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Current Account Deficits During Heightened Risk: Menacing or Mitigating?

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  • Kristin Forbes
  • Ida Hjortsoe
  • Tsvetelina Nenova

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, and their return characteristics – affect the dynamics of these financial factors. Then we decompose those dynamics into their drivers, explore how they are affected by domestic and global risk shocks, and apply this framework to 10 OECD economies. These examples, including a more detailed assessment for the UK, show that a substantial degree of international risk sharing can occur through current accounts and international portfolios. Our flexible framework clarifies which characteristics of a country’s international portfolio determine whether a current account deficit is “menacing” or “mitigating”.

Suggested Citation

  • Kristin Forbes & Ida Hjortsoe & Tsvetelina Nenova, 2016. "Current Account Deficits During Heightened Risk: Menacing or Mitigating?," NBER Working Papers 22741, National Bureau of Economic Research, Inc.
  • Handle: RePEc:nbr:nberwo:22741
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    1. repec:wsi:jicepx:v:08:y:2017:i:03:n:s179399331750017x is not listed on IDEAS
    2. repec:fip:fedfel:00126 is not listed on IDEAS
    3. Enrique Alberola-Ila & Ángel Estrada & Francesca Viani, 2018. "Global imbalances from a stock perspective. The asymmetry between creditors and debtors," BIS Working Papers 707, Bank for International Settlements.
    4. repec:bis:bisqtr:1803f is not listed on IDEAS

    More about this item

    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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