finance.
    6. Hiraguchi, Ryoji, 2009. "Non-concavity problems in the dynamic macroeconomic models: A note," Journal of Banking & Finance, Elsevier, vol. 33(3), pages 568-572, March.
    7. Robert Feicht & Wolfgang Stummer, 2010. "Complete Closed-form Solution to a Stochastic Growth Model and Corresponding Speed of Economic Recovery preliminary," DEGIT Conference Papers c015_041, DEGIT, Dynamics, Economic Growth, and International Trade.
    8. Juan Carlos Cuestas, 2012. "A Note on the Current Account Sustainability of European Transition Economies," Working Papers 2012011, The University of Sheffield, Department of Economics.

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