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Current account deficits during heightened risk: menacing or mitigating?

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  • Forbes, Kristin

    (Monetary Policy Committee Unit, Bank of England)

  • Hjortsoe, Ida

    (Monetary Policy Committee Unit, Bank of England)

  • Nenova, Tsvetelina

    (Monetary Policy Committee Unit, Bank of England)

Abstract

Large current account deficits, and the corresponding reliance on capital flows from abroad, can increase a country’s vulnerability to periods of heightened risk and uncertainty. This paper develops a framework to evaluate such vulnerabilities. It highlights the central importance of two financial factors: income on international investments and changes in the valuations of those investments. We show how the characteristics of a country’s international investment portfolio — the size of its international asset and liability holdings, their currency denominations, their split between equity and debt exposures, and their return characteristics — affect the dynamics of these financial factors. Then we decompose those dynamics into their drivers and explore how they are affected by domestic and global risk. We apply this framework to ten OECD economies, showing the flexibility of this approach and how the countries’ different international investment portfolios generate different dynamics in international investment income and positions. These examples, including a more detailed assessment based on an SVAR for the United Kingdom, show that a substantial degree of international risk sharing can occur through current accounts and international portfolios. Our framework clarifies which characteristics of a country’s international portfolio determine whether a current account deficit is ‘menacing’ or ‘mitigating’.

Suggested Citation

  • Forbes, Kristin & Hjortsoe, Ida & Nenova, Tsvetelina, 2016. "Current account deficits during heightened risk: menacing or mitigating?," Discussion Papers 46, Monetary Policy Committee Unit, Bank of England.
  • Handle: RePEc:mpc:wpaper:0046
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    2. Stephanie Guichard, 2017. "10 Years after the Global Financial Crisis: What Have We Learnt About International Capital Flows?," Journal of International Commerce, Economics and Policy (JICEP), World Scientific Publishing Co. Pte. Ltd., vol. 8(03), pages 1-30, October.
    3. Zélity, Balázs, 2022. "The welfare effects of FDI: A quantitative analysis," Journal of Comparative Economics, Elsevier, vol. 50(1), pages 293-320.
    4. Devadas,Sharmila & Loayza,Norman V., 2018. "When is a Current Account Deficit Bad?," Research and Policy Briefs 130415, The World Bank.
    5. Pierre-Olivier Gourinchas & Galina Hale, 2017. "Brexit: Whither the Pound?," FRBSF Economic Letter, Federal Reserve Bank of San Francisco.
    6. Joseph P. Joyce, 2021. "The sources of international investment income in emerging market economies," Review of International Economics, Wiley Blackwell, vol. 29(3), pages 606-625, August.
    7. Vincent Vicard, 2019. "The Exorbitant Privilege of High Tax Countries," Working Papers 2019-06, CEPII research center.
    8. Hale, Galina B & Juvenal, Luciana, 2020. "Currency-Induced External Balance Sheet Effects at the Onset of the COVID-19 Crisis," CEPR Discussion Papers 15170, C.E.P.R. Discussion Papers.
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    10. Valerio Della Corte & Stefano Federico & Enrico Tosti, 2018. "Unwinding external stock imbalances? The case of Italy�s net international investment position," Questioni di Economia e Finanza (Occasional Papers) 446, Bank of Italy, Economic Research and International Relations Area.
    11. Camarero, Mariam & Peiró-Palomino, Jesús & Tamarit, Cecilio, 2019. "Growth in a time of external imbalances," Economic Modelling, Elsevier, vol. 79(C), pages 262-275.
    12. Antoine Berthou & Matthieu Bussière & Laurent Ferrara & Sophie Haincourt & Francesco Pappadà & Julia Schmidt, 2018. "Global imbalances: build-up, unwinding and financial aspects," Quarterly selection of articles - Bulletin de la Banque de France, Banque de France, issue 220, pages 1-12, November-.
    13. Maxime Leboeuf & Chen Fan, 2017. "Can the Canadian International Investment Position Stabilize a Slowing Economy?," Staff Analytical Notes 17-14, Bank of Canada.
    14. Bergant, Katharina, 2021. "The role of stock-flow adjustment during the global financial crisis," Journal of International Money and Finance, Elsevier, vol. 110(C).
    15. Stefan Avdjiev & Mary Everett & Philip R Lane & Hyun Song Shin, 2018. "Tracking the international footprints of global firms," BIS Quarterly Review, Bank for International Settlements, March.
    16. Galina Hale & Luciana Juvenal, 2021. "External Balance Sheets and the COVID-19 Crisis," NBER Working Papers 29277, National Bureau of Economic Research, Inc.
    17. Inagaki, Kazuyuki, 2021. "How are the international capital flows of rapidly aging countries affected by the elderly working longer?," Economic Modelling, Elsevier, vol. 97(C), pages 285-297.
    18. Enrique Alberola & Ángel Estrada & Francesca Viani, 2017. "Global imbalances from a stock perspective," Working Papers 1742, Banco de España.
    19. Joyce, Joseph, 2022. "The Impact of FDI Income on Income Inequality in Home Countries," MPRA Paper 114564, University Library of Munich, Germany.
    20. Joyce, Joseph, 2021. "The International Distribution of FDI Income And Its Impact on Income Inequality," MPRA Paper 106448, University Library of Munich, Germany.

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    More about this item

    Keywords

    Current account; risk; international investment income; valuation effects;
    All these keywords.

    JEL classification:

    • F21 - International Economics - - International Factor Movements and International Business - - - International Investment; Long-Term Capital Movements
    • F32 - International Economics - - International Finance - - - Current Account Adjustment; Short-term Capital Movements
    • F36 - International Economics - - International Finance - - - Financial Aspects of Economic Integration
    • F42 - International Economics - - Macroeconomic Aspects of International Trade and Finance - - - International Policy Coordination and Transmission

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