Current accounts in the euro area: an intertemporal approach

In recent years sizeable differences have been observed in the euro area countries’ current account balances. For instance, while this balance has worsened almost continuously since the late 90s in Greece, Portugal and Spain, it has improved significantly in Austria and in Germany. These differences may be explained, at least in part, as a natural consequence of the greater degree of integration of international markets and, in particular, of the creation of the euro area. Greater economic and financial integration is conducive to the flow of capital from relatively rich countries with scant growth potential towards relatively poorer countries undergoing real convergence. Accordingly, it gives rise to a greater dispersion of current account balances across countries. In fact, a country’s current account balance depends, according to intertemporal models, as much on expectations of future income (relative to that of its trading partners) as on the cost in real terms of lending or borrowing internationally (i.e. on the relative price of future consumption as opposed to current consumption). In order to smooth intertemporally their consumption, countries with high future income expectations (in relative terms) will borrow today and run current account deficits, while countries not expecting such high future income will lend today and have current account surpluses. Likewise, those countries expecting improvements in the relative price of future consumption will reduce their consumption today to increase their future capacity to consume and they will experience improvements in their current account balance. Nonetheless, in some countries foreign debt has reached historically high levels in recent years. Even bearing in mind the consequences of greater integration, this prompts some uncertainty about the means of correcting these imbalances and their macroeconomic impact. This article summarises a recent paper that estimates an intertemporal model for current accounts in the euro area over the past three decades. The paper sets out to analyse the extent to which a country’s current account fluctuations can be explained by smoothing consumption over time and, therefore, how they are affected by income, interest rate and exchange rate expectations. The rest of the article reports the changes in euro area current account balances against the background of the greater integration of international markets, describes the essential features of the intertemporal current account model and presents the main results obtained on estimating this model.