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An Equilibrium Model of 'Global Imbalances' and Low Interest Rates

  • Caballero, Ricardo
  • Farhi, Emmanuel
  • Gourinchas, Pierre-Olivier

Three of the most important recent facts in global macroeconomics - the sustained rise in the US current account deficit, the stubborn decline in long run real rates, and the rise in the share of US assets in global portfolio - appear as anomalies from the perspective of conventional wisdom and models. Instead, in this paper we provide a model that rationalizes these facts as an equilibrium outcome of two observed forces: a) potential growth differentials among different regions of the world and, b) hetero- geneity in these regions’ capacity to generate financial assets from real investments. In extensions of the basic model, we also generate exchange rate and FDI excess returns which are broadly consistent with the recent trends in these variables. Unlike the conventional wisdom, in the absence of a large change in (a) or (b), our model does not augur any catastrophic event. More generally, the framework is flexible enough to shed light on a range of scenarios in a global equilibrium environment.

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Paper provided by C.E.P.R. Discussion Papers in its series CEPR Discussion Papers with number 5573.

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Date of creation: Mar 2006
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Handle: RePEc:cpr:ceprdp:5573
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  1. Chinn, Menzie David & Frankel, Jeffrey A., 2006. "Will the Euro Eventually Surpass the Dollar As Leading International Reserve Currency?," Santa Cruz Center for International Economics, Working Paper Series qt4hz4n9pb, Center for International Economics, UC Santa Cruz.
  2. Shang-Jin Wei & Jiandong Ju, 2006. "A Solution to Two Paradoxes of International Capital Flow," IMF Working Papers 06/178, International Monetary Fund.
  3. Pierre-Olivier Gourinchas & Hélène Rey, 2005. "From World Banker to World Venture Capitalist: US External Adjustment and the Exorbitant Privilege," NBER Working Papers 11563, National Bureau of Economic Research, Inc.
  4. Christian Broda & David Weinstein, 2004. "Globalization and the gains from variety," Staff Reports 180, Federal Reserve Bank of New York.
  5. Caballero, Ricardo & Farhi, Emmanuel & Gourinchas, Pierre-Olivier, 2006. "An Equilibrium Model of 'Global Imbalances' and Low Interest Rates," CEPR Discussion Papers 5573, C.E.P.R. Discussion Papers.
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  7. Richard N. Cooper, 2005. "Living with Global Imbalances: A Contrarian View," Policy Briefs PB05-03, Peterson Institute for International Economics.
  8. Olivier Blanchard & Francesco Giavazzi & Filipa Sa, 2005. "The U.S. Current Account and the Dollar," NBER Working Papers 11137, National Bureau of Economic Research, Inc.
  9. Philip R. Lane & Gian Maria Milesi-Ferretti, 2007. "A Global Perspective on External Positions," NBER Chapters, in: G7 Current Account Imbalances: Sustainability and Adjustment, pages 67-102 National Bureau of Economic Research, Inc.
  10. Frankel, Jeffrey & Cavallo, Eduardo, 2004. "Does Openness to Trade Make Countries More Vulnerable to Sudden Stops, or Less? Using Gravity to Establish Causality," Working Paper Series rwp04-038, Harvard University, John F. Kennedy School of Government.
  11. William R. Cline, 2005. "United States as a Debtor Nation, The," Peterson Institute Press: All Books, Peterson Institute for International Economics, number 3993, December.
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  13. Kenneth Rogoff & William Brainard & George Perry, . "Global Current Account Imbalances and Exchange Rate Adjustments," Working Paper 33687, Harvard University OpenScholar.
  14. Caballero, Ricardo J. & Krishnamurthy, Arvind, 2006. "Bubbles and capital flow volatility: Causes and risk management," Journal of Monetary Economics, Elsevier, vol. 53(1), pages 35-53, January.
  15. Richard H. Clarida, 2007. "G7 Current Account Imbalances: Sustainability and Adjustment," NBER Books, National Bureau of Economic Research, Inc, number clar06-2, August.
  16. Soyoung Kim & Nouriel Roubini, 2004. "Twin Deficit or Twin Divergence? Fiscal Policy, Current Account, and Real Exchange Rate in the US," Econometric Society 2004 North American Winter Meetings 271, Econometric Society.
  17. Ju, Jiandong & Wei, Shang-Jin, 2006. "A Solution to Two Paradoxes of International Capital Flows," CEPR Discussion Papers 5981, C.E.P.R. Discussion Papers.
  18. Enrique G. Mendoza, 2007. "Financial Integration, Financial Deepness and Global Imbalance," 2007 Meeting Papers 746, Society for Economic Dynamics.
  19. Menzie D. Chinn & Hiro Ito, 2005. "Current Account Balances, Financial Development and Institutions: Assaying the World "Savings Glut"," NBER Working Papers 11761, National Bureau of Economic Research, Inc.
  20. Ricardo Caballero & Emmanuel Farhi & Mohamad L. Hammour, 2004. "Speculative Growth: Hints from the US Economy," NBER Working Papers 10518, National Bureau of Economic Research, Inc.
  21. Sebastian Edwards, 2005. "Is the U.S. Current Account Deficit Sustainable? And If Not, How Costly is Adjustment Likely To Be?," NBER Working Papers 11541, National Bureau of Economic Research, Inc.
  22. Martin Feldstein, 2005. "Monetary Policy in a Changing International Environment: The Role of Global Capital Flows," NBER Working Papers 11856, National Bureau of Economic Research, Inc.
  23. Michael P. Dooley & David Folkerts-Landau & Peter Garber, 2003. "An Essay on the Revived Bretton Woods System," NBER Working Papers 9971, National Bureau of Economic Research, Inc.
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  25. 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.).
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