Saturday, March 17, 2007

The U.S. current-account deficit is the broadest measure of America’s activity in international trade and global finance. It totaled $857 billion last year, the Commerce Department reported last week. For the fifth year in a row, the nation’s current-account deficit set a record.

As is customary, last year’s trade deficit in goods and services ($765 billion) accounted for about 90 percent of the 2006 current-account deficit. The rest of that deficit came from two sources. The first source was net unilateral transfers, which totaled $84 billion. These transfers included U.S. government grants ($21 billion) and remittances from workers in the United States to their families abroad ($55 billion).

The second source is the balance on income (mostly investment income), which totaled $7 billion. Notwithstanding its relatively small size, the $7 billion deficit on income represents a major development that cannot be underestimated. It was the first year in modern times that U.S. income payments (e.g., dividends and interest) to foreigners on their assets in the United States exceeded income receipts on U.S.-owned assets abroad. As recently as 2003, the income balance was a positive $37 billion. Now it is negative. One contributing factor to this pivotal development relates to the fact that foreigners now own more than half ($2.2 trillion) of the U.S. government’s publicly held debt that is not owned by the Federal Reserve ($4.1 trillion).

Last year’s current-account deficit totaled 6.5 percent of gross domestic product (GDP). That is more than 50 percent higher than its share of GDP in 2000 (4.2 percent), the peak of the previous business cycle. In 1996, which, like last year, also represented the fifth full year of a business expansion, the current-account deficit was 1.6 percent of GDP. Thus, last year’s deficit was more than four times the size of the deficit recorded at a comparable stage during the previous business cycle. Nevertheless, several analysts expressed relief over the possibility that America’s soaring current-account deficit may have finally plateaued. That remains to be seen.

As Federal Reserve Chairman Ben Bernanke testified last year before Congress: “The immediate implication [of the nation’s soaring current-account deficit] is that the U.S. economy is consuming more than it’s producing, and the difference is being made up by imports from abroad, which in turn is being financed by borrowing from abroad.” In a 2004 analysis of the deterioration of the U.S. current-account balance since 1991, when the nation recorded its last current-account surplus ($3 billion), the Congressional Budget Office explained the situation this way: “When [U.S.] spending exceeds [U.S.] income, the nation has purchased more than its residents have produced; the difference was purchased from foreigners, and the [U.S.] current-account balance is in deficit. Consequently, the fall in the current-account balance since 1991 reflects the fact that U.S. residents collectively spent increasingly more than their income.”

Just how much more have Americans spent than they have produced during the past 15 years? The astonishing numbers deserve their own roll call. Measured in dollars and as a percent of GDP, the U.S. current-account deficit has progressively deteriorated as follows: 1992 ($50 billion, 0.8 percent of GDP); 1993 ($85 billion, 1.3 percent); 1994 ($122 billion, 1.7 percent); 1995 ($114 billion, 1.5 percent); 1996 ($125 billion, 1.6 percent); 1997 ($140 billion, 1.7 percent); 1998 ($214 billion, 2.4 percent); 1999 ($300 billion, 3.2 percent); 2000 ($415 billion, 4.2 percent); 2001 ($389 billion, 3.8 percent); 2002 ($472 billion, 4.5 percent); 2003 ($528 billion, 4.8 percent); 2004 ($665 billion, 5.7 percent); 2005 ($792 billion, 6.4 percent); 2006 ($857 billion, 6.5 percent). Last year’s current-account deficit meant that Americans effectively borrowed $3.3 billion every single working day to fund the gap between their spending and their income.

The accumulation of ever larger current-account deficits over the past quarter century has played an indispensable role in transforming the United States from the world’s largest creditor nation into the planet’s biggest debtor nation. Specifically, in 1982, America’s net international investment position was a positive $236 billion (with direct investment measured at market value). That meant that foreigners owed us nearly a quarter of a trillion dollars more than we owed them. Thus, when the international debt crisis erupted in 1982 (remember Mexico, Brazil, Argentina and Eastern Europe?), the United States was far and away the world’s largest creditor nation. At the end of 2005 (the latest year for which data are available), the net international investment position of the United States was a negative $2.55 trillion.

In other words, we owed foreigners more than $2.5 trillion than they owed us. Since 1994 alone, America’s net international investment position has deteriorated by more than $2.4 trillion.

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